I’ve just spent a worthwhile morning at the Software & Systems Quality Conference to pick up on what’s happening in the Testing Services scene. The most useful part (for me, anyway) was meeting the various vendors to get a feel for what impact the current stormy conditions are having in a segment I thought should have been fairly weatherproof. The answer seems to be more a case of ‘sunshine and showers’. Some of the vendors I spoke to see little impact on their business, but I was told by one European major of a €500K testing services deal that the client has now “deferred to 1/2Q09” (and we all know what that means). So it seems that however sensible the business case may be, even with testing, the spending freeze is brutal. My sense is that testing projects already underway are not being curtailed. But new projects are coming under the same scrutiny as any other IT project and subject to the same due diligence – i.e. if it doesn’t pay back (and more) this year, it ain’t going to fly.

I had expected a better turn-out from the Indian players than just Cognizant and lesser-known Zensar, given that testing is one of the Indian SIs’ fastest growing service lines. Cognizant reckons it’s the king of the castle, with some 10,000 employees in its global testing services business. Well, Wipro may have something to say about that, but it does sound close. Zensar, in which Fujitsu Services used to have a stake, is much smaller (some 5,000 employees all up, with about 300 in testing) but has some top client brands in the UK, such as John Lewis, Marks & Spencer and National Grid. Zensar aims to have 1,000 heads in testing by 2011 and is on the acquisition trail. First stop is likely to be Germany – watch this space.

But it was great to meet a couple of ‘Little British Battlers’ very much holding their own in this segment. Grid-Tools is a tiny software outfit that has developed what appears to be a unique testing data generator product highly sought after by the major SIs. One sure sign that they have something a little special is that almost every one of the top Indian SIs has been beating a path to its door to incorporate G-T’s products in their testing proposition. On the services side, SDLC Solutions claims to be the UK’s largest independent testing house. It’s £9.5m revenues are a mile away from market leader SQS Systems’ (see SQS tests India – and a lot more besides) but SDLC is UK-owned and based. While they increasingly deal direct with corporate and government, they have partner relationships with the likes of Accenture, EDS, Capgemini and (now here’s a name you don’t hear much of) Hitachi Data Systems.

Of course, how long Grid-Tools and SDLC choose to remain independent, given the high interest in the testing services segment by major SIs, becomes an interesting question.

Shares in the Innovation Group (TIG) have crashed this morning - down 35% at 7.5p at 9.00am) on the back of a significant profits warning. This was occasioned by delayed decisions in a number of major US BPO contracts - caused, in the main my the uncertainty created by the current financial services sector troubles. Also, settlement in the AIG contract termination caused a £2m write off. George O'Connor (Panmure Gordon) translates this into profits reduction of c£4.6m against consensus estimates.

On the positive side though, double-digit organic growth is reported in Europe and Asia together with new contract win announcements with IBM at "a leading UK insurer" (£4.7m over 2 years) and CIS (£7m over 5 years).

Back in May 08, Chairman Geoff Squire bought 10m TiG shares at 21.5p - thus doubling his stake. Since then TiG shares have crashed by 65%. Put another way, Geoff has lost nearly £3m. Mind you, as you can see in the chart above, TiG was trading at around 35p 12 months ago.

TiG could well be suffering the after effects of the dreaded 'Acquisition Indigestion'. It clearly needs to do much to restore investor confidence. We ought to be writing reports that TiG is a company ' in the right place at the right time' - saving insurance and other financial services companies money in these difficult times. But it clearly needs to get its act together - or maybe it would be better as part of another, larger organisation?

After I had completed my Revolution or Evolution presentation last Thursday, I was waiting for the lift to whisk me to dinner on the 34th floor of the BT Tower, when the CEO of one of the very largest IT services companies operating in the UK market approached me. He whispered “You are absolutely right Richard. Something changed when people came back from their holidays at the end of August. The mood amongst our sales people and our customers has changed. Decision delays are the order of the day. We think we are in for a really tough period”.

I know that I have a reputation for being gloomy. I think that reputation is unfair as I think I’ve often not been gloomy enough! Certainly I now think that the downturn is going to be even deeper than I have been predicting in UKHotViews for the last year. As I said last Thursday, I do think that our industry gives more marks to researchers who tell them what they want to hear rather than those that tell them how it is (or is going to be) “warts and all”.

Over the course of the dinner, I revised one opinion at least. I had accused our industry of “Living in Denial”. I think they were…but not any more. That dose of reality can only be good.

However, it’s one thing telling that to your peers around a boozy dinner table where the codes of confidentiality mean that I’d never ‘name names’. It’s quite another telling it to investors in an RNS announcement. Q3 ends on Tuesday night. The day of reckoning is approaching.

Footnote – I promised a review of my Revolution or Evolution presentation on Monday. I actually posted it on Friday. Anyway, for those that missed it you can read it in pdf form by following the link Click here.

We wondered whether Infosys’s bid for Axon would tempt other predators out of their lairs (see Infosys to acquire Axon and related articles) and so it came to pass late on Friday afternoon. Much smaller rival HCL Technologies declared its hand with a 650p per share bid, trumping Infosys by 50p. Infosys (or another bidder) has till Monday to raise or bust. On the concall, HCL management put forward what it felt were the many compelling reasons why Axon was a great fit and, to their great credit, refused to diss Infosys, leaving it to shareholders to decide.

Although HCL is much smaller than Infosys, it is possibly better known in the UK, having won high profile deals such as with BT and Dixons Stores Group, and, more recently, acquired the financial services arm of UK BPO player, Liberata (see HCL buys Liberata’s Life & Pensions BPO operations and related articles). Frankly, I could get into a very deep and meaningful analysis as to whether Infosys or HCL is the better home for Axon. I have followed the fortunes of the major Indian players for several years and paid special interest to their enterprise applications services (EAS) practices, and can wax lyrical on the subject. But why bother, as in the end we should expect Axon’s shareholders to go with the highest bidder.

But I will say this. Infosys and HCL are very different companies with very different strengths. HCL's strong suits are BPO and Infrastructure Management, these two comprising 27% of total revenues, compared to 12% at Infosys. On the other hand, Infosys trumps HCL’s EAS revenues five times over. Indeed, HCL management admitted back in April that they had the wrong EAS strategy and were going to fix the problem. This is a heck of a fix! In fact, both HCL and Infosys would benefit immensely from taking on Axon (and look at the revenue and profit per head in the table!). In HCL’s case the acquisition would look more like a reverse take over of its EAS practice, which is roughly half the size of Axon’s business. And HCL will be borrowing most of the cash if they win the deal, whereas Infosys still has plenty of cash headroom for a much higher bid should it choose (though the company is not known for rash moves, especially in M&A).

No bets on who will win the prize. Some analysts are talking about a bidding war up to 900p (Axon’s shares jumped 8% to 682p on Friday) but we wouldn’t presume to predict the outcome. It’s certainly going to be an interesting week!

Accenture had a pretty fine finish to its fiscal year (to 31st August) – indeed a pretty good year all round – despite the turmoil in financial markets and beyond (see the results release here). The notable exception was EMEA region, which saw Q4 revenues grow 6% in local currency against a 10% average across the company. In contrast, Accenture’s North American business grew 14% in the quarter and Asia/Pacific 12% (both local currency).

It was the UK that let the side down. Management didn’t give the numbers but called out both Financial Services and Public Sector as the weak spots. In the rest of Europe, Italy, France and Spain were “very strong” whereas Germany and Nordics were “holding their own”. Management reckoned the problems will take some time to sort out. This bodes ill for Logica in particular, for which Nordics is its largest regional market (28% of revenues) and Public Sector represents 57% of UK revenues, though Financial Services is just 8%. Together, Nordics, Germany and UK comprises 54% of Logica’s total business, so we await with interest CEO Andy Green’s next trading update on 14th November.

Meanwhile, Accenture guided a pretty bullish FY09 outlook, expecting 9-12% local currency growth and 10-40 basis point margin expansion. The latter trick is to be done by “improving contract economics” which we read as higher pricing (they instituted price increases in June) and more offshore delivery. Indeed, global delivery headcount has reached 83,000 of their total 186,000 employees, i.e. 45% of the workforce. We believe about half of these are in India. Management intends to keep headcount relatively flat this year, so with attrition currently at 15% (down from 18% this time last year) they’ll still need to hire some 30,000 people. We would expect most of these will be in low-cost countries.

