Monthly Archives: January 2011

Emerging Indian IT Industry

Overview of Global IT Industry

Worldwide enterprise IT spending is forecast to reach $2.5 trillion in 2011, a 3.1 percent increase from 2010 spending of $2.4 trillion, according to Gartner, Inc. Over the next five years, enterprise IT spending will represent a period of timid and at times lackluster growth with spending totaling $2.8 trillion in 2014.

Global IT Services Market Size

Worldwide IT services revenue totaled $763 billion in 2009, a 5.3 percent decline from 2008 revenue of $805 billion, according to Gartner, Inc.  The top 5 service providers account for 20% of the market share while the top 20 services vendors for almost 38%.

ITO Services Worldwide

ITO is a method of purchasing IT services for the management of IT infrastructure and business applications. ITO contracts are differentiated from project services in that they are multiyear, performance-based contracts to deliver day-to-day IT operations and management, versus one off discrete efforts.

IT outsourcing (ITO) forecast and forecast assumptions in 3Q09 show that total ITO market spending will be $280.5 billion in 2009, growing at a five-year CAGR of 4.1% to reach $347.3 billion in 2013.

In Gartner’s forecast methodology, outsourcing includes both ITO and business process outsourcing (BPO), which are forecast to grow at 4.1% and 3.7%, respectively by 2012 (five-year CAGR), while discrete services will grow at 2.6% over the coming five years. This trend has been accentuated in the current economic cycle; buyers are less likely to cancel outsourcing contracts (which involve critical day-to-day IT operations and typically carry termination penalties) than to cancel unsigned contracts for project work, often deemed discretionary spending.

Global Top 5 IT Services Vendor

Top 5 IT Service Providers by Revenue (Millions of U.S. Dollars) 

Company 2009 Revenue Market Share (%) 2008 Revenue Market Share (%) Growth (%)
IBM 55,000 7.2 58,892 7.3 -6.6
HP 34,585 4.5 38,584 4.8 -10.4
Fujitsu 23,342 3.1 23,444 2.9 -0.4
Accenture 20,939 2.7 23,732 2.9 -11.8
CSC 16,004 2.1 17,112 2.1 -6.5
Others 613,191 80.4 643,681 80.0 -4.7
Total Market 763,061 100.0 805,445 100.0 -5.3

Source: Gartner

Emerging Competition – Hardware Vendors Creating Services Capabilities

Services businesses have wider profit margins than hardware units and provide more recurring revenue stream. In order to de-risk their business and improve profit margins many hardware companies are adding services capabilities through acquisitions. Even as top Indian Service providers acquire a global profile they will face competition global hardware vendors with acquired services capabilities, in addition to existing global services providers. Some of the major acquisitions in since 2008 are:

Hewlett-Packard Agrees to Acquire Electronic Data

Hewlett-Packard acquired Electronic Data Systems Corp. for $13.2 billion in May 2008 to take on International Business Machines in computer services.

Hewlett-Packard competes against IBM in storage devices, software and servers. IBM, based in Armonk, New York, gets more than half its sales from its services.  Hewlett-Packard’s gets about 15 percent of its revenue from services group with reported sales of $16.6 billion in its latest fiscal year, compared with $22.1 billion for EDS. The purchases will more than double Hewlett-Packard’s annual sales in its services unit to almost $40 billion.

Dell Inc. agreed to buy Perot Systems

Dell Inc. agreed to buy Perot Systems Corp. for $3.9 billion in September 2009 undertaking its biggest purchase to compete with International Business Machines Corp. and Hewlett-Packard Co. in computer services.

Larger services units helped IBM and Hewlett-Packard withstands the recession better than Dell, which saw sales plummeting after the recession. The new services business would have annual sales of about $8 billion.

Dell to Acquire Boomi, Expanding Web-Based Computing

In November 2010, Dell Inc., the world’s third-largest maker of personal computers, agreed to buy software company Boomi to expand its Web-based computing services.

