Phil Fersht
 
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The proposed Atos-DXC takeover is papering over some very deep cracks from a bygone era
January 10, 2021 | Phil FershtTom Reuner

The IT services market has arrived at its most critical infection point in 20 years, where the role of service providers that survive the Covid era will be those that have made the shift from support firm (Phase 1) to a business partner (Phase 2).  We've talked about this services shift ever since Tom Reuner and I were young analysts.  And we're not very young anymore.  Especially Dr. Reuner.  

So why on earth is Atos bidding to make some wild takeover of DXC?  Let's understand the burning platform driving this

When the first major tranche of IT support deals evolved to a heavy dependence on India as a delivery location to exploit lower-cost labor at scale, made possible by the original Internet revolution. In the early days of the offshore era, the more ambitious traditional IT services firms, at the time, developed their own global delivery models with the goal of staying relevant, in the face of emerging competition from the "Indian Pure Plays" (as they were known in those days).  This included the likes of Accenture, Capgemini, HP, and IBM - all of whom invested in India to attempt their own flavor of global service delivery with "added value" that the IPPs - at the time - could not (yet) deliver.  The traditional IT service firms which failed to invest effectively in the global delivery model, once-great brands such as ACS, CSC and EDS, all got acquired by traditional western outfits.  And the IPPs which failed to break into the Indian Top Tier eventually got rolled up into the second tier of traditional IT services shops, desperate to keep competitive, such as Patni, IGATE, and Syntel.  

Covid has forced the services industry to make the rapid pivot from bread-and-butter to business-transformation services

Getting to the point of this little history lesson, we need to understand the motivations behind these acquisitive moves.  Phase 1 was all about cost, scale, growth, and profitability as IT services firms could save the Global 2000 billions of dollars by exploiting cheaper talent at scale.  If you weren't in the game of pulling the cost lever - and adding above-average value somewhere to justify yourself to your clients - you either made a graceful exit to a willing suitor adding you to their own scale game - or chose to tread water and watch yourself get progressively smaller and desperate, until you got to a point where nones wanted to buy you anymore.  I'll share these firms' identities over a drink if you can't guess who there are already.

This new era of services (Phase 2) is seeing a clear bifurcation between the bread-and-butter services of the years pre-Covid - namely standard IT infra, app development and support, and BPO - and the present-day transformative services that run your borderless, work-from-anywhere business operations in the cloud, dependent on deep skills in data science, process design, automation, and most importantly, business logic and training people to become digitally-fluent. You can read our HFS 2025 Services Vision here.

The drawn-out Pandemic Era has forced the route into the cloud; it has forced processes to be re-designed and automated (or re-automated); it has forced enterprises to embrace rapid change, and it has forced the leading service providers to put their money where their mouths are or face a painful drain-circling experience as the bottom falls out of the traditional services model.

The new leaders in Phase 2 of IT services are rapidly emerging – and these do not include Atos and DXC.  

IBM is spinning out its legacy infrastructure business while Hyperscalers like Google are starting to win comprehensive cloud deals as in the case of Deutsche Bank. Furthermore, accelerated by the pandemic service providers are reorganizing their business around the cloud. In addition, we are seeing a spate of mega-outsourcing deals in the billions as the word’s fourth-largest economy, Germany, finally warms up to outsourcing by doing “big-bang” deals to the likes of Infosys, TCS, and Wipro, keen to exploit this market and strengthen for the expected recovery later this year, where we forecast growth of 5%+ across services markets.  Atos also got its piece of the action successfully extending its partnership with Siemens for another five years (see below), so this does beg the question why it needs DXC, as it clearly need to focus on making that shift from Phase 1 to Phase 2, and its very difficult to understand how a gargantuan merger is what it needs right now.  Simply put, this is probably the most complex services merger ever contemplated by two firms which do not have a great track record of large, complex mergers:

Against this background, the announcements that Atos and DXC are publicly reporting a potential takeover of DXC by Atos - in the region of $10 billion - are very surprising, as both firms have been struggling to keep pace with the market leaders for years, and Covid has not provided any respite for either, although DXC has shown some signs of arresting its decline under the leadership of Mike Salvino now in his second year at the helm. Having providers officially confirming takeover discussions is highly unusual, which indicates a merger could well be inevitable if the numbers add up to the stakeholders that matter. Yet, the central strategic question is whether there is an opportunity to consolidate and scale lower margin legacy businesses rather than focusing on investing in innovation.

