Business

Downtime In Tech Town

The biggest, TCS, has revised quarterly projections. Others are taking the same route.

Advertisement

Downtime In Tech Town
info_icon
  • Big One: TCS, India’s biggest IT services provider, recently warned of subdued performance, saying growth was slowing
  • Others Too: Biggies Infosys, Wipro, Cognizant and mid-level cos like Mindtree have revised earnings estimates by 6-12%
  • The Split: Brexit is causing problems too, as many UK clients, especially banks, are holding back IT spending

***

It was being feared all along, but when earlier this month, India’s largest IT and services company TCS warned of lower earnings in the current year, the spectre of a slowdown loomed over the Indian IT industry. TCS told the Bombay Stock Exchange in a filing that, “Based on data at the end of August 2016, the company has characterised customer outlook as one marked by abundant caution, with some holding back of discretionary spending, particularly in the BFSI (banking, financial services and insurance) vertical in the US, resulting in sequential loss of momentum.” This sent jitters across the IT sector and infotech stocks took a heavy beating.

Advertisement

BFSI clients account for almost 40 per cent of TCS’s revenue, and a sizable proportion of the revenue of all big IT companies too. US and Europe account for almost 80 per cent of the revenues of the $150-billion Indian IT sector. In the last few quarters, the sector has been under tremendous pressure because of subdued growth in these markets.

Following TCS’s cue, IT biggies like Infosys, Wipro, Cognizant and Mindtree scaled down earnings projections for the quarter. Cognizant, too, warned that clients were holding back discretionary spending and cut revenue projections for the second straight quarter. Infosys has already revised its full-year outlook, and will take a relook after the second-quarter results, with the possibility of another revision. In fact, it has announced the cancellation of its contract with RBS Bank in the UK, a fallout of Brexit. These low-earning guidances come on the back of similar bad showing in the last few quarters. In the current quarter, on an average, all the big and medium Indian IT companies have scaled down earnings projections by 6-12 per cent.

Advertisement

Says Jaideep Mehta, MD, IDC South Asia, “Demand is generally soft in key markets around the world. Between the US and Western Europe, the industry derives 75 per cent of its revenue and both geos are experiencing a flat to slow single digit growth rates for IT services.”

Needless to say, the Indian IT sector is in the throes of one of its worst downturns with earnings expected to be lower than projected and business not picking up according to expectations. Though experts vouch most developments in the IT sector are cyclical and things are bound to bounce back, in this case, that looks a distant possibility. The industry’s representative body, Nasscom, had set an industry growth target of 10-12 per cent, which looks difficult to achieve.

Traditional areas of IT spend appear to be in recession. In 2015, International Data Corporation (IDC) estimated a five per cent reduction in traditional IT spending. Overall, the market is growing, albeit more slowly than anticipated. Competition is intensifying in the IT services industry because the field has opened to a host of new entrants like Amazon Web Services, Google, Microsoft Azure and a host of SAAS (software as a service) companies.

One of the biggest factors affecting the companies is the Brexit vote, as the demand environment has deteriorated, according to experts. Indian IT companies like TCS have much to lose with the Brexit vote as a large part of their billing was in the UK. The UK alone contributes almost 18 per cent of industry revenue, north of $25 billion. Companies there, especially large banks and industries, have adopted a cautious approach to spending. Until the Brexit uncertainty subsides, this factor is going to linger.  

Advertisement

“I think the immediacy of impact of this is a negative one because it has created a sense of anxiety and that is still continuing. Over time, this will become an opportunity. But in the near term, we do see some more anxiety that is still to follow,” Infosys CEO Vishal Sikka stated at an investors meet.

Analysts, however, are looking at other developments as well. Says Sagar Rastogi, an analyst with Ambit Capital, “In the last three months, a few things have happened that are affecting Indian IT companies’ performance. Primary among them is Brexit, which has created uncertainties. Many clients are holding on to their IT spending. Additionally, in the US, there is a slowdown in decision-making, thanks to Brexit as well as uncertainties caused by the impending US elections.”

Advertisement

Another reason is that US banks are suffering from profitability challenges related to low net interest margins, says Rastogi. This is affecting Indian companies most because banks form the largest industry segment they cater to.

Mehta says that, apart from market weakness, there is a structural issue. Indian IT firms’ traditional areas of strength—applications development and maintenance, infrastructure management services and complex software package implementation—are all markets in secular retreat. Demand is strong for digital transformation programmes, migration to cloud, analytics, and increasingly Internet of Things projects. In these, the industry suffers from capacity constraints as well as challenges associated with selling to new buying centres. While all the companies have large-scale retraining and re-skilling programmes, the shift will take time to fructify.

Advertisement

Further, the structural shift to consumption-led IT, which signals a “buy” rather than “build” mentality, is causing long-term shrinkage in the addressable traditional markets. All of these reasons combined are compressing growth rates into single digits and challenging margins as price wars break out.

There are other concerns as well. The challenge in the global landscape is increasing and intensifying as many new small players are coming in with innovative pro­ducts that compete fiercely with Indian IT firms’ traditional packages. Says Thomas George, VP and head Cyber Media Research, “It’s no more a Top 5 or Top 10 competition. In the global scenario, they are now competing with several small and agile new digital companies which are taking bits and bytes of business and are far more aggressive in pricing. The near-term visibility of India companies is very low today.”

So far, Indian companies have not been able to push the business on the digital transformation front, which is also hurting earnings. Although we have the capabilities, we have not been able to convert them into customers like the smaller companies are doing. Also, so far, Indian companies have had the advantage of rupee depreciation but experts feel that this will not continue. As the Indian rupee appreciates, earnings and margins will be hurt further.

Many experts share Sikka’s optimism that Brexit will prove to be an opportunity and other challenges will be overcome over time. But the light at the end of the tunnel still not clear. In fact, it is ominous. Yes, Indian firms are trying to get there with new offerings. Infosys’s Mana, HCL Tech’s DryIce, TCS’s Ignio are trying to scale the next level of customers but none of these companies are talking about how much business and margins these new platforms are driving. All the companies are in the silent period ahead of announcing the second quarter results which will give a pointer to the remaining year. The wait is for some good news. But will that come?

Advertisement

Tags

    Advertisement

    Advertisement

    Advertisement

    Advertisement

    Advertisement

    Advertisement