IT Services

Analysis of IT Services Industry
1
Table of Contents
Global IT Industry :4
Indian IT Industry : 43
Export market : 72
Domestic Market : 114
Evolution of Indian IT Industry : 129
Policy Framework : 136
Cloud Computing-Analysis : 168
Mergers & Acquisitions : 214
Software Testing : 240
Non Linear Growth : 262
Impact of Currency Fluctuation : 292
Infrastructure Management Services : 318
Exports- Future Outlook : 356
Domestic Future Outlook : 429
2
Table of Contents
Exports-Summary : 356
Exports-Review and Outlook : 361
Exports-Employee Growth : 375
Exports-Segments : 385
Exports-Margins : 396
Exports-Trends : 414
Exports-Methodology : 426
Domestic-Review : 429
Domestic-Verticals : 443
Domestic-Trends : 465
Domestic-Outlook : 476
Domestic-Employee Growth : 482
Domestic-Methodology : 486
3
Global IT Industry
4
Global IT Industry
Overview
According to NASSCOM, the worldwide information technology

industry, comprising hardware, software, information technology
(IT) services and BPO, is estimated to have aggregate revenues of
$1,904 billion in 2013, an increase of almost 6.0 per cent over the
previous year.
IT + ITeS account for a major chunk of IT revenues with 44 per cent,
followed by hardware and software, which contribute around 38
per cent and 18 per cent, respectively.
5
Worldwide spend on IT and related business services
In the next 2-3 years, total spending on IT is expected to grow at a CAGR of 5.7 per cent
globally. At 6.4 per cent, Hardware and software spend are likely to grow faster as
compared to ITES-BPO and IT Services. 6
Worldwide IT spending forecasts
7
Worldwide IT spending forecasts
In the US, spending on equipment and software increased from
$1,140.8 billion in the first quarter of 2012 to $1,185.6 billion in the
fourth quarter of 2012.
At $1,195.3 billion, it grew by 0.8 per cent in the first quarter of 2013
over the fourth quarter of 2012.
The growth has been flat in the last two two-three quarters,
reflecting a modest spending on equipment and software .
8
Spending on equipment and software in the US (quarterly)
9
Hardware
Overview
According to NASSCOM estimates, hardware spending is expected

to cross $767 billion in 2014, from $599 billion in 2010, registering a
CAGR of 6.4 per cent.
Worldwide hardware spending
10
Worldwide hardware spending
In 2013, North America and Asia Pacific are expected to account for
31 and 33 per cent, respectively, of the hardware market; Western
Europe is likely to be third with 18 per cent of the market.
During 2013, the hardware market is estimated to grow by 5.9 per
cent as against 6.6 per cent growth in 2012.
Tablet and storage markets were the major growth drivers in the
segment.
In 2013, North American and Western European markets are
expected to rise by 5.4 and 1.8 percent respectively, while Asia-
Pacific market is expected to post a growth of 7.5 percent over the
previous year.
11
Region wise hardware spend
12
Key trends
Recovery in revenues
In 2012-13, revenues in the hardware segment grew by 10 percent.

Revenues across key hardware players grew positively.
Apple posted a staggering 45 per cent y-o-y growth. Among all
hardware companies represented in the table below, HP, Dell,
Fujitsu and Lexmark registered a decline in revenues during the
year.
13
Hardware players: Revenue growth
14
Growth driven by emerging economies
In 2012, economies around the world were impacted by slow
recovery in the US and sovereign debt crisis in Europe.
However, emerging economies like Asia-Pacific and Middle East
fared better as compared to advanced economies.
Growth in Asia-Pacific is primarily driven by an increase in demand
in the Chinese and Indian markets .
15
Growth in worldwide GDP
16
Currency volatility impacts margins
In 2012-13, the US dollar has appreciated against Euro and Pound

due to the crisis in Euro zone.
However, Yen appreciated against US dollar due to difference in
real interest rates of Japan and the US.
Such currency fluctuations have an adverse impact on the
revenues of the global IT players.
The results of many Indian IT companies have been impacted by
the same cross-currency effect.
17
Movement of 1 American dollar vs 1 unit of base currency
18
SGA and R&D expense increased
Although most of players witnessed a marginal rise in revenues,

the growth in margins was varied.
Given the intense competition in the hardware industry,
individual players do not have much control over prices and
margins of a company tend to be affected by its ability to control
costs.
Most companies undertook overall cost management exercises
such as inventory control and overall workforce reduction, which
either saw margins remain flat or improve marginally.
Margins were impacted unfavourably in the case of players where
SG&A and R&D costs increased.
19
Percentage change in R&D and SG&A expenses of major
players in 2011-12
20
Moving ahead
As realisations fall, cost reductions become imperative
Given the commoditised nature of the hardware industry,

