DETERMINING BENCHMARK REQUIREMENTS FOR ANALYSING SOFTWARE INDUSTRY TRENDS

DETERMINING BENCHMARK REQUIREMENTS FOR ANALYSING SOFTWARE INDUSTRY TRENDS.

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CERTIFICATE FROM GUIDE

This is to certify that the project entitled “Determining benchmark requirements for analyzing software industry trends� is successfully done by Mr. XYZ during IV semester of his course Master of Management Studies in partial fulfillment of masters degree course in management studies under the University of Mumbai through Prin. L.N Welingkar Institute of Management Development and Research, Matunga. The project done represents the work done by Mr. XYZ

The project in general is done under my guidance.

Date

Mr._________________ ____________________ ____________________ ____________________ ____________________ ____________________ ____________________ ____________________

Page 2 of 67 April 31, 2005

TABLE OF CONTENT Sr. no 1 2 3 4 5.

5.1 6.

7.

7.1 7.2 7.3 7.4 8.

8.1 8.2 8.3 8.4 9.

10 11.

11.1 11.2 11.3 12.

12.1 12.2 13.

14.

15.

16.

INDEX Acknowledgement Summary Sources Of Data Collection Project Introduction Highlights Of The Software Industry Evolution Of The Indian IT Industry The Indian Software Industry Structure Industry Financial Performance Sales And Marketing Spends Export Market Vertical Markets Service Lines Domestic Market Overview Barriers For The Domestic Software Market Dometic Market Segments Domestic Market Verticals Domestic Salary Economics Industry Statistics SWOT Analysis The Challenges Ahead‌ Geographical Opportunities And Threats Scalability Options Products And Services Signs Of Recovery Growth Drivers For Offshore Outsourcing Service Lines Player Strategies And The Payoff Market Potential Conclusion Bibliography

Pg no 4 5 5 5 6 7 9 11 13 14 18 23 29 30 31 34 36 39 49 50 50 51 52 55 56 57 57 59 65 66

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Acknowledgement I would like to take this opportunity to thank Professor XYZ for his valuable help and support in completion of this project. I would like to thank all people who contributed to the smooth functioning of this project.

I express my deep sense of gratitude towards my project guide Professor for his excellent motivation and for his valuable guidance suggestions from time to time, which led to successful completion of this difficult task.

Thank you Professor XYZ !

I appreciate your precious marketing skills & knowledge, your unusual support and your critism as well. Thank you all for your patience and support.

And lastly I am very thankful to those who directly and indirectly helped me in completion of this project.

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2. Summary This project details various important statistics of the software industry, which helped in analysing prevailing strengths and weakness and also determining future requirements. This project provides a comprehensive report on the software industry as a whole and also pinpoints the possible future strengths weakness, opportunities and threats to the industry. It also looks at the software industry form an Indian perspective.

3. Sources of data collection Data collection was based on both the forms i.e.

Primary data collection.

Secondary data collection.

Primary data collection.

This data was collected from the ex employees from the below mentioned companies (Wipro, Ifosys, IBM, HCL,).

Secondary data collection.

This data was collected through company annual reports, company press releases, company publications, notices, journals, third party reports, analyst reports, news paper reports, and company presentations.

4. Project Introduction Title of the project: Determining benchmark requirements for analysing software industry trends Objective of the project: The main purpose of the project was to undertake a market environment research and perform a competitive analysis to determine any short comings of the industry and to avail of any opportunities present. The project scope included the entire Indian software industry with emphasis on particular companies and their various statistics.

It involved sorting and analysing the various company releases newspaper reports and third party analysis reports. It also involved obtaining delicate information from the ex employees, especially regarding the recruitment process and the job termination process. Overview of the Indian software industry Page 5 of 67

Executive summary India has emerged over the last twenty years as a hotbed of software development activity. Some of the fastest growing software companies have operations here. In total, there are more than 5000 IT / services firms located in India, and generating a export turnover of over 16.5 billion $.

The growth of the Indian software industry has been primarily due to the offshore outsourcing of IT requirements, especially software services, by corporations in the US. It is advantageous for corporations in the US and other western countries to outsource their IT requirements to India (and other developing countries), due to: 1. The large availability of highly skilled technical manpower at a low cost.

2. The time difference with respect to the US and other developed markets (which enables companies to offer a 24-hour development cycle) 3. High quality of work.

5. Highlights of the Software Industry 1. In 2003-04, the Indian IT services industry grew by around 21 per cent, as compared with a CAGR of 48 per cent during 1997-98 to 2002-03.

2. Though the growth rate has slowed, in absolute terms the growth has been the second highest since1997-98.

3. Growth was led by higher growth of the top-tier companies and MNCs ramping up their offshore operations.

There has been significant consolidation in the industry due to: 1. The inability of the small and medium -sized companies to sustain growth.

2. Rationalization of IT spending by the clients 3. An increased focus on developing solutions for the clients.

4. Small software companies have grown at a much lower rate as compared with the larger companies.

Given the decline in the growth rates and increased competition, profit margins were under significant pressure. All in all, the Indian software industry has weathered the storm well and has emerged stronger and more focused.

During 1994-95 to 2001-02, the Indian software industry grew at a CAGR of 42 per cent, in dollar terms, and at a CAGR of 51 per cent in rupee terms.

Growth was largely due to an increase in software exports. Software exports grew at a CAGR of 48 per cent in dollar terms, and at a CAGR of 57 per cent in rupee terms during the same period. The domestic software market grew at a CAGR of 40 per cent (in rupee terms) during the same period.For 200203, software exports grew by 26 per cent in rupee terms to reach Rs 461 billion.The growth of the Indian software industry has been primarily due to Page 6 of 67

the offshore outsourcing of IT requirements, especially software services, by corporations in the US. It is advantageous for corporations in the US and other western countries to outsource their IT requirements to India (and other developing countries).

During 1995-96 to 1999-2000, revenue growth was also due to the Year 2000 (Y2K) conversion projects, (outsourced by large foreign corporations to Indian software companies), and ERP implementation services.

The US accounts for a significant portion of Indian software export revenues. (The US accounts for over 71 per cent, while Europe accounts for around 23 per cent of software export revenues.) In the past 2-3 years, large Indian software companies have focused on developing the European and Asia-Pacific markets, in order to diversify and reduce the impact of the slowdown in the US economy (resulting in a decline in IT spending). In addition to programming and implementation, Indian software companies have been attempting to move higher in the software development value chain, by providing project management, system integration, application integration, IT consulting, and other value-added IT services.

Although implementation projects are much larger than consulting projects, companies providing IT consulting are usually in an advantageous position to obtain contracts for the corresponding implementation projects.

Large Indian software companies have been focusing on building their brand, and increasing recognition and awareness in the global markets by listing their companies on American stock exchanges such as NASDAQ and the New York Stock Exchange. In addition, Indian software companies have been increasing their marketing presence in the European and Asia-Pacific countries, and actively participating in global industry events, exhibitions, trade fairs, conferences (especially in the European and Asia-Pacific countries).

5.1 Evolution of the Indian IT industry The IT industry in India has, over the years, moved up the value chain and positioned itself as a global player.

Phase I (1985-95) During this period, the IT industry was in a nascent stage of development and the industry size was almost negligible. The industry comprised of many startups who offered application development and maintenance services to some of the large Fortune 100 companies. The peak contract size was less than $5 million. The export services of the industry were mainly in the form of sending technical manpower onsite. The low-cost service offering was the main value proposition that the Indian industry offered to its customers. Most companies perceived themselves as small exporters to the US. Phase II (1995-00)

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This period saw high growth rate, with the industry size increasing to just under $3 billion. Companies offered services in the areas of e-business, ERP, and Y2K to a large base of Fortune 500 companies. The focus shifted to doing more backend jobs (like coding and testing) offshore. The top five companies increased their share and the small and medium-sized enterprises also witnessed high growth rates. The peak contract size reached $5 million; high quality and improved productivity were the value propositions that the industry offered the customers. The perception of the companies changed from being just small exporters to being software service providers.

Phase III (2001 onwards..)

In the past two years, the industry has reached the $6 billion mark, with the growth coming from the mid-size companies, and the top five companies further expanding their presence. The peak contract value has reached $100 million mark. The clientele of the Indian companies now constitute the top global 2000 corporations. Indian companies have increased their presence in different service lines like systems integration, network management, packaged software implementation as well in the areas of products and technological services. The thrust has been on providing offshore services while onsite services also form a part of the service offering. The industry value to the customers has become security: data protection and process management.

Companies are focused on providing life-cycle solutions with offshore development serving as a competitive edge. Indian players have positioned themselves as high quality, lower cost solution providers and have established their credibility in project management.

Indian companies are expanding their presence in service lines such as IT consulting and IT outsourcing, and moving up the value chain. The top five companies are aiming to join the global league of service providers.. Industry is expecting the offshore delivery model to succeed and the peak contract size to reach the $200 million mark. Companies are aiming to become global corporations and world leaders.

In terms of quality also, Indian companies have moved up the ladder. Earlier, companies focused on work products. The focus then moved to process improvement, and then project orientation took root. Indian companies were quick to align their quality management systems (QMS) with ISO 9000 standards. This ensured consistent and orderly execution of customer engagements and provided a framework for measurable improvement.

The next stage was associated with a focus on software engineering, which was often achieved by aligning the QMS with the CMM framework and undergoing one or more assessments at increasing levels of maturity. This led to a situation where India has far more SEI CMM Level 5 companies than any other country in the world. Quality has become a differentiator -- from low-cost, low quality, it has moved to medium-cost, high quality.

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Quality assessment as on December 31st, 2003

Last year, the IT industry expanded into new service lines such as package software implementation, systems integration, R&D engineering and network management as new horizons for robust growth.

6. The Indian software Industry structure The Indian software industry is fragmented, comprising more than 2,000 players.

The top 20 players account for around 50 per cent of the total revenue and around 60 per cent of the total exports of the software industry. The top three players account for around 21 per cent of the total revenues, and 30 per cent of the total exports in the software industry for the year 2002-03.

Top 20 players by exports for 2003-04 Ranking Company 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17

Tata Consultancy Services Infosys Technologies Ltd Wipro Technologies Satyam Computer Services Ltd HCL Technologies Ltd Patni Computer Systems Ltd Mahindra British Telecom Ltd iFlex Solutions HCL Perot Systems Ltd NIIT Ltd Mascot Systems Ltd Digital Globalsoft Ltd Mastek Ltd Polaris Software Birlasoft Ltd Mphasis BFL Ltd Pentasoft Technologies Ltd

Table Revenues (Rs million) 45,453 35,435 27,874 20,033 15,305 9,140 6,347 5,933 4,490 4,263 4,210 4,153 3,744 3,672 3,464 3,356 2,965 Page 9 of 67

18 19

Hexaware Technologies Ltd Tata Infotech Ltd Infinite Computer Solutions 20 India Pvt Ltd Source: Nasscom

2,579 2,560 2,491

Software industry structure

Although entry barriers in the software services industry are low, in terms of capital investment requirements, the scale of operations is of critical importance to players, in order to 1. Attract large clients 2. Offer a wide range of services and complete IT solutions 3. Recruit and retain employees 4. Establish credibility, in terms of the ability to undertake large IT projects.

The structure of the Indian software industry is likely to undergo a significant change. The players in the Indian software industry are likely to evolve along 4 broad categories, based on scale, nature of operations and ownership.

1. System integrators: The first group would include a select number of major Indian software companies, offering a complete range of services (including IT consulting, IT outsourcing, system integration and business process outsourcing), and presence in all major verticals.

These companies are likely to be characterised by operations (including development and marketing) in all major geographies. These players are likely to compete with the global IT services and system integration majors, such as IBM Global Services, Accenture and KPMG. Over the medium to long term, 1-2 large Indian software companies are expected to be among the global top 10 IT services companies. These companies are likely to achieve global brand recognition and leadership in specific vertical markets/technologies; for instance, Tata Consultancy Services and Infosys Technologies in banking and financial services; and Wipro in telecom.

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2. IT services players: This group is likely to comprise large and medium-sized players focusing on providing outsourced IT services, such as custom development, application maintenance, and infrastructure management. These players will focus on developing domain expertise in 2-3 verticals and achieve excellence in project execution through a low-cost global delivery model. Some of the companies in this group could be sSatyam Computers (manufacturing), HCL Technologies (telecom, financial services and retailing) and Cognizant Technology Solutions (healthcare and financial services). Some of the emerging companies, with experienced promoters and management team, such as MindTree Consulting, vMoksha Technologies and Kshema Technologies, have adopted this strategy.

3. Focused services companies: This group would include companies specialising in one or two specific verticals, such as financial services, healthcare, utilities, telecom and retailing, or specific service lines such as IT training and education, application development and maintenance and network infrastructure management. These companies could focus on developing end-to-end solutions for specific verticals, using a combination of products, services and custom application development. Some of the companies in this group could be Polaris (banking and financial services), Mahindra British Telecom (MBT), and NIIT. Some of the small and emerging companies have adopted this strategy. For instance, Tarang Software Technologies is focussing on wireless solutions and payment systems.

4. Technology and Intellectual Property focused companies: This group would comprise companies that would focus on providing R&D services to global technology companies, and build their own intellectual property in the form of products and services. A large number of companies in this group are likely to focus on the telecom sector. Some of these companies are: Hughes Software Systems and Sasken Communications. Some of the smaller companies are also likely to develop products and services in specific markets. For instance, Talisma Corporation has developed a CRM suite and offers a complete solution, including products and CRM services.

7. Industry financial performance Since 1997-98, the aggregate revenues of the Indian software industry have increased at a CAGR of over 41 per cent. The growth has been primarily due to the over 47 per cent growth in exports during the period. Till the end1990s, the growth in exports was led by the onsite staff supplementation projects that were undertaken by software companies. However, in the last couple of years, the increased preference among global clients for offshoring IT services to India has resulted in the industry continuing to post high growth rates.

