United states information technology report q2 2013

Overall moderate growth in budgets is expected but much depends on the economic situation.. In 2013 there are expected to be many more contracts for provision of cloud services, with the

Q2 2013 www.businessmonitor.com

UNITED STATES

INFORMATION TECHNOLOGY REPORT

INCLUDES 5-YEAR FORECASTS TO 2017

Technology Report Q2 2013

INCLUDES 5-YEAR FORECASTS TO 2017

Part of BMI’s Industry Report & Forecasts Series

Published by: Business Monitor International

Copy deadline: April 2013

Business Monitor International

© 2013 Business Monitor International

All rights reserved

All information contained in this publication is

copyrighted in the name of Business Monitor International, and as such no part of this

publication may be reproduced, repackaged,

BMI Industry View 7

SWOT 9

IT SWOT 9

Political 10

Economic 11

Business Environment 12

Industry Forecast 13

Table: US IT Industry - Historical Data And Forecasts (US$mn unless otherwise stated) 15

Broadband 16

Table: Telecoms Sector - Internet - Historical Data & Forecasts 16

Macroeconomic Forecasts 19

Economic Analysis 19

GDP By Expenditure Breakdown 20

Risks To Outlook 26

Table: United States - GDP By Expenditure 27

Industry Risk Reward Ratings 28

Table: IT Risk/Reward Ratings, Q2 2013 29

Market Overview 31

Hardware 31

Software 35

Services 38

Industry Trends And Developments 41

Regulatory Development 43

Table: IT Regulatory Authorities 43

Company Profile 45

Hewlett-Packard 45

Dell 51

Table: Selected Dell Mergers And Acquisitions 54

Microsoft Corporation 57

Sectors And Verticals 73

Demographic Forecast 77

Table: The United States' Population By Age Group, 1990-2020 ('000) 78

Table: The United States' Population By Age Group, 1990-2020 (% of total) 79

Table: The United States' Key Population Ratios, 1990-2020 80

Table: The United States' Rural And Urban Population, 1990-2020 80

Methodology 81

Methodology 81

IT Industry 81

IT Ratings - Methodology 82

Table: IT Business Environment Indicators 83

Weighting 84

Table: Weighting Of Components 84

Sources 84

BMI Industry View

BMI View: US IT spending is expected to reach US$634bn in 2013, up 8.5%, with BMI leaving its

2013-2017 forecast largely unchanged, but extended, this quarter, despite a further contraction in PC sales

in H212 Meanwhile, as political negotiations concerning the 'fiscal cliff' continued in the wake of the November 2012 elections, public IT procurements remained constrained due to the budget constraints faced

by many government entities Overall moderate growth in budgets is expected but much depends on the economic situation Despite a drive to cut expenses across government, many public sector organisations have appeared willing to continue to spend on IT, but the government hopes to make savings in its US$80bn

IT budget US businesses remain cautious, but there is pent-up demand from projects delayed as a result of the economic situation and cloud computing is expected to be increasingly important.

Headline Expenditure Projections

■ Computer Hardware Sales: US$153bn in 2012 to US$163bn in 2013, an increase of 6.5% Sales of

ultrabooks and Windows 8-based tablets and notebooks have potential to provide continued growth in2013

■ Software Sales: US$170bn in 2012 to US$186bn in 2013, an increase of 9.4% Forecast in US dollar

terms unchanged, but more investment is expected in utility software and serviced-orientatedarchitectures rather than traditionally-packaged PC software

■ IT Services Sales: US$261bn in 2012 to US$284bn in 2013, an increase of 9.0% Forecast in US dollar

terms unchanged with an increasing share of IT budgets earmarked for newer solutions such asvirtualisation and cloud computing

■ Risk/Reward Ratings: The US's score was 76.3 out of 100.0 The US retains first place in our latest

Americas RRR table, ahead of Canada, as well as Latin American giants such as Brazil and Mexico Thecountry's ranking was secured by its global highest industry rewards score of 82.5, with its rating alsoboosted by a relatively high country rewards score of 90.0

Key Trends & Developments

■ In late 2010, the US federal government adopted an ambitious Cloud First cloud migration strategy,which tasked government agencies with migrating 80 services to the cloud within 18 months Thegovernment hopes to eventually realise savings of up to US$12bn per year from the move This push forweb-based computing is part of a broader government effort to consolidate its 2,100 data centres by atleast 40 per cent by 2015

■ IT vendors continue to be concerned about the effect of the ongoing US federal deficit issue, as automaticbudget enforcement procedures known as sequestration commenced on March 1 2013, after initiallybeing delayed from a January rollout The sequester requires cuts in discretionary spending to achieve

$1.2 trillion in savings from 2013-2021 Major cuts to federally-funded research and development (R&D)are already planned for 2013, and this could also hit IT projects Given continuing split party control ofthe legislative branch of government, with Republicans continuing to control Congress, and Democratshaving the majority in the Senate, the November 2012 elections have failed to resolve uncertainty aboutthe trajectory of future government IT spending

■ US PC sales are forecast to report single-digit growth in 2013, after a further annualised contraction in

Q112-Q113 In 2012, sales of ultrabooks fell far short of Intel's prediction that ultrabooks would

comprise 40% of US notebook sales by the end of 2012 While exact sales figures were hard to arrive at,due to initially high prices, these devices therefore seem unlikely to enjoy hoped-for success, at leastinitially In the US, in H112 the average market price for an ultrabook was upwards of US$900,compared with an average of around US$500 for a Windows notebook

Weaknesses ■ Due to the recession and subsequent slow economic recovery, customers postponed

IT investments and reduced short-term spending, particularly in areas such asconsulting and software development

■ PC market appears to be in long-term decline due the preference for mobility and thepopularity of alternative connectivity devices such as smartphones

Opportunities ■ As economic woes ease, IT vendors should see more growth from traditional

big-spending sectors such as banks, financial services, retail and manufacturing

■ Cloud computing, with a large number of federal and state cloud computingprogrammes generating opportunities

■ The growing popularity of mobile broadband networks in driving notebook and tabletsales

■ New business models such as SaaS and virtualisation will continue to claim a largeshare of IT budgets

Threats ■ BMI forecasts that economic recovery could remain anaemic in 2013, in which case

spending on technology could have another hard year

■ The large federal budget deficit could lead to pressures on public sector IT spending

