Information Services Group, Inc. (III) Earnings Call Transcript & Summary

Good morning, good afternoon and good evening to all the investors, service providers and corporates who have joined the call today. I, Rishi Jhunjhunwala, on behalf of IIFL Institutional Equities, welcome you all to the first quarter 2023 ISG Global Index Call. As you are aware, ISG is one of the largest outsourcing consultants in the world helping more than 500 corporates globally. ISG's role as a leading adviser and influencer in global sourcing provides a unique view of the managed services and as-a-service markets. The company has been hosting these index calls for more than 20 years now, and ISG regularly advises over $15 billion of total contract value each year, giving them unprecedented insights into the sector as well as key changes in enterprise demand. On this call today, ISG will present an update on the state of global IT services industry through both the traditional and as-a-service market as well as the global sourcing playbook in the current uncertain macro environment. With that, I'd like to pass over the call to Stanton Jones, distinguished analyst at ISG. Stanton, over to you.

Thanks, Rishi, and hi, everyone. With me today is Steve Hall, Partner and President of ISG EMEA; Kathy Rudy, Chief Data and Analytics Officer; and Namratha Dharshan, Chief Business Leader for ISG India; and Owen Wheatley, Lead Partner for our banking and financial services practice globally is joining us as well. So we have over 1,000 ISG clients, service providers and investors registered for the call today. And in my view, the strong demand for the data and the insights that we're about to share with you is really a reflection of how critical the IT and business services sector has become to enterprises across the globe. So thank you for investing some of your time with us today. And with that, I'm going to hand it over to Steve.

Thanks, Stan. Demand for enterprise digitization continues to be robust with applications, industry BPO and engineering, delivering strong managed services results. All 3 sectors were up quarter-over-quarter and combined, now account for over 65% of the entire managed services market. These 3 sectors really demonstrate the robust spend and pace of digitization within the enterprises. Number two, SaaS and IaaS bookings both declined year-over-year as enterprise slowed migrations and optimized workloads. Bookings for the IaaS market declined 16% year-over-year as hyperscalers saw decelerated growth across their portfolios. Q1 saw more layoff news in the tech sector and several large service providers. We continue to see a pullback as -- especially on the IT services, and we saw a bit of a slowdown in the hiring as we move to further cost management actions, but we really expect hiring to pick back up in the second half of 2023 to meet the ongoing demand. If we take a look at the global market, the combined market generated $24.1 billion of bookings, up 1% quarter-over-quarter but down 8% year-over-year. This is the second consecutive quarter of a year-over-year decline but there was $100 billion of ACV awarded in 2022 with the surge in cloud spend. This is really leading to difficult market compares for the last several quarters. Despite the decline, the market remains 27% above 5-year averages and the year-over-year comps are expected to ease in the coming quarters as we normalize for the hyper growth in 2021 and 2022. The managed services market generated an ACV of $9.8 billion, up 1% year-over-year and 2.2% quarter-over-quarter. Since the second quarter of 2021, this market has consistently exceeded $9 billion in quarterly ACV and the first quarter of 2023 established an all-time high, beating the previous record set in the first quarter of 2022. The as-a-service market saw an ACV of $14.3 billion, which was down 13% year-over-year and flat quarter-over-quarter. Since surpassing the $16 billion of bookings in the first quarter of 2022, the bookings have fallen for the fourth straight quarter. The 13% year-over-year decline in bookings was only the third quarterly performance ever that was negative. Despite the decline, the as-a-service market still accounts for over 58% of the combined market ACV. Namratha, you want to talk to us about the supply issues?

Thank you, Steve. In the past 18 months, the IT industry has undergone significant changes on the supply side. There was a massive wave of attrition combined with an equally massive wave of hiring, all of which led to the great reshuffling, so much so that sometime in the middle of last year, over 40% of the IT services workforce had been at their company for less than a year. But now the attrition has stabilized and it's likely to come down further. Now on the hiring side, especially when the demand was high, companies were aggressively hiring. They turned to subcontractors, even agreed to increase pay, all of which led to a surge in deadly costs, and providers are struggling to pass on these price increases to the enterprises. Also during this period, the providers were hiring 2 people for every 1 person that left the company. Now given the current macroeconomic conditions, many providers have begun to exercise caution by slowing down hiring significantly. Companies have restricted hiring to cover only certain high-demand skills like AI, data science and cybersecurity. But we believe that this hiring slowdown in the industry is temporary, and we expect the hiring to pick up during the second half of this year so that the companies are able to meet their own growth guidance. Now given the current challenging environment, companies are also looking to rebalance their delivery operations and protect margins. And rebalancing efforts not only include a slowdown in hiring, but also adopting strategic objectives like improving delivery ratios or delivery pyramid. As a result, companies have announced layoffs, but they are specifically targeting nonbillable roles and are looking to reduce the need for subcontracting. In the near term, we expect providers to focus on margin improvement and structured costs as they respond to pricing impacts in the current environment. So on that note, Kathy, I'll turn this over to you for updates on margins and pricing.

