|TCS' Ramadorai: Game,
set, match, India eh?
India's best-known global brand
||Wipro's Premji: More
like IBM than anyone else
Dutch banking major ABN Amro announced a $2.22-billion (Rs 9,990-crore)
outsourcing contract in September this year, naming three Indian
firms of a total of five vendors for a global outsourcing project,
there was a collective sigh of relief from various industry participants
and watchers, particularly investors and market analysts who were
hoping that the disappointing fourth quarter (January-March 2005)
performance of the sector was a temporary blip.
Though growth had started to pick up in the
first quarter of the current year, 2005-06, the ABN Amro deal
worked wonders in terms of market confidence. For one, it signalled
that Indian vendors had appeared on the radar of customers along
with the likes of IBM or Accenture. Though the value of the contract
bagged by IBM was much larger, it wasn't that much of a win for
the company, given that even a couple of years ago it would have
probably bagged the entire contract instead of having to settle
for just part of the cake. "ABN Amro was a benchmark deal,"
says N. Chandrasekharan, Executive Vice President and Head, Global
Operations at TCS. "The entire application portfolio came
to the Indian vendors, but infrastructure management went to IBM."
He explains that customers are also increasingly unbundling infrastructure
management. "The offshoreability of remote infrastructure
management is very high," he adds.
The traditional forte of Indian vendors,
applications development and maintenance, is now perceived as
an increasingly commoditised business and companies are rapidly
moving into spaces like 'transformational business' or the rationalisation
of systems and processes or remote management of infrastructure,
or even transaction oriented business process outsourcing (BPO).
The margins in these businesses are higher
than in application development and maintenance, and the good
news is that this foray into newer spaces is showing up in the
revenues of companies as well. While Infosys jumped from a 4 per
cent (sequential) growth in the first quarter of this year (April-June
2005) to a 11 per cent growth in revenues in the second (July-September),
TCS saw a climb from 4.7 per cent to 9 per cent and Wipro registered
a 5 per cent growth in the first quarter in its it services business
and a 9.8 per cent one for the second. Evidently, the fundamentals
of the business as reflected by the three bellwether stocks continue
to be solid.
Understanding the IT business is like trying
to make sense of shifting targets and evolving paradigms all the
time. It is not India's first global industry for nothing. Companies
in the business have had to chart a trail-blazing path, and in
the process change the rules of the game globally. Curiously enough,
even as they chase similar goals, India's leading it vendors have
adopted very distinct strategies.
Take Infosys for instance: it is not the biggest
Indian it company (TCS is), nor does it have a presence in the
largest number of verticals (Wipro has), but it still evokes a
kind of awe and respect that has helped it increase its market
capitalisation from Rs 38,122 crore in the last BT 500 (average
market capitalisation in the first half of the year, April-September)
to Rs 60,585 crore this year.
A lot of this has got to do with the middle-class
success story of its legendary founders and their wealth sharing
philosophy; then, this has been backed by the fact that the company
has grown at a CAGR of 45 per cent over the last five years. To
put things in perspective, in 1998-99, Infosys boasted revenues
of a mere Rs 509 crore; it will close this year with sales in
excess of $2 billion (Rs 9,000 crore). During this period it has
managed to retain its margins (net profit) in the high 20s, compared
to its other Indian peers who generally do in the mid to high
teens. Little wonder it has been a darling on the bourses. "Infosys
is all about setting runaway aspirations and achieving them,"
says Lakshmi Narayanan, President and CEO of Cognizant Technology
Solutions. "(It is) A global leader in the information technology
industry that challenged a generation of Indians to think big
and do big. Infosys created a culture of transparency that helped
others in the industry to learn and be fast followers."