Political SWOT Analysis

Strengths ■ The US is an undisputed superpower, and therefore occupies centre stage in most

international diplomacy

■ A long-standing democracy with vigorous and open political debate, the UScontinues to attract large numbers of immigrants committed to citizenship and self-advancement

Weaknesses ■ Political debate between Republicans and Democrats has historically been polarised

and divisive

■ As today's superpower, the US attracts the enmity of a wide range of political groupsopposed to the current international status quo

Opportunities ■ The widespread dissatisfaction of the voting public with the performance of Congress

may encourage both major parties to experiment with more consensual approaches

to certain policy areas Though we are not optimistic, the ongoing budget debates willprovide a pertinent test of the degree to which bipartisan cooperation is possible

Threats ■ The perception of inflexibility and bias in US foreign policy, particularly in the Middle

East, may stiffen opposition and at worst provide fertile recruiting ground for radicalanti-US groups such as Al Qaeda Partly as a reaction to foreign policy difficulties, USpublic opinion may return to an isolationist and protectionist mode

Economic SWOT Analysis

Strengths ■ The world's largest economy with an impressive record of entrepreneurial dynamism,

innovation and a high research and development spend

■ Despite some threats to its reserve status, the US dollar is treated as an internationalcurrency, meaning that investors around the world are prepared to hold US debt.Because of this, the US is uniquely able to run large fiscal and current accountdeficits

Weaknesses ■ Despite the dollar's role as an international currency, excessive US debt levels are a

risk A decision by the Japanese and Chinese central banks to reduce their largerdollar holdings could cause sharp falls in the value of the US currency

■ A low savings rate by US households on a historic basis, although this has begun toreverse

Opportunities ■ Further liberalisation of international trade through the WTO, coupled with a more

competitive dollar exchange rate, could boost export growth and help restore balance

to the US's external imbalances

Threats ■ Intensified competition from China and other low-wage economies could accelerate

the loss of manufacturing jobs

■ Large growth in public spending, coupled with tax cuts, will worsen the fiscal deficit,eventually forcing more restrictive monetary policy and slower growth

Business Environment

SWOT Analysis

Strengths ■ The US boasts the world's largest single internal consumer market, which presents

tremendous opportunities for businesses of all types and sizes

■ Few countries offer a better environment for entrepreneurial activity, with a highlyflexible labour force, a legal system that is friendly to business, and significant centres

of technological innovation (such as California's Silicon Valley)

Weaknesses ■ Much of the country's physical infrastructure is in need of improvement, with

congested roads and airways

■ US corporate tax is, on average, among the highest in the OECD (though effectivetaxes are much lower)

Opportunities ■ The US has often been the origin of new drivers of economic growth booms, and

sectors ranging from biotechnology to alternative energy are being discussed aspossible catalysts

Threats ■ The US's fiscal crisis may force the federal government to find ways to raise effective

corporate tax rates, following a multi-decade downtrend

Industry Forecast

US spending on IT products and services is forecast to reach US$634bn in 2013 and US$848bn by

2017 Aside from an extension, BMI has left its 2013-2017 forecast largely unchanged this quarter, despite

a disappointing contraction in PC sales in H112 Commercial and consumer segments were restrained, as aresult of the economic uncertainty, which largely persisted ahead of the elections in November 2012.Meanwhile, federal and state IT spending was below expectations in 2012, due to the budget constrainsfaced by many government entities

One growth opportunity will be private and public sector organisations looking for help to utilise

efficiencies from cloud computing models such as Software-as-a-Service (SaaS) and Service (IaaS) The federal government's Cloud First initiative is one of a number of federal and localgovernment agency cloud migrations and pilot programmes

Infrastructure-as-a-Market Trends

In 2013, IT vendors will be concerned when it comes to the effect of the ongoing US federal deficit issueand the failure of politicians to agree a deficit reduction programme Automatic federal spending cutsknown as sequestration commenced on March 1 2013, and this could hit IT projects Given the continuedsplit of party control of the legislature, the November 2012 elections have not made much progress inaddressing the trajectory of future government IT spending

US PC sales recorded disappointing growth again in H212, after a smaller single-digit annualised decline inH112 The market slowdown was due in part to slower than expected back-to-school sales However, thesurge of demand for tablets also hit sales of traditional PCs, and the much-hyped new category of

ultrabooks failed to provide much relief Another factor was that consumers and businesses were reportedlydelaying purchases until the release of the Windows 8 operating system in October 2012, however, the new

OS has failed thus far to gain much ground

In 2013 there are expected to be many more contracts for provision of cloud services, with the continuedimplementation of the federal government of its Cloud First cloud migration strategy Departments such asthe US General Services Administration are already making significant use of cloud services, as the

government seeks to make savings in its US$80bn IT budget The recession may have had a lasting impact

on the IT market by encouraging consideration of cloud computing models such as SaaS In light of these

and other changes, major vendors have also adjusted their competitive strategies, with the old centric model of software delivery appearing increasingly outdated.

desktop-Overall moderate growth in budgets is expected in 2013, but much depends on the economic situation.Despite a drive to cut expenses across government, many public sector organisations have appeared willing

to continue to spend on IT However, with continuing fiscal retrenchment in the government sector, nowtranslating into cuts in real terms, private sector growth is expected to be stronger

Despite the return of economic growth, US businesses remain cautious There is pent-up demand fromprojects delayed as a result of the economic situation, but some of this may not be realised The growingmarket for cloud solutions and virtualisation will constrain demand for on-premises computer networks.Regardless of the exact strength and nature of the recovery, the current economic environment will offersome opportunities to vendors The tough trading conditions for many businesses have strengthened theneed to reduce costs through improved data management and other efficiencies

Drivers

In our core forecast scenario, IT market growth will advance at a CAGR of 7.7% over our five-year forecastperiod Key drivers will include growing mobile and fixed broadband penetration, product innovation andnew form factors such as tablets, technology innovation such as GPS technology and services, and

economic recovery PC vendors will focus on tablet notebooks, which are projected to be a growth area asmore vendors launch rival models and will appeal to consumers who find that smartphones are not

convenient for web surfing or multimedia consumptions

Whereas it was once thought consumers would purchase netbooks or second notebooks as personal mobiledevices, it now appears likely that they will purchase tablets and other alternative mobile devices Tablets,originally seen as primarily for consumers, are also forecast to experience increasing take-up in the businesssegment

