April is the month when both tech and financial analysts wait eagerly for the results of the Indian IT services companies, especially the Big Five who together constitute nearly two-fifths of Indias software exports. It was no different this year; everyone was waiting with baited breath, especially following apprehensions that Indias sunshine sector for so long might soon witness a temporary eclipse following the dollar depreciation and the resultant slowdown in the US economy.

Now, once the results of all the Big Five are out, it has been proved beyond doubt that the apprehensions about the impact of US slowdown were definitely not misplaced. With the y-o-y quarterly growth and sequential quarterly growth taking a dip, both in terms of revenues and net profits, it is indeed a matter of serious concern for the Big Five as well as the overall IT services industry.

Dipping Fortunes
The dollar depreciation has been happening for the last few quarters now, and the likes of TCS and Infosys have been on record saying that sooner or later it would be impacting both topline and bottomline. The results of Q4 08 (Q3 for HCL Tech) prove that the worst fears have come true; all the five companies showed significant drops in topline growth over the corresponding quarter last year. More worryingly, bottomlines have taken an even more severe beating.

Sample this: compared to growth in net profits in the corresponding quarter last year, this years decline ranged from 300% to 50%. In fact, other than Satyam, none had a double-digit growth in net profits; and even in Satyams case it was a reduction by more than half from the corresponding Q4 07 figure.

It would be incorrect to pin all the blame for the muted quarter on the depreciating dollar against the rupee. For one, this phenomenon was happening for the last few quarters, and, more importantly, in the JFM quarter it was the rupee that depreciated by 1.3% against the dollar. And as analysts take pains in pointing out every increase/decrease of a percentage point in the rupee, it lowers/adds to the operating (EBIDTA) margins by 30-50 basis points (bps).

Rather in an ironic paradox, what impacted the Big Five and other Indian IT services companies was their strategy to increase their hedges significantly over the last few quarters. This led to foreign exchange losses (mark-to-market losses on account of forward covers) as the rupee depreciated against the dollar during the period. TCS, Wipro and HCL Technologies, with forward covers over twice their quarterly revenue, were impacted the most.

Dollar depreciation and slightly indiscriminate hedging might have been somewhat responsible for the muted JFM quarter, but analysts like JP Morgan believes that most of the mark-to-market losses would get amortized over the contract life due to cash-flow accounting. They also expect volumes to lead revenue growth in the longer run, accompanied with stable pricing.

Euro-Indian Pills for US Migraine?
The US slowdown has resulted in two of TCS Top 10 clients delaying some projects in February. Infosys too faced delays in some projects leading to a marginal impact on its topline and bottomline. Some banks, normally the marquee customers of the Big Five too, were holding back projects on account of the sub-prime crisis.

According to the Global IT 2008 market outlook by Forrester, US recession will be the main cause of slower growth in 2008, pulling down IT purchases both in the US and with major trading partners in Europe and the Americas.

While the Big Five and even the tier-2 IT services firms have been following a geographical diversification model for few years now to reduce the dependence on the US, thankfully, in the current scenario, this could prove to be most beneficial. However, prognosis like Forresters predicting slowdown in other geographies too impacted by the US does not bring much cheer to the gloomy scenario. And recent instances like the Chilean government rescinding a large contract with TCS only adds to the confusion.

However, having said that, a more secular spread of clients across the globe rather than betting your bottom shirt on Uncle Sam could still prove to be a saving grace. With TCS UK revenues crossing $1 bn and that from continental Europe crossing $500 mn, it looks like, for the time being at least, the Big Five could sustain a bit of the US slowdown impact from other geographies.

Hoping For the Best
The US slowdown could also lead to a slowdown in manpower recruitment by the Big Five. Analysts too predict a weaker hiring pattern as these companies combat the growing demand weakness and the pressure of a bulging bench. Numbers too support, as except TCS everybody has seen a dip in hiring in the JFM quarter; TCS too has recorded a significant dip in the previous quarter. Lateral hiring too could see a decline as these companies might opt for increasing hiring of freshers.

In the ultimate analysis, one can say that in a globally interconnected economy, when the worlds biggest economy like the US goes through an economic slowdown with a potential for recession, there are bound to be global repercussions from which no country can insulate itself. With its high dependence on the US economy, the Indian IT industry cannot be an exception.

The tougher economic climate for corporations in the US slowdown brings the opportunity for the outsourcing industry to have a defining year. More companies than ever are looking to their outsourcing service providers to deliver variability in costs and lower overall expense. And, just as we saw after the 2001 recession, theres an expectation that the back-end return to growth will be made possible by the outsourcing industry. Hope after all lasts eternal, and the Indian IT industry is no exception.

Rajneesh De
rajneeshd@cybermedia.co.in

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