Thanks, Namratha. As you mentioned, many providers are currently rebalancing their organization's SG&A costs to manage margins. The rebalancing includes restructuring, but not reducing billable or delivery resources. Salary costs make up the largest percentage of rates. And with the recent higher-than-normal salary increases, it's a major contributor to margin pressure. To manage this, providers are undertaking rightsizing activities rather than layoffs of billable resources, a sign that demand remains steady. Our analysis of delivery pricing data in the application in large transformation project space shows an overall increase in market prices. But as we've discussed, not all salary increases can be realized in the market. However, we do see areas where price increases, at least in part, are making the range of deals, specifically new ACV. We analyzed approximately 200,000 skilled base rates across all regions, industries and geographies. And overall, rates increased by [ 60% ] between 2020 and 2023 with in-demand skills such as data and cloud analytics increasing as high as 16%. Now we want to turn the focus over to infrastructure managed service prices. For infrastructure managed service prices, we continue to see year-on-year decreases. This is due to market competitiveness and the continued ability to automate and leverage technology for cost savings. So while we see increases in some areas of the market, we don't see them in the managed services infrastructure space. We did a recent analysis of signed contracts that shows that many contracts are actually out of range by year 2 despite contractually committed to year-over-year decreases. These decreases do not keep pace with the overall market. To give you an example, a contract might commit to a 5% decrease over 2 years while the data shows that the market has actually fallen by 10%. In summary, we're seeing pricing increases in applications, large transformational deals of between 4% and 6% and for those in-demand roles as high as 16%. For infrastructure managed service prices, they continue to fall year-on-year just as we've expected. In summary, we're seeing price increases in application in large transformational deals of between 4% and 6% and for in-demand roles high at 16%. For Infrastructure Managed Services, pricing continues to fall year-on-year. And on the topic of managed services, let's jump into what demand looks like for the first quarter. The global ITO market generated $6.8 billion of ACV, and that was up 7% year-on-year. We also set a record for the number of ITO awards in the quarter with nearly 500 transactions. Steve, let's talk about what's driving this growth in ITO.

Thanks, Kathy. Great updates from you and Namratha on both the supply side and the pricing challenges. Great to hear the news on the pricing, especially. We've really seen a fundamental shift over the last 3 years with the massive upward trend in applications work, combined with the steady and consistent drop in legacy infrastructure awards. This trend continued in the first quarter of 2023 with ADM ACV of $4.6 billion, up 23% year-over-year. This represents almost 65% of the total IPO spend. It was the second best quarter ever for ADM ACV and it was the ninth straight quarter where the ADM ACV surpassed $3.5 billion. In contrast, the infrastructure ACV in the first quarter saw awards of $2.2 billion and ACV down 16% versus first quarter of 2022. And it was the lowest quarterly ACV for IT infrastructure since the fourth quarter of 2016. Core data center services were flat year-over-year, but the ACV was up 150% quarter-over-quarter as several large deals were awarded. Workplace services was down quarter-over-quarter, but up year-over-year over a very weak comparison. Managed network services also struggled this quarter, was down 63% quarter-over-quarter and down 37% year-to-date. One big quarter though on the ITO space can really make a difference, and we expect to see some of that recovery over the next several quarters. The global BPO market saw just over $3 billion of ACV, down 10% year-over-year versus 2022. However, this was still an impressive quarter, given that it was against a record-setting comp in the first quarter of 2022 and only the second quarter ever where the BPO ACV exceeded $3 billion. Industry-specific BPO and engineering now account for almost 60% of the total BPO ACV, which has seen a significant shift over the past several years. The largest segment, industry-specific BPO, generated $1.2 billion in ACV and was down nearly 20% year-over-year. However, this quarter was still the second best ever and it was compared against just a monstrous 2022. The second largest functional area, engineering, generated over $620 million in ACV, up 36% year-over-year. Other functional areas such as back office, HR and F&A, along with facilities management posted double-digit gains, while contact center pulled back a little bit this quarter. Stanton, over to you for an update on cloud demand.

Thanks, Steve. Continuing the trend we discussed in the second half of last year, growth in Infrastructure-as-a-Service continues to slow. The $10.4 billion in ACV generated this quarter was down over 16% year-over-year, as Steve mentioned, and that's the second consecutive quarter of year-over-year declines in this sector. And as you can see in the chart here, ACV growth for the big 3 U.S. hyperscalers was down 12% year-over-year, and that's the first time ever that the big 3 have seen annual contract value decline. As we talked about last quarter, we see enterprises really focusing on optimizing what they've already committed to, which is leading to some of the slowdown. And on the cost side, hyperscalers really overhired during the pandemic, and now they're adjusting their operational expenses to fit today's macro conditions. And that's one of the key reasons we're seeing layoffs in big tech. And in fact, now, some of those layoffs are actually moving into the cloud business rather than only in the support functions, which is yet another indicator that enterprise demand for cloud is slowing. That's it. We obviously can't overlook the potential massive impact of generative AI and what it's likely to do to the sector. As Microsoft and Google and others make these models available to developers, that could generate a whole new phase of growth for the hyperscalers and, of course, would have a knock-on effect for the IT services sector as well. Okay. Let's jump into Software-as-a-Service, like Infrastructure-as-a-Service, SaaS ACV also declined year-over-year. It was down 4%. We've seen sales cycles getting longer and seeing enterprises slowing the pace of discretionary SaaS migrations. Now to be clear, SaaS firms are still adding a significant amount of new customers and still growing. It's just that the pace of that growth has slowed, as you can see here. By SaaS category, we mentioned last July, slowing ACV growth in areas like collaboration, CRM and e-commerce. Now as you can see here, the same thing is happening with some of the SaaS categories that have performed really well over the past several years. For example, ERP, HCM and IT service management. Again, this is partly a result of enterprises focusing on optimizing what they have and slowing discretionary projects. Okay. Let's jump into our provider leaderboard. As a reminder, providers are listed in alphabetical order and positioning is based on annual contract value signed over the past 12 months. And as always, you can find the regional leaderboards at index.isg-one.com. So let's start with the big 15. TCS signed a mega deal with Phoenix Group focused on consolidating operations from a recent large acquisition. And on the cloud side, Uber signed a 7-year deal with both Oracle and Google to help move critical workloads to the cloud. In the Building 15, Orange Business Services want a deal to provide connectivity services to Lucid Motors, and Tech Mahindra closed a deal with Indian telco, Indostat. We had 2 new managed services providers join the Breakthrough 15 this quarter, WNS and Italian service provider, Reply. And finally, in the Booming 15, KPIT announced a large award of Honda focusing on in-vehicle software, and Sonata Software signed a 4-year $160 million deal with a U.S. retail company. Okay. So let's jump into our regional updates. Kathy, over to you for an update on the Americas.

