India Outsourcing Industry 2012 – Outsourcing Contract Renewals critical growth factor for Top 4 India Vendors

Outsourcing contract renewals are critical for India Outsourcing Vendors growth (revenues & volumes) and these renewals have been contributing significantly for the Indian vendors since the 2005 when they started bagging the mega deals (multi year multi-million dollar deals). Mega deals were the forte of the Big Six Vendors (IBM, EDS, CSC, Accenture, ACS, and HP) and Indian Outsourcing vendors won 80% of the deals that were renewed during the 2004-06 period and first generation of renewals kick started the growth of Indian Outsourcing Vendors and they successfully broke the dominance of Big Six Vendors through competitive pricing. Renewals can be simple like renewing the deal with existing vendors based on existing terms or addition of new terms to extensive changes like changing the vendors like adding new vendors, new RFPs, renegotiating prices, changing policies, technologies,  and changing business environments. Post the financial crisis and subsequent economic slowdown in 2008, outsourcing deal renewals have gained prominence as clients were looking for cost reductions during the crisis and Indian Vendors again captured this opportunity and offered clients not only competitive pricing but also offered innovative service offerings that has significant impact on the clients profitability and revenues. A report by Standard Chartered Equity Research estimate a pipeline of at least 1095 outsourcing deals worth over $207 billion over 2011-16 which could translate into a $25 billion opportunity for Indian Vendors.

Outsourcing contracts renewals not only focus on the cost reduction but also increased value from service offerings of vendors for the clients and clients are bargaining for big discounts which are driving down the value of contracts by 30% compared to previous contracts. Major IT vendors are forced to offer around 8-10% discounts on the billing rates.20% of the outsourcing contracts renewals are premature as clients are forced to renegotiate or bring in a new vendors due to poor vendor performance, changing business needs and change in business environment. The renewed outsourcing contracts have new clauses in contracts to ensure business continuity, stringent service-level agreements, ensure better IP protection and heavy penalties for failure. Another important change is that the deals are no longer larger in size and deals sizes have gotten normalized at the $50 million to $100 million range as mega deals have not achieved the expected cost savings or operational efficiencies. Clients are adopting blended outsourcing model in which large deals are broken into smaller deals for flexibility in pricing, delivery, etc and distributed among multiple vendors for optimal total cost of ownership. Standard Chartered Research report predicted that TCV deal size of $50-250m would be primary focus for Indian offshore vendors and the average contract period will be five years.

Outsourcing Contracts Renewals 2012

Renewal deals will drive the medium term volume growth for Indian Outsourcing vendors and there is a pipeline of 249 deals worth US$47 billion coming up for renewal in CY2012 which could convert into a US$6 billion opportunity for large Indian Vendors according to Standard Chartered Research Report. The report also expects Indian vendors will benefit from the smaller deals and expect annuity deals could contribute 26% of incremental revenues for Top4 players in FY13. Manufacturing followed by Technology, Media & Telecom (TMT), Retail and Transportation verticals dominate the renewal deals in 2012. BFSI outsourcing contracts renewals will be slow as some of the major deals would have been renewed in 2011. Also Europe, Middle East and Africa region clients will dominate the outsourcing renewals segment followed by Asia Pacific region. Outsourcing renewals deals will be low in Americas in 2012 compared to 2011. Overall the renewal deals will be the key growth differentiator for Indian vendors and players who have good position in Europe and Asia Pacific are expected to capture the majority of the renewal deals. IT Outsourcing deals worth US$25 billion (approx) followed by Infrastructure services worth US$15 (approx) and Application Services worth US$7 billion (approx) are coming for renewals in 2012. Large Indian vendors have good expertise in ITO and Infrastructure services deals.

Top 4 India Vendors – Annuity Deals Renewals

TCS is the leader with 36% market share in the US$ 50 million+ deals and is expected to sustain its volume leadership. Over the last four quarters TCS has signed a mega deal worth US$2 billion (TCV) with UK based Friends Life through its subsidiary Diligenta and 21 US$50 million+ deals. TCS has significant presence in the BFSI segment and its is expected to pick renewal deals in this segment and also has significant portions of revenues coming from Telecom and Retail segments and these two segments too have some major deals coming for renewal in 2012. TCS has healthy deal pipeline and company is bidding only on specific projects that are coming for renewal.

