IT & ITES Sector Report 2017

Investment Fund report on IT/ITES Industry

Flow of Analysis
• Brief History and Evolution
• Current Industry Structure
• Major Players in the IT Industry
• Industry Analysis:- Porter’s Forces
• Key Growth Drivers
• Impact of External Factors on Industry on Demand Environment
• Key Industrial and Technological Trends
Forces)
 Brief History and Evolution

The Indian IT industry has moved up the value chain over the past three decades. During this period it
has transitioned into becoming a global player.

Phase I (1985-1995)
The IT industry was at the nascent stage. This phase comprised several start-ups that offered application
development and maintenance services to some Fortune 100 companies. Their peak contract size was less
than $5 million. The industry's services were mainly in the form of sending technical manpower onsite.

Phase II (1995-2000)
This phase was characterized by the industry growing rapidly, with the industry size increasing to just under
$1 billion. Companies offered services in the areas of e-business, enterprise resource planning and
Y2K to several Fortune 500 companies. The top five domestic companies augmented their share, and
simultaneously small- and medium-sized enterprises also reported high growth rates. Peak contract size
reached $5 million dollars.

Phase III (2001 onwards):

The clientele of Indian companies today constitutes the world's top 2,000 corporations. Indian companies
have increased their presence across service lines such as systems integration, network management,
packaged software implementation as well in areas of products and technological services.

Current Industry Structure

Classification:
India’s IT industry can be divided into six main components - IT services, Software Products, Engineering
and R&D services, ITES/BPO (IT-enabled services/Business Process Outsourcing), Hardware, and
ecommerce. Export revenues continue to drive growth with IT Services.
The global sourcing market in India continues to grow at a higher pace compared to the IT-BPM industry.
The global IT & ITeS market (excluding hardware) reached US$ 1.2 trillion in 2016-17, while the global
sourcing market increased by 1.7 times to reach US$ 173-178 billion. India remained the world’s top
sourcing destination in 2016-17 with a share of 55 per cent. Indian IT & ITeS companies have set up over
1,000 global delivery centers in over 200 cities around the world.
Domestic Revenue Break Up FYE 2017
Domestic IT-ITES revenue is estimated to reach INR 1608 billion in FY2016-17, as compared to INR
1408 billion in FY2015-16, a y-o-y growth of ~8.5%. Though the IT-ITES sector is largely export
driven, the size of the domestic market is also significant. In FY 2017, India’s domestic IT-BPM market
is likely to grow 8.5% Y-o-Y to reach US $ 38 billion (~Rs.253500 crore) compared to US $22 billion in
2015-16. Rapid digitization is expected to further catalyse growth.
• Domestic IT Services sector is the largest segment with close to 40.5% share, expected to
reach Rs. 100500 crores in year 2016-17 as compared to Rs. 89562 crores in year 2015-16
with a estimated growth of about 12.21 % in INR terms.
• Domestic ITES revenue is estimated to reach ~Rs. 26800 crore in year 2016-17 from Rs.
23364 crore in year 2015-16, a growth of 14.71 % in INR terms.
• Domestic Engineering R&D and Product Development, which is estimated to reach Rs.
33500 crore in year 2016-17 from the level of Rs. 27907 crore in year 2015-16 with a YoY
growth of 20.04 % in INR terms.

Year/ Segment 2012- 13 2013- 14 2014- 15 2015- 16

IT Service 66300 72721.6 81662 89562

ITeS-BPO 17500 19593.8 21490 23364

Software Products,
20500 22468.8 25788 27907
Engineering Services

Total IT-ITeS 104700 114784.2 128940 140833

Export Revenue Break Up FYE 2017
IT-ITES exports is estimated as US $ 117.0 billion in FY2016-17, growing by 8.5% over FY 2015-16. A
combination of solutions around disruptive technologies such as SMAC (Social media, mobility,
analytics and cloud), artificial intelligence, embedded systems etc. have become the life-force of the
industry.
IT Services is the fastest growing segment within the Indian IT-ITES sector. This segment is
estimated to generate exports revenues of the order of US$ 66.0 billion in year 2016-17 as compared
to US$ 61.0 billion in year 2015-16. ITES/BPO segment has been reinventing itself in the past few
years and is expected to generate export revenue of the order of ~US $ 26.0 billion in year 2016-17
as compared to US $ 24.4 billion in year 2015-16. Engineering R&D and Product Development has
registered a growth of about 11.6 % in the exports, which is estimated to reach US$ 25.0 billion in
year 2016-17 from the level of US$ 22.4 billion in year 2015-16.