competitive pricing pressures are expected to continue over the
medium term.
To maintain/improve margins, firms will have to sharpen their
focus on reducing their manufacturing costs, warranty costs,
structural or design costs and overhead or operating expenses.
Firms will also have to undertake productivity and efficiency
initiatives to improve utilisation rates of their existing workforce.
21
Moving ahead
Increased investments in R&D likely to differentiate offerings
In order to differentiate product offerings, firms will have to increase

investments in R&D.
With product development cycles in the hardware industry being long (3-
4 year), it would take time before these investments can start generating
returns.
Internal supply chain management to become critical
Given the pricing pressure within this segment, it is imperative for firms
to cut costs.
One of the aspects that will help in cost reduction is effective supply chain
management.
Organisations could either manage their supply chain internally, or
22
outsource the same to an external service provider.
Moving ahead
Internal supply chain management to become critical
Effective supply chain management will help reduce inventories and

associated costs.
Cost savings thus generated can help directly improve financial results.
Companies can also pass on such benefits to their clients by offering a
further reduction in prices.
23
Software product industry
Overview
The global software product market is characterised by stiff

competition, rapid technological changes and high rate of piracy,
besides changing customer needs, and frequent product
introductions and enhancements.
As employee costs escalated, margins continued to be under
pressure.
Organisations became more client-centric, decreasing the product
installation time and improving the ease of product use.
24
Worldwide spending on packaged software (2009-2014)
According to NASSCOM, spending on packaged software is expected to reach

$362 billion in 2014 from $282 billion in 2010, registering a CAGR of 6.4 per cent
(2010-2014). However, in 2013 the growth is estimated to slow down marginally
due to macroeconomic weakness. 25
Key Trends
Marginal rise in revenues of major players
As compared to 2011-12, revenues of all major software players in

2012-13 exhibited an increase of 4-10 per cent, excepting SAP,
which posted a growth of 14 per cent.
Change in revenues of major players in the software industry
26
SG&A costs as a percentage of sales decreased marginally
With effective client-mining strategies and administrative
management, selling, general and administrative (SG&A) expenses
dropped moderately.
On an average, SG&A expenses stood at 30-35 per cent of the
company's total revenue in 2012-13, which was marginally high
compared to the last year.
27
SG & A costs of major players
28
R&D expenses as a percentage of sales increased marginally
Software companies require healthy investment in R&D to develop
innovative products for addressing client-specific requirements.
In 2012-13, most of the players indicated a slow rate of investments
in R&D.
R&D costs of major players
29
R&D costs of major players
In light of the long product development and testing cycles in the
software product sector, CRISIL Research believes that significant
revenues from new product and service investments is unlikely to
be achieved for the next several years.
As delays in releasing new products adversely affect revenues,
software companies should adhere to product development
timelines.
30
Software piracy declines marginally
Software piracy is the unauthorised copying or distribution of

copyrighted software.
This is done by copying, downloading, sharing, selling, or installing
multiple copies of copyrighted software onto personal or work
computers.
Software products are highly subject to piracy, especially in
developing countries.
According to a study conducted by Business Software Alliance (BSA),
42 per cent of the software installed in 2010 on personal computers
(PCs) worldwide, were obtained illegally.
Among the emerging markets, India, China and Russia registered a
drop in piracy rates.
31
The global rate was increased from 35 in 2005 to 42 in 2011, as

emerging markets such Middle East/Africa, Central/Eastern
Europe region and a handful of Asian countries continue to
dominate the software market.
Emerging markets like BRIC (Brazil, Russia, India and China) who
have the highest rate of piracy of around 70 per cent, witnessed a
significant drop of 6 per cent, over the last 5 years.
Globally, piracy rates were the highest in Central/Eastern Europe
(62 per cent), Latin American countries (61 per cent), the Middle
East/Africa (58 per cent) and Asia-Pacific region (60 per cent).
Some positive changes could be seen in the rapidly developing
countries such as Russia, India and China.
32
Software companies are actively trying to educate consumers about
the benefits of licensing genuine products and lawmakers about the
advantages of the business climate, where intellectual property is
protected.
33
Region-wise piracy rates (per cent)
34
Piracy rates in BRIC countries (per cent)
35
Going ahead
With rising threat of unauthorised access, security software demand set
to increase
As concerns of electronic attacks from viruses and unauthorised

access to systems increase, we believe that demand for security
software is likely to go up.
Security investments will be considered strategic as opposed to
discretionary in those organisations where customer confidence
rests on data and infrastructure security.
36
Global IT services industry
Overview
According to NASSCOM, the global IT services industry is

expected to grow at a CAGR of 4.5 per cent from $746 billion in
2010 to $684 billion in 2014, led by outsourcing engagements.
World-wide IT services spending by foundation market
37
Global IT service lines
38
Key trends
Topline growth increased for most of the players
In 2012-13, the topline of major players increased on an average of