| The Deal That Changed Everything
One of the most significant or
possibly the most significant development for the IT sector
this year was the mammoth $2.22-billion (Rs 9,990-crore) contract
awarded by Dutch banking major ABN AMRO in September. The
deal was significant not just for its size, but for the fact
that for the first time in the history of the Indian IT sector,
a single contract (spread over a five-year period) was handed
out in parts to five different vendors-three Indian and two
overseas. The Indian players who bagged parts of the contract
were TCS ($200 million or Rs 900 crore), Infosys ($140 million
or Rs 630 crore) and Patni Computers. While IBM bagged a lion's
share of the contract, $1.8 billion (Rs 8,100 crore) for infrastructure
management (the Indian firms will handle application development
and maintenance alongside Accenture, which was awarded a slice
of the application development pie), the deal assumes great
significance as Partha Iyengar, Vice President (Research),
Gartner, a global IT research firm, reasons, because "earlier
a deal like this would go at one shot to a player like, say,
IBM alone, whereas here it has been broken down and handed
out to five players". This is definitely not good news
for the IBMs, Accentures or EDSes of the world for it simply
signifies that the battle for market share has reached their
doorstep. Even as they struggle to get the Global Delivery
Model right (a Forrester study last year clearly pegged the
overseas players behind the Indian software majors on practically
every efficiency parameter of the offshore delivery model),
Indian majors are putting their front-ends in order, with
increased investments in sales and marketing, and through
smart acquisitions. "If you ask me, the ABN AMRO deal,
which typifies the strategic global sourcing trend, is the
most important pointer to the future of the IT industry,"
says Harit Shah, Analyst at Quantum Information Services.
"Of course, at the moment the Indian players are not
in a position to take on a billion-dollar contract, but the
trend augurs very well for the medium-term and in the long-term
Indian firms should be able to bag and handle mega contracts
too." The man has a point. What the deal simply signifies
is the faith (of customers) in the offshore delivery model
coupled with the fact that clients are taking Indian vendors
very seriously. Also, it couldn't have come at a better time.
After a disappointing last quarter in 2004-05 (the January
to March 2005 period wasn't kind to most Indian IT firms)
and a marginal improvement in the first quarter of 2005-06
(April-June 2005), this deal signalled that all was well with
the Indian IT sector. And sure enough the second quarter of
the current fiscal bore out that premise (and promise).
|IBM's Sam Palmisano: Will the
Wipro Has A Different Story To Tell
The company, which was into selling vegetable
oils, entered the it market following the government of the day's
booting out of multinationals, including IBM, in 1977. Spotting
an opportunity to fill the gap left behind by the likes of IBM,
has paid Wipro handsome dividends. Over the last 10 years, its
revenues have grown at a CAGR of 25 per cent, its net profit at
an astonishing 47 per cent. The company seems to have subconsciously
modelled itself on global it Services behemoth IBM to a great
extent in terms of the range and breadth of its presence in various
verticals (even going to the extent of having a Wipro 123 spreadsheet
similar to IBM's Lotus 123).
Unlike most Indian it companies (barring
TCS, which derives a sizeable 12 per cent of its revenues from
the domestic market) that have focussed exclusively on the international
market-primarily, the us, Europe and Japan-Wipro derives a significant
chunk of its revenues from the domestic market. A full 16 per
cent of its Rs 8,169 crore revenues last year came from the domestic
market. Again, unlike most Indian it players it has an impressive
hardware portfolio. It sells everything from PCs to the enterprise
market to notebooks and servers. "Selling products is a Trojan
horse strategy to get a foot in to the customers' door,"
says Suresh Chandra Senapaty, Corporate Executive Vice President
(Finance), Wipro. There are a quite a few other things that set
Wipro apart. It derives nearly a third of its total revenues from
the European market compared to say 22 per cent for Infosys. This
means that if there is a slowdown in the American market, Wipro
wouldn't feel as much pain as other players. "Wipro has over
30 per cent of its revenues from the European market, something
that few others can claim and (this and) its strong six sigma
(practice) has moulded that into a key differentiator in the global
market," says Deepak Khosla, VP (Marketing), Patni Computers.
the companies in a sector where India has a long-term competitive
Yes, they are. Generally speaking Indian IT companies
have proven that offshore delivery works. Companies are
also increasingly diversifying from the now-commoditised
application development and maintenance work to consulting,
systems integration, and packaged software deployment, which
is a good sign.
Do the companies have what it takes to succeed in the
The one thing that the three largest IT services companies
have in common is rock solid management teams. Besides this,
they have each shown a propensity for topline growth in
excess of the industry averages and also a capacity to manage
operating margins in situations where cost pressures have
mounted. They have also performed well on parameters like
'return on net worth' (equity+reserves) and display high
Should you invest in the companies (sector)?
Yes, but you need to have a long-term perspective. Valuations
are currently very high, what with Infosys trading at 29
times FY06 (expected) earnings. Clearly these are not short-
to medium-term investments. You need at least a three-year
time frame when you look at these stocks.