Sure, Stan. The Americas follow the trend of the global broader market with the Americas combined market ACV landing at $12.5 billion for the first quarter after a year of steady deceleration. The 7% year-on-year drop was the most dramatic decline since we began tracking this metric. Combined market ACV was flat quarter-on-quarter. Managed Services generated $5.2 billion in ACV in the quarter, edging down a point from a year ago. The number of contracts signed dropped 9% from the record high in the first quarter of 2022. Our robust 6 mega deals were signed during the quarter and restructuring deals contributed more than $2 billion in ACV, while new scope made up the remaining $3 billion. As-a-service ACV in the Americas has fallen sequentially throughout 2022 and the rate of decline is accelerating. ACV dropped 11% year-on-year to $7.3 billion this quarter, which was the first time as-a-service in the Americas turned negative. As-a-service now accounts for 58% of the combined market ACV. This is a slight decline from 61% a year ago. Steve, what are you seeing in EMEA?

Well, the EMEA market also saw mixed results this quarter. The managed services market was up quarter-over-quarter but down year-over-year, and the as-a-service market declined both quarter-over-quarter and year-over-year. The combined market though did generate over $7.4 billion this quarter, and it's the seventh consecutive quarter with greater than $7 billion of ACV. The managed services market had a relatively stable performance in the first quarter with record high ACV, strong restructuring ACV and a high number of contracts awarded, beating the previous record set in the third quarter of 2022. Interestingly, there was only 1 mega deal in EMEA this quarter, so the record ACV was generated through a significant increase in deals between $10 million and $30 million of ACV. There were well over 100 deals in this category during the quarter, a 20% increase in deal flow and a 30% increase in awarded ACV. Spending in the energy sector was up significantly in Europe with almost 50 deals generating over $670 million of ACV. This was almost a 200% year-over-year increase and 72% above 5-year averages. Financial services though still accounts for almost 30% of the managed services spend in EMEA, this sector was up 19% year-over-year with almost $1.1 billion of ACV awarded. And as Owen will discuss, the shakeout of Credit Suisse continues to be monitored as we look for any further impact on the banking sector. The ACV for ADM deals in EMEA exploded this quarter. Deal flow was up 28% year-over-year with over $1.9 billion of ACV awarded. This was up 38% year-over-year, 34% up on 5-year averages and now accounts for 64% of the IPO market in Europe. By region, the U.K. remains the largest market in EMEA, and though flat year-over-year, it was up 36% on a quarter-over-quarter basis and up 16% compared to its 5-year averages. The DACH market though remains sluggish with deal flow up 38% year-over-year, but the ACV was down 20% quarter-over-quarter and 21% year-over-year, primarily due to a lack of large deals in this market. SEMEA, led by France, continues its strong performance. The SEMEA market saw over 90 deals and over $1.2 billion of ACV awarded in the quarter. And France really remains a hot market with managed services with deal flow up double digits and the awarded ACV up 27% year-over-year. Namratha, what's happening in Asia Pacific?

Thank you, Steve. Starting with the combined market, as you can see here, the good news is that the market bounced back to about $4 billion in the first quarter of 2023, but we are still down by 14% compared to last year. On managed services, it was a great quarter as managed services was up over 60% compared to the same period last year. It is important to note that the restructuring had its best quarter since pandemic, up by triple digits year-on-year, which is an indicator that enterprises are relying more on existing service providers. On a regional basis, India, Australia and New Zealand were off to a great start with an ACV of more than 30% year-on-year. And turning to as-a-service market, as Stanton mentioned earlier, cloud growth is slowing and we see that trend reflected in the APAC region as well. As you can see here, as-a-service ACV dropped 23% year-on-year, but the metrics could improve as China reopens and government regulation eases. And that now, Stanton, over to you for an update on the industries.

Thanks, Namratha. So let's jump into our industry update, and this quarter, we're going to focus specifically on financial services. So we've talked a lot about the BFSI industry on Insider lately. And that's because it's critical to the IT and business services sector, typically makes up around a quarter of all the ACV in the market. And as you can see here, on a trailing 12-month basis, managed services ACV was largely flat with as-a-service up 10%. And these results are of course of great interest to a lot of folks in the industry and on this call today given the recent banking crisis that included the collapse of Silicon Valley Bank and Signature Bank and the absorption of Credit Suisse by UBS. So Owen, over to you for more context on what's happening in the sector.

