Leading Indian software firms have reported a decline in operating profit margins in their current reporting quarter (April-June, 2015), compared to the previous sequential one, though over the last three years they have maintained stable operating margins. This is the result of both temporary developments as well as more fundamental ones. Information technology (IT) spending is projected to be down in the current year by 4.3 per cent, compared to the previous year, largely because of the global economic slowdown. However, spending is likely to recover over the next few years. When client budgets are tight and vendors are on a fairly consistent effort to increase market share, pricing discounts are likely to be offered. In keeping with this line of reasoning, TCS, the leading Indian player, does not see any serious issue over pricing in the current year. But there is a deeper issue at play. IT technology is going through a sea change with the compulsion for businesses across size and geography to go "digital". A part of this involves shifting a lot of systems and support to the "cloud", that is servers other than a firm's own. This involves using applications hosted on the cloud servers. For IT services companies which have traditionally earned their bread and butter by maintaining clients' own IT infrastructure, there is an urgent need to learn a range of new tricks to remain in business over the longer term.
This new scenario implies shifting from traditional service offerings which have relied on price arbitrage (Indian engineers are willing to work for less than their developed country counterparts) to helping companies address their technology needs while going digital. That implies being abreast of a range of technologies spanning social, mobile, automation, cloud and the internet of things (digitally connecting the appliances and systems that are a part of daily lives). Indian software vendors are on a planned acquisition mode to enable them to access newer technologies which are important for offering IT services in the digital era. Their future will depend on their ability to absorb the newly acquired technology and using it as a springboard to develop their own proprietary technology to remain abreast of the digital age.
This underlines the need for software vendors to spend more on their R&D efforts than they have done so far. As these firms are no longer small by any standards, and earn margins which compare favourably with the global incumbents, it is imperative for them to spend more. Offering price discounts can be only a very temporary strategy, as opposed to a steady and committed agenda to develop newer technologies which alone can enable firms to remain in the reckoning. Indian IT companies must recognise that their industry is no longer a people play, but it has moved far beyond to make technology and digital platforms far more central to their future growth. Investors in Indian IT leaders must support this agenda and should not be willing to settle for less.
