Challenging times ahead for Indian outsourcing

NEW DELHI--India's outsourcing players may still grow at over 10 percent this year, but factors including anti-outsourcing rhetoric in the U.S., the Eurozone crisis, increased competition from global players, pricing pressures and flat IT budgets will make bagging new, large contracts a distant dream.

Some market players appear to be feeling the heat, unveiling plans to lie low and focus their attention on existing clients, rather than on getting new customers.

HCL Technologies, for instance, on Apr. 18 announced its third-quarter 2012 results, with CEO Vineet Nayar noting that the company had stopped "hunting" for new clients from this month.

The statement came as a surprise since it had posted impressive results amid a challenging global environment. Its net profit was up 28.7 percent, while net revenue grew 26 percent over the previous quarter.

Nayar insisted HCL would move from being a "hunter" to a "farmer", grabbing low-hanging fruits. "We will come back sometime later this year to start hunting again. This way we can avoid the competition and operate in untouched markets," he said in an interview with a local daily.

Ambarish Dasgupta, consulting leader at PwC India, told ZDNet Asia that inking new high-value contracts will indeed be a challenge for the Indian IT services sector.

Market will still see growth, but muted
Indian IT trade body, Nasscom, earlier this year estimated 11 to 14 percent growth for the domestic software services industry. However, the market faces an increasing number of challenges.

First, the United States will hold its presidential election this year and anti-outsourcing rhetoric is bound to be a high focus.

Second, Europe--which is in the thick of a financial crisis--and the U.S. contribute about three-quarter of India's outsourcing revenue.

Third, U.S. economic recovery has been slow. Last month, it clocked only 120,000 new jobs, less than half the average monthly payroll growth over the previous three months.

Costs in India also have been on the rise and the country's IT industry has been facing stiff competition from bigger, multinational rivals such as Accenture, IBM and Capgemini.

"Business confidence this year has been lower, compared to last year," Sundararaman Viswanathan, manager of consulting at global advisory firm, Zinnov Management Consulting, said in a phone interview. "Employee additions have been low due to poor visibility into the revenue pipeline."

Dasgupta said Nasscom's growth projections will come from existing contracts since most of these are long-term.

However, he warned that this growth rate would not be sustainable unless the economic situation improved and Indian players worked on a "strongly differentiated delivery model".

Concurred Zinnov's Viswanathan: "I expect the growth to be lower than the Nasscom numbers. It should be between 10 and 12 percent."

The current financial year should also see some market consolidation over the next three to four years, Pande noted.

Another major market player, Infosys, on Apr. 13 posted its fourth-quarter results, noting that while its net profit increased by 27.4 percent, it would not meet its own revenue estimates for the quarter.

Projecting below-average growth for fiscal 2013, CEO S.D. Shibulal said the company had only 65 percent visibility for the year. "There is lack of client confidence. There is a visibility on client budget, but not spending," he added.

The news disappointed analysts who regarded Infosys as the benchmark for India's software industry. While some said the Infosys guidance was highlighted problems specific to the company, the Indian outsourcing player insisted it reflected the challenging global environment.

In a phone interview with ZDNet Asia, Arup Roy, Gartner's principal research analyst noted that Infosys was "no longer the bellwether" of India's IT industry. The company's earnings for the last three to four quarters had been lower than that of its peers, Roy said, adding that it was also going through a restructuring exercise and charging higher rates for plain-vanilla jobs.

"This may have led to contracts going out of its hands," he added.

According to Sanjiv Pande, director of marketing at Fujitsu Consulting India, the industry would grow at 11 to 14 percent. "In India, when growth drops from 35 to 15 percent, we press the panic button. But, which other industry in the world is growing at such a healthy rate?"

Business models need reworking
According to a report by financial services firm, Motilal Oswal Securities, while the sector grew 40 percent from 2003 to 2007, growth dipped by nearly half to 21 percent from 2007 to 2012.

Motilal attributed the drop to five key factors: increasing revenue base; weak macro-environment over the past few years; comparable offshore base by multinational corporation, where Accenture, for instance, has 151,000 employees in low-cost locations and IBM Global Services has around 130,000, compared to 145,000 for Infosys; increasing attrition rates--which doubled in the last decade--as companies hire in large numbers on a larger base despite lower growth; and increasing commoditization of services such as application development and maintenance.

The Indian IT services industry has been combating these challenges for some time now. Market players have been moving up the value chain by moving into infrastructure services, expanding their BPO (business process outsourcing) and KPO (knowledge process outsourcing) portfolio as well as deepening their domain capabilities. "They want to be verticalized champions," Vishwanathan said.

But the industry now needs to focus on areas such as healthcare, utilities, small and midsize businesses (SMBs) and public services in order to grow. "These are some of the areas that had been identified by Nasscom," PwC's Dasgupta said.

Indian IT services industry is also expanding into regions including East Europe, Japan, Asia-Pacific, Latin America, Middle East and Africa. However, finding alternative destinations is also proving to be a challenge.

Dasgupta explained: "Today, India cannot be termed a cheap destination for outsourcing. India has huge number of talented, English-speaking people, but it is not longer an ideal cost destination."

Given such a scenario, he noted that market players here have no choice but to be more cost-efficient. "They can't afford to increase rates. They will have to work on the same rates," he said.

He reiterated the need for India's outsourcing companies to bring about internal efficiencies and work on a differentiated delivery model. "They need to rework their business model," he added.

Anti-outsourcing rhetoric no long-term impact
In order to appease the U.S. government, Indian outsourcing players have been setting up onsite offices and hiring local talent.

"The anti-outsourcing rhetoric is worrying," Pande said, but noted that in the long-run, such sentiments would have no bearing on the growth of the outsourcing players here. "Outsourcing is an irreversible phenomenon."

Concurred Roy: "Post the presidential elections, if protectionist measures make business sense, they will stay on. Otherwise, globalization would govern business dynamics.

"If I look at the global sourcing pie, we have only just scratched the surface. There is immense room for service providers to penetrate," he added.

Swati Prasad is a freelance IT writer based in India.