Yes. Thanks, Stanton. So I'll start by saying that expectations of banking customers are not slowing down. If anything, they're demanding improved digital engagement, new products including digital products, more personalized service and better overall experience. This backdrop, coupled with the fiercest competitive landscape we've ever seen in financial services, helps to explain why banks are trying very hard not to slow the pace of technology and business transformation. In turn, this is the main reason we've not seen a noticeable drop-off in demand for technology products, platforms, tools and services even as the recent economic storms have been raging. Having said that, the current market and macroeconomic conditions mean that we are seeing certain adjustments to strategy, for example, a switch in spending from keeping the lights on to genuine change initiatives for innovation. We see this illustrated mainly in the desire to transform banking operations such as mortgage processing, payments and credit card operations to drive real business value. Secondly, we see a greater focus on increasing the productivity of employees and assets, robust business cases for change, shortened payback periods and ROI assessments. In other words, the industry remains focused on gaining competitive advantage through technology and technology providers. To illustrate the point, consider the results of a recent ISG survey that asked more than 200 banking leaders if and how they're increasing shareholder value by improving the 3 individual elements of what we call the transformation triangle, that is employee experience, customer experience and third-party ecosystems. 92% of respondents reply that they believe building the right ecosystem is essential to creating value, empowering employees and delivering best experience with our customers. However, it's the nature of these ecosystems which is changing. Traditional relationships based on technology outsourcing, software agreements and specific consulting engagements remain important, but the real growth underneath the headline numbers is coming from the new ways banks are leveraging third parties, areas like business transformation, focused cost optimization initiatives, platforms, public cloud, banking-as-a-service and more. In summary, therefore, an emphasis on what you might call difference-making technology may reduce bank spending with some providers and shift it to others, and it may also alter the portfolio of services that individual providers offer to their banking clients. But overall, there's certainly no discernible slowdown in spending across the industry. So Steve, with that, I'll turn it back over to you to wrap up with the forecast.

Great update, Owen. It bodes well for the forecast. As Stan hit on, it's 25% of the market or between 25% and 30%. So it's good to hear that you see some stability there. Let me give an overall summary of the call then. So we said the as-a-service market declined this quarter for the first time ever. The managed service market though remained robust with an all-time record for ACV in the quarter. In the managed services segment, bookings remained strong finishing the quarter up 1% year-over-year with the ITO ACV leading the way, up 7%. ADM awards continued at a very elevated level in the first quarter, up 22%. However, infrastructure was down to its lowest quarterly levels in 7 years as both EMEA and Asia Pac weighed on the results. As for the as-a-service market, sales cycles have lengthened and enterprises are looking to optimize their cloud workloads while slowing the pace of migrations. We saw a reversal of the trend where the top 10 SaaS providers seeded share to the smaller firms, so we're sort of seeing that surge in the top 10 again. As for the IaaS segment, the big 3 hyperscalers, AWS, Azure and GCP, are experiencing a year-over-year decline in bookings, falling over 12% year-over-year. The macro environment remains a concern with interest rates, inflation concerns with the banking sector, topping concerns with enterprise clients. There continues to be more scrutiny on deal signings, especially in discretionary spending areas. Enterprises are revisiting cost optimization and efficiency gains and considering vendor consolidation deals. Good news is attrition has stabilized, and we expect hiring to improve in the back half of the year. Based on the Q1 challenges, we're lowering our 2023 forecast for the as-a-service market to 15%. This is down 200 basis points. The decline in bookings is likely to continue into Q2 with stronger growth anticipated in Q3 and Q4. We are keeping our 5% growth rate on the managed services business. That brings us to the end of the formal call. We'll now open it up for questions. Please type your questions into the comments on the right side of the screen. And Rishi, would you like to start to take questions?

Yes. Thank you, Steve. ISG team, that was a great presentation. So maybe I can start, first of all, with something that would be on investors' mind today, primarily because the events that have panned out over the last 2 years in terms of some of the larger service providers, ringing a cautionary bell on how the spending would look like through the course of the year. So if you can talk a little bit about how the last 6 to 8 weeks have been in terms of the overall activity, primarily also touch upon some of the aspects that Owen described about in terms of financial services and whether some of those are deteriorating rapidly. Doesn't look like from the deal wins, but the commentary from some of the service providers has been extremely negative, and it's suggesting that it has deteriorated significantly in the last month or so.

Yes. Thanks, Rishi. Let me start with that one first. And then, Owen, maybe you can give an update on just what we see on banking over the last 4 to 6 weeks. Rishi, I think in general, we still see really strong demand. We see it in our pipeline. We've seen it through Q1 as we've gone through it. I think -- and the demand is, quite frankly, in the right places. As I mentioned on the call, we saw growth in sort of the $10 million ACV to $30 million ACV range. That was up significantly. So it's not just the smaller ones. We really saw some good things happening there. I think there's some pullback on some discretionary projects that we've seen that don't necessarily go through the managed services channel. And I think you're probably seeing some of that. I think in TCS's warnings yesterday, they pulled a little bit about that on some of the discretionary components. I suspect some others are mentioning that as well. We are not seeing that broadly across the board right now. We still see very good deal flow. We still see strong demand. As first quarter, we expected it to be a little lighter, but our forecast is holding. All the signals that we see are continuing to going. Obviously, yesterday was some good news in the U.S. as well with the CPI dropping, I think it was 5%, 5.4%. So we're seeing sort of better levels on those indices as well. But Owen, what's your take from a banking standpoint, especially over the last sort of 6 weeks?