The economic downturn may also have accelerated the growth of outsourcing of non-core processes and ashift Already more and more software development has been outsourced to India and other locations, andvendors will be able to make the case that external spending on IT solutions can help the bottom line andadd to efficiency This trend has spread to government where in 2011 more agencies, in search of costsavings, are likely to go down the path of datacentre consolidation The Office of Budget Management in

2010 called for federal agencies to consider such initiatives

Segments

Government remains a key end-user, with federal IT spending having reached a level of around US$80bn asdepartments continue to issue IT tenders, despite a drive to make savings through closing hundreds offederal datacentres in 2012-2015 New government programmes, including the expansion of healthcare,should generate lucrative new opportunities for IT vendors, although, because of the ever-growing budgetdeficit, there will be increased pressure to reduce costs

As the recession eases, IT vendors should experience more growth from traditionally big-spending sectorssuch as banking, financial services, retail and manufacturing With mergers and acquisitions expected in thebanking industry among the fallout of the financial crisis, more opportunities should be generated

Small businesses are also a target for vendors There are more than 8mn small businesses in the US, which

is a substantial market However, particularly in a difficult economic climate, there are significant

differences between the needs of businesses in different industries Increasingly, vendors will need tocustomise approaches based on industry-specific needs

Summary

The hardware market is predicted to grow from US$163bn in 2013 to US$203bn in 2017 Software

spending should rise from US$186bn to US$258bn, and IT services from US$284bn to US$388bn, over theforecast period

Table: US IT Industry - Historical Data And Forecasts (US$mn unless otherwise stated)

2010 2011 2012e 2013f 2014f 2015f 2016f 2017f

IT market 508,970 529,329 584,345 633,735 686,239 739,712 791,714 848,187

IT market as

% GDP 3.5% 3.5% 3.7% 3.8% 3.9% 4.1% 4.2% 4.3%

US IT Industry - Historical Data And Forecasts (US$mn unless otherwise stated) - Continued

2010 2011 2012e 2013f 2014f 2015f 2016f 2017f

Hardware

(computer

market sales) 139,610 141,478 153,425 163,396 173,680 183,698 192,841 202,556Services 224,049 234,875 260,583 284,021 309,089 334,840 360,171 387,782 Software 145,311 152,976 170,337 186,318 203,470 221,174 238,702 257,849 PCs

(including

notebooks) 113,084 114,880 125,809 135,292 143,807 152,102 159,672 167,716Servers 12,565 12,733 13,808 14,706 15,631 16,533 17,356 18,230

e/f = BMI estimate/forecast Source: BMI ITU (Internet and broadband penetration)

Broadband

Table: Telecoms Sector - Internet - Historical Data & Forecasts

2010 2011 2012e 2013f 2014f 2015f 2016f 2017f

No of internet users ('000) 239,893 255,318 265,851 272,097 276,422 278,769 283,924 292,014

No if internet users/100

Internet and broadband penetration continues to

grow, as wireless technology becomes more

widespread and more popular among subscribers

The fixed broadband market grew 7.7% y-o-y to

Q412, although the most significant growth is in the

wireless broadband sector

As wireless broadband becomes a more popular way

to connect to the internet, fixed-line numbers will

inevitably fall We have factored this into our

forecasts, and although we have extended our

forecasts through to 2017, we have not changed our

forecast growth rates this quarter, as Q412 data

support our view of growth We believe that the

market will remain buoyant, and experience strong

growth over our forecast period The overhaul of the

USF (see Broadband section) and replacement with

the CAF will lead to increased focus and attention on promoting broadband connectivity and roll-out

We believe about 84.2% of Americans used the internet by the end of 2011, and there were around 29.4fixed broadband subscribers per 100 inhabitants We continue to expect steady increases in internet usersthroughout the period, with total internet users reaching 292.0mn in 2017

High-speed internet is central to the marketing strategies of telecoms operators, with cable companies andmobile operators pursuing the high revenue area At the same time, the sheer popularity of internet-basedservices means that the point is fast approaching when most Americans will view such services as beingessential to their daily lives The Broadband Technologies Opportunities Program backs up this view andefforts to extend broadband services into rural areas will ensure that this trend continues, particularly asservice providers and content developers/vendors grow their product portfolios and become more adept atmarketing and pricing content that appeals to a broad range of consumers Similarly, the FCC's NationalBroadband Plan aims to ensure universal access, competition and the efficient allocation of spectrum tobenefit the broadband sector Increased revenue derived from such activities will allow operators to expandinto new markets and it seems increasingly likely that fixed-line operators will need to become broadband-focused in order to survive

Industry Trends - Fixed-Line

Sector

2010-2017

f = BMI forecast Source: BMI, FCC

There were 93.3mn fixed broadband connections by the end of Q412, up from 84.9mn at the end of 2011.The rise of mobile broadband will slow down fixed broadband growth rates over the coming years, as theseare not recorded in our broadband forecasts Especially with the launch of LTE, we expect to see a risingpopularity of 4G USB modems, which will impact wireline growth However, there is still some real scopefor continued growth, with the fixed broadband market expected to reach about 108.2mn subscribers by theend of our five-year forecast period to 2017, pushing the penetration rate up to 32.9%.

Macroeconomic Forecasts

Economic Analysis

BMI View: In light of the fiscal agreement reached at the beginning of 2013, we have revised up our US

real GDP growth forecast to 2.3% from 2.1% for the year Residential construction will continue to be a bright spot in the economy, while there are upside risks to corporate investment later in 2013 now that there

is more clarity over the fiscal debate in Washington.