If Accenture really can grow the 9-12% they are forecasting, this would be a quite astounding performance given our expectations of a shrinking IT services market in ’09 in real terms (low single-digit growth including inflation). They seem to have the combination of consulting and outsourcing services pitched near to perfection and a global delivery model that makes them very competitive even against the Indians. It’s no wonder other players aspire to be just like them when they grow up

Last night 60 of the top CEOs in the UK tech sector met to hear my “State of the ICT Nation” at the BT Tower followed by a Dinner atop the Tower. It was all sponsored by BT Group and some £65,000was raised for the Prince’s Trust where I am the current Chairman of its Technology Leadership Group.

I have written a paper on my talk, together with the slides used. You can download this in pdf form at Revolution 25th Sept 08. Beware it is c5mb.

Ascribe has acquired WCI Consulting's healthcare division which provides consultancy and implementation resource to the NHS. Their c30 staff are currently working with Connecting for Health and BT, as well as having contracts with local NHS Trusts.

Under the terms of the agreement, Ascribe has acquired the trade and assets of WCI Healthcare for a cash consideration of £650k payable on completion with a further £300k deferred consideration paid in twelve months subject to certain performance criteria. For the year ended 31 December 2007, WCI Healthcare delivered a pre-tax profit of approximately £263K, on sales of approximately £3.5m.

Note - I declare an interest in this piece as Regent, where i am a non-executive director, acted for WCI in this transaction.

You may be interested in this from my friend George O'Connor's (Panmure Gordon) morning email.

Computacenter CEO Mike Norris was in morose form as he addressed the inaugural CRN Reseller Leadership Forum event at the Four Seasons Hotel in Hampshire. Mr Norris stated that “2009 is going to be tough. I think 2008 is a good year. I am expecting it to get worse in 2009, particularly for the IT market. I hope I'm wrong. We at Computacenter continually try and drive costs out of the business, and I am expecting our headcount to reduce."

What a pleasant surprise to bump into Sudip Banerjee at the IoD yesterday. Until recently, Sudip was President of Enterprise Solutions at Wipro, one of CEO Azim Premji's top team and a co-founder of the Indian IT giant. After an unpublicised departure from Wipro (read into that what you wish), Sudip has resurfaced as CEO of L&T Infotech. L&T who? They're the IT services arm of Larsen & Toubro, the Indian technology, engineering, manufacturing and construction conglomerate, and apparently the largest privately-held IT services player in India. We'll be meeting up with Sudip in coming weeks and will let you know a lot more about this little-understood player and what they're doing here in the UK. Of course, this is not good news for Wipro, which has suffered a number of senior executive defections as Mr Premji retains his iron grip (and some 80% of the equity) on the company.

I’ve just got back from a fascinating session at TCS where they talked about what they are doing in the UK with Infrastructure Management (IM). Globally, TCS generated some $400m from IM these past 12 months and the service line is one of its fastest growing, at over 60% yoy. The UK is TCS’s largest market for IM outside of the US and I reckon they’ll break the £100m barrier here this year. OK, still small fry compared to the likes of EDS, IBM and CSC, but at those growth rates it may not take TCS too long to catch up.

Just a few years ago, most people doubted that Indian SIs would ever be able to make a mark in traditional infrastructure outsourcing. After all, “they won’t take on assets or people, and customers don’t want their kit operated from India”. Wrong on all points. Here in the UK, TCS will sometimes take on assets (or help the customer get them off the books) and nearly always takes on customer staff, of course under the UK’s stringent TUPE regulations. As a result, TCS has won a string of modest-sized deals with some well known brands such as Centrica, VW (UK) and Somerfield. TCS’s sweet spot is for IM deals between, say, £3m-£12m p.a. but don’t forget this is at blended (offshore/onshore) rates. Given that typically 70% of IM services can be delivered offshore – and for some activities, even 100% - you could argue that these deals would have been worth £5m-£50m for a traditional onshore vendor. This strikes at the very heartland of the big US and European players.

Of course, most of the usual suspects have built their own offshore and nearshore delivery centres, and compete vigorously for this business. TCS’s Indian peers are also firmly in the frame, and it’s a moot question whether TCS or Wipro has the highest IM market share in the UK among the major Indian SIs. But TCS’s long-standing relationships in the UK (they’ve been here 20 years) is proving fertile ground. With few of its UK accounts yet to take its IM services, we think TCS will move up the UK’s leading infrastructure outsourcer rankings sooner rather than later.

And now for a competition!

Here’s how one of TCS’s UK clients described the various responses to its very detailed RFP to take over its IT operations (a deal which TCS won, you may presume). See if you can guess which vendor the client might be referring to in each instance:

(1) “they had all the energy of a dead parrot”
(2) “they wanted to see the CEO”
(3) “they wanted to do an investigation so they could tell us what we really wanted”
(4) “they nearly had a stand-up fight with their UK bid partner
(5) “they couldn’t even match our in-house costs let alone show any savings”

A mention in despatches for the winner – but don’t expect us to publish the right answers too

Tonight I present my annual “State of the ICT Nation” talk for the Prince’s Trust Technology Leadership Group (TLG) where I was both a founder and the current Chairman. It's entitled Revolution or Evolution.

The 60 places have been sold out for months and, at £1250 a place and BT covering all the dinner costs and providing the BT Tower, we will raise around £65,000 for the Trust. Indeed, this is the 10th such presentation I have done for the Prince’s Trust which have now raised over £700,000 in total contributing towards the £7m that the TLG has raised since its inception in 2002. Thank you for all those who are attending tonight (and in the past) and therefore have contributed towards this amazing total.

I’d like to think that guests come just to hear me. But I know that the real draw is the unrivalled networking. Tonight is no exception with such industry luminaries as Ian Livingston (CEO BT), Guy Hains (CEO EMEA CSC), David Courtley (CEO Fujitsu Services), John Suffolk (HM Government CIO), Steve Gill (CEO HP UK), Mike Dalton (CEO EMEA McAfee), Gordon Frazer (MD Microsoft UK), John Brigden (SVP EMEA Symantec) amongst the exclusively top-notch guests.

I'll post a full review of my presentation in Monday's UKHotViews.

Yesterday IBM was added to the list of US stocks where shorting was banned. See FT 25th Sept 08 Click here. "Like other computer hardware groups, IBM has a finance arm that helps customers finance big IT purchases. IBM said it met the requirements for inclusion on the short selling list and being included was in the “best interests” of the company and its shareholders".

I gave my views on Shorting in my 18th Sept 08 posting. All the emails I got - except one - in response agreed with my stand. The one against was from my partner in TechMarketView - Anthony Miller - who couldn't object to my stand at that point because we hadn't launched the firm.

Anyway, Anthony wrote to me at the time saying:

"As for the ban on short selling, maybe we have to agree to disagree. I think shorting is a perfectly acceptable part of healthy capital markets; after all, if you are allowed to bet on shares going up, then you should be allowed to bet on shares going down. What’s not right – and I’m happy for this to be illegal if not already so – is to spread unsubstantiated rumours that is likely to affect a company’s stock – either down or up (gosh, how many times have we heard of rumours that are meant to push up share prices!). At best, I’d support a ban on naked shorting (where you don’t even borrow the stock).

Anyway, the ban on shorting banks etc is a bit of a band-aid measure. How long will it be before companies find creative ways to declare themselves banks (e.g. any IT vendor that provides financing to is customers – and this includes for example Computacenter as well as the very big boys with their own financial service arms by the way) to gain protection from shorting? The FSA will be mired down in requests for protection and probably take its eye off the bigger ball.

I come back to my initial premise. The root cause of the problem is that the regulators permitted traders to use fantasy financials to create paper profits on dodgy debts. This is the problem that must be fixed."

So, Anthony was (as ever) pretty prophetic. If you accept IBM's definition, we will see Sun, HP, Computacenter etal added to the 'no shorting' list soon.

OK, let me admit that I am rather biased right now towards Autonomy as they have just agreed to become a Patron of the Prince's Trust Technology Leadership Group (where I was a founder and serve as the current Chairman) As readers will also know I have long thought that Autonomy is in the 'right place at the right time' with its unstructured search products. I was overjoyed when they (re)entered the FTSE100 earlier this month. Their share price growth has defied all the gloom as aspects of the financial crisis actually adds to the need for their products.

