Digital Business Service Providers Series: Market Overview

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E. Robins - December 13, 2000

Executive Summary

The Digital Services Industry began when traditional management consultants with accounting practices discovered that computers could relieve them of the vast tedium of processing numbers and let them focus on their client's business concerns, usually by applying the new technology to create new business value. The world hasn't been the same since. Today, any business of reasonable size is integrated with its support technologies, whether the business is aware of it or not. With the rise of the World Wide Web, the breadth of technologies and associated business services has exploded, and will continue to do so without much in sight - short of an economic collapse - to stop it. Forward thinking service providers provide measurable value to their clients - and have indeed helped create whole new business models and opportunities.

We have called these innovative service providers Digital Business Service Providers or DBSPs. Often these service providers are defined in terms of e-business alone, but we take a broader view:

"A DBSP is a company providing management, technology, and creative consulting practices that strategically assist or significantly enhance the capability of a client to deliver services, information and/or goods through the use of an electronic networked environment, generally including the use of IP related technologies."

Under this definition DBSPs range in their abilities and offerings from the esoteric worlds of advertising and branding to the technologies and infrastructures that make a business work in a networked environment. The range of interrelated needs of their clients means that these companies must be equally broad in their skill sets and vision, even while occupying niche spots. New niche providers arise on a continual basis, and often move rapidly, by one business strategy or another, to expand services so that they can provide 'end-to-end' services. However, one of the significant features of this marketplace is that new niche players are already finding it impossible to compete or expand against entrenched legacy providers. As a result we're seeing partnerships between the two begin to blossom. This is a sign of the market maturing in at least some segments. We shall identify these segments, and some chief players among them, below.

In this part of the series, we examine the rise and nature of the different service providers that inhabit this space. In subsequent pieces, we shall examine service provider market and technology trends.

The Evolution of Service Providers

The Digital Business Service Provider space has only been in existence a short while, and yet it can claim a long history. Service providers arose from a variety of backgrounds as the opportunity and demand to provide new services increased. These new opportunities result from the coalescing of communications technologies with computers, related developments in the telecommunications infrastructure, and the deregulation of many national and international networks. The major outcome of this coalescence has of course been the creation of the Internet.

Chronologically, we'll break the history the into seven time periods starting with the beginnings of commercial applications of computers. These rough time frames span the epoch during which technology begins as a way of making efficiency gains and ends as an integral component of a company's strategic survival and business methodology.

Late 1950's to mid 1970's

Service Providers are dominated by former and current accounting and management consulting firms. We see a new breed of systems architecture and programming consultants such as CSC (Computer Sciences Corporation), mostly geared for large-scale applications. Later in this period systems integrators such as EDS appear. These are today's legacy (or traditional) consultants. Verticals such as air travel booking systems (SABRE), manufacturing and automation, and decision support/rudimentary business intelligence tools appear.

The first networks, including use of satellites, and first electronic mail systems appear. Awareness of EDP (Electronic Data Processing) rises in corporate hierarchies as a business asset, making it easier for service providers to sell major projects and develop new capabilities. Many companies operate with separate MIS departments in individual business units, leading to a plethora of incompatible systems.

Mid 1970's to early 1980's

This era is still dominated by large-scale computing projects. Networks are spreading to more customers as networking costs drop and new telecommunications infrastructures come into effect. Systems integrators find their niche, particularly since multiple 'packaged' solutions are becoming available. This enables service providers to extend their expertise into customizing and integrating the new packaged solutions, increasing the market they can service. Implementation projects cost as high as $300,000 and software packages are about $50,000.

Early 1980's to late 1980's

The PC changed everything. When IBM introduced the PC in 1981, and the first killer application in the form of a low cost spreadsheet, IT costs per user dropped quickly. Ethernet and token ring standards became established, terminal emulation programs for PC's appeared providing connectivity to mainframes as intelligent terminals. Connectivity became an important issue. Suddenly everything could be distributive and connected. Service Providers quickly tooled up in network technologies, adding the management of these systems to their sales bag. The enormous backlog of systems integration was not complete, and now had to be readapted to network and distributed processing environments.

