Managed Services deals continue to surprise: ISG Q422 Index Call Takeaways

13 Jan 2023 , 10:54 AM

Key takeaways include: 

• Managed Services ACV grew 2% on a YoY as well as QoQ basis in Q4CY22, while 2022 saw record deal activity in Managed Services worth USD37 billion+ on robust demand for ER&D and industry-specific BPO
• For CY22, Managed Services ACV beat ISG’s forecast of 3.5% growth, clocking 5.7% YoY. For CY23, ISG forecasts 5% YoY growth in Managed Services
• As-a-service ACV declined 12% YoY/3% QoQ in Q4, mostly due to Chinese hyperscalers; ISG builds in some slowdown in Cloud demand in CY23 in its 17% YoY growth forecast
• Attrition is stabilizing as freshers become billable and reliance on sub-contractors is reducing. Employee growth has returned to pre-pandemic levels, which can boost margins. 
• Overall, 2023 can surprise positively as a less hawkish Fed, China reopening, weakening USD, aggressive cost cutting and normalcy in supply chain — could augur well for IT spending.

Managed Services sees record activity in CY22

Managed Services saw the sixth consecutive quarter of ACV over USD9 billion. It grew ~2% YoY in Q4. Combined ACV declined 6.5%. Combined ACV in Americas grew ~1% YoY, led by strength in as-a-service market. EMEA declined 1.4% YoY, as Managed Services declined in the region. APAC ACV declined 33% YoY due to pressure in China, though Managed Services saw solid growth.

Other notables from the con-call

• Demand for Managed Services is resilient, though enterprises are focusing on cost optimization and near-term RoI projects
• Within Managed Services, strong demand for industry-specific BPO (+50% CY22 vs CY21), ER&D (+38%) and digital CX (+44%) and sizeable decline in legacy infra (-7% YoY/29% QoQ) continues. 
• As-a-service growth has been impacted by challenges in China. 
• Supply-side constraints have normalized and margin profile of providers could improve; however, specialized skills continue to demand a premium. 
• Pricing has not substantially changed, but enterprises are willing to pay a premium for services they derive value from.

Commentary by Indian IT firms indicates steady demand

Indian IT firms’ commentary suggests IT spending deterioration is not as bad as anticipated, while the deal pipeline has remained strong amid macro uncertainties. Analysts at IIFL Capital Services expect Indian IT Services sector to clock USD revenue growth of 9% in FY24 (versus 16% in FY22), which is still above pre-COVID levels. However, valuations are also above pre-COVID levels. Hence, analysts at IIFL Capital Services recommend to stay selective, with preference for Infosys/TCS (large caps) and Persistent Systems/LTI Mindtree/Cyient (mid-caps).