Trends in Global Sourcing for 2008

Includes: CTSH, INFY, SAY, WIT
by: Sreenivasan Radhakrishnan

ITO Market Trends in 2008

Overall, demand in the market for IT & BPO services continue to expand in 2008: The main factors driving outsourcing is continue to be cost and access to skills not available in home country.

Mega-deals are vanishing: In 2007, Mega-deal segment with $1-billion in total value or $200 million annual contract value, are dropping in both number and size. As client relationships with service providers are maturing and some of their past experience with service providers has taught a lesson that they didn't deliver what they promise. So, they don't want to handover all their requirements to one service provider. Mega-deals are expected to diminish in 2008 except few exceptions.

Matured relationships with large enterprises (clients) will lead to expansion towards complicated ADM functions to outsource: ADM market is expected to show sustainable pace of growth of about 7% from its current level of 12%. The maturity in offshore delivery of ADM services will lead to demand for complex ADM services ( e.g. Solution design, architecture). Offshoring complex ADM requirements will move the relationship between the service provider and buying organization (clients) from supplier-buyer relatioship to partnership-based relationship.

Remote Infrastructure Management Outsourcing [RIMO] model continue to gain market share, growing at 60 to 70 percent and traditional model of IO will start to show declining trend. A shift toward asset-light deals in both RIMO and traditional models will result in revenue deflation as assets start getting excluded from the scope of IO engagements.

Maturity in adopting sourcing models : Setting up captives in low-cost countries like India is expected to slow down in 2008, except the captives are established for high-end work like R&D or engineering services. Other sourcing models like BOT will also fade away from the market due to the mounting challenges after transfer phase at the client-side. There will be a matured approach in sourcing offshore IT and BPO services at buying organization (clients), where in buyers (clients) are expected to use the right mix of third-party service providers and other sourcing models in 2008.

Competition: Big outsourcing firms and India's outsourcing firms will see competition from outsourcing firms from other low-cost countries like China, Philippines and Russia heavily in 2008.

Supplier-Side (Service provider) Trends in 2008

Offshore service providers continue to grow inorganically : Offshore IT and BPO service providers will continue to acquire firms in Europe and US for niche skills, business domain and delivery capabilities, and also for the client pool.

Service providers to push total outsourcing solution (includes application, Infrastructure and BPO services): Maturing relationship with clients and broaden portfolio of outsourcing services at service providers expected to create a consolidated sourcing approach among buying organization (clients). Large enterprises will get incremental benefits from outsourcing to single service providers, this will also helps in understand client business to add value.

Verticalization will soon become important service provider-selection criteria. Service providers with vertical domain expertise to understand client business is going to be significant differentiator in the market place. This is a potential space where India's outsourcing service providers can arrest their weakness spelled in the market as 'undifferentiated service' to well-differentiated services in future.

India's outsourcing firm will expand their US presence: Growing demand for H1B is becoming business risk for Indian IT companies. They need more employees in US to serve large deals and also needs onshore employees to deliver complex AO and consulting services. Expanding onshore presence in US is also going to help in wining confidence among clients, who have concern around intellectual property protection and moving data outside the country.

Rupee appreciation continue to have an impact on India's outsourcing firms' margins : India's outsourcing firms continue to improve their utilization rate, effective bench management and identifying new ways and means to reduce cost of operation

Wage Inflation continue to affect service providers, but will not slow offshoring : Offshore wages will continue to increase as the demand continues to exist in the servicing geographies. But the differential between the American wages and Indian wages and lack of access to skill sets at home country will continue to offshore for labor arbitrage.

Tier-2 cities will emerge as new destination for IT and BPO centers : Rising cost of operations, which includes the rise in real estate lease rentals, wage inflation and transportation costs and a new pressure due to rising rupee will drive the service providers to move into tier-2 cities in servicing geographies.

Europe: The rupee appreciation is far quicker against the dollar than against the pound or the euro, Indian offshore IT service providers will look aggressively in Europe to source business in 2008.