The operating revenue of these companies has increased at a CAGR of 23.5 per cent during 1998-99 to 2002-03. The increase in billing rates (due to the shortage of skilled IT professionals in developed countries), increased client Page 11 of 67

acquisitions and expansion of presence across verticals and service lines resulted in the high growth rates.

However, the operating costs of these companies increased at a lower rate as compared to the increase in revenues. The employee costs increased significantly during the period, due to the high increases in salaries and bonuses being offered as a result of the tight supply of high skilled professionals. Although sales and marketing costs went up during the period as a result of players trying to increase their presence in the global markets, other costs increased at a much lower rate. This can be attributed to the decline in telecommunications and hardware costs. The operating costs (as a percentage of revenues) have also declined with the increasing offshore component in the revenue mix of players (margins in offshoring are higher than those in onsite projects). On an overall basis, the operating margins of these companies increased from 23.8 per cent in 1998-99 to 28.8 per cent in 2002-03.

Since the software industry is not capital-intensive, it does not have a high dependence on debt. Also, the high profitability of the industry has resulted in most players depending on cash accruals and equity (including ADRs) to fund their capital expenditure. As a result, the interest expenses (as a percentage of revenues) have declined over the years. Depreciation charges (as a percentage of revenues) have remained fairly steady during the period.

The above reasons have led to a major growth in profitability of the industry with the net margins increasing from 15.4 per cent in 1998-99 to 19.7 per cent in 2002-03.The funding of capital expenditure plans through cash accruals and the high profitability levels have resulted in a major decline in the debt-equity levels in the industry. However, Indian companies have not looked at inorganic growth through acquisitions. As a result, a major portion of the cash accruals are being held as cash or liquid investments in the books, which earn lower returns.

This has led to the RoCE declining marginally over the years. The industry has been able to control its receivables with the average debtors being around 78 days of sales.

Software: Industry financials (Rs million)

Year ended 1999

Operating 66,419.8 revenue Total operating 50,593.4 expenses Employee costs 12,284.8 Sales & mark 2,679.1 expenses PBDIT 15,826.4 Interest 1,561.1 Depreciation 3,348.4 PBIT 12,478.0 Net profit 10,225.8

Year ended 2000

Year ended 2001

Year ended 2002

Year ended 2003

Growth1 (per cent)

87,572.1 130,876.0 144,445.5 154,687.8 23.5 63,773.8 88,103.4 106,678.3 110,199.7 21.5 18,560.7 30,252.2 42,724.3 51,665.8 43.2 3,120.8

4,877.8

2,404.5

2,181.2

-5.0

23,798.3 1,457.1 4,527.4 19,270.9 15,329.4

42,772.6 1,126.7 6,889.6 35,883.0 29,294.0

37,767.2 1,337.1 8,661.6 29,105.6 30,295.7

44,488.1 798.1 8,891.4 35,596.7 30,436.7

29.5 -15.4 27.7 30.0 31.3 Page 12 of 67

Gross fixed 26,913.4 assets Total assets 57,598.6 Equity 4,055.3 Networth 32,539.8 Long term debt 10,083.7 Current 13,688.2 liabilities Operating 23.8 margins (%) Net margins 15.4 (%) Debt Equity 0.31 ratio Return on capital 34.12 employed (per cent) Return on net 31.43 worth (per cent) Operating 1.4 revenues/assets Debtors (days) 74.9 Number of 34 companies CAGR for the 99-03 period Source: NASSCOM

35,487.5 54,017.1 66,852.6 71,518.8 27.7 92,175.7 5,597.9 64,902.4 6,909.5

160,840.0 6,714.0 121,246.6 10,413.9

192,098.1 7,353.6 145,294.1 9,274.4

209,770.1 38.1 7,379.1 16.1 165,302.8 50.1 8,440.0

18,963.4 28,034.5 36,246.0 34,925.7 27.2

32.7

26.1

28.8

-

17.5

22.4

21.0

19.7

-

0.11

0.09

0.06

0.05

-

32.91

34.83

20.17

21.53

-

23.62

24.16

20.85

18.41

-

1.2

1.0

0.8

0.8

-

74.7

74.8

83.7

82.3

-

34

34

34

27

-

7.1 Sales and Marketing spends The sales and marketing spends of a number of Indian players increased during 2003-04. Since all companies do not report such expenses explicitly, it is difficult to attribute the exact quantum of increase. As a result we have looked at the SGA (sales, general and administration) expense head in comparison to sales for different companies. The SGA costs increased during the year and on average contributed around 150 basis points to the margin decline.

There are quite a few reasons behind the higher marketing spends.

1. Global clients are increasingly looking at IT services vendors as strategic partners.

Since such partnerships are typically forged at the senior management level, Indian companies have spent increasingly on CxO level (CEO, CFO, CIO, CTO, COO) contacts. Many foreign sales personnel have been recruited at the senior level by Indian companies.

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2. In order to gain mind share among clients, a number of players are also aggressively undertaking branding and advertising initiatives.

3. Another reason for the increased marketing initiatives is that global vendors have gained scale in the India operations and are offering clients an offshoring option, which in turn has required Indian players to build their front-end capabilities.

7.2 Export markets

The export segment accounts for 63 per cent of the Indian IT industry.

According to Nasscom the Indian IT service export market grew by 26.3 per cent to $8.9 billion in 2003-04.America continued to account for a major share of IT services exports in 2002-03, with 71 per cent of the export revenues coming from the North American region. Given that North America accounts for around 45 per cent of the global IT spending, this domination is likely to continue.Europe and Asia-Pacific accounted for 23 per cent and 6 per cent respectively.

However, language and cultural issues are a hurdle to growth in exports to these regions. In all European countries, except UK, inadequate knowledge of the Page 14 of 67

local language, business customs and culture, poses a significant challenge. Also, European decision makers stress on long-term relationships with their vendors, resulting in longer decision cycles. This could increase client acquisition costs.

Software exports to the European markets are likely to be driven by the banking and financial services, telecom service providers, utilities, travel and tourism, and retailing. The Japanese market also poses challenges. Many Japanese companies prefer vendors from China due to the cultural similarities and the higher level of comfort. With the delay in the economic recovery, businesses have shifted their emphasis from increasing their revenues to reducing costs, thus increasing interest in outsourcing non-core functions. However, the willingness of corporations in Europe and Asia-Pacific regions to outsource their software requirements to India may not be high as that of US corporations.

Indian companies also face competition from local companies, and other Asian companies, especially in the Asian markets. Indian companies could leverage their experience (gained in the US market) in project management, as a competitive advantage. However, the size of the IT outsourcing market in the Asia-Pacific economies (except Japan) is likely to be limited. Hence, revenue growth for the Indian software industry from the Asia- Pacific economies is not expected to be significant.

North America North America, especially the US, is the largest market for software services.

The US and Canada together accounted for an estimated 50 per cent ($179.1 billion) of the global IT services market in 2003-2004, with an annual growth of 12-13 per cent over the medium term. However, in the short term, the growth in IT spending is likely to be adversely affected by the recent economic slowdown

India's exports to North America Exports (Rs million) 1998-99 66,290 1999-00 106,300 2000-01 177,610

Figure India's total exports (per cent) 61 62 63 Page 15 of 67

2001-02 244,910 67 2002-03 407,220 69 Source: Nasscom North American IT spending by segment

North America is the largest market for outsourced IT services. North America is expected to continue to be the largest market for Indian software exports.

This is despite the fact that n the US, the economic slowdown has sharply curtailed corporate investments in technology and IT. In the medium to long term, in the North American market, IT investments are likely to grow, due to the increasing interest in enterprise software, such as customer relationship management (CRM) systems, enterprise portals and ebusiness. IT investments by the government sector, and by small and mediumsized companies are also likely to rise steeply.

Of the industry segments, telecom service providers (especially mobile services), utilities, automobiles and retailing are likely to be some of the largest markets for IT services.

Europe India's exports to Europe

1998-99 1999-00 2000-01 2001-02 2002-03 Source: Nasscom

Figure Exports India's total exports (Rs million) (per cent) 25,100 23 40,300 24 67,540 24 86,340 24 106,030 23

Europe accounts for 31 per cent of the global IT services market, at $109.6 billion in 2002. According to IDC estimates, IT services spending in Western Europe is expected to grow at a CAGR of 11.7 per cent in the medium term.

In 2002-03, the share of European countries (excluding UK) in exports dipped to 9 per cent from 11.1 per cent in 2001-02. Indian players have intensified Page 16 of 67

their efforts to establish a presence in European countries such as UK, Germany, France, Italy, Norway, Sweden and Switzerland. Till recently, as far as Europe was concerned, Indian software players had mainly focused on UK. However, the recent slowdown in the US economy has also affected Europe. Hence, in the short term, Indian software companies would not be able to significantly increase their revenues from Europe. Some of the major challenges in Europe are: 1. Each country is a micro-market, with differences in the way business is done, and culturally different from each other, with different languages.

2. Complex visa regulations and long lead times.

3. Protectionist labour regulations.

4. Conservative vendor management practices.

Growth in the software export revenues from Europe are also likely to be restricted by the limited presence of Indian software companies in Europe, and their inadequate vertical market expertise and language skills. Most European software firms, especially in Germany, specialize in vertical market segments such as insurance, manufacturing and banking. Indian software companies are yet to develop such vertical market expertise, as they are recent entrants in the European market.

European companies are more conservative in their approach to outsourcing in general, and offshore outsourcing in particular, and have more vendor detailed evaluation criteria. Hence, the decision cycles for outsourcing are typically longer than in the US market. However, European companies are more likely to form long-term and larger relationships (in terms of size of projects). In addition, the current shortage of software professionals in Europe is likely to increase outsourcing to India. For instance, Germany has decided to provide 20,000 work permits to Indian software professionals.

Indian companies have begun training their employees in various European languages and business cultures, especially German and French. Companies are also increasingly recruiting local executives in these countries, especially for selling, marketing and other client-interaction functions. Indian software companies are likely to form joint ventures and tie-ups with local European IT services companies to jointly bid for outsourcing contracts. Indian companies are also trying to make existing and prospective clients aware of Indian business and social culture. From 2002 to 2005, growth in IT investments in Europe is likely to be attributed to the telecom, financial services, automotive, transport, and travel and tourism sectors.

Asia Pacific The Asia Pacific IT services market (including Japan) accounts for 15-18 per cent of global IT services spending. It is expected to grow at a CAGR of around 14 per cent in 2002-2007. Japan was the third largest IT services market at $34.9 billion (10 per cent) in 2002. The growth in the Asia-Pacific market will be driven by the government, banking, and the communications and media sectors. The investment will be mainly in the System Integration and Outsourcing services.

According to most economic forecasts, during the next 4-5 years, the AsiaPacific economies are likely to grow faster than North America and Europe.

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This will bring large market opportunities for Indian software companies, especially in countries such as China, Australia, New Zealand, Taiwan, Hong Kong, Singapore, and South Korea. Outsourcing of IT services is on the increase in the Asia-Pacific region, in line with the trend in US and Europe. However, Indian companies face severe price competition from local companies, and from other countries, such as China and The Philippines. Given the geographical and cultural proximity of China and Japan, several Japanese companies are outsourcing their IT services by setting up joint ventures or subsidiaries in China. Given the high economic growth rate of China (around 8 per cent), and the presence of several global corporations, the IT services market in China is also an attractive market for Indian software companies. Several Indian companies are planning to set up operations in China to service their global clients in China, as well as the Japanese and Chinese markets. Indian companies are also likely to leverage their competitive advantage through superior project management experience and quality processes. However, the billing rates are likely to be lower in the Asia-Pacific region, resulting in lower margins.

7.3 Vertical markets Levels of competition, expectations of future growth, and profitability are the key drivers of IT investments, and widely vary across the various sectors of the economy. In the recent past, intense competition, improved profitability, and regulatory changes have been the main drivers for increase in investments on the technology side.

Financial services Financial services (including securities, banking and insurance), are the largest consumer of IT services. According to estimates, this segment spends around 4 per cent of its revenues on IT. This segment accounts for an estimated 28 per cent of global IT services spending. In the next 4-5 years, this segment is expected to grow at a CAGR of 12 per cent. According to Nasscom estimates, in 2001-02, the financial services sector accounted for the largest share of Indian software services exports i.e. 22 per cent, or $1.6 billion.

The performance of the financial services sector is closely related to economic cycles. The current slowdown in the global economy, especially in US and Europe, has slowed down IT investments by the financial services segment.

However, in 2003, the major developed markets, such as Europe and US, saw an economic recovery, reviving the growth in IT investments. Generally, the financial services segment is readier to outsource its IT services requirements.

Several Indian companies have significant presence in the financial services.

According to estimates, around 10 Indian software companies derive more than $20 million each from their financial services practice. Some of the major Indian software players in the financial services segment are: I-Flex Solutions, Infosys, TCS, HCL Technologies, Polaris, and Satyam Computers. However, smaller software companies are unlikely to be able to increase their presence in this segment, due to competition from larger players, and consolidation of vendor base by customers

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Percentage of revenues from financial services

The key drivers of IT investments by the financial services sector are likely to be regulatory changes (such as straight-through processing, or STP, in securities trading settlement; and Basle- II changes related to risk management in banking, specified by the Bank for International Settlement), e-business initiatives, and enterprise security (due to the increasing penetration of the Internet for delivery of services). The retail and wholesale banking segment is also likely to be a focus area for Indian software product companies, such as I-Flex Solutions, Infosys, TCS, Polaris and Nucleus Software.

Telecom The expenditure by the telecom sector on IT services, as a percentage of its revenues, is one of the highest at 12-15 per cent. This is due to the rapid changes in telecommunication technology (the result of mobile communications), and the intense competition in the global telecom service and equipment markets.

