As financial results that reflect a full quarter in the shadow of the COVID-19 pandemic are being released by IT service vendors, one of the key themes is that while discretionary budgets are being hard hit, clients’ investment in migrating to the cloud is not slowing. For vendors, clients’ cloud adoption has acted as a mitigator of other areas where clients have delayed new programs or delivery has been slowed by the move to remote working. Some specific examples:

• While IBM saw revenue decline across its other services, it reported strong growth in its cloud business (in part driven by its acquisition of Red Hat)
• TCS highlighted cloud as a growth driver, with its pipeline reflecting accelerated enterprise-wide adoption of cloud
• Wipro highlighted demand being driven by 3 Cs – cloud, collaboration and cybersecurity.

The reason for this is clear: companies are focusing on reducing operating costs in the face of uncertain revenues and an unknown economic recovery timeline. They are also looking at a significantly more distributed workforce for the foreseeable future.

Cloud migration is rising even in sectors that have historically been slow to adopt cloud. Financial services has long been a laggard in cloud adoption due to the myriad regulatory and security challenges, but this month has seen large cloud engagements announced by HSBC (with AWS) and Deutsche Bank (with GCP).

Cloud has long been one of the fastest growing, and most hyped, areas of IT services. But NelsonHall research shows that despite the ubiquity of cloud in discussions of IT services, it still has a long runway of adoption among large enterprises. And the approach to cloud migration is seeing changes that impact how IT service vendors shape their cloud offerings and capabilities.

Hybrid Cloud Penetration Still Has Room to Grow

NelsonHall research into the priorities and focus areas of over 1,000 IT service buyers globally conducted earlier this year revealed that while cloud has been a focus area, there is still considerable growth remaining.

Globally, our survey shows that just over a third of large enterprise infrastructure landscapes are housed in the cloud today, very much in line with the planned adoption rate identified in previous NelsonHall surveys. But our most recent survey indicates that buyers are now expecting to house 42% of their landscapes in the cloud by 2022.

And hybrid cloud will remain the dominant cloud adoption strategy going forward.

Vendors Need to Evolve Cloud Capabilities

While cloud adoption shows no signs of slowing, it is important to realize that how cloud is being adopted is changing. Whereas early cloud adopters focused on lifting and shifting existing applications, standing up non-critical or non-production workloads or adopting common SaaS-based enterprise applications, clients are increasingly focusing on more tailored cloud adoption to drive higher return on investment.

The first major shift is the increasing importance of cloud-native. In 2018, NelsonHall estimated 23% of cloud migration work focused on cloud native development and projected this would rise to 32% by 2020. In our more recent survey, the most commonly prioritized characteristic that buyers seek in their vendors is cloud-native development capabilities. This is highly important to 81% of buyers globally and is the highest prioritized capability in nearly all of the 18 sectors we analyzed.

The other major priority shift is the greater specialization or tailoring that buyers are looking for in SaaS-platforms. Adoption of SaaS-based applications has been a consistent priority for IT service buyers for some years now and this continues to be the case, with 66% of buyers placing high importance on implementing new SaaS solutions. But clients are now looking for SaaS products tailored specifically to function or sector requirements. After cloud-native development, prioritized vendor capabilities include vendors that bring their own digital application offerings and have in-depth knowledge of sector-specific digital offerings.

In short, buyers increasingly aren’t lifting and shifting to the cloud just to realize some level of infrastructure cost reduction; they are looking to leverage the cloud to improve their application landscapes through more tailored adoption strategies. They need vendors that can develop a customized cloud adoption roadmap which combines commercially available SaaS products that address specific needs and, when those aren’t adequate, the replacement of on-premise applications with custom cloud-native developed ones.

Vendors Need to Continue Cloud Investment

All of these trends provide a blueprint for IT service vendor investments to ensure maximum relevance for their clients. IT service vendors need to be building a bench of resources with cloud-native development capabilities as well as cloud consulting capabilities. They also need to be investing in an understanding of SaaS offerings that are tailored to specific sector or business functions as well as exploring developing their own niche applications for areas where they possess strong capabilities and client relationships. Cloud adoption may be maturing but it still has a long way to go, and this is one area where the pandemic has only increased demand.

David McIntire, IT Services Research Director, talks about NelsonHall's recently completed market analysis project on Cloud Advisory, Assessment, and Migration Services. In this vlog, he touches on the changing nature and scope of large enterprise cloud adoption, market size and growth, and where IT services vendors are focusing their investments.

Over the last several years, the public IaaS market has grown rapidly, with major public IaaS providers growing at 45% or more annually, as estimated by NelsonHall. However, large enterprises are only moving a small portion of their application landscapes to public cloud, maintaining larger application footprints in private cloud or on-premise environments.

