Indian IT: Glorious Past, challenging present and an uncertain future

The Indian IT sector must reskill its workforce and move up the value chain if it wants to retain its dominant position in the world as well as its double digit growth rates On July 15, 2016 a sombre looking Vishal Sikka, the CEO and MD of Infosys Ltd, India's second largest exporter of IT services announced the company's first quarterly results. While revenue and profit were below market expectations, what surprised many was the downward revision of annual revenue growth forecast. Markets were swift to mete out punishment. The shares of the company crashed by about 10 per cent in a single trading session, wiping out nearly $3.5 billion in market capitalisation. Infosys was not alone in reporting a disappointing set of numbers. The largest exporter of Indian IT services Tata Consultancy Services, also reported weak numbers. Wipro, the fourth largest India-headquartered exporter of IT services, has been in a turnaround mode for the last five years and continued its weak streak. Even erstwhile market darlings like Cognizant, Tech Mahindra and HCL Tech, which in recent years had managed to grow faster than their peers, reported muted numbers. Mid-sized companies like MindTree, Hexaware, Cyient, Genpact and Mphasis all turned in sub-par performances. The reason for the poor performance by the entire sector was not limited to just one quarter. After a phenomenal run for a decade and a half, Indian IT, having plucked the low hanging fruits, is struggling for its next phase of growth. Just look at the numbers. According to industry lobby group Nasscom (National Association of Software and Services Companies) estimates in FY 2000, the overall India IT industry (including hardware, software and services including e-commerce) was around $8.2 billion. In FY 2016, it had grown to $160 billion, indicating a CAGR of nearly 22 per cent. On the export front, in FY 2000, Indian IT exported $5 billion of software services. In FY 2016, it recorded exports of $108 billion. However, Indian IT industry has been witnessing slow growth over the last couple of years. This year, Nasscom expects exports to grow at a tepid 10-12 per cent, the lowest in more than a decade. Even during the global economic meltdown in 2008-09, Indian IT exports grew by 16 per cent. Also, the domestic market, driven by a booming e-commerce sector, is expected to grow faster at 11-13% in FY 2017. This is quite a reversal of fortunes for an export-focussed industry. To be sure, the growth in exports is coming on a much larger base, but undoubtedly, the pace of growth has started to slow down and the worry is whether it will decline to a single digit rate next year. This has serious implications as the IT sector cumulatively contributes about 9.3 per cent to India's GDP and directly employs 3.7 million white collar workers. Industry estimates indicate that three times that number of people maybe indirectly employed by the sector and are, thus, dependent on its fortunes. Clearly, Indian IT BPM (Business Process Management) and software services companies are facing headwinds. So what actually ails the sector Low hanging easy fruits have been plucked Indian IT came under the global spotlight due to the Y2K scare in the late 1990s. While this may sound pretty archaic now, the Y2K scare related to a defect in the code written in the early days of the technology revolution, where just the last two numbers were recognised for calculations. There was a scare that when 2000 came, it would just take into account 00 and then all kinds of mishaps might happen. For Indian IT sector, which was still at a nascent stage, this was a godsent opportunity as the work in rectifying it was tedious, repetitive and had to be done at very low cost. Indian IT companies used this foothold they got into the global technology marketplace and started offering services beyond just Y2K code defect removal. Since there was a 12 hour time difference between India and key western markets of US and Europe it wanted to serve, Indian companies came up with what they called 'Follow the Sun' model. This meant that when IT employees in western markets ended their day, their Indian counterparts could pick up some of their work and carry on, thus, shortening the time to market. Given the low wages and availability of an abundant engineering talent pool, this model was an instant hit. Indian IT companies touted this as its 'Global Delivery Model'. But critics dubbed it as 'Lift and Shift.' Slowly, they moved beyond basic testing and support services, to provide others like package implementation and application management as well as delivery. Earlier, a retail chain in the US or a trading house in UK when rolling out , say a Oracle or a SAP HR package, would take years. Indian IT, with its low cost workers, moved the bulk of the work back home to India and implemented it remotely. Only a small proportion of the work was done onsite. The telecom revolution in the early 2000s made this possible. This was beneficial to the client and profitable for the Indian IT company, too. Felicity with English language meant that call centres or BPOs sprung up. While the voice part of the business might have moved away, Indian companies moved up the value chain to processing higher value tasks like mortgage applications. The Indian IT sector saw explosive growth. Some of the larger players like TCS, Infosys, Wipro, Cognizant and HCL Tech became global behemoths challenging the might of existing players like IBM, Accenture and Cap Gemini.