Infosys is another vendor that is expected to do well in renewal deals space and is expected to gain around US$1 billion of revenues in 2012 and 2013. Company is very strong in Application development & maintenance which constitutes smaller opportunity and not so strong in the ITO and Infrastructure services segments. Infosys has strong presence in the Manufacturing, Telecom and Retail segments in which there are major annuity deals renewals in 2012. BFSI segment deals renewals are slow in 2012 and the company has significant exposure and dependence on this vertical. Infosys have been able to renew most of the deals with its existing clients but the contract values have come down and major clients of Infosys particularly in BFSI segment are going through a very tough time which is evident from Infosys management recent negative commentary on their Client’s IT spending/budgets.

Wipro had gone through a major reorganization in 2011 and the new management is slowly bringing back growth by focusing on large deals and improved operational flexibility for client account managers. StanChart report estimate US$700 million+ deal wins in 1H12 vs. US$400 million in FY11 and Wipro has strong ITO & Infrastructure Services  capabilities (37% share of FY11 IMS revenues among Top4) are a positive, especially given the significant 36% share of IO deals in the USD 207 billion renewal deal pipeline. Wipro has strong presence in TMT, manufacturing, retail & transportation segments where there are renewal deals in 2012. Wipro is aggressively bidding on some of the renewal deals and is expected to win some of them in 2012.

HCL Technologies is aggressively targeting for capturing 30% of total renewal deals in 2012 which provides a US$15 billion market opportunity as there is vendor churn in the market.  StanChart report expects HCL to sustain volume growth ahead of peers (21% CAGR over FY11-14E vs. 15%-19% for larger peers) on back of aggressive large renewal deal pursuit. HCL`s strong IO capabilities (25% share of FY11 Top4 IMS revenues) are a positive given significant share of IMS deals (36% by TCV) of the USD 207 billion renewal deal pipeline over the next 5 years. HCL management believes that many clients are unhappy with their vendors and they are hoping new vendors will solve the problems in new ways and company is sacrificing margins by offering aggressive pricing to capture the renewal deals and management hopes to recover margins through reducing SG& A costs, increasing utilization rates, recruiting more freshers, etc. HCL has strong presence in Manufacturing, Telecom, Media and retail segments where there are significant renewal deals.

Renewals Key Growth Driver

Outsourcing contracts renewals are the key growth drivers and differentiators for the Top 4 Indian Outsourcing vendor’s growth in 2012. Their focus on these deals since past couple of years has helped them maintain their revenue growth and profitability even in times of global economic crisis and slowdown.  India vendors focus on the smaller and mid size deals along with the large mega deals helped them grow and the deal sizes are becoming smaller as clients are looking to outsource to multiple vendors that offer them low pricing and provide more value added services that have direct impact on the clients’ revenues and profitability. India Outsourcing vendors are good at offering clients innovative service delivery models and have developed significant expertise to run the clients operations effectively and at low cost. Along with renewals India Outsourcing vendors are also profiting from vendor consolidation where clients are looking to consolidate many vendors to a few vendors that can really provide them with cost savings, process efficiencies and partner with the clients in developing and improving the products and services.

There has been very few transformational deals happening in the market due to the uncertain and volatile macroeconomic environment and clients are particularly looking to reduce costs significantly as it is the only way to overcome the crisis during which there will be pressure on the revenue growth. Indian Outsourcing vendors are facing tough times as the clients are bargaining hard and asking for discounts on billing rates, currency volatility, raising wage costs, slowdown in deals, macroeconomic uncertainty due to euro zone debt crisis, US Elections where presidential candidates criticizing Outsourcing of jobs to countries like India, and pressure on the margins. There have been major management and leadership changes that led to reorganizations in Vendors like Wipro and Infosys and this also had an affect on their performances. But the fact remains that Indian Outsourcing Vendors are expected to capture majority share of the outsourcing contracts renewals that are expected to happen in 2012 and most of the deals will be snatched from the Global Outsourcing Vendors.

Discussion Points:

1. What should Vendors do capture more renewal contracts deals?
2. What are the risks involved in Outsourcing Renewal Deals?
3. Since the Renewal Contract values are low and clients bargaining hard for heavy discounts, what should vendors do to protect their margins?
4. What should be vendor strategy in Vendor Consolidations and Long term transformational deals?