Boomi’s programs help companies manage and integrate cloud computing – which delivers software and stores data via the Internet — with their existing applications and databases.

Dell, based in Round Rock, Texas, is trying to reduce its dependence on PC sales and build its computer-services business through acquisitions.

Intel to set up software business

Intel Corp US has sought permission to start a ‘computer consultancy service’ and ‘software supply service’, according to its application made with the Foreign Investment Promotion Board. Industry experts expect Intel’s approach to be different from the normal software services stuff of application development, business process outsourcing and infrastructure maintenance. Intel already has a software and solutions group that manages various software related initiatives like the chipmaker’s Appup programme which develops and manages applications for mobile phone users.

Overview of Indian Information Technology (IT) Industry

Indian IT Industry Current Market Size

The Indian IT-BPO industry export is estimated to be $50 billion in 2009-10, posting a year on year growth of 5.5%, according to National Association of Software and Services Companies (Nasscom) while in 2008-09, export earnings stood at $47 billion. According to Gartner the domestic IT services market was worth about $9 bn in 2009.  With a share of 5.5 percent in the country’s gross domestic product (GDP), the IT industry contributes around 11 percent to the services sector.

IT Industry Market Projection FY 2011

Nasscom has projected $56-57 billion or 13-15 percent YoY growth in export revenues. As a net hirer, direct employment in the IT-BPO industry will cross 2.3 million, with about 90,000 jobs added this fiscal, projecting a growth of four percent YoY.

India Top 3 IT Services Vendor

India’s Top 3 Service Provider by Revenue (Millions of U.S Dollar)

Company 2010 Revenue Market Share (%) 2009 Revenue Market Share (%) Growth (%)
TCS 6,343 0.81 5,874 0.72 7.9
Infosys 4,804 0.62 4,663 0.57 3.02
Wipro 4,986 0.65 4,535 0.56 9.9
Total 16,133 2.11 15,702 1.81  

Source: Annual Reports & bseindia.com

The top 3 Indian IT service providers combined market share of the total worldwide IT services market is little more than 2% while individual market share is less than 1%. This indicates there exists huge opportunity for Indian IT services provider to increase their market share by investing in building new capabilities and extending the range of services offered to their clients as well as expanding their market geographically. TCS will make its entry in the top 10 IT service providers club by the end of current fiscal.

In the initial years the Indian IT service companies derived a large chunk of their revenue from application development and maintenance services with the US geography contributing almost 80% of the revenue. The Indian companies benefited due to labor arbitrage by Off-shoring work to low cost India.  The presence of large workforce in India provided competitive edge in pricing to Indian companies which enabled them to grow faster.

As the multinational companies increased their workforce in low cost location such as India the competitive edge in terms of pricing of Indian companies gets eroded. The companies that invested in creating new capabilities and diversified their geographical revenue base through expansion into new markets continued to grow. The mid size and small IT service providers have failed to grow due to lack of investments in building new technological competencies and inability to expand into new markets.

Perspective 2020: Transform Business, Transform India

The report, Perspective 2020: Transform Business, Transform India, by industry association Nasscom estimates the Indian IT-BPO industry to touch revenues of $225 billion by 2020, of which exports will account for about $175 billion.  IT exports is expected to grow at a CAGR of 12% from 2010 to 2020. The IT industry in 2010 would also employ about 12 million people directly by 2020, against 2.3 million now.

The domestic IT market, expected to be $50 billion in 2020 includes hardware, software and services. The growth in domestic IT services market will be higher than the growth in IT services export. According to research group Gartner the fast growing Indian domestic IT services market is expected to see a Compounded Annual Growth Rate (CAGR) of 16 per cent by 2014, courtesy increased government spending.

Challenges to the growth of Indian IT Industry

The report, Perspective 2020: Transform Business, Transform India, by industry association Nasscom and McKinsey, points to a few threats to India’s competitiveness, including a shortage of employable talent, inadequate infrastructure development and growing competition from emerging outsourcing destinations such as China and Philippines.

