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Infosys: Gearing up! - Views on News from Equitymaster
 
 
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  • Aug 14, 2003

    Infosys: Gearing up!

    Infosys, India’s leading software services company, held its annual analyst meet on August 11, 2003 at its development centre in Pune, with the top management of the company spelling out its views on the challenges that Infosys is facing. As part of a series of presentations, the management discussed about Infosys’ performance in the past one year, the challenges it faces, the developments that the company is going through, and where the company is heading. Here is a brief review of the discussion.

    The industry
    The management was of the view that as more customers drive the change towards offshoring and such activities become mainstream, Indian software companies are likely to gain immensely from the potential that exists. But, in this regard, the Indian IT industry faces short-term challenges – rising costs of operations (thus reducing cost advantage), ‘noise’ that international competition is making (about their expansion plans into the country).

    These pressures are likely to be short-term in nature because of the following reasons. As MNCs try to expand operations into India, they would need to restructure their business models, mainly because of the need to fully integrate them into the Indian outsourcing model. For example, these foreign companies would have to face lower revenue growth because of the difference that prevails in revenue per employee for onsite and offshore (offshore revenues are around one-third of onsite revenues). Also, replication of the Indian outsourcing model by these MNCs adds to the legitimacy of the Indian model, thus benefiting Indian companies with evolved delivery models to success from it. Thus, these pressures on the Indian software industry are more likely to stabilize in the near future.

    The company
    As far as Infosys is concerned, the management highlighted certain key measures that the company is taking to handle the pressure of global competition. This involves refurbishing the Global Delivery Model (GDM) to meet increased demands of clients in a seamless manner. The company is also investing in its human resources, and this involves hiring more people and raising salaries of its existing force (an average of 15% increase in variable compensation was made in the June quarter).

    The company also talked about verticalisation of its operations, i.e., improving its domain competencies and developing expertise in fast growing verticals like retail, auto and aero, and healthcare and life sciences. As for its offerings, Infosys sees growth in the enterprise solutions segment that contributed to 13.5% of revenues in the June quarter. The management seemed to be very specific about the role new technologies and new services (enterprise solutions, consulting, systems integration, package implementation, etc.) are playing in taking Infosys towards higher growth. The graph below is an indicator of the increasing contribution of these services to Infosys’ revenues.

    * ‘New’ services include services other than
    software development, maintenance, reengineering and products.

    The above graph also shows that as Infosys is increasing its revenue contribution from new services, its investments in selling and marketing (S&M) initiatives is also on a rise. This is in line with the company’s move up the value chain by providing these high-end services (new services, as, mentioned above) that involves higher efforts on the S&M front. While this effort has resulted in the high repeat business for Infosys (88% and 92% in FY02 and FY03, respectively), going forward, the company is likely to realize scale benefits of S&M investments already made.

    On the issue of revised guidance, the management talked about its guidance of April 10, 2003. The company said that much has changed since then and its revised guidance in June. The earlier guidance was given in the background of the uncertainties relating to the US economy and Iraq war (and the consequent effects on IT spending), and SARS (thus lesser client visits). Also, the company anticipated around 4.0%-4.5% decline in billing rates.

    In the June quarter, while the uncertainties relating to Iraq war and SARS subsided, the company expects pricing decline to be lesser than anticipated earlier. Also, as the company works towards increased initiatives on the cost optimization front, which involves improvement in utilization, reduced subcontractors’ cost and rationalization on onsite non-billable resources (by getting them offshore), the reason for improved guidance seems justified. Also, as mentioned above, the company is likely to witness scale benefits arising from its S&M expenses that have already been made.

    Challenges for the future
    Infosys was more specific about the challenges that it is likely to face in the near to long term, one of them being the continuing pressure on margins in its offshore outsourcing initiatives. The company, however, viewed this pressure to be stabilizing. Also, to counter this, Infosys is increasing its offshore revenues, improving utilization and moving up the value chain (by providing relatively higher priced high-end services).

    The second major problem that Infosys seems to be concerned about is the increasing competition (both domestic and multinational) in the software services space. This is making it somewhat difficult for companies like Infosys to differentiate based on service offerings or quality. This is the reason Infosys is focusing on continuous improvement of its GDM, which has been the competitive advantage of the company. We believe that continuous improvement in its delivery capabilities (through its GDM) will help Infosys to ward off the short-term concern of MNC competition. However, in the long-term, Infosys’ ability to deliver value-added services (consulting, package implementation, etc.) will determine its competitive advantage.

    Another threat that the management mentioned about was relating to clients’ increasing negotiations for lower prices. Infosys has been facing pressure from its legacy as well as new customers to lower its billing rates. However, this problem of increasing pressure from old as well as new clients can be reduced if the company is able to get large sized and value-added projects. The Infosys’ management said that some of such projects are in the pipeline and as the company increases its credibility in doing high-end work, these are likely to flow in larger numbers.

    The overall picture that emerged out of the meet was that the pressure on Indian software companies, in this case on Infosys, is likely to ease going forward. As the Indian offshoring model gets higher recognition worldwide and more (large-sized and high-end) projects flow in, companies like Infosys are likely to be the biggest beneficiaries. Infosys has shown resilience in times of turbulence and is gearing up to meet the existing challenges and those that are likely to arise in the future.

     

     

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