This hybrid approach reflects an unwillingness to treat all workloads across their application landscape alike. The applications being migrated to public IaaS providers have frequently been non-production, disaster recovery, or non-critical workloads, as well as external-facing applications with significant fluctuations in demand.

However, as public cloud offerings mature, the migration of enterprise workloads to public IaaS has grown, both in quantity and business criticality. And, similar to the overall public IaaS market, the largest target for enterprise application migrations supported by IT service vendors has been AWS.

NelsonHall estimates that, in 2017, client migrations by IT service vendors to public cloud providers were in the following proportions:

While AWS maintains a dominant position in the overall public IaaS market, when it comes to large enterprises migrating their existing application landscapes to public IaaS, AWS is potentially vulnerable to losing market share to competitors. Much of this is driven by competitors’ growing capabilities, but another factor is AWS’s parent, Amazon.

Competitive threats

A tougher competitive environment could reduce AWS’ position as the default option for public IaaS. Some specific competitive threats include:

• Microsoft Azure, the second largest public IaaS provider, launched its Azure Stack offering in mid-2017. Azure Stack targets clients looking for a hybrid cloud, as most large enterprises are. Azure Stack offers paired public and private IaaS and PaaS offerings so that workloads can be moved between public and private environments with minimal modifications, and a common set of tools can manage applications across both
• Google Cloud Platform, which has undergone a major drive to grow its public cloud presence. Recent wins at Shopify, Williams-Sonoma and Home Depot reflect Google’s increasing clout in enterprise public IaaS
• Oracle, which was also slow to offer IaaS but is expanding its focus in this area. With a large footprint of clients with Oracle business applications that can be addressed, Oracle has an opportunity to grow rapidly.

However, these challenges might not impact AWS nearly as much as AWS’ parent itself.

Amazon’s impact

With Amazon’s dominant presence in retail and publishing, and its growing presence in media and entertainment, other companies in these industries don’t want to help fund their own competition – and these companies are increasingly looking to alternative cloud service providers (CSPs). IT service vendors are seeing a rise in companies either looking to migrate to other CSPs as alternatives to AWS, or even moving early-migrated workloads off AWS due to the competitive position of Amazon. As noted above, three of Google’s highest profile recent wins are all retail organizations.

This interest in alternatives to AWS by their clients is driving IT service vendors to expand their relationships with other public IaaS providers. For example:

• Oracle: Infosys has developed end-to-end Oracle Cloud offerings spanning SaaS, IaaS, PaaS and lift-and-shift for on-premise legacy applications. Also, LTI is focusing on building out a suite of offerings for Oracle Cloud
• Google: While nearly all IT service providers possess a strategic partnership with Google, TCS has a strategic relationship with Google driven by CEO-level engagement, and estimates it has delivered services on Google Cloud platform for ~35 clients. Also, EPAM has used its relationship as service provider to Google itself to develop Google Cloud offerings.

Summary

AWS appears poised to continue to dominate the overall public IaaS cloud market. However, when it comes to large enterprise application migrations, AWS is facing increasing threats, including those driven by its own broad business footprint.

CSS Corp. is a privately held Milpitas, CA-headquartered IT services and tech support vendor that NelsonHall estimates had revenues approaching $200m in FY16. The company has a new leadership team, many of whom are ex-Infosys, and it is now looking to expand beyond its core technical support offerings into the growing digital transformation and cloud migration market. 

CSS Corp primarily works with consumer-facing industries, with NelsonHall estimating that ~95% of its revenue derives from clients in retail, CPG, media/entertainment, telecom and high tech sectors. This is a client base that is aggressively pursuing digital transformation and cloud adoption, with an appetite for migrating existing production workloads, including core applications to cloud environments. These initiatives are also frequently originating outside of the CIO’s office on the business side where primary objectives are focused on customer satisfaction and revenue growth rather than operating cost reduction. CSS Corp is being aggressive in developing assets to support this workload migration.

To support clients’ adoption of public and private cloud environments, CSS Corp has developed a suite of tools to automate activities supporting cloud adoption, including:

• Assessment and planning: CloudMAP
• Migrating to the cloud: CloudPATH
• Management of hybrid cloud ecosystems: CloudDRIVE

CloudMAP

CloudMAP is used to help support decision making to determine how, where and when to migrate workloads. It is the evolved version of the CRAFT tool that CSS Corp has been using for ~3 years. Through an analysis of business processes, information flows, application dependencies, and technical architecture, CSS Corp uses CloudMAP to develop a migration plan. This plan includes:

• Optimal hosting strategy for different workloads
• Activities necessary to make each workload cloud-ready, whether it is rehosting with minimal changes, refactoring for scaling and performance, or replatforming to cloud native platforms
• Timing and effort of each workload’s migration.

