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Slow growth ahead for IT outsourcing

Slow growth ahead for IT outsourcing

Political uncertainty, digital disruption, and continued competition could significantly slow IT services growth over the next three years.

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While the IT and business process services industry continued to grow through 2016, that growth slowed over the course of the year and could fall to less than 2 percent by 2019, according to a recent report from IT and business sourcing consultancy and research firm Everest Group.

[ Related: Outsourcing trends to watch in 2017 ]

The pace of year-on-year revenue growth fell from 4.5 percent in the first quarter of last year to below three percent by year-end. And Everest Group predicts a continued decline over the next one to three years, falling to as low as 1.9 percent by late 2019 as a result of as a result of macro uncertainties, technology disruption and intense competition.

The biggest question marks are the ultimate impact of Brexit and possible protectionist actions by the Trump administration in the U.S. UK buyers’ outsourcing transactions neared three year lows last year as they took a “wait and see” approach, and U.S. buyers might also delay deals until there is more clarity around potential changes to visa programs and the political climate around offshoring. “We expect a slowdown in decision making until there is more clarity on policies and the associated impact,” says Everest Group partner H. Karthik.

[ Related: Trump presidency could sound death knell for offshore outsourcing ]

Digital disruption is also having an impact. The increasing adoption of automation and cognitive capabilities could cause companies to reevaluate what and where they outsource. “The increased use of automation and machine learning will free up bandwidth of existing resources in location portfolios,” Karthik says. “This could lead to two things—one, location consolidation and, two, realignment of talent to higher-value- work. Enterprises will then need to intentionally align their location portfolios to the new types of skills required.”

In addition, the IT services market is maturing with mega deals going the way of the dinosaur. “For the large enterprises that are already mature adopters, incremental outsourcing will focus on niche areas as opposed to large-scale deals,” Karthik says.

Sourcing shift towards in-house delivery growing

By the end of last year, new sourcing activity was shifting toward in-house offshore deliver over outsourcing. The creation of offshore captive centers hit an all-time high in 2016, according to Everest Group. “There are three factors driving the shift towards in-house delivery,” Karhik says. “First, there is an increasing focus on managing risks and the opportunity to have better control through the in-house model. Second, the nature of work is shifting towards more critical or core activities and technology (with digital being the foundation). Third, enterprises with mature [captive] models are able to drive tighter integration of business with operations or technology through the in-house model.” Everest Group expects the preference for the in-house delivery model to continue to increase, as it offers the opportunity for better risk management, greater control over intellectual property or sensitive data, increased productivity, and closer alignment required to deliver more specialized or complex work.

[ Related: IT service providers increase investment in onshore locations ]

Last year’s sourcing activity was more concentrated in top 10 locations offshore and nearshore for similar reasons—the work outsourced is more complex and these cities can accommodate higher-level tasks. “Cost arbitrage is important, but that is not the only consideration. In many cases, the shortage of skills in onshore locations is the primary reason behind offshore or nearshore location set-ups,” says Karthik, who expects the trend to continue until tier-two and -three cities develop such capabilities.

Demand for those more complex services is growing. The share of digital services in IT outsourcing deals as compared to traditional services rose to 35 percent in 2016, according to Everest Group, with cloud, analytics and mobility services leading the way. Ultimately, digital services will overtake traditional services. “It is hard to accurately predict a timeframe to this, but we see this happening in two to three years,” says Karthik “This varies across industry and functional segments. In some areas, digital has already overtaken traditional services.”