The growing PC market was now penetrating into SMEs (small-to-medium sized enterprises), and even homes had PC's. France experimented with a nationwide electronic network. Management consulting involving IT strategies begin to affect how organizations executed their business. Extensive MRP and DSS systems extended the range of consulting services, particularly for risk management and accounting based financial service consultants such as Deloitte and Touche, KPMG, and PriceWaterhouse. Companies like EDS and CSC become the systems integrators. SMEs were shut out of these developments to a large extent, but took advantage of lowered software costs to automate their businesses; small-scale service providers and some of the larger consultancies such as Deloitte paid attention to this market, but it was not their focus.

Meanwhile, broadband services such as cable, fiber-optic and microwave, and many communication standards were proposed or rolled out in the burgeoning telecommunications industry. ARPANET expanded to over 10,000 nodes by 1987, and the Internet began to take shape.

Late 1980's to early 1990's

With the rush of network technology, packaged and open architecture solutions and new technologies, lowered integration costs per user. Smaller organizations were able to introduce new solutions in the crusade to improve business efficiency. Larger organizations followed suit, using service providers to compensate for inefficiencies or lack of expertise in their MIS departments; this often pushed aside MIS management and led organizations to be more dependent on their service provider.

As systems became more complex, more companies came to engage with service providers. The depth, breadth, and strategic consulting demands on service providers were, as a result of these trends, greatly expanded. Deeper involvement in the affairs of clients led to questions about the independence of the legacy consultants who sometimes provided auditing and technology consulting to the same companies, thereby often auditing their own work.

Further, the discrepancy in pay and investment return was quite different for technology and management consulting as compared to audit and accounting services. The latter were left feeling like the poor cousins. The situation continues to this day, but the management consulting arms of the major players are divesting their technological fingers rapidly, yet at the same time attempting to capitalize on the market. The problem is still undergoing review by the Securities and Exchange Commission in the US.

Two events in this period led to dramatic changes in service provider life. On November 1, 1988 the first Internet worm was released, disabling approximately 6,000 of the 60,000 Internet hosts. Even though the Internet (then still really ARPANET) lashed together educational institutes, there were direct ties to commercial networks and free public access ramps. The release of the worm sent shivers around the net, and the Internet security industry was born.

In 1990, ARPANET was suddenly released from its Cold War cage, to form the backbone of the new Internet. In 1991, Tim Berners-Lee, working at CERN in Switzerland Launched the first prototype of the World Wide Web. Marc Andreesen and a group of student programmers at the University of Illinois developed MOSAIC, the first graphical browser and the forerunner for Netscape.

Early to mid-1990's

Although the Web excited many, established businesses were relatively slow to pick up on the possibilities. One that was farsighted was MCI (now WorldCom). It teamed with service provider PROXICOM to create the first online mall -- marketplaceMCI - a failure by any standards, but a brave attempt. PROXICOM exemplified a new breed of service provider: one dedicated to web business. Such new niche web players quickly grew in reputation, and business was beginning to awaken to the possibilities of the Internet. Suddenly, there were people on the web, and where there were people there was a market. Tapping into it was another problem. PROXICOM was joined by the likes of RAZORFISH and USWeb (now marchFirst)and many others.

The legacy consultancies were aware of this new form of enterprise, but their money was being made through Y2K - related activities, and their core customers were not at the forefront of spending on new technologies. And, truth be told, many were ill equipped for the creative challenge posed by the Internet. Many Internet projects were also small scale and not of interest to them, so the field was left to the new service provider innovators. Some advertising agencies, such as DDB Needham, were also curious about this new medium, and online advertising was born.

B2C oriented service providers dominated this early phase, although many have since changed their focus to B2B. Razorfish appears to have made this transition. Organic.com, founded in 1993, and Agency.com (founded 1995), are still recognized as B2C companies, but are increasingly involved in back-office and legacy systems integration work. Robert Shaw, former CEO of USWEB, recognized the ambiguity in B2C when, during USWEB's 1999 fourth quarter results telecast, he stated " the blurring of B2C and B2B is happening; you can't really do the whole thing without understanding the whole scenario."

Mid 1990's to 1998

Though established business was waking up to the possibilities of the Internet, the Y2K issue consumed most of their resources and energies. Rightly or wrongly, the web became the haunt of the newcomer, and 'dot-com' companies arose as online sales opportunities seemed to explode with each passing day. With a roaring stock market, a huge potential and the online market growing at an unprecedented rate, even very unclear business models seemed to offer instant success.

