Will more service providers go into bankruptcy?

In this post I mentioned that vendors are in a tight spot as both revenue and margins are hit by the current economic situation (like almost any other company with the exception those who can capitalise on the Mexican flu). In this post I provide my thoughts on the health of the vendor market and how clients can protect them agains a vendor which goes into a Chapter 11 situation. To start of first some recent figures related to the financial results of some BPO en ITO vendors:

• Getronics, provider of IT services, announced Q2 2009 revenues were down 1.3% to €531 million;
• Manpower, provider of human resource BPO services, announced Q2 2009 revenues down 35.7% to $3,796.6 million;
• Tech Mahindra, provider of IT services, announced fiscal Q1 2010 revenues down 16.3% to $228 million;
• Altran, an R&D and IT service provider announced Q2 2009 revenues were down 17.2% to €349.7 million;
• Transcom, provider of customer management services, announced Q2 revenues down 14.6% to 135.7 million;
• TCS, top ITO provider, announced fiscal Q1 2010 revenues down 2.9% to $1.48 billion;
• IBM Global Services, top ITO and BPO provider, announced Q2 2009 revenues down 11.6% to $13,446 million;
• Mastek, provider of IP-based solutions , announced fiscal Q4 2009 revenues down 14% to Rs. 214.1 Indian Crore;
• Wipro, top ITO provider, announces fiscal Q1 2010 revenues down 3% to $1,033 million.

There were however also some white ravens:

• Capita, provider of life and pensions BPO services, announced 1st half 2009 revenues up 10.8% to 1,310.7 million;
• Intrum, a credit management service provider, announced Q2 2009 revenues up 18% to $140 million;
• Polaris, software development provider, announced fiscal Q1 2010 revenues up 3% to $86 million.

With margins between 3% and 10% in normal years do American and European vendors typically not have a lot of room to build a healthy cash reserve to wither the storm and sustain negative growth scenario’s for a long time. The big well established vendors like Accenture, IBM, HP/EDS and Atos Origin will have enough fat on their bones to ride out the storm, but those companies that started their operations like five years ago and did not carve out a specific niche for themselves will be most likely to be or get into serious trouble soon. My arguments to support this statements are:

• In order to keep their order books filled will large vendors go after the smaller deals, increasing the competition for the SME vendor;
• It will be less easy for an SME vendor to get funding from banks as the ITO and BPO industry is considered to be a higher risk industry;
• It easier for a bank to say goodbye to a small-medium player than to a large player. Refusing to refinance 1 million of debt of an SME vendor creates a problem for the vendor, refusing to refinancing 1 billion in debt for a large vendor puts both the vendor and bank at risk;
• Companies outsourcing will look for ways to mitigate their risk by among others going for established, well known brands. This will increase the entry barrier for vendors which want to pitch for a request for proposal.
• Companies will try to reduce the number of redundant employees by laying them off, but especially in Europe is this not cheap. Giving employees an exit fee based on 1/2 to 1 1/2 month salary for every year they worked for the company may empty the cash reserves even faster than keeping them on the pay roll.

The impact for clients having contracts with the SME-vendors which will not make it through this winter will however be limited as there will always be larger players which will take over the client portfolio.

Weaker SME-vendors active in area’s which are complementary to the service or client portfolio of stronger players are likely to be either taken over by larger brothers or being bought by private equity parties. There are various interesting deals to be made for both larger players or PE firms as valuations are very low.

In the meantime I wonder who will follow companies like Nortel Networks (filed for chapter 11 bankruptcy) in January 2009), VoIP Service Provider Primus and internet/cable provider Broadstripe. In 2008 and in the United States alone, the companies filing for Chapter 11, and thus potentially your vendors rose at a rate 34% (compared to 2007). Three basic things you can do as a client:

• Do not put all your eggs into one basket and use a multi vendor strategy for those products or services which are critical for your operation;
• Keep an eye on your vendor and ask them to provide you information on their liquidity and solvency like every six months;
• Think about scenario’s related to a forced exit due to a bankruptcy of a vendor. Do not get caught by surprise, but be prepared.

Added August 12, 2009: Just some bankruptcies of the last week here in The Netherlands of small IT service providers: Snelcom IT Dienstverlening and PC Repair Man. Astragy went during this period into Chapter 11.