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Indian IT in 2009: A flashback - Views on News from Equitymaster

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Indian IT in 2009: A flashback

Dec 30, 2009

Surprise, shock and awe. This is what the eventful year of 2009 brought with it for the Indian IT sector. The sector that witnessed spectacular growth rates over a decade, didn't expect the rally to continue with the same vigor in 2009. After all, its largest markets in the West were deep in recession. It found its clients struggling for existence. So it knew that the year 2009 will be extremely challenging.

The year brought a lot that it didn't anticipate. To begin with, the 'honest' confession about the financials at "Satyam" (then India's fourth largest IT company) sent the industry into a tizzy. With the scandal going public, there were questions about the corporate governance issues in India. To exacerbate the crisis, there was news about the World Bank debarring companies like Wipro and Satyam for bidding for its IT contracts on grounds of some past mal-practices. However the Indian government judiciously found a suitor for Satyam within 6 months.

Soon the industry found itself amidst the worst financial crisis. There was a sudden and drastic change in the demand for IT services and products. The cash-strapped clients contained or deferred their IT budgets. This led to poor revenue visibility for IT companies. There was a severe pressure on pricing. During the worst period of the year, the billing rates declined by as much as 3% to 7% for many companies.

In several cases, billing rates fell by over 10% for specific contracts. This badly dented the IT sector's margins. To add to the gloom was an appreciating rupee during the first half of 2009. There was severe currency fluctuation throughout the year which left huge forex losses on IT companies' accounts. In short, the topline as well as bottomline was constrained.

Business was muted particularly for high-end IT services like consulting and business transformation. Global banking and financial services (BFS) segment that contributes nearly 40% of the industry's exports was beaten out of shape. Competition increased as global players like Accenture and IBM also downgraded their pricing and vied for lower end services.

However things turned out to be a lot better in the second quarter of FY10. The industry showed utmost resilience in fighting the downturn. Companies learnt to manage their cost more effectively. This meant there were no flamboyant bonuses, no salary hikes and a stricter look on employee productivity. Sadly there were a lot of layoffs as well. The companies contained their general operational expenses in order to maintain margins. However, there was a renewed thrust on sales and marketing expenditure. Every company wanted to be closer to the customer. This was very important for winning new customers or new deals from existing customers. Subsequently, the industry managed to show better than expected performance in 1HFY10.

The second half of the year was marked by softening of the economic crisis. IT clients became more open to dialogues. There was a trend towards vendor consolidation wherein the customers preferred to work with fewer IT services vendors with proven track records. This resulted in bigger share of pie for the IT majors while the smaller players lost out.

The downturn also brought its bundle of joy for the sector. Following the downturn, there was a spurt in mergers and acquisitions. This brought a lot of business integration and business transformation business for the Indian IT industry. Customers sought effective IT solutions to cut their operational costs. There appeared a renewed focus on outsourcing non-core activities to IT vendors.

The industry realized the importance of diversification in terms of geography as well as industry segments. Business segments like government, utilities, and energy rose on the priority list. Companies collaborated with clients to develop newer types of business model like 'pay-per- use' for delivering software and services. The period marked an increase of attention towards software products driven IP-based growth. In short, Indian IT learnt that non-linearity is the way forward.

Data source: Trend
On the valuation side, the industry had a rollercoaster ride during 2009. At the beginning of the year, IT stocks bore the brunt of heavy selling due to delicate investor sentiment about the sector. However, as the demand environment improved, companies' performances improved. And so did the investors' confidence towards the sector. No doubt, the sector has turned out to be one of the top performers for the year. The BSE-IT index witnessed a whopping 128% YoY increase During the January to December 2009 period. Stocks of companies like TCS and HCL Technologies have in fact trebled over the year, while those for Infosys and Wipro doubled.

We believe the current valuations factor most of the growth prospects, limiting any major rally in the short to medium-term.

To conclude, there is no gainsaying the fact that the Indian IT industry like all other businesses had an extremely eventful year in 2009. We will follow up this article with our outlook for 2010 for the IT industry.

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