Prior to 1998, the Internet looked still very experimental, but a few apparent success stories stood out: AOL by 1998 was a multibillion-dollar business, and was beginning to move from its private network to the Internet, a move that gave the web as a whole great legitimacy. Other early successes included service providers such as Razorfish, Proxicom, SCIENT (founded in 1997), and Appnet (founded in 1998). Interactive agencies - branches of traditional ad agencies that brought branding and image creation together with Internet technologies - were also founded.

During this period, dot-com's started to arise as a powerful force on the service provider marketplace, their numbers largely driven by the unreasonable market caps achievable on the stock market through IPOs. This had several effects that echo to this day. First, many service providers began to offer services for creating businesses, not simply adding value to existing businesses. In some cases some service providers were started and structured on the premise of creating new businesses in the web environment. One such company is SCIENT. SCIENT has since built its reputation and its capabilities to deliver services to create businesses from a few Power Point slides. Others, such as LANTE (founded 1984), have undergone transformations from network integrators to e-Marketplace specialists, or at least tried the transition with a good degree of success. Many such integrators have failed in this attempt.

New trends became important: globalization, localization, personalization, privacy, security, Internet taxation, and even politicization. Suddenly the web involved new skill sets and impacts that had as much to do with traditional global issues as with modern technology. Technology companies planning to make money on the web began to turn to traditional consultants who were ill prepared for the new medium.

Additionally, new Internet technologies such as Java and Active-X were bringing out the collaborative and interactive advantages of the web. These new technologies began to fit neatly into the new service provider skill sets.

1998 to Present (November 2000)

Although the growth of dot-com companies is largely associated with the United States it was and is a worldwide phenomenon, with some 10% of IPOs originating from offshore based organizations (see figure 1 which gives the distribution of IPO's outside the US on US exchanges up until January 2000). Unsustainable market caps derived from wildly inflated revenue predictions by (often) inexperienced entrepreneurs moved a whirlpool of money into these stocks.

Service providers also jumped in on the act, and up to a year ago some were earning as much as 50% of their revenues from dot-com business ventures. Many service providers streamlined their processes, (thereby increasing business failure risk), and developed incubators, accelerators, business production 'Supercenters' (a term from service provider Xcelerate), test laboratories for broadband, scalability, wireless, and whatever else the focus had to be, in order to attract dot-com's to their houses.

Figure 1. IPOs from Offshore sources on US exchanges prior to January 2000

The new service providers on the block were good at this, and their shares soared with those of their clients. However, the party came to a reasonably abrupt end when reality set in, and all the hype of the new business paradigm collapsed back to one basic measure - profitability. The impact on service providers was dramatic, and within a quarter, many reported that they had shifted gears and were focusing on more stable lines of business. Luckily, with Y2K out of the way, established brick and mortar companies were now turning their attention to the Web. Even slightly before the dramatic drop in valuations that occurred in March and April 2000, brick and mortar companies were looking for ways to improve supply chain and procurement processes. Early reports of substantial ROI in e-procurement, and extended supply chain management using Internet based technologies were proving attractive draws.

The odd situation of dot-coms dying and brick and mortars turning to click-to-order, as well as the growing importance of B2B, has created a brave new world of partnering between the legacy consultants and the new upstarts. For example, according to Walker Interactive some 80% of data on the web is sitting on S/390 systems. Legacy consultants have the traditional skill sets to deal with these legacy systems, while the new service providers have skill sets focused on the newer technologies, including their creative and strategy components. Though this does not mean that service providers cannot offer a complete set of services for any engagement, it does mean that there are likely to be higher risks when companies choose a single service vendor for a broad based solution. Mitigating these risks has led to partnering relationships among many service providers.

Finally, as this market matures the problems of capitalizing on the advantages of a ubiquitous network have opened a Pandora's box. The complexity of integrating creaking legacy systems with new high speed and scalable Internet technologies, and linking suppliers and customers into single demand-side supply chains, presents an enormous challenge. One thing to expect is that it will spur the development of new technical capabilities within the service providers. Already, many specialist service providers and second tier services are appearing; these range from online brokerage and automated taxation services to wireless, broadband and Bluetooth product support. The wealth of services that existed in the physical realm will to a large extent be transformed to online businesses. The partnering approach will play a heavy part in tomorrow's service provider world, and partnerships should be taken into account when selecting the service provider.