Yes. Well, it's been a fun 6 weeks. So I guess I'd say a couple of things. One, just in terms of the broader impact of what we saw following the collapse of Silicon Valley Bank and Signature Bank and then the absorption of Credit Suisse by UBS. And I think what we're seeing here is very different from what happened in 2008, '09, that's the first thing to say. This doesn't feel like the same kind of systemic crash that we saw back then. I think the banks that have failed are those that had business models where they were exposed to particular types of risk and perhaps didn't have the diversification of resilient -- or resilience that others have. And so yes, I think that's the context that we're talking about here. Inevitably, there was going to be a stock price impact on banks all around the world to begin with as people kind of try to figure out what's happening. But I think we've seen that stabilize. The impact was largely localized to regional banks in the U.S., for example. And then certain -- particularly European banks, I know Deutsche Bank came under a bit of pressure, again because of their business model and perceived lack of resilience. But I'd say in terms of technology spending on services products, tools and platforms, I think one of the things that I mentioned in my update was what we're talking about is more of a switch in spend. There are certainly some decisions being delayed. That's certainly true. Steve mentioned that. But we're also seeing a switch of spending away from what might be considered kind of run the bank spend more towards change the bank spend that's going to be differentiating and value-adding. And I don't really see a great deal of slowdown in that kind of transformative spend, particularly in areas of banking operations, and I mentioned some of them, the whole customer experience, customer journey, driving business value and credit card operations and payments and improving onboarding and all of those companies. I don't really see banks pumping the brakes on those, even the regional banks that were most heavily affected from a stock price perspective. So I think it's a very mixed picture, Rishi, if I could sum it up.

Great. The second question is slightly on your forecast, right, so you're already talking about managed services to grow 5% this year, as-a-service to grow 15% this year despite a decline that we have witnessed in 1Q. So if you can elaborate a little bit more in terms of the underlying assumptions, what gives you comfort around this forecast, and do you see the nature of deal activity changing through these growth forecast that we have, which may impact or benefit one player over the other or a group of players over the others?

Yes, Rishi. So kind of 2 different questions. So let me take the managed services question first, and then I'll talk about the as-a-service and then sort of the changing nature of it. So when we look at our forecast, we look at a wide variety of variables, if you will. So we break it down first by industry. We know that, for example, banking, 25% to 30% of the market; manufacturing, about 22% of the market; technology spend, life sciences, those are sort of the big movers. And we model each one of those industries separate and then roll up to what we believe the overall ACV bookings and the overall forecast is going to be. When we look at that, we look at sort of our pipeline, the broader deal pipeline and then obviously those macro factors that are impacting it. So banking, for example, could have a big swing. We've got a factor in there that we think is right for where banking is going to go. If we're off and banking, let's say, for example, went to 0 or decline, that could have more of a negative impact. Retail, for example, which has been really slow, is less than sort of 2% of the overall market. So even when we look at retail and we see some concerns there, it has such a small impact on the overall market that it doesn't really fit in. Now when we did the forecast this time, we were anywhere between 4.6 to 5.2 on the forecast, right in line with our guidance. Again, that looks at everything and we just don't see enough of a slowdown in anything in the managed services sector to be overly cautious or overly concerned with that forecast [indiscernible]. It's fairly in line with where the market is. It's certainly in line with where we see the bookings. SaaS side is a little bit harder and the IaaS, let's take the whole as-a-service side. First thing that we do is we look at the big 3 hyperscalers, especially AWS, Azure, GCP. They've got such a dominant marketing position that depending on what they -- what happens there impacts a lot. We looked at the slowdown in bookings and going negative, and that obviously was a big concern. We sort of looked at the compares. We looked at what's coming up. We looked at their earning announcements. We looked at their revenue stream. We sort of said, we think there's about a 200 basis point impact just given the slowdown in bookings. But they have such a massive backlog, we don't think that, that's going to impact sort of long term. So we really brought it down to what we think, again, 200, 250 basis point impact for this year for it. But again, the bookings, there's just -- there's a great backlog there that we can see through. SaaS, we really saw -- we saw a big movement to sort of the top 10 to 15 players. Quite frankly, during most of 2022, we have seen sort of the long tail of SaaS hold up the market and the bigger ones were a little bit behind. As we see it now, there's a lot of investment going in there. We're 34 minutes into the call, and I don't think anybody has mentioned ChatGPT yet, so let me be the first. But I think as we think through that, AI is going to be embedded in all of those solutions, and that's going to push that market forward, especially on the bigger ones. And obviously, the level of innovation that's coming through there. I don't know, Stanton, anything you want to add on that?