Rather than getting bigger, these services firms need to spin off their legacy businesses.  This proposed merger is illogical.

Currently, HFS sees little value in merging these two firms together, as the only potential value is more in scale and geography, as opposed to deep areas of innovation where both firms are struggling in this tough market.  The muted reactions from Wall St tell enough of a story already – this whole merger proposal smells like a consolidation exercise that could be even less effective than the carnage caused when HP and CSC merged to form DXC in 2016.  What’s more, Atos has struggled to derive much value from its major offshore-centric investment Syntel, so the chances of an Atos-led juggernaut of mainly legacy services business-lines being effective are highly questionable. 

While we laud the value of OneOffice at HFS, this could be the antithesis version, with a hundred-plus 'offices' all grimly clinging to survival.  We believe the IBM model of spinning out legacy business lines from growth business lines is the smart way forward.  That is not to say a merged DXC and Atos could not pursue a smart strategy, but the simple fact that neither has done this to date gives us little confidence that they will.

So let’s take a look under the covers...

Atos and DXC are caught between a rock and a hard place: Losing out on recent large deals while having limited levers for margin improvement

The recent major contract wins of TCS at Walgreens, Infosys’ double swoop at Vanguard and Daimler, and Wipro at Metro paints a bleak picture. It is too simplistic to point out that some of these were asset-heavy deals as an explanation for the lack of success. In particular, in the context of Daimler, there is a strong cloud element and the synergies across the automotive ecosystem are immense in areas like supply chain, cloud agility and creating of data value. While in the Walgreens extension contract, a strong emphasis was placed on digital innovation. The key question for both providers is where revenue growth should come from as the anemic growth as Exhibit 1 highlights: 

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If topline growth is not the priority then margins have to be improved by either extreme efficiency of operations and/or deep investments in innovation. As our Triple Trifecta Services Top 10 has demonstrated, neither organization made it to the overall Top 10. Atos has strong investments in innovation and a solid vision but struggles around execution. DXC has not even made the Top 10 in any of the various categories. As such deeper investments in innovation but more importantly, the execution of it should be top of mind to Atos.

The deal logic appears to hinge on three pillars:

  • Finally, Giving Atos scale in the US market
  • Cross-selling between accounts
  • Aggressive cost take-out

Atos has a solid track record in M&A. While Syntel might have been fluffed, it managed to extract value out of stagnated businesses like Siemens, Xerox, and Bull. But we see the deal at best as a defensive move that would be buying Atos management time for other strategic moves. While Mike Salvino has stabilized DXC, he has taken over an organization that was demoralized and exhausted after continuous excessive cost-cutting and management change. . His task ahead is perhaps best illustrated by a comparison of operating margins. In Q3 2020, DXC was at 6.2% while Infosys achieved top-in-class with 25.4% and bellwether Accenture came in at 14.3%. Thus, the reported price of $10billion would represent a significant premium on a market capitalization of ca. $7.4bn that is likely to tempt shareholders to accept the offer. 

Atos needs to reinvigorate around innovation – not legacy

M&A is in Atos’ DNA. The company is built on perpetual acquisition activity. The extension of the Siemens outsourcing contract in September 2020 is testimony that it can extract value even from highly challenging acquisition targets. Yet, DXC both in terms of scale as well as the culture would be its biggest challenge to date. The acquisition would also come at a time where the company is going through an organizational restructuring dubbed SPRING. With that  Atos is moving from a largely horizontal go-to-market to one that is focused on verticals. OneCloud will be the first practice for this new organizational setup. Atos is late with a move toward verticalization and DXC is more advanced. But the key strategic issue goes beyond culture and integration. With the deal, Atos would become a consolidator of legacy businesses. Yet as Accenture and the Indian heritage provider demonstrate, value stems from moving aggressively toward innovation.