Year/ Segment 2012- 13 2013- 14 2014-15 201

IT Service 42.9 49.2 55.3 61.

ITeS-BPO 18.3 20.4 22.5 24.

Software Products,
15.3 17.7 20.0 22.
Engineering Services, R&D

Total IT-ITeS 76.5 87.3 97.8 107

Major Players in the Indian IT Industry

Key Financials (FY 2017)

Revenue EBITDA Adjusted PAT

Market
Company Revenue in INR Profit Cap in
in INR Crores in INR Crores
Growth Crores Growth INR
crores
TCS 117,966 8.58% 36,532 26,357 8.85% 506,664
Infosys 68,484 9.68% 21,684 14,383 6.60% 238,738
Wipro 55,448 7.39% 13,687 8,518 -5.44% 146,779
HCL Tech 47,568 52.77% 11,458 8,604 53.51% 123,468
Mahindra 29,140 9.99% 4,961 2,853 8.57% 48,198

Stock Price Movements (6 months)

 Industry Analysis

Porter’s Forces:

Existing competition
The IT Industry landscape is characterized by intense completion for conventional IT services: Application
Development & Maintenance, IT Infrastructure Management Services, Network Management Services, Data-
center Services etc. leading therefore to commoditization. There are several firms in the market offering
similar services and it is difficult to differentiate based on these service offerings. The existing competition
comes from both domestic players (Infosys, TCS, Wipro, HCL technologies, Tech Mahindra, Mindtree and so
forth) and international ones (IBM, Accenture, Capgemini, Cognizant and so forth).

It is in the context of non-conventional services, i.e. the ones focused (Digitization et al) on emerging
technologies and trends such as Analytics, Cloud computing, Social Media, Enterprise Mobility, Internet of
Things etc. where the opportunity for differentiation through niche-specialization occurs. Another argument
might be for industry-vertical specialization but the major buyers (in terms of Industries) for instance Banking
& Financial Services (BFSI), Manufacturing, Energy & Utilities etc. are well catered to and it would be easier to
think of IT companies as portfolios of verticals (across clients) especially when considering growth potential
(with the growth in an industry benefiting the IT service provider that draws most revenues from the industry
in question). Vertical specialization therefore will only be beneficial for industries going through rapid change
(Telecom for instance) or through rapid growth caused by external
factors like government regulation. The healthcare industry is a major example and thing bode well for it
both in developing markets (due to non-linear permeation to affect broader access) as well as
developed ones (based on the ageing demographics).

Bargaining power of customers:

For conventional IT services, bargaining power of the buyer is large and the possibility of pressure on
rates exists. The buyer, having worked with both with international IT providers as well as Indian ones is
largely the price setter and has negated (to a large extent) the offshore advantages through mature
procurement and global delivery. The international IT firms too have negated the advantage enjoyed by
Indian IT companies through captive centres in India and globally. In this industry, in case of
conventional IT services, the buyer is king!

In case of non-conventional services, i.e. those that cater to emergent technologies and technology
trends (in Data Analytics or Enterprise Mobility for instance) there is potential for differentiation and
higher margins. Also this is the case for non-conventional, partnership-style engagements where both
risk and rewards are higher.

Bargaining Power of Suppliers:

The bargaining power for suppliers is very low and since high-standardization exists, there is little scope
of suppliers having any clout. The suppliers consist of IT Infrastructure providers (Servers, computers
etc.), Recruitment firms, Office Space Suppliers etc.

Threat of New Entrants:

In context of the highly commoditized IT services, there is little threat of new entrants. That said, the
Industry is also characterized by high people dependence and therefore can see veterans detach from
existing companies to invest in new ventures. An example of this is Happiest Minds, which was started
by a co-founder of an existing IT provider.

The newer technologies allow the possibility of new niche players that are not dependent on size or
experience constraints.