The go-go years All this led to 15 years of rip-roaring growth as the industry kept growing in high teens. Equally important was the high margins enjoyed by these players. Most Indian players enjoyed double the net margins of US, Europe and other players who had their delivery locations in high cost countries. For Indian players, a combination of low wages, a favourable currency exchange tailwind and upselling and cross-selling of services meant that for a long period of time, they could do no wrong. They were the darlings of both shareholders and most stakeholders. To offset the advantage of Indian IT companies, most IT services multinationals that were mainly headquartered in the US and UK set up their own bases in India. It is the worst kept secret that IBM has the highest percentage of its global workforce in India. Accenture, which had 300 people in 2000, today employs 140,000 in India. The trip wire So what tripped up the Indian IT bandwagon The primary reason was Indian IT players have plucked all the easy, low hanging fruit in the global IT outsourcing game. However, more importantly, the tectonic shifts in the technology landscape are fundamentally reshaping the marketplace and Indian IT is scrambling to adapt. SMACed in the face The biggest change over the last couple of years has been the move to the cloud and automation aided by Artificial Intelligence (AI). This has meant that instead of having hundreds of employees do routine and mundane maintenance work, things could be automated. This meant either completely eliminating or reduction in the number of people required to run and write applications as well as maintain infrastructure.

Indian IT companies should have led the way in automation but given their addiction to high margins and availability of cheap labour, they were slow to adapt. They were also tardy in reinventing themselves. Only in the recent past have large Indian IT players launched their own AI platforms. While TCS calls its platform 'Ignio', Infosys calls its AI platform as 'Mana' and Wipro touts the prowess of 'Holmes', its competing offering. Wipro, for instance, pointed out how by deploying Holmes, around 3,000 engineers became redundant though it was careful to say that they were being deployed elsewhere. The shift to cloud also meant that instead of months to deploy or roll out an enterprise-wide application involving thousands of man-hours (and proportionate billing) or getting paid for remote infrastructure maintenance, customers are moving to newer models. Also,the availability of 'infrastructure on tap' with emergence of players like AWS, Microsoft's own Azure platform as well as more robust Software-as-a-Service models, have upended the traditional IT models. Shrinking pie The size of contracts have also shrunk. The billion-dollar outsourcing contracts are becoming rarer and smaller sized contracts with greater complexity and multiple vendors are in vogue. While every IT service company is touting that it is getting a greater percentage of its revenue from 'Digital' to emphasise its shift to newer models, there is little agreement on what constitutes digital. Broadly the tools and platforms involving Social, Mobile, Analytics and Cloud, or the so-called SMAC stack used to simplify customer experience, deliver insights and add value using big data, has been an Achilles' heel for Indian IT vendors. Order takers to order makers In the past, Indian IT service companies have excelled in taking orders from customers and executing them to a cost. However, in a slow growth world, customers want partners who will help them not just trim costs but also grow business. This has meant that those IT services vendors that have a deep understanding of a customer's industry (vertical expertise is the jargon used) wins over a mere cost-trimmer. That is why a player like Accenture, which has a consulting legacy, this year, is likely to grow at a faster pace than Infosys, which has a mere third of its revenue base. Unlike most MNC that have C-Suite, CXO relationships, Indian companies have had conversations with mostly information managers, IT departments and at best CTOs. Business are looking for partners that can help them grow and Indian IT players are struggling to adapt to this new reality. Decoupling revenue from employment For years, Indian IT has paid lip-service to decoupling revenue growth and employee numbers. However, this may be finally happening because of the shift in the business model. Most of the large players are seeing only marginal growth in employee numbers net of attrition and in the case of some, there is actually a decline in employment numbers. Nasscom admitted that this year, only 200,000 people are likely to be added to the industry. This is 20 per cent lower compared to the number of people hired by the industry the previous year and a stark contrast to the situation even five years ago, when the industry would joke about 'recruiting trespassers'. However the greater challenge is to reskill millions of employees of the sector in fast-changing technologies. There might be a significant portion of the workforce, which might not be able to adapt to these newer technologies. Companies will have to find a way to handle this challenge. Also, enhanced global political sensitivities have meant that there is greater cry of economic protectionism. Indian IT's model of offshoring (which has mainly meant shifting work to India) might face further issues. While they are diversifying their delivery base, it might impact margins and hence their valuations. The road ahead Clearly, the days of doubling revenue base every 4-5 years is over. Indian IT services players need to adapt to

changed market conditions. Each company has its own unique set of challenges to surmount. Just as the Philiphines took away a large chunk of voice business in the BPM segment, in IT services too, China, Eastern European countries and Latin America are eyeing a larger share of the nearly $300 billion worth of outsourcing contracts. Before somebody else eats its meal, Indian IT will has to restructure itself to become nimbler, help customers grow business and not merely cut costs, deliver better value and reskill its workforce, if it wants to continue its growth path. Meanwhile, Indian companies must also reduce their dependence on the US market, which accounts for 60 per cent of the sector′s revenues. There′s little chance of improving its penetration in Europe. That leaves South America, Africa and Asia. The first option doesn′t seem very rosy as the continent is experiencing a severe downturn, especially in Brazil and Argentina. Africa doesn′t have too many large companies that can support the hundred-and-fifty-billion-dollar-plus sector. That leaves Asia. China could be the next frontier, but industry analysts said the simmering tensions between Beijing and New Delhi could come in the way of a dramatic increase in IT exports to that country from India. The unpalatable truth is that the slow growth being witnessed by the sector in the last couple of years might be a precursor to larger problems it will face.