DXC is still suffering from its own ill-timed M&A

With a certain irony, DXC is still suffering from its ill-timed acquisition of EDS in 2008 at a time when the outsourcing market was shifting toward more discrete deals with a strong digital flavor. The margin erosion in ITO and infrastructure projects is still haunting DXC. However, in sharp contrast for instance to IBM, there is no RedHat in sight which could act as a catalyst for change. Rather Mike Salvino has evaluated “Strategic Alternatives” for three business units: the U.S., state, and local health and human services business; its horizontal BPS business; and its workplace and mobility business. The public sector business has meanwhile being sold while the other two units will be retained. But this process makes clear that the whole business model is under constant review. Despite more targeted moves like for Luxoft, it appears unlikely that DXC could turn into a consolidator. Therefore, its strategic options are limited.

Bottom-line: The consolidation of legacy businesses will make bankers and executive management happy, but it won’t transform Atos

While Atos might finally get to get to scale in the US, the proposed deal lacks imagination as neither firm adds much of the new world to the traditional world. The offshore component of both firms is not compelling when compared to any of the leaders.  For example, their capabilities across the emerging market areas of the OneOffice platform, such as ServiceNow, Salesforce, Pega, SAP S4 Hana and Workday are not leading edge, and business process services investments across both firms have long been neglected. Yes, Atos management might be buying time for a more incisive transformation, but the strategic headwinds are already immense. Clients are looking for trusted partners to accelerate the Phase 2 services journey toward the OneOffice. Doubling-down on legacy-at-scale is hardly a compelling pitch to move up the value chain.

OneOffice is all about anticipating customer needs before they even know what they are...
January 09, 2021 | Phil Fersht

OneOffice is all about putting the customer front and center by having end-to-end processes automated in the cloud enabling great AI to help you make winning decisions...

Introducing the Tech Stack to power Native Automation, Data and Process Design: The OneOffice Platform
December 30, 2020 | Phil FershtElena ChristopherTom Reuner

He's got the Cloud in his soul... his name is Joel
December 28, 2020 | Phil Fersht

Joel Martin heads for the Cloud with HFS to lead the Cloud strategies practice

It's funny when you meet these people across all corners of the globe during your career and you get that feeling that you'll cross paths again in the future.

I first met Joel in 2002 when I was a Bio-IT analyst (yeah, I actually did that) in Australia working for IDC and Joel was running the PC tracker for the ANZ region.

Fast forward 19 years and Joel, and after his 10-year IDC stint, a couple of cyber-security and research startups; and a product marketing stint at Microsoft, got in touch about something that had nothing to do with the role for leading our new Cloud Practice was being advertised...   I even asked him if he knew anyone when I thought "Hang on Joel, what are you doing these says...".

To cut a long story short, Joel is now our first permanent Canadian employee, based in tropical Ottowa, with 2 daughters, (tries to) play guitar, and has mastered Bar B Qing at -20C. He has lived and worked all over the world and somehow still ended up in Ottowa.  But that's OK because we now officially have HFS Canada!  He is also leading HFS' new Cloud Practice to help the big pivot into the virtual work-anywhere world.
 

Phil Fersht, HFS: Before we get to all the work stuff, Joel, can you share a little bit about yourself….your background, what gets you up in the morning?

Joel Martin, Vice President Cloud Strategies, HFS:  Great question Phil, thanks for asking. 

About me, well, I like to think that I am a classic overachiever. I have built a career from a humble beginning to one that has allowed me to live, work, and experience cultures and peers in Europe, Asia, Australia, and North America. I love immersing myself in a new culture, have been fortunate to lead operations, sales, and research teams across the world, and thoroughly enjoy the customers I have engaged in finding new revenue opportunities. 

I grew up in a small town in the United States, proud son of a Red Cross executive. As such, I got involved in community service from an early age, which continues to be important to me. Travel is something that I also grew up with, as early in my life, we lived in Germany and then across the U.S. 