Wipro's telecom practice is the largest of
all Indian players as is its outsourced R&D practice. Except
for Siemens, Wipro works for all the major telecom giants, Alcatel,
Motorola, Nokia and Ericsson. With the sector making a strong
comeback globally this business of Wipro, which reflected the
recession in the sector in the early 2000s, has seen an upturn.
Infrastructure management services or remote it maintenance and
testing are two other verticals that highlight the company's strengths.
These are the two fastest growing vertical segments for the company
and are expected to power its short- and medium-term growth.
TCS, on its part, belongs to the Tata stable
and was only constituted as a company (from being a division of
Tata Sons) last year prior to its public issue and listing in
August 2004. The company has traditionally focussed on the fixed
price fixed time business model (where payments are milestone
based) unlike peers Infosys and Wipro, which still have a large
part of their revenues coming from the time and material model
(where clients are billed on an ongoing basis). While the fixed
price model is less predictable on a quarter-to-quarter basis,
it enables the company to take on more complex engagements. These
projects, however, call for a greater onsite presence, thereby
eating into margins. It's a conundrum TCS faces, but one that
the company has been able to overcome with very good productivity
levels. As Harit Shah, an analyst at Quantum Information Services,
points out. "In the first quarter of the current fiscal,
Infosys' operating margins had fallen by 1.5 per cent on a sequential
basis due to rising wage costs, but TCS, which had raised salaries,
did not see a pressure on margins due to its improved productivity
All three companies display excellent return
ratios. The return on net worth for Infosys, for instance, stands
at about 40 per cent while Wipro's is at about 35 per cent and
TCS' 65 per cent (the company's one time payout to Tata Sons last
year renders its cash reserves low, which contributes to the high
return ratio). While Infosys has seen a CAGR in revenues of 39
per cent since 2000-01, TCS' stands at about 33 per cent (US GAAP)
and Wipro's 28 per cent. Profit growth too (CAGR) stands at a
healthy 32 per cent for Infosys, 27 per cent for TCS and 25 per
cent for Wipro for the same period.
| Long-term advantages for the Indian IT sector
The offshore model is gaining currency; India
has thus far tapped just about 2 per cent of the $600 billion
(Rs 27,00,000 crore) global IT Services market; and global
IT spend is expected to continue to grow at about 5 per cent
a year over the next three.Indian IT firms have a headstart
over global competitors in the offshore delivery model and
it is something they are capitalising on.
India producing four lakh engineers a year (compared to
around 60,000 in the US), the sector can cast a wide net
to scout for talent.
an Indian chip-design engineer costing just about $30,000
(Rs 13.5 lakh) a year, as compared to $150,000-$200,000
(Rs 67.5-90 lakh) in the US, the Indian IT sector's cost
advantage is huge. The cost structure difference in ITES/BPO
is even more stark.
time zone advantage (India is 12 hours ahead of the US)
puts India in a unique position. Even as American engineers
go to bed, their Indian counterparts can seamlessly pick
up the baton to continue work.
and mid-sized Indian companies typically spend only 2 per
cent of their budgets on IT compared to global standards
of around 10-11 per cent. As Indian companies increasingly
look to become global giants, their IT spend will rise,
creating a huge domestic market.
The big question remains structural growth
for this sector: will it continue to grow at the 28-odd per cent
that it has managed over the last several years? "There is
still cost arbitrage (opportunity) and India's market share is
still low so growth will continue," sums up Mahesh Vaze,
it Sector analyst at BRICS Securities. He warns of rising employee
costs and increasing commoditisation of some of the work Indian
it firms traditionally do. Then, that's part of the game.
The Road Ahead
Each of these of these it stars has its own
set of challenges. While Wipro has displayed a huge appetite for
risk, not all its acquisitions (since 2001, it has spent more
than $200 million on some five acquisitions) have been successes.
While some acquisitions like that of the energy practice of AMS
or niche-consultancy firm Nerve Wire have helped, others like
the pricey Spectramind (now called Wipro BPO and the company paid
$95.5 million or Rs 453 crore for it in July 2002; it was done
in two tranches) have yet to pay off in a big way.
Spectramind, in particular, has been a drag.
