Indian IT firms: The pecking order in flux amid changing dynamics

It's not every day that co-CEOs both resign at a company still growing at a double-digit clip. But that's what happened at Wipro. The lesson: Indian IT giants can no longer merely ride the offshore outsourcing wave since service delivery has quickly become a commodity. As a result, these companies need to move upstream in a hurry.

Simply put, the pecking order of India IT companies appears to be in flux. Stalwarts like Wipro may give way to the likes of HCL, Tata and Cognizant.

Some of the Indian outsourcing companies will be able to differentiate themselves against rivals both home and abroad. But the move by Accenture, IBM and Hewlett-Packard to increase India operations has shifted the field a bit. Simply put, consulting skills are starting to matter more.

Meanwhile, it's much easier to discern the lagging Indian IT vendors from the leaders. Wipro, increasingly looking like a laggard, went with new leadership. Wipro named TK Kurien as CEO as former co-chiefs Suresh Vaswani and Girish Paranjpe stepped down.

On Wipro's fiscal third quarter earnings conference call Friday, Kurien, a long-time veteran of Wipro and former president of Wipro EcoEnergy, didn't have much to say. "It's only appropriate I do a deep dive into the business and discuss with my colleagues before I articulate the priorities. However, what I promise is that the process will be quick. And more importantly, its implementation will be efficient," he said.

It's not like Wipro is a mess. It just looks mediocre relative to rivals like TCS and HCL. Wipro reported third quarter earnings of $294 million, up 10 percent from a year ago. Revenue for the quarter was $1.75 billion, up 12 percent from a year ago. IT services revenue was $1.34 billion, up 19.3 percent from a year ago.

So what's the problem? Wipro is facing stiff competition from Cognizant, HCL and TCS. HCL last week reported strong quarterly results as did TCS. Both companies were upbeat on their prospects. Toss in results at Infosys and Wipro isn't looking like the superstar growth machine of the offshore outsourcing boom. Indeed, Wipro added 36 clients in its third quarter, but total active clients declined to 880, down from 890 in the second quarter.

Here's the issue: Indian offshore firms are desperately trying to move up the IT food chain. However, big consulting firms are already there. As these Indian players try to layer in consulting, integration as well as their bread-and-butter application development deals, focus is lost. In addition, there's the ever-present turnover that keeps wages headed higher.

It should be noted that Infosys delivered strong third quarter results. The company said IT budgets were normalizing, but Infosys' outlook left a few analysts wanting more. Infosys reported earnings of $397 million, or 69 cents a share, on revenue of $1.58 billion. Infosys CEO Kris Gopalakrishnan said:

When we polled our customers and talked to them about the budgets, the indication is that the budgets are up slightly. So it is a positive environment. They are all saying that the offshore allocations should increase. And if nothing bad happens we believe that next year is going to be a normal year for the IT services industry.

However, Infosys's volume growth in the third quarter was 3.1 percent compared to the second quarter. Analysts were looking for more than double that growth rate.

Short term, the results for Indian IT companies look strong. If Wipro's growth is considered shoddy, you know the Indian outsourcing industry is doing fine. But under the surface, there is a good bit of change. Ankur Rudra, an analyst at Ambit Capital, published a research report arguing that it will difficult for Indian IT firms to keep long-term revenue growth rates above 20 percent through fiscal 2011 and 2016. Here's why:

• Western competitors---IBM, Accenture and HP---are increasingly competitive in India.
• Competitive advantage for these Indian IT companies is changing.
• There's structural wage inflation in India.

Rudra writes:

There is an underlying structural shift in spending away from Application Development (AD) towards system integration and consulting around Enterprise Application Software (EAS eg. BI, CRM, ERP software). This change is likely to emphasize a different set of selling points to those in ADM (primarily consulting skills, domain knowledge and ability to manage complex transformational projects - skills that several Indian IT firms lack).

Rudra's favorites include TCS and HCL, two companies which are navigating the environment fairly well. The trick for these companies is either to move up the IT food chain or only chase deals that can scale.