Outsourcing: Where’s the Big Deal?

Increasingly, outsourcing clients are parsing out smaller tech assignments -- and keeping the jobs short.
Scott LeibsSeptember 1, 2002

Outsourcing, so often presented as a cure-all for companies that sign on for it, may not be so healthy for companies that offer it. In July, Electronic Data Systems Corp. (EDS) announced that it was withdrawing from consideration for a massive outsourcing contract being dangled by The Procter & Gamble Co. EDS said that the risk and accounting issues associated with long-term contracts were its main concerns, and that its simultaneous plan to lay off 2,000 workers was not a factor.

The company stated further that those layoffs were part of the normal course of business, and were not connected with the bankruptcy of WorldCom, which is both a major EDS client and a supplier of telecom services to the company. EDS took a $101 million hit in its most recent quarter for write-downs and the creation of reserves due to WorldCom’s bankruptcy.

All of that might have made you glad to be an executive at, say, IBM Global Services, except that even as EDS endured its nightmare July, IBM CFO John R. Joyce was backing off earlier projections that its outsourcing business would see double-digit growth in the second half of the year. John Bothwell, vice president of global strategic outsourcing for IBM Global Services, maintains that these are boom times for outsourcing because it tends to be countercyclical, but admits that deals are taking longer to sign.

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At the same time, their duration is shrinking. Traditional IT outsourcing has long been a business marked by headline-grabbing deals ranging from 5 to 10 years in length and hundreds of millions if not billions of dollars in value.

That hasn’t completely changed: the P&G contract is said to be worth up to $8 billion over 10 years. But Bothwell and others say that customers are now more interested in jobbing out discrete pieces for shorter time frames. Increasingly, they don’t want to parcel it out at all, but prefer someone else to come in-house and run it as a “managed service.”

Outsourcers have been quick to respond. IBM, for example, launched its “Manage It for Me” program in June. Aimed at midsize businesses, the portfolio of services and financing arrangements addresses everything from computer security to Web-site hosting, payable on the installment plan.

Blue-Star Solutions, a small outsourcer that specializes in managing customers’ SAP environments, offered new, shorter terms as brief as three months. EDS confirmed the growing market for E-business infrastructure management by paying $63.5 million in June to acquire Loudcloud Inc. And in a major move to expand its systems integration and consulting opportunities, in July IBM announced plans to buy PricewaterhouseCoopers Consulting for $3.5 billion in cash and stock.

Those are just some of the changes marking an industry that, despite recent turbulence, is about to metamorphose from ugly duckling to swan. That’s the view, anyway, of Dana Stiffler, an analyst at AMR Research Inc. in Boston. She points to strong revenue growth within the outsourcing divisions of Accenture, Computer Sciences, IBM, and even EDS, which saw first-quarter outsourcing revenues up 18 percent compared with a year ago.

“Outsourcing is now an established and well-understood way to cut costs,” says IBM’s Bothwell, “which is why we now have twice the number of potential deals that we had two years ago.” One big industry change, however, is that services such as “E-business on demand,” in which customers buy only the computing functionality they need, have more momentum than traditional deals.

The shrinking of those long-term contracts may not be so bad for outsourcers: as WorldCom shows, big deals can vanish. Certainly, the once-burgeoning ranks of application service providers (ASPs) learned that when their dot-com client base vanished.

And on the plus side for outsourcers is the virtual disappearance of the per-user, per-month pricing system that was once the chief selling point of ASPs. Today outsourcers may be doing less for clients, but they do get paid.

And with outsourcers eager to satisfy clients’ desire for more flexibility, companies clearly have more leverage than before. Still and all, an outsourcer could be forgiven for glancing at the pending P&G deal and getting a little misty-eyed for the good old days.

(Editor’s note: See how well EDS, Computer Sciences, and IBM are managing their working capital — take a look at the CFO PeerMetrix interactive scorecards.)