The Hindu Business Line : Software sector — Beyond near-term concerns

EARLY this week, senior officials of IBM, speaking to The New York Times, reiterated the need to speed efforts to move white-collar jobs overseas, to India and elsewhere.

Such statements made in recent times by multinational (MNC) vendors have enhanced the focus on the changing shape of the software services industry worldwide. As Mr Paul Saffo, Director of The Institute for the Future, alluded in an interview to Data Quest in January, there is the possibility of a "jobless recovery" in Silicon Valley, even when the US economy recovers. That seems to be panning out slowly and steadily for the global majors.

The Indian software majors' near term focus has been on the vicious cycle of poor visibility on IT spends, pricing pressures, rupee appreciation and the prospect of an IT outsourcing backlash.

But for the software industry, the medium-term challenges may be as important as the near-term worries. The volumes versus margin game is poised to undergo further refinement, if the medium-term challenges are anything to go by. They are :

Global MNC vendor squeeze

Over the past quarter, most frontline software companies, such as Infosys, Wipro and the US-listed Cognizant Technology Solutions, have brushed aside the near term threat from global MNC vendors such as Accenture or IBM Global Services.

It is true that the aggressive ramp-ups which were claimed by these vendors have not happened at the envisaged pace. But in the medium term — say, over the next two to three years — a combination of MNC vendors, sharp ramp-up of MNC back-ends in India by players such as Oracle, Sun, SAP or Microsoft, and competition in mega outsourcing deals by intermediaries such as Technology Partners International, neoIT and others may pose a serious challenge to Indian players.

Sooner or later, it is these vendors who will dictate the direction of project flows and the cap on billing rates. For the global MNC vendors, India as an offshoring destination for its clients will soon become a compelling proposition. Obviously, competitive economics and the benefits of outsourcing will drive them to a point where an aggressive ramp-up will become inevitable.

If this strategy of building up back-ends does not reap immediate rewards , they may contemplate acquisitions of Indian frontline or second rung players to acquire "scale and size" in the Indian software marketplace.

Supply side pressures

The frontline software companies have been on a recruitment spree (including honouring some of its earlier employment commitments) in the last 15 months. For instance, over the past 15 months, Infosys has added 6357 employees to take the total employee headcount to 17,095.

Similarly, over this period, Wipro has added 4,743 employees to increase its total strength to 14,618 employees.

In the latest conference call, the Wipro Vice-Chairman, Mr Vivek Paul, hinted at creeping signs of supply side pressures. The industry, especially frontline companies, will face pressure on two fronts:

One, the paucity and quality of software professionals available for recruitment and growing clamour for salary increments considering the muted increases in the last two years.

A Nasscom study of the projected manpower needs in 2002 shows that the Indian IT services industry may be headed for a shortfall of 2.35 lakh people by 2008, based on the current recruitment trends.

If this is what is anticipated for the industry, the pressure on the availability of quality software professionals for frontline companies will be much greater in the coming years.

Two, expense optimisation, which has been on the top of the agenda for frontline software companies, may come under greater strain in the next couple of years. While companies have increased the spending on sales and marketing expenses, they have maintained a tight leash on salaries in the last two years.

Almost all companies have switched to variable compensation levels and rationalised the entry-level salaries downwards. If the US economy shows signs of recovery later this year, the companies which have been tightrope walking on salaries may be forced to loosen their purse strings. .

Move to low cost geographies

The prospect of rise in salary levels and availability of software professionals may force the Indian software industry (starting with the frontline companies) to explore the possibility of moving work from India to other lower-cost destinations.

The eroding margins — the cause for long term worry for Indian players may also drive companies in this direction. Tata Consultancy Services and Satyam Computers have already set up software development centres in China.

Though these have been set up to cater to the promising Chinese market and service the Japanese markets, it is likely that these could be the first signs of China emerging as a low cost destination.

As the arbitrage on wage differential starts shrinking for Indian players, other countries, such as those in South-East Asia, Mexico, Brazil, Hungary or Russia may also emerge on the radar of Indian companies.

Despite facing several risks, such as political stability, cultural differences and linguistic problems in these countries, Indian companies will be forced to evaluate setting up of centres in these locations before the US and European clients move projects there in the medium term.

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