In 2001, IT services spending by the telecommunications sector was $51 billion, including $38 billion by telecom equipment manufacturers and $13 billion by telecom service providers. According to an IDC forecast, IT services spending by the telecom service providers will grow at a CAGR of 20 per cent in the medium term, driven by introduction of new services and increased competition.

However, IT investments by telecom equipment manufacturers are likely to grow at a lower rate of 11 per cent. During 2002-2005, IT investments in the telecom sector are likely to be largely driven by: 1. rollout of new services, such as high-speed Internet access through mobile devices, and multi-media messaging service (MMS) 2. R&D related to third-generation (3G) mobile communications 3. wireless technologies (such as Bluetooth, Wireless Local Area Network) 4. embedded systems for mobile communication devices 5. CRM systems.

IT investments by telecom equipment companies could be subdued in the short term. This would be due to the adverse financial condition of global telecom players (service providers and equipment manufacturers), as a result of high debts raised to obtain 3G licenses in Europe, and the economic slowdown resulting in an overcapacity situation. However, in the medium to long term, IT investments by telecom equipment companies are likely to continue to increase moderately.

There are several Indian software companies focused on the telecom sector, such as Hughes Software Systems, Sasken Communication Technologies, and Page 19 of 67

Mahindra British Telecom. In addition, TCS, Wipro, Infosys, Satyam and HCL Technologies also have a strong presence in the telecom equipment and service provider segments. Given the slow-down in IT spending by the telecom equipment sector, Indian companies have focused on telecom service providers.

Several global telecom equipment companies, such as Nokia, Nortel, Cisco, and Lucent, and service providers such as British Telecom, AT&T, and Vodafone, outsource a significant component of their IT services requirements to Indian companies. According to Nasscom estimates, in 2001-02, the telecom equipment sector accounted for around 12 per cent of Indian software exports.

Percentage of revenues from telecom

Manufacturing IT services spending by the manufacturing sector is estimated at $100 billion in 2001. In the medium term, it is expected to grow at a CAGR of 10-11 per cent. According to Nasscom estimates, the manufacturing sector accounted for 16 per cent of Indian software exports in 2001-02.

Given the increasing intensity of competition in most of the manufacturing sectors and its close linkages with economic cycles, the primary focus of IT investments by the manufacturing sector is likely to be on improving competitiveness through enterprise software, such as product life- cycle management (PLM), SCM, CRM, ERP, and e-business initiatives. Growth in IT investments in the manufacturing sector is likely to be largely driven by small and medium-sized companies. Among the manufacturing industries, growth in IT investments is likely to be higher for automobiles (SCM, e-business and embedded systems), and consumer goods (embedded systems, and CRM).

Percentage of revenues from manufacturing

Healthcare The healthcare market accounts for $12 billion of the global IT services industry. IT services spending by this segment is likely to grow at a CAGR of 11 per cent in the medium-term. Investments in IT by the healthcare sector are likely to focus on customer (patient) management systems and on maintaining electronic medical records. For instance, in the US, regulatory provisions Page 20 of 67

(under the Health Insurance Portability and Accountability Act) require healthcare service providers to increasingly maintain their medical records in electronic form, to enable patients to switch service providers easily. IT investments in healthcare are also likely to be driven by emerging technologies such as biotechnology and bio-informatics.Several Indian companies have recently increased their focus on the healthcare segment, especially healthcare service providers, health insurance, life sciences (bio-technology and bio-informatics) and medical equipment. For instance, TCS and Wipro have set up separate divisions for their healthcare and life sciences practice. Cognizant Technology Solutions also has a significant presence in the healthcare sector, especially through its HIPAA solution.

Percentage of revenues from healthcare

Utilities In 2001, the utilities sector (including oil and gas, power, and water supply), accounted for $16 billion of global IT services spending. During 2002-2005, IT services spending in this segment is expected to grow at a CAGR of around 12 per cent, primarily driven by increased competition through deregulation In several developed countries (especially the US, UK, Europe, Australia and Japan), utilities such as electricity, gas and water supply are being gradually deregulated and opened to competition.

This has given rise to new entities such as generating companies, independent power producers, energy service providers, independent system operators, utility distribution companies, and power exchanges.

The various entities in these sectors have responded to the increased competition and deregulation by increasing their IT investments to improve their efficiency, profitability, and customer service. The thrust of investments in the utilities sector is likely to be on ERP, asset management system, work management systems, geographical information systems, and CRM. Utilities in the energy sector (electricity and gas) have also invested significantly in e-business initiatives, in order to enable energy trading through online exchanges. Over the medium term, IT investments in the utilities sector are expected to be primarily in enterprise applications such as ERP, and CRM. During 2002-2005, the scope of deregulation and competition in utilities is likely to be further extended in these countries. In addition, several other countries in the Latin American and Asia- Pacific regions are likely to deregulate their utilities market. The energy and consulting practice of Wipro recently acquired a US company, American Management Systems Inc. This acquisition has helped Wipro gain access to marquee clients across geographies and also improve its domain knowledge in this vertical Percentage of revenues from utilities

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Retailing The retailing and wholesale trading sector accounted for $39 billion of global IT services spending in 2001. Over the medium term, the IT services spending in retailing is expected to increase at a CAGR of around 10 per cent. Given the current economic slowdown and increased competition, the retailing segment is expected to significantly increase its IT spending to reduce costs and increase competitiveness. As a result, the retailing sector is likely to be a significant market for Indian IT services companies. IT investments by the retailing sector are mostly expected in supply chain and logistics management, CRM applications, and e-business initiatives. In the US, the sector has invested heavily in IT over the past 2-3 years. Given the recent tax breaks in the US, consumer spending may increase, giving a boost to the retail sector. This growth will encourage the companies to undertake capital expenditure.

A significant portion of the capital spending is expected to go into IT spending.

Percentage of revenues from retail

Travel, transportation and logistics International travel industries, especially airlines, were severely affected by the terrorist attacks in the US in September 2001. As a result, in the short term, the IT spending by the sector has fallen steeply, and is primarily focused on security-oriented applications such as biometrics. Over the long term, given the expected growth and high level of competition in the global travel industry, companies in the travel and tourism sector are expected to significantly increase their investments in IT. The travel and tourism industry is likely to grow massively in Europe and Asia. The primary investment areas are likely to be Internet-based application software and CRM. The transportation and logistics industry is expected to expand heavily, as global players focus on better supply chain management. The growth in the transportation and logistics industry would owe its strength to the automobile, food processing, and retailing sectors. Companies in these sectors are increasingly likely to outsource their transportation and logistics functions to specialized independent players.

Percentage of revenues from transportation and logistics

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Government In developed countries, especially the US, Canada, and UK, the government sector is a large buyer of IT products and services. According to IDC estimates, the government sector accounted for $46 billion of IT services spending in 2001. During 2002-2005, IT services spending by governments is forecast to grow at 11 per cent CAGR. Globally, governments are likely to significantly increase their investment in IT, given the increased focus on 1. Improving the quality of governance 2. Improving interface with citizens 3. Improving the quality and efficiency of administrative services 4. Reducing manpower.

Several large global software companies, especially in the US, earn a large part of their revenues from government sector projects. In India, however, the government is not as popular a customer, given the low billing rates, the delay in payments, and lack of clear technical specifications by users. This is likely to change as small and medium-sized companies are forced by increased competition in the domestic and export markets to look at government sector projects. However, the government sector faces major political challenges (related to loss of local jobs) in offshore outsourcing of their IT investments.

On the other hand, the pressure to reduce costs will support the trend towards offshore outsourcing. For instance, Wipro has recently won a contract from the Scottish Parliament for providing IT services.

7.4 Service lines

At present, India has a significant presence in only two of the 10 major IT services - custom application development and application outsourcing. In 2001, India had 14-16 per cent in these two lines. However, these two service lines Page 23 of 67

account for only 10 per cent of the global IT services market. India's share is less than 1 per cent in other major IT services, such as system integration (accounting for 22 per cent of global IT services market), IT outsourcing (18 per cent), packaged software installation and support (13 per cent), and hardware support and installation (13 per cent). In the last 1-2 years, several large Indian companies have begun to broaden their service offerings, especially in IT outsourcing, system integration and package implementation. Other service lines with significant potential for Indian software companies are: IT consulting, IT training and education, network infrastructure management, and network consulting and integration.

Custom application development and application outsourcing Development and maintenance of customised software applications and application outsourcing are the primary areas of work for the Indian software industry. However, these comprise only a small portion of the global IT services spending at 7-8 per cent in 2001. Given the significant cost advantages offered by offshore development, the Indian software industry has achieved a significant marketshare in this service line. According to Nasscom estimates, in 2001-02, the revenues of the Indian software industry from custom application development and application outsourcing were around Rs 214 billion (73 per cent of total IT services exports), comprising around 13- 15 per cent of the global application development and outsourcing industry. According to industry estimates, India has a market share of around 80 per cent of offshore outsourcing of application development and maintenance.

In the short term, given the economic slowdown and decline in IT budgets, customers have reduced the discretionary spending on new IT initiatives, and development and deployment of new applications. There has been increased emphasis on 1. Maximising the return on investment (ROI) on the existing IT infrastructure and applications, through application integration 2. Maintenance and enhancement of existing applications, especially through offshore vendors.

Over the medium term, given the continued competitive advantage in terms of lower manpower costs, and technology and project management skills, India could achieve a global market share of around 25-30 per cent in the application development and maintenance industry. During the 2002-2006 period, given the focus of large scale players on other service lines, such as IT outsourcing, system integration, network infrastructure management and IT consulting, the share of application development and maintenance is likely to decline to around 50-60 per cent of the IT services exports.

Over the medium to long term, in the application development and maintenance services, Indian software companies could face increasing threat from the other countries, such as China, Russia, Ireland and the Philippines, and the expanding presence of global IT services companies. In order to take advantage of the lower manpower costs in India, several global IT services companies, such as IBM Global Services, Accenture, KPMG Consulting, EDS, CSC, and Cap Gemini Ernst and Young have established their offshore development centres in India, and plan to expand significantly over the medium term. This may dilute the competitive advantage of Indian companies in bidding for IT contracts against these companies.

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Consulting Given that information technology is increasingly used by global corporates as a means to derive and sustain competitive advantage, leading business consulting companies derive a significant proportion of their revenues from advising companies on their IT strategy. In addition, several large IT and IT services companies have also increasingly focused on providing IT consulting to their clients. Some of the major players in the IT consulting services are: Accenture, IBM Global Services (including PwC Consulting), Bearing Point, Cap Gemini Ernst and Young, EDS and CSC. IT consulting assignments generally require deep domain expertise, interaction with board level executives of the customers, and also provide a higher level of employee revenue productivity (billing rates). In addition, the IT consultant will also typically be awarded the contracts for downstream activities, such as design, implementation, maintenance, IT outsourcing and business process management. Generally, vendors who are able to provide endto-end solutions (including consulting, implementation and maintenance), have a competitive advantage over those who offer specific services.Generally, consulting projects are smaller in absolute size; however, they offer higher margins, as compared with implementation projects. The billing rates for consulting assignments could be $200,000-400,000 per man-year, as compared with $50,000-120,000 per man-year for implementation projects.

Till recently, Indian software companies have been primarily involved in the implementation of IT solutions designed by established consulting firms. In the course of the implementation of projects, large Indian companies have built significant domain knowledge in the vertical market segments, especially financial services, telecommunications, and manufacturing. Several Indian software companies plan to use this knowledge to move up in the software development value chain and offer value-added services, such as IT consulting. In addition, Indian software companies are facing increasing competition from the entry of large business and IT consultants into India. Several global IT services companies, such as IBM Global Services, EDS, Accenture, CSC, and Cap Gemini Ernst and Young, plan to establish large offshore development centres (ODCs) in India, in order to take advantage of the low labour costs. This provides them significant competitive advantage vis-Ă -vis Indian software companies, in terms of their existing high-level client relationships, significant brand strength and marketing presence in the major markets, and low cost implementation through ODCs in India.

In the past 12 months, in order to compete effectively against global IT services companies, large Indian software companies have focused on building their brand, and recruiting local senior marketing personnel in major markets (especially US, Europe and Japan), and recruiting experienced manpower (especially management graduates) in India. Indian software companies face significant entry barriers in their entry into IT consulting, primarily in terms of: 1. Client relationships: which are typically at the Chief Information Officer (CIO) level rather than CEO and board level 2. Domain and business knowledge: which is primarily restricted to IT operations rather than strategy and sbusiness 3. Human resources: the ability to attract and retain high quality manpower.

Package implementation and support

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Given the variety and complexity of modern enterprise applications, there is a huge market opportunity for Indian software companies in implementation, customisation and support of packaged applications. In 2001-02, packaged software installation and support accounted for around 5 per cent of India.s IT services exports. The share of the Indian software industry in the global packaged software installation market is less than 1 per cent. In order to increase penetration in this service line, the most critical challenge for Indian software industry is to form tie-ups with multiple packaged software vendors, and develop domain expertise in various verticals. The initial stages of packaged software installation, namely, package evaluation and selection, strategy, and definition of application architecture, have a high onsite component and are generally undertaken by IT consulting companies. Some of the large Indian companies also have developed skills in these aspects. However, the customisation, implementation and support stages have a high offshorable component. Among the various enterprise applications, ERP and CRM applications are expected to see strong growth over the medium term. Some of the major ERP package vendors are: SAP, PeopleSoft, Microsoft and Oracle. The major CRM vendors are: Siebel, and SAP. In the short to medium term, the primary focus of ERP vendors is likely to be on small and medium-sized enterprises. Over the medium to short term, given the competitive pressure on companies to attract and retail customers, sales and implementation of CRM products is likely to grow significantly.