Yes. I was just going to say, Rishi, we were talking about this a little bit in the pre-call. I think it's always -- I know I'm saying this every quarter, but I'm just going to keep saying, I think it's really, really important to keep in mind is in the past, we saw a strong correlation between a recessionary environment and a pullback in technology spending, right? That correlation is gone, right? Technology is now central to every company's strategy. That's one of the key reasons we continue to see strong demand both in managed services and in as-a-service, although it has slowed down as reflected in our lower guidance, down to 15%. I just think it's important to keep in mind, especially on the cloud side that we still see SaaS firms adding a significant number of customers. We still see our clients making big bets on cloud as the future operating model and future platform for their applications and then more and more so applications as that's now over 60% of ACV in the sector. It's just that the -- as Steve talked about, the bookings are slowing. And so that's somewhat due to sometimes some discretionary-related items, which probably are a little bit more focused on SaaS and then on the Infrastructure-as-a-Service side, just remember, and we've talked about this a lot over the past couple of quarters, that huge commitment that we saw many enterprises making post pandemic, and now what we see is a slowdown in fulfilling those commitments in order to get those applications onto the cloud platform. So it's still the platform of the future, just the movement to get there has slowed.

Understood. And just taking a queue from the comments that Steve made around ChatGPT. One of the providers yesterday mentioned that no client conversation is starting without discussion on ChatGPT today. But it would be great to understand when it comes to sourcing or when it comes to contracting activity, have you seen ChatGPT becoming instrumental or critical to the overall activity in general? Or is it more just because it's topical that people talk about that? And also, the second part question to that is if it's going to become material over the medium to long term, who do you think among the group of companies, and then not necessarily one, that can potentially be beneficiaries over the other? Or is it going to be a timing factor where one group will benefit first and the other one will follow later?

Yes, Rishi. It's been great, as I shared a couple of stories earlier, I did a keynote in January on ChatGPT, and it just launched. This was like the first week of January. And there was maybe 20% of the people in the audience that had heard about it or had tried it. 2 weeks later, there's 100 million people, maybe 200 million, they stopped counting the number of people. Fastest-growing, I don't even call it a [ NAV ] technology ever. I'm glad I'm not the only one, but it's in every conversation, every discussion that I have with every C-level exec all the way down to people that are just working in procurement organizations, whatever, it's dominating the conversations. And I think we're just at the beginning. We're adding 100 new start-ups per week in the .AI space, if you will. There's over 1,800 companies now that are adding on to ChatGPT. I just saw today that Bloomberg is going to add it to their terminals and what they're doing. So it's absolutely being integrated into everything, which means the service providers are going to integrate as well, and it's going to move the top end of the market. A couple of great things about it. First of all, there's going to be tremendous productivity gains. If you think about software development and coding, having a co-pilot by your side that can help you be faster and more creative, think through issues, address those, it's going to be -- it's going to unlock a lot of potential for all the service providers just from a productivity standpoint. But it's also going to open up a new world so we haven't thought of yet. It's going to open up new applications, new capabilities that's going to drive even more software engineering, more capabilities to the market, which will drop the top line. The core of your question though, are we seeing it in deals? I'll answer that a couple of ways. I would say that we have a ChatGPT or AI deal coming to market, but it's being integrated so much in business services, it's being integrated so much on supply chain optimization that it's absolutely part of the solution now. We're working with a client right now in the device manufacturing space that looked at their sort of entire supply chain, their entire value chain and looked at how AI could impact each of the core components of their supply chain. They're going to take that to market, right? So they're looking for suppliers that can think in that same way on how to use GPT or AI to combine those to drive it forward. And then your last question is really interesting because this technology feels like it's new. November 30, 2022 was going to go down as the famous date. But quite frankly, the technology has been there for 20 years, arguably. It wasn't that long ago. It doesn't seem like that we'd beat go. 10 years prior to that, we'd beat chess with Watson. But I would -- so I would take a look at organizations that have continued to invest in AI, right? There's been several Indian firms that have just a historic track record, great track record on ongoing investments in AI. And I think those are going to pay off really quick on what they can do. I would look at organizations that have deeply embedded automation in sort of their core theme and how they think about automation from the very beginning and how that drives it. And then lastly, I would probably look at those organizations that have deep domain experience. And it really doesn't matter what domain, but they really get it from a domain experience. So they can look at it and say, "This is how I'm going to reimagine clinical trials using AI. This is how I'm going to imagine rethinking through the manufacturing supply chain or creation of life sciences and drugs, all sorts of things." The deeper domain experience they have then more broadly, they'll be able to help solve those challenges. That was a long-winded answer, but only because I'm passionate about this one.

Well. Absolutely, I think, I mean, one can go hours and hours and still would not be happy with the conversation around it. Fantastic. Great. Thank you so much for giving the opportunity. I think it's time to take questions from the chat side as well.

Thanks, Rishi. So I'll go ahead and jump in. So an answer to your question, yes, ask us again tomorrow because the answer will change. That's how fast things are moving. Okay. So let's go ahead and jump in. We've got tons of questions coming in. So let's go ahead and jump into some more Q&A. Owen, I'm going to come to you first. You mentioned evolution of how banks are leveraging third-party providers. Can you expand on that?

