Consumerization is widely credited as one of the seminal factors transforming the world of IT and forcing structural change on corporate IT departments. At the core of this consumerization is a fundamental change in expectations by the user community. Along with the average Joe becoming increasingly accustomed to downloading an app to a smart phone in seconds and receiving immediate gratification utilizing powerful, easy to use technology comes uncomfortable questions for corporate IT. “Why can’t you do this? If it only cost me $5 to get this from Apple, why does it cost me millions to get a much worse product months, if not years, later from you?”
Behind this new sense of entitlement is the growing reality that these new apps offer dramatically increased levels of automation, allowing for activities that were previously the providence of experts but are now self-service, giving the user far greater control. Even more profound is the complete reorientation of perspective as technology is developed and deployed from the consumers’ ease-of-use rallying cry, increasingly far away from delivery organizations’ focus on efficiency and corporate control.
These same secular forces that are creating a profound change in IT are also beginning to drive change in shared services organizations and how they address business processes. Think end-to-end processing for talent management and learning in HR, and purchase-to-pay and record-to-report to name in F&A. As with their IT counterparts, these processes are increasingly being automated and shifting toward a self-service delivery structure. This not only reduces costs but also places increased power in the hands of the user community.
Now those internal groups that deliver IT and business processes are facing a harsh reality. They are no longer dominated by stovepipe delivery organizations designed to capture the efficiency of specialization, centralization and labor arbitrage. Rather they are quickly turning into flatter organizations that are delivery-oriented around a user’s view of the process, with emphasis on the transparency of information flow, and process designs that prioritize ease of use over traditional corporate command and control.
As these changes rework the business process landscape, they portend coming shifts in how third parties will be utilized. It is likely we’ll see a reversal in the current trend that allows for increased provider control of processes, with firms increasingly choosing to design solutions that place control within the firm and wherever possible in the user community, thereby also reversing the current provider push for outcome-based pricing. And increased levels of automation may diminish the amount of labor arbitrage which is utilized.
All of this is best summed up by a client who recently told me, “I am no longer looking for a delivery vendor that provides high quality silent running. I am now looking for a transformational partner that will help me implement my new vision and then play a supporting role.”
Earlier this year, Everest Group conducted its annual study of high total contract value ITO deals to gain insight into how a variety of parameters correlates with deal activity. The study, which is part of our ITO Request for Information 2011 report, analyzed 467 ITO deals across 16 service providers (a combination of MNCs, Tier-1 offshore and Tier-2 offshore) against the following factors:
- Buyer revenue size
- Buyer geography
- Buyer industry
- Provider type
Within each of these parameters, we focused our assessment on scope, duration, size and pricing model of deals in application, development & maintenance (ADM), infrastructure outsourcing (IO), and those with a combination of ADM and IO.
Important findings from the study include:
- Insights on how buyers in different size groups determined the scope and pricing model of the deals they signed. For example:
- Large buyers (revenue > US$10 billion) showed a preference for outcome-based pricing models
- Large buyers took up a higher share of offshore providers’ RIMO offering compared to buyers in other size groups
- Parameters that define the maturity of engagements service providers have with their buyers. For example:
- Deal sizes, especially in the RIMO space, were back to pre-recession levels for both MNCs and offshore providers
- The declining trend in deal duration, across deal types and provider types, was arrested in 2010
Following are a couple of illustrative examples from the report. The one on the left displays a comparison of ADM deal size and duration between different types of service providers, and the one on the right depicts a trend analysis of RIMO deals that offshore providers have signed with buyers of different sizes.
Is the slowdown over for ITO?
The slowdown in the ITO industry lagged that of buyer industries such as financial services and manufacturing. While they displayed clear signs of negative economic impact in 2007-2008, service providers in the IT industry appeared stable because of contributions from multi-year engagements of the past. It was only later in 2009, because of the resulting squeeze in the IT budgets, that the actual effect on IT service providers’ numbers became visible. Indeed, when we published our RFI on ITO deals last year, the impact of the recession was starkly clear on almost all the parameters we evaluated.