Our 2012 US real GDP growth estimate has been revised up to 2.2% from the 2.0% forecast we set out atthe beginning of the year This is mainly due to the stronger-than-expected real GDP growth figure forQ312 (3.1% quarter-on-quarter annualised, up from the originally recorded 2.0%), which in turn can beattributed to an unexpected surge in business inventories and national defence spending But our generaloutlook for a slow and erratic growth path for the US economy remains in place The biggest near-termeconomic issue - the tax hikes that were set to kick in on January 1 2013 as part of the fiscal cliff - has beenresolved, though there will continue to be uncertainty ahead of the debt ceiling negotiations and the

sequester spending cuts due to come into effect in March

We have detailed the outcome of the fiscal cliff negotiations elsewhere (see our online service, January

7, 'Fiscal Cliff Deal: Long-Term Issues Remain Unresolved'), but the upshot for economic activity is that

we have revised up our US real GDP growth forecast to 2.3% from 2.1% for 2013 While this partly reflectsslightly stronger incoming data in Q412 increasing the base effect for 2013, the tax matters in the fiscal cliffwere resolved more swiftly than we had expected, with the final tax hikes amounting only to the expectedpayroll tax cut expiry (costing about US$115bn to US workers in 2013, around 0.75% of GDP) and anincrease in taxes for wealthier households (amounting to around US$60bn) The extension of

unemployment insurance ($30bn) is a modest plus, but the total tightening we estimate including thesequester is around US$250bn in 2013, or around 1.5% of GDP Taking into account the multiplier effect ofthe various categories of tightening, the overall drag on growth in 2013 will be around 1.0 percentage points(pp), towards the low end of our expectations On the upside, there should now be a bit more confidencefrom both businesses and consumers that had been concerned over the cliff, though some sectors (thedefence industry for example) will be concerned about the automatic sequester spending cuts that are to benegotiated ahead of March Our core view is that Congress and the White House will resolve the debt limitissue and avoid default (although perhaps only at the last minute), while the US$110bn in sequester

spending cuts will be reduced by at least half or deferred altogether

Back To Normal In Nominal Terms

US - Nominal GDP Growth & Deflator

Source: BEA, BMI

One overlooked aspect of the economic trajectory of the past few quarters is that while real GDP growth hasbeen poor, nominal GDP growth is, quietly, racing ahead - and in Q312 grew by the most since the

recession The implicit GDP deflator is back into 'healthy' pre-crisis territory at around 2.5% The FederalReserve's policy is, arguably, helping, at least insofar as avoiding outright deflation It looked as recently as

2009, for example, that the US deflator could drop to Japan post-1990 levels This is essential from adeleveraging perspective If interest rates remain as anchored as they have been, while nominal growthremains above 5.0%, deleveraging becomes a much easier process Normally, long-term interest rates matchthe nominal growth rate of the economy over the long run (as has been the case since 1961 in the US, with10-year government bond yields of 6.6% and nominal growth within 5 basis points of that) However, withthe Fed keeping a lid on interest rates, this disconnect could persist for a long period of time As of Q212,deleveraging in terms of percentage of GDP had largely stalled for the non-financial sectors of the

admittedly, the erratic incoming data make it difficult to get a good sense of the underlying dynamics Realpersonal consumption expenditures contracted by 0.18% month-on-month (m-o-m) in October 2012, whichwas the worst out-turn since late 2009, but this was followed by a post-crisis high of 0.58% m-o-m inNovember And likewise, real disposable income growth contracted on a 3-month annualised basis inAugust, September and October, but picked up strongly in November

Erratic Trajectory, But Holding Up

US - Real Personal Consumption Expenditures, % chg monthly and quarterly

Source: BEA, BMI

The fiscal cliff resolution complicates the consumer picture further Uncertainty over the fiscal cliff - whichmay have held back purchases in 2012 - will abate, but the overall impact will almost certainly be negative,given the increase in tax rates The biggest hit will come from the payroll tax increase, which will take a US

$1,000 chunk out of annual income for workers making US$50,000 a year Overall, we estimate that it willreduce year-on-year disposable income growth per capita in 2013 by around 1pp; so in other words, inJanuary, disposable income per capita would have risen by 2.6% given historical trends, but will only rise1.6% because of the higher payroll tax rate This will leave real private consumption growing in the low2.0% range, which is below the long-term historic trend, but around post-crisis averages

Payroll Tax Increase Will Bite Into Disposable Income

US - Personal Disposable Income Per Capita, % chg y-o-y

Source: BMI, BEA

Fixed Investment: We are projecting real fixed investment growth of 7.4% in 2013, an improvement from

5.2% in 2012 Residential investment will continue to be an economic bright spot, and we will have a bettersense of how badly the fiscal cliff uncertainty has affected business investment after the December data arereleased That said, now that the fiscal cliff issues have been resolved, strong corporate balance sheets willprovide a platform for capital expenditures in the latter three quarters of 2013, barring a collapse in demand

At this stage though, the deteriorating figures in Q312 (a 0.23pp drag on headline GDP, the first declinesince Q111) from non residential investment do not bode well The Institute for Supply Management (ISM)manufacturing survey's new orders index implies only modest growth in equipment and software

investment going into 2013, following the contraction in Q312 The ISM and durable goods orders show thesame thing: a poor Q412, but a rebound expected in 2013

Business Investment Likely To Recover After A Lull

US - Real Business Investment Growth & Surveys

Source: Macrobond, BMI, BEA

The recovery in residential construction, meanwhile, continues to gather pace The chart below shows theNAHB homebuilders' sentiment index lagged by six months, showing that they are a good leading indicatorfor housing starts While we do not expect construction to double in 2013 - as this relationship suggests - we

do expect another very strong year of growth for the residential sector of 9.0% in real terms, following onfrom 13.0% in 2012 This would bring the sector's proportion of GDP to above 3.0% for the first time since

2008, and offer a sustained lift to the economy as a whole

Sentiment Suggests A Big Rebound In Residential Construction

US - Housing Starts & NAHB Homebuilder Sentiment (lagged)

Source: NAHB, BEA

Net Exports: We estimate that net exports made zero contribution to real GDP in 2012, and forecast a

negative contribution in 2013 (0.1pp) The external climate has not been hospitable, with demand fromEurope in particular weakening over the past couple of quarters Judging from incoming survey data, webelieve that export growth very likely contracted in Q412 (and we have revised down our forecasts

accordingly) For example, the spread between manufacturing purchasing managers reporting higher exportorders and lower export orders has shifted decisively toward 'lower' since June, which on every previousoccasion in the past 20 years has coincided with a contraction in exports However, the latest leadingindicators have rebounded, suggesting that trade will pick up in Q213 after a weak couple of quarters Muchwill depend on Europe, where a significant downturn would severely damage US export prospects