While at university, I built a partnership between the University in Leipzig and Houston, leading to my joining an international student-led program based out of New York City. This allowed me to travel extensively in Eastern Europe in the early and mid-90s, and honestly, I haven't looked back. I started my technology career in Prague, Czech Republic, with IDC in 1997 and moved to Australia in 1999 and Toronto in 2004. Building a career in research, consulting, and practice leadership. Then I moved to Microsoft, where I was product marketing lead for the ERP business for Canada. In fact, I was part of the initial plans to move that product to the Cloud. After that, I was recruited by TechInsights, an Ottawa based Intellectual Property firm, to lead global marketing and product management. During this stint, I was part of the executive team that sold the business to a Private Equity firm and was retained to build exit strategies for different business lines. 

During this time, both the company and the business I led went through significant digital transformation, taking our products and systems to the Cloud. This was a major undertaking as we fundamentally changed our financial, operations, HR, and customer-facing tools and experiences. That was 2015-2016, hard to believe nearly 5 years have passed. 

Over the most recent 3 years, I ran workshops, managed client engagements, and wrote blueprints on building better supply chain relationships. I also supported a new program that focused on the impact of emotional connections between users that the software tools they use. Our hypothesis was that it is essential to look beyond the capabilities and features and understand what emotions drive satisfaction—a crucial component for marketing, sales, and buyer synergies. 

Now I am excited to join HfS! As you and I worked together in the early 2000s in Sydney, while our paths diverged, we've found ourselves working together again. 

As for what gets me up in the morning, I am an early riser, so after that first coffee cup, I like to explore problems with a fresh perspective. You know, before the in-box and to-do list from your boss dulls your creativity.  

You've had a very global analyst career spanning several countries and continents... can you share some of your experiences over the years... what would you do all over again, and what would you definitely avoid?

When I look back at the crazy times of hitchhiking between meetings in Eastern Europe in the 90s to negotiating with a crooked cabbie in the middle of the night on a highway in China about the fare, there are undoubtedly many memories. And many things I would AND WOULD NOT do again! 

The most important thing I always found while working abroad was being willing to listen. Not just to the customer or executive in the meeting, but to the colleagues, cabbies, and folks you meet while spending time in their country. Understanding another's views based on their experiences, society, and culture has allowed me to apply my experiences in ways that have built more successful outcomes. In my experience, we often rush into conversations with our opinions and should take more time to listen. 

So I do my best to avoid talking until asked. Instead, encourage the sharing of experiences, challenges, and opportunities. By making this investment, together, we can then build a prosperous relationship. Without doing so, it can be hard to establish the trust needed to collaborate equally and fruitfully. 

How did you end up back in research after spending time with Microsoft?  

My career's second decade was on the supply side of the market. At Microsoft and TechInsights, I succeeded in developing products, managed partner programs, and delivering on go-to-market strategies. Something I'd advised on in my first decade at IDC, but with little

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HFS Vision 2025 is here: The New Dawn to become a OneOffice Organization
December 07, 2020 | Phil FershtReetika FlemingMelissa O'BrienTom ReunerSaurabh GuptaElena ChristopherSarah Little

And here's an hour of my life I thoroughly enjoyed. I hope you to do... with Cognizant CEO Brian Humphries.
December 01, 2020 | Phil FershtSteve DunkerleySarah Little

Infosys can save the UK from Economic Fossilization. Here's how
November 30, 2020 | Phil Fersht

In today's world of constant fake news it was refreshing to get some real news that literally made me choke on my 57th microwaved frozen chicken jalfrezi of the year.  The fact that this real news emanated from the Daily Mail (the UK equivalent of the New York Post or Air India's in-flight magazine) was an indicator of how bad today's media has become.  Also, the fact that my head of marketing actually reads the Daily Mail gives me serious concerns for our 2021 marketing strategy... 

Anyway, let's get to the point.  Our Chancellor of the Exchequer (CFO for you corporate types), "Dishy" Rishi Sunak is married to the daughter one of India's IT industry's founding godfathers, none other than Akshata Murthy, daughter of Narayana Murthy, the man who created Infosys.  Like that happened and no one's noticed until someone at the Daily Mail discovered this... and they wed in 2009.

The UK is in a mess so bloody big we need to redefine "mess"

If a depression-driven Covid catastrophe wasn't bad enough, the mother country is going into a catatonic depression so bad, it may lead to an economic fossilization (that is my term for something worse than a depression) when we throw a no-deal Brexit into the mix... due end of 2020.