Package implementation: Contribution to revenue

Enterprise application integration In the past 5-6 years, information technology has become one of the key competitive differentiators and part of the competitive strategy of global corporates in several sectors, especially financial services, manufacturing, telecom, and Page 26 of 67

retailing. Companies have made significant investments ina diverse range of IT initiatives, such as centralised databases, sales force automation, enterprise resource planning, customer relationship management, supply chain management, and e-business .Decision-makers increasingly need to optimally use the IT infrastructure and resources of the companies, and maximise the returns on IT investments. Given the increasing complexity and penetration of IT, and the diverse range of IT applications used for various business processes, IT managers have recently focused on enterprise application integration (EAI). This refers to integration software and services used to integrate applications and processes within an organisation or between organisations. EAI helps corporates to exchange data across enterprise applications, and enables employees to access reliable, accurate and timely corporate information through a common interface (such as an enterprise portal). Over the short to medium term, the EAI market opportunity is expected to soar from an estimated $6 billion in 2001 to $18 billion in 2005.

Larger Indian software companies have a significant advantage in undertaking EAI projects, given their experience with various enterprise applications and technological platforms. Some of the major players in the EAI market are TIBCO, BEA Systems, IBM, WebMethods, SeeBeyond, Vitria Technology, Citrix, Candle and Mercator. In the past two years, several large Indian companies, especially TCS, Infosys, and Wipro, have focused on the EAI market. They have alliances with major global middleware players such as BEA Systems, TIBCO, WebMethods, and IBM. Products and packages Indian software companies have a marginal presence in the packaged software product market. According to estimates, products and package sales comprise less than 10 per cent of the total industry revenues. Some of the main reasons for low product revenues are: 1. high level of piracy or unlicensed software (around 60 per cent) 2. low penetration of computers in small and medium-sized enterprises (SMEs) and household sector 3. low purchasing power.

Software products entail large initial investments, high risk during development, continued investments in selling and marketing, and continuous upgradation.

Successful software products provide significantly higher margins, as the marginal cost of production is negligible. A comparison of the revenue per employee and operating margins of I-Flex and Infosys highlights this. However, the employee revenue productivity of some of the leading software product companies, such as Microsoft, Oracle and SAP, is in the range of $200,000-$650,000 per employee, as compared with an average of around $1,00,000 per employee for leading Indian software products companies.

Given the intensely competitive and sophisticated software product markets in developed countries such as the US and Europe, one of the critical prerequisites for success is a large domestic market. Indian companies could also explore emerging markets such as the Middle East and Africa for selling their products and using the domain expertise to gradually enter developed markets.

In the medium term, Indian software companies are not likely to increase their presence in software products and package development significantly, in spite Page 27 of 67

of higher margins. This would be due to the large investments and higher risks involved in the development and marketing of software products.

Some large and start-up companies are focusing on developing products for niche markets, such as banking, accounting and telecom software. For instance, Infosys (Finacle), Polaris (OrbiOne), I-Flex Solutions (Flexcube) and TCS (Quartz) have developed banking automation software for the domestic and export markets. In addition, Tally Solutions and TCS have strong presence in the accounting software market. Start-up or small and medium-sized companies could be involved in developing and marketing specialised products. For instance, Talisma, an e-mail management application, developed initially by Aditi Technologies, has been hived off into an independent company, Talisma Corporation, which focuses on customer relation management (CRM) products and services. Also, there are a few niche companies like Cranes Software International Ltd that have acquired the statistical software product SYSTAT and are developing modules around it quite successfully.

R&D services Given that human resources comprise a significant share of the total research and development (R&D) expenditure of global corporations, there is a significant market opportunity for Indian companies to target the R&D activities of large technology companies for offshore outsourcing. Indian companies offer a significant cost advantage, given the low wage costs and the availability of a large pool of scientific and technical manpower in India.

A number of US companies are looking at outsourcing their R&D work to India. The trend of companies setting up their R&D work to India is increasing and there is an upgradation in the quality of work that is being outsourced. Global companies like Cisco Systems, IBM, Intel, Motorola, and Texas Instruments have already set up their R&D centres here, and some local companies such as Wipro Ltd, have positioned themselves as R&D labs for hire.

However, the absence of strong intellectual property and patent laws, and inadequate enforcement mechanisms in India acts as a deterrent to global companies in outsourcing their R&D to India. Several companies, such as Wipro, Hughes Software Systems, HCL Technologies, and Sasken Communications have been focusing on acquiring the R&D projects of large multinational technology companies, especially in the telecom equipment sector. Generally, R&D expenditure is not affected much during an economic slowdown, due to its long-term nature and importance in increasing competitiveness. However, given the poor financial health of telecom equipment manufacturers, due to high debt and overcapacity, Indian software companies that depended strongly on these customers have been adversely affected in the past 12-18 months. In addition to telecom, Indian software companies have also been focusing on providing R&D services to other sectors, such as microprocessor manufacturers, automobiles, aviation and consumer electronics. Given the growth of contract manufacturing for microprocessors, especially in countries such as Taiwan and China, several companies undertake design and development of microprocessors through offshore development centres in India and other low-cost countries. In addition, several established microprocessor manufacturers, such as Intel, Motorola, and Texas Instruments, have established large development centres in India. Over the medium to long term, R&D services could comprise 12-15 % of the total IT services exports.

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Embedded systems The increasing penetration and sophistication of electronic components and microprocessors in various consumer goods and devices, as well as other appliances and machinery, has resulted in a significant increase in the requirement of software (embedded systems) necessary to run these devices.

Some of the major user industries of embedded systems are: telecom and computing equipment (including personal digital assistants, PDAs, and mobile handsets), consumer electronics (such as audio and video systems), industrial automation systems (including instrumentation), automobiles, avionics (electronic equipment used in aircraft), and medical equipment. Globally, the embedded software market is estimated to be $25 billion in 2000, comprising operating systems (11 per cent), tools (5 per cent) and applications (84 per cent). According to industry estimates, the embedded software market is expected to grow at a CAGR of 15-16 per cent over the medium term.

Given their technological skills and low cost base, Indian software companies have a significant competitive advantage in undertaking projects in embedded systems. The cost-competitiveness of Indian software companies can be of significant advantage, as the design, development, and testing costs of embedded systems comprise a significant portion of the development costs of the final product, due to continuous change in technology and lack of standards. Several large Indian software companies have set up dedicated business units for undertaking projects in embedded software systems. Several small and medium-sized companies are also focusing on the embedded systems market. In addition, several foreign companies, such as Wind River, Force Computers, and Mistral Software, with expertise in embedded systems, have set up development centres in India.

8. Domestic market overview According to a survey by Dataquest Top 20, the domestic IT market grew by 24 per cent in 2003-04, against 9 per cent in 2002-03. This runaway growth was a combination of a 26 per cent growth in the services market and 23 per cent in the hardware market. According to IDC, the growth rate of the domestic IT market will peak in 2005 at 21 per cent. The domestic IT market is at a nascent stage when compared to the global IT industry. Spending on hardware continues to account for a larger proportion of the domestic IT spending. This is because most of the users in India are in the initial stages of IT development, which involves a higher investment in hardware. By contrast, in most developed markets, corporates have shifted to front-end development such as intranets, supply chain management systems and customer relationship management applications. The domestic IT industry is relatively small, in terms of the country's large population and its GDP. The domestic IT spending (which includes hardware, software, ITES, IT training, etc) is 1.27 per cent of GDP. The US, by contrast, spends 8.5 per cent of its GDP on IT.

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8.1 Barriers for the domestic software market The low base of the domestic software market can be attributed to the following reasons.

1. Low thrust on IT spending: Using IT to gain a competitive edge is not yet a key imperative in the corporate sector. With key product markets still regulated or in the process of deregulation, the corporate IT imperative is likely to take some time to emerge.

2. Low computerisation in government and public sector administration: The key barriers are IT getting low priority in policies and budgets, lack of focus or a roadmap for IT implementation, poor awareness of IT benefits and lack of IT-literate champions in ministries and departments.

3. High piracy rates (estimated at over 70 per cent) in software products: The piracy rates in India are amongst the highest in the world, but less than countries such as China (92 per cent) and Vietnam (95 per cent).

4. Most of an enterprise's IT needs are fulfilled in-house.

5. Inadequate focus on the domestic market by the industry players: This can be attributed to the sharply lower billing rates in the domestic market.

However, the domestic software market (including hardware services, training and domestic ITES) has grown at a CAGR of 21 per cent over the last five years. The growth in the domestic market has been led by an increase in IT spending in the financial services and manufacturing sector, initiatives in egovernance by a few states and the increased IT spends by the Small Office Home Office (SOHO) segment.

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Few larger software companies have a significant presence in the domestic IT market.

The domestic market has been unattractive for the top-rung Indian software companies due to the low billing rates. According to estimates, the average billing rates in the domestic market are one-third those in the exports market (Rs 0.6-1.2 million per man-year). Larger companies derive only 5-10 per cent of their revenues from the domestic market. A survey carried out in 2000-01

by Nasscom of 1,000 software companies operating in the domestic market showed that most companies had a turnover of less than Rs 100 million. Some top-rung players with a strong presence in the domestic market are Wipro, CMC and TCS. Many players use the domestic market to develop their expertise in vertical domains.

For example ,Subex Systems started by focusing on the domestic telecom vertical, and then used the expertise to increase their presence in the export market. In another trend in the domestic market, large manufacturing companies have been hiving off their in-house IT divisions, in order to cater to outside clients. For instance, L&T hived off its IT division as L&T Infotech, and Telco's IT division became Tata Technologies. Currently, these companies have expanded their presence in the export market.

8.2 Domestic market segments The domestic software market can be broadly divided into software (products and services), and IT training.

The increased IT spending by corporates, government and the SOHO segment has given the domestic software market a 21 per cent CAGR growth in the last five years. However, spending on software products and packages has remained stagnant, because of the high level of product piracy. In the last few Page 31 of 67

years, the penetration of personal computers in the SOHO segment and among individuals has increased significantly, but a large portion of this category uses pirated software. Corporates have largely depended on their in-house technology departments to meet their IT needs, because outsourcing IT is expensive, and the IT budgets of corporates are low. Thus, the captive development category has ballooned in the last few years. However, in the last 4-5 years, corporates have increasingly outsourced specialised IT requirements, such as customised software and systems for ERP, SCM and CRM in order to improve efficiency and provide improved customer service. The demand for IT training increased steeply till 2000-01, in line with the demand for IT professionals. Large players in the training industry, such as NIIT and SSI, expanded the number of training centres. Small unorganised training institutes also mushroomed, focusing on specific local markets. However, in the last 12-18 months, with the slowdown in the software sector, the demand for IT training has decreased. In 2001-02, the revenues of NIIT, Hexaware and SSI fell by 35.6 per cent, 63.9 per cent and 26.1 per cent respectively, and a number of small players closed shop.

Although many companies introduced courses in distance education and elearning, they have not evoked much interest.

Domestic growth

software

Segment (Rs billion) Domestic software and services Hardware services Training Total E: Estimated Source: Nasscom

market

Table

1997-98

199899

19992000

2000-01

2001-02 2002-03E

38.27

51.52

57.59

79.20

94.02

105.97

4.51 8.56 51.34

5.64 11.94 69.10

7.25 15.61 80.45

9.91 23.29 112.40

12.22 14.68 120.92

12.00 15.00 132.97

Enterprise resource planning (ERP) As per Nasscom estimates, the market for ERP applications was $40 million in 2002 and is forecasted to grow to $102 million in 2005. Enterprise resource planning generally refers to high-end enterprise software applications that automate back office business processes to help manage a company's day-to-day operations. With the majority of the top companies (revenues over $500 million) in India already implementing ERP applications, the drivers for demand will be the mid-tier companies and the SME segment. Small and medium enterprise players are currently actively trying to understand and evaluate the benefits of ERP products. As per an IDC survey, the top three factors that go into selecting an ERP solution are: 1. Industry-specific / mission-specific functionality 2. Compatibility with current platforms i.e. ability to handle varied databases.

3. Degree of customisation possible.

SAP continues to dominate the domestic market with a market share of 55-60 per cent.

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Supply chain management (SCM) As per Nasscom estimates, the size of this segment is estimated to be $11 million in 2002 ,and it is forecasted to grow to $30 million by 2005.

The worldwide market for SCM IT Services is estimated at $26.1 billion in 2002; it is forecasted to grow at a CAGR of 9.2 per cent to reach $ 42.5 billion in the year 2007. The manufacturing and automotive sectors have been early adopters of SCM solutions in India.

Some other sectors that can benefit from supply chain management are FMCG, retail, and oil and gas.

Customer relationship management (CRM) As per Nasscom estimates, the market size for CRM solutions was estimated to be $11 million for the year 2002. Nasscom forecasts that the market will grow to $26 million in 2005. The CRM market in India is in the initial phase.

In this phase, there is heavy demand for consulting services, which help fit the CRM application to the business, and also help with the deployment and implementation. Organisations have started using 'Customer Service Quality' as a key differentiator to gain market share. Vendors, both domestic and international, are making their presence felt in the Indian subcontinent, either directly or through multiple partners. The initial demand for CRM solutions came from the finance and telecom verticals. Given the high churn rate in telecom, an increased demand for CRM solutions is seen in this sector. The retail sector is also showing strong demand for CRM solutions. The key business drivers for investing in CRM solutions are customer retention and loyalty and improving cost efficiencies. Indian companies are also feeling the need to make the sales force management more effective.

Further, the implementation cycle for CRM solutions is smaller and automation of CRM-related services directly affects the company's profitability. Therefore more and more companies are expected to invest in CRM-related solutions, giving the CRM market a high growth rate.

Business Intelligence (BI) Business intelligence (BI) is an umbrella term for a set of tools and applications that allow corporate decision makers to gather, organise, distribute, and act on critical business information. BI applications include online analytical processing (OLAP), report generation, decision support systems (DSS), query and reporting (Q&R), statistical analysis, forecasting, data warehousing, and data mining.

