New technology, economic conditions and evolving expectations have changed the shape of network outsourcing. Data centres and MSPs struggle while those who deliver cutting edge technology and top-flight security reap the rewards.
How will it all evolve?
Mid to late last year, especially post September 11, the global economic meltdown had outsourcing providers quietly but gleefully rubbing their hands together. They relished the prospect of struggling companies "restructuring" (i.e. firing lots of people) and focusing on core competencies. The outsourcing service providers seemed ready to reap the benefits as large organisations looked to save money by farming off IT requirements - some companies could have even seen outsourcing as a way to make money in the short term, as they sold off IT capital. And if organisations were finally locked in to outsourcing, there would be little reason for them to go back, right?
Unfortunately for service providers, outsourcing had been getting some bad press in the months leading up to the downturn. Gartner, for instance, estimated that 80 per cent of major outsourcing deals failed to achieve the desired business objectives, and were terminated or re-jigged before the contract period was up.
IDC's Kathy Benson notes that there has been some movement away from outsourcing in the past year, and from larger enterprises in particular. "Some of the companies that outsourced their entire IS departments in the first round are bringing parts of the IS department back in-house," she says.
Still, according to Benson, the overall market is on the up. "There has been a reasonable increase in outsourcing contracts in 2001," she notes, although a single contract - Westpac's deal with IBM - distorts the figures somewhat. She also mentions there have been a lot of smaller contracts in the past year - "they're not worth as much, but there are more of them".
"The economic slowdown is already boosting demand for IT outsourcing services," says another analyst, Ovum's Stephen Young. "Corporates see the benefits of reduced capital expenditure and predictable ongoing costs. The events of September 11 have highlighted the vulnerability of corporate infrastructure, resulting in significant demand growth for disaster recovery and business continuity facilities."
Crafting new models
In light of some of outsourcing's failures, many companies have started looking for new outsourcing models. In lieu of throwing the whole IT department at the first outsourcer that catches its fancy, some companies are starting to get more involved in "out-tasking" - assigning specific tasks to a service provider, such as VPN provision and security, network management or site development and hosting. An increasing number are working with multiple outsourcing providers to meet the needs of their enterprise.
Naturally, enterprises will first outsource aspects of their IT program that are not part of their core business. "There's a general business trend that says let's focus on the things that drive our business', says Kip Cole, Cisco's director of channel operations. "Anything that is operations is probably the first thing to get outsourced."
A survey by the Cutter Consortium in the US late last year found that 73 per cent of IT professionals believe that the benefits of working with multiple outsourcing vendors outweighs the benefits of using a single outsourcing provider. According to Cutter's Mike Epner, "From a cost perspective, most have positive experiences. That's also true for the desire to pick and choose vendors for specific programs. A year ago, the question was: is sole-source outsourcing dead? A year later, the answer is clearly yes."
Complexity demands specialisation
A lack of skilled staff remains the number one reason for companies to seek outside assistance, according to the Outsourcing Institute, and the growing complexity of networks and increased security needs of organisations is only going to exacerbate the problem. Indeed, in 2001, the Information Technology Association of America said that there was nearly twice as much demand for skilled IT workers as there was supply.
IDC's hot tech watch list for 2002 points to some interesting opportunities for service providers in the networking space. In the mid-term, IDC expects IP VPNs, Web hosting, voice over IP, and security solutions to do good business. For instance, according to the Yankee Group, managed security services sales are expected to grow from $US268 million in 2000 to $US1.2 billion in 2005. Web hosting, meanwhile, is expected to have a compound annual growth rate of 46 per cent in Australia over the next three years, according to IDC.
The complexity of many of these services, and the lack of in-house expertise in many of these new technologies, should provide outsourcing suppliers with fertile ground for reaping new contracts. "Infrastructure operations are probably the first thing to get outsourced," notes Cisco's Cole. He lists voice and data convergence, VPNs, security and storage and business capacity functions as particular areas of demand for network outsourcing.
Sources at outsourcing giant EDS point to several major areas of growth for the company. Following the attacks on September 11, security and business continuity planning have been key areas. "Post September 11, our security enquiries have gone up by something like 150 per cent. It's been a huge growth area for us," says EDS's Brian Finn. The company does not expect the boom to last, however. "I expect it will be another three to six months before the fuss dies down," says senior security consultant Thomas Hunwick.
Another growth area for the company has been convergent networks. "There has been a lot of demand for what we call our Intelligent Network Foundation, which is made up of mobile and wireless services, convergent network services and network management," says senior infrastructure specialist Anthony Dunstan. He points to IP telephony in particular as a big growth area for EDS. "Particularly within IP telephony, the cost of converting to IP has dropped dramatically, and the TCO balance has started to shift towards integrated networks," he says.
On the other hand, Dunstan warns that the company sees "a lot of hype but not of lot of action" when it comes to wireless. "Wireless is still fitting a niche market," he says.
Hunwick also expects the enacted privacy legislation to pull in business, as companies have to update their security systems and processes to comply with the new laws.
Data centres and MSPs
While IT outsourcing spend is generally up, analysts deliver mixed messages about the future of data centres and MSPs (management service providers).
MSPs are attractive because they let companies retain their own applications and network hardware, and merely provide subscription-based management expertise that the companies lack. However, the appeal has not translated into significant mind share among IS managers. A US IDC eWorld survey late last year found that only 15 per cent of 2100 companies surveyed planned to acquire managed services in the 12 months following. Still, IDC has released somewhat contradictory figures that project the worldwide MSP market to reach $US500 million by 2004, more than double its projected size for 2002.
It's also becoming clear that companies are more comfortable having MSPs look after their networks than their core business operations. The Meta Group has even predicted that by 2004, 40 per cent of all MSP functions will relate only to services not associated with e-business.
Data centres, meanwhile, are struggling, and Ovum paints a grim picture for them in the years ahead. "[Many] data centre space providers are happy just to stay in business," says Young, noting that the economic downturn has not proven advantageous for data centre providers. "For independent data centre operators yet to reach profitability, capital reserves and cash burn rates will decide who survives. Operators in this situation must focus on selling their existing services, not developing new ones. Many suppliers of data centre space have plans to move into the managed services market; going ahead with such a strategy could prove terminal."
Young also notes that the data centre and emerging MSP market is likely to be dominated by the incumbent outsourcing providers. "Companies such as EDS, CSC and IBM Global Services have decades of experience in the IT outsourcing markets, and have strong brands," he says. "The new data centre operators that have developed managed services are having difficulty selling them to corporate customers, in part due to turmoil surrounding the data centre market."