Slowdown is evident—Cautious on Tier-1 IT. Performance of IT companies confirmed the worst-possible fears—(1) revenue growth for Tier-1 IT companies at an aggregate level has slowed down to single digits, (2) slowdown is manifesting in pricing pressure—pricing declined for 3 of the 4 Tier-1 IT companies, (3) pricing pressure and cost inflation have taken away all the benefits of Rupee depreciation and (4) companies are carrying bench in excess of growth requirements. Expect further deterioration in financial performance and downgrades ahead. We recommend a Cautious stance on Tier-1 IT.
A quarter where it all went wrong 1QFY13 was a perfect storm—yoy revenue growth trajectory slowed down to single digit for Tier- 1 IT, pricing declined, cost structures increased and eliminated all benefits of Rupee depreciation. Companies are carrying a large bench and have given out aggressive campus recruitment offers that may lead to further pressure. We detail out thoughts on some of these areas –
Revenue growth suffering from slower spending in key verticals. Tier-1 IT companies grew 9.6% yoy in 1QFY13. Slowdown owes to a few factors – (1) distress in key spending financial services vertical, (2) loss of market share in telecom vertical to Accenture – it is interesting to note that Accenture is growing faster despite running practice size that is 6-8X of offshore players, (3) slowdown in discretionary spending and (4) collective failure of the industry in expanding addressable market beyond the traditionally strong areas. Particularly disappointing on this front has been the performance of the offshore players (as a pack) in the Western European market. Growth from European markets was a modest 12.3% yoy for Tier-1 IT despite large untapped opportunity.
Pricing decline despite ‘stable’ pricing commentary. Pricing declined for the Big 3 on a constant currency basis despite comments of broadly stable pricing (refer to Exhibit 5). Pricing pressure is worrying and symptomatic of two factors—(1) slowdown in market where growth aspirations of all players are not being met and (2) increased competitive intensity among enhanced list of Tier-1 players in the markets. We would not be surprised if the underperforming companies selectively adopt a tactical approach on pricing to enhance deal flow.
Bench build-up is worrying. Most companies continue to maintain fairly large benches despite an obvious growth slowdown. Aggressive campus recruitment targets and declining attrition rates may increase bench further unless companies adopt a more rational approach to head count addition (refer to Exhibit 8 for utilization rate). Hopes of conversion of a ‘robust’ deal pipeline could perhaps explain people-related decisions. The risk the ‘hope-of-pick-up-in-deal signings’ approach to bench management poses is that it is a test of patience. The risk of increased aggressiveness from a player or two on a deal or two (or more) is real, in such a scenario – this may or may not change the relative growth momentum between players, but can sure have an impact on new deal economics for everyone.
Increase in cost of operations. Infosys and TCS have seen their yoy margins expand just 100- 150 bps and Wipro reported margin decline in 1QFY13 despite 22-23% Re depreciation. TCS has given modest wage hikes, Infosys has given none and Wipro’s wage increase was effective for only part of the quarter. Hyper-competition in the market need not always show up in the most obvious metric, i.e. pricing/realization. It often shows up on the cost side of the equation. Qualitatively, such pressure can show up in the form of aggressive hiring on the front-end, local high-cost hiring and higher-than-normal investments on chasing deals.
Sourced From: Genesis Burson-Maresteller
A quarter where it all went wrong 1QFY13 was a perfect storm—yoy revenue growth trajectory slowed down to single digit for Tier- 1 IT, pricing declined, cost structures increased and eliminated all benefits of Rupee depreciation. Companies are carrying a large bench and have given out aggressive campus recruitment offers that may lead to further pressure. We detail out thoughts on some of these areas –
Revenue growth suffering from slower spending in key verticals. Tier-1 IT companies grew 9.6% yoy in 1QFY13. Slowdown owes to a few factors – (1) distress in key spending financial services vertical, (2) loss of market share in telecom vertical to Accenture – it is interesting to note that Accenture is growing faster despite running practice size that is 6-8X of offshore players, (3) slowdown in discretionary spending and (4) collective failure of the industry in expanding addressable market beyond the traditionally strong areas. Particularly disappointing on this front has been the performance of the offshore players (as a pack) in the Western European market. Growth from European markets was a modest 12.3% yoy for Tier-1 IT despite large untapped opportunity.
Pricing decline despite ‘stable’ pricing commentary. Pricing declined for the Big 3 on a constant currency basis despite comments of broadly stable pricing (refer to Exhibit 5). Pricing pressure is worrying and symptomatic of two factors—(1) slowdown in market where growth aspirations of all players are not being met and (2) increased competitive intensity among enhanced list of Tier-1 players in the markets. We would not be surprised if the underperforming companies selectively adopt a tactical approach on pricing to enhance deal flow.
Bench build-up is worrying. Most companies continue to maintain fairly large benches despite an obvious growth slowdown. Aggressive campus recruitment targets and declining attrition rates may increase bench further unless companies adopt a more rational approach to head count addition (refer to Exhibit 8 for utilization rate). Hopes of conversion of a ‘robust’ deal pipeline could perhaps explain people-related decisions. The risk the ‘hope-of-pick-up-in-deal signings’ approach to bench management poses is that it is a test of patience. The risk of increased aggressiveness from a player or two on a deal or two (or more) is real, in such a scenario – this may or may not change the relative growth momentum between players, but can sure have an impact on new deal economics for everyone.
Increase in cost of operations. Infosys and TCS have seen their yoy margins expand just 100- 150 bps and Wipro reported margin decline in 1QFY13 despite 22-23% Re depreciation. TCS has given modest wage hikes, Infosys has given none and Wipro’s wage increase was effective for only part of the quarter. Hyper-competition in the market need not always show up in the most obvious metric, i.e. pricing/realization. It often shows up on the cost side of the equation. Qualitatively, such pressure can show up in the form of aggressive hiring on the front-end, local high-cost hiring and higher-than-normal investments on chasing deals.
Sourced From: Genesis Burson-Maresteller