Anyway, Autonomy has made yet another, but this time highly significant, partnership announcement. I'll leave it to my friend George O'Connor at Panmure Gordon to explain:

"Yesterday we noted a very strong OEM announcement - Autonomy announced that Adobe Systems has integrated IDOL into the new Adobe Creative Suite. Creative Suite is a pre- and post production toolset used for video and audio editing, still and motion graphics, visual effects, and interactive media design, then delivery for film, broadcast, and DVD as well as Blu-ray disc and mobile authoring. So users would look to Autonomy to search an audio stream or speaker information in seven languages and could index spoken dialog. So that then they could in turn identify speakers, as well as align multiple takes of content around a script, and conceptually identify similar audio content (if you imagine – pose the question – in what quarterly call did the CE state that he would grow revenue by 15% - say in my context – clearly though the application would be used in a post-production environment to find the right part of the right clip quickly some kind of (say) news mash-up.

The announcement illustrates :

1 - Autonomy at the heart of the industry looking to introduce new functionality
2 - non financial services revenue streams,
3- continued progress with the OEM business,
4 - Autonomy used in the context of driving customer efficiency savings."

OK, George is a fan too!

Firstly, can we say a BIG THANKYOU for the fantastic response you have given to the launch this week of TechMarketView LLP. We have been overwhelmed with messages of support.

We have also had several requests for TechMarketView pricing for the subscription services when they are launched at the end of 2008. The first report - MarketView - will provide our sizings and forecasts for the UK SITS market. So it's a pretty crucial report for most of our readers! We intend to issue MarketView at least twice per year. We also intend to publish a series of research and analysis reports including our famed UK SITS rankings in CompanyView, M&A, effect of offshoring etc. Of course, many of you are currently preparing your 2009 budgets. Please remember to include us in those budgets!

If you want an idea on pricing, then please drop us a line on info@techmarketview.com or contact Richard or Anthony directly.

Yet another UK AIM quoted SITS company (albeit a tiddler with a market value of c£8m) seems destined to be sold after Touchstone Chairman David Thompson told its AGM yesterday that they had appointed advisers "to assist in various aspects of a review of options that could lead to an improvement in overall shareholder value". Thompson also said "As regards current trading, overall performance continues to be mixed with some divisions and sectors faring better than others. The Board is also mindful of the wider economic situation and is monitoring Group-wide overheads to ensure that they are appropriate to any change in future business levels."

Touchstone has a suite of ERP-type business software and also provides consultancy services. They had revenues of £31.4m and PBT of £1.7m in year to 31st March 08. So the current valuation is a PSR of c0.25 - pretty low for a company with some IPR.

In amongst all the financial services gloom and doom it’s good to see a couple of bright spots shining through, especially when it’s from two tiny UK players.

Monitise (MONI.L), the spin-off from troubled reseller-cum-services player, Morse, announced that LloydsTSB has become the eighth UK bank to launch a mobile banking service using its Monilink service (see RNS here). Monitise does barely £1.5m in revenues (and of course is still loss-making) but is clearly making a mark with its platform. Apparently they have 38 US financial institutions using the service too, so they are a great ambassador for UK innovation. Monitise listed on AIM last June at 22p but perhaps not surprisingly their stock’s off nearly 60%. Whether a listing was the best approach to do the fund-raising for such a small company I’m not so sure. Anyway, you’ve got to wonder how long they can remain independent.

The other ‘little British battler’ that’s ‘done good’ is financial services software player, Focus Solutions (FSG.L), which has just signed a £4.9m contract with HSBC Bank (see RNS here). Much of this contract will be invoiced this FY, which will make a huge difference to the P&L, given that last year’s revenues were under £9m (but they were profitable!). Like Monitise, Focus’ stock has taken a hammering, losing 20% so far this year.

Anyway, small and niche can still survive and prosper. Good luck to them, we say!

We went along yesterday to the launch of CSC’s impressive new customer briefing centre at the Gherkin, where they unveiled their new ‘brand’ and logo. While the analyst community’s response to the new logo was, shall we say, muted (“in the box thinking” was one of the less complimentary comments we overheard), we were far more interested in hearing what management had to say about business performance.

In that regard, both Guy Hains (CEO, Europe) and Nick Wilson (CEO, UK) were very bullish. Though management is coy about country numbers, we got the sense that CSC UK is on track for some 10% (organic) growth this year, which would mean winning share if achieved. Wilson sees huge opportunity in UK public sector, figuring there’s $10-12bn of megadeals to be competed for in the next couple of years, including the DWP re-let.

CSC also seems to be holding up very well in Financial Services (FS), both in the UK and in Europe. The UK drives about 30% of CSC Europe’s $1.2bn FS revenues, with marquee clients such as Schroders, Barclays and JP Morgan Chase (the outsourcing vestige of the long-defunct Pinnacle Alliance). What’s helped CSC’s UK FS business is that about 80% comes from the insurance sector, so its exposure to banking in general and capital markets in particular is pretty small. In any event, about 70% of CSC UK’s FS business comes from traditional infrastructure outsourcing, which is a great place to be when project work is drying up. Not that CSC is immune from that; about 15% of its outsourcing business is project work, and we understand this has been hit in the current downturn.

Where CSC has to take care is that while infrastructure outsourcing is a great place to be in current market conditions, it is also a target for spending cuts. We think it is inevitable that customers will push CSC to give “more for less”, which invariably means moving some of the infrastructure management offshore. CSC may not be badly positioned for that, with Covansys now fully integrated into CSC India, but we have yet to investigate its delivery capabilities (we will report on that in later commentary).

Although management seems pretty clear in its strategy for the ‘new’ CSC, one area where it is still ambivalent, at least in the UK, is BPO. It sounds to us that BPO is, at best, a “definite may be” and I don’t think that’s a good place to be. It’s ironic that it was CSC that launched insurance BPO in the UK in the mid-90’s and after firmly grabbing the ball with both hands, proceeded to lob it to Capita. The rest, as they say, is history. At least CSC sells the software that is the platform for many insurance BPO deals, but we think they have to make up their minds whether this is a market they are going to chase or not. To be honest, I don’t really know what the right answer is as yet. The UK BPO market is arguably the most varied and vigorous in the world and, depending on which analyst’s figures you care to believe, is barely 10% penetrated – and perhaps much less. Capita currently rules the roost and the Indians are desperate to get their fair share. How should CSC fit in? We’ll come back to this again.

Meanwhile, well done to the CSC team – we hope they can meet the high expectations they have clearly set!

Yesterday the Government announced plans to help over 1m families get online. They have earmarked £300m for vouchers for a range of services from broadband connections to laptops. See Computer Weekly – Government earmarks £300m for laptops and broadband for poorest families.

I haven’t found too much Governmemt policy to agree with or praise of late, but readers will know that this has been a major priority for me for some time.

In June this year I wrote several articles about Digital Exclusion.

I hope you will forgive me if I repeat the points I made in those articles as they are of great relevance to the current announcement.

Digital Exclusion - 18th June 08
After reading the latest Ofcom Child and Adult Literacy Audits. I was so intrigued by this that I asked Ofcom to provide me with more detailed ‘granularity’ on the use of the internet by children in the various socio-economic groupings. I am particularly interested in this because of my involvement with the Prince’s Trust (where I chair the Technology Leadership Group) which helps young disadvantaged people get a start in life.

The Ofcom research is about as disturbing as you can get. 76% of youngsters aged 8-11 in the ABC1 socio-economic group have access to the internet compared with just 52% in the C2DE group. It gets worse in the even more important 12-15 age group (ie just coming up to the start of their GCSEs) where 88% of ABC1s have internet access compared with 67% of C2DEs.

Put round the other way, only 12% of ABC1s have no internet access compared with 33% - or nearly three times the number – in the C2DE group. I’m sure that a comparison between ABs (probably nearly 100% having internet access) compared with DEs (probably less than half) would be even worse.

Bluntly, how any youngster can progress at school nowadays without internet access – preferably via their own PC at home – is beyond me. It is the equivalent of a house without a book or encyclopaedia.