The projection of $225 billion in revenues is based on a few assumptions, McKinsey partner Ranjit Tilankar said. These include some basic academic reforms such as collaboration with industry on curriculum; increase in employability of graduates from the current 10-15 percent, at least a 5.5 percent GDP growth and no impact of protectionism. “Protectionism could put about $50 billion of the projected revenue at risk,” Tilankar said.

The industry also has the potential to generate an additional $150 billion in revenues, provided it takes some measures to transform the business environment, infrastructure, talent development and innovativeness. To achieve higher revenues of $375 billion, India needs to introduce reforms in tertiary education to allow private players to play a role in education and develop itself as a research and development (R&D) and innovation hub, the report said. For instance, India’s R&D spend is about 0.85 percent of GDP currently and needs to go up to at least 2 percent. The country could also become the global innovation hub in areas of energy efficiency and climate change, mobile applications and clinical research outsourcing, the report said.

Here’s the caveat.

  • India is likely to lose 10 per cent of its market share to other locations by 2020 if issues such as talent shortage and poor infrastructure are not addressed, Nasscom pointed out, basing its assumptions on a research conducted by McKinsey & Company.
  • The IT industry in India could face an employee shortage of up to 3.5 million.
    Employability of graduates is low — 10 to 15 per cent of graduates for business services and 26 per cent of engineers for technology services.
  • Lack of a supportive fiscal environment with a long-term policy framework, which may be leading to competition from other low-cost countries such as China, Philippines, and Eastern Europe.
    The research said Indian policies and business environment have not kept pace with industry growth. “The IT industry continues to be governed by laws that are not tailored to the services sector. For instance, the Shops & Establishments Act, and even these are not consistently applied across different states. Confusion exists around continuation of favourable policies.”

About 80 per cent of the incremental revenue growth by 2020 will be driven by opportunities outside of the current core markets, verticals and customer segments, the research stated. New verticals such as public sector, media, utilities, and healthcare which have adopted global sourcing only to a limited extent, are likely to be the next growth drivers. The growth will also be driven from new segments such as small and medium businesses. Similarly, opportunities would emerge around new geographies such as Brazil, Russia, China, Japan, Germany and rest of the world.

  • U.S Regulations

According to Forrester Analyst John McCarthy, the slew of Bills proposed in the US to limit outsourcing will not have much impact on technology firms, not even in the short term. “And for Indian IT service providers, the US government business is a minuscule part of their revenues, less than 1% for most.”

“A sudden change in offshoring/outsourcing pattern is not possible since technology wages have continually risen in the US — the biggest market for Indian technology firms like Infosys and TCS — and the difficulty in getting the large pool of programmers, who do coding for US clients from different global locations,” he explains.

  •  Cloud Computing

Cloud Computing refers to the delivery model in which computing resources such as infrastructure, applications and computing platforms are rented over the internet. The cloud computing transforms the computing purchasing model from capital expenditures to operational expenditure.

According to Forrester Analyst John McCarthy newer technologies like cloud computing will cause a bigger dent in the off-shoring business model than any anti- outsourcing moves — real or rhetorical — coming out of the US.  Given this, Mr McCarthy says top Indian service providers are on track to create domain expertise and capabilities, moving up the chain from vanilla application maintenance and development. “There’s also a move towards sophisticated pricing order — more outcome-based and not linked to just time and material — that is benefiting the outsourcing firms,” he says.

Conclusion & Recommendation

The available growth opportunities for Indian IT industry in the coming decade will materialize provided some measures are initiated by all stakeholders- industry, government & employees.

