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Decline in IT Outsourcing Market Challenges Service Providers

The IT outsourcing industry finished 2012 with a whimper. Total annualized contract value of contracts signed in the fourth quarter--$2.9 billion-declined 37 percent from the same period last year and was down 18 percent from the prior quarter, according to outsourcing consultancy Information Services Group's (ISG) quarterly index. For the full year, contract values were down 11 percent over 2011, according to ISG.

[ Related: 9 IT Outsourcing Trends to Watch in 2013 ]

Fewer deals with new scope were to blame, says ISG president and CMO John Keppel. "We also saw weakness in the market due to distractions from elections in the U.S. as well as from Superstorm Sandy. In fact, October and November were the lightest months of the year."

IT Outsourcing Buyers Not Looking for New Deals

KPMG's quarterly survey also reflected softness in the IT outsourcing market, which found the number one focus for outsourcing buyers in 2012 was better managing its existing outsourcing arrangements versus making new deals.

Of more than 400 sourcing advisors KPMG asked, 73 percent said IT outsourcing demand had been down or flat over the last two quarters of 2012 and 62 percent expected demand to be down or flat in the first half of 2013. The top priority going in 2013 will remain driving down according to nearly all (92 percent) of the more than 20 service providers KPMG surveyed.

[ Related: Beware the Commoditization of IT Outsourcing ]

"For 2013, we notice some trends that could slow the market and others that could stimulate it," says ISG's Keppel. "We note some transaction push-out, but it is not nearly as extreme as when the recession started in 2008. And lingering fiscal uncertainties in both the U.S. and Europe could slow decision-making around outsourcing. This all could combine to challenge the flow of contracting in the first half of 2013."

IT service providers continued to face profit pressure, according to outsourcing consultancy Everest Group's quarterly report, with margins slipping modestly in 2012 and facing continued pressure this year with buyer demand remaining the key price driver. Prices of IT outsourcing services are expected to remain stable or decline marginally at offshore as well as onshore providers, says Everest Group.

IT Service Providers Look Overseas

Providers seeking new contracts are eyeing emerging markets. The total value of outsourcing deals signed by U.S. companies in 2012 dipped below its five-year average of $7.05 billion to $6.77 billion, while companies in the Asia Pacific region signed a record $3.1 billion in contracts.

Large customers in India and China entering the IT outsourcing market for the first time fueled the activity, says Keppel. "Together, China and India had 39 companies in the Forbes Global 500 in 2012, up from just 16 five years ago."

[ Related: Is IT Outsourcing a Dying Concept? ]

They're also putting together offerings that stitch together mobility, analytics, social media, and cloud computing.

"We just don't see any one of these technologies moving the annual contract value needle on its own. There simply aren't a lot of $250 million cloud services contracts filling up industry pipelines, and we don't really anticipate that changing anytime soon," says Keppel. "And as these trends converge, we believe clients will seek to use more collaborative approaches to identify service provider solutions that can help them achieve a transformative effect."

According to KPMG's quarterly report, there "is an ongoing bifurcation between leaders and laggards in the service provider market based on industry and business process experience and diversity of services mix, including cloud and analytics."

But, says Keppel, "to win this kind of business, service providers will need to rethink their approach to the market and their relationships with clients."

Infrastructure-as-a-service could also be a bigger opportunity for outsourcing providers in 2013. While 57 percent of outsourcing customers surveyed by Everest Group said they already had a software-as-a-service model in place, just 32 percent had existing cloud infrastructure with 48 percent indicating that they had plans to implement it.

Stephanie Overby is regular contributor to's IT Outsourcing section. Follow everything from on Twitter @CIOonline, on Facebook, and on Google +.

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