Not having access to a PC also means that the rapid growth in popularity of social networking (like Facebook) is not available to the very poor. Does this matter? Let me quote from an article by Mary Ann Sieghart in The Times of 12th June. It is a good read – about how social mobility has got worse under Labour and how we now have “to act to reverse this shameful trend”.

Sieghart says “The working classes on the whole have smaller (though often closer) networks of friends. The middle classes tend to have wider (if shallower) circle of acquaintances from whom they get the best advice on schools, universities and jobs, and with whom they can place their children on work experience. They can afford to buy houses in better catchment areas. They have broadband access at home, shelves of books and quiet places for their children to study. They can even “help” with coursework.”

I happen to believe that social networking could assist social mobility. Even at its most basic level, I’d rather have youngsters socialising on the net than in groups on street corners. If the net can help them broaden their minds and circles too – what a real bonus that would be!

I remember a calculation in 2000 that the money spent building the Millennium Dome could have equipped every youngster in the UK with a laptop. Today the cost would be even less. Frankly I think that every UK youngster should have a PC and a broadband connection ‘as a right’.

Many of the ills of this country are down to us going backwards in terms of social mobility. I was extremely lucky to have lived in an age where grammar schools allowed working class lads like me to progress. Generation M could find the same social mobility via digital media. But clearly the very poor are being excluded - Digital Exclusion this time. We really should do something about this before we lose a whole generation – a terrible price to be paid by all socio-economic groups.

Well, yesterday HM Government did "do something" . Although long overdue, I applaud that action.

Yesterday I had my normal day full of meetings with people at the very heart of our sector. Except it wasn’t ‘normal’. It was the first day after the momentous events of last week. As I have said countless times before, since this whole credit crunch debacle became public in Aug 07, most of the SITS sector has been ‘Living in Denial’. “It won’t affect us”, “We are seeing no evidence of any downturn” etc. The SITS sector went on its annual break in August. At least, when they returned, their eyes were opened and they started facing reality at last.

Without naming names, let me just summarise some of the things that were said to me yesterday.

The UK CEO of a Top Ten provider of SITS to the UK market told me that orders “had fallen off a cliff” in the last quarter. Customers were delaying decisions. “Let’s revisit this in 3 months time”

The manager of one of the larger Private Equity funds active in the UK SITS market told me that they had institutional pressure to sell holdings. They were having run-ins with management who thought this was a lousy time to sell - which it is. But if cash offers were on the table, they would force a sale.

The CEO of a small quoted SITS company told me “I did the rounds of our investors over the last couple of weeks. Almost without exception they were more interested in whether we would be able to survive a sustained downturn, than in this or next year’s profits.”

The fund manager of one of the largest Global Tech Funds confirmed to me that their end user research indicated that users were “cutting budget and deferring decisions”. Consumer tech spend was slowing down – from TVs, to smart phones, to gaming systems to PCs. Even Apple iPhone sales had slowed. The emphasis, even in the tech companies themselves, was how to reduce internal IT spend. Ie the vendors were applying the tech spending brakes just like their customers.

On the markets, any company admitting a slowdown saw their share priced hammered.

I could go on, but I hope this gives an impression of the reality that is setting in right now.

The problem is that if you look at the graph above of UK SITS stocks (as measured by the FTSE SCS Index) compared with the FTSE100, you might be excused for feeling that nothing was wrong. The FTSE SCS Index is pretty much unaltered YTD (down 1.7%) compared with a 18% decline in the FTSE100.

But that’s before Q3 results to 30th Sept 08 are announced. I now have little doubt that many results will not meet expectations and most will give extremely cautious outlook statements.

How long will the downturn last?

Recruitment/HR software player Bond International’s thinly-veiled profit warning in its interim results announcement highlights the especially tough plight for small vendors in the current spending downturn. Unfortunately, Bond has been hit by a bit of a ‘double whammy’, having been caught in the transition from the traditional ‘upfront licence fee + maintenance’ revenue model to a monthly rental/ASP model just when new licence sales are drying up. Indeed, chairman Martin Baldwin signalled “the first signs of caution from our prospects in both Europe and the USA” – which comprise over 95% of Bond’s business (around £30m last year) – hardly surprising when corporates are laying off staff rather than recruiting them.

Martin Baldwin’s observations on the change in business model demonstrate the quandary that software firms face with this transition, i.e. “greatly beneficial in the mid- to long-term … for earnings visibility and margins … but an adverse effect on margins in the short term”. Catch 22. But I think the salient point he also makes is that ASP software delivery (i.e. SaaS) makes the product more affordable for small and medium sized companies, whereas Bond’s larger customers – such as Michael Page and Adecco – seem to be sticking to traditional ‘on premise’ software. And isn’t it just as well for Bond that Adecco’s pitch for Michael Page came to naught (for now, at least) else that could have been another major licence sale to fall foul of industry consolidation.

I must also add that the chairman’s closing comment, expressing “confidence” about Bond’s 2009 prospects, reminds us of the similar statements so many companies made at the last downturn. Unfortunately that confidence was tragically misplaced.

We met up last week with Rudolf van Megen and Rene Gawron, CEO and CFO respectively of Cologne-based and AIM-listed independent testing services company SQS Software Quality Systems AG. Although only a small player in the grand scheme of things (FY07 revs c. €121m) there were three aspects of SQS that really piqued our interest.

First, it’s that SQS is a testing services pure-play. Now, it also claims to be the “global leader in independent software testing and quality management services”, though it’s not actually the largest software testing business globally (we think that honour belongs to Wipro, with some $400m in testing revenues over the past 12 months). But, we don’t know of any other pure-play that comes close. You might already know my views on testing services (see my 'opening rant'!) – that this is a great, but little understood, service line which is attracting more attention as CIOs lean more towards ‘making do and mending’ legacy applications rather than buying replacement software. Quality players attract predators, sometimes from unlikely quarters (remember when Capita bought Mission Testing back in 2002?), and we can’t believe that most of the ‘usual suspects’ wouldn’t have designs on SQS.

The second aspect of SQS that intrigued us was its firm belief in using earn-outs as a key incentive in its reasonably prolific acquisition strategy. We’ve been stimulating a lively debate of late (see Earn-outs?) on this topic, but it’s very clear which camp SQS belongs to. They find that an unambiguous profit-based earn-out with a two (or sometimes three) year time frame not only helps to retain top people, but also bridges the gap between the seller’s (often aspirational!) asking price and the SQS’s view on valuation. It’s helped that in most cases, SQS has acquired to open new markets (or, as in the UK with Cresta, a reverse-take-over), so the issue of integration isn’t so acute. We think integration will become more of a challenge as SQS relies increasingly on offshore delivery (see below), but it sounds to us like van Megen and Gawron are already on the case.

The third aspect about SQS that we think is a model other S/ITS companies should pay close attention to is its June acquisition of a majority stake in Indian firm, VeriSoft. Prior, SQS used Egypt (for German and French speaking resources!) and South Africa for low-cost service delivery, but the numbers were small (200 among some 1,400 total employees). VeriSoft brought access to 150 India-based testing professionals to add to the mix. SQS management reckons the ‘sweet-spot’ offshore/onshore effort for testing services is around 3 offshore for every 1 onshore - you don’t need to do the sums to see where SQS will be growing headcount fastest! To be honest, we do wonder whether 3:1 is aggressive enough – most of the Indian SIs can reach 90% offshore mix on mature testing projects. But Gawron makes the legitimate point that packaged software product testing (a staple service for many Indian SIs) lends itself to a higher offshore mix than enterprise application testing, SQS’s domain. Nonetheless, 75% offshore is very good if SQS can get there, and is around the average mix Indian SIs achieve across their broad range of IT service lines.

So despite its modest size, we think many players in the S/ITS sector could learn a lot from SQS, and we will certainly let you know how their ambitious growth plans – both organic and acquisitive – take shape.

In what some have described as one of the industry’s worst kept secrets, we are delighted to announce the launch today of TechMarketView LLP – a new research and analysis firm formed by Richard Holway and Anthony Miller. (see links to our new website for detailed biographies)

Background
As many readers will know, Anthony Miller, then an experienced analyst with IDC, was the first analyst to join Richard Holway Ltd in 1997 and became an essential part of the ‘Holway team’ during its most vital years in the run up to Y2K and the bursting of the dot.com bubble. Together they developed an analysis style which was provocative and interesting. It helped greatly that they were also right in their forecasts over the period too! Indeed they are widely credited for their accurate forecasting of the industry – even though, like most prophets, they were not initially appreciated!

