Customers are beginning to move away from best-in-class providers and towards a total solutions approach as more suppliers expand their offerings, says Stephen T. McClellan, securities analyst at Merrill Lynch.
McClellan, who has covered computer services’ stock for thirty years, says that the total solutions trend started within the computer user community. In other words, its core came from the delivery of hardware and software products and not the service delivery arena. But within the last five years hardware and software vendors have begun to offer the service end as well, so they can coordinate the implementation and management of the software and hardware. Companies can now do it all — provide the systems and manage them — which has led to the recent trend towards multibillion dollar contracts through companies such as IBM Global Services, EDS, CSC and other large integrators.
“A lot of users were going with best-in-breed five to ten years ago. So companies had the best software package to do this, the best piece of hardware to do that and the best services vendor to run the systems. Well, it got to be hodge-podge, a nightmare and unwieldy,” McClellan says. “Companies are now gravitating towards getting one prime contractor to be totally responsible for everything, and to ensure proper integration and implementation, even if the vendor is second- or third-class in terms of the services they provide. Specialists (best-in-class providers) are usually better than generalists (single integrators), so the individual functions might not be optimal, but I think that most companies still prefer the total-solutions avenue.”
A Competitive Market
Best-in-class providers are finding a much more competitive and difficult environment to remain in and therefore have to do things differently these days in order to survive, he says. As the market compacts, best-in-class providers are getting squeezed, so they are either teaming up in an alliance, doing mergers and acquisitions, or shifting gears and offering new services.
“They can’t do what they did in the past as a specialist because of competitive pressures,” he says. “They are finding it tough to compete with an EDS, CSC or IBM Global Services.”
There is still some advantage to being a specialist in some niche markets. Some specialty functions are still fairly new to outsourcing and pretty complex, so generalists may have a hard time in those arenas, he says. Human resources (HR) and administration services and support are some examples where specialists are thriving if for no other reason than because the big companies don’t have a grasp on the services yet.
“That is why big companies are acquiring some of these specialty companies,” he says. “And more of that will happen so companies can immediately have that new capability.”
But mergers and acquisitions bring a lot of risks with them. Companies often have integration, digestion and chemistry problems, he continues. There is a very high ratio of failure in merging or acquiring because it is quite a challenge. It’s a quick solution, but it is not a smooth and easy strategy to pursue.
Taking The Outsourcing Plunge
Companies that are considering outsourcing and are unsure of what to expect might wish to go with a best-in-class provider, he says. It is a good way for an outsourcing beginner to get its toe in the water without taking too much risk.
“Outsourcing one function until a company is comfortable with it might be a good idea, ” he says. “Otherwise a company will be leaping off the diving board full tilt into total outsourcing and that is a huge commitment.”
The only problem with this solution is that if a company does a few pieces first and decides that it is working well and wants to outsource everything, it is already disjointed. Since it has already outsourced a couple pieces it can’t bring in a company to provide an entire gamut of services because it can’t disengage the vendor that is already doing those functions. In effect, the user has to wait it out until the contracts have expired.
Managing The Vendor
It is easier to manage a single integrator because it is one-stop shopping for the customer. There is one vendor to manage since the supplier is totally responsible for the entire arrangement.
“In a best-in-class relationship a company has to not only manage several vendors, but it also has to continue to manage its own in-house operation and coordinate them all together,” he says. “And I think that is much more of a nightmare in terms of the management issue. Again that is one reason why users are moving towards total systems solutions. A company has one vendor that is totally responsible for the whole enchilada.”
But McClellan is seeing many instances of a user hiring a prime contractor to form a team of subcontracted vendors, in order to get optimal best-in-class service.
“Powerful and well-established titans of industry are forcing that teaming effort to satisfy their needs,” he says. “And the contracts are getting bigger and broader.”
This is the preferred method to a company hiring several best-in-class vendors and managing them on its own, he says. Vendors seem to work better together when there is a prime contractor and they are on a team. Vendors that are on their own may begin competing against each other in the work place as they jostle for future market share within the client’s business.
“It is tough to get companies to play ball together when they are competing for the next big deal,” he says. “I have the impression that the CIO of a corporation has a much harder time forcing them to work together when they all have separate contracts, as opposed to being under a prime, where all the vendors are under the same contract and the CIO plays a lesser role.”
Lessons From The Outsourcing Primer:
- Vendors that only supplied software and hardware have begun to add IT implementation and management to their portfolio of services over the past five years.
- Outsourcing deals continue to grow and are now reaching into the billions of dollars as large vendors and customers join to form huge integrated relationships.
- Best-in-class providers are finding the outsourcing market a much more competitive and difficult environment to remain in and are shifting gears and offering new services.
- Some complex niche markets like human resources (HR) outsourcing are continuing to thrive because single integrators don’t have a handle on some industries yet.
- Powerful companies are forcing vendors to be a prime contractor to several best-in-class providers in order to get the best of both worlds.