CSS Corp says the CloudMAP approach has enabled clients to realize ~40% cost reduction in the assessment and planning and ~30% reduced time to market. 

CloudPATH

CSS Corp employs its CloudPATH playbook to support the migration of workloads to the cloud. CloudPATH is a suite of templates, tools and artifacts that are pre-built to support specific types of migrations, including:

• Windows and Linux workloads
• VMware workloads
• Oracle workloads
• Storage and DR
• Analytics as a service
• Full-stack, business service solutions such as e-commerce or digital marketing stack and content delivery on the cloud.

CSS Corp has partnered with cloud native providers such as CloudEndure, CloudHealth Technologies, SoftNAS, PlateSpin Migrate and Dome9 Security. CSS Corp says its clients are realizing 30-50% reduction in the migration effort through the employment of these assets.

CloudDRIVE

CSS Corp’s CloudDRIVE leverages ServiceNow and technologies such as Nagios and Solar Winds for monitoring and alerting,  and CSS Corp’s automation platform and analytics engine Active Insights.

CloudDRIVE automates hybrid cloud management functions including:

• Health and performance checks
• State and change monitoring
• Event processing and analysis
• Process management
• Orchestration, provisioning and brokering
• ITSM
• Predictive analytics.

CSS Corp estimates CloudDRIVE drives 30-40% operational efficiency improvements.

These offerings are the core from which CSS Corp is looking to evolve its client relationships from pure technical support to being a digital transformation partner. 

Unsurprisingly, given its investment in, and focus on, Watson, IBM declared at a recent Alliances Analyst Day that 2016 is 'the year of cognitive'.

The intent of the meeting was to look broadly at how IBM is working with its key alliance partners, including SAP, Oracle, and Microsoft, and it is clear that IBM’s focus is on incorporating cognitive capabilities and broadening the suite of industry-targeted offerings with each of its alliance partners. Here I take a look at how this is taking shape.

SAP

SAP is IBM’s largest and most mature alliance, with ~36k IBM resources focused on SAP. IBM perceived that its SAP offerings, and in particular SAP HANA S/4, were behind the market a year ago and has invested in improving its capabilities. In pursuit of this, IBM is working with SAP to expand and mature its offerings, particularly in digital transformation. Investments include:

• 40 resources from IBM and SAP collaborating on building out offerings
• $1m in marketing
• Two digital transformation centers (Palo Alto and Waldorf).

To demonstrate commitment, the boards of both companies have been receiving regular updates on the progress of these offerings. With a target for CY 2016 set at 50 new S/4 HANA engagements, as of June, the companies had already signed 52 new engagements.

IBM is positioning against its end-to-end capabilities, in particular its capabilities in digital and enterprise application services, and especially large, complex engagements spanning multiple offerings requiring flexibility of financial approach. One of the case studies presented was an engagement in which IBM was brought in to complete an SAP migration that had hit problems.

But its biggest focus area and differentiator is its ability to integrate cognitive capabilities on top of SAP functionality tailored to specific industry requirements. Given IBM’s focus on cognitive solutions and the relative maturity of Watson capabilities, layering cognitive directly on EA solutions can act as a differentiator versus other IT service vendors, focusing their machine learning capabilities internally to improve processes such as application development and incident management. An example is the integration of its MetroPulse product with S/4 HANA Retail, to leverage cognitive capabilities (including data from the Weather Company) that enable retail companies to identify hyper-local demand and adjust inventories appropriately.

Oracle

IBM’s Oracle practice represents its second largest EA alliance. It has certified ~1500 resources in Oracle Cloud applications, with a target of 2k certified resources by end of the year. Over 5k resources have received training virtually from the Oracle University.

IBM is working with Oracle to develop horizontal Cloud Enablement offerings and has so far developed the following:

• Budgeting and Planning Cloud
• CX Sales Cloud
• CX Service Cloud
• ERP Financials Cloud
• HCM Cloud
• Innovation Management Cloud
• Procure to Pay Cloud
• Procurement Cloud
• Source to Contract Cloud
• Transportation Management Cloud.

This investment in resource skills and offerings has begun achieving results, with IBM realizing a 275% increase in Oracle cloud services YoY. It has 50+ Oracle Cloud engagements across 30 clients currently active, and cloud engagements represent 20% of its total Oracle EA revenues in H1 2016.

As with its SAP offerings, IBM is focusing on embedding cognitive capabilities and developing industry-specific digital transformation offerings with Oracle. It is building out 30+ offerings across ten industries such as Oracle Banking Digital Experience, Cognitive Electronics, Digital Retail, and Insurance on the Cloud. Additionally, it is looking at integrating Watson and Oracle to create new offerings to be formally launched in the coming weeks, including:

• Watson Procurement Intelligence
• Field Tech Services
• Talent Advisor
• Financial Smarter Advisor.