So has the ITO industry recovered from the slowdown? To get a handle on this, we closely evaluated parameters such as deal size, duration, and scope. Having seen bigger and better engagements (larger deal sizes, longer duration and broader scope), it does appear that ITO is coming out of the slump. However, before these results can be termed reliable indicators of recovery, we will have to observe these parameters as trends over 2011.
For more information on Everest Group’s ITO Request for Information 2011 study, click here.
This past weekend Wipro announced it was adding employee attrition and customer satisfaction to the criteria upon which its senior management will be evaluated, and the metrics will be linked to quarterly compensation. This move clearly exposes that the employee satisfaction (and hence retention) and client satisfaction issues arising from Indian IT providers’ tremendous growth and their offshore-based business model are increasing and becoming more visible. (See a related blog by my colleague Jimit Arora) And with so much at stake, they must address the problems, and they must do it now.
Why the urgency? Several reasons, given the inextricable connection between client and customer satisfaction. First, the Indian IT providers’ model of hiring low cost resources and continuing to expand the bottom of their resource pyramid has its own challenges. While they have developed sufficient standardized processes and have very solid training programs to keep churning out “good enough” people to perform client work requiring technology competence, they cannot satisfactorily add critical business value through IT if they stick with hiring associates freshly graduated from college.
Second, constant hiring takes a toll on the system in terms of cost, process flows, and efficient collaboration. Third, because many providers cannot create a career growth path for such a large volume of experienced resources, they actually cause attrition in order to hire the requisite “fresh hands” staff.
Obviously, Wipro’s addition of employee satisfaction (attrition) and client satisfaction being linked to senior management compensation comes with its share of challenges. An employee’s experience in an organization depends on a wide range of parameters including compensation (industry driven), work quality (varies based on the client engagement), feelings toward team members (reasonably independent of the quality of the boss), growth opportunities, work environment, etc. Additionally, how will client satisfaction be measured, e.g., through surveys, general interaction, volume growth, pricing improvement, etc.? Moreover, how much impact does a senior executive have on the kind of people assigned to a given project, and what if an employee is assigned to a project that he/she simply does not want to work on?
Despite these challenges, there is a silver lining in that although these providers have disrupted the IT service market, they now realize their limitations and the need to retool their model and perform more “business value” work. Clearly this change will not happen overnight and will take consistent effort and strategic execution. But it can and must happen. However, we should not expect offshore providers to mimic the resourcing pyramid of MNCs even (and when) they provide business driven higher IT value. They have changed the game of IT service and they will surely attempt to do it again in higher business value services. As the low hanging client fruit is more or less taken, the next phase of growth in the cut-throat IT services market will be led by innovation and client satisfaction. And happy provider employees are the best path for these outcomes.
See related article on IT Business Edge, Outsourcing’s Shift from Arbitrage to Innovation.
Per our observations of the evolution of the service provider landscape before and after the recession, the single most important factor we have seen for creating differentiation in the IT applications outsourcing (AO) market is significant strengthening of vertical/domain expertise. And recognizing the need for “vertical-specificity” in the AO market, earlier this year we launched an annual research initiative focused on assessing market trends and service provider capabilities for AO in the banking, financial services, and insurance (BFSI) vertical.
One of the first results that emerged from this research initiative was the Everest Group PEAK Matrix for large banking AO contracts. In a research study released earlier this week, we analyzed the landscape of AO service providers specific to the banking sub-vertical. In a world in which everyone and their uncle delivers AO services to financial services clients, this report examines 22 service providers and establishes the Leaders, Major Contenders, and Emerging Players in the banking AO market.
As we congratulate the five Leaders (Accenture, Cognizant, IBM, Infosys, and TCS), and acknowledge the capabilities and achievements of the Major Contenders and Emerging Players, we also want to highlight three inter-related market themes that suggest the PEAK Matrix in 2012 for large banking AO relationships may look significantly different:
Buyer-driven portfolio consolidation: Most banks currently use a complex collection of service providers for their applications portfolio. Decentralized decision-making, global expansion, and large-scale M&A introduced further complexity into their portfolios. Rationalizing the portfolio creates a less complex sourcing environment, enables strategic partnerships with service providers, and also delivers meaningful financial benefit (our analysis indicates that the financial benefits of utilizing fewer service providers can be as much as 22-28 percent on an annualized basis). As more buyers join the portfolio consolidation bandwagon, the larger/more established service providers are winning at the expense of their smaller competitors.