The ‘Richard and Anthony Show’ (as their annual presentation for the CSSA/Intellect was known) continued with Ovum Holway after Richard Holway Ltd was acquired by Ovum in Nov 2000, and only ended when Anthony left to join equity research boutique, Arete, in 2004.

Now the best known and most widely respected team in the UK software and IT sector is back together again.

Holway 2.0?
It would be too simplistic to describe TechMarketView LLP as “Holway 2.0”. Of course, it will resurrect some of the best elements of the old firm but with a whole new approach.

TechMarketView – or TMV for short – will initially concentrate on all aspects that affect and interest Software and IT Services companies - their advisers, investors and partners - operating in the UK market. That could just as easily be a ‘foreign-owned’ player like HP/EDS, Capgemini or Infosys or a ‘UK’ company like Logica or the SITS division of a larger player like BAE Systems or Thales or a private company like Liberata or COA. TMV will cover corporate news – like company results, M&A, private equity fund raising, stock market performance etc. TMV will cover all the important issues like offshoring, BPO, public sector contracting etc. TMV will cover the important industry trends like Cloud Computing, SaaS, the move to MIDs. But what makes TMV different is that it covers these areas from the viewpoint of how this will affect the players corporately.

Indeed, the aim of TMV is to cover all the aspects that would be of interest to any CEO or senior director in the sector and in a manner that they will understand. It will be presented in their language – which we also hope will be stimulating and even humorous where appropriate..

How?
As in the past, all research and analysis is only as good as the people supplying it. Richard and Anthony have developed what many describe as the best network of senior executives in the sector. Working relationships based on mutual trust which go back decades, in some cases, mean that they get insights that few others can obtain. Often these are given ‘in confidence’ but can be used to flavour the insightful comment that readers have come to expect from Richard and Anthony.

What?
From today, Holway’s HotViews will morph into UKHotViews. If you are one of the many thousand current HotViews readers you need do nothing. Your access is unaltered and the email version will be sent to you as normal. Of course you will notice some differences – not least that Anthony will be contributing in his own name – although many of you will have spotted Anthony’s inimitable style in some articles published this month! We intend that UKHotviews will continue to be free and we will be looking for sponsors at a later date.

TMV will launch a range of subscriber research in a few months time starting with MarketView which will carry our own market sizing and forecasts for UK SITS. Obviously these will be fee-based services and we will inform you how you can be a subscriber nearer the launch date at the end of 2008.

In addition, TMV will be happy to look at any ‘bespoke’ analysis and consultancy requirements you might have. And you never know, we might even look at reviving the ‘Richard and Anthony Show’!

Where?
You can access UKHotViews on (surprise, surprise) http://www.ukhotviews.com/. Full details of TMV are on our new website http://www.techmarketview.com/ which will carry the subscriber research at a later date. You can pre-register your interest in becoming a subscriber or a sponsor of UKHotViews by emailing Register@TechMarketView.com.

…and finally
This is a real landmark day for both of us and, we’d like to think, for the UK SITS sector too.

Some may question setting up a new research and analysis firm in the midst of the worst financial crisis in decades. But that’s exactly when the old models change. Exactly when companies and their executives need the very best insights from the very best analysts with the best experience and track records. None come better than Richard and Anthony at TechMarketView. We helped you through the last major turbulence to hit the sector. We intend to do the same for you now.

I can’t tell you how good it is to be back where I belong after four years ‘on the dark side’ as an equity analyst. Given the current market conditions, some might say, “perfect timing!”

I certainly learned a lot about the way institutional investors and hedge funds view software and IT services companies; indeed this is why I moved into equity research in the first place. I hope you’ll see some of this new-found knowledge reflected in my commentary – though without the stock recommendations of course! Perhaps the most important lesson I had to learn very early on in the piece may seem to you to be a statement of the ‘bleeding obvious’. But I can assure you that what I am about to share with you is rarely appreciated by the traditional industry analyst community when trying to make sense of company share price movements. It is simply this. To an investor, a company is not a company – it is a stock. In other words, an investment proposition. I told you it was obvious. But it goes a long way to explaining why even ‘quality’ software and IT services (S/ITS) companies are suffering in the current financial market turmoil. It doesn’t matter if you have contracts going so far out you need a telescope (e.g. Capita), or cast-iron recurring revenues (e.g. Sage), or margins to die for (e.g. Infosys), it all comes down to how investors see their best chance of making money from the stock – which, as I’m sure you know, can come from a downward bet as well as upwards. As TechMarketView is neither authorised nor regulated by the FSA, we have to be very careful not to cross the line where we might be seen to be giving investment advice. However, I will try to give you some insight into investor thinking where I can.

But my prime focus is exactly what it says on our website – the things that really matter in the UK IT sector, and in particular, the S/ITS scene. Richard has already talked about some of the ‘big issues’ we think are shaping the UK S/ITS market. I want to draw your attention to two that interest me in particular: “offshoring” and “software as a service (SaaS)”. Let me make it clear; this isn’t ‘one for IT services players and one for software players’. Both these themes play to each segment. Sure, having low-cost delivery is frankly a matter of survival now for IT services companies, and I will hammer on about this endlessly. But, with perhaps 20% or more of software products firms’ revenues invested in research and development, moving some of this offshore can make a huge difference to margins. And as for SaaS, well, you’ll have to forgive me for not banging this drum quite as loudly, perhaps, as Richard. Of course, I can see many places where SaaS is a great proposition but, frankly, I am yet to be convinced that it will turn out to be the future of large-scale enterprise application delivery. I also wonder how you make real money from SaaS? As you will see, Richard and I will be not always be in perfect harmony!

There are many other themes I will pick up too, such as Service Industrialisation. You thought the Indian proposition was all about labour arbitrage? Think again. Some of you have heard me say this before but let me say it again … and again. The really clever thing about the Indian SIs is that they have refined a way of disaggregating IT service lines into ‘elemental’ activities which can be industrialised, deskilled and, in many cases, moved offshore. Then they knit them back together again into a near-seamless service which is now low-cost, repeatable, scalable, and needs fewer ‘rocket scientists’ to deliver. Neat, eh? Nothing, I repeat, nothing, is impossible to industrialise in this way, including consulting! By the way, there’s no reason why UK players can’t do this too – and they certainly should.

I’ll also be talking about poorly understood – and highly underrated – services, such as Testing/Quality Assurance. Testing is one of the fastest growing IT service segments, and as much as 90% of the work can be done offshore. I rather see Testing as a ‘hidden jewel in the IT services crown’. Far from being a ‘discretionary’ activity, testing is even more critical in the current ‘make do and mend’ climate. And Testing Services are a great way to open new ’logos’ – as the Indians are proving, by the way.

There’s so much more to talk about which is really important, and you can be sure Richard and I will be trying to guide you through it. Please give us your feedback too (positive or negative) – but we know you’re not shy in doing that!

As you will see above, we've dedicated today's issue to our own news of the launch of TechMarketView LLP. Normal service will be resumed shortly!

If you want evidence of the fallout of the current financial crisis on PE backed M&A, the collapse today of the consortia bid for Informa is a pretty substantial example. More details see FT 18th Sept 08 - Consortium move on Informa collapses

There are two reasons for my interest in this:

- Informa had bought Datamonitor which had bought Ovum which had bought Richard Holway Ltd. So I guess there is a tiny bit of me, and some 'Holway People' that I feel a duty of care for, still lingering somewhere in Informa.

- as a director of a tech M&A company, this shows how the current crisis is having a serious affect on the mechanics of doing deals. PE houses were the mainstay of the tech M&A market in recent years. Looks like they can't do big deals anymore. Trade buyers, likewise, have difficulty raising the funds required (see Misys and Allscripts)

A healthy M&A Market, just like a healthy IPO market, is pretty vital in creating a healthy overal tech market. More reason for the gloom, I'm afraid.