IBM is targeting 7% revenue growth across Oracle EA offerings through the end of the year, as well as growing to a total of 45 Oracle cloud clients.

Microsoft

IBM’s newest EA alliance is with Microsoft, a partnership that is ~2 years old. IBM views its Microsoft offerings as providing, unlike Oracle and SAP, a means to target smaller and mid-sized companies. IBM’s Microsoft practice has ~4,400 resources, and 75% have received Microsoft certification.

An example of IBM’s commitment to growing its Microsoft practice is its recently announced acquisition of Optevia, a small U.K.-based consultancy (~40 FTEs) focused on helping public sector clients implement Microsoft capabilities. While Optevia’s footprint is primarily U.K. and Europe today, it is expanding with an engagement in the healthcare space in the Middle East as well as pursuing work in North America, Spain, and Southeast Asia.

IBM’s Microsoft group spans Microsoft offerings across big data and analytics (Power BI), enterprise applications (Dynamics, AX, CRM), mobile enterprise and collaboration (Office 365, Lync Server, Skype for Business) and application development and cloud (SQL Server, .Net, Visual Studio, Azure).

IBM’s Microsoft offerings leverage cognitive capabilities across a number of industry verticals, including:

• Banking CRM
• Insurance CRM
• Constituent Engagement (Local government essentials)
• Auto Retailer
• Next Generation Field Services.

One particular area of focus beyond the expanded integration of cognitive capabilities is Surface Business Transformation, an initiative to leverage Surfaces and develop enterprise applications for them based on Windows 10. An example of this is what IBM refers to as a ‘Meet and Greet’ app. For example, rather than a bank waiting to interact with customers once they reach the teller window of a bank, an associate armed with an enabled Surface can meet them at the door, pull up their information (as the Surface connects to a CRM server in the back) and provide immediate guidance and support. IBM is the exclusive Microsoft partner for the banking, retail, and consumer packaged goods industries.

IBM is also looking at building out its cloud and application management capabilities in support of these offerings.

Cloud

With cloud hosting and management a strategic priority for IBM in addition to cognitive, IBM is looking to integrate its cloud services with its alliance partners. One facet of this is IBM’s introduction of Cloud Management Services for SAP and Cloud Management Services for Oracle. These services integrate IBM’s cloud managed services, including support and uptime service levels, with SAP and Oracle software.

IBM is trying to move cloud discussions beyond the IT department. It is slowly seeing business executives engage on cloud projects and it sees the presence of a change agent as a key driver for realizing the value of cloud investments. Case studies discussed included new senior leadership coming in and divestitures as examples of drivers that resulted in the transfer of workloads to cloud environments.

Application Management

While IBM’s traditional application management business may not be trumpeted as frequently as its strategic imperatives, application management still accounted for ~19% of revenues in Q2 2016 and those services are evolving to take advantage of the new capabilities offered by cognitive.

IBM introduced its Agent Assist around a year ago to its support teams or us in to diagnosing and resolving incidents. EA is a key target area for Agent Assist, and IBM has built a standard knowledge base across SAP that can be implemented at the onset of an engagement and then expanded over time with client-specific information. Agent Assist is being deployed across 500 application management services accounts with over 5k resources are being trained on it. The next step will be a fully cognitive automation platform that not only identifies the resolution to an incident but is also capable of resolving incidents without human intervention.

For application development work, IBM is introducing Coding Assist, to facilitate developing common code blocks for ABAP, BI, and HANA.

These technologies are not intended for IBM consumption alone, though; as their maturity increases, IBM is looking to turn these into client-facing as a service products.

The rise of self-service provisioning and automation of public cloud environments gives companies autonomy in managing their infrastructure and flexibility in meeting fluctuating capacity demands. From the perspective of an IT service provider, however, if clients can provision new cloud environments in a few minutes and then use the same screen to orchestrate and manage that cloud environment directly from the host, does an IT services provider play the same critical role in managing infrastructure as it once did?

NelsonHall has found that rather than decrease in importance, the role of IT service providers may actually increase as clients move to cloud-based infrastructures. There are three main drivers of this:

• The need for help in developing and executing a migration plan
• The complexity of managing hybrid cloud environments
• The use of cloud as a foundation for broader digital transformation

Advisory & Migration Services Critical

Whereas, a few years ago, public cloud environments were used to host non-critical or non-production environments such as development or test, companies are increasingly looking to leverage cloud environments as broadly as possible across the enterprise.