With the bulk of its revenues coming from the voice business where
margins are wafer thin and attrition levels (of people) the highest,
it has not proved the winner Wipro thought it would be. "Of
course we have had some learnings," admits Senapaty. "We
have increased our non-voice business to around 16 per cent from
low single digits." The man insists that the company's risk-taking
attitude has paid off. All acquisitions, he insists, are strategic
in nature and "will help long-term growth". "We
will not buy revenues," he adds. Sill, the operating margins
in Wipro's BPO business have been consistently falling. For the
second quarter of the current fiscal, this stood at 13 per cent
down from 22 per cent in the corresponding period of the previous
year. Compare this with Infosys' BPO business, Progeon whose net
margin of 25 per cent for the second quarter of the current fiscal
is double that of Wipro-Spectramind's operating margins and you
will see why this is an area of concern for the company. "Wipro
has a strong presence in remote it maintenance and R&D services,
but it seems to lack specific domain skills," adds Patni's
Khosla. "It is weak in financial services, which is the largest
spender on it and its telecom (practice) is primarily driven by
its focus on R&D services, rather than an inherent strength
in the market."
| Things that can go wrong for
the Indian IT sector
ECONOMIC SLOWDOWN (MORE SO AN AMERICAN ONE): IT spends
after galloping for the past decade have been growing in low
single digits in the past few years. If the American economy
(from which Indian IT companies derive a bulk-70 per cent
plus for most-of their revenues) slows down, so will the Indian
INFRASTRUCTURE: A no brainer
actually. If India fails to get its infrastructure act together
at some point, even IT companies, which have in the past
succeeded precisely because they were not inhibited by local
factors, might succumb. Bangalore itself maybe Bangalored
by a Bangkok or a Shanghai.
RACE TO THE BOTTOM: The Indian
IT sector should move away from being a price warrior alone.
For this it will have to move up the value chain (consulting,
domain expertise, verticalisation). Else it will be a race
to the bottom.
OUTSOURCING BACKLASH: Indian
companies have to become more culturally inclusive; otherwise
they cannot emerge as true global companies. Then there
is the backlash against outsourcing itself.
RISING COSTS AND AVAILABILITY OF
TRAINED MANPOWER: Costs have been rising in the high
teens. Rampant attrition (in excess of 25 per cent for the
sector as a whole) and lack of trained manpower might also
hinder its growth.
Infosys, in contrast, has been wary of the
acquisition route. The company has parlayed its core strength
in application maintenance and development for the banking and
financial services market, into a sizeable presence into various
other verticals like system integration and testing/validation
as well as infrastructure management services. Barring an odd
buy like its acquisition of Expert Information System in Australia
(now part of Infosys Australia) the company has been chary of
growing inorganically and prefers to grow its own business rather
Nandan M. Nilekani, CEO, President and MD
of Infosys, defends this approach. "Look at our track record,"
he says. "Results speak for themselves. Pace of growth on
all fronts, revenues, pat, customers, people, all have been huge.
Our ability to scale and grow business has been considerable."
Compared to its other Indian peers, Infosys has moved more aggressively
into the high margin, but high risk, consulting space-by hiring
rainmakers and growing a business around them-a traditional domain
of international heavyweights like IBM, Accenture and eds.
Nilekani says that by some measures, Infosys
already derives nearly a fifth of its revenues from the consulting
business. This has also meant that the company has been able to
move beyond the IT manger level to CXO relationships, which are
crucial. "We are already a player at the high table and are
actively considered for most $100 million-plus contracts,"
says Nilekani. He admits that there are challenges the company
faces. "Managing scale, while at the same time retaining
the basic DNA of the organisation even as we sustain and enhance
our current growth, will be our biggest challenge." "I
am confident we will be able to achieve it," he adds
TCS, a latecomer to the BPO business, has
made up for the delay with its massive $850-million (Rs 3,825-crore)
win in the UK life and pensions industry space for insurance transaction
processing for the UK-based Pearl Group wherein TCS will take
over Pearl's transaction processing division. And it has also
acquired Chilean Comicrom, a banking and pensions BPO in that
country. "We have clearly decided that we are going to be
transaction processing oriented, platform centric and verticalised
and all our strategies will be geared for this," sums up
Each of the three is adopting a different
route to finally achieve the same goal, a global position of the
stature of an EDS, IBM or Accenture. And who says these companies