Though Oracle turned in a pretty good set of 1Q09 results last night (click here) – indeed its best operating margins on record – this certainly wasn’t the case for its applications revenues and especially so in EMEA. Although new software licence revenues company-wide grew 10% (in constant currency – ccy), new applications licence revenues declined 14% ccy, masked by the impressive 23% ccy growth in Oracle’s database and middleware new licence revenues. EMEA proved Oracle’s most difficult applications market, with new licence revenues down 26%. Even in Americas region – which you’d think would show the most pain – new application licence revenues “only” dropped 10% ccy.

These results seem consistent with our ‘make do and mend’ view on IT spending, i.e. CIOs reining back on non-discretionary software (new applications) but maintaining spend in non-discretionary areas like maintenance, or cost-saving areas like middleware (i.e. squeezing more useful business information from existing databases). It’s just as well Oracle’s database and middleware business is twice the size of its applications business as we think it’s going to remain tough out there for applications vendors for some time yet.

For nine months now, since the end of 2007, I’ve been warning readers that our sector is in for a downturn. I’ve warned of no real growth in 2008 and a real decline in 2009. For almost all of that time I seem to have been a lone voice amongst analysts. Indeed, yet again, I’ve been branded ‘too gloomy’. Those same critics have short memories. They accused me of being ‘too gloomy’ in the run up to the last downturn. As it turned out I was not gloomy enough. It seems a shame that my critics do not look at my track record. Risking being accused of 'blowing my own trumpet' (again) I think my trend forecasting record as an analyst is second to none.

It almost seems as if people want to believe the most optimistic forecast – regardless of the track record of the forecaster.

Getting market forecasts right really is a matter of life and death. As I have said before, people die on the fells here in the Lake District when they ignore the weather forecast and go out unprepared for the changing conditions. Likewise I have seen IT companies go bust simply because they ignore market forecasts, increaseing overheads (property, staff etc.) and then running out of cash when the market conditions turned against them. Any trip down the M4 will give witness to the still vacant tech parks built in the late 1990s in anticipation that the Y2K and dot.com boom would continue unfettered.

I won’t repeat all my warnings yet again. I won’t even repeat my lists of the type of companies that will fare badly – and, of course, the companies which will actually benefit from these chastened conditions. You can re-read them in the HotViews archives anytime you want.

What, I suppose, really does ‘get me’ is that it would seem that so many others observers seem to have suddenly caught up with this thinking. If you read Businessweek 16th Sept 08 Tech no safe haven or the FT 17th Sept 08 Tech industry faces tough times (both excellent articles, by the way!) you might be forgiven in thinking that the forecast downturn has only occurred in the last week. Of course the Lehman collapse etc has had a detrimental effect. As George O’Connor from Panmure Gordon reported yesterday “Matt Bienfang, senior research director of TowerGroup estimates that “Between Bear, Lehman and Merrill you’re talking about 4-5% of the entire industry spend on technology."” But the downturn was pretty clear well before that happened.

You may remember that I had a very public ‘disagreement’ with a presenter from Forrester at the Regent Conference in Feb 08 when he forecast ‘double digit’ IT growth for 2009. I was prepared to take any bet at any odds for this happening but even the guy making the forecast wouldn’t take up the challenge! This week Forrester has reduced its 2009 forecast to ‘just’ 6.1%. I’d take bets against that happening too and I’d strongly advise readers against basing any business decisions on that happening either.

Sorry to say this, but if I was to revise my "2% decline in real terms in 2009" forecast right now it would be, in the words of my critics, to make it even more gloomy.

So the FSA has banned short selling of financial sector stocks. About time too!

I’m sure many will disagree, but I’d ban short selling across the board. Why can’t we return to the days when investors invested in companies because they believed in them and expected their share price to rise? Must admit that is the only reason why I have ever invested!

If the consequence of the financial mess we are in is a return to more simple ways, I would welcome it. Banks raising money from investors (not on the wholesale market) and lending directly to individuals and businesses having checked their credit worthiness and collateral. Investors backing growth companies. Financial institutions only using instruments that their own investors might have a chance of understanding.

It will never happen, of course, but one can but dream.

Misys shares fell 11% on Tuesday. In part this was because Lehman's used Misys' Loan IQ and Summit products. But mainly because Lehman's had been the provider of the $305m debt facility required to pay Allscipt's shareholders in a few weeks time. After the markets closed, Misys issued a statement saying that all this uncertainty meant it has had to adjourn the EGM to approve the merger set for 22nd Sept 08. It has been reconvened on 6th Oct.

Quite where? - and more significantly at what price? - that facility will now be forthcoming in these difficult markets is clearly giving investors jitters.

Dell today issued a statement saying that customers were cutting back further on technology spending- See Reuters Dell sees further signs of weak tech spending. Dell shares fell 10% (6.30pm UK) as a result.

There are many IT bell-weathers and Dell is one of them. When tough times beckon, IT contractors and PC/laptop purchases are usually the first to be affected. Afterall, if you are laying off staff you hardly need to buy new laptops. Unfortunately, you can imagine warehouses full of redundant PCs soon. But all this works through to the rest of the IT sector in time.

Events are currently moving so fast that everyday I fear the downturn will come sooner and be steeper than I had previously predicted. And I should remind you it was me who was only a few months back labelled as 'too gloomy'!

Adecco has announced it will not make an offer for Michael Page after all. This has knocked over 22% off Michael Page’s share price today, bringing the stock back roughly to the level in July before news of the bid hit the market.

Worth remembering that Michael Page rejected two offers at c400p a month back as they were too low. Today Michael Page closded at 251p.

Given the current problems in the markets, we wonder how many other potential M&A deals are likely to fall by the wayside in coming weeks and months?

Last night’s HP US investor briefing shed little additional light on precisely how EDS is to be integrated into the business, or where exactly the near-25,000 job cuts are going hit. This latter point will of course take some time to become clear as employee and union/works council negotiations get under way. But HP says it will replace about half that number over the next three years “to create a global workforce that has the right blend of services delivery capability…” so I think we can all guess which countries are going to see the bulk of that hiring!

We’ve already thrown our support behind the deal - with appropriate caveats (see HP completes EDS deal). But with an acquisition of this size and scope, the devil will truly be in the detail – country by country. The UK will be probably HP’s most challenging market to integrate outside of the US. EDS UK has some 16,500 employees and represents about 18% of EDS’ total revenues, a considerable part coming from UK government. The scale and complexity of the services that EDS delivers into the UK is likely to be orders of magnitude greater than HP’s, which tend to centre around hardware provision, deployment and support (witness yesterday’s $660m contract extension with BT) rather than EDS’s highly bespoke consulting, development, integration and outsourcing services. And all this, to be achieved in some of the most challenging market conditions we’ve seen for years.

This is going to be hard, painful work, but we have always believed that consolidation at the top of the services tree was inevitable. This transaction materially changes the shape of the UK IT services market, so we will of course be following the story very closely

Capita’s acquisition of local government software player, IBS OpenSystems, has been referred to the office of Fair Trading (OFT) to decide whether the deal warrants a look by the Competition Commission. The acquisition was announced in June and seemed eminently sensible to us (see Capita to buy IBS). Both players have software for local government authorities and housing associations, but it would probably be fair to say that Capita has the stronger suit in Revenues & Benefits, whereas IBS does a better job in Social Housing software.

We think the issue has only arisen because of Northgate’s recent acquisition of Anite’s public sector business (see Anite sells Public Sector business - at last!), potentially over-concentrating the market for local government software. We spoke to the OFT and it appears that a decision will be made by mid-November whether to refer the deal to the Competition Commission. They wouldn’t say, however, what (or who!) precisely triggered the investigation. If the deal is referred, this could add another 6 months before the matter is resolved, one way or the other. We understand that none of Capita’s prior acquisitions (of which there are many!) have ever gone that far. Meanwhile, we hear it’s pretty much ‘business as usual’ (well, relatively speaking) for both Capita and IBS, which will continue to run independently till then. It would be a terrible nuisance if it was eventually decided that the deal had to be revoked, more so for IBS, frankly, than for Capita. Let’s hope that sanity – and good market governance – eventually prevail.

Footnote - In the same vein, the OFT cleared BAE Systems acquisition of Detica yesterday - which seemed somewhat of a 'no-brainer' anyway.

The repercussions of Lehman's filing for bankruptcy protection are still being felt on stock markets today with worst hit (at least in the S/ITS sector) being the Indian SIs (TCS, Infosys, et al). Yesterday saw their stocks hammered down by up to 10% on the Mumbai exchange, but that pales in comparison to the beating they got on US markets, with Satyam’s American depository receipt (ADR) down over 14% and Patni’s down over 11%. No respite today, either, with the Mumbai stocks falling another 5-6% as we write and this likely to be amplified when US markets open later. The pain was felt on the LSE too, of course, with most of the leading UK S/ITS players losing some ground, with the notable exception of Capita, which ended yesterday over 2% higher and Morse (much smaller scale of course) up nearly 6%. Sage dropped nearly 3% and Misys – whose fortunes are most directly linked to the UK banking sector – was down nearly 5%.

As we well know, but is well worth repeating, the ramifications of a major bank failing permeate through the economy in a most insidious way. You start with the banks and other counterparties that Lehman does (did?) business with; those transactions are thrown into disarray, further reducing financial market liquidity. Then there’s Lehman’s corporate clients and its suppliers (including, of course, the IT industry), all of whom rely on the bank for business in one shape or form. Add in the thousands of highly paid Lehman’s employees about to be made redundant, removing huge spending power from consumer markets. Finally, to complete the vicious circle, the negative effect all of this has on market sentiment, bringing down stock valuations pretty much across the board, even for those companies with little direct exposure to the bank or the sector, but nonetheless reducing these companies’ ability to raise capital through their shares.

Anyone out there who still thinks a recovery is just around the corner needs to think again – seriously. These events only heighten our conviction that there is much more bad news to come from the S/ITS sector as yet another round of belt-tightening causes more 'discretionary' (and we use the term loosely) projects get deferred or shelved and CIOs become even more myopically focused on costs. It becomes self-evident that the 'winners' (relatively speaking) in the traditional IT services market will be those firms with lowest cost delivery, i.e. highest offshore capability. Software players will find themselves living off their support contracts as customers throw new licence purchases and upgrades out of touch unless their business simply can’t operate without them. Just as well Sage gets some 60% of its revenues from ‘subscription’ services, most of which are annual support contracts. Misys is not far off in terms of ‘recurring’ revenues, but is more reliant on transaction processing (17% of revenues), though 41% of sales derives from maintenance contracts.

So, ‘make do and mend’ will once again be the order of the day. This does not necessarily predicate customers will stick with their incumbent suppliers, though it has to be said that long-term relationships will clearly help. In this sense, the software players look more secure. While, say, a bank is unlikely to change its core processing software supplier or a retailer is unlikely to change its ERP platform, the ongoing (non-discretionary) application management of these systems will certainly be up for grabs, and this will favour the low-cost, large-scale, reputable suppliers. This of itself will not be enough to protect top-tier suppliers’ revenues, as pricing pressure becomes more intense and more work goes offshore at lower fee rates.

Can there really be any doubt that the UK S/ITS

Following on from the article above discussing the effects of the Lehman collapse on the larger, global players and the wider UK SITS market, two of the UK's smaller players were directly affected.

Phoenix IT issued a trading statement yesterday (See Hemscott Phoenix IT says trading cntract with large investmement bank continues ) which may be the first directly related to the Lehman collapse. They have a disaster recovery contractwith an unnamed "large investment bank" - paid until Nov 2008. If it is with Lehman and there doesn't get renewed, that's £4m of revenue gone/to be replaced. Phoenix IT shares lost 8% yesrerday.

George O'Connor (Panmure Gordon) pointed out in his morning note that "Lehmans was 2% of Fidessa revenue. Management, which presented to Panmure sales on 20 August, reiterated that trading was unchanged when we spoke to them yesterday. As customers pay in advance, we are not concerned that Fidessa will be looking for payment for services already provided. Fidessa has many revenue drivers, which remain intact. However we have long argued that IT is late stage - not immune - to the credit crunch and investors need to be mindful of 2009E forecasts more than 2008E."

Leading UK (and increasingly international) IT staff agency (ITSA) SThree's Q3 trading update (see RNS article here) showed how smart they were to diversify the business beyond IT and beyond the shores of our fair Isle. Rampant growth in Cont. Europe starkly contrasted with a decline in SThree's UK IT business, which saw contractor numbers down 16% and permanent placements down 10%. Not unexpected but another clear sign, should we need it, that we're in for a bleak winter. The one IT skill where demand still exceeds supply is SAP - this is something we hear from all the SIs too - which makes it even more of a mystery why Morse could never get the old Diagonal business motoring. We'll talk more about SThree in future commentary as we see them as, perhaps, one of the ITSAs better positioned to face the inclement climate.

Yesterday, Lord Adair Turner addressed the Prince’s Trust Technology Leadership Group members lunch (where I am the Chairman). Currently Lord Turner chairs the Climate Change Committee – where I guess he is responsible for avoiding climate meltdown. Next weekend he takes on the Chair at the FSA – where he will be responsible for avoiding Financial Meltdown. I joked with him whether the appointment started at the beginning or end of the weekend – as every financial crisis seems to play out over a weekend. He seems safe until next Monday morning!

Just before the lunch with Lord Adair Turner I read the following article in The Times 15th Sept 08 – Google search finds seafaring solution. I - and indeed Lord Adair Turner – were intrigued at the thought the idea of siting Google’s datacentres on barges 11 miles offshore. The ocean’s water acts as a coolant. Waves provide the power. Then there are the tax advantages of being moored in international waters. Radio Caroline reborn!

I was greatly impressed by Lord Adair Turner. His background makes him well qualified for his new crucial role at the FSA. But what really impressed me was his enthusiasm and drive. Something which will be well trested in the turbulent times to come.

We went along yesterday to the grand unveiling of Sage's new CEO for its North America (NA) business, Sue Swenson. We have to admit we were a little surprised about Swenson's appointment back in March, with a CV listing a long line of US telecoms roles but seemingly little experience in packaged software. However, to give Swenson due credit, she put on an assured performance in front of a typically critical analyst and investor audience, presenting herself as a 'fixer of broken businesses' no matter what the product or service. While some may remain unconvinced, we think it only fair to give Swenson the chance to prove her credentials.

And she'll have plenty of opportunity to do so. NA is Sage's biggest market, representing 40% of sales but 30% of profits. Although organised into four divisions, Sage's NA operations actually break out into three distinct businesses: core accounting and back office packaged software (c. 60% of NA sales); healthcare products and services (the erstwhile Emdeon Practice Services, some 30% of NA sales); and payment processing services, the balance. It's the two biggest operations that have been causing most grief. Sage took a bit of a beating earlier in the year when a new release of its flagship small business accounting product, Peachtree, failed to excite customers enough to upgrade, dragging down growth. A new version has just been released, so hopefully that gap will be plugged.

But it's Sage's Healthcare division (SHD) that has most analysts' attention. We'll write more on this in future commentary, but suffice it to say for now that we struggled to understand the strategic rationale for Sage's gigantic leap (it's biggest acquisition on record) into the ferociously competitive and unpredictable US healthcare IT market back in August 06. SHD has struggled ever since and is still awaiting the long anticipated announcement of a new CEO to run the business. Sage appointed a COO for SHD just a couple of weeks ago, and meanwhile Swenson is putting in a disproportionate amount of her time covering the role.

In laying out her thoughts after six months in the job, perhaps we were looking for a little more 'flesh on the bones' of Swenson's strategy to knock Sage's NA businesses back into shape. It's pretty clear she understands the breadth, and probably the depth, of the problems. The solutions are not so clear cut. One of Swenson's key focus areas is to boost cross-selling between Sage's NA divisions. Now this rather rang warning bells for us. Not that it isn't a good and noble cause - it's just that we've heard this story from Sage many times before, but in all honesty have yet to really see it bear fruit. Cross-selling was an expected key benefit from Sage's acquisition of CRM vendor Interact back in 2001. But as good as the products are, we doubt Sage has been able to cross-sell CRM to any material extent into its core accounting base (or vice versa). Similarly, Sage was very hopeful that Emdeon would open the doors to significant cross-selling opportunities, but at the moment that division has much bigger problems to sort.

