Indian IT: Looking for growth

Indian software leaders used to take comfort from the fact that they were not yet among the global big league in terms of size, but beat many of the incumbents in terms of the price earning ratio they commanded. Not anymore.

The current global downturn has taken a severe toll on the way investors look at the future of this once favourite industry. The differential has been wiped out.

The big questions that arise from this are: What is the future of the industry, is it likely to regain its premium status once the global recession is over and what do the leaders like TCS, Infosys, Wipro and HCL have to do in order to regain their past glory?

The change in investor perception has been brought about by the beating that the Indian leaders have taken both in terms of their topline and margins. These firms, whose annual growth rate at one time used to nudge 30 per cent, have scaled down to about half that level.

What is more serious, says Avinash Vashistha, head of the offshoring consultancy Tholons, are the prospects for the new financial year (2009-10). Their performance is likely to be much worse with topline being either flat or up negligibly. On the other hand the global leaders expect to grow their revenue in the range of 8-12 per cent.

The impact for the Indian leaders on the bottomline is likely to be less severe but significant nevertheless. Earlier they used to earn a margin of upwards of 20 per cent whereas the global leaders clocked no more than 10-15 per cent. In the new year, the bottomline of both the global and Indian leaders is likely to be affected.

While the Indian firms will still be ahead, they will have lost 300-400 basis points in their margins. It is this scenario that investors are reacting to.

A somewhat similar, though differentiated, picture is painted by Raman Roy, head of Quatrro and one of the pioneers of the BPO industry. What has been hit and hurts the most are the non-discretionary projects (the work that has to be offshored as capacities do not exist onshore) that have fallen victim to the standstill in the decision-making process in developed country firms.

In the present scenario, he sees volumes go up for the Indian captives of global incumbents whereas the growth rate of India-centric BPOs will be muted and this will affect their bottomline.

The current gloom does not mean there is no light at the end of the tunnel. Vashistha sees tremendous traction for outsourcing in the next 10 years. He also sees volumes picking up from the end of the current calendar year. But looking beyond that, he sees a clear advantage for the global incumbents. They have got their low cost act in India together much better than the Indian leaders' ability to acquire consulting and domain expertise.

As things stand, they are more capable of getting the higher value business and this does not bode well for the future of the Indian leaders. Vashistha, in fact, is unwilling to declare with confidence that they will acquire what they do not have right now. Thus the scenario that unfolds for the global market for Indian leaders is that they will get back volume growth but will for the most part continue to be in the low margin end of the business.

There is, however, one geography with enormous potential which the Indian leaders, busy picking the low hanging fruits of the global market, have till now ignored and which has the potential to counter some of the downside of the global market. This is the domestic Indian market which accounts for just a quarter (exports are three times larger) of the Indian software and services sector.

Recently IBM publicised a finding by the consultancy Springboard Research that it is the leader of the Indian market with a 10.8 per cent share. Indian leaders who have some scale in India, TCS and Wipro, do not match up to this. In 2008 IBM won two substantial deals in India from Hindustan Petroleum and Bharti Retail.

The domestic Indian market has tremendous potential for two reasons. Indian business is eager and ready and is, in fact, going ahead with the adoption of IT.

The latest global information technology report, prepared by the European management school INSEAD and the World Economic Forum, gives high marks to the availability of skills and Indian businesses' willingness to invest in training. It also does very well in its ability to absorb technology and moderately well in collaborating with academia for research and willingness to spend on R&D.

When business has this kind of mindset, exploiting the opportunity is purely a factor of the vendor's ability and willingness to engage.

But the greater long-term potential for new and ongoing business in India lies with the government sector. Use of IT by government is nascent and so the potential in the space is almost limitless. What is more, there is a keen realisation in government that it must e-enable itself and the way to vastly better governance lies through vastly greater e-governance.

The government has a clear IT vision which seeks to bring broadband connectivity to the entire government sector and create common service centres with broadband connectivity in every village.

Thus the future for Indian IT lies in twofold action -- secure consulting and domain expertise globally, and e-enable India domestically. Virtually every major innovative IT firm from Microsoft to HP is busy developing devices and solutions that address those at the bottom of the 1.1 billion Indian pyramid. For Indian IT services firms to convert a part of this opportunity into business is only a matter of trying.