5-10 per cent due to increase in volumes across geographies.
Pricing pressures continued as clients either invested cautiously or
postponed their IT investments.
While there was strong demand for business process offshoring,
project and consulting segments remained lacklustre for most part
of the year.
Again, the fluctuation of US dollar against the major global
currencies has also affected revenues.
39
Revenue of major players
40
Going ahead
As offshoring increases, topline will continue to be under pressure
Revenues of global IT service majors will continue to be under

pressure over the medium term as offshore activity is expected to
rise.
In order to improve billing rates, firms need to increase revenues
from higher-end service lines such as package implementation,
consulting and systems integration.
To preserve margins, firms will have to maintain workforce at
optimal levels and improve utilisation rates, besides controlling
the SG&A expenses.
41
IT services: Key business drivers
42
Indian IT Industry
43
Indian IT industry
Overview
The Indian IT industry can be categorised into four main
components; software products and engineering services, IT
services, ITeS (IT-enabled services) and hardware.
The following table summarises the Indian IT-ITeS industry's
performance (domestic and exports) between 2007-08 and 2012-13
(estimated).
44
Indian IT industry
Overview
45
Key trends
46
Revenue growth driven by a shift towards high-value service-
lines and near-shoring
According to NASSCOM, the Indian IT/ITeS export revenues are
estimated to have grown by 10 per cent y-o-y to $76.2 billion in 2012-13.
Domestic market, however, is estimated to have posted aggregate
revenues of $32.2 billion in 2012-13, a muted growth of 2 per cent y-o-y.
Domestic growth was muted due to significant rupee depreciation
during the year.
Revenues of the top 4 players (TCS, Infosys, Wipro and HCL) grew by
20.8 per cent (y-o-y) in 2012-13 to touch Rs 1,714.1 billion.
It was mainly a volume driven growth. Demand was broad-based across
verticals, service lines and geographies.
47
Revenues of top 4 players
The establishment of near-shore delivery centres has also supplemented the

companies' revenue growth, enabling top players to increase their client base and
48
capture market share in remote locations.
Man-months Billed
49
Billing rates to impact margins
CRISIL Research expects the volume growth to continue but
pressure on billing rates may strain margins in this challenging
environment.
Billing rates for the Indian IT players have remained almost flat over
the last few years.
In the previous few quarters, players saw traction in fixed price
contracts as customers are looking for ways to transfer the execution
risk to IT vendors.
50
Offshore Billing Rate
51
Shift to output based pricing
Fixed price contracts imply productivity based pricing, while time
and material based contracts are determined on the basis of the
effort-hours put in.
Historically, Indian IT players mostly bagged contracts on a time and
material basis, wherein clients were billed on the basis of number of
the employees working for them and number of hours put in by
them.
However, with changing economic scenario, clients are demanding
more out of their IT service vendors, necessitating a shift towards
fixed price contracts.
52
Utilisation rates bottoming out
On the efficiency front, utilisation is expected to bottom out as IT
companies step up their efforts to manage manpower cost.
The sub-optimal utilisation in last few quarters was a reflection of
slower volume growth than anticipated by players.
Over the last 8 quarters, utilisations (including trainees) for Tier-1
players had come down to 68-69 per cent from 72 per cent.
However, it has shown early sign of improvements.
53
Utilisation Rate (Including Trainees)
54
Employee costs as a proportion of total revenue
Employee cost is the major cost item for any IT service company.
Although there has been a significant pressure of wage hike over
the last 5 years, players have been able to keep their employee cost
as a percentage of sales at 46-47 level.
Many operating levers like employee pyramid, offshore-onsite
employee mix and utilisation level helps players to manage
employee cost.
55
Employee costs as a proportion of total revenue
56
Margins pressure to reduce
Operating margins of software firms remained under pressure due

to the increasing employee costs.
However, in recent times depreciation of rupee has helped Indian IT
vendor to manage the same in better way.
The depreciation of rupee is expected to help players to improve
their operating margin.
Also over the long run, players can maintain their operating profit
margins by moving up the services value chain and improving
utilisations, apart from getting scale benefits in selling, general, and
administrative (SG&A) expenses.
57
Risks faced by an IT company
With an increasing number of organisations adopting the global
delivery model, they are confronted with new challenges and
risks.
Today, organisations work in diverse environments with varied
cultures, laws and regulations.
This not only requires organisations to be adept at people skills,
but also calls for an increased awareness of legal and regulatory
regimes in the host country, besides the ability to foresee and
manage various risks.
58
Risks faced by an IT company
59
Billing rate risks
Billing rate risks refer to the potential danger of clients
renegotiating billing rates, causing them to move southward.
A fall in billing rates may adversely impact revenues.
Billing rate risks could emanate from a number of factors, which
include the following:
Concentration of verticals
Verticals refer to various industries from which a firm derives its

revenues.
For a firm focused on a limited number of verticals, a downturn in
any of those verticals, or structural changes that the industry goes
through may adversely affect its revenues.
For instance, Aricent is a player focused solely on the telecom
vertical. 60
Concentration of verticals
As a result, the telecom meltdown in mid-2000 had a devastating