Accordingly, IT service providers recognize the criticality of getting engaged in cloud advisory and migration for their clients. ~60% of the vendors profiled in NelsonHall’s recent Cloud Infrastructure Migration & Management project have made investments in cloud assessment automation tools and ~65% have invested in migration automation tools. The majority (~60%) also have PaaS offerings, based on open-source tools such as Cloud Foundry and OpenShift, to support developing cloud-native applications.

IT service providers are positioned to drive the process of defining how to disposition various workloads, including replacing existing applications with SaaS solutions, developing new cloud-native applications, or migrating existing applications to cloud environments, as well as where each should be hosted (public cloud, private cloud, on-premise) and have developed tools and methodologies not available within any single company.

In particular, IT service providers are increasingly investing in automation tools, such as AppDynamics Application Intelligence Platform, to enable the discovery and categorization of application landscapes, producing detailed migration strategies. These automation tools can reduce assessment and migration planning effort by 80-90%, with case studies showing effort that was measured in weeks and months now measured in hours and days.

IT service vendors are also leveraging broad application-migration resource pools in low-cost locations, as well as automation tools such as NetIQ’s Platespin, to accelerate the migration of workloads to cloud environments.

In addition, IT services vendors are managing to capture significant cloud management revenues from application assessments and migration services, with vendors typically reporting from 40% to 80% of their on-going cloud hosting and management engagements arising from advisory and migration engagements. These migration projects are increasingly where vendors build the knowledge and develop the relationships necessary to provide on-going support of cloud-based environments and the workloads that reside in them. For example, TCS, solely targets its cloud management services at clients with which it has an existing relationship, or at organizations for which it provides cloud advisory and migration services.

Managing Complexity in Hybrid Clouds

Large, established companies have found that there is not a one-size-fits-all cloud solution, so hybrid clouds spanning public cloud environments, private cloud environments, SaaS products, and legacy on-premise applications are becoming the norm. Management consoles that enable a company to provision, orchestrate, and manage across a variety of cloud environments through a single interface are critical for consistent IT infrastructure management in this new complex cloud environment.

For example, AWS sees IT service vendors playing a key role in driving clients on the hybrid journey: assisting clients to re-factor legacy applications to operate in the cloud, building new cloud-native applications, and providing the management of cloud environments across AWS and private clouds. NelsonHall estimates that ~40% of AWS’ large corporate clients are leveraging a third party service provider to manage their cloud environments.

Indeed, all 14 vendors profiled by NelsonHall have developed cloud management systems leveraging tools such as Chef, Puppet, ServiceNow and other tools, bundled into single proprietary toolsets that automate management functions and can be leveraged at centralized low-cost delivery centers.

Migrating to cloud environments and leveraging these automated management consoles has enabled companies to typically realize a 30%-40% infrastructure hosting and operating cost reduction and a drop in the time to provision new environments from weeks to hours.

Enabling Digital Transformation

While companies are looking at hosting workloads in the cloud to reduce operating cost, in many cases that is not the sole objective. NelsonHall’s Cloud Infrastructure Migration & Management study identified the use of cloud as a foundation for a broader digital transformation as a key driver of cloud adoption. Indeed, in ~19% of instances it was listed as the primary objective.

As consumer expectations for personalization and agility grow and new cloud-native companies become competition, digital transformation is a major focus area for most established companies. These digital transformation initiatives are broader strategic programs that often begin with migrating and managing workloads in the cloud.

While the value of cloud-hosted environments is measured in reduced infrastructure and operating costs, broader digital transformation initiatives typically measure success in client-facing and strategic objectives such as speed to market for new products, improved customer service, and ultimately increased revenue.

Accordingly, IT service vendors with a consultative and applications-centric heritage typically position their cloud migration and management offerings as components within a broader digital transformation service rather than as key ends in themselves.

Furthermore, given these critical roles that IT service providers play in supporting client cloud journeys, it doesn’t come down to making a fundamental choice between IT service providers and cloud hosters, as might be assumed. There are key complementary roles for both. 

• Revenue £4,288.1m up +5.6%, up +6.7% at constant currency (CC)
• Operating profit was £143.8m, a margin of 3.4%, down 330 bps

The decline in profits was anticipated with a warning given by the company to this effect only a few weeks ago. In this period, Serco reported a net exceptional charge of £90.5m, reflecting principally the Electronic Monitoring settlement and one-off costs, together with an estimated £21.0m of other indirect costs in relation to the UK Government reviews.

As forecast by the company in its H1 announcements, growth slowed down, in H2 2013. In fact it halved.

Contract wins in H2 2013 included an ITO contract extension for the EU and an FM contract with the Canadian defense. But BPO contract wins completely dried up in H2 2013. This perhaps reflects the problems of Serco’s Global Services division which was most impacted by the electronic monitoring debacle, reporting -350bps decline in operating margin.