Survey Says External Sector Is Weak

US - ISM New Export Orders (balance of higher minus lower) & Export Growth

Source: Macrobond, BMI

Government Consumption: We are forecasting a third consecutive year of contraction in government

consumption, with -0.1% real growth translating into a flat contribution to GDP overall We expect this to

improve only modestly in 2014, with a 0.1pp contribution Defence spending made an unusually high 0.6pp

contribution in Q312, and that will reverse in the coming quarters The result of the sequester negotiationswill be essential, as half of the planned spending cuts are to defence spending Still, the drag from state andlocal government consumption and investment is over, which is good news Beginning in Q409, state andlocal governments had subtracted from overall GDP, but with the majority of cuts already undertaken andtax revenue picking up alongside the general recovery, state and local governments posted a small butsignificant 0.04pp contribution to GDP in Q312 We expect this moderate contribution to continue

State Spending Has Stabilised, But Defence Spending Will Revert

US - Government Contribution To Real GDP Growth (pp)

Souce: BEA, BMI

Risks To Outlook

The most imminent risk to economic expansion is the double threat of the debt ceiling debate and thesequester spending cuts due to hit in March While we expect an amenable resolution to both issues, withthe debt ceiling ultimately being raised after some brinksmanship, and at least half of the spending cuts to

be deferred or cancelled altogether, political paralysis could result in a severe drop in private sector

confidence On the upside, there are several potential catalysts for stronger growth Private sector creditgrowth is improving amid low short-term interest rates; the residential construction sector could reboundmore quickly than we expect; corporate balance sheets are very strong, supporting potential investmentexpansion as 2013 unfolds

Table: United States - GDP By Expenditure

2009 2010 2011 2012e 2013f 2014f 2015f 2016f 2017f

Real GDP growth, % change y-o-y 1 -3.5 3.0 1.7 2.2 2.3 2.5 2.5 2.4 2.4 Private final consumption, real growth % y-o-y 1 -1.9 2.0 2.2 1.9 2.2 2.3 2.2 2.0 2.0 Government final consumption, real growth % y-o-y 1 1.7 0.7 -2.1 -0.8 -0.1 0.7 0.5 0.5 0.5 Fixed capital formation, real growth % y-o-y 1 -19.6 2.6 6.8 5.2 7.4 5.7 5.3 5.3 5.3 Exports of goods and services, real growth % y-o-y 1 -9.4 11.3 6.7 4.0 4.9 5.8 5.1 5.0 5.0 Imports of goods and services, real growth % y-o-y 1 -13.6 12.5 4.9 3.0 4.6 5.0 4.2 4.0 4.0 Net exports of goods & services, real growth % y-o-y 1 -27.4 17.6 -2.0 -1.3 3.2 1.3 -0.1 -1.0 -1.4

Notes: e BMI estimates f BMI forecasts Sources: 1 BEA/BMI.

Industry Risk Reward Ratings

It is unsurprising that the developed markets of the USA and Canada have the highest scores in our IT Risk/Reward Ratings, given the more developed nature of their IT markets However, major Latin Americanmarkets such as Brazil, Mexico and Peru have strong growth potential offering comparable scores with thetop of the table Country risk and country reward factors have the greatest impact on these countries'inability to top the table with a distinct difference between the performances of the top and bottom of thetable

Country rewards consider the ability of IT services to reach users and their ability to pay Higher spendingpower in the US and Canada boost these countries' rewards scores, in addition to already strong industryreward ratings that factor in the size of the IT market Argentina, Chile and Venezuela hold the next highestscores, with the latter a surprise Although GDP per capita and a comparatively high percentage of urbanpopulation should push Venezuela higher up our ratings, our weak outlook for the country holds back theindustry rewards scores

The size of Latin American countries means there is a high proportion of people living in rural areas This isespecially true in some of the region's largest markets such as Brazil, Mexico and Peru, lowering theirscores for country rewards While Peru's population has rather weak spending power, limiting the potential

for the IT market to grow, Mexico and Brazil have stood out to BMI for strong consumer outlooks While

we have noted a weakening of consumer spending from both markets, compared with other Latin Americanmarkets, these two have fared relatively well Argentina and Chile consumers remain relatively wealthy incomparison to regional peers Chile, in particular, has long stood out for its educated population and ITliterate consumer market It is often selected as a first market for launching new services and devices

Industry rewards account for the largest weight of the composite IT Risk/Reward Ratings, with the UScoming out on top as it remains the largest IT market in the world Major IT developers and manufacturersare based in the country and consumers are accustomed to updating to new software and services, as well asacquiring new devices This drives the market forward and maintains a strong growth trajectory for IT sales

more developed market in Chile inevitably offers lower growth prospects than Colombia, Peru and

Venezuela, but established use of IT services highlights the market's maturity

Brazil and Mexico, with the largest populations in Latin America, hold on to good positions in the middle ofour table, with Brazil edging ahead based on its slightly larger market size Venezuela's weak score reflectsour less than optimistic outlook for the market It falls behind its peers in terms of growth and market size,

with little upside potential in BMI's view.

On the risks side of our ratings, macroeconomic developments and political outlooks come into play, againallowing the developed markets in the region to top the table However, Chile outperforms the US andCanada for country risks with the former's strong democratic political system, strong institutions andcompetitive business environment combining with its prudent fiscal and monetary policy to give it thestrongest score in the Americas Canada follows Chile, having weathered the global economic crisis and

holding one of BMI's highest long-term political risk scores in the world While the US remains the world's

largest economy, it still faces a number of challenges

Venezuela's position at the bottom of our ratings reflects a number of interconnected trends While GDP percapita is second only to Chile's among Latin American markets, the country's risks weigh on its overallposition President Hugo Chávez' ongoing illness creates uncertainty over the longer-term political outlookand we expect a currency devaluation in 2013 will adversely impact the IT market as the cost of devices andservices from foreign companies will increase in price, further dampening growth

Despite Brazil's larger market size and stronger economic outlook, the country holds the weakest score forcountry risks This is down to a number of factors, including weak scores for trade bureaucracy, corruptionand legal framework This does not prevent Brazil from retaining its strong position, but suggests potentialdifficulties in the long-term outlook

Table: IT Risk/Reward Ratings, Q2 2013

Country Industry Rewards Country Rewards Industry Risks Country Risks IT Rating Rank Previous Rank

USA 82.5 90.0 50.0 59.2 76.3 1 1 Canada 65.8 90.0 50.0 70.3 70.7 2 2 Chile 54.2 75.0 50.0 73.5 62.2 3 3 Brazil 71.7 65.0 45.0 43.7 61.8 4 5 Mexico 60.8 60.0 52.5 60.5 59.6 5 4