Yes, sure. So this -- some of the numbers that are of interest here come from a survey that ISG conducted late last year, where we were serving banking leaders about the way that they think about ecosystems, the way they build them and what they're building them for, what expectations do banks have from their partners. And actually, the use of the word partner, it's very telling because one of the things that the survey tell us was that they do want to see third-party providers as partners rather than just vendors. We've heard this before, but I do believe that there is a shift happening in the industry right now. They want more strategic engagement from their third-party providers. And in fact, some of the areas that actually scored most highly were quite surprising in their reach from a business perspective. So for example, when you expect and want partners to support them in terms of building new products and services, in terms of identifying business challenges and how to solve them, improving business agility, even expanding into new markets, new products, new regions and so on, these are very different from what we might have seen 5, certainly 10 years ago where those kind of ecosystems and relationships and the way that banks leverage third parties is all about things like scalability and fulfilling technology requirements and operational efficiency. It doesn't mean those things are not important, they very much still are. But I believe that there is a shift in the way that banks and other financial institutions are thinking about third parties when they're trying to construct ecosystems that are full of new players, frankly. I mean, we have the usual suspects, but we also have fintechs and big tech and platform providers and even nonfinancial institutions when you think about things like banking-as-a-service or embedded finance. So I guess that gives you a flavor, Stanton, of what I was talking about there.

Okay. Thanks, Owen. Next question is, can you give -- can you discuss what the demand environment is like for human capital management software, so I can take a stab at that one. So we talked a lot about SaaS during the call, specifically on HCM as we look at some of our data here. The ACV growth for HCM was actually flat year-over-year. That's compared to the 5-quarter average of 30%. So just like all the other categories that we talked about in SaaS. We definitely see a slowdown there. That said, we are seeing an increase of sort of demand around an internal centralized shared services movement. And so we think that, that potentially could increase demand for more consolidated and centralized HCM system over time. I do want to mention although the question was specific to HCM software, if you look at HRO, so we're talking now about HR outsourcing, they actually had a really strong quarter. It was up 24% year-over-year. It was up 40% on its 5-year average. It's only the second time ever that there was a $100 million quarter. So always have to be careful looking at it on a quarterly basis, that's the reason sometimes we look at stuff on a trailing 12-month basis to get a bigger picture because the bookings can be kind of lumpy. That's a pretty strong quarter for HCM. Qualitatively, we would think that the demand looks slightly stronger, really strong demand for cost reduction and improved quality. And as I mentioned, that movement to more of a centralized shared services model, we think potentially could bode well for HCM vendors. Okay. Next question, Steve, I'm going to come to you. We've got a question on mega deals. So you talked about mega deals in Americas. Do you have any more detail on those mega deals.

Yes, absolutely. And if everybody sees my eyes moving, we've just got all sorts of data here that we're going back and forth with. So we did have 8 mega deals: 6, 7 were in the Americas, 1 in EMEA. So you can guess we had 1 in APAC as well. Kind of when we look through them, nothing really extraordinarily jumped out. We had a couple in BFS. We had 1 in manufacturing. So I think it was good. I would say, overall, probably the biggest thing that we saw is just a number this quarter really puts us on a good pace for the year. We do know several others, at least 3 others that are in the market right now that are likely going to be Q2 signatures. So we think that for the year on mega deals, where we thought it would be lighter is actually turning out to be good news, I think, overall as we go forward.

Okay. Kathy, I'm going to come to you next. This is kind of a long question. Do you see any rebate agreements driving volume increases and expanding services scope to deliver year-end rebate dollars for hitting volumes without sacrificing unit rates and discounts upfront? Sorry, that's a long one.

I think I heard rebates, unit rates, sacrificing dollars. Thinking about rebates, I don't see a lot about rebates right now in the market. What we are seeing, though, and I've been getting a lot of questions about, is innovation and innovation funds. So it's not necessarily a rebate, but I've heard a lot of deals now are funding innovation funds when they hit certain milestones, and they're going back and then working with their clients to drive further innovation to meet some of their strategic intent. So I think that not so much on the rebate side, but definitely more activity around innovation and how to drive that innovation through relationships with providers at enterprises and other organizations.

Okay. Namratha, I'm going to come to you next. Question around -- you mentioned rebalancing efforts. What do you mean by that?

Yes. The rebalancing efforts, I think as I summed it up in my commentary as well, one is of course we are seeing a significant hiring slowdown. Providers are obviously being very cautious about how many headcounts they add right now given the macroeconomic conditions. Second is we saw a surge in hiring. We saw a surge in attrition last year. So all of that is also kind of coming in to the picture in terms of how they can actually rationalize their delivery pyramids. I think we also had -- we had an interesting question around how our delivery centers also kind of being optimized given the wage increases as well. So we see a lot of investments in Tier 2, Tier 3 cities, particularly in India in terms of diversifying and managing the cost. So these are some of the action items that some of the providers are taking off. And of course, we do -- I think the industry is also talking about some of the layoffs and some of the providers and tech companies have announced. But I think on the provider side, there has been a layoff mostly targeting the nonbillable segments and not really the billable segment, which continues to say that the demand is still on and the delivery is still going strong for the billable engagement. So these are some of the rebalancing efforts that we are seeing across a lot of providers who are just being cautious given all the situation in the industry.

Yes. And I think it's a good point. I think because obviously, there's a lot of discussion about the layoffs. Obviously, the impact on the tech sector, big tech. But if you look specifically in IT services, and we've talked a lot about this, getting a lot of questions around it, there have been some announced layoffs. But as you mentioned, Namratha, those are primarily targeting. To kind of dig into them, they're primarily targeting nonbillable roles, real estate costs, more on the cost side to really kind of help protect margins rather than the billable side, which could be an indicator of a slowdown in demand.