Anyone observing the thrilling performance of the Indian-heritage service providers this year will observe how the leaders have somehow kept the IT outsourcing industry actually growing a little bit, despite a predicted 8-10% nosedive that analysts many predicted.  And this owes a huge amount to its standout performer of 2020, Infosys, which has chugged along signing megadeals and reinforcing its commitment to the cloud at a time when enterprises are desperate for a partner to help them pivot at breakneck speed into the cloud model.

Anyway, as a disillusioned British born analyst (and global citizen) I suddenly see hope...

I have a lot more faith in these entrepreneurs from Bangalore than the current old-boys network running Her Majesty's economy into the ground.  I always knew Rishi was the only smart one in there, and now we have the evidence.

So... now good old Infosys has no choice butto bail us out as they married into... the UK!  

I am sure they will appreciate some free advice on the governance team that can drag us quickly out of our current predicament, so here's an initial strawman architecture:

UK Prime Minister:  Ravi Kumar S.  No one spins it better than old Ravi... all he has to do is bulldoze our media with pics of his new baby girl all over twitter and have us guessing forever on the mysterious "S"...

Chancellor:  Pravin "UB" Rao... this man can keep a ship sailing through any storm.  This current crisis stuff is child's play compared to rogue CEO's in private jets and dodgy Israeli automation purchases..

Head of the UK Coronavirus Task Force:  Vishal Sikka... time to dust off the former CEO to convince the UK public that we needn't worry about Covid as "AI will provide the answer" (after showing up 30 minutes late to every briefing).

Brexit Secretary:  Salil Parekh... who better to carve us out of the EU than the king of the carve-out deal himself?  He'll even do the deal on the golfcourse showing the rest of Europe how it's done.

Head of Cybercrime:  Mohit Joshi... who better to arm our cyber-defenses than the man who can iron-wall any bank still running on Cobol mainframes?  Easy, just move all our sensitive data onto Finacle and the Russians and Chinese will go crazy trying to figure out what the hell we just did...

Vaccine Distribution Czar:  Radhakrishnan "Radha" Anantha... who better to command the British vaccination process than InfosysBPM kingpin Radha himself, who will ensure everyone needs to "calm down and just focus on the outcomes".  If things get a bit dicey, he will take questions from his kitchen where we'll be far more interested in what on earth his kids are sneaking out of the fridge while he's too busy talking to us...

But what about Rishi himself?

Oh, he's far too smart for us.  Can't you get him to take over from that Modi guy?  Rishi makes money appear from magic, you know?

The Agile Gabriel calls the leaders who'll take you into the Cloud faster
November 17, 2020 | Phil FershtMartin Gabriel

Today's environment is based on rapid decisions to move processes and apps into the cloud as fast as possible to keep companies functioning in a remote-working economy.  That means it's all-hands-on-deck to use all available resources to make this happen as cost-effectively as possible.  The principles of agile development have never been as important.

Cloud computing is basically the Internet being used as the system for delivering processes, software, data, and other services.  Being ‘agile’ means being able to use all resources as and when required. It also means not having to use them when not being used, and not pay for them. So how can we expect today's service providers adopt agile development to help our enterprises make the leap to the cloud as effectively and rapidly as they can? Let's ask HFS analyst Martin Gabriel who led the recent Top 10 report in Agile Development Services:

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Martin - why has agile become so talked about in the recent past?  Hasn’t this been around for ages?

Yes, that is very much true. In a nutshell, due to the following reasons, it took center stage – a) Because of the agile success rate in software development space, and b) the traction in organizational agility. It has proved that agile methodology enhances productivity and alpha,

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So what's coming coming next folks? Stay tuned right here as the fogs clears for the New Dawn...
November 14, 2020 | Phil Fersht

Chatting to Vinnie Mirchandani on how the IT and business services industry has coped with a pandemic
November 09, 2020 | Phil Fersht

One of my oldest blogging sparring partners is the gnostic Vinnie Mirchandani of Deal Architect fame.  We caught up a few days ago to talk about the impact of Covid on the services and outsourcing industry, how to lead through these challenging times, and how to embrace the faster, cheaper, more competitive tenets of digital to exploit these market conditions: