Economic uncertainty complicates the business outlook for professional services firms MSPs. The environment could reinforce cloud projects but curtail large-scale transformation.
Consultants, integrators and MSPs are looking at a mixed -- and in some cases contradictory -- assortment of prospects for 2023.
Indeed, the macroeconomic signals are many and varied. Inflation continues at a pace not seen in decades, yet recent U.S. government data suggests the trend may be easing. Interest rates continue to rise, leading many to believe a recession is inevitable. But third quarter GDP increased 2.9%, according to updated figures from the Bureau of Economic Analysis. Some businesses have initiated hiring freezes or laid off workers, but job openings grow in high-demand areas such as cybersecurity. Enterprises more closely scrutinize technology investments but still plan to spend on the digital technologies they rely on.
Those forces -- perhaps economic crosswinds rather than headwinds -- will shape IT services industry trends next year.
"It's an interesting environment," said Cenk Ozdemir, cloud and digital lead at PwC. "If you combine all these different vectors, for a consulting company like us, it's probably a historic moment to be in the middle of this perfect storm."
Interviews with industry executives paint a complex picture, subject to potentially dramatic changes in the months ahead. Here are eight projections to consider.
1. Capex avoidance influences IT spend
The economic forces in play will greatly influence IT decision-making and planning, said Chris Williamson, field CTO for FNTS, an MSP based in Omaha, Neb. The company expects to see a downstream effect on technology spending and pressure on how IT organizations select initiatives.
One upshot: business will seek to curtail Capex and shift more spending to the cloud.
"Cloud services growth will largely maintain its present momentum as many organizations will want to limit technology-related capital spending in favor of predictable expenses," Williamson said.
He said he expects to see capital-avoidance -- and a preference for as-a-service alternatives -- take shape around backup, storage and disaster recovery technologies. The cost and availability of such as-a-service offerings have become more easily obtainable for mid-market organizations, Williamson added.
Hexaware Technologies, a technology consulting company headquartered in Iselin, N.J., also pointed to Capex avoidance in the cloud. Chirag Khanijau, vice president of cloud services at Hexaware, cited customers' need to "optimize ruthlessly" as a key pivot point for SaaS, IaaS and container adoption as customers seek to shed costly on-premises systems. Hexaware obtained AWS Migration Competency status in October.
Portfolio rationalization, as a steppingstone toward eventual cloud migration, "helps customers consolidate and optimize years of spending on licenses and bloated on-premises resources," Khanijau said. Such projects often start when a company realizes it needs a huge Capex infusion to extend end-of-service-life contracts and keep its aging systems secure and compliant, he added.
Cloud and staffing shortages will fuel IT services next year.
David Chou, director of cloud capabilities at Leidos -- a technology, engineering, and science solutions and services provider based in Reston, Va. -- also pointed to the cloud as providing an economic edge. He said he's seeing more requests from the company's government customers for help with cloud adoption.
"They don't have to put a large amount of capital upfront to get capabilities," he said.
The benefits, however, go beyond cost. The cloud also lowers the barrier for accessing advanced technologies such as AI and ML, Chou noted.
Richard Hoyer, director of FinOps at SADA -- a business and technology consultancy based in Los Angeles -- said he expects to see accelerated growth in customers' consumption of cloud technologies related to AI, ML and data analytics. He linked the projected uptake to a decline in non-farm labor productivity and yet-to-recover labor force participation rate. Both trends will fuel automation, he noted.
Acceleration to cloud also helps organizations avoid supply chain issues, noted Jay Pasteris, CIO and CISO at GreenPages, an MSP with headquarters in Kittery, Maine. "A lot of the times, we'll see customers ordering hardware, but they get that 9, 10 months later," he said. "In the lifecycle of digital transformation, that's a lifetime. You need to shorten the curve on how you're getting to transformation."
2. FinOps gets more attention
The push to optimize spills over into the Opex-oriented world of cloud computing, where service providers expect to see increasing enthusiasm for FinOps next year.
Paul Sussex, digital tech transformation and cloud leader at EY, cited FinOps as among the top topics surfacing in discussions with customers. Amid the mass adoption of cloud, "one of the notable lessons learned was around cost overruns and financial management," he noted. "How do you build a discipline around managing specific operational or financial concerns as you deploy not just one cloud but potentially multicloud?"
Sussex said organizations will need automated tools to sort out their multicloud settings and related consumption models.
"As cloud deployments get more mature, people are now looking at embedded automated policy code routines to be able to do chargebacks or cost allocation pools or monitoring usage," he said. "Automation, machine learning, AI -- all of those things relative to the FinOps agenda are very prominent."
Projects focused on optimization are primed to surface next year.
PwC's third quarter Pulse survey of 657 U.S. executives found that 81% believe a recession will occur in the next six months. At the same time, 82% of the business leaders polled -- which included CFOs, COOs and CIOs -- expressed confidence in their ability to stay on track with their transformation initiatives, according to the consultancy.
"Although CIOs are concerned about the economic environment, their highest priority is on digital transformation, cybersecurity and increasing their customer experience to raise their revenue," Ozdemir said.
Digitalization is critical for businesses hoping to gain or retain a competitive edge and looms as a matter of viability for organizations yet to transform. "If you don't have a digital presence, a digital footprint or some sort of digital portion of your business, somebody else will, and they will outflank you," said Juan Orlandini, chief architect for the cloud and data center transformation division at Insight Enterprises, a solutions integrator based in Chandler, Ariz. "I think most leaders recognize that and are going to want to invest."
Economic reality, however, will temper enterprises' IT spending plans next year.
"What I don't see most leaders doing is investing in exploratory ideas, where they are gambling on something that might not pay back," Orlandini said. "When markets contract and the economy is not in a stable way, there's a lot less appetite for making those kinds of bets."
In this environment, Orlandini said IT services firms can expect to find success when they help clients save money or make money. The ability to avoid legal danger -- by investing in cybersecurity to achieve regulatory compliance, for example -- will also drive spending.
Chris Barbin, CEO and founder of Tercera, a company that invests in and advises cloud professional services firms, said he believes there's still high demand for cloud-based services. But enterprises next year will likely recast large-scale digital transformations -- those valued in the tens or hundreds of millions of dollars -- into smaller projects.
"I think the mega projects are getting chunked up," he said. "There is more of a premium on quicker, accelerated transformations."
Gartner also anticipates a trend toward smaller deals versus multi-year engagements, although the market research firm predicts growth in IT services next year.
The emerging environment might lend an edge to smaller, specialized service providers. While mega projects tend to favor larger integrators, the bite-sized programs favor the boutiques, Barbin said.
4. Modernization projects take two paths
Some industry executives believe the market for IT services will bifurcate into two main types of projects: optimization efforts extracting more value out of what businesses already have and modernization programs preparing them for future expansion.
"Most of the CIOs we work with at FNTS feel there is an expectation to deliver operational and cost efficiency alongside innovation and/or modernization to meet both current and next-wave business demands," Williamson said.
Multicloud-driven transformation initiatives will remain center stage along with a renewed volume of ERP migrations to the cloud, he noted.
Khanijau anticipates the same dual focus on operational efficiency and modernization. Optimization-led cloud projects address the former imperative while selective modernization characterizes the latter, he noted. Customers who have struggled with multi-year digital transformation approaches will focus on "crown-jewel applications that add the most to their bottom line," he added.
And modernization -- especially in the current economic milieu -- could mean improving, not replacing, systems.
"The goal is not walking in to say, 'Okay, let's throw that away and build something new,'" said Andrew Kurtz, CEO of Kopis, a software and cloud solutions provider based in Greenville, S.C.
In many cases, Kopis works with a client's existing IT infrastructure where the data resides and creates new ways to access it. A project for the South Carolina Department of Probation, Parole and Pardon Services provides an example of the company's modernization approach. The department's agents travel to meet people on probation and previously had to print out information on scheduled visits. Kopis built an interface for an existing system that lets agents use mobile devices to access and update data on the road.
Service providers can expect Opex spending and transformation projects to create opportunities in 2023, although the focus will likely prove narrower than in previous years.
5. The M&A pace slows -- or does it?
The pace of IT services mergers and acquisitions continued at a healthy clip in 2022 but may come off the boil next year.
Some segments of the MSP sector could experience a downshift in the deal-making tempo, suggested Trent Hickman, managing director at VSS Capital Partners, a private investment firm based in New York City.
"I think it's already slowed down a bit for some of the larger platforms out there," Hickman said. "The availability and cost of debt financing is more of an issue. I think for smaller assets, with $1 million to $5 million of EBITDA [earnings before interest, taxes, depreciation and amortization], that is less of a consideration. But for more scaled assets, greater than $10 million, $15 million of EBITDA, I think you will see lower volumes."
Abe Garver, managing director and MSP team leader at Focus Investment Banking -- an M&A advisory firm with headquarters in Vienna, Va. -- takes a somewhat different view. The arrival of larger private-equity firms seeking MSPs will put the larger MSPs platforms in the spotlight and boost their valuations.
"The next private equity owners of these existing platforms will be larger groups demanding larger and larger assets," he said.
What's next for third-wave consultancies?
Third-wave consultancies -- companies that are building broader skillsets and cultivating new delivery approaches -- are poised to take on additional challenges next year.
Tercera's Barbin said the development of intellectual property (IP) -- already a characteristic of third-wave firms -- will become even more important in the coming year. Examples of IP include accelerators that automate manual processes and boost the delivery of digital transformation projects.
"We have a bigger and bigger emphasis on, "How do you drive stickiness and margin and value for your customers through IP?" Barbin said.
Tercera is also working with portfolio companies and prospects on mental health and wellness. Consultancies that create policies and processes in that field can differentiate themselves and attract and retain talent, Barbin said.
The cloud professional services sector could also experience mixed results next year. Mature partner ecosystems surrounding cloud providers, such as Salesforce and ServiceNow, will see consolidation and contraction, Barbin said. Such ecosystems, consisting of thousands of partners, will see smaller firms get picked off by larger companies, band together to gain scale, or be forced to diversify into complementary ISV ecosystems such as Snowflake, Databricks and Datadog.
And partners that are sub-scale, focused on a mature or highly competitive SaaS ecosystem, and concentrated in a vulnerable industry such as high-tech will be at risk of going out of business or being acquired at below-market multiples, Barbin noted.
The M&A theme will differ for professional services firms in evolving ecosystems -- those surrounding cloud software providers such as Atlassian, BigCommerce and Tanium among others. Here, pressure from the ISVs to focus on specific industries will influence partners to acquire industry skills domestically and internationally or organically grow such expertise, particularly at the business process and management consulting layer, Barbin said.
6. Sustainability consulting edges forward
Sustainability initiatives will receive attention next year, but given the economic circumstances, it's not clear how much. Industry executives, however, generally agreed that environmental, social and governance (ESG) will eventually become a consulting services and technology opportunity.
"I am starting to see a lot more ESG-based offerings being brought to market," said Orlandini. He cited large IT players, such as Cisco, Dell, HP and IBM; Insight's IT services competitors; and Insight itself as active in the market.
In the U.S., the Securities and Exchange Commission's (SEC) proposed rule on corporate climate reporting could spark more interest in ESG next year. The final rule has yet to emerge, the public comment period having just closed Nov. 1.
"With the SEC mandating an ESG response from every publicly traded organization, that is going to drive some spend and some services in that area," Orlandini said. "I don't know if it's going to be a slow ramp or an explosion next year, but it's something that's definitely going to start happening."
But there's impetus for ESG beyond the SEC proposal. Many investors already examine a business' sustainability strategy as an indicator of overall risk management, FNTS' Williamson noted.
"Sustainability efforts will gain further importance in 2023, especially for organizations seeking investment," he said, noting that related consulting activities will remain busy as a result.
That will be particularly the case for service providers operating in geographic regions where ESG is evolving more rapidly.
"In Europe, the CSRD, or the Corporate Sustainability Reporting Directive, is probably the most comprehensive sustainability disclosure requirement that we've seen," noted Matthew Bell, global climate change and sustainability services leader at EY.
Although CIOs are concerned about the economic environment, their highest priority is on digital transformation, cybersecurity and increasing their customer experience to raise their revenue.
Cenk OzdemirCloud and digital Lead at PwC
Bell cited a groundswell of need among enterprises for data management for sustainability reporting. He said most organizations are lacking in that area, with Excel being the primary tool currently in use.
"There's this absolute recognition that most organizations are woefully underprepared to be able to capture information and report on it in a way that's reliable," Bell said.
Against that backdrop, organizations will carry on with their sustainability programs even in an uncertain economy, Bell said.
"I'm sure there'll be some organizations that will be under more pressure than others," he said. "But we don't see, at the moment, any organizations shying away from any of their current responsibilities on sustainability or, in fact, any of the investments that they've announced that they're going to make."
IT services firms are preparing for sustainability growth, whether it surges in 2023 or later. EY and Microsoft in October expanded an alliance to develop ESG data management offerings for clients' decarbonization and net-zero goals. The relationship spans carbon tracking and reporting as well as supply-chain monitoring.
Ozdemir said he sees sustainability consulting emerging as a diverse set of services.
"There are 20, 25 different areas in ESG that are going to be critical," he said. "ESG is going to be embedded in everything we do, all the way from intelligent supply chains, to tracking the carbon footprint, to accounting transactions." ESG is also poised to play a greater role in procurement.
7. Industry cloud interest continues, but uptake may lag
Industry-specific clouds burst on the scene over the past 18 months, with some services executives viewing them as critical for digital transformation. Heading into 2023, opinions differ on how vertical clouds will fare going forward.
Ozdemir said he anticipates heightened competition in industry clouds, with the greatest amount of activity among hyperscalers.
"Their ultimate goal is for you to come into their platform and continue to consume storage, computer or microservices," he said. "They have no option but to add industry capabilities to grow that consumption base. And you're going to see the same thing in ERP providers and SaaS providers."
That's because customers, especially when it comes to mission-critical processes, expect infrastructure, SaaS and ERP platforms to meet their specific needs, Ozdemir noted.
"I see this fully accelerating in the next 12 to 24 months into full-blown competition in the industry clouds of different sorts," he added.
Other cloud leaders view industry clouds with ambivalence.
"From an industry perspective, I think it's a mixed bag," Sussex said. "We've certainly seen continued interest in industry clouds. But in terms of widescale adoption, we just haven't seen this quite yet."
Sussex focuses on financial services. In that sector, customers express interest in industry cloud use cases such as high-performance computing for risk analytics, trade surveillance or credit-rating systems. Factors holding back more rapid uptake include concerns regarding the security and resiliency of industry clouds in a heavily regulated environment, he noted.
"We'll still see continued experimentation and continued use case development," Sussex said. "But it remains to be seen if it actually will take hold."
8. Partners cultivate nearshore resources
IT services providers will likely still struggle with hiring and wages next year, which could compel some companies to team up with developers in Central and South America.
"One of the things that we have found effective is leveraging nearshore resources," Kopis' Kurtz said. "We've been doing it for several years, but it has accelerated."
Kopis partners with nearshore development teams within one or two time zones of its South Carolina headquarters -- in Costa Rica, Mexico and Panama, for instance. On larger modernization projects, the hybrid U.S.-nearshore model keeps costs down and speeds up delivery, Kurtz noted. He said industry peers have cultivated relationships with developers in Brazil and Argentina.
Barbin said all seven services providers Tercera invested are in some stage of building a nearshore program, with a half-dozen major IT centers in Latin America the typical destination.
"There is a growing acceptance of organizations to grow and add on more talent in the region," he said.
The wage-differential between the U.S. and Latin America, while a factor, might not be the main driver. "There is a cost delta, but it is not like it was in India 20 years ago," Barbin said.
Instead, the availability of expertise -- coupled with improvements in infrastructure, universities and support across the region -- have won over more IT services firms. "We think the quality of talent is amazing," Barbin noted.