effect on the company financials.
The recent US mortgage sub-prime crisis also had a similar impact
on players specialising in the BFSI segment.
To counter this risk, it is imperative for a firm to closely monitor the
sectors it operates in and ensure diversity in verticals as sources of
revenue.
Concentration of service offerings
Changes in the service mix can impact a company's overall

performance.
Traditionally, Indian firms have focused on providing application
development and maintenance services.
61
Concentration of service offerings
Commoditisation of these service-lines could adversely affect billing

rates and, in turn, revenues.
In order to mitigate this risk, firms need to ensure that they operate in
a variety of service-lines.
Besides, they also need to ensure that they gradually move to higher-
end service-lines such as package implementation and systems
integration to command a higher price.
62
Geographical concentration
Geographical concentration refers to the amount of revenue that

comes from any particular region/country.
If a firm derives a major chunk of its revenues from a particular
region, an economic slowdown or downturn in the region could
adversely impact the firm's revenues.
For example, the slowdown in the US economy adversely impacted
Indian players, since most of their revenue was derived from the
US markets. In order to mitigate this risk, firms are actively trying
to diversify into European and Asian markets.
Recently, Infosys set up Infosys Shanghai to gain a foothold in the
Japanese and Chinese markets.
It also acquired Expert Consulting Inc in Australia for the same
reason. 63
Client concentration
Client concentration refers to the proportion of revenues a firm

derives from any of its clients.
If a firm derives majority of its revenues from any large client with a
high repeat business, it could lead to predictable revenue growth
and lower marketing costs.
On the other hand, however, it could jeopardise a firm's ability to
negotiate higher prices.
Any changes the client makes with regard to its IT spending, IT
strategy or deterioration in the client's credit worthiness could
adversely affect a firm's revenues.
Hence, firms strive to strike the right balance by ensuring that 10-15
per cent of their revenues are not derived from one particular client.64
Risks associated with financial operations
Risks due to exchange rate fluctuations
A majority of the business of Indian IT services players is transacted

in foreign currencies, which makes the industry vulnerable to
fluctuations of the Indian rupee against major global currencies,
namely, the US dollar, the British pound, the Japanese yen and the
euro.
According to NASSCOM, in 2011-12, the total Indian IT (including
software and hardware industry) industry derived around 67.7 per
cent of its revenues from exports.
Over the past 2 years, the Indian rupee has exhibited prolonged
volatility against the US dollar.
It appreciated by 4 per cent in 2010-11 and then depreciated by 6 per
65
cent in 2011-12 .
Risks associated with financial operations
Risks due to exchange rate fluctuations
Such currency fluctuation puts margins of players at risk. This has

been a major cause for worry to Indian players since the US accounts
for over 60 per cent of the revenues of the Indian IT industry.
In addition, majority of the contracts from Europe and the Asia-
Pacific region had been contracted in dollars.
To mitigate this risk, companies need to undertake proactive
hedging strategies such as purchasing foreign exchange forward
contacts to cover a portion of their receivables when the rupee
appreciates, or entering into a forward sell contract when it
depreciates .
66
Legal and regulatory risks
Contractual compliance
Initially, Indian firms had revenue streams that were predominantly

US-based.
The downturn in the US economy in 1999-2000 impacted revenues of
most Indian firms.
As a result, Indian firms are now trying to increase revenue streams
from other geographies as well.
This would involve entering into contracts with vendors from across
the globe that have varying legal and regulatory environments.
Firms need to ensure that they do not violate the law governing
contracts in geographies within which they operate.
67
Legal and regulatory risks
Immigration regulations
Most employees employed by Indian firms are Indian nationals,

while majority of their clients are US-based.
A proportion of services offered to clients needs to be performed on
site.
The ability of IT professionals to work in other countries depends
upon the necessary visas and work permits that they need to
acquire.
Any change in immigration regulations by any particular country
can adversely affect revenues of Indian IT firms .
68
Environmental risks
Political risks
Since Indian firms operate in a variety of countries, they are affected

by prevalent political climate in these countries.
Changes in government policies with regard to the IT sector will
impact revenues of players.
The recent debate over outsourcing in the US raised considerable
hullabaloo over the impact it will have on revenues of major players.
Majority of the firms have their offshore base in India. In the past few
years, the Indian government has been a coalition of several political
parties.
Withdrawal of support from any one of these parties will adversely
impact the pace of reforms in the Indian economy.
This will not only affect the capital market, but also firms. 69
Environmental risks
Risks due to increasing competition
The Indian IT services market is highly competitive. Competitors

include global consulting firms, sub-divisions of large
multinational technology firms, IT outsourcing firms, Indian IT
services firms, software firms and in-house IT departments of large
corporations.
Increased acceptance of the global delivery model has been forcing
MNC service providers to expand their base within India and
engage in predatory pricing.
In order to counter this menace, Indian firms need to invest in
R&D, selling and marketing, and move up the value chain.
This would help them differentiate their product offerings and
70
command a premium price.
Environmental risks
Risks related to inflation and increase in cost structure
A major cost component in the IT industry is employee-related costs.