  • The cost advantage enjoyed by Indian IT Industry is getting diminished due to rising cost of doing business at some of the established centres. The Indian IT industry is also under attack on cost front from other emerging global low cost locations. As such there is need to  develop and promote new cities with requisite infrastructure for  IT industry to prevent cost escalation from endangering the competitive advantage of Indian IT companies.
  • The policies by government should evolve in a way to enable the Indian IT industry sustain its competitiveness in the global market.
  • The Centre government needs to counter the protectionist measures being enacted by some countries notably United States against Indian IT companies. The Indian Government need to lodge strong protest against such measures at every forum.
  •  The employability of Indian graduates is low. Indian Companies have a greater responsibility on this aspect. There is need for academia industry tie-up to train the teachers and students to meet the requirements of the industry. Indian companies also need to work with government to evolve the curriculum of the technical & non-technical courses based on the requirement of Industry.
  • The IT professionals working within the Industry needs to constantly update themselves with emerging trends of IT industry. Accordingly the professionals need to acquire skills and competencies to leverage the emerging opportunities. The most important requirement is to enhance business knowledge as client expects business solution rather than technical solutions from their IT vendor. Another important area for development is  the need to develop soft skills and become culturally aware of different geographies in which the Indian IT industry operates. Then only we will be able to claim that we are world class.

Sources

IT 2020: $225 billion, 30 million urban jobs

Gartner Says Worldwide Enterprise IT Spending to Reach $2.5 Trillion in 2011

Gartner Says Worldwide IT Services Revenue Declined 5.3 Percent in 2009

Dell to Buy Perot for $3.9 Billion to Gain Services (Update3)

Hewlett-Packard Agrees to Acquire Electronic Data (Update3)

Cloud computing may be more harmful to IT cos than anti-offshoring moves

Remote Infrastructure Management to contribute more than a third of IT Services Revenues for India by FY2020

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Recession 2009 – Are we out of Woods?

Saturday, January 23, 2010

Recession 2009 – Are we out of Woods?

The crisis in the financial sector that originated in 2007 had a catastrophic effect on the broader sectors of economy and what followed was worst global recession since Great Depression of 1929. We have correctly mentioned about recession setting in US economy in our article “2008 Challenges for India Based IT Services Companies” in March 2008 issue of Research Update. Sixteen months has passed since then and in this article looks at factors guiding economic revival, risks and opportunities arising out of changing world order.

Engines of US Economic Recovery

The financial crisis has affected all the major economies of the world with western economies in the midst of recession while growth has considerably slowed down in the emerging economies. It is expected that the emerging economies will be the first to revive and lead the global economic recovery but world is looking up for signs of revival in United States, the largest economy in the world representing more than 20% of the world economy.

The engines that have lifted the U.S. economy out of every recession since World War II will be of little help this time around. Inventory rebuilding, household spending, home construction and payroll growth — the forces that powered, to a greater or lesser extent, each recovery since 1945 — may not be of much help in 2009. A glut of unsold properties is keeping housing depressed, while job losses and an uncertain economic environment will discourage consumer spending. Companies may be reluctant to restock and rehire while their profits are squeezed.

Inventory swings played a key role in economic recovery following recession in 1973-75

Inventory swings played a key role in the 16-month recession of 1973-75 and the recovery that followed. Companies slashed stocks in 1974 and 1975 as demand dropped, and then rebuilt them rapidly the following year. That raised 1976 GDP by 1.4 percentage points, the biggest such contribution in 21 years.

Consumer spending and Housing sector powered economy after 1983 recession

Consumer spending and housing powered the economy out of recession in 1983, as pent-up demand sent purchases of cars and homes soaring. The unemployment declined at a rapid pace.

Housing sector contributed to recovery in 1992

In 1992, housing again was a big help. Along with capital spending, residential construction spurred the biggest contribution to growth from investment since 1984.

The economic recovery of 2009, which seems to be gathering pace, will be slow and driven by government spending which is in contrast to past rebounds, where growth was boosted by a robust revival of private-sector demand following the slowdown.