The Matthew effect: Buyer-driven portfolio consolidation is giving rise to the Matthew effect which (in sociology) states that, “the rich get richer and the poor get poorer.” In the context of the banking AO landscape, the Matthew effect translates to “the big get bigger.” Banking AO buyers are placing disproportionate emphasis on domain expertise as a key decision-making criteria for selecting their service providers. Scale influences a company’s appetite to invest in developing vertical/micro-vertical-specific domain expertise, which in turn determines market success, which ultimately impacts growth and scale. This vicious circle of scale fueling scale is increasing the polarization in the marketplace, and could further widen the gap between the Leaders and the Major Contenders and Emerging Players.
Accelerating M&A: In response to the Matthew effect, as the Major Contenders and Emerging Players seek to achieve the next level of growth, mergers, acquisitions, and alliances will accelerate. M&A will play a significant role in service providers looking to achieve quantum leaps in capability and performance. The M&A activity is likely to significantly alter the landscape in the coming months to create a new set of Leaders and Major Contenders, In fact, since we finalized the Banking PEAK, Emerging Player Ness Technologies has already changed ownership.
Given the above three market forces, how much will the landscape of service providers you bank on (pun intended) change in the months to come? Only time and we can tell. Keep watching this space for more!
In my May 3 blog entitled “Size Does Matter – The Real Pecking Order of Indian IT Service Providers” – I commented on the rapid growth achieved by the Top 5 Indian IT majors or WITCH (Wipro, Infosys, TCS, Cognizant, and HCL) in the last few quarters. Last week as we were rounding up our latest service provider risk assessments, I couldn’t but help notice that this very growth has taken its toll on some of these providers, with buyers increasingly highlighting service delivery concerns especially as it relates to the quality (or lack thereof) of resources deployed on their engagements.
Since the Satyam crisis in early 2009, Everest Group has been tracking global and offshore majors across a number of dimensions to analyze patterns that indicate deviation from “ideal” behavior, and thereby highlight risks to service delivery. Based on analysis of 1Q 2011, our risk dashboard for the WITCH majors required a change in operational parameters from “No Risk” to “Marginal Risk.” While individual, provider-specific rating changes are common, this is the first occurrence of a collective group rating change since we started our assessment over two years ago.
At the core of these operational challenges is the strain on the labor model of the offshore majors that are “blessed” with an environment of hyper growth. With attrition levels at a three-year high, service providers are being forced to meet the commitments for new logos/projects by rotating employees out of existing accounts, especially smaller ones. This practice of robbing Peter to pay Paul is eroding service quality and creating concerns for clients. Further, the hiring freezes and cutbacks at the peak of the economic crisis in late 2008 and most of 2009 created an imbalance in the labor model. Service providers are now having to back-fill for attrition through relatively junior and less-experienced resources than those to which clients were typically accustomed.
Attrition Trend for WITCH
To clarify, this is not a “WITCH hunt” and should not be read as propaganda against offshoring, India, or the WITCH majors. I firmly believe in the fundamentals of offshore growth, India’s delivery competitiveness, and the capabilities of WITCH majors’ management to navigate what we hope are merely short-term hiccups. The issue, however, reinforces the need for a more robust approach to global sourcing risk management in which being proactive is key to staying ahead of the game. While a proactive approach does not guarantee prediction of the next major crisis (e.g., Satyam), our experience suggests that a focused and consistent approach can deliver early warning signals to buyers, who can then use them to potentially undertake mitigation or course correction strategies. After all, as the old saying goes forewarned is forearmed!
In a complimentary Breaking Viewpoint released earlier this week, I shared additional information on this topic, and provide perspectives to better manage the current set of offshore delivery challenges. Download the complimentary Breaking Viewpoint.