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Software Sector Analysis Report 

[Key Points | Financial Year '20 | Prospects | Sector Do's and dont's]

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  • India's software industry can be divided into four main segments - IT services, Business Process Management, Software Products and Engineering Services, and Hardware. IT Services account for 51% of the total revenue of the sector, with BFSI (Banking, Financial Services and Insurance) being the key vertical.
  • UK and US are the leading consumer markets for the sector with a combined share of 80%. However, there is a growing demand from APAC, Latin America, and Middle East Asia regions. Indian companies have setup over 1000 global delivery centers in about 80 countries over the world to cater to the respective local markets.
  • India has a low-cost advantage. IT services in India is cost a fraction (about 20%) of what they cost in the United States, which makes India a preferred destination for IT sourcing. India accounts for approximately 55% market share of the US$ 200-250 billion global services sourcing business.
  • Social media, Mobility, Analytics, and Cloud Computing (SMAC) is leading digitization of the entire business model of the sector. Export revenue from the digital segment already forms about 20% of the industry’s total export revenue.
  • Large players with a wider range of capabilities are gaining ground as they move from being simple maintenance providers to full service players, offering infrastructure, system integration and consulting services. Of the total revenue, about 80% is contributed by 200 large and medium players.
  • The software sector is also gradually moving from linear business models to non-linear ones. Indian companies are focusing on newer models such as platform based services and creation of intellectual property.
  • The Indian government is emphasizing on better technology enabled delivery mechanisms for a multitude of government projects. With initiatives such as Digital India and Start Up India being launched, the domestic market for software services has a bright future ahead.

How to Research the Software Sector (Key Points)

  • Supply
  • Abundant supply of IT Services across segments, mainly lower-end (maintenance). Lower supply of services in higher-end areas such as analytics and cloud computing but competition is very tough.
  • Demand
  • High. IT services have seen a remarkable shift in demand in the last few years, with an ever-increasing share of digital, cloud, cyber security offerings and application services.
  • Power of Suppliers
  • Low, as a large supply of human resource is available at low cost from around the world.
  • Power of Buyers
  • Medium. The bigger IT companies enjoy the advantage of high switching costs. Once a client selects a particular IT company as its partner, it becomes dependent on the company for all its upgrades and technology requirements making it difficult to switch.
  • Barriers to entry
  • Low, as setup cost is almost negligible. However, it is high in value-added services where in-domain expertise can create a barrier. The size of a particular company and brand-image also creates barriers to entry, as such firms have built long-term relationships with major clients.
  • Competition
  • High, as the competition is global in nature and stretches across boundaries and geographies. It is expected to intensify due to the attempted replication of the Indian offshoring model by MNC IT majors as well as small startups.
  • Threat of Substitutes
  • Medium. Certain countries like China, Taiwan and Korea have started to develop an environment required for growth of the IT sector. Indian companies need to innovate to have an edge over the others.

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Financial Year '20

  • In FY20, the Indian IT sector’s revenue was estimated at around US$ 191 billion.
  • FY20 saw a significant change in how clients look at their enterprise applications. The focus shifted toward newer ways of working – agility in operations and a holistic approach to automation, cost optimization and digital transformation.
  • New technologies such as digitization, analytics, and Software as a Service (SaaS) offerings provided opportunities to the IT Sector. Artificial intelligence-led automation in application operations also saw a significant demand with many companies moving from pilots to production deployments of bots.
  • Due to the pandemic, the demand for digital technology was strong. IT Services industry body NASSCOM partnered with GE Healthcare to encourage startups to work on digital healthcare solutions in India.
  • Companies invested in sales/delivery and increased their presence in client geographies to improve their delivery agility and reduce their dependence on work visas.
  • The software industry also saw some key trends emerging in the Retail and Consumer Packaged Goods (RCPG) industry amid the pandemic. With concerns for employee and client safety, key trends such as low/no touch interface with the customer (social distancing) and online selling, emerged. HCL Technologies helped a leading food retail chain create an entire digital platform to enable no-contact home deliveries.
  • Adoption of newer technologies in the BFSI vertical also accelerated growth for the sector. In May 2019, Infosys acquired a 75% stake in ABN AMRO Bank’s Indian subsidiary Stater for US$ 143 million. This partnership strengthens Infosys' position as a leading technology and business process management provider across the mortgage services value chain.
  • The computer software and hardware sector in India attracted cumulative Foreign Direct Investment (FDI) inflows worth US$ 44.9 billion between April 2000 and March 2020. It ranked second in inflow of FDI, as per data released by the Department for Promotion of Industry and Internal Trade (DPIIT).
  • In the budget for FY20, the Government announced plans to launch a national programme on Artificial Intelligence (AI) and setting up of a National AI portal.
  • It also initiated IT- Special Economic Zones (SEZs) with an aim to create zones that lead to infrastructural development, exports and employment. As of February 2020, there are 421 approved SEZs across the country. Of these, 276 are from IT & IT enabled Services (ITeS) and 145 are export SEZs.