With the adoption of technology by the banking and telecom sectors, this segment has gained potential. Maturing product use, and the increasing complexity of after-sales service, customer support, and marketing channels are driving the market for this segment.

Another source of demand is the companies that have implemented applications such as ERP, SCM, or data warehouses, only to face a situation where they have a huge amount of data and information, but no tool to use it for making strategic decisions. As per Nasscom estimates, the market size is an estimated $11 million in 2002-03, forecasted to grow to $30 million in 2005. These solutions would be increasingly adopted by sectors where customer relationship management plays a crucial role. Service companies primarily are driving

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the BI market in India, which is signified by very high contributions from the banking and finance, telecom, and call centre companies.

One of the main hurdles faced by BI solution providers is the lack of understanding of the BI package. Implementation cost is one of the most important criteria in the purchase of any business intelligence solution and often requires a change in the work processes of the organisation.

E-commerce One of the fastest growing businesses on the Internet is electronic commerce (e-commerce), which refers to business transactions completed over the Internet.

E-commerce embraces three main sectors: retail, or business-to-consumer (B2C); business-to-business (B2B); and consumer-to- consumer (C2C).

Nasscom estimates the market size of e-commerce solutions at $4 million in 2002-03, and forecasts that it will grow to $13 million by 2005.

The early adopters of e-commerce in India are manufacturing, telecom, chemicals, healthcare, banking and finance, automobiles, and MNCs. SMEs are set to become a major source of revenue in the next 3-4 years. Growth will be driven by the increase in the number of Internet users, entry of traditional retailers, and improved security of transactions.

8.3 Domestic market verticals In the domestic market, some of the key vertical segments in which IT is being increasingly used are banking and financial services, government, telecom, utilities and retail. Some key trends in each of these verticals have been listed below.

Banking and financial services The major areas in which banks have undertaken IT-related investments include computerization of branches, VSAT-based networking among branches, installation of ATM networks, systems related to handling of credit/debit cards and facilities for Internet banking. Historically, the private sector banks in the country have placed far greater emphasis on technology than public sector banks have. However, in the past few years, public sector banks have increased their IT spending significantly to compete with private sector banks and improve employee productivity. In 1998, the RBI issued a directive that required 70 per cent of a bank's business to be computerized before 2001, in order to enable better and more centralised control over their branch operations and to improve their level of customer service. In future, demand would be driven by the need of applications for risk management, asset liability management, electronic funds transfer and customer relationship management. Another sector that been investing large amounts in IT is insurance, especially after the sector was opened, increasing the number of players. IT spending in insurance is likely to be driven by office automation and customer relationship management applications for acquiring and managing customers.

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Manufacturing Manufacturing companies have focused on acquiring IT products, developing customised applications and integrating systems. The investments have been primarily in the area of MIS, ERP, and SCM systems. However small and medium-sized enterprises (SMEs) have not made significant investments in IT. This is likely to change over the medium term as SMEs increase their IT investments significantly to improve productivity and cost-competitiveness.

Another factor is the availability of IT infrastructure and applications through application service providers (ASPs), wherein several SMEs share the cost of IT services or acquire IT applications on lease.

Telecom Post the opening-up of the sector, a number of new players have entered the basic (local and domestic/international long distance) and cellular services markets in the last 4-5 years. IT investment in telecom primarily comprises applications and products for managing the network and providing improved customer service. This sector is likely to increase its IT spending, due to the need for providing customised and value-added services, and for information on customer behaviour.

Power Over the last couple of years, the policy thrust in the power sector has been on distribution reforms. Governments in several states are focusing on unbundling the state electricity boards, and privatising the distribution sector.

Given the high level of transmission and distribution (T&D) losses and poor service, this is likely to require large investments in IT. In the medium term, these investments are likely to focus on metering, billing, collection, and customer service applications.

In addition, several utilities are also likely to deploy Supervisory Control and Data Acquisition (SCADA) systems for remote monitoring and management of T&D networks.

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Retail Recently, there has been a significant increase in retail activity, which has spurred the growth of IT investments in this sector; the applications commonly used include SCM, CRM and e-business solutions. IT investments in this sector would depend on the increase in the number of organized retailers entering the market.

Government The level of computerisation in government departments is very low. However, in the last two years, a number of initiatives have been taken at both the Central and state government levels. Various government departments have earmarked 1-3 per cent of their budgets on improving their IT infrastructure.

Thus, large amounts of IT investments are expected in the sector. At the central level, the focus of IT investments is likely to be on revenue services (income tax, excise, and customs), citizen services (such as issue of passports) and information dissemination. At the state level, IT investments are likely to be in computerisation of land records, citizen records, and payment of taxes.

E Governance E-governance or electronic governance is defined as delivery of government services and information to the public using electronic means. Software products and services play a role in e-governance in terms of development and maintenance of applications that help improve productivity in governmental activities and create interconnectivity among government departments, systems and networks.

Some examples of e-governance initiatives could be 1. Interconnection of various departments such as registration of birth and death, ration cards, and employment. This could help create a centralised database of information about citizens.

2. Automation of revenues services such as income tax, excise, and property tax.

3. Computerisation of land records.

4. Dissemination of information about various government programmes. The success of government initiatives in e-governance would depend on Implementation of efficient computerised systems in government departments. However, fund constraints could act as a roadblock for increased computerisation.

5. Simplification and rationalisation of administrative procedures.

6. Creating awareness and acceptance for IT initiatives among government employees and citizens.

7. Increasing the use of local languages in IT products and services, making them more widely accepted.

Among the states, Karnataka and Andhra Pradesh have achieved significant progress in implementation of e-governance initiatives. Other states like West Bengal, Kerala, Maharashtra and Tamil Nadu have also developed a roadmap for implementation of egovernance.

8.4 Domestic Salary economics Page 36 of 67

Employee cost is the largest cost head for most software companies. Typically, Indian companies spend 40-60 per cent of their revenues on salaries and employee-related benefits. The expenditure on onsite employees comprises onsite allowance in addition to the offshore salary. In addition, in several countries, the company has to pay social security taxes for their onsite employees. As a result, although onsite billing rates are higher than offshore, the margins are normally lower. The entry-level salaries in the software industry are much higher than in sectors such as manufacturing. Also, given the high growth rate of the industry since the mid-1990s, the average annual salary increases have been 20-30 per cent. This, in turn, has encouraged the influx of professionals into the software industry. Recently, many companies announced drastic cuts in entry-level salaries, bringing them down to Rs 1.5-2.0 lakh per annum.

However, for the top companies, the entry-level salaries are a little higher at Rs 2.5 lakh per annum. In 2002-03, the continuing slowdown in the global economy resulted in a rationalisation of IT spending by global corporates. As a result, average billing rates were under pressure in the export as well as the domestic market.

Employee costs per head

Page 37 of 67

In spite of the pressure on billing rates, the intense competition for talent among the Indian companies and the aggressive ramp-up of offshore operations by global players in India led to an increase in the employee costs for most players. For some of the companies, the employee cost per head declined because of their entry into BPO services, which have lower employee costs.

Going forward, the salary increases in the software sector are expected to remain higher than other sectors. But given the expected pressure on margins, the average salary increases in the industry would be lower than the past trends, at 7-12 per cent. However, given the increased competition from MNCs setting up bases in India, the salary increases may be higher for employees with specific skill sets.

Industry Attrition rates The performance of software companies, in terms of developing and retaining a client base, depends critically on their ability to attract and retain high-skilled manpower with domain expertise. The attrition rates in the software sector have traditionally been higher than other sectors, around 15-20 per cent. The main reason for this is the huge number of job opportunities available as a result of the high growth rates.

The high attrition rate results in loss of domain knowledge, and additional expenditure on recruitment and training of new employees. In order to arrest the attrition Page 38 of 67

rates, software companies have been focusing on in-house training and development, especially in relation to domain knowledge, project management and leadership skills. Also given the rapid developments in technology, software companies also focus on continuous retraining of technical manpower. This enables them to attract and retain clients, especially in emerging technologies. With more global IT service players entering India, attrition rates may go up. And given the continued tight supply of high-skilled IT professionals, the attrition rate is expected to remain high.

Attrition rates (per cent) 2000-01 HCl Tech 9.1 Hexaware Igate 16.0 Satyam 15.1 Patni 15.6 Infosys 11.2 Wipro Source: Company releases

Table 2001-02 8.2 16.0 11.1 6.2 -

2002-03 8.2 12.5 15.0 15.6 26.7 7.0 10.0

Page 39 of 67

9. Industry statistics The statistics of some of the major Indian software companies are given below Table

Wipro Ltd. Background Year of inception Promoters Quality certifications

1945 Family owned ISO 9001, SEI CMM Level 5, PCMM Level 5

Future plans / Key issues Wipro has added 8,000 new employees in the past year, expanding its call centre services and beefing up software expertise in health care, retail, and energy. With three major acquisitions Wipro is also extending its global reach.

Consulting today accounts for 7% of revenues.

The goal is to turn Wipro into one of the Top 10 IT service companies in the world.

2000-01 2001-02 2002-03 Financials (Rs million) 31,208 35,715 41,032 Total revenue (Wipro Ltd) 17,516 22,490 28,549 Total revenue (global IT services and products.)

Total revenue (India and Asia Pacific IT services and 8,598 6,950 8,046 products) 18,077 21,500 25,523 Software development expenses (Wipro Ltd.) Software development expenses (global IT services and 9,039 12,188 16,515 products.)

Software development expenses (India and Asia Pacific 6,651 5,429 6,287 IT services and products) 13,131 14,215 15,509 Gross profit (Wipro Ltd) 8,477 10,302 12,033 Gross profit (Global IT services and products.)

Gross profit (India and Asia Pacific IT services and 1,946 1,521 1,760 products) 5,407 4,685 5,874 SGA (Wipro Ltd) 2,482 2,509 3,685 SGA (global IT services and products.)

1,182 946 1,283 SGA (India and Asia Pacific IT services and products) 8,704 10,949 11,015 PBDIT (Wipro Ltd) 6,680 8,661 8,132 PAT ( Wipro Ltd) 9,020 9,616 11,532 Gross fixed assets (Wipro Ltd) 9,242 11,197 16,563 Gross fixed assets (global IT services and products) Gross fixed assets (India and Asia Pacific IT services and 3,922 3,532 3,473 products) 4,219 5,084 6,425 Employees cost (Wipro Ltd) 465 465 465 Equity (Wipro Ltd) 19,652 25,328 33,303 Net worth (Wipro Ltd) Human resources (end of the year) (nos) 9,934 9,626 13,474 Total (global IT services and products) Page 40 of 67

Profitability ratios (per cent) Gross margins (Wipro Ltd) Gross margins (global IT services and products) Gross margins (India and Asia Pacific IT services and products) Operating margins (per cent) (Wipro Ltd) Net margins (per cent) (Wipro Ltd) Employee productivity ratios (Rs million) Employee costs/total revenues (Wipro Ltd.) (per cent) Revenue per employee (global IT services and products) Other ratios (per cent) Return on capital employed (Wipro Ltd) Revenue/gross fixed assets (Wipro Ltd) Revenue/gross fixed assets (global IT services and products) Revenue/gross fixed assets (India and Asia Pacific IT services and products) Return on net worth (Wipro Ltd) Utilisation rates (per cent) Gross (global IT services) Net (global IT services) Geographical break-up (per cent) North America Europe Japan Rest of the world Vertical market break-up (per cent) R&D services Telecom & Internetworking Embedded systems & IAD Telecom & ISP Enterprise solutions Financial services Retail Utilities Manufacturing Healthcare/corporate EAS Revenue break-up (per cent) Offshore Onsite Repeat business First time business Change in billing rates (per cent)

2000-01

2001-02

2002-03

42.1 48.4

39.8 45.8

37.8 42.1

22.6

21.9

21.9

27.9 21.4

30.7 24.3

26.8 19.8

13.5 -

14.2 2.3

15.7 2.5

2000-01

2001-02

2002-03

3.5

41.7 3.7

32.3 3.6

1.9

2.0

1.7

2.2

2.0

2.3

-

38.5

27.7

-

-

66.0 74.0

64.0 29.0 6.0 1.0

57.0 36.0 6.0 1.0

63.0 30.0 6.0 1.0

-

50.0 50.0 -

38.0 16.0 16.0 6.0 62.0 16.0 10.0 15.0 9.0 6.0 6.0

2000-01

2001-02

2002-03

-

47.4 52.6 -

46.5 53.5 91.0 9.0

Page 41 of 67

-5.7 Onsite -6.7 Offshore Client details (nos) 217 226 288 Active clients 65 81 95 Million dollar clients Client concentration (per cent) 8.0 7.0 8.0 Top 30.0 29.0 24.0 Top 5 45.0 42.0 38.0 Top 10 Major clients Epson, HP, Magneti Marelli, Microsoft, NCR, Sony, StorageTek, Sun Microsystems, Texas Instruments, Thomson, Toshiba, ABN Amro, Daiwa, Franklin Templeton, JP Morgan, Morgan Stanley, Thomas Cook, Scottish Parliament, Norwegian Directorate of Taxes, City of Toronto, Dubai Government, Central Board of Excise and Customs, Government of India, Unit Trust of India, Allianz Church & General, Farmers Insurance, Skandia, Winterthur, General Motors, OTIS, Seagate, Content Guard, Corel, Pindar, Xerox, Best Buy, Blackwell’s Book Services, Excel, Gillette, Home Depot, Menlo logistics, Weyerhaeuser, Service provider, BSI, Genuity, KVH Telecom, NTL, Sonera, Spice, TeliaSonera, Compaq, Alcatel, Analog Devices, Ericsson, Fujitsu, Lucent, NEC, Nokia, Nortel, Sun, Upaid, British Petroleum, Centrica, National Grid Transco, PacifiCorp, Thames Waters Major acquisitions Spectramind – BPO AMS - Utilities & Energy practice Nervewire - Financial services Offices; nature (location) Branch offices - Canada, Finland, France, Germany, Japan, Sweden, Taiwan, UK, US (8) Source: Company reports

Page 42 of 67

Infosys Technologies Ltd Background Year of inception Promoters Quality certification

Table 1981 Technocrat start-up ISO 9001:2000, SEI CMM Level 5, PCMM Level 5, CMMi Level 5

Future plans /Key issues Infosys plans to increase its presence in the IT consulting, systems integration, IT outsourcing and business process outsourcing service lines. The company has set up a subsidiary for business process outsourcing, Progeon. Infosys also plans to acquire a niche consulting company, using its cash balance and stock.