These costs are also subject to a great deal of inflationary uncertainty.
Also, as competition within the industry intensifies and the need for
skilled man-power gains dominance, firms also increase their
poaching on each other's employees by offering wage hikes.
This results in a rise in employee costs, which in turn affects
margins.
71
Export market
72
Export market
Introduction
Exports account for almost 78 per cent of the Indian IT services

industry.
IT services exports have grown from $22.2 billion in FY 2008 to
around $43.9 billion in FY 2012, a CAGR of 14.6 per cent..
73
Composition of exports
74
India's exports by geography 2012-13
75
India's exports by geography 2012-13
The US accounts for over 60 per cent of the total IT services export revenues.
The slowdown in the US economy and the subsequent decrease in IT
spending by the US corporation took a heavy toll on the Indian IT players.
Consequently, Indian companies began diversifying their portfolio to
include other geographies such as Europe and Asia Pacific.
Also, most contracts are dollar denominated, the volatility of the rupee
against the dollar has emphasised the need for currency diversification
among the Indian vendors.
Apart from UK and Europe, Indian IT players are also exploring the markets
in Asia Pacific, Middle East and Australia to extend their geographical
reach.
This move is also expected to cushion them against the US dollar
fluctuations. 76
The US
Indian IT exports to the US accounted for around 61.5 per cent of the
total Indian IT exports in 2012-13.
The share remained stable at around 60 per cent over the last five years.
India's exports to the Americas
77
Europe
India's exports to Europe
78
Europe
India's exports to Europe
Europe has emerged as the second largest IT/ITeS market after the US.
In 2012-13, Europe (including UK) accounted for 28 per cent of India's
IT services exports.
Within Europe, UK is the largest market for Indian exports with a
share of almost 60 per cent.
Indian IT companies have gained a significant market in the European
region by garnering large contracts and deals from the region.
79
Region wise IT spend
IT spend had declined in America dropping to 45 per cent in 2012 from 46.5 in 2012. IT
spends rose in EMEA with its share increasing by 1 per cent to 35 percent in 2012. The share
80
of emerging markets (Asia-Pacific), however, increased marginally in 2012.
Europe
At present, the sovereign debt crisis is adversely impacting IT spends in
Europe. Apart from this, the other issues that the region faces are as
follows:
Growth in software export revenues from the European market are also
likely to be restricted by the limited presence of Indian software companies
in Europe and the inadequate vertical market expertise and language skills.
The business processes and practices followed in various European
countries are different from each other and from those in the US.
In addition, most European software firms, especially those in Germany,
specialise in vertical market segments such as insurance, manufacturing
and banking.
Indian software companies are yet to develop such vertical market
expertise, though they have already entered the European market.
81
Europe
The European market is highly regulated. European companies in general
are more conservative in their approach to outsourcing and offshoring in
particular.
Besides, they have a more detailed evaluation criterion for IT service
vendors.
Hence, decision cycles for outsourcing are typically longer in the European
market as compared with those in the US.
However, European companies are more likely to form longer term and
larger relationships (in terms of size of projects).
In addition, the existing shortage of software professionals in Europe is
likely to result in increased outsourcing of IT projects to India.
However, in the recent past Indian companies have doubled their efforts to
train their employees in various European languages and business culture,
82
especially German and French.
Europe
In addition, companies are increasingly recruiting local executives in

these countries, especially for selling, marketing and other client-
facing functions.
Indian software companies are increasingly likely to form joint
ventures and tie-ups with local European IT services companies for
jointly bidding for outsourcing contracts.
To address cultural differences, Indian companies are trying to
familiarise their existing and prospective clients with the Indian
business and social culture.
On the back of sustained efforts by Indian companies and also
because of the cost optimisation benefits offered by them, the
European region's offshoring to India is likely to rise in the medium
83
term.
Asia-Pacific
In Asia-Pacific, Japan alone accounts for over half of the IT spend.
Japan is a large untapped market, with low outsourcing penetration,
which has large potential for growth, provided it overcomes hurdles
like restrictions on consulting services spends, etc.
There is a large growth potential in key emerging markets such as
India and China.
The growth is driven by the fact that these booming economies are
at their nascent stage, where there is an increased demand for the
hardware segment.
Gradually, even software and services are continuing to grow.
Other Asia-Pacific regions too continue to perform at high-growth
levels.
84
Middle East & Africa
The Middle East region is characterised by large government
companies (oil, refineries, minerals, etc) with traditionally low IT
spends.
However, there is immense scope for Indian IT vendors to explore the
region and tap the potential market.
85
Exports by key vertical markets
Key verticals for IT-ITeS Industry 2013
86
Banking and financial services
The financial services sector (including securities, banking and