Availability of Substitutes:
There are no substantial substitutes to IT services apart from Internal IT departments, which have lost
clout over the years and are ever thinner in numbers and significance. One argument for internal IT is
retaining control over pertinent aspects of business but the argument against would be since the main
business of the company is not IT services, it should outsource as much as possible and focus on future
growth in core areas. Over time there has been a steady decrease in in-house IT development and
maintenance with more and more being outsourced and the internal IT staff has settled into a
supervisory (program management) role.
 Key Growth Drivers

Notes: STPI stands for Software Technology Park of India, SEZ stands for Special Economic Zone, ICT - Information and communications
technology, IT-BPM – Information Technology Business Process Management

Impact of External Factors on Industry on Demand Environment

Given the high proportion of exports in the Indian IT industry, the industry is susceptible to effects
of numerous global influences.

Impact of Strengthening Rupee and Weakening Dollar

A stronger rupee adversely impacts the IT industry as it is predominantly export oriented.
US Visa Fee Hike:
The big Indian IT companies have 50-70 per cent of their workforce in onsite locations mainly filled by H-
1B visa holders. Nasscom has estimated that the new fee will cost about $400 million a year for the IT
industry. For the $100-billion revenue generating Indian IT industry, the impact on margins may be 30-
40 basis points.

But what is more of a concern is the possible change to the US immigration Bill that many senate
members are demanding. This includes a cut in the number of available by about 14% with preference
to candidates from the US universities and requiring companies applying for H-1B visas to have at least
50 per cent of their US workforce as Americans. If the above restrictions come into play, then it may
have far-reaching impact on Indian IT companies.

Structural changes proposed by Donald Trump, if potentially implemented, could also prove to be a
major blow to the Indian IT industry.

Impact of EU fragmentation (Brexit)

Demand environment has deteriorated since the Brexit referendum. The near-term outlook appears
even worse given commentary by several fortune 500 companies. A poorer revenue outlook typically
implies cuts in IT budgets (Indian IT’s US revenue growth is 82% correlated with S&P500 revenue
growth two quarters prior, adjusted for different vertical mix). According to Nasscom, Brexit presents a
mix of challenges and opportunities for Indian IT firms in the longer term. Some of the near-term
ramifications that Nasscom foresaw on the technology and services sector include — a likely decline in
the value of the British Pound, which could render many existing contracts losing propositions unless
they are renegotiated; Indian IT companies may need to establish separate headquarters/operations
for EU which may lead to some disinvestment from UK.
 Key Industrial and Technological Trends

Technological and Industrial Trends

Enterprises driving the Digital Agenda

• BFSI and Healthcare are the leading investors
• 66% private banks and 20-30% public banks to adopt digital technologies in 2-5 years
• As per Gartner’s 2016 CIO survey 20% of Indian Companies to develop CDO roles
compared to 9% globally
Digital Economy as a growth enabler
• Mobile banking transactions volume increased by 40X in the last 3 years.
• E-Commerce business industry estimated to be ~33$ Bn YoY growth of 19%
• Digital Transactions posted a growth of 50% CAGR(2014-2017)

Progressive Policies
• 100 smart cities by 2020 where the Government is likely to spend ~2 Bn INR per city per
annum
• Vision of the Government to make India a trillion dollar economy by 2022
Growing Internet Economy key to sucess
• 432 Mn Internet subscribers in India , 2nd largest after China
• 300+Mn smartphone users estimated to grow to 800+Mn by 2020
• >6Bn Google Play downloads (2016) India surpassed the US
Worldwide IT(software and services) growth
Cautious tech investments in 2017
• Rhetoric on local first policies
• Exponential Technology change leading to longer decision making processes
• Smaller projects to determine ROI
• Do more with less in traditional services
Growth areas: SaaS applications cloud platforms, BI, cognitive, embedded analytics
India: Fastest growing due to firms modernizing their operations
2018 outlook: Optimistic as enterprise customers scale digital projects

References
• Crisil Reports
• MEITY report (Ministry of Electronics and Information Technology)
• Technology Reports by AMBIT IBEF
• IT Services Sector Reports by Elara Capital Bloomberg
• Moneycontrol
• NASSCOM
• Five Forces Analysis of the Indian IT Industry - Aditya Chaturvedi, Inex Technologies Ltd
(source:linkedin)
• Equitymaster
• Wall Street Journal blog – Joanna Sugden