Digital Business Service Providers - A Current Taxonomy

Based on the discussion above, the current set of digital business service providers divides roughly into the following groups:

• IT Management Consulting organizations that have re-packaged, re-branded or created consulting practices around the e-business label. To add creative design and web architecture elements to their portfolios, they have invested in smaller entities. Deloitte Consulting is an example of this process with its venture capital program to obtain technologies and talent; others are Andersen, PWC, and KPMG.
  
  
• Systems Integrators who have migrated from systems integration into B2B. Often these are reasonably successful but small (less than a thousand employees) firms that realize that the main business focus has shifted from integration to providing full services. Larger companies such as CSC and EDS are also among legacy systems integrators who have made (or are making) the transition. Smaller organizations such as OSPREY can also be placed in this category.
  
  
• Traditional Marketing and Advertising Agencies who are driven to provide Internet services for clients. This group of companies is often ill suited for the role of technologist, so unlike their roots in marketing and creative solutions. However, relying on their marketing strengths may provide a lower cost alternative than some using holistic SP's trying to cover every base. Successful companies in this space are DDB Needham's integrated communications and digital group (called Beyond Needham. JWT is another legacy advertising organization that has embraced the web. There are also newly created digital branding companies such as Four Points (absorbed by Whittman-Hart which merged with USWEB/CKS in March, 2000), begun by ex-executives of traditional advertising agencies but now focused in the digital marketplace, and Digitas which rose from within Bronner, Shlosberh, Humphrey to engulf its parent.
  
  
• Website Builders And Web Creative Organizations. These are generally new companies created within the past five years that started as creative boutique website builders in the mid 1990's and have grown their capabilities organically or by mergers and acquisitions. USWEB/CKS, Razorfish and XCelerate are examples of these growing companies.
  
  
• Vertical Market-Product Oriented Corporations that drive into the e-business service provider space by providing opportunistic consulting arms to sell and repackage existing products to e-business clients. These might be labeled "product-centric service companies." IBM Global Services (vertical: Computer products and services), Informatica (vertical: data warehouses) and possibly such giants as AT&T and WorldCom (vertical: Telecommunications) are examples of this breed of service provider. Generally they are legacy organizations that see real growth opportunity, sense the need to re-invent themselves to survive, or are merely remarketing themselves with current jargon without any basic change in what they provide.

It should be pointed out that the situation is highly fluid. For example, Andersen Consulting has undergone a rapid change within a period of 80 days from November 1999 to January 2000. Released from its chains to Arthur Andersen, it is expanding rapidly into new regimes, including forging a diverse set of partnerships. In the extended world of the Internet one may wonder what any company truly "is."

User Recommendations

Given the history and nature of the changing service provider world, it is clear that a Digital Business Service Provider must have an extensive network of capabilities. Users must consider all their requirements in light of the interlocking partnerships and capabilities that may be called upon during the course of a project.

Technology trends are more closely tied to business opportunities today than at any other time in history. You want to work with a service provider that understands your strategy and direction and shows the ability to grow its skills to meet your future needs. This is probably more important than low price or even basic capability. Today, with the more complex environment of the Internet, a new company may need to spend as much as $10M for a first run to compete with online brick and mortar organizations. Barriers to entry are much higher, and competition is likely to get stiffer. Opportunities will most likely arise with new technology, and the service provider you work with should be capable of riding ahead of the wave

On the other hand, issues such as cost place a heavy demand on the user to manage projects, and ensure the goal of the project is clear and within bounds. If you are uncertain of the business vision, it is better to postpone the project to a later date than to spend money without a clear goal. You must work closely with the service provider, have a management structure that deals with issues effectively, and ensure that the service provider also has appropriate management and structure on its side.

Service Provider Recommendations

It is essential to form partnerships and alliances to build the skill sets that will continue to add value to your clients, regardless of your current size or aspirations. We believe that small companies are likely to find it impossible to provide the full extent of service required; we believe that even companies in the SME market will have this problem.

Larger service providers must have critical mass, market niche or distinctive direction to be successful in fending off challenges. We suspect that in time various 'camps' of service providers will be created, much like a set of suppliers and buyers tend to loosely affiliate around products and services. For you, new business creation may well become a task of picking the elements in a supply chain of services and products, and of being able to bring these to the customer in a rapid sequence. Perhaps the future contains a digital marketplace for DBSP services.

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