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Indian IT: What lies ahead? - Views on News from Equitymaster
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Indian IT: What lies ahead?
Dec 26, 2008

India’s software and services industry has grown by leaps and bounds over the few years. But 2008 was one of the worst years which the industry has ever witnessed. The US, from where Indian IT companies derive about 60% of their revenues, was badly hit by a financial crisis. This negatively affected the growth of these companies and subsequently the performance of their stocks on the bourses. The BSE IT index has in fact declined by around 50% since January 2008 (as compared to Sensex’ decline of 53%). As 2008 comes to an end, we look forward to 2009 with hopes that times will be less trying for these companies and also their stocks. Here is what we believe is in store for IT companies in 2009.

Slower volume growth
Volumes for the IT industry have got severely strained. The pressure has in fact increased significantly over the past couple of months. IT companies are facing delays in 2009 budgeting exercises of their clients. The postponement of budgeting exercises is a bad signal for the year ahead. This delay clearly indicates poor visibility of growth in the first half of 2009. The managements however believe that the situation will improve from the second half onwards.

Pricing under pressure
Although existing contracts are not under any significant pricing pressure, new contracts and deals are coming at lower pricing (around 3% to 7% lower). With new orders coming at lower prices, existing contracts might also come under pressure either in term of new pricing or more work at the same pricing (more bang for the buck). Indian IT companies are now focusing on fixed price projects to weather pricing issues. We believe that in 2009, pricing will be a key issue to contend for these companies. Lower pricing is likely to impact the margins.

Shifting Focus
In 2008, amidst financial crisis and economic slowdown, the BFSI (banking, financial services and insurance) domain remained under pressure. We believe over the next few quarters, the BFSI domains will remain under pressure as these segments are under significant stress in the US and Europe and it is expected that IT spending in these segments will reduce in the short term. IT companies are now shifting focus to other emerging segments like retail and manufacturing where the presence of technology is just beginning to be felt. Indian IT companies are also focusing new geographies (like Japan, Eastern Europe and Middle East) to de-risk their revenue model. However, penetration levels in these domains and geographies are very low at this point of time. We believe that these measures will pay dividends in the long run.

While the outlook for the IT industry remains weak for 2009, we cannot deny that the market has discounted a near worse-case scenario for the sector. Although the next two quarters are going to be tough for IT companies, the value proposition that offshore outsourcing possess, will play a significant role in growth over the long term. In fact, IT majors are already using the crisis to their advantage, especially by making low cost acquisitions to diversify their skill set and domain capabilities. Indian IT companies are also increasing its productivity by cost containment and higher resource utilizations.

We believe that fundamentals of the Indian IT industry remain intact. Notwithstanding the current slowdown, the industry will continue to grow and would create value for investors in the long run.

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