Green Shoots of US Economic Recovery 2009

Green Shoots is a phrase coined by Federal Reserve chairman Ben Bernanke, which he mentioned for the first time in a March 2009 television interview. The Fed president mentioned the term to describe signs of a thaw in frozen credit markets leading to economic revival.

We look at some of the leading economic indicators to determine if there are indeed green shoots of economic revival.

Stability in Financial Sector will restore the credit flow

The special measures that the Fed and other central banks of the world took seem to have yielded desired results in bringing stability to the financial sector. The record corporate bond sales and fall in LIBOR (London Interbank Offered Rate) that banks charge each other for loans suggest that that credit market is slowly reviving.

The fall in LIBOR is significant since it affect the cost of loans in wider economy, for both businesses and individuals. LIBOR (London Interbank Offered Rate) rates, a widely used reference rate for financial instruments across the world has witnessed significant decline. Six month LIBOR is currently at 0.98 compared to 1.16 a month ago and 3.09 a year ago. The low interest rate will improve corporate profitability and drive the investments.

Even the financial sector is becoming stables after months of volatility it will be sometime before permanent stability will be restored. As the governments support the big financial institutions, the small and medium ones are still vulnerable to failures as the consumer delinquency remains high amid declining housing market and rise in unemployment.

But the systemic risk to the financial system has receded as regulatory authorities are in better control of the situation than they were at the time of Lehman Brothers failure and disruption to businesses which followed due to credit seize is unlikely to happen again.

Institute for Supply Management’s index indicates expansion of US Economy

Manufacturing Index

Another leading economic indicator and commonly tracked index suggest that worst is behind past and economy is inching on the path of recovery. It is still uncertain as to how long the economy will take to recover and return to growth rates of the past.

The manufacturing industry was in freefall since September 2008 when the Lehman Brothers bankruptcy occurred leading to credit squeeze. This is reflected in the ISM factory index data for United States in the table below which shows a steep decline in the ISM manufacturing index values beginning September 2008. The ISM factory index dropped to 32.4 in December 2008, the lowest level since June 1980.

Month PMI Month PMI
Jun 2009 44.8 Dec 2008 32.9
May 2009 42.8 Nov 2008 36.6
Apr 2009 40.1 Oct 2008 38.7
Mar 2009 36.3 Sep 2008 43.4
Feb 2009 35.8 Aug 2008 49.3
Jan 2009 35.6 Jul 2008 49.5
Average for 12 months – 40.5
High – 49.5
Low – 32.9

Source: www.ism.ws

The pace of deterioration has slowed down since January 2009 and gradually started inching upwards reflecting improving prospects for manufacturing industry.

The latest month, June 2009 data indicates that the manufacturing contracted at a slower rate in June as the PMI registered 44.8 percent, which is 2 percentage points higher than the 42.8 percent reported in May. This is the 17th consecutive month of contraction in the manufacturing sector. A reading above 50 percent indicates that the manufacturing economy is generally expanding; below 50 percent indicates that it is generally contracting.

A PMI in excess of 41.2 percent, over a period of time, generally indicates an expansion of the overall economy. Therefore, the PMI indicates growth for the second consecutive month in the overall economy. Even the average index value of 42.5 for the three months in second quarter indicates that economy is on the rebound. Based on the data above we can infer that the April 2009 might be the last month of recession.

According to Norbert J. Ore, chair of the Institute for Supply Management™ Manufacturing Business Survey Committee, “The past relationship between the PMI and the overall economy indicates that the average PMI for January through June (39.2 percent) corresponds to a 0.6 percent decrease in real gross domestic product (GDP). However, if the PMI for June (44.8 percent) is annualized, it corresponds to a 1.1 percent increase in real GDP annually.

NMI (Non-Manufacturing Index)

Even the ISM non manufacturing index (NMI) for June registered 47 percent, indicating contraction in the non-manufacturing sector at a slower rate compared to May’s reading of 44 percent.

