The form of outsourcing has evolved significantly during recent years, as it was once common for contracts of a relatively large value to be signed for a period of seven to10 years, involving one of a dozen or so marquee service providers. The 374 commercial outsourcing contracts of >$50 million signed in 2006 represent a 63 percent increase over the volume signed in 2002 and the Total Contract Value (TCV) awarded in 2006, $79 billion, continued at a pace that has been sustained for several years.

But, as 2007 draws to a close, we see some signs of changing market conditions. The current industry can be characterized as offshore dominant — focused on contracting for effort and applying multisourcing strategies for maintaining competitive tension and reducing concentration risk. The net effect on deal structures has been shorter-term contracts with a narrower scope than we have previously seen. 
Contract terms have steadily declined to an average of five to six years, and the average TCV, which stands at just over $200 million in 2007 Year-to-Date, has declined in each of the past five years. We expect the TCV for 2007 to be roughly $70 billion, which will represent a slowdown of about 10 percent in terms of contract values. And the average current Annualized Contract Value (ACV) is low compared with historical levels, with ITO valued at $42 million and BPO valued at $28 million. 

The underlying cause of these market shifts, which has its root almost exclusively in the Americas, is the current popularity of effort-based contracting. Companies tend to contract for access to less expensive labor rather than sign agreements for truly defined services.

Global Services PREDICTIONS

Bundled deals with elements of infrastructure, applications and BPO will be commonplace by 2010

Increase in multisourcing will encourage smaller multiprocess, multiprovider and multigeography deals.

Looking Forward
In the next few years, contract terms should rebound a bit (depending on geography and scope) to the “seven-year threshold” that we’ve found to be the norm for transformational outsourcing time horizons. And since the TCV is directly related to contract durations, we expect the longer-term contracts to increase the overall TCV awarded. 

We anticipate a moderate degree of consolidation among the industry service providers, with a strong emphasis on industry-oriented, vertically defined offerings. This means that the industry will adopt a greater level of coupling between infrastructure (largely computing platforms), applications and operations. There are also early signs of a real shift away from labor-arbitrage contracting. Driven by the desire of service providers to improve their profitability in the midst of changing macro-economic conditions, we expect the provider community to place greater weight on the model of defined services. 

Renewed emphasis on managed services and the bundling of infrastructure, applications and operations should increase the ACV notably. Representing a new era for the BPO segment of the outsourcing industry that has a much greater domain-specific orientation, we suspect that BPO ACV will grow faster than ITO ACV.

The differentiation between the U.S.-based, Europe-based and India-based service providers will fade quickly. All will be considered participants in a global economy, with delivery resources around the globe. Providers that invest, organically and through acquisitions, in deep domain expertise for attractive market segments will be positioned for success. These providers will be focused, avoiding the temptation to be all things to all customers. The deal structures will recognize and reward these behaviors, choosing expertise over abundance of staff.

The new corporate “family jewels” will be data regarding customers, products, inventories, risks and channels of distribution. Outsourcing agreements will be designed to recognize the sacred role of data for the modern global enterprise and will construct services that process data in more defined and standardized ways.

The market for transferring captive centers to a commercial concern will diminish as time passes. By 2010, contracting structures to make these deals work will be oriented around the means of gaining cost/capability/capacity on prevailing commercial terms, which manage the risks and opportunities that surround brand, data and the customer relationship.

In conclusion, we estimate the global commercial outsourcing industry will produce $74 billion in revenue for the participating providers in 2007. The industry is growing at a rate of 4 to 5 percent per annum, and there are almost 2,000 active outsourcing agreements in place today, each valued at $50 million or greater when awarded. On top of these figures rest the less-visible volume of commerce related to effort-based contracting. By all accounts, it is the size that is material … and one that will fuel increases in the traditional outsourcing segment as the market shifts away from a labor-arbitrage orientation and move toward “managed services.”    

Peter is responsible for TPI’s strategic planning, marketing, business development, industry relations and market intelligence. He leads the TPI Index, an indicator of trends and developments occurring in the global sourcing industry.