Navigating change in the outsourcing market

7th March 2011

Relationships are all about people, whether you are looking for a life partner or an outsourcing partner. So when you sign your business processes or IT services over to a third party provider, you have usually chosen them because they seemed – in some way – to be preferable to the alternatives, and it can be a little disconcerting when you wake up one day to find that one of those alternatives now owns them. But this happened with some (might say alarming) frequency during 2010, and there are signs that more of the same is ahead. 

'We saw a significant increase in M&A activity in the global BPO and IT services market during 2010,' reports Aaron Solganick, CEO and founder of Generation Equity Advisers, and a specialist on technology and digital media mergers and acquisitions. 'According to our research , the total number of deals, aggregate value, and median deal size were all up more than 50 per cent on 2009,' he reports, 'and we believe that activity in 2011 and 2012 could continue its increased activity and rise above the sector's pre-recession deal flow.' There are a number of reasons for this, ranging from the significant and growing IT services market in some geographical regions (such as Latin America), and the competitive nature of the marketplace in more established regions. 

'Latin America has become an increasingly important and dynamic BPO and IT services market,' says Solganick. 'Significant investments are being made, and companies based there are growing across borders into geographies such as North America,' he reports. Brazil is proving extremely popular, and Accenture, Apax Partners, Cap Gemini, HP, and Unisys, have all increased their presence there, and Latin America overall has grown in popularity, and is now ranked number three as the destination to which most jobs are being outsourced from the United States. So as Solganick observes: 'Both service providers of services and buyers of services seem to be betting on it as an BPO and IT services opportunity.'

 According to senior Gartner analyst Ian Marriott, recessionary pressures have also influenced recent M&A activity. 'The BPO marketplace is very competitive, particularly in the United States and the United Kingdom, and during the downturn this has resulted in a steady rise in the level of consolidation,' he says. This has nudged some of those in the BPO and IT services ecosystem into re-evaluating their priorities and making a variety of changes, such as forming more strategic partnerships and service level partnerships, whilst others have decided that the only way forward is to acquire or be acquired. 'They've had to be very clear about what they need to do in order to survive,' he adds. 

So what are the implications for buyers of outsourced services? To some extent, this depends on the nature of the consolidation, the type of service being provided, perspective of the organisation buying services, and the perceived strengths and weaknesses of those acquiring or being acquired. But if you have selected a niche provider with, for example, a specialist in the maintenance and support of legacy Enterprise Resource Planning systems or human resources and payroll services, and it changes ownership, then there will be advantages and disadvantages whether it has been acquired by another niche provider or a big multinational provider offering all sorts of services (and it’s worth noting that the largest BPO and IT services providers are getting progressively larger and more diversified).

 Step away from the detail and there are some 'overarching' trends. After a merger or acquisition, your provider may have neither the inclination or the capacity to sustain overlapping lines of products and services, so there will almost always be some rationalisation; how soon it affects you and how severely only time will tell. Retaining all of the best talent after an acquisition is rare: some people take the money and run, whilst others are pushed out of the door, so the visionary leadership you admired, or the relationship manager who understood your needs, are as likely to disappear as not. Promised improvements in areas such as service levels, support, and product development, may or may not materialise, and even if they do, you may find that you can exploit them only if you agree a new contract, SLA or support team; only time will tell. 

None of these changes are automatically bad for buyers of BPO or IT services (whether they are trying to manage existing arrangements or plan their future strategy), but change is difficult for everybody involved, even when it's for the best, and being prepared for the prospect of market consolidation will – at least – make any associated disruption easier to deal with. 'It's important to realise that due diligence is not a one time activity,' states Marriott. As well as taking place before any deal is finalised, due diligence should take place at intervals during the lifetime of any BPO or IT project or services contract. 'There should be repeated re-testing of assumptions in light of changes to economic conditions, the third party providers you are involved with, and others in the supply chain, and the discoveries should be factored into policies for strategy management, risk management, and contract management,' he suggests. 

So, in a marketplace where consolidation is a likely prospect, what should you look out for when you conduct due diligence on your supplier, and its suppliers?  'These mergers and acquisitions rarely take place with no warning at all,' says Marriott, and warning signs include overcapitalisation for deal pursuit, too much too soon deals that have resulted in an unprofitable contract portfolio, and an inability to adapt to new ways of conceiving, delivering, managing and charging for BPO services (such as cloud computing). So it’s important for buyers to find out how profitable their BPO provider is, what is generating the revenue, how much new business it has done over the past few years, how many contracts are nearing the end of their lifetime, and whether it can exploit new delivery models. 

Which brings us to the need to retain the in-house resources required to manage relationships with service providers, and keep a watching brief on factors that can impact on their capacity to meet your needs. 'There is a temptation to say, “We've outsourced that, so we don't need those people any more”,' says Marriott, but this puts you in a position of weakness. 'There's a danger that you will then be led by your provider,' he adds, rather than steering the direction of the relationship yourself – though this is more likely to be an issue among organisations that are new to outsourcing, and therefore relatively inexperienced. 'Those involved in lots of outsourcing deals tend to have a very clear understanding of the totality of the challenge they are undertaking and the level of knowledge it requires,' he reports, adding: ‘The larger and more experienced an organisation is, the more it understands how much it doesn’t know.’ 

For those that are new to outsourcing, analyst organisations such as Gartner can be a useful source of knowledge and advice. It provides buyers of outsourced services with guides to various countries (30 each year), plus wider geographical regions, rating them on the basis of cost, labour pool, language, government support, infrastructure, political and economic environment, cultural compatibility, global and legal maturity, and data and intellectual property security and privacy. It also provides similar guidance focussed on groups of suppliers, with rating criteria such as corporate viability, market offerings and initiatives in customer service and support. None of this is cheap, of course, but in the longer term, it may cost less than not taking advice.