IT Risk/Reward Ratings, Q2 2013 - Continued

Peru 58.3 50.0 45.0 67.9 56.4 6 7 Argentina 48.3 70.0 40.0 53.4 53.6 7 6 Colombia 55.0 50.0 47.5 56.2 53.1 8 8 Venezuela 38.3 75.0 35.0 47.6 48.6 9 9 Average 59.4 69.4 46.1 59.1 60.2

Scores are weighted as follows: 'Rewards': 70%, of which Industry Rewards 65% and Country Rewards 35%; 'Risks': 30%, of which Industry Risks 40% and Country Risks 60% The 'Rewards' rating evaluates the size and growth potential

of a telecoms market in any given state, and country's broader economic/socio-demographic characteristics that impact the industry's development; the 'Risks' rating evaluates industry specific dangers and those emanating from the state's political/economic profile, based on BMI's proprietary Country Risk Ratings that could affect the realisation of anticipated returns Source: BMI

Market Overview

Hardware

BMI forecasts that the US computer and accessories market value will grow about 6.5% to US$163bn in

2013 We have upwardly revised our figures due to macroeconomic factors and expect solid growth after adisappointing year for PC sales in 2011 was closed out with negative annualised growth in

Q411 The computer hardware market's 2012-2017 CAGR is projected at 5.7% and the market value shouldreach US$203bn by 2017

Market Trends

The PC market was sluggish in 2012, a situation that may be attributed to a range of factors including thesluggish economic recovery and the growing popularity of alternative connectivity devices such as

smartphones, which vendors claim have cannibalised sales of traditional notebooks The new category of

ultrabooks, heavily hyped by chip-maker Intel, failed to provide much support to sales in H112, and US PC

shipments dipped by around 5%, due to mixed consumer sentiment as well as supply-side constraints Adecline of about 3% in Q112 was followed by a sharper annualised contraction of around 7% in the secondquarter of the year The build-up of inventory exacerbated channel caution, ahead of expected new releases

in the autumn Parts shortages, resulting from the floods in Thailand in H211, also contributed to the slowgrowth early in the year

Breaking the usual seasonal trend, PC sales continued to dip downwards in Q312, as retailers scaled backtheir orders in response to weak back-to-school demand Volume sales were estimated to have fallen by adouble-digit factor, more than previously forecast

Retailers also claimed that many businesses and consumers were waiting for the October 2012 release of

Microsoft's new Windows 8 operating system before investing in an upgrade, however, adoption has thus

far been sluggish Analyst firm IDC reported in Q113 that the PC industry had banked on Windows 8 andless expensive ultrathin notebooks to boost PC sales However, a lack of touch screen components forultrathin notebooks led to a lack of Windows 8 computers The release of Windows 8 still has potential toboost PC sales, as the market adjusts to delayed hardware upgrades, and could also provide a fillip to theultrabook market as tablet makers leverage its capabilities to offer devices with touchscreens and

convertible designs

PC sales had also endured a year of overall stagnation in 2011, although there were growth areas such astablets A number of factors dragged down the US PC market in 2011, including the sluggish economicrecovery and competition from other form factors, particularly tablets The marked slowdown was

largely driven by disappointing sales in the consumer segment, particularly of notebooks The surge indemand for tablets contributed to restrained growth for traditional notebooks Vendors also pointed to a lack

of promotions and compelling reasons for customers to upgrade On the positive side, however, the slowgrowth was partly accounted for by base effects, compared with the market rebound in 2010 US sales did atleast manage positive growth in Q311 in contrast to negative growth in Canada, but the first increase forthree quarters was followed by two negative quarters in Q411 and Q112

Public sector spending was also weaker than usual, due to the current fiscal constraints In contrast, businesssegment demand continued to grow across all segments, although there is underlying vulnerability

to negative sentiment about the economic recovery The growing interest in cost-savings from IT solutionsbased on the cloud and virtualisation will restrain demand for on-premises computer hardware

In 2012, BMI expected single-digit overall PC market growth There was a pick-up in H212, supported by

base effects, and driven by new product releases and back-to-school and final quarter holiday seasonpromotions

However, the PC market will likely continue to struggle in the face of competition from rival connectivitydevices, with average prices and margins reporting further decline The sluggish economic situation

has created significant downwards pressure on prices, with consumers unwilling to pay big money andlooking for 'good enough' solutions to their computing needs The professional segment remained weak in

2012 as government agencies and educational institutions faced tight budget constraints

Notebook sales were estimated at around 53mn units in 2010 and could pass 90mn by 2017 The popularity

of netbooks was a big factor keeping notebook sales in positive territory during the recession in 2008-2009and accounted for about 80% of notebook segment growth

However, the netbook growth trajectory flattened in 2010 as the price differential with fully-featurednotebooks became less significant Meanwhile, enhanced versions of netbooks with features such as largerscreens and more powerful processors should further blur the line between the two categories The

emergence of tablets has also undermined demand for netbooks At their peak, netbooks are estimated tohave accounted for about 12% of notebook sales in the US in 2009, with estimated unit sales of more than6mn However, following the emergence of tablets, the negative netbook trend now seems irreversible In

H112, former netbook leader Toshiba announced that it was following Dell and Lenovo in withdrawing from the segment in the United States HP and Asus are still competing in the netbook segment, but Asian giants Sony and Samsung have not released new models in the US market in 2012.

Moreover, netbooks and notebooks face competition from other form factors Smartphones from the likes

of Palm, RIM, Apple and other vendors are being offered as alternative connectivity solutions and often

include a Wi-Fi option

Desktop sales in consumer and commercial segments are expected to comprise around a quarter of the PCmarket by 2017

Tablets

2010 saw the emergence of a new generation of tablet PCs, spearheaded by Apple's iPad Initial sales of theiPad, which launched worldwide in March 2010, were strong, with around 2mn units sold worldwide withinthe first two months Other vendors are expected to follow Apple in releasing net tablet devices that have aform factor between the size of a smartphone and a netbook US sales of tablet notebooks were projected topass 3mn units in 2010

Tablets were designed to appeal to consumers who find a smartphone inconvenient for watching videos orusing the internet, but for whom a netbook is still too big or heavy Other vendors soon followed Apple inreleasing net tablet devices, which have a form factor between the size of a smartphone and a netbook The

arrival of Android-based tablets such as the Samsung Galaxy Tab have found a market among those whowish to share their Wi-Fi connection with other devices, something not permitted by the iPad.