The key issue for the company is to move up the IT services value chain and to attract and retain high quality talent.

Will become a billion dollar company this fiscal year.

2000-01 2001-02 2002-03 Financials (Rs million) Revenues 19,599 26,036 36,227 Exports 18,740 25,525 35,435 Software development expenses 8,709 12,248 18,133 Gross profit 10,891 13,788 18,094 SGA 2,649 3,411 5,374 PBDIT 8,242 10,376 12,720 PAT 6,288 8,080 9,579 Gross fixed assets 6,311 9606 12,733 Employees cost 7,178 11,179 16,771 Equity 331 331 331 Net worth 13,896 20,803 28,607 Human resources (end of the year) (nos) Total 9,831 10,738 15,356 IT professionals 8,656 9,405 14,001 Attrition rate (per cent) 11.2 6.2 7.0 Profitability ratios (per cent) Gross margins 55.6 53.0 49.9 Operating margins 42.1 39.9 35.1 Net margins 32.1 30.3 26.4 Employee productivity ratios (Rs million) Employee costs/ Revenues (per 36.6 41.9 46.3 cent) Revenue per employee 2.0 2.5 2.8 Cost per employee 0.7 1.1 1.3 Gross profit per software 1.3 1.5 1.5 development employee Page 43 of 67

Profit per employee Gross fixed assets per employee Other ratios Return on capital employed (per cent) Revenue / gross fixed assets (times) Return on net worth (per cent) Debtors outstanding (days) Utilisation rates (per cent) Including trainees Excluding trainees Geographical break-up (per cent) North America Europe Asia Pacific India Others Vertical market break-up (per cent) Insurance Banking and financial services Telecom Manufacturing Retail Energy and utilities Transportation and logistics Others Service lines break-up (per cent) Development Maintenance Re-engineering Package implementation Consulting Testing Engineering services Other services Products Revenue break-up (per cent) Products Services Offshore Onsite Exports Domestic Repeat business

0.6 0.6

0.8 0.9

0.7 1.0

2000-01

2001-02

2002-03

-

50.5

43.8

3.1 58.0

2.7 46.6 47.0

2.8 38.8 52.0

67.4 78.3

67.4 78.3

77.6 82.2

73.5 18.8 1.4 6.2

71.2 19.5 2.0 7.3

73.0 17.7 2.1 7.2

14.2 19.5 18.4 17.8 9.1 1.4 2.2 17.4

16.2 20.4 15.6 17.1 12.4 2.0 2.7 13.6

14.3 23.3 15.2 16.4 11.4 2.9 6.8 9.7

40.0 25.4 9.3 7.2 4.9 2.9 1.7 6.1 2.5

32.0 29.0 10.1 9.8 4.2 2.9 2.6 5.4 2.9

32.1 28.2 5.5 11.0 4.3 3.4 2.6 8.3 4.6

2000-01

2001-02

2002-03

2.5 97.5 48.5 51.5 98.6 1.4 85.0

2.9 97.1 49.2 50.8 98.0 2.0 88.0

4.6 95.4 45.5 54.5 97.8 2.2 92.0 Page 44 of 67

First time business 15.0 12.0 8.0 Change in billing rates (per cent) Onsite 48.4 5.5 -3.8 Offshore 34.9 -11.0 -6.2 Client details (nos) Added during the year 122 116 92 Active clients 273 293 345 Milion dollar clients 80 83 115 5 Million dollar clients 25 41 10 Million dollar clients 16 16 40 Milion dollar clients 2 Client concentration (per cent) Top 7.3 6.1 5.8 Top 5 26.0 24.1 23.4 Top 10 39.2 39.4 37.3 Major clients At the end of June 2003, there are 37, 19 and 3 customers of $5 million, $10 million and $40 million respectively.

Clients' concentration of top, top 5 and top 10 clients is 7%, 25% and 38% respectively as of September 2003.

Airbus, Boeing, Johnson Controls, Fidelity Investments, ING Group, Franklin Templeton Investments, ABN Amro Bank, ICICI Bank, Credit Agricole, Global Trust Bank, AXA, Fairfax Financials, Swiss Re, Blue Martini, I2 Technologies, Microsoft, Lucent, Nortel, Eastman Chemicals, Dell, Gap, Monsanto, Reebok, Toshiba, Adidas, JC Penney, Cisco, Telstra, Siebel, Dynegy, Schlumburger, Vivendi.

Offices: (location) Apart from India, the company has offices in Argentina, Australia, Belgium, Canada, France, Germany, Hong Kong, Japan, Netherlands, Singapore, Sweden, Switzerland, United Kingdom, United Arab Emirates and United States Tie-up partner, purpose The company has tie-ups with Microsoft for service using the .NET platform, with TIBCO for use of their products, with Siebel for systems integration, with SAP Markets for B2B marketplaces, and with Intel for enterprise applications.

Select software products The company's main product is Finacle in the banking vertical.

Source: Company reports

Tata Consultancy Services

Table

Background Year of 1983 inception Promoters Division of Tata Sons, the holding company of the Tata group Quality ISO 9001, CMM Level 5, P-CMM Level 4 certification Page 45 of 67

2000-01 2001-02 2002-03 at end of the year

Manpower (number) Total na 19,000 24,000 Financials (Rs million) Total revenue 31,424 41,870 50,120 Exports 28,700 38,820 45,450 Revenue break-up (per cent) Exports 91.3 92.7 90.7 Domestic 8.7 7.3 9.3 Major clients TCS last year bagged two $100 million plus contracts, one from GE Medical Systems for complete outsourcing of IT solutions for 24 countries, and the other from United Utilities na: Not available Source: Company reports

Table

Tata Infotech Background Year of inception Promoters Quality certifications

Tata Group ISO 9001, SEI CMM Level 5

Future plans / Key issues The company plans to focus on new markets in Europe and Asia Pacific. The company is focusing on expanding its offerings to other verticals, such as healthcare.

The company has tied up with Diebold for manufacture of automated teller machines (ATMs).

2000-01 2001-02 2002-03 Financials (Rs million) Total revenue 5,236 4,833 4,621 General and administrative expenses 2,361 2,190 1,974 PBDIT 548 294 361 PAT 265 205 305 Gross fixed assets 1,475 1,555 1,558 Employees cost 1,065 1,200 1,164 Equity 184 184 184 Net worth 1,759 1,906 2,055 Human resources (end of the year) (nos) Total 3,000 2,700 Profitability ratios (per cent) Page 46 of 67

Operating margins 10.5 6.1 7.8 Net margins 5.1 4.2 6.6 Employee productivity ratios (Rs million) Employee costs/Total revenues (per 20.34 24.84 25.19 cent) Revenue per employee 1.61 1.62 Cost per employee 0.41 Profit per employee 0.11 Gross fixed assets per employee 0.55 Other ratios (per cent) Return on capital employed 6.51 10.67 Revenue/Gross fixed assets (times) 3.55 3.11 2.97 Return on net worth 11.19 15.38 Debtors outstanding (days) 58.00 47.00 52.00 Major clients Metropolitan Life Insurance, Highway-to-Health, BP Amoco, World Books, Unisys, United Airlines, Northwest Airlines, Rabo Bank, Schlumberger, Konkan Railways, Container Corporation, BSNL, HDFC Bank, BSE, ICICI Offices; nature (location) Branch offices - Australia, Belgium, Germany, Japan, the Netherlands, South Africa, UK, USA (12) Tie-up partner; purpose Technology tie-ups with Unisys, Microsoft, Oracle, Cisco, Sun Microsystems, Computer Associates, Lucent, and IBM Source: Company reports

Satyam Computer Services

Table

Background Year of inception 1987 Promoters Technocrat start-up Quality certification ISO 9001, CMM Level 5 Future plans /Key issues Package implementation practice is likely to grow at a fast pace.

Focus will be on increasing business from the marquee customers bagged in the last two years.

The company has a high concentration of revenues (around 15 per cent) from its top client, General Electric.

The billing rates of Satyam are also marginally lower as compared to other large companies.

2000-01 2001-02 2002-03 Financials (Rs million) Page 47 of 67

Total revenue Exports SGA PBDIT PAT Gross fixed assets Employees cost Equity Net worth Human resources (end of the year) (nos) Total IT professionals Attrition rate (per cent) Profitability ratios (per cent) Operating margins Net margins Employee productivity ratios (Rs million) Employee costs/Total revenues (per cent) Revenue per employee Cost per employee Profit per employee Gross fixed assets per employee Other ratios (per cent) Return on capital employed Revenue/Gross fixed assets (times) Return on net worth Debtors outstanding (days) Utilization rates (per cent) Onsite (without trainee) Offshore (with trainee) Offshore (without trainee) Domestic Geographical break-up (per cent) North America Europe Japan Rest of the world Vertical market break-up (per cent) Manufacturing Insurance, banking and financial services Telecom Engineering

12,417 11,921 2,880 4,667 3,162 5,458 4,865 562 8,129

18,031 17,031 3,617 6,523 4,901 7,392 7,891 629 19,304

20,515 20,033 4,246 6,464 4,599 7,759 9,805 629 21,349

8,370 7,616 15

8,634 7,826 -

9,759 9,031 15.6

37.6 25.5

36.2 27.2

31.5 22.4

39.2

43.8

47.8

-

2.1 0.9 0.6 0.9

2.2 1.1 0.5 0.8

2.3 111.0

0.3 2.4 35.7 82.0

0.2 2.6 22.6 85.0

-

93.0 71.0 73.0 74.0

97.1 74.6 75.1 76.3

2000-01

2001-02

2002-03

80.8 5.6 2.5 11.1

76.6 10.2 2.3 10.9

76.9 12.4 2.4 8.3

20.2

35.0

33.0

36.2

39.0

37.1

8.0

10.0 -

10.0 Page 48 of 67

1.0 3.5 Healthcare Others 35.6 14.0 16.5 Service lines break-up (per cent) 63.9 52.1 49.1 Software design and development 21.1 29.7 26.6 Software maintenance 6.4 13.9 21.3 Packaged software implementation 8.6 4.3 3.0 Engineering design services Revenue break-up (per cent) Offshore 57.7 54.0 46.9 Onsite 42.4 46.0 53.1 Exports 96.0 94.5 97.7 Domestic 4.0 5.5 2.3 Repeat business 86.0 na First time business 14.0 na Change in billing rates (per cent) Onsite -6.5 Offshore -5.4 Client details (nos) Added during the year 102 100 Active clients 263 286 Client concentration (per cent) Top 19.8 17.5 Top 5 40.4 40.4 Top 10 52.3 53.0 Major clients As on September 2003, there are 72 million dollar customers.

Alltel, Boeing, Citigroup, EDS, Ford Motor, General Electric, General Motors, Lucent, Mitsubishi, Motorola, State Farm Mutual, Sony, TRW, Megasoft, Caterpillar, NCR, Microsoft.

Offices; nature (location) Branch offices - Australia, Belgium, Canada, Denmark, Germany, Italy, Japan, the Netherlands, Saudi Arabia, Singapore, Spain, UAE, UK, US (6) Capital expenditure plan (amount, funding sources, purpose) Plans to spend $ 20 million in expansion of existing facilities and new facilities in Bangalore, Hyderabad and Pune in FY04. na: Not available Source: Company reports

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10. SWOT Analysis Strengths 1. Efficient offshore delivery model.

2. Low-cost advantage of India.

3. Supply of skilled professionals and an educational system geared to deliver quality output.

4. Flexible organisation structures.

5. Reverse brain drain has started . over 35,000 Indians with US experience have returned to the homeland.

6. Sustainable and growing revenue stream and cash flow generation 7. Expertise in Banking, Financial Services and Insurance verticals.

8. Offshore development has now become mainstream.

9. Companies listed on NASDAQ and NYSE 10. Strong expertise exhibited in package implementation practice.

Weaknesses 1. Balance sheet size remains small except for a few 2. Brand name yet to be established in the higher end service lines.

3. Low presence in some verticals like government 4. Weaker domain knowledge in other areas such as utilities, hi-tech, manufacturing.

5. Small companies in the industry are not proactive in response to the changing business environment.

6. Scalability is an issue for some of the companies in the industry as the right talent is difficult to get.

Opportunities 1. Easier for Indian companies to build up their front end into higher end service lines as compared to global players setting up their offshore base for offering services in lower end service lines.

2. Can develop capabilities into new service lines like infrastructure management and testing services by leveraging on their robust delivery model. The new services can then be cross sold to existing clients.

3. Can leverage their offshore delivery model to offer services into new verticals like healthcare, retail and utilities.

4. Indian software vendors have the required metal to acquire companies abroad to gain access to clients or bring in consulting capabilities.

Threats 1. Competitors like IBM Global Services, Bearing Point, Accenture are aggressively ramping up their offshore operations and trying to replicate their delivery model in India.

2. Some of the biggest clients of indian software companies are themselves setting up their captive development centres in india.