Serco admits that clients did not want to talk to it until the issues had been resolved. New contracts have started to come in once again (such as the Lincolnshire Council contract) since Serco settled the matter with the U.K. government.

Apart from the MoJ expenses, divisional margin came under pressure from upfront expenditure on existing contracts. These included:

• A ~£15m working capital investment in transformation for Shop Direct in 2013 and further anticipated but smaller outflow in 2014. Returns are expected to begin from the contract in year 3 (FY15).
• Suffolk Community Healthcare redundancy cash costs of c£5m; no effect expected in 2014.  

It has not been an easy year for Serco in some of its international businesses either. In Australia, a change of government and policy has resulted in revenue attrition in its contract with the Department of Immigration and Citizenship for which Serco runs a number of detention centers.

In America, the outlook remains uncertain due to Federal funding challenges around programmes and contracts, but Serco has won a number of new contracts in the region, including the $1.25bn 5-year federal Eligibility Support (ES) contract by the United States Department of Health and Human Services' Centers for Medicare and Medicaid Services (CMS) but this is likely to be at relatively low margin.

Serco has done well to achieve topline growth despite its annus horribilis. 2014 will be a year of repair and rebuild for Serco. The new CEO, Rupert Soames, and a number of new non-executive board appointees, are likely to go to start with a major review of the business. Serco's strategy of diversification should help with this activity, providing it with a broad set of options for rebuilding the business.

Serco has updated its guidance for 2013 and 2014 following its clearance by the U.K. government to bid for new contracts.  Serco expects a mid-single digit percentage organic decline on 2013 revenue due to:

• Lower levels of incremental work won across the group to date
• Attrition from contracts lost such as electronic monitoring
• Volume reductions in its Australian immigration detention services contract
• Assumptions as to the extent to which it will be successful in securing further rebids and extensions as well as new bid opportunities during the year
• Adverse currency movements in 2013.  The impact of this has reduced revenues in 2013 by ~£50m and profits by £8m.

Adjusted operating margin is anticipated to decline by ~50 to 100 basis points on 2013 due to greater than previously envisaged margin reduction resulting from the revenue impacts described above, and the incremental costs of the agreed corporate renewal programme.

Serco's ongoing portfolio management resulted in further non-core disposals in 2013. These businesses contributed £43m of revenue and £7m of profit up to the point of disposal last year and will not contribute to revenue and profits in 2014.

In 2014, Serco expects:

• Continuing additional costs of £10m a year related to the corporate renewal programme within its adjusted operating profit
• One-off costs incurred in 2014 of ~ £15m for external advisers and other directly-related costs of programme implementation, including initial training and systems set-up
• A further restructuring charge estimated at £10-£15m will be incurred in 2014 to implement reductions in headcount and related costs.

Market consensus for 2014 Adjusted operating profit is currently £277m but Serco anticipates a result that could be 10-20% lower than this for ongoing activities, on a constant currency basis.

The profit warning came on the same day that Serco announced clearance by the U.K. government to bid for new contracts. Serco announced that it expects a mid-single digit percentage organic decline on 2013 revenue due to a number of factros including:

•     Lower levels of incremental work won across the group to date
•     Attrition from contracts lost such as electronic monitoring
•     Volume reductions in its Australian immigration detention services contract.

Adjusted operating margin is anticipated to decline by ~50 to 100 basis points on 2012 due to greater than previously envisaged margin reduction resulting from the revenue impacts described above, and the incremental costs of the agreed corporate renewal program.

In 2014, Serco expects continuing additional costs of  up to £40m related to the corporate renewal programme, external advisers and further restructuring.

Market consensus for 2014 adjusted operating profit is currently £277m but Serco anticipates a result that could be 10-20% lower than this for ongoing activities, on a constant currency basis.

Serco's financial woes have been compounded by a change of Government in Australia, its second largest market. Tony Abbott, the new prime minister, has pledged to stop the flow of boat people into the country by shifting the work to overseas centers. This has resulted in a decline in volumes in the detention centers that Serco manages under contract for the Department of Immigration and Citizenship.

On another front, in January, Serco's health provision in Suffolk was criticized after a four-month NHS review found services were being provided safely but improvements were needed. The areas for improvement were reported to include staff morale, recruitment and retention, communication with GPs and commissioners, equipment stores and procedures at the Ipswich care co-ordination centre.

Serco has been implementing a major corporate renewal plan as part of its negotiations with the Cabinet Office. As well as extensive management changes, and a renewed and refreshed code of conduct and governance, Serco has committed to creating a  separate division for its U.K. Central Government work to increase focus and openness for Government as a collective customer.

