Wednesday, 27 February 2008

If it feels like a Bear. If it growls and bites like a Bear..Is it a Bear?

Sorry to recycle my headlines, but the “Downturn Question” is one that predominates all the industry conversation I have had recently.

In the last 5 days I've had 1-2-1 meetings with the CEOs of who run companies or divisions responsible, in total, for a significant part of the European IT services market. I could summarise every one of those conversations as follows.

“Richard, everybody tells me the economy is in for a bad time. Everything I sense would lead me to batten down the hatches – even start a downsizing programme. But, honestly, although we monitor it carefully I can find very little evidence in my own company of our customers cutting back their spend with us because of this”.

So, what is happening?

1 – The sub-sectors of the IT market now behave differently

There are many sub-sectors in the IT market and they are behaving differently. In most other IT booms (and busts) the sectors performed relatively in tandem as in “a rising tide lifts all ships”. But that is one paradigm which certainly doesn’t apply anymore.

Hardware – PCs in particular – is decoupled and already experiencing really tough times. In revenue terms in the US and Europe we might well already be in recession/decline.

New licence Software sales tend to behave in a similar manner to Hardware – they are similarly in for a tough time. (There are, as always, exceptions to this as I’m sure readers from Autonomy will be quick to point out to me!)

Existing software upgrades, however, can actually benefit from a downturn. The vast majority (around 90%) of the software market relates to product installed at least a year back. Indeed over 60% of software was installed over 5 years ago. So companies with high support revenues, established bases and ‘legacy’ systems can actually do well (ie see increases in business) in this climate as companies put off decisions on any change in software vendor.

IT Services covers everything from front end business consultancy (vulnerable), new systems design & development (another area at risk; except for projects with short payback periods) through application management (real ‘steady as she goes’ area whatever the weather) to ITO and BPO. These latter areas can also do well in a down turn as companies look to cut costs by outsourcing and/or screw their existing supplier for a better deal (particularly at renewal time) As in the conversation related at the start of this piece, the IT Services companies with high BPO/ITO/AM and other long contract/recurring revenues, have seen little or no effects of the downturn. Indeed Capita, for example, is one of those companies which might do even better in the current climate. Yesterday Xchanging announced its maiden results (see below) citing the current economic downturn as a reason why BPO in 2008 would be “an exciting place to be”.

2 – The geographies serviced by the IT market behave differently. But are they really now ‘decoupled’ from the US?

There are many geographies and, again, they are behaving differently – at the moment at least.
On the Best to Worst scales right now you would go from

- BRICs (Best)
- Middle East (still pretty strong)
- Continential Europe (obviously variations by country)
- UK
- US (Worst)

That’s why companies like HP and IBM (who both make upwards of 60% of their revenues outside the US) have not only reported pretty good results but have touted their global presence in their outlook statements. Oracle, Sun and Intel all get more than half their revenues from outside the US. Conversely, Cisco, Dell, Microsoft, Google, Apple and Yahoo all get the majority of their revenues from the US. In the case of Yahoo c70% from the US. This global exposure pretty much maps the confidence of their outlook statements – ie the more global they are the more confident they are! This seems to apply for the European players too. Against all the odds Atos Origin and Steria this week put out quite confident statements (neither has any real exposure in the US). Capgemini (which does) was more ‘cautious’ – although, to be fair, Capgemini also note that it could find no evidence of any downturn in its main European markets..

But will this ‘decoupling’ from the US last?

I have my doubts. For my 40 working years I have lived with the adage “When the US gets a cold, we get pneumonia”. I am pretty certain that will apply to the UK this time too. I think the effects on the rest of Europe will be less dramatic. The real question is what will happen in the BRICs? This is untested territory. In the last IT recessions, BRICs basically didn’t matter in market size terms. Now they do! Indeed, many companies are looking to the BRICs as ‘buck-the-tend’ markets to overcome the woes at home. I must admit to having serious doubts about the wisdom of this. But I have no previous experience to rely on so I’m going to wait a bit before making any judgement.

3 – “It’s the consumer, stupid”

I’ve made the point many, many times in the last few years that it has been the consumer not the enterprise that has driven tech spend. It’s easy to identify Apple or Nintendo with consumer tech, less obvious but none the less true to identify Cisco, Microsoft and Intel with consumer tech. Where more people would have problems is linking Accenture, EDS, Oracle and IBM to consumer tech. Even if the consumer tech link is not obvious, the consumer link is. These companies earn most of their revenues from customers who serve consumers – even Governments have to rely on consumers to earn the money to pay the taxes. So Friday’s news John Lewis shocks retailing with worst sales fall for year sent shock waves, not just through the rest of the retail sector – pushing shares in Next, M&S, Sainsbury’s etc all down significantly - but must ultimately have an effect on every part of the IT industry.

For how that might play out for these companies, GOTO 1 above and reread.

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