Consulting firm Accenture (NYSE:ACN) appears to be transitioning from telling companies how to do business into taking over whole parts of their clients' operations. Paradoxically, though, this heightened level of outsourcing isn't leading to higher profits but is instead putting pressure on margins. What's the deal?
According to executives speaking during this morning's conference call to review earnings for the first quarter of fiscal 2004, outsourcing contracts typically carry lower margins in the first three years. Indeed, Accenture grew its outsourcing revenues by 37% vs. last year's first quarter, yet overall gross margins were 34%, down from 39% a year earlier. Investors were disappointed by the news, sending the stock lower by more than 12%.
Outsourcing technology-intensive business processes is bringing in big money for the industry's players, however. Market researcher Gartner Group (NYSE:IT) reports that there were 15 outsourcing deals worth $1 billion or more during 2003. Procter & Gamble (NYSE:PG), for example, has been outsourcing technology-driven parts of its business for years.
For its part, Accenture is handling health-care systems throughout England for the U.K. Department of Health. The contracts involved span 10 years and are worth more than $3.5 billion, according to Accenture executives.
And therein lies the beauty of the outsourcing model. The consulting businesses of Accenture and competitors BearingPoint (NYSE:BE), Computer Sciences (NYSE:CSC), and IBM (NYSE:IBM) have been driven by short-term projects. Outsourcing gives Accenture a predictable stream of revenue for several years. That's not to say outsourcing is some sort of magic business elixir, but it's easy to understand why Accenture would want to grow this part of its business.
Can Accenture profit from outsourcing? If more deals like the one with the U.K. Department of Health come in, absolutely. But the competition to land such deals will be huge. Accenture CFO Harry You probably said it best: "We're a touchdown down in the first quarter. We know what we need to do. We have to execute."
What's your take? Let us know on the Accenture discussion board. Only on Fool.com.
Tim Beyers doesn't own shares of Accenture or any of the other companies mentioned, but he's constantly searching for ways to outsource his household chores. Tim welcomes your comments at [email protected].