insurance services) is the largest segment of the Indian IT services
industry.
The segment contributed around 41 per cent of India's total IT-ITeS
exports.
In 2012-13, demand from the BFSI sector in the US did not grow as
clients took hit on profitability due to the general economic weakness.
At the global level, NASSCOM exepcts the spending on IT services by
the financial services industry to grow from $236.0 billion in 2011 to
$274 billion in 2014.
87
Worldwide financial services IT spend
88
The performance of the financial services sector is closely related to
economic cycles.
The slowdown in the global economic growth, especially in the US and
Europe, would result in a slowdown in the growth of IT investments
by the financial services industry.
Generally, the financial services segment has shown more willingness
to outsource a large share of its requirement of IT services.
Most of the Indian IT services companies have a significant presence in
financial services.
Some of the major Indian software players in the financial services
segment are Hexaware Technologies, Infosys, TCS, Wipro, HCL
Technologies, and Polaris.
89
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.
Percentage of revenues from financial services
90
Percentage of revenues from financial services
Key drivers of IT investments by the financial services sector are
likely to be regulatory changes [such as dodd-frank rule,
implementation of Basel-III norms], e-business initiatives, and
enterprise security (due to the increasing penetration of the Internet
for delivery of services).
Telecom
In IT services, the telecom vertical accounts for the second largest

share after the BFSI segment.
The telecom sector contributed around 19 per cent of the Indian IT-
ITeS exports in 2012-13.
91
Telecom
There are several Indian software companies that focus on the
telecom sector, viz, Aricent, Sasken Communication Technologies,
Tech Mahindra.
In addition, TCS, Wipro, Infosys, and HCL Technologies also have
a significant presence in the telecom equipment and service
provider segments.
At present, given the slowdown in the IT spending by the telecom
equipment sector, Indian companies have focused more on
telecom service providers.
Several global telecom equipment firms such as Nokia, Nortel,
Cisco, and Lucent, and service providers like British Telecom,
AT&T and Vodafone outsource a significant portion of their IT
services requirements to Indian companies. 92
Percentage of revenues from telecom
Manufacturing
The manufacturing sector contributed about of 16 per cent in 2012-13.

Given the scenario of intensifying competition in most manufacturing
players and their close linkages with economic cycles, the primary
focus of IT investments by the manufacturing sector would be on
improving competitiveness through enterprise software such as
product lifecycle management (PLM), SCM, CRM, ERP and e-
93
business initiatives.
Manufacturing
Growth in IT investments in the manufacturing sector is likely to be
largely driven by small and medium-sized companies.
Among various manufacturing industries, growth in IT
investments is likely to be higher in automobile (SCM, e-business
and embedded systems) and consumer goods industries
(embedded systems and CRM).
Percentage of revenues from manufacturing
94
Retailing
The share of the retail sector in the total Indian IT services exports
was about 10 per cent in 2011-12.
Given the growing competition in the industry, retailers are likely
to significantly step up their IT spending to reduce costs and
improve 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 largely expected in supply
chain and logistics management, CRM applications, and e-business
initiatives.
95
Percentage of revenues from retail
Media
The media sector accounts for around 2 per cent of Indian IT-ITeS export.
With increasing digital media distribution, media companies worldwide are
increasing their spending on IT services.
Players are trying to take advantage of emerging technologies for multi-
channel delivery, real-time advertising management, content
personalisation, targeting and search.
Going forward, the analogue-to-digital transition in the media industry is
96
expected to drive growth in their IT services spend.
Utilities
The utilities sector accounts for about 3 per cent of Indian IT-ITeS
exports.
In several developed countries, especially the US, the UK, Europe,
Australia and Japan, utilities like electricity, gas and water supply
are being gradually deregulated and opened to competition as
opposed to regulated and monopolistic markets in the past.
As a result, several new entities such as power generating
companies, independent power producers, energy service
providers, independent system operators, utility distribution
companies, and power exchanges have emerged.
Competition and deregulation have led to significant investments in
IT by various entities in the sector towards improving their
efficiency, profitability and customer service. 97
Utilities
The thrust of investments in the utilities sector is likely to be on
ERP, asset management systems, work management systems,
geographical information systems and CRM.
Utilities in the energy sector (electricity and gas) have also invested
significantly in e-business initiatives to enable energy trading
through online exchanges.
Over the medium term, IT investments in the sector are expected to
be primarily in enterprise applications such as ERP and CRM.
98
Percentage of revenues from utilities
99
Healthcare
The healthcare segment accounts for nearly 5-6 per cent of Indian IT-
ITeS exports.
Investments in IT by the healthcare sector are likely to be mainly on
customer (patient) management systems and maintaining electronic
medical records.
For instance, in the US, regulatory provisions (Health Insurance
Portability and Accountability Act) require healthcare service
providers to maintain an increasing proportion of their medical
records in electronic form to enable patients to switch service
providers easily.
IT investments in the healthcare sector are also likely to be driven by
emerging technologies such as biotechnology and bio-informatics. 100
Percentage of revenues from healthcare
101
Travel, transportation and logistics
The airlines and transportation sector accounts for about 3-4 per cent of
Indian IT-ITeS exports.
International travel industries, especially airlines, were severely
affected following the terrorist attacks on the US in September 2001.
Consequently, the IT spending by the sector had declined significantly.
It is now 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 increase their investments in IT
significantly.
The travel and tourism industry is likely to grow significantly in
Europe and Asia. 102
Travel, transportation and logistics
Primary areas of IT investments by the industry are likely to be in
Internet-based application softwares and CRM.
Thanks to the increased focus of global players on cost-
competitiveness through better management of their supply chain,
the transportation and logistics industry is expected to grow
significantly.
Growth in the industry would be largely due to the automobile, food
processing, and retailing industry.
Companies in these sectors are increasingly likely to outsource their
transportation and logistics functions to specialised independent
players.
103
Government
Globally, governments are likely to significantly increase their investment
in IT, given the increased focus on the following:
Improving the quality of governance
Improving interface with citizens
Improving the quality and efficiency of administrative services
Reduction in the size of manpower employed.
The government sector accounts for a sizeable portion of the worldwide
IT spend.
Several large global software companies, especially in the US, earn a
significant portion of their revenues from government sector projects.
However, in India, given the low billing rates, delay in payments and lack
of clear technical specifications by users, most large players have not
focused on undertaking software development work for the government.
104
Government
Small and medium-sized companies are likely to sharpen their focus on
government sector projects, due to increased competition in other
verticals.
The government sector is facing significant political challenges (related
to loss of local jobs) in offshore outsourcing of their IT investments.
Exports by service-lines
Indian IT services Exports
The Indian IT services export revenues (excluding revenues earned from

