Will Wall Street Hurt SIs and Outsourcers?

Summary:Importance of Financial Services to the Consulting & Outsourcing IndustryWhile consultants and systems integrators have some enviable margins, these firms don’t always make huge profits as they employ expensive resources who aren’t always chargeable. In fact, these firms can be quite vulnerable to minor economic swings or the loss of a key client.

Importance of Financial Services to the Consulting & Outsourcing Industry

While consultants and systems integrators have some enviable margins, these firms don’t always make huge profits as they employ expensive resources who aren’t always chargeable. In fact, these firms can be quite vulnerable to minor economic swings or the loss of a key client.

Market research firms and investors have been grilling the management teams of leading systems integrators, consultants and outsourcers re: their exposure to financial services firms. Why is this such a concern?

Let’s look at the numbers. The average consultant should be 70+% chargeable. Most firms bill at 2.5 – 3X a person’s payroll cost. Assuming a 2080 work year, the person would be chargeable approximately 1456 hours. Assume this person earns $100,000 annually and bills out at $200/hour. This person generates $291,200 in revenue. Once salaries ($100K), benefits ($30K), vacation/holiday pay ($16K) and SG&A costs (i.e., sales commissions and salaries, administrative time, training time, office space, internal IT costs, etc.) of $90K are added in, this person is generating a $55,200 net margin.

But assume this person’s chargeability drops to 60%. All of the costs remain the same but the chargeable revenue diminishes to $249,600 and net margin plummets to only $13,600 – a 75% reduction. Large firms can support a few people experiencing diminished chargeability but even a modest reduction in chargeability can dramatically impact the financial statements of a services firm. This is why investors care so much about the impact of Wall Street banking failures on IT services firms.

Wachovia Capital this week produced a great table that examined the vulnerability of Accenture, BearingPoint, CIBER, Cognizant, Diamond, ExlService, Genpact, Infosys, Sapient, Syntel, Wipro and WNS on revenue from Lehman Bros., Merrill Lynch, AIG and Washington Mutual. This table was in their IT/BPO Services Weekly Monitor of 09/18/2008.

The table is reassuring as it shows that most of these firms have little or no exposure to the four financial services firms listed. However, the more distressing number was the percentage of fees associated with the BFSI vertical (banking, financial services and insurance). This ranged from a low of 5% (BearingPoint) to a high of 74% (Syntel). The average exposure was approximately 35%.

That represents a sizable dependency on a vertical with a large IT base. If the current softness continues in the BFSI space, systems integrators, consultants and outsourcers will feel pain. Who will get hurt and who will do alright?

The big winners in all this insanity on Wall Street will likely be: - lawyers - accountants - merger/acquisition consultants - restructuring consultants

The losers will likely be: - conventional systems integrators - offshore application developers - other service providers providing short-term or discretionary services

BPO (Business Process Outsourcers) and ITO (IT Outsourcing) firms may face some contraction in business as some clients may disappear outright (through business failure) or via acquisition. The surviving contracts will likely remain although some firms will no doubt shrink materially in size and the amount of processing provided by thier service firms will diminish.

Market watchers are correct to focus on this space and it will have an impact on a large number of service firms.

Service firms might seriously want to revisit their risk profiles, diversification strategies and alternative revenue sources for the next few years. This could get rocky…..

Topics: CXO, Banking, Enterprise Software, Outsourcing

About

Brian is in a unique position to diagnosis the winners and the losers in technology and services. He was the longest running (10 years) and most senior director of Andersen Consulting's (now Accenture's) global Software Intelligence unit - a position that required him to pick the best possible software solutions for hundreds of clients gl... Full Bio

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