Month NMI Month NMI
Jun 2009 47.0 Dec 2008 40.1
May 2009 44.0 Nov 2008 37.4
Apr 2009 43.7 Oct 2008 44.6
Mar 2009 40.8 Sep 2008 50.0
Feb 2009 41.6 Aug 2008 50.4
Jan 2009 42.9 Jul 2008 49.6
Average for 12 months — 44.3
High — 50.4
Low — 37.4

Source: www.ism.ws

The manufacturing and non manufacturing data available from ISM suggest that the recovery is underway. But the recovery will be slow and gradual and a robust economy with growth rates of pre recession era will take time to materialize. Housing Sector and Consumer spending are the two critical factors likely to determine the pace of economic recovery.

Factors to Determine Future Direction of US Economy

Housing Sector

US housing sector is a significant contributor to the U.S. economy, providing millions of Americans with jobs and generating hundreds of billions of dollars of economic output each year. The housing sector contributes 12% to 14% to the nation total production.

The stabilization of the financial system and lower interest rates, plus initiatives to support the US housing market, is expected to stabilize the housing sector. Economist and sector analyst are already projecting that the sector has reached bottom, signaling early stages of rebound. The stabilization of US housing sector will have a multiplier effect on the economy. A stabilizing housing sector will impart further stability to the financial sector. Since home equity is an additional source of income and any improvement in home prices is likely to contribute to increase in consumer spending which again is another critical factor for further growth of the economy.

Consumer Spending

Consumer spending is a critical determinant of the direction the economy takes as it accounts for more than 70 percent of the economy. Consumer spending has remained weak through out the recession on account of increasing unemployment and declining home prices. In order to have a sustained and robust recovery, consumer spending needs to grow which is an area of concern since the unemployment is expected to continue to climb and touch 10% even as the economy shows early signs of revival.

Unemployment

The US unemployment rate rose to a 26 year high of 9.5% in June 2009, indicating that economic revival may take longer time than anticipated. The cumulative job losses over the last six months have been greater than for any other half year period since World War II. “This is the only recession since the Great Depression to wipe out all jobs growth from the previous business cycle,” Heidi Shierholz, an economist at the labor-oriented Economic Policy Institute in Washington, said in a research note.

The only bright spot is the declining pace of job losses. From November to March — after the collapse of some prominent financial institutions — the labor market lost an average of 670,000 jobs each month while from April to June, the decline slowed to 436,000 a month. The labor market is going to lag the recovery process to a certain degree. The unemployment will remain high in 2010 leading to constrained consumer spending and a slow recovery.

Emerging Nations to lead Global Recovery

The majority view is that the emerging nations are going to lead the global economic recovery as United States economy show slow progress and European economy still in critical state. China alone may be only 6 percent of the world economy but together with India, Brazil and other big emerging nations, they represent about 30 percent of global GDP. With emerging nations in better shape than their western counterparts, they are expected to pull global economy of current crisis.

China’s economy grew by 7.9 percent in the second quarter of 2009 as the fiscal stimulus package offset the contraction in export activity after reporting 6.1% in the first quarter of 2009. As India, Brazil and other emerging economies also report good GDP numbers the global growth is expected to gain momentum in the days to come.

Conclusion

The worst of economic crisis is behind us and there is cautious optimism for the future. Based on analysis of leading economic indicator we can conclude that the worst US recession since the 1930’s is over with economic recovery on its way.

There won’t be swift economic rebound and a gradual recovery will take place as unemployment rises further and consumer spending remains constrained. The companies cost reductions have helped them to show good quarterly earnings but sales growth is yet to catch up. Companies are going to be reluctant to add investment and jobs until they get better sales.

Additionally there might some short term disruptions on way to a robust growth as the economic situations in Europe remains weak and forex market remains volatile.

Emerging nations leading the global recovery signifies shifting of economic power to these nations. These emerging nations are expected to be driver of global growth in the near future.

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