The core issue is that Sage's product and service portfolio has been largely built through acquisition and, until relatively recently, there has been little attempt made to integrate those that make most sense to do so. Of course it's not just a product issue. It's the distribution network, the sales channels (internal and external) and so many other links in the chain that have to be reconfigured to make cross-selling work. This has defeated many other players before, both in software and services, so we shouldn't underestimate the scale of the mountain that Swenson has to climb.

Obviously we want to see Swenson - and Sage - succeed. After all, Sage is the last remaining true UK-based large-scale software vendor, and has generally proven a stalwart stock for long-term investors. But the world has changed for 'purveyors of point solutions' and arguably Sage was a little late to recognise the market shift. We know management are on the case and we will closely follow their progress.

FTSE confirmed today that Ferrexpo, Enterprise Inns, ITV and Carphone Warehouse will leave the FTSE 100 and be replaced by mining company Fresnillo, satellite operator Inmarsat, software company Autonomy and transport company Stagecoach.

I rather jumped the gun on this in my 17th Aug post - Autonomy to enter FTSE100! I also wrote a short history of UK SITS companies and the FTSE100. Worth re-reading as a salutary tale of what happened in the last bubble.

I do hope that Autonomy is in a different position today. Autonomy has the right products for today's environment - helping companies with their compliance issues. But they are already very richly valued and, without wishing to be a party pooper, Autonomy has got into the FTSE100 this time because of the considerable reduction in the values of practically every FTSE100 constituent. One small bad news item could hit Autonomy hard. If/when markets recover, Autonomy is going to have to go some to retain its FTSE100 place.

If 22nd August was not a good day for PA Consulting – See PA Consulting in the news for all the wrong reasons – then today was even worse. Just in time for the lunchtime news bulletins, it was announced by Home Secretary Jacqui Smith that PA Consulting will lose the £1.5m, 3 year deal with the Home Office after it mislaid a computer memory stick containing the names, addresses and expected release dates The release said:

All PA Consulting's contracts with the Home Office - worth £8m a year – “will be reviewed, along with those signed with other firms”.
The Cabinet Office will also launch a review of all contracts signed by the Government with private companies to ensure they are "appropriate", Jacqui Smith added.
"Our investigation has demonstrated that while the information was transmitted in an appropriately secure way to PA Consulting and fed to a secure site, it was subsequently downloaded on to an insecure data stick and that data stick was then lost."
Cancelling the contract will not cost the taxpayer and any expenses incurred will have to be met by PA Consulting, she added.

Apart from the very serious effect that this will have on PA Consulting – its reputation, finances and possible future order book – this tough action will send shockwaves through the head offices of other IT services players with big HM Government contracts. Indeed, I’d love to be a fly-on-the-wall at EDS right now as they have been involved in not too dissimilar data losses in the past.
But, at the end of the day, HM Government can hardly fire all its IT suppliers.

The initial view might be that these data losses are basic, simple human error. something akin to a Cabinet Minister leaving papers on a train. I don't really buy that. IT advances have made it possible to put gigabytes of data on a cheap and easily mis-placable memory stick. But IT advances have also meant that encrypition and other basic security should be the norm.

But, let's not be too ‘holier-than-thou’ either. How easy would it really be for an employee in your company to take important data from your computer systems? I’ve witnessed many examples of employees leaving with full contact and customer lists and copies of research.

My dear friend Tina at Intellect has asked me to mention their up-coming Industry Leadership Lunch on 7th Oct 08. The speaker this time is John Pluthero, Executive Chairman, Cable & Wireless Europe, Asia and US on the theme “The dark ages are over...the Renaissance is here!More details on www.intellectuk.org/industrylunchoctober

God Steve Jobs came on stage on Tuesday with "The reports of my death are greatly exaggerated" writ large on the screen behind him. If the health of one company and its CEO were intricately connected, so it is with Jobs and Apple.

Unfortunately, although Jobs had some nice product evolutions to announce - thinner iPod Touch, new iPod nano in rainbow colours and a much cheaper iPod shuffle, the announcements didn't have any killer qualities. Apple shares declined 4% by the time Jobs got off the stage. That makes a 25% fall YTD, showing that (see Monday post) "Eventually even Apples fall" in these difficult economic times.

Morse's "disappointing" FY08 results (for the full text of the results announcement from Morse Click here) were little surprise following recent profit warnings, and serve to highlight the tremendous challenge facing Executive Chairman, Kevin Loosemore, to restructure the business to reach its elusive 7.2% medium-term margin target (see our 8th July comment Morse restructures … for sale?). Indeed, with just a couple of months in the hot seat, Loosemore gave a very frank assessment on Morse's prospects, commenting “I don't know what we can deliver”. Nevertheless, he and newly appointed CFO, Mike Phillips (ex-Microgen) are sticking to the 7.2% margin target, though they see it more as a milestone than a destination.

Frankly, the number is now mainly symbolic as Morse is most unlikely to remain a mini-conglomerate of disconnected SITS businesses for too long. Loosemore’s job is to knock the individual businesses into shape and get the best possible price for each of them as, frankly, they're not likely to go as a “job lot”. Restructuring Morse into five divisions is probably only a first step. If the aim of the exercise is to create focused, healthy niche businesses, then the starting point for each could best be described as 'small but imperfectly formed'. For example, Business Application Services (BAS) (essentially, ex-Diagonal) is itself five different services businesses operating in multiple geographies, with seemingly little in common – and all this to generate <£50m in sales with, to all intents and purposes, zero profit. Loosemore has a steep hill to climb to bring Morse to 7.2% margins. Here's some 'back of a fag packet' estimates you can try at home. Suppose Morse was already a 7.2% margin business. On its c. £250m of revenues we'd be looking at £18m OP. Let's say Morse's revenues split roughly 50/50 between products and services (for the pedantic, actually it’s 53/47). Now, management doesn't disclose product operating margins, so what would you like to use? How about 1%? After all, Computacenter's total operating margin is around 1% and that includes services. That leaves nearly £17m of OP to be generated from Morse's services, or a 13.4% margin. This is more or less the margin for Morse's investment management consulting business alone, which by the way is only 7% of group revenues. Even if they double product margins (dream on), they'd need to generate an average 12.4% margin from the services businesses to reach the 7.2% group average. This is Capita-land margins, not reseller-land. Obviously, the “7.2% Morse” that Loosemore has in mind will have a very different structure than today!

We have respect for both Loosemore and Phillips and wait with great anticipation for the next steps.

Footnote – Back in 2004, when Mike Phillips was FD at Microgen, there was a fight to buy SAP consultancy, Diagonal. Morse ‘won’ with a £50.2m cash and shares bid. Morse’s share price then was 134p. Today Morse’s share price is 38p and the whole of Morse is ‘worth’ just £51m. Conversely, Microgen (which hasn’t managed any big acquisitions since) has seen a more modest decline in its share price from 60p in mid 2004 to 49p today. To put both those declines into context, FTSE SCS Index is 13% higher today than in mid-2004. Probably a futile game to play the “What if Microgen had won and Morse had lost…?” One suspects the acquisition would have been a poisoned chalice for both companies.

The news that US banking software and services player, Metavante, is to sell its 20% stake in Indian BPO, Firstsource (see FT 8th Sept 08 - Firstsource sale may spark sector shake-up ) should reveal an interesting insight into the appetite for BPO acquisitions by private equity firms and (particularly) Indian SIs alike. The stake, currently worth some $80m (before any M&A premium), would be small change for these players, though pales in contrast to the mooted $800m that BT has valued its stake in Indian BPO, Tech Mahindra (see Reuters 8th Sept 08 - PE Firms eye BT's stake in Indian outsourcer). Firstsource generated just under $300m in sales last year (to 31/3/08) with 11% margins and gets nearly 30% of its revenues from the UK, though this was around 45% a year ago.

Among the PE 'likely suspects' FT put in the frame for Metavante's stake are General Atlantic, Blackstone and Warburg Pincus. The most prolific BPO investor among these is GA, with stakes in ex-GE Indian captive, Genpact, India SI Patni, "our very own" Liberata and Xchanging, US-based HR players, Hewett and TriNet, and Emdeon Business Services, the firm providing transaction processing services for Sage's healthcare division (the erstwhile Emdeon Practice Services). Blackstone holds a stake in India-bas