Outsourcing: Multi-Billion-Dollar Mega Deals End in Breakup

Ten years ago in IT, Y2K had come and gone without catastrophe, security chiefs were grappling with the ILOVEYOU virus, and the dotcom bubble was bursting. But in the IT services industry, the year 2000 was notable for another reason--it was the year of the giant outsourcing deal.

A total of 24 IT outsourcing mega deals (multi-year contracts worth a billion dollars or more) were signed that year--more than the industry had seen before or since. All told, they were worth more than $54 billion, according to outsourcing consultancy TPI. They included the EDS-U.S. Navy contract worth $6.9 billion, the Bank of Scotland's $1 billion deal with IBM Global Services, and the $3 billion IT services contract between Nortel Networks and CSC.

The year 2000 was indeed a "defining year for the outsourcing industry," says TPI's director and chief research officer Paul Reynolds, and one that led to record profits for outsourcing providers.

To continue reading, register here to become an Insider. You'll get free access to premium content from CIO, Computerworld, CSO, InfoWorld, and Network World. See more Insider content or sign in.

Ten years ago in IT, Y2K had come and gone without catastrophe, security chiefs were grappling with the ILOVEYOU virus, and the dotcom bubble was bursting. But in the IT services industry, the year 2000 was notable for another reason--it was the year of the giant outsourcing deal.

A total of 24 IT outsourcing mega deals (multi-year contracts worth a billion dollars or more) were signed that year--more than the industry had seen before or since. All told, they were worth more than $54 billion, according to outsourcing consultancy TPI. They included the EDS-U.S. Navy contract worth $6.9 billion, the Bank of Scotland's $1 billion deal with IBM Global Services, and the $3 billion IT services contract between Nortel Networks and CSC.

The year 2000 was indeed a "defining year for the outsourcing industry," says TPI's director and chief research officer Paul Reynolds, and one that led to record profits for outsourcing providers.

But times have changed. "The outsourcing market today is vastly different than when the majority of these mega deals were signed," says Reynolds. In 2010, outsourcing contracts tend to be shorter in duration and smaller in value. The average total contract value of an IT outsourcing deal in 2000 was $360 million. Today, it's nearly a third of that, according to TPI.

What will become of the supersized IT outsourcing contracts of 2000? All signs point to some mega break-ups. (See The Demise of the Outsourcing Mega Deal.) Eleven of the 24 contracts signed in Y2K are set to expire this year, along with seven others signed in subsequent years.

"As large contracts approach their renewal dates, buyers in mature markets like the U.S. and U.K. are increasingly likely to divide the contract scope among multiple service providers," says Reynolds.

He predicts more of what TPI is now calling mega-relationships--deals with an annual contract value of $100 million or more--rather than mega deals.

"Outsourcing buyers are likely to continue signing shorter, more targeted contracts that are driven by cost-saving goals," says Reynolds.

From Outsourcing Mega Deals to Multisourcing

Increasingly mature customers, a more competitive IT service marketplace, and a greater acceptance of offshore outsourcing should lead mega-deal customers to unbundle their work, awarding it in separate contracts to specialized suppliers, a practice known as multisourcing. That's exactly what the Commonwealth Bank of Australia did when its ten year, $5 billion IT outsourcing contract with EDS wound down in 2007.

While the course of mega-deal relationships may not always run smooth--EDS's deal with the Navy, for example, hit some very public rough seas throughout the years--multi-sourcing is not necessarily a day at the beach for customers.

For many, however, the benefits of breaking up a big deal into smaller--and competitive--outsourcing relationships may outweigh the costs. "Spreading the work allows the clients to mitigate their risk and increase competition amongst service providers," says Reynolds. "The trade-off is that there is added complexity to the governance function, but many companies are willing to manage multiple delivery models in exchange for cost savings."