the export of software products, engineering and R&D services, ITeS
and hardware) are estimated to have grown at a CAGR of more than 14
per cent from $25.8 billion in 2008-09 to $43.9 billion in 2012-13.
105
Indian IT services exports - Key segments
106
Indian IT services export revenues
In 2012-13, the IT outsourcing segment accounted for about 49 per cent of

the total Indian IT services exports.
Revenues from this segment are expected to have grown by 12 per cent y-o-
y to $21.6 billion. At 44 per cent, project-oriented services accounted for the
second largest share. However, the share of this segment has declined over
the last four years. 107
Revenues by service-lines
108
Custom application development
Indian exports of custom application development (CAD) are
estimated to have grown at a CAGR of 13.5 per cent from $9.7 billion
in 2008-09 to an estimated $16.1 billion in 2012-13.
Although CAD comprises just over 5 per cent of the worldwide IT
services market, its high offshorability (up to 85 per cent of the work
in a typical CADM project can be delivered from offshore) makes it a
key service line for Indian IT services vendors.
It accounts for nearly 80 per cent of total project-oriented
engagements.
109
System integration and IT consulting
System integration (SI) and IT consulting contributed around 2.9 per
cent and 2.7 percent, respectively, to the total Indian IT services
exports in 2012-13.
The higher value-added-services such as IT consulting, system
integration saw rapid growth as providers strengthened their
capabilities and demonstrated value in these areas.
The trend is expected to continue for a few more years.
Demand for SI services continues to be dominated by clients who
seek help to integrate disparate systems and applications across the
value chain.
Increasing offshore acceptance and lower average revenue
generation from optimisation projects are expected to drive
increasing amounts of SI activities to low-cost locations. 110
System integration and IT consulting
While the nature of consulting service necessitates onshore presence
and delivery capabilities, increasing price pressure globally will
result in a higher component of effort moving offshore.
However, to become formidable in this segment, offshore players
will have to develop onshore delivery capabilities and domain
knowledge.
Application management
Application management services are estimated to grow from USD 3.7

billion in 2008-09 to USD 6.1 billion in 2012-13.
While much of the application service outsourced from India relate to
discrete maintenance and management services, growth in application
outsourcing revenues will pick up as customers become comfortable
with the concept of remote management of their software products.111
IS outsourcing/Infrastructure management services
Infrastructure management services (IMS) refer to maintenance,

administration, and troubleshooting and performance enhancement of the
IT infrastructure of any organisation.
This segment accounts for a lion's share in the total IT outsourcing services.
Currently, international players like EDS, IBM and Accenture dominate this
business.
The large Indian IT companies have also gained traction in this segment.
Export revenues of Indian IT services from the IS outsourcing segment have
grown at a CAGR of nearly 16 per cent from USD 8.5 billion in 2008-09 to an
estimated USD 15.5 billion in 2012-13.
The successful adaptation of offshore service delivery for several activities in
this segment, which were traditionally considered onsite, is helping to bring
about a change in how infrastructure outsourcing deals are being executed.
112
Support and training
Application implementation, software/hardware deployment, and

support services form the largest category within the support and
training services segment of Indian IT services exports.
Export revenues from this category are have grown from $2.1 billion
in 2008-09 to $3.2 billion in 2012-13, a CAGR of 11.8 per cent.
113
Domestic Market
114
Domestic market
Overview
The domestic market has evolved steadily to complement the growth

