IT Update
US financial crisis and its impact on Indian IT firms
Background
Sensex 13,102
First we talked about US slowdown then US slipping in recession and then we
BSE-IT 3,235 were taken aback by financial hurricane. We witnessed the fall of US financial
giants like Bear Stearns, Fannie Mae & Freddie Mac, Lehman Brothers, Merrill
Lynch, AIG and Washington Mutual. Still, we are clueless what has been stored
in the future and who is going to be the next victim of this notorious sub-prime
mess. As US President Bush says that US financial stability is under threat. The
optimists envisage that the current crisis will be over in two three quarters from
now. But you never know like we did not know what had been cooking in last six
months just to wake up one fine morning to learn US financial giants that ruled
the world economy for decades, are desperately seeking funds to salvage them
but hardly there is any taker. Moreover, several banks worldwide are eschewing
to lend them. Some recent developments in US economy further aggravate the
situation. For instance, orders for costly US manufactured goods plunged in
Nifty 3,985
August, new-home sales hit a 17-year low, while new claims for jobless benefits
shot up last week. Top US industrial conglomerate General Electric Co, widely
seen as a bellwether of the US economy, issued a profit warning, citing
"unprecedented weakness and volatility" in the financial services market.
German Finance Minister Peer Steinbrueck says such crisis would lead up to
less dominant role for the United States in the global financial system as it will
lose its superpower status in the world financial system making world financial
system more multi-polar.
The impact on Indian IT companies
We don’t gainsay that troubles in the US will not impact Indian IT titans. There
are people who think it will create opportunities for them whereas there are
people who deride such views. In its recent report, research firm, Gartner
expected higher opportunities for Indian IT companies and for off shoring. But
Mr. John McCarthy of US research firm Forrester believes otherwise. He
ridicules that US slowdown is good for IT firms because cost-cutting will lead to
higher off shoring. He says this is no longer a recession, rather a re-structuring
of financial services that is taking place. We are of the opinion that it will impact
IT firms particularly Indians players in following manner:
M&A and the conversion of large investment banks into commercial
banks will result in fewer employees, fewer vendors and less
extravagant IT budgets.
Financial services, the most aggressive buyers of technology would cut
Deepak Tiwari down on their IT spend and the growth will go back to 25% and stay
Research Analyst that way for some time.
deepakt@[Link]
Margins of Indian IT firms will continue to drift down to 15% and there
T: + 91 22 4063 3032 will be real pressure on the top line.
Indian IT providers are unlikely to repeat their historical growth in profit
margin rates and will eventually move closer to that of their global
peers.
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Opportunities and challenges
The only consolation for IT companies is that the recent Forrester’s report had found 40% of large businesses had slashed
IT budgets, but a subset, 90% of enterprises in media, entertainment and leisure, were not cutting back on IT spends. But
needless to say these sectors cannot match the IT spends of financial services.
Who will be hit the most?
We have analyzed which IT firms will be hit the most due to this perilous situation. Most of the IT companies are reporting
slowdown in quarterly revenues across the industry. A significant part of their revenues come from America which is facing
worst financial crisis since Great depression in 1930. This is followed by Europe region which is witnessing early sign of
slowdown. Many IT firms have been trying to diversify in order to de-risk and zeroing on new and emerging regions like
Middle East, Asia Pacific and India. Further, they are also trying to diversify their verticals. Given the fact that a significant
part of revenues flow from BFSI segment which is plagued with uncertainties, their top line as well margins will take a huge
hit. As of now, it is difficult to estimate the impact because of various factors such as economic slowdown, rupee volatility,
inflation and liquidity crunch. But it is certain that profitability of IT companies will be impacted. It also depends on what
strategies they are going to adapt and how they are going to cope up with bad phase. Moreover, we believe this situation will
remain until first quarter of 2010.
America contributes a significant part of IT firms’ revenues
70%
62% 60%
60% 57%
55%
50% 44%
40% America
29% 28% 24% Europe
29%
30% 24%
21% India
20% 9% 16% Others
14%
7% 9% 8%
10%
1% 3%
0%
0%
TCS Infosys Wipro Satyam HCL Tech
Close to 59% of EBIDTA of both TCS and Infosys is contributed by America region followed 30% by European countries.
TCS and Infosys will take a big hit as BFSI segment faltering
TCS Infosys
80% 40% 36%
58%
60% 30% 22%
40% 20% 15% 16%
21% 12%
20% 12% 9% 10%
0%
0% 0%
BFSI Mfg Retail Telecom Others BFSI Mfg Retail Telecom Others
BFSI segment contributes 35% in EBIDTA of Infosys. TCS does not report vertical wise results.
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Wipro and HCL Tech has lesser exposure to BFSI segment
Wipro HCL Tech
60% 48% 40%
31%
27%
30%
40%
25% 20% 16% 17%
20% 9% 10% 9%
8% 10%
0% 0%
BFSI Mfg Retail Telecom Others BFSI Mfg Retail Telecom Others
Note: Satyam does not report vertical wise results. The other segment in case of Wipro includes Product Engineering 24%, Energy Utilities
10% and TMTS 11%.
Revenues from offshore business
52.0% 50.2%
50.0% 49.1%
48.0%
45.6%
46.0%
44.0%
41.9%
42.0%
40.0%
38.0%
36.0%
TCS Infosys Wipro HCL Tech
The margin from offshore business is always higher than that from onsite business. US financial turbulence is likely to affect this margin as
well which will impact Infosys and HCL Tech more than their peers.
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