Right.

Okay. Steve, I'm going to come to you next. We've got a question about deal ramps. Are you seeing delayed deal starts even after a deal may be signed due to market uncertainty?

We saw deal flows slow down a little bit with delayed decision-making in Q4. We haven't seen a lot of that in Q1. Though to Owen's point earlier, certainly, in banking for a couple of weeks, I think there was a little bit of shock to the system that did sort of slow down some things. I don't know that it's fully picked back up yet, but that would be the only noticeable deal slowdown that we saw. I haven't looked at it specifically yet in the terms of transitions, but I know in all the transitions that we lead, we have not seen really a slowdown in transitions or really deal kick off going either. I would suspect for deals that again are sort of under maybe the $5 million ACV or $5 million to $10 million ACV, there could be some delays in starting those if they were signed certainly in the banking sector before. An organization said, "All right, we just signed this, but let's make sure that we understand that." I don't think it's having a big impact on the overall numbers in the market though. Certainly, some are going to probably say it impacts them, but we're not seeing it from a macro level across the whole market. I don't know, Owen, anything from you on the financial services side or about the same?

No, I very much agree. I think there was an initial company of the breaks, but it didn't last long within a couple of weeks. That didn't affect the overall way that the banks are looking at their spend. I think they are much more laser-focused on the digital transformation, business transformation that we spoke about earlier. And I think once those couple of weeks have passed, and there was a bit of relief that this wasn't necessarily going to be a broad contingent that some had feared, then I think they're pressing ahead.

Okay. Owen, I'm going to stick with you. I got a question around banks. Where are banks placing their big bets in terms of technology?

Okay. I guess I would probably put these in -- these bets in 3 buckets, Stanton. One is definitely around improving digital customer engagement. And so that -- I guess, the rubber hits the road there in things like onboarding and real-time payments, and in the back office, what that means is core modernization, simplifying processes, doing journey mapping and understanding that customer experience. That all requires technology and technology partners. And so a lot of the technology and service providers that we've been talking about today are heavily involved in those kind of activities. The other big one in that space would be contact center transformation and the reimagining of contact centers, moving away from a model where they're just therefore inquiries or complaints and much more being seen as an opportunity to engage and interact and pull customers in from a sales perspective as well. And that leads me to get to bucket 2 for big bets of tech and that would be new channels to market. So contact center is one of them that bridges the gap between those buckets. But the other ones that people will be familiar with would be -- as well as the usual kind of partnership that we see in the industry with fintechs and platform providers, it would be more things like banking-as-a-service, partnerships outside of financial services, and of course, the metaverse. And we've seen a lot of banks exploring the metaverse as a new way to engage with different kinds of products, digital assets, digital products with new customer segments. And then, finally, the third bucket that I would mention on tech spending would be, Steve and everybody else has talked about ChatGPT, but intelligent automation more broadly. And what are going to be the prevailing use cases in financial services for AI and machine learning, GPT in particular, things like is it just going to be in the risk management space for prevention. We've seen a lot of new stack, but also on the customer experience side, how can intelligent automation be used to help with customer experience, how can it be used to personalize messages, personalize products as it comes to financial planning, wealth management, those kind of things. So I think those would be the 3 buckets.

Stanton, it may be slightly different in Europe, but the big area where we're seeing every conversation is really regulatory environment in Europe. I would say third-party risk management and DORA are absolutely impacting the conversation, and it's all wrapped around technology on how to validate it. What's interesting, and maybe it's just a sign of the times right now, ESG has seen to slide down a little bit on the overall, certainly not important from a world perspective and climate perspective, but on an overall investment perspective on technology and what we're doing there over the last year.

Okay. I think we've got time for one more question. So Kathy, I'm going to come back to you. We've got a question around rates. Can we expect to see rates increase for project work in order to stabilize?

When we did the analysis, I was really interested to see that we are seeing rates increase. So the new rate cards that we're seeing come in on deals across the board are finally starting to take hold. I know I reported in past indexes that we hadn't really seen a broad increase in rates. So I think right now, we're going to continue to see those rates being passed on, especially with the new structuring deals and with new ACV and a lot of the application activity that we see in the market. So I do expect to continue to see rates to increase as the new rates kind of trickle into the market. But I don't see if there's a little bit of a nuance here. I don't see those rates increasing. So I think the new rate cards are kind of coming into the market now. We'll see those in new deals, but I don't see another layering on top of that.

Okay. We are -- we have a mountain of questions that we'll never get through, but as a reminder, we do answer these. And then we'll publish the answers to many of these questions that we weren't able to get to today. So we're going to go and close out the call. Rishi, a huge thank you to you and your team at IIFL for hosting the call today. As I just mentioned, as a reminder, you can access a copy of the slides, the regional leaderboards and then we'll publish some of the answers to these questions. You can find those out on the ISG Index web page. I do want to take just a couple of seconds to mention that both Steve and Owen talked about the importance of cost optimization today for enterprise clients, huge important topic right now. If you're interested in a deeper dive on that topic, we have some really exceptionally strong new buyer behavior research in that area. So if that's something that you're interesting -- interested in, just reach out to me, and I can point you in the right direction there. Finally, our second quarter call will be on Thursday, July 13, and we'll be in touch with you very soon about registering for it. So thank you again very much for joining us, and have a great weekend.