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Smaller Deals Drive a Record Quarter for the Industry

Keppel, John
by John Keppel

Activity in the global outsourcing industry for the previous three months reached its highest level ever in a second quarter, producing record contract values for the period and contributing to the one of the strongest first halves ever. ISG data shows that growth was broad-based across regions, domains and industry sectors.

These were the key findings from our quarterly ISG Outsourcing Index, discussed earlier this week. (View the presentation slides and listen to an audio replay here.)

We are seeing broad-based strength across the entire global outsourcing market, with growth almost everywhere we look. Deal counts are strong across the board, global annual contract value (ACV) is surging, all three regions – Americas, Europe, and Asia Pacific – are seeing upward momentum, information technology outsourcing (ITO) continues to forge ahead, and, in a potential bright spot for the global economy, the manufacturing sector is seeing a significant rebound in deal activity and value. In short, the demand for outsourcing is extremely robust at the moment, and that bodes well for the rest of the year. Indeed, based on first-half performance, we are forecasting ACV to grow 25 percent for the full year.

The number of “mega relationships” was down a bit from the 2014 first quarter, when 11 such contracts were awarded. Still, seven $100 million-plus deals were signed in the second quarter, resulting in first-half activity that is indicative of a historically strong full-year performance.

While the large deals may grab the headlines, the real driver of market growth is found in smaller-sized deals, as enterprises continue to award lower-value contracts of shorter duration to more providers. This trend is reflected in the continued growth of multi-sourcing, which, as we’ve discussed, presents businesses with a host of challenges as well as opportunities.

Let’s take a closer look at the Index data: for the quarter, a record 340 contracts with ACV of $5 million or more were signed, with the greatest growth coming from deals valued at under $40 million annually. This record-high volume generated $6.4 billion in ACV, also an all-time record for the period, and up 72 percent versus last year’s weak second quarter, despite a falloff in the number of mega deals valued at more than $100 million.

Coming on top of a strong first quarter this year, the second-quarter results pushed the first-half contract count to a record 663, up 30 percent, and ACV to $12.4 billion, the third-best mark ever for a first half and up 34 percent over last year.

The steady growth in restructured contracts continues a trend we’ve observed for some time, that, combined with a steady level of new scope awards, is another sign of a growing market. ACV of restructured contracts, at $4.5 billion, hit a record high for a first half, while new-scope ACV, at $7.9 billion, remained broadly in line with first-half levels over the last several years.

In terms of domains, ITO saw its second-quarter ACV double, to $4.9 billion, over last year and its contract count reach a record high of 250 for the quarter. In the first half, ACV reached its second-highest level ever for the period, fueled by a record performance in the manufacturing sector, which awarded an all-time high of129 contracts worth $2.7 billion in ACV.

Business process outsourcing, meanwhile, turned in a slightly improved quarter but its first-half performance was down 4 percent, belying its essentially solid growth over the last five years. Traditional back-office functions, like human resources, contact centers, procurement, and finance and accounting haven’t fared as well as industry-specific BPO, which has become one of the largest and fastest-growing markets.

By region, EMEA notched its best first-half ACV, $6.3 billion, in the last six years. Second-quarter ACV of $3.1 billion was up 45 percent from last year, fueled by continued strength in mega deals, new-scope and ITO contracts, as overall contract levels rose 35 percent from the prior-year period. Within the region, France turned in its best first half ever, while Southern Europe and the Nordics also had standout performances, even as the UK and Ireland improved only slightly from last year’s first half. Manufacturing, financial services, and telecommunications were all up noticeably.

The Americas, meanwhile, rebounded from a string of relatively weak quarters, logging its best quarterly performance and breaking through the $2 billion ACV mark for the first time since the first quarter of 2013. ACV, at $2.3 billion, was 22 percent higher than the first quarter of 2014 and more than double that of the year-ago quarter. The increase in value was driven by a surge in overall contract awards, which climbed more than 40 percent from the first quarter and more than 120 percent from the comparable period in 2013. First-half ACV performance was equally impressive, up more than 20 percent over last year. New-scope, restructured, ITO and BPO deals all contributed to the first-half growth in ACV, while financial services and manufacturing were the top industry performers in the half.

Asia Pacific continued a comeback of its own, recording its second consecutive quarter of ACV at around $900 million, a level double that of each of the prior three quarters. Taken together, they produced the region’s second-best first half in the last decade. Large deals were the main contributor, as overall deal count dropped 16 percent from the first quarter. New-scope and ITO contracts saw particularly sizeable gains, while manufacturing and telecommunications were the big industry winners at the half-year mark. Within Asia Pacific, both Japan and the Australia-New Zealand sub-region recorded the largest gains in ACV in the first half.

Outsourcing growth was impressive in all three regions: the Americas’ upward trend despite no mega-deals, Europe’s lock on ACV, and the large-deal activity that brought up Asia Pacific’s numbers.  Globally, the solid results we saw in volume, value and sector increase our confidence that this is not just a blip, but a sustainable period of growth for the industry. Nevertheless, looking ahead, we’re bracing for the third quarter to compare poorly to last year’s strong third-quarter performance. Yet, our market intelligence reveals a number of deals in the pipeline that will be awarded later this year.

About the author

John is a proven executive leader with strategic, transaction and post-transaction experience. John has helped many large, global enterprises introduce and cultivate innovation as a part of the transformation process. Many of John’s projects have led to groundbreaking transactions, particularly in the UK Life and Pensions market, where John is a sought after C-suite advisor in the strategic sourcing of insurance operations. John has also conducted significant transactions in both IT infrastructure and applications environments. As a Partner and President, he sits on the ISG Executive Board and leads ISG EMEA and Asia.