Other key measures include:

• Enhancing transparency and access, with reporting of operational and financial contract KPIs, and greater engagement of customers at contract and departmental level.
• Establishing formal Ethics Committees and Ethics Officers in each division, accompanied by the redesign of its whistle-blowing process to the highest international standards
• Measuring the progress of attitudinal change throughout the organization with ongoing independent culture and ethics reviews.

Axelos was incorporated in July 2013, 51% owned by Capita, 49% by the Cabinet Office but governed by a separate board from the parent organizations. The company will be fully operational from January 1, 2014. Axelos is the owner and accreditor of the best practice methodologies.

Its aims are:

• Quality: to raise the quality bar for products and services delivered to clients for the full Best Management Practice portfolio
• Relevance: to improve the relevance of the portfolio to the business, e.g. demonstrable value to managers, CIO and CEO
• Growth: to grow internationally in both public and private sectors
• Innovation: to adopt new ideas and standards in communication, learning and management
• Collaboration: to be a social business with open and transparent communications and to integrate with other frameworks.

Axelos is looking to achieve these objectives by:

• Extensive use of digital channels including enhancing the existing Best Management Practice web site for multiple channels built on top of an enhanced document management core. Use of digital channels will include gamifying the learning tools and provision of information and material for practice tests on-line and as apps for smart devices
• Growing the online communities of practice that contribute to enhancements and development of the portfolio. It has already run product workshops in London, for attendees from the wider international ITSM and PPM communities to discuss subjects such as international tailoring and ITIL improvements
• Develop multi-national offerings for major organizations and industries.

The company is based at Capita’s offices in London. Capita provides Axelos with back office services such as HR and payroll, F&A and IT. Currently, there are 10 employees but Axelos is recruiting.

Axelos is in effect the new custodian of the best practice portfolio. The jewels in its crown include the widely adopted ITIL and PRINC2 methodologies. The JV is the vehicle to free the custodian from public sector constraints on commercialization to grow the revenues from this valuable portfolio. There is potential to grow the best practice products into international standards.

As a new company, Axelos is very privileged to have a strong portfolio of products which also lends itself well to client interactions in communities of practice and social networking, where ideas for enhancements can take shape faster, and be of value immediately after they are formally released. There is much value in collaborative and crowd-sourced innovation that Axelos can potentially tap into. There are already communities of practice based around the existing products, and Axelos will be looking to take them along its journey of evolution.

The challenge for the JV is to develop a new lasting operating model that successfully combines collaborative innovation, and crowdsourcing - benefiting from the wisdom of its communities of practice, while growing the business commercially. There are some good practice examples in the open source software community. Axelos should be looking at all options assessed against the requirement of protecting its IP.

Capita is offering the cloud service at a cost that is 30% less than its existing prices and, according to Capita, cheaper than an Amazon virtual instance when buying multiple instances. Through the VCE partnership Capita is looking to provide clients access to pre-tested approaches to migrating applications to its cloud environment.

The initial infrastructure as a service offering will be extended in the next 12-18 months to include PaaS for CRM and ERP deployments, as well as SaaS, when Capita will offer more and more of its own software on a SaaS basis on its own private cloud. These will feature the next-generation of its software portfolio.

The move to cloud by Capita was necessary for it to keep up with the market trend to cut infrastructure costs through shared capabilities and utility computing. It also enhances Capita's ability to offer ongoing cost savings in its contracts as well as improving its terms in a highly competitive market. Cloud was the right lever for Capita to pull, given increasing competition from Indian-centric vendors such as TCS in its main public sector market. When it comes to offshoring, Capita's delivery capability is still relatively small, <10% of Capita IT Services workforce compared with >80% of some of its competition.

If Capita had any doubts about the suitability of the cloud model in its key public sector market, this would have been completely dispelled when the U.K. central government adopted a cloud first procurement policy earlier this year. The policy extends to health and defence and indirectly to local government, Capita’s biggest client base.

Overall, this is a positive step by Capita. Likely benefits to the business include:

• Ability to support its BPO offerings on its own cloud
• Help with year-on-year cost efficiencies in existing contracts, not only in the public sector but in all its markets including financial services, retail and utilities
• Provides Capita the opportunity to leverage its well-known brand and existing contract base in the U.K. to cross-sell cloud services and related consultancy
• Overcome any lingering market perceptions that it is mostly a BPO and not an ITO provider
• Compete better with major ITO suppliers, such as HP,Atos and Capgemini, which have made huge investments in their data centers and cloud capabilities and which are also targeting the cloud service brokerage, integration and orchestration services.

Capita's own recent investments in its infrastructure include:

• Two Capita Command and Control Centers (C4), one in Pune, India, and a mirror site in the U.K.
• A co-located  continuity site for its main two data centers in the U.K.
• The acquisition of Northgate Managed Services, which was a key enabler of this move. NMS already operated a cloud service for schools with a large presence in Northern Ireland, including a delivery center in Belfast.

