First Industry Barometer Reveals UK Software Sector ‘Strong Now But Under Pressure’

London, UK, Thursday 11th December, 2008 - The UK’s software sector is entering the economic downturn from a position of relative strength. However, key indicators show that the industry is facing significant pressure as we move into 2009, according to the third Developing the Future report commissioned by Microsoft* in partnership with Intellect and The British Computer Society (BCS). The report, which includes the first ‘software economy barometer’, shows that the overall trend is downwards and that three critical challenges have the potential to derail the sector’s future success:

The report sets out three key recommendations for industry, government and other stakeholders that would help to address these challenges:

Gordon Frazer, Managing Director, Microsoft UK, said: “The challenging economic conditions we all face mean that it’s never been more important to address the pressures confronting the UK software sector. We work with 36,000 Microsoft partner companies in the UK. On average these software businesses have less than five staff and turnover of about £1m per year. Together, they employ 32% of people in our sector and display high levels of innovation. These companies are vital to the overall health of the UK software sector.”

“Microsoft is supporting businesses in a number of ways. For example we launched BizSpark at the beginning of November to help accelerate the success of software entrepreneurs by providing full developer software at no upfront cost. We’re a big company, so it might seem a bit counterintuitive for me to be saying this, but policy makers could help smaller software businesses too by making it easier for them to bid for public sector contracts.”

“The skills gap is proving to be a persistent challenge as well, and graduates still lack many of the competencies industry needs. It’s striking that the number of jobs in the IT sector requiring degree qualifications has fallen by 10% in just four years whereas the sector overall has grown. By looking at Universities where successful internship programmes are run, and putting appropriate incentives in place, we can make sure more graduates develop strong commercial and business skills before entering the jobs market.”

The state of micro-software companies

One of the key factors with the potential to weaken the UK software sector is the dramatic decline in the number of micro software companies - those with 10 employees or less. Despite the challenges of the dotcom bubble in 2001, the period 1999-2006 saw encouraging levels of growth in UK software industry with small, medium and large firms all increasing their turnover and employment. However, the micro company segment has suffered a significant contraction, in sharp contrast with the rest of the industry. These companies represent a significant proportion of the industry, with 32% of employees and 22% of turnover in 2006, and importantly exhibit high levels of innovation. Evidence suggests that continued shrinkage in this area is beginning to impact the growth and health of the UK’s software industry as a whole.

Trends in the European software market

Looking at the relative health of the UK’s software industry the report reveals that whilst the sector is still holding on to the number one spot in Europe - accounting for 25% of Europe’s largest software companies and almost a third of software venture capital investment, the level of investment-backed innovation is declining. In contrast, investment is growing in major European markets. The report highlights that European software companies - particularly those in Germany - are becoming a more attractive investment opportunities than those in the UK largely due to targeted tax incentives.

The software industry “knowledge gap”

There is still an insufficient number of students choosing to study the “cpSTEM” subjects (Computer and Physical Science, Technology, Engineering, and Mathematics), critical to the success of the sector. The drive towards wider access to university education has not led to a significantly greater uptake of these important subjects. And whilst employment prospects for graduates in cpSTEM subjects have been improving steadily over the last few years they are still worse than the average for students overall. The number of jobs in the IT sector requiring degree qualifications has fallen by 10% in just four years - with just under 50% of IT jobs advertised seeking graduates. Employers increasingly look for industry qualifications and experience which are not delivered consistently by all cpSTEM degree courses.

The changing software landscape

The study also reveals that the software sector landscape in the UK is rapidly changing both in its composition and in its geographical base. A regional ‘heatmap’ highlights that whilst Cambridge, London and Edinburgh still host the highest number of VC-backed software companies, significant clusters are also now located in Northern Ireland, Glasgow, Newcastle, Manchester, Birmingham, and the Oxford-Reading region, largely mirroring where broadband penetration and infrastructure projects have been most successful.

Against this regional picture, public sector investment accounts for a far higher proportion of overall VC investment in the North, with 64% of deals involving public investors in the North East, 60% in Wales area and 58% in the North West. In contrast, private investors were particularly active in the south, with London (83% of all software deals), the East (88%), South East (79%) and South West (69%).

Charles Ward, Chief Operating Officer, Intellect said: “If the question is ‘is the UK software market an attractive place to play’, then the answer is yes. At a headline level the market growth has been consistently above European average. But being a relatively attractive market for software does not necessarily equate to a healthy industry: Software is a footloose industry and work will go to where the best conditions prevail. The UK has the fastest growing market for broadband access, and the most extensive availability. What we lack is widespread deployment of fibre that can provide internet speeds of up to 100 mbps or plans for the equivalent wirelessly. This report highlights how important long term investment in underlying communications infrastructure is and why we can’t afford to neglect it.”

David Clarke, Chief Executive, British Computer Society, said: “Optimism is in short supply in these times of economic crisis, but this report should reinforce our confidence in the UK’s software sector as an engine for jobs, long term growth, and as a key enabler of the competitiveness of the wider economy. There are challenges, but not only are we making progress in many areas, we collectively have the means to address the threats this report identifies.”

Notes to editors:

Summary of Key Findings:

Contact information

Journalists should contact The Microsoft Press Centre. Telephone 0870 6010 100, lines are open 9.00am to 6.00pm Monday to Friday.

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