The Hindu Business Line : The fittest will survive

That’s the see-saw kind of reaction we see in debates on the US slowing down. Given all the signals we get from offshore IT services companies reporting quarterly results, ranging from “robust” numbers to a “cautious approach” to “optimism”, K Bharat Kumar decided to seek out an expert’s opinion, for eWorld. The opinion of someone who sees the US financial services industry at close quarters would be valuable in these days of mist-soaked glasses. Susan Cournoyer, Managing VP, Gartner Inc, was just the person for us. Cournoyer’s area of coverage includes the banking and insurance vertical, in the context of Gartner’s technology research and advisory activities. Excerpts from an e-mail interview:

Is a US slowdown a fact yet? Is a recession a strong possibility from this point on?

Government economists will make the official determination of recession. However, both IT buyers and sellers currently express concern and are demonstrating some signs of a slowdown. Recessions and slowdowns are a cyclical fact of life in the US economy, so it’s best to make 2008 plans that include both a slow growth and a recession scenario.

In the above context, how is the financial services industry faring? Particularly in the context of offshore IT services companies, what is the impact of the sub-prime crisis?

It’s easy but probably incorrect to assume that a slowdown will hit equally hard across all IT spending in the financial sector and all offshore IT services companies. Overall growth in the financial sector IT spend is expected to drop by several percentage points compared to the last few years of strong growth. At the same time, some redistribution of spending will impact market shares.

IT services companies that respond strategically to the financial services downturn may increase their revenue and market share momentum. By contrast, companies that go into pure cost cutting, keep the lights on mode will see an accelerated slowdown in their revenues. To put that into context, some large IT services companies are already vulnerable to changing financial services client preferences due to their slow adoption of global sourcing and relatively static financial services portfolios. They are likely to lose even more market share in a down economy versus IT services companies with global delivery already in place.

The offshore, or global IT services companies may be able to expand from their application services footprint to capture more demand for business process outsourcing and some infrastructure services. That is, the slowdown may create increased demand for services such as BPO with costs that vary in line with demand (creating more budget transparency and flexibility). This could actually create opportunity for offshore providers positioned to deliver these services.

As a tactical point, IT companies that offer flexible contracting vehicles, allowing for lower upfront costs with the bulk of costs toward the mid and latter end of contracts, may be very attractive to financial services firms. Generally, slowdowns run their course in less than a year, so holding the line on pricing may be a short-term benefit but a longer term hazard to corporate relationships. Many offshore firms appear financially well positioned to offer this type of flexibility.

Assuming that the financial services industry (banks and insurance companies, among others) is hit by a slowdown, would there be any impact of this on other sectors such as telecom, manufacturing and the like?

Yes, other sectors such as the public sector and retail may be particularly sensitive to a slowdown. Many state and local governments are feeling the impacts of reduced property taxes from increased foreclosure activity. In addition, retailers — and then supply chain partners in the transportation, manufacturing, and entertainment and travel sectors — may feel the latter end of a slowdown.

We see differing signs given by US-based equipment/services vendors and Indian services vendors. Cisco and IBM have talked extensively of an impending slowdown while Indian services providers have remained confident. On the other hand, Oracle seemed to have a good quarter with good profit growth in the latest results.

Right, spending impacts are uneven, depending on the value propositions of different providers. Hardware and networking providers potentially seem harder hit by a slowdown, as capital expenditures with longer business payback periods come under more scrutiny. By contrast, IT services and software providers positioned to deliver quick wins around process productivity and sales generation remain very attractive, possibly more attractive in a down market. In addition, offerings that meet compliance challenges remain top priorities, since financial services companies are aware of the risks of compromises in these areas, and also want to resolve the credit risk deficiencies highlighted by the sub-prime situation.

In the latest quarter results, Indian services vendors merely say that the jury is out, given the economic conditions in the US but that they see no signs of IT budgets being cut. Comments.

IT budgets do seem at risk, but companies have made only tactical cuts so far and strategic approaches to budget decisions take more time. This means that decisions are being postponed at many large financial services (FS) companies, as they consider economic scenarios. It also means uneven impacts on IT companies.

Some Indian vendors have talked of client IT budget decisions getting postponed by a month, this year. How prevalent is that?

Postponements are common but not seen in every financial services company. Some large financial services companies built large sub-prime portfolios without paying attention to the longer-term business implications, and this lack of clear strategy and focus has been magnified by the sub-prime crisis. However, some large financial services companies recognise sub-prime as an inconvenient but tactical error that can be reversed by investing in long-term strategic risk management, process improvement, and revenue generation goals. These latter companies tend to be driving forward with IT plans that may be less robust than 2007 but remain competitive in the more challenging economy of 2008.

Indian IT services vendors have said they are viewing ‘with caution’ all transformational projects (i.e., all new projects and those involving discretionary spending) in the US. Your view?

Projects focused on transformation continue to move ahead at many large financial services companies, although commonly they are restructured to deliver more quick wins and to place more emphasis on gaining efficiencies in the near term.

It is true that some of the largest FS firms took the biggest risks with sub-prime and are most hobbled by the economic consequences. In many of these latter cases, leadership changes are taking place. The current holding patterns in IT will likely be replaced with transformation projects mandated by these new CXO executives later this year.

What is the impact of a US slowdown/recession on Europe?

Economists deserve the last word on how this slowdown may spread across major industrialised regions. That being said, it’s arguable that Europe has shown more leadership in the financial sector than the US in the past five years.

European financial firms may be more resilient than US firms if economic challenges spread outside the US, and they may even use a US slowdown to improve their lead in the global FS market. This latter dynamic could accelerate demand for offshore services. In short, European FS firms are fully capable of surprising the IT market by using this as a window of opportunity to use more global sourcing.

bharatk@thehindu.co.in

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