Since the acquisition completed on July 8, SoftLayer is being transitioned into the new IBM Cloud Services division headed by Jim Comfort, to offer a portfolio of services to IBM and SoftLayer clients, ISVs, and channel and technology partners.

With the combined offerings IBM is targeting the two cloud worlds that it believes best define the current market:

• The cloud-enabled world: with traditional applications, middleware and system of record environments e.g. ERP, where the number of existing and legacy applications that a company has can run into tens of thousands.  Here, cloud can help generate cost savings and transformation through measures such as hosting in a mixed environment of on-premise /hybrid cloud and virtualization
• The cloud-centric or cloud-native world - dominated by newer systems of engagements such as collaboration, social media interfaces and composable applications e.g. interactive dashboards. Applications in this world were developed to operate in a cloud environment from scratch.

Client requirements and solutions can span the two worlds. This is leading to different cloud conversations on the demand side of the market. A lot of CIO conversations are still about cloud enablement through measures such as consolidation and virtualization, focused on cost reduction. At the same time, business users want to see faster deployments and agile IT to increase speed to market. There are also different conversations to have with clients at the different cloud levels:

• Cost reduction, agility and faster deployment at the IaaS level
• Speed to market and deployment agility at the PaaS level
• How to compose multiple solutions together at the SaaS level.

With SoftLayer IBM is looking to enhance/complement its existing SmartCloud capabilities, allowing it to have these different conversations with its clients and to offer services that span the private and public cloud spectrum, the cloud-enabled and cloud-centric worlds as well as the different layers of cloud IaaS, PaaS and SaaS. With SoftLayer, IBM is looking to tap into the Internet-centric IaaS, designed for web native, performance-intensive applications particularly focused in the areas of mobile, social, gaming and analytics.

Overall, IBM has an embarrassment of riches when it comes to cloud capabilities. Prior to its acquisition of SoftLayer, which reportedly cost ~ $2bn, the company had already spent ~ $3bn on its cloud portfolio. This level of investment is not particularly a surprise: IBM has experience of evolving its portfolio to remain competitive. Over its 100 year lifetime, the company has proactively spotted emerging trends and morphed into new business areas when the time was right. Examples include:

• The disposal of its PC business years before the smartphone & device market derailed the laptop market
• The scrapping of its strategy not to sell software applications, in the mid-noughties, that led to it becoming a major global supplier of analytics applications through a series of acquisitions.

A current example is the imminent disposal of its CRM-related BPO services to Synnex.

With its acquisition of SoftLayer IBM, is increasing focus on the higher margin automated cloud provisioning business. It is leaping to next generation cloud technology with the intention of reverse engineering its capabilities into SoftLayer’s advanced automation. With this move, it is leaving behind traditional IT infrastructure outsourcing with a heavy dependence on labor arbitrage, an activity which has seen margins decline with the rise of Indian-centric vendors and their RIM offerings. The same vendors are also targeting the datacenter outsourcing renewals market in Europe and U.S. The expansion of IBM’s cloud capabilities increases its competitive edge.

The capability to more or less offer every cloud option to every type of client can complicate go-to-market strategies and requires clarification around priorities and messaging. IBM needs to:

1. Educate its salesforce about the differences between, and the relative merits of SmartCloud offerings and SoftLayer’s, and a coherent and aligned go-to-market strategy for both
2. Talk to clients about choices and options and the diversity of its offerings without confusing them.

Another step in the integration of SoftLayer and its global footprint is to convert or consolidate exiting IBM SmartCloud data centers to take advantage of SoftLayer technology. As they are, the two sets of data centers are not compatible. While the addition of SoftLayer's automation to some IBM datacenters is on the cards, changes to SoftLayer's are likely to include support for AIX and Linux, OpenStack and different types of storage. The changes are likely to take 18-24 months.

The restructuring of NPS division last year, to focus more on services, combined with a number of contracts starting in 2012 helped improve NPS revenue. Contracts that started in 2012 include:

• The Blue Badge Improvement Scheme
• Athena - the managed service for data sharing by Essex Police and six other forces

NPS is also more agressively marketing its housing software internationally, reporting expansion in New Zealand, Australia and Canada, though no growth data was provided.

NPS' £170m contract with C2k to provide an Education Cloud for all schools in Northern Ireland was a major win for the company. Other contributors to the division's revenue improvements include managed services contracts with mid-market customers in the UK, including Christian Aid, Almac, Doosan, Wolseley, AAH Pharmaceuticals and the Driver and Vehicle Agency in Northern Ireland.