Whereas it was once believed that notebook growth would be sustained by consumers purchasing second orthird computers as personal mobile devices, it now appears likely that they will purchase tablets and othermobile devices as alternatives Tablets, originally seen as primarily for consumers, are also forecast to

experience increasing take-up in the business segment A Morgan Stanley report in 2011 found that some

51% of CIOs expected to buy tablets for their employees, while 16% said that they would allow employees

to use their personal mobile devices to access corporate data

It was projected that tablet sales were equivalent to around 20% of the PC market in 2011 Most tablets areexpected to be significantly more expensive than smartphones, at between US$400-800 Since the launch,unlocked Wi-Fi-only models of the iPad cost US$499 for a 16GB version and up to US$599 for 64GB

Ultrabooks

Ultrabooks, higher-performance notebooks designed as a response to Apple's increasingly popular

MacBooks, are an emerging product category that Intel and certain vendors backed heavily However, inH112, sales of the devices fell far short of Intel's prediction that ultrabooks would comprise 40% of USnotebook sales by the end of 2012 While exact sales figures were hard to arrive at, as vendors do not yet

typically break out ultrabooks as a separate category of notebook sales, Gartner's recent estimate of global

ultrabook sales in the region of half a million units in H112 would represent about 0.5% to total notebooksales in that period There is some suggestion that ultrabooks have taken a niche share of the high-endWindows notebook segment A report by research firm NPD suggested that ultrabooks accounted for 11%

of sales of Windows notebooks priced at US$700 or more in the US market from January to May

2012 However, the overall market for Windows notebooks was shrinking during that period

Due to high prices, these devices therefore seem unlikely to enjoy the hoped-for success, at least initially Inthe United States, in H112 the average market price for an ultrabook was upwards of US$900, comparedwith an average of around US$500 for a Windows notebook In contrast to netbooks, which prosperedagainst the backdrop of the global financial crisis in 2008/2009, the relatively higher-priced category of

off of this category Average ultrabook prices had already dropped to around US$850 by mid-2012, andwere expected to dip further to around US$750 for the back-to-school season Meanwhile, the release ofWindows 8 in October 2012 was expected to provide a boost to sales of ultrabooks as consumers andbusinesses upgraded to the new operating system, but a shortage in touchscreen components led to a thus farsluggish adoption of the new OS and correspondingly slow sales of ultrabooks.

E-Readers

One product segment challenged by tablets is the e-reader market, currently dominated by Amazon's

Kindle There are around 450,000 book titles on the Kindle store, compared with around 60,000 on theiBookstore The Kindle is also cheaper than the iPad, with prices as of H113 ranging from US$69 at the lowend, to US$399 for the Kindle Fire HD 8.9" 4G Tablet However, the layout and user-friendliness are bothareas where the iPad outscores rival products

Software

Software CAGR for 2012-2017 is projected at around 8.7%, as the addressable market approaches US

$258bn in 2017 Overall moderate growth in budgets was expected in 2012, with the market stabilising, butremaining vulnerable, particularly in an election year, to economic and political uncertainties In thisclimate, business software vendors will aim to pitch efficiency gains, as companies focus on reducing costs

At the same time, the software market is being influenced by the continued move towards distributedcomputing, SaaS and service-oriented architectures Moreover, as internet use and e-commerce continues toboom and data flow increases, US enterprises appear to be willing to spend on technology, even in theuncertain economic climate

Market Trends

BMI forecasts that the US software market will be worth US$186bn in 2013, a 9% increase over 2012 The

economic headwinds have led to clients focusing on a clear RoI from software investments and has alsogiven additional momentum to the adoption of cloud computing In H112, the market outlook for softwareand IT services appeared to be brighter than that for computer hardware Many US software companiesreported positive revenue growth as US companies invested more in utility software and service-orientatedarchitectures, rather than traditionally packaged software

Over BMI's five-year forecast period, the number of cloud computing contracts open to vendors is likely to

dramatically increase, presenting a challenge to traditional desktop-centric software models A wide range

of US private and public sector organisations announced cloud computing strategies and launched pilot

projects US organisations migrating to new cloud solutions have included government departments and

companies such as office supply retail group Staples.

Despite being an advanced market, it is still estimated that around 20% of software used in the US is illegal

or pirated According to the lobbying group the Business Software Association, total losses from illegalsoftware in the US market totalled about US$9bn in 2008 The industry continues to push for stiffer

penalties Legal history was made in 2009 when a 39-year-old woman received a six-month jail sentence infederal prison for selling illegal software

Operating Systems

BMI estimates that operating systems and storage software account for around 10% of the US software

market Growing PC sales have driven the share up from around 5% a few years ago PCs account for about40% of the operating system segment, with servers, mainframes and storage devices making up the rest

2013 should see continued opportunities in enterprise demand for software as the market stabilises

following the global economic crisis In some cases there will be a boost from system upgrades deferred as

a result of the economic situation, which led to a suspension or delay of procurements in many

organisations The launch of Microsoft's Windows 8 operating system, in H212, still has potential

to provide a boost in 2013, as adoption has thus far been sluggish Touchscreen capabilities, and improvedsupport for virtualisation, are among the enhancements of Windows 8 for which companies may wish toupgrade In late 2012, a new generation of Windows 8 notebooks and tablets began appearing on themarket

Businesses that declined to upgrade from XP to Vista or Windows 7, due perhaps to the economic situation,now have the opportunity to go straight to Windows 8 Microsoft will still offer reduced support for XPuntil 2015, but many hardware manufacturers will start to wind down their support from about 2012 This,

as much as the lack of support from Microsoft, has been among the factors that drove business upgrades toWindows 7

Windows 8 is better suited to virtualisation than any of Microsoft's previous operating systems

Virtualisation looks set to become an important trend in IT in the next few years and allows businesses tosimplify the management of desktop PCs by running desktop applications and storing user data within the

The economic downturn was projected to add to the trends that are driving adoption of open-source

software The desire to make savings has led some businesses and customers to look more closely atopen source software However, many customers have by now made a realistic assessment of the

advantages and disadvantages of open source and have adopted a practical approach