3. Commoditisation of offshore advantage.

4. Outsourcing backlash.

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11. The challenges ahead‌ The Indian IT industry has grown over the past decade from being an exporter of technical manpower onsite to becoming solution providers to the top 2000 corporations across the globe. Given the cost advantage of offshore software development, global corporates continue to increase the outsourcing of their software requirements to the Indian companies, despite a slowdown in the overall IT spending. Today, India is one of the most favored destinations for offshore IT services. In spite of this favorable status, the share of Indian companies in the IT services industry is less than 2 per cent.

The Indian industry is highly fragmented and there is significant variation in the size of the players. Indian players today are increasing their presence in different service lines and different geographical markets across the globe.

In terms of geographical spread, North America, with 71 per cent of export revenues, continues to be the major geographical market of the Indian IT industry. Indian companies are increasingly focusing on expanding and diversifying their presence into the non-US markets, such as Europe and AsiaPacific, to reduce their exposure to the US market. The challenges, however, are significant in terms of cultural differences and language barriers in these markets. Many top companies have set up their operations in China so as to gain an access to the Japanese and East Asian markets.

Larger Indian companies have made inroads into new service lines like IT consulting, package implementation, system integration, and IT outsourcing, and are targeting new verticals such as utilities, healthcare and retailing in addition to the traditional financial services, telecom equipment and manufacturing industries.

Many companies are looking forward to acquisitions and alliances as a part of their growth strategy. The future growth and profitability of Indian software companies would depend on many factors like geographical spread of businesses, vertical domain expertise and their ability to move up the value chain.

11.1 Geographical opportunities and threats Given the continued slowdown in the US economy, there has been a decrease in the IT spending by the US corporations in the past two years. Hence, Indian software companies have been attempting to penetrate markets in other regions, such as Europe and Asia-Pacific (Japan, Australia and Singapore). Given that North America accounts for 45-50 per cent of the global IT spending, it is likely to dominate Indian software exports in the medium term. However, growth in the European and Asia-Pacific markets could be restricted, due to language and cultural issues, outsourcing trends and local competition.

Lack of adequate knowledge of the local language, business customs and culture, could pose a significant challenge for the Indian companies in acquiring clients in European countries (except UK where Indian software exports have increased from 12.6 per cent in 2001 02 to 14 per cent of the total software exports in 2002-03). In addition, European decision makers lay significant emphasis on long-term relationships with their vendors, resulting in longer decision Page 51 of 67

cycles than in the US. This may result in higher client acquisition costs for Indian companies. Also, European and Asia-Pacific corporations are not as comfortable outsourcing their software requirements to Indian companies, compared with US corporations. Indian companies would also face severe competition from local companies, and other Asian companies, especially in the Asian markets. Indian companies could leverage their experience in project management (gained in the US market) as a competitive advantage. Also, given the geographical and cultural proximity of China and Japan, several Japanese companies are outsourcing their IT services requirements to China by setting up joint ventures or subsidiaries in China. Indian companies have been quick to capitalise on this factor and have themselves set up subsidiaries in China, primarily to cater to the Japanese and East Asian countries. Till date, 14 Indian companies have set up shop in China. The prominent ones include Tata Consultancy Services, with a staff strength of 100. Other companies that have established their presence in China are Satyam (27), Mphasis (50).

Scale of operations Most Indian companies are small as compared to the companies in the developed markets. This has restricted their ability to obtain large projects from clients in business critical areas. The benefits of scale become evident when we compare some of the top Indian players with the global IT services players in terms of revenue per employee.

11.2 Scalability options A company's ability to scale up its operations would be a key parameter in providing a competitive edge. While scale of operations would be beneficial to acquire big projects, scalability is important to take advantage of the opportunities that come their way. With the increased thrust on offshoring IT services, the ability to quickly ramp up operations would be a key success factor in the current scenario.

Quality Given the low entry barriers in the software services industry, large and medium-sized software companies would increasingly focus on differentiating themselves on the basis of quality and productivity, in order to maintain margins and competitive advantage. Software companies are likely to increasingly focus on improving the productivity of their employees, and the quality of their services, by adopting frameworks such as Carnegie Melon University-Software Engineering Institute's Capability Maturity Model (SEICMM), People Capability Maturity Model (P-CMM), Six Sigma initiatives, and Knowledge Management (KM) tools. India today has the maximum number of companies assessed at the SEI-CMM level 5 in the world. However, the ability of some medium and small companies to consistently deliver products and services on time still needs to be proven. A lot would be contingent on Indian software companies maintaining the industry's key value proposition of quality and productivity to customers.

Page 52 of 67

Increased focus right from the RFP stage In spite of the proven capabilities in terms of quality, many Indian companies have not been able to cross the request for proposal (RFP) stage when it comes to bagging large outsourcing deals. This can be attributed to the lesser importance given to the RFP stage. Most RFPs of Indian companies contain general information running into several pages, with corporate information and a description of the technical skills of the company. There is a need to customise the RFPs to the needs of the customers and provide them with business solutions. Indian companies need to invest considerable time and money in RFPs so as to solicit a favourable response from the customers.

Vertical markets The level of IT investments and the key drivers for investments vary widely across the various sectors of the economy, depending on the level of competition, and expectations of the future growth and profitability. Indian companies have a significant presence in the banking, financial services and insurance segment. Indian software companies need to develop domain expertise across different segments, which will be an important parameter for success across different verticals. Over the past two years, Indian software companies have made inroads in new verticals such as utilities, healthcare and retailing.

To gain a competitive edge, some companies may also focus on niche vertical markets such as outsourcing of telecom R& D and banking, which are expected to offer adequate market size and higher billing rates.

11.3 Products and services India has been able to capture a meagre 0.2 per cent of the $200 billion software products market. Indian software companies have a marginal presence in the packaged software products market. According to estimates, products and package sales account for 5-6 per cent of the total industry revenues.

India's core strengths lie in lower costs of development, large pool of entry and mid-level talent, and mature quality management processes. In addition to the risk during development, the software products business requires a sizeable investment in sales, marketing and branding; a sizeable pool of high-end architectural, design and testing skills and flexible dynamic development environments. Last, but not the least, product play require companies to be in the customers' markets. Hence, Indian companies have primarily focused on IT services, and have been unable to compete with global companies like Microsoft, Oracle, Adobe and SAP. Indian software companies are likely to continue to primarily focus on providing software services, due to these high costs and the risks involved in developing and marketing software products; the small size of the domestic market for software products; and the high level of software piracy in India. (Software services include services such as application development, application maintenance, conversion and migration.)

However, there have been some success stories in areas like banking, where Indian companies have been able to achieve brand recognition. For instance, Page 53 of 67

Infosys (Finacle), Polaris (OrbiOne), Iflex Solutions (Flexcube) and TCS (Quartz) have developed banking automation software for the domestic and export markets. In addition, Tally Solutions and TCS have a significant presence in the accounting software market.These companies are likely to continue to focus selectively on software products targeted at corporate consumers, especially in the banking and financial services sector, accounting, telecommunications and ERP. Some of the other success stories in the products space are of ICode, Talisma Corporation and Subex Systems Ltd. ICode, a purely product concern, developed one of the world's first enterprise-resourceplanning, or ERP, software products for small and mid-size businesses. The company has been profitable since it started up in 1994. Talisma Corp makes Web-driven customer relations management (CRM) software, which supports client services, marketing and sales for businesses. It has grown 70 per cent last year and is expected to break even this year. Bangalore-based Subex Systems Ltd got into the services business in 1997, but at the same time it decided to develop a telecommunications fraud management product. Ranger, launched in 2000, helps telecom carriers curb fraud through innovative subscriber-profiling techniques.

Service lines At present, India has a significant presence in only two out of the ten major service lines: custom application development and application outsourcing.

These two account for only 10 per cent of the global IT services market. The marketshare of Indian companies in the other service line is less than 1 per cent. In the past 1-2 years, several large Indian companies have begun to broaden their service offerings. Service lines with significant potential for Indian software companies are IT consulting, IT training and education, network infrastructure management, and network consulting and integration. Indian software companies face significant entry barriers in their entry into higher segments like IT consulting, primarily in terms of: 1. Client relationships which are typically at the chief information officer level rather than CEO and board level 2. Domain and business knowledge which is primarily restricted to IT operations rather than strategy and business and 3. Human resources i.e. the ability to attract and retain high quality manpower.

Competition In their attempt to offer IT consulting services, Indian software companies are likely to face significant competition from established IT consulting companies such as IBM Global Services (including the recently acquired PwC Consulting), Accenture, Bearing Point (formerly known as KPMG Consulting), Cap Gemini Ernst and Young (CGEY). Many global IT services companies have already established their presence in India and are currently expanding their Indian operations to take advantage of the lower costs of technical manpower available in India. As per recent media releases, the MNCs are expected to double their offshore

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staff strength by the end of this year. There is an increasing threat of the MNCs bidding lower rates for offshore work to be carried out from India. This is likely to further increase the pressure on the margins of the Indian software companies. However, to what extent the MNCs would be able to reduce their costs by relocating their offshore operations to India, remains to be seen.

Onsite- offsite ratio Over the years, the delivery model of the Indian software industry has changed from providing technical manpower onsite to providing offshore services, mainly in the areas of custom application development and application outsourcing.

Offshore development has higher profit margins than onsite development. Indian companies usually attempt to locate a large part of the development team at their offshore locations. Generally, the project starts with a large onsite team during the initial phase of the project (design and specifications). During the implementation phase, there is a gradual increase in the size of the offshore team and a reduction in the size of the onsite team. Given the cost pressures, and increased acceptance of the offshore delivery model, the level of offshore outsourcing is likely to continue to increase. This is likely to be partly offset by a higher onsite component in the value-added services (such as system integration and IT consulting).

Visibility Companies in markets like Europe need a higher level of comfort for outsourcing business-critical applications to offshore centres like India. Indian companies need to increase their brand awareness in the global markets in order to gain recognition, which would enable them to win such large projects. Brand recognition would also enable Indian companies to secure contracts for higher value-added IT services, such as IT consulting. In order to improve their brand recognition, many Indian software companies have listed their stocks on international stock exchanges like the New York Stock Exchange (NYSE) and NASDAQ. Companies have also increased their presence in European and Asia-Pacific markets by establishing their marketing offices in these countries.

USP Over the years, the key proposition of the Indian software industry has changed from being low-cost providers for coding and testing software services to complete life cycle solution providers. As companies move up the value chain into new service lines like IT consulting, the key value proposition that they need to offer the customers is business innovation. Indian firms need to blend strategy with technology while offering their services. Corporations across the globe are going for vendor consolidation. Companies need to offer end-to-end solutions to obtain better contract terms and simplify project management.

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12. Signs of recovery Corporations across the world have started showing signs of recovery. This is mainly a reaction to the over-investment in information technology (IT) in the past decade. Businesses are a lot more circumspect on IT spending now. They are no longer as eager to throw their dollars behind tech investments in mindless abandon as they were before, looking for the Holy Grail of instant productivity gains. The new corporate tech strategy will increasingly spell out clear-cut return-on-investment goals. Companies will also look for ease of implementation and integration when considering investments. As a result, tech companies will now to have to find new ways of courting more demanding customers.

Our estimate of growth in global IT spending for the next 5 years is about 5 per cent an annually. Although volume growth will be higher, the pricing pressures that have built up in the last 2 years will keep the growth at the above levels. (The pricing pressure is also partly due to the global phenomenon of offshoring work at lower rates).

Offshoring goes mainstream, presenting huge business potential In a buoyant IT spending scenario, Indian players will naturally do well.

Indian players, with their low-cost, high-quality proposition, have established a name for themselves in the IT services space. Clients are today more comfortable outsourcing their IT services requirements to offshore vendors, and more convinced about the offshore delivery model of the Indian players. Indian players have also expanded the breadth of their service offerings and started offering higher-end work such as infrastructure management, package implementation and IT consulting. Hence, the addressable market size has increased for the Indian players. In the light of the recent study by McKinsey, which has stated that every dollar of work offshored added $1.12 to the US economy, we expect a further surge in offshore outsourcing to destinations like India. Overall, the global economy benefits from outsourcing and this economic justification will make sure that the trend continues. estimate of the potential IT services exports from India is $44 billion, as against the current global IT spending of Page 56 of 67

$875 billion (global IT services amounts to $385 billion). Currently, the share of India in global IT services is about 2 per cent, which, we expect, will grow to 12 per cent. Our estimate for IT services exports from India for 200304 is $9 billion (25 per cent Y-o-Y growth).

12.1 Growth drivers for offshore outsourcing Traditional service lines and verticals will continue to drive growth in the coming years. Apart from these, new service lines like infrastructure management services and package implementation will also contribute a higher percentage to the topline of Indian software companies.

Verticals: Utilities, healthcare and retail largely untapped In terms of verticals, although manufacturing and telecom have been laggards over the past 24 months, a recovery in these sectors and focus on reducing costs will lead them to increase offshore outsourcing. The icing on the cake is that verticals like utilities, healthcare and retail have started offshoring work and there is a huge untapped potential.

Expected growth rates and drivers of growth Verticals Growth (CAGR) for the next 3-4 years (%) Financial services 25-30 Telecom

15

Manufacturing

20-25

Utilities

40-45

Healthcare

40-45

Retail

40-45

Transportation & logistics

35-40

Drivers

Increased competition, Basel II requirements, CRM, e-Solutions, banking software Need to save on costs and realign R&D spends Increased focus on ROI and implementation of SCM, ERP across the enterprise Deregulation of markets in US and Europe Regulatory compliances like HIPAA, HL7, 21CFR 11 Recent tax breaks and robust increase in consumer spending in the US Revival in business travel /tourism, robust economic growth and need for better SCM

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12.2 Service lines Infrastructure management services: The market size for infrastructure management services is estimated to be as big as application development. It is estimated that 18 per cent of the IT budget is spent on infrastructure management services. Of the total infrastructure management services, 5 per cent are currently remotely managed, and approximately 25 per cent can be potentially offshored.

