The in­sourc­ing threat for In­dian IT

Mint Asia ST - - Otherviews - MOBIS PHILIPOSE

The

Nifty IT in­dex has un­der­per­formed the mar­ket by 22% so far this year, on the back of un­der­per­for­mance of over 10% in 2016. This is hardly sur­pris­ing; growth rates have fallen to sin­gle-digit lev­els ow­ing to mul­ti­ple head­winds the in­dus­try is fac­ing.

In­dian IT com­pa­nies have a much larger share of rev­enues com­ing from tra­di­tional ser­vices, where de­mand is flag­ging and pric­ing is un­der pres­sure. While de­mand for dig­i­tal ser­vices is ro­bust, multi­na­tional com­pa­nies such as Accenture Plc and rel­a­tively new firms such as EPAM Sys­tems Inc. and Globant SA are cap­tur­ing a dis­pro­por­tion­ate share of this pie. To add to this, In­dian com­pa­nies also have to deal with re­stric­tions on visas and ris­ing on-site wages as a re­sult of the in­creas­ing rhetoric against im­mi­gra­tion.

Another ma­jor threat for In­dian com­pa­nies has been the rise of in­sourc­ing or the in­crease in the num­ber and scale of cap­tive cen­tres be­ing set up by for­mer clients.

An­a­lysts at No­mura Re­search point out in an 11 Septem­ber re­port that global in-house cen­tres (GICS) are the next big worry for In­dian IT com­pa­nies. Cur­rently, these cen­tres ac­count for around 25% of global out­sourc­ing spend, but are grow­ing at a faster pace com­pared to work done by In­dian out­sourc­ing ser­vice providers. “Over the past five years, India GIC rev­enues have shown a 12.4% CAGR (vs 9.3% CAGR for top-4 In­dian IT names) over FY12-17,” No­mura’s an­a­lysts said in the re­port. In the five years be­fore that, In­dian com­pa­nies were grow­ing at a much faster pace com­pared to GICS. CAGR is short for com­pound an­nual growth rate.

Another trou­bling find­ing in the re­port is that the trend of in­creas­ing GICS isn’t just re­stricted to large clients. “An equal par­tic­i­pa­tion in terms of new GIC set-ups is be­ing seen from clients with rev­enues less than $5 bil­lion... GIC adop­tion is in­creas­ing be­yond the most ma­ture out­sourc­ing ver­ti­cals (BFSI, Tech and Mfg) with other ver­ti­cals are also play­ing catch up. For ex­am­ple, 40% of the Retail GICS were es­tab­lished in the past five years,” said the re­port. BFSI is short for bank­ing, fi­nan­cial ser­vices and in­surance.

The trend to­wards in­sourc­ing is be­ing driven by the need to have greater con­trol over the work done, and feed­back from GICS sug­gests they are bet­ter able to adapt to new in­no­va­tions and tech­no­log­i­cal de­vel­op­ments, vis-à-vis han­dling work through an out­sourc­ing part­ner. Be­sides, while em­ployee costs at GICS may be rel­a­tively higher, they get off­set to some ex­tent by the mark-up charged by out­sourc­ing firms to cover their sell­ing costs and to earn a re­turn on their in­vest­ment.

While In­dian firms can try and counter the threat by ei­ther in­creas­ing in­vest­ments in in­no­va­tion or­gan­i­cally or by mak­ing rel­e­vant ac­qui­si­tions, these will en­tail costs and put pres­sure on mar­gins. As such, GICS not only pose a threat to growth, but also to mar­gins.

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