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Prospects

  • Domestic growth of the IT sector is expected to be driven by increasing adoption of technology and telecom by consumers in rural areas.
  • Tier II and Tier III cities provide opportunities to IT companies aiming to establish their business in India. Cheap labour, affordable real estate, favorable government regulations, tax breaks and SEZ schemes are facilitating the emergence of these cities as new IT destinations.
  • Small and medium sized businesses have an IT spend of approximately US$ 230–250 billion, but contribute just 25% to India’s IT revenue. The emergence of new service offerings and business models would aid in tapping this segment profitably and efficiently.
  • IT Sophistication in the utilities segment and the need for standardization of the process are also expected to drive demand for the sector.
  • As digital technologies transform business models around the globe, enterprises will increase their technology spending. Investments in digital, analytics, cloud, internet of things (IoT), cybersecurity and other emerging technologies is expected to grow exponentially.
  • Technologies such as telemedicine, health, remote monitoring solutions and clinical information monitoring systems will also continue to boost demand.
  • The rollout of the fifth generation (5G) wireless technology by telecommunications companies is expected to bring at least US$ 10 billion global business to Indian IT firms by 2025.
  • The Government has extended tax holidays to the IT sector for Software Technology Parks of India (STPI) and Special Economic Zones (SEZs) and has set up a more liberal system for raising capital, seed money and ease of doing business which will support growth of the sector.
  • Emerging geographies would drive the next phase of growth for the software sector in India.

    A focus on building a local credible presence, high degree of domain expertise at competitive costs and operational excellence holds the key to success in these new geographies.

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FAQs on the Automobile Sector

How has the software sector performed in the past decade and when is a good time to invest in the sector?

The software sector has been one of the sectors that has driven the stock market rally in the past decade. Both the BSE IT Index and NIFTY IT Index have given returns of more than 150%.

As revenue for the software sector is mainly export oriented, it is largely impacted by the depreciation of the rupee versus the US dollar. A depreciating rupee is beneficial for the sector and vice versa and IT companies have various hedging policies that help them benefit from it. Therefore, a good time to invest in the sector would be when the rupee is depreciating.

To know more about the sector's past and ongoing performance, have a look at the performance of the NIFTY IT Index and BSE IT Index

Where can I find a list of software stocks?

The details of listed software companies can be found on the NSE and BSE website. However, the overload of financial information on these websites can be overwhelming.

For a more direct and concise view of this information, you can check out our list of software stocks.

Which software stocks were the top performers over the last 5 years?

Mphasis, Take Solutions and Mindtree were the top software performers over the last 5 years in terms of sales and profit growth.

The consistent growth of Mphasis can be attributed to its expertise in the cloud and cognitive services whereas the growth of Take Solutions can be attributed to its domain expertise in Life Sciences and Supply Chain Management.

Mindtree's expertise in digital technology and its ability to improve margins via employee pyramid, offshoring, and pricing has boded well for its profit growth.

To know which other companies performed well over the last 5 years, check out our entire list of top performers.

What kind of dividend yields do software stocks offer?

Software companies generally have huge cash reserves, as they do not require very high capital expenditure for growth.

As dividends are mostly paid from the remaining share of profits once essential expenses are met, companies from the software sector are some of the highest dividend paying companies.

To know which are these companies, check out our list of top software stocks offering high dividend yields.

Which are the software stocks with the best shareholder returns?

Shareholder returns measure the total returns generated by a stock to an investor. This profitability helps gauge a company's effectiveness when it comes to using equity funding to run its daily operations. In the Indian stock market, HCL Technologies, Tata Consultancy Services and Sonata Software are the top automobile stocks right now with the best shareholder returns.

To know which other automobile stocks offer great return on equity, you can check out the top software stocks offering the best shareholder returns here.

Which are the best software stocks to invest in currently?

Investing in stocks requires careful analysis of financial data to find out a company's true worth. However, an easier way to find out about a company's performance is to look at its financial ratios.

Two commonly used financial ratios used in the valuation of stocks are -

  • Price to Earnings Ratio (P/E) - It compares the company’s stock price with its earnings per share. The higher the P/E ratio, the more expensive the stock.

    To find stocks with favorable P/E Ratios, check out our list of software stocks according to their P/E Ratios

  • Price to Book Value Ratio (P/BV) - It compares a firm's market capitalization to its book value. A high P/BV indicates markets believe the company's assets to be undervalued and vice versa.

    To find stocks with favorable P/BV Ratios, check out our list of software stocks according to their P/BV Ratios

Resources on the software sector

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