Interest in open source is growing in the public sector An increasing number of government IT managersand service providers are looking at open-source software stacks as part of a drive to consolidate datacentres Virtualisation has become a major trend in the data centre, and open source virtual machine

products are becoming popular Meanwhile, a number of open source tools are already widely deployedacross government

A key issue and precondition for the more widespread adoption of open source will be the development of asupport infrastructure Customers are increasingly looking to vendors to offer support for open source

software BMI expects this trend to continue with the development of more support infrastructure for the

most important open source applications

Business Software

Business software is estimated to account for around 50% of total US software revenue Spending onapplications such as enterprise resource planning (ERP), customer relationship management (CRM),financial management systems and information software accounts for around 60% of the sub-category total.Middleware, such as database management systems and systems management tools, accounts for theremaining 40%

The majority of enterprise software demand, in functional terms, is currently for ERP and supply chainmanagement Despite a relatively mature market, there still remains plenty of potential for ERP

implementations in industries such as consumer products, telecommunications, energy, engineering,construction, transportation, food & beverage, retail and metal working

ERP demand drivers include increasing operational efficiency, coordinating global supply chains andmodernising logistics and warehouse functions Meanwhile, business intelligence and other information-enabling software will continue to be one of the fastest-growing product areas

Software is often seen as an investment that helps to save costs and that will make an impact on the bottom

line However, over BMI's five-year forecast period, more investment can be expected in utility software

and serviced-oriented architectures rather than traditionally packaged PC software Major application areassuch as ERP, CRM and business intelligence, security and supply chain management are increasingly beingdelivered this way

Surveys indicate that an average ERP implementation for manufacturing and distribution companies takes

around 19-20 months, with an average sales cycle of around four months A survey by Panorama

Consulting Group found that average total cost of ownership was in the region of US$8.6mn Companies

spent around 23% of the total implementation budget on business implementation costs, including party consulting

third-Cloud Computing And SaaS

The US is a key hub of the emerging market for cloud solutions, which is set to transform the way ITproducts and services and sold and procured Research indicates that the US will account for around half of

global public cloud spending over BMI's forecast period, with around two-thirds of public cloud computing

spending being software-oriented The economic crisis may have given lasting additional momentum tocloud computing business models where applications are hosted on a centralised server and accessed

remotely Research firm IDC forecast that, by the end of 2012, 80% of new commercial enterprise

applications would have been deployed on cloud platforms Meanwhile, a survey in 2012 by North Bridge Venture Partners of 785 IT decisionmakers reported that 50% of users expressed complete confidence in

the cloud

In 2011, the federal government launched its Cloud First cloud migration strategy SaaS is expected to

comprise above 70% of public cloud services over BMI's forecast period Most cloud computing currently

comprises consumer applications such as webmail, social networking and ecommerce applications Somevendors are now promoting the idea of Cloud 2, to reference integration of cloud computing with devicessuch as the iPad, iPhone, BlackBerry and smartphones

However, a combination of enterprise objectives such as cost reduction and greater efficiency shouldcombine to drive adoption of cloud services in 2013 The biggest software opportunities will be in non-critical file storage, or customer-facing applications such as CRM Opportunities should occur acrosseconomic sectors as awareness of cloud computing grows

Sales in the business SaaS segment by vendors such as Google and Salesforce.com continued to grow

during the economic downturn SaaS has become more accepted as smaller businesses have increasinglyhad to meet performance, visibility and compliance standards previously expected more of larger

IT services spending is expected to grow about 9% to US$284bn in 2013, with an upwards revision in ourforecast due to an improved economic outlook Spending on IT services is closely correlated with GDPgrowth, which is bad news in a recession, but better news in a recovery However, the ongoing debt crisisand political stalemate about how to deal with this issue will have a negative impact on public sector ITdemand IT contractors will be worried that automatic federal spending cuts could kick in, with an effect ontech investment.

Market Trends

BMI projects that the US IT services market will reach almost US$390bn by 2017, a five-year CAGR of

8% A major demand driver will be organisations looking for help to utilise efficiencies from cloud

computing services such as SaaS and IaaS, Platform-as-a-Service (PaaS) and Communications-as-a-Service(CaaS) Particular areas of opportunity for cloud computing include banking and retailing and governmentagencies as organisations in those fields look to save money on hardware investments

Segments

In 2012, vendors reported that a large portion of US IT budgets were being earmarked for newer IT

solutions such as virtualisation and cloud computing The most severely hit area during the economicslowdown was softer project-type spending such as consulting and software development, and it is projectspending which should show the strongest rebound during the recovery Contractors were cut and hiringfrozen during the economic slowdown as customers cut back on short-term spending particularly in areassuch as consulting and software development These, therefore, were always likely to bounce back

strongest

The economic situation meant reduced spending in some key IT services verticals that had driven ITspending Vendors exposed to the financial sector, particularly major Indian financial services vendors such

as Wipro were vulnerable, given the financial crisis Many vendors responded by trying to diversify away

from financial services to other verticals and by targeting resources at markets outside the US

Federal and local governments are among verticals where strong interest in cloud services is being

expressed In H112, the federal government released guidelines and security requirements for contractorsthat wish to sell their cloud solutions to the US government The programme is designed to stimulate thefederal government's use of cloud computing, with a target of reducing overall government IT spending by

as much as US$80bn Market research firm INPUT has forecast that the state and local government marketfor vendor-supplied IT systems could grow to US$60.1bn by 2014, equivalent to around 30% of the IT

services market Software products account for around 15% of this projected spend Education and

healthcare are among areas with tremendous potential at local level

Even departments such as the Department of Defense have a long-standing interest in private cloud-typesolutions, some of which may even be hosted by commercial organisations external to the governmentagency in question However, such arrangements are most likely to apply in the case on 'less securitysensitive' information related to healthcare provision and recruitment activities

Outsourcing, which is to some extent countercyclical, was less affected by the downturn, even if the viewthat recession actually acts as a driver for outsourcing spending does not necessarily hold up As companiescome under cost pressures, some may use outsourcing as a way to reduce costs However, the main

beneficiaries are likely to be service providers in major global destinations such as India and the

Philippines The same goes for offshore software development

Custom software development has been moving to lower cost countries for many years India remains themain destination, but faces competition from other suppliers such as Eastern European countries, Ireland,Israel, Russia and China Spending on application development tools has grown substantially in the pastdecade