Package implementation: This service line also has large potential in terms of growth. Indian companies have been late entrants in this service line, but of late have carved out a niche for themselves and are competing against the biggies in this space.

The growth in this service line is mainly due to 1. Corporations rolling out packages across the divisions and geographies. In the short term, growth would continue to come from corporations rolling out packages across the enterprise.

2. The verticals driving growth for this service line are high-tech manufacturing, financial services, retail and logistics.

13. Player strategies and the payoff The intensity of competition in any industry is neither a matter of coincidence nor bad luck. Rather, competition in an industry is rooted in its underlying economic structure. With offshoring. now emerging as a proven and cost-competitive option, the proportion of offshore services is also rapidly expanding. The increasing size of orders and the widening breadth of client base are clear illustrations of this unmistakable trend. Given the potential of this trend, everybody wants a piece of the action. At the same time, what the client is looking for is a long-term partnership model with the vendor. The key attributes of the partnership model are: 1. Vendor consolidation . a client will look at only 2-3 strategic long-term vendors.

2. Large deal sizes.

3. Vendors need to have deep industry expertise and domain knowledge.

4. Comfort in the relationship . top-level management involvement, integrity and commitment.

5. Ability to address the problem areas of the client.

Therefore, if Indian vendors want to enhance long-term competitiveness and sustain growth rates, they need to address the competition, and more important, the needs of their clients. To cut a long story short, the value proposition needs to shift from .IT service provider. to .solution provider. This way they can achieve differentiation.

Illustration: Staying competitive Page 58 of 67

Differentiation is also necessary, as the global MNCs will double their Indian manpower to 25,000- 30,000 people by December 2004, from the current 10,000-12,000. In our view, the global majors will only use their Indian presence as a back-office for the global delivery franchise, due to their own structural and strategic dilemmas. Global vendors are constrained by risks of profit declines worldwide as offshoring expands.

As a result, there is no volume risk for Indian frontliners.

Operating margins to be determined by choice of business model Companies need to take proactive measures to improve their productivity, to arrest a major fall in margins. The increase in employee costs and higher selling and marketing expenses could lead to a fall in operating margins by 500 basis points over the next two years.

However, players with differentiated, solution-based business models can arrest the margin fall. The key to maintaining or increasing margins is improving productivity in the following ways: 1. Transition to higher value-added solutions-based services.

2. Improve utilisation rates.

3. Manage attrition levels by providing better growth opportunities and pay packages to employees.

4. Improve delivery processes and project management skills.

5. Improve relationship management with clients, which will help to mine deeper into the account and increase the average deal size.

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14. Market potential As a result of the squeeze on IT budgets, the IT service providers faced increased pricing pressure over the past two years. The focus of the customers has turned on reducing IT-related costs. This has sent many global players looking for offshore software development to reduce their costs. Meanwhile, the Indian players with their low-cost, high-quality proposition, have established a name for themselves in the IT services space. Clients, today, are more comfortable outsourcing their IT services requirements to offshore vendors and more convinced about the offshore delivery model of the Indian players.

Also, the Indian players have improved the breadth of their service offering and have also started offering higher-end services such as infrastructure management, package implementation and IT consulting. As a result, the addressable market size has increased for the Indian players.

Ramp-up of offshore operations This increased pressure on margins has led many global players to consider offshore delivery as an alternative for lowering their costs. In addition, the availability of high quality technical manpower at low cost has prompted many MNCs to shift their operations to offshore locations like India. Over the past year, many global players have substantially ramped up their employee strength at their offshore locations and have announced plans to double their existing employee strength by the end of this year. Also, in the case of companies like Accenture, the outsourcing business has witnessed a growth rate of 37 per cent in 2002-03. This has also led to it increasing its offshore operations.

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Volumes to grow further.

Indian players will continue to benefit from the offshoring wave. Many Indian companies expect a substantial ramp-up in the amount of offshore work, and have hence increased their recruitments over the last two quarters.

Improved utilisation rates The increased offshoring is also being reflected in the improved utilisation rates for some of the top companies over the past one year.

The utilisation rates have dipped recently, as hiring numbers have increased in the last 2 quarters. But for this, the utilisation figures would have been moving upwards.

Infosys utilization rates

Satyam utilization rates Page 61 of 67

Future drivers for offshore outsourcing So far, so good. The question on everybody.s mind now is whether this offshore momentum will continue till 2010 and beyond. To answer that question, we looked at some of the major drivers for growth. Traditional service lines and verticals will continue to drive growth in the coming years.

Apart from these, new service lines like infrastructure management and package implementation will start contributing more to the topline of the Indian software companies. In terms of verticals, although manufacturing and telecom have been laggards over the past 24 months, a recovery in these sectors and focus on reducing costs will lead them to increase offshore outsourcing.

Financial services will continue to drive growth Traditionally, financial services have been the biggest spenders (25 per cent) on IT services. This sector is expected to continue to invest heavily, mainly because of the need to be highly competitive. The work offshored will be mainly the development and maintenance work. Recently, many Indian players have increased their revenues from this vertical, because of the increase in the maintenance work.

Many Indian players get a major portion of the revenues from banking, financial services and insurance. Some of the small players have developed specific niches within the sub-verticals in the BFSI space and are catering to the needs of clients through specific solutions.

We estimates the vertical to grow at a CAGR of 25-30 per cent over the next 3- 4 years.

Telecom to increase offshore outsourcing Bad health of telecom firms is good news for offshore vendors The telecom sector has been in dire straits over the past 2-3 years, with most of the telecom majors across the world making huge losses. This has led to their drastically cutting IT spending. This has had a positive impact on the Indian vendors. A lot of work that was earlier being done by global IT services providers has now started moving offshore because of the cost- effectiveness of the Indian players. Much of the market in the IT Page 62 of 67

services in this vertical is replacement market. Work that was earlier done onsite but can be done offshore, is being given to offshore vendors due to the imperative for cost reduction.

OEMs . early adopters of offshore outsourcing In the telecom vertical, the early adopters of the offshore outsourcing model were the original equipment manufacturers (OEMs). Apart from the cost-related advantages, they were primarily attempting to reduce their time to market.

R&D players . focus on cutting costs R&D players also are moving offshore mainly to reduce their costs and consolidate their R&D facility.

Service providers . lower the operational expenditure For service providers, there was no imperative earlier to reduce costs.

Recently, demand has gone up, but the revenue per subscriber is not increasing.

Service providers have drastically reduced their costs on the capital expenditure front but are faced with the problem of how to reduce their operational expenditure. So some amount of work that was earlier done by the big players is likely to be given to offshore vendors, which would help reduce their costs dramatically. The offshore advantages of processes and quality improvement are increasingly driving players in the telecom space offshore to destinations like India.

Need to focus on offering solutions to clients However, Indian players still have a long way to go in terms of offering solutions to their clients. The major portion of the work in this vertical will be in package implementation, development and maintenance.

We estimates the telecom vertical to grow at a CAGR of 15 per cent over the next 3-4 years.

Utilities to be driven by deregulation of markets Late adopter of offshore outsourcing This sector has been a late convert to the offshore outsourcing model. The primary reason is that so far, it was not imperative for the utility companies to reduce cost. The business model was structured so that the entire cost was either passed on to the consumer or subsidised by the government. So utility companies did not resort to offshore outsourcing. But the rules of the game are fast changing. With most of the natural monopolies now opening up to competition, players face the imperative to be cost-efficient and competitive.

This can increase their IT budgets. With the deregulation taking place in most developed markets, many players in this space have started considering offshore outsourcing as a way of reducing costs and becoming more competitive.

Need to have domain experts However, domain knowledge is a must for getting into this vertical. Also, each market is different in terms of regulations and market structures. Hence, Indian companies need to recruit experts who have a rich experience in the local market.

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Indian companies will need to invest in developing capabilities to cater to most of the developed markets so as to gain a foothold in this vertical.

The initial assignments coming into this sector will be in the form of support and maintenance of customer information systems.

We estimates the utilities vertical to grow at a CAGR of 40-45 per cent over the next 3-4 years.

Manufacturing to show a lag effect The manufacturing sector is the highest spender on IT services after financial services, but the global economic slowdown has caused the industry to cut its IT budget. However, as corporate profitability rises, so will capital spending.

There will be a lag of almost three to four quarters before the IT spending by the manufacturing industry shows an increase. Most of the players are focusing on getting the best out of their existing IT infrastructure. Many companies are rolling out the software and packages they had bought in the late 90s across divisions and geographies. The focus is on integrating the IT systems in the companies.

The work from this sector is mainly in the areas of maintenance and support.

Infrastructure management services and package implementation is also expected to increase.

New verticals to grow at a fast clip Healthcare Regulatory compliances like HIPAA, HL7, 21CFR 11 will drive investments in this sector. Some of the healthcare companies have become the early adopters of offshore outsourcing and have increased the amount of offshore outsourcing in the last two years. Other companies are likely to follow suit.

We estimates the vertical to grow at a CAGR of 40-45 per cent over the next 3- 4 years.

Retail The retail sector in the US is expected to show robust growth over the next few years on the back of an increase in the consumer spending. The recent tax breaks are expected to give a major thrust to consumer spending. As the business grows, the companies in this vertical will need to invest aggressively in IT services. A substantial portion of this spending is expected to come offshore.

We estimates the offshore outsourcing to grow at a CAGR of 40-45 per cent over the next 3-4 years.

Transportation and logistics An increase in business travel, and a robust growth in the tourism industry are expected to act as major drivers of the airline industry across the world. With the increased thrust on low- cost, no-frills airlines, companies will increasingly need to outsource a major portion of their costs. The cost advantage offered by the offshore players will act as a driver for offshore outsourcing.

Companies are increasingly focusing on reducing the time to market. Thus the increased focus on supply chain management to reduce costs has driven the Page 64 of 67

growth in the transportation and logistics industry. The IT spending by this sector is also expected to increase substantially over the next 3-4 years. The drive to cut costs will push players in this industry to look offshore as a way to reduce costs.

We estimates offshore outsourcing to grow at a CAGR of 35-40 per cent over the next 3-4 years.

Infrastructure management services has huge potential The market size for infrastructure management services is estima.=OPPPted to be as big as application development. It is estimated that 18 per cent of the IT budget is spent on infrastructure management services.Of the total infrastructure management services, 10 per cent are currently remotely managed, and approximately 25 per cent can be potentially offshored.

Impediments for Indian players.

Though the potential market is huge, there are many factors in which Indian players will have to prove their mettle in order to capture a larger slice of the pie: 1. Previous experience in this line is a must, as this service is delivered online on realtime basis.

2. Infrastructure uptime is very important.

3. It is very important to have alliances with the top product and hardware vendors in the world. This helps to develop technological capabilities to deliver the services.

4. A huge amount of initial effort is needed.

The positives 1.Cost savings to the customer.

2. High quality of offshore services. The services are more proactive as compared to the onsite services. So the quality of services improves and customer satisfaction improves due to the use of an offshore model.

3. Higher billing rates, because the service is very critical.

4. Other positives are the long-term nature of the contracts and the fact that it is difficult to in-source these services.

5. The average deal size is quite large in these contracts, typically $30-40 million.

Package implementation also growing This service line also has large potential for growth. Indian companies have been late entrants, but of late they have carved a niche for themselves and are competing against the biggies in this space.

Some of the key success factors 1. A good understanding of the business processes of the client.

2. Ability to reduce the risk for the client by having the right capabilities.

3. Strong alliances with the enterprise software vendors.

Growth drivers The growth in this service line is mainly due to 1. Corporations rolling out packages across divisions and geographies. In the short term, growth would continue to come from corporations rolling out packages across Page 65 of 67

the enterprise. However, in the long term, Indian players would mainly do maintenance and enhancement work.

2. The verticals driving growth are high-tech manufacturing, financial services, retail and logistics.

The positives.

1. The client is able to achieve cost savings, as the incumbents will not be able to offer them substantial cost savings.

2.Most of the projects are fixed price projects. So there is ample scope for increase in the revenue productivity.

3. Potential deal size is likely to be $50-200 million over the next three years.

The negatives 1. Costs are high, thus margins are lower.

2. Comparatively higher risk than other service lines.

15. Conclusion Providing IT services is not just about meeting the clients' technical requirements, but providing them with strategic solutions that give a competitive edge.

Most Indian companies lack adequate business knowledge in specific verticals such as telecom, retailing and healthcare, primarily due to their focus on banking, financial services and insurance, and their dependence on fresh engineering graduates.

Large software companies have been recruiting experienced professionals with industry knowledge to improve their expertise and offer complete solutions to the different industry segments.

Industry knowledge would be a key determinant of success for Indian companies venturing into new vertical markets and entering new service lines like Health care. Many companies are looking forward to acquisitions and alliances as a part of their growth strategy. The future growth and profitability of Indian software companies would depend on many factors like geographical spread of businesses, vertical domain expertise and their ability to move up the value chain.

In India, there is no provision for software to be patented.Some IT companies in India feel that a non-patent for software products allows other companies to make similar products, adversely affecting the revenues of the former.

Given the labour intensity of the software sector, the issue of reservations in the private sector, apart from the public sector, could impact the industry.

Traditionally, recruitment within the IT industry has been based on merit.

Given the wide-ranging impact of this issue, there is a need for deliberations at the national level on the same. Since such a process takes a long time, it will not affect the software industry in the medium term.

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16. Bibliography Websites www.nasscom.org www.maqsoftware.com www.ciol.com www.economictimes.com www.infosys.com www.infy.com www.hcl.com www.satyam.com www.wipro.com

Reports,Magazines Crisil 2004 report Nasscom 2005 outlook report wipro report Infosys yearly report Infosys financial report Information Technology magazine Dataquest magazine Digit review Express Computer

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