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Indian IT staring at slowest growth in a decade?

Jun 8, 2010

If someone told this to you a few years ago, you would have probably laughed them away. But the fact is that the poster boys of Indian outsourcing are seeing their growth rates slipping rapidly. From as high as 30-40% to single-digits in 2010. FY10 for the IT sector was the year of sluggish business and embarrassingly poor growth rates. Not even the major players, with their large scale and Fortune 500 clients such as TCS, Infosys and Wipro were immune to this phenomenon. The global financial meltdown disturbed India's sun-shine industry. It is one of the sectors most reliant on global economic sentiment and currency swings. The Indian IT industry which works on the offshore service delivery model derives most of its revenues from developed economies. Particularly those in North America and Europe. It also caters mainly to the banking and financial services vertical (BFSI) which was the worst hit in the crisis. The downturn left clients with barely enough cash to cover operations. IT companies thus saw a significant dip in demand and a surge in pricing pressures. What followed is reflected in the expectedly dismal performance of the big and small IT companies in India during the last fiscal.

Foreign exchange rates: The joker in the pack
The top 3 IT majors (TCS, Infosys and Wipro) witnessed a significant deceleration in growth. From registering an average growth rate of 27% in FY09 it reached a dismal 6% in FY10. Infosys, the fastest grower in 2009, speeding ahead at a rate of 30%, witnessed the lowest growth in this year at less than 5%.

Data Source: Companies, Equitymaster research

In terms of profits however the trend was surprising due to the joker in the pack - 'forex rates'. The top 3 players achieved a 2% higher profit growth on an average in FY10 than the previous fiscal. Profit growth was a respectable 19% this fiscal. Infosys was again the laggard, with TCS stealing the show with a 33% increase. This volatility in performance was mainly on the back of forex movements. Better operating performance was also witnessed due to lower employee costs.

Vendor consolidation and easing of pricing pressures can help the companies to sustain a decent performance in profitability. Cost management undertaken by all the companies will also help them in the long run. But, since salary increases were put on hold in the recession, they are now back with a bang. Most companies have indicated wage hikes at onsite as well as offshore levels.

Mid and small sized IT companies like Tech Mahindra and 3i-infotech faced the brunt of high interest costs. Revenue growth of small players like NIIT Technologies, KPIT and Zylog Systems also remained muted. These companies witnessed lower volumes from existing customers as well as intense pricing pressure due to lack of scalability.

What the future holds for the sector?
During the last quarter of FY10, volumes as well as order backlogs have shown some revival. One of the major signs of this labour intensive industry's prospects improving is an uptick in hiring. Infosys and TCS plan to hire around 30,000 employees this fiscal. Other major companies also have announced hiring plans as well as wage hikes to curb attrition. With the slowdown in Europe , companies are looking at tapping other lucrative markets, including India. Also they are refocusing on the US, their bread and butter for years.

Tech research firm, Forrester has projected growth of 9.3% for 2010. However, it believes that there will be a slow paced growth in allocation of large outsourcing projects. We can see evidence of the same as none of the big players, except HCL Tech have so far announced new large contract value deals (US$ 500 m plus). TCS's US $ 900 m contract with Britain's Personal Accounts Delivery Authority is still under contention with the new government. Outsourcing as an industry is slated to grow. However big deals may be spread out over a number of players. Investors may thus have to be content with more reasonable growth from this sector in the medium term.

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