Buyer-Side (clients) Trends in 2008

Buyers looking for service provider consolidation : Buyers' belief to leverage best-of- breed service providers led to multiple vendors wining large ADM deals in 2005. Due to multi-vendor sourcing approach, buyers find themselves in a complex labyrinth of relationships with multiple suppliers. Now buyers have started realizing that the multi-vendor sourcing strategy adds overheads and reduces outsourcing benefits. There is a buyer driven service provider consolidation trend is expected in 2008.

ITO activity in FORTUNE 1000 client segment : ITO market will continue on a steady mature growth. In 2008, most of the ITO penetration will be in the FORTUNE 1000 client segment. As ITO penetration is at 80% in the FORTUNE 100 client segment already.

Changing dynamics of client (buyers) relationships: Clients' expectations from outsourcing providers are changing over time, they are expecting to delivery good job on clients' pain points and then expect for more work. Also there is an expectation at service providers to think like the client and how they can help in doing their business? The change in expectation at client is expected to move the service provider as strategic partner to the client, who enables and helps in differentiating the client business at the respective market place.

Early signs of limits in labor arbitrage: Large, experienced corporations with matured relationships with offshore service providers are expected to discover the limits on what they can offshore. Matured client relationship will run into these barriers in 2008.

Sourcing as a horizontal: Buyers will recognize global sourcing as a key function like HR and finance. They will establish their subsidiaries close to the service providers at low-cost countries like India, China, Russia and Brazil. Already captives started managing the offshore service provider relationships and are becoming key stakeholders in sourcing strategies at the parent organization. Parent firms will realize the expertise on sourcing within the firms, at their captives. Increasingly the sourcing decisions are expected to be taken by the leadership at captives in low-cost countries. Sourcing decisions are expected to become key responsibility for the senior management at captive and it will evolve as a horizontal going ahead.

Captives on Sale: The change in the market landscape has proven some of the original reasons to setup wholly owned subsidiaries (captives) in low cost locations less relevant today. The market conditions have changed now with options to source their offshore IT and BPO requirements. So, parent organizations are expected to promote the decisions to monetize the captive operations as the valuation for captives are healthy to hive-off. Private Equity will invest as the potential for growth in valuation of captives is still high in the market.

Buyer Vertical Segment Trends in 2008

Highlights the only the key verticals, their challenges and offshore trends in 2008

Retail: Cost pressure and to improve productivity through technology and offshoring their business process requirements has driven large retail firms to start their captive software development centers in India. Retail firms will continue to outsource their research, analytics, RFID requirements, IT and back-office requirements.

Telecom: The consolidation wave in the telecom equipment manufacturer segment of telecom sector, expected to create requirement for efficient centralized IT infrastructure and IT solutions for the new entity. The telecom service providers are expected to outsource their network infrastructure centered requirements to the offshore IT service providers.

BFSI: BFSI firms affected due to the impact of sub-prime mortgage market crisis in the US are expected to use outsourcing as a strategy to cut IT spending. BFSI firms IT spending are expected to be stable and mortgage firms/divisions are expected to offshore their business process requirements like account receivable management [ARM] to BPO services providers in low-cost countries.

Healthcare: Healthcare firms are under pressure to reduce research and administrative costs and meet tighter compliance and security mandates in US and Europe. As their margins are under pressure, they are looking for alternative to cut costs and meet the mandates. Healthcare firms, hospitals and pharma companies are expected to continue outsource their clinical data management, back office [BPO] and IT services [ITO] requirements to third-party service providers.

Energy & Utilities: Energy industry is pressed with biggest challenges like volatile market conditions, burdened with costly and time consuming regulatory measures, competition, and frequent mergers & acquisitions. Energy firms are pressurized to make informed decisions at an ever so frantic pace. Informed decision making process needs a strong, secure IT infrastructure capability which will help find, analyze, and apply specific operational needs. In 2008, Energy firms continue to offshore their IT infrastructure, applications, finance and accounting [FAO] to reduce the cost. Also begin to investigate the benefits from human resource offshoring [HRO].