in IT-ITeS exports.
Robust demand over the past few years has helped India to emerge as
the fastest-growing IT market in Asia-Pacific.
As compared with the global IT industry, the domestic IT market is
still at a nascent stage.
The spending on hardware continues to account for a larger
proportion of the domestic IT spend, as a majority of the users in
India are in the initial stages of IT adoption, resulting in higher
investment in hardware.
In contrast, in most developed markets, corporates have shifted to
front-end development such as intranet, supply chain management
115
systems and customer relationship management applications.
Domestic IT-ITeS market
116
Domestic IT-ITeS market
In 2012-13, the overall growth in the domestic IT-ITeS market
estimated to have grown by 15 per cent in rupee terms after a similar
growth seen in 2011-12.
However, in USD terms, growth slowed down to 2 per cent from
about 9 per cent in 2011-12.
This is on account of a sharper rupee depreciation of 13 per cent in
2012-13 as against 5 per cent depreciation seen in 2011-12.
Thegrowth was driven by government focus on digital education
and e-governance at different government offices.
However, many of the government projects
117
Domestic IT-ITeS market - 2012-13E
118
Domestic hardware market
In 2012-13, hardware constituted 40 per cent of the domestic market share.

Despite the price hike due to the supply chain disruption, the demand
was good due to the refreshment cycle.
FY 13 has been a refreshment cycle for the industry as a whole.
The demand was mainly driven by demand for portable devices like
notepads, laptops and netbooks.
Besides, the networking equipment segment also witnessed a healthy
demand.
119
Hardware market size segment wise
The Indian PC landscape is divided among three different groups, namely, MNCs,
local brands and informal (assembled) vendors. In the Indian domestic hardware
market, large MNCs like HP, Dell, Acer IBM etc. account for about 85 per cent of the
120
total market share, while the Indian players control the rest.
Domestic IT services market
As per NASSCOM, India's IT services market has grown from $6.1
billion in 2007-08 to $12.2 billion in 2011-12, a CAGR of 19 per cent.
In 2012-13, the domestic IT services industry is estimated to be
around $12.4 billion, a growth of 2 per cent y-o-y.
The revenues from project oriented services are estimated to have
posted a marginal 1 per cent y-o-y rise.
However, in rupee terms growth was robust at 14 per cent. Growth
was driven by demand from new projects such as UIDAI, online
passport services etc.
121
122
The growth in the IT services market has been driven by continued
strength in demand for the system-integration and custom-
application development (CAD) services, besides increased
adoption of managed services and total outsourcing solutions by
domestic firms.
Domestic IT services demand is witnessing traction, as enterprises
step up investments to enhance their network infrastructure.
With the size and complexity of networks increasing, enterprises
are increasingly opting to outsource network management
activities to external experts, thereby increasing the demand for
managed services.
123
Software products and package software
Like the hardware and IT services segments, the growth in the
domestic software market too witnessed a slowdown in 2012-13.
This software segment is estimated to have clocked a y-o-y growth
of 2 per cent in the fiscal, as against a 6 per cent growth in 2011-12.
Domestic software products market
124
Domestic ITeS-BPO
Over the past few years, ITeS-BPO demand in the domestic market
has witnessed noticeable growth.
However, in 2012-13, USD revenue growth was muted due to
sharp depreciation of rupee.
In rupee terms, the growth was strong at 15 per cent.
However, we believe growth to moderate from now onwards due
to the slowdown in the telecom sector which accounts for the
largest chunk in the domestic BPO market.
125
Domestic ITeS market revenues
126
Growth in the domestic IT industry has been driven by the increased
level of IT adoption in some of the key domestic sectors such as BFSI,
telecom, consumer goods and airline/transportation industries.
These sectors have been early adopters of ITeS in the domestic market.
Currently, they account for nearly three-fourths of the business in this
space.
Other emerging verticals with significant potential include aviation,
hospitality and retail.
Services demanded by these segments are concentrated in areas of
customer care, sales and marketing, and transaction processing.
Intensifying competition and growing emphasis on customer
satisfaction are also driving public sector organisations towards BPO.
127
Government focus to improve efficiency by IT adoption and

spending on various projects at state and central level (e.g Indian
Railways and India Post) will add significant value to the sector.
Traditionally, the outsourcing market in India has been export-
driven.
However, with the slowdown in the US market and India emerging
as a fast-growing economy, the Indian domestic outsourcing
market is increasingly touted as an attractive target market.
Domestic-centric BPOs are also increasingly leveraging smaller
towns, tier-II and tier-III destinations such as Vishakhapatnam,
Nagpur, Chandigarh, Ahmedabad, Nashik, etc for their delivery
centres.
128
Evolution of Indian IT Industry
129
Evolution of the Indian IT Industry
Over the years, the Indian IT industry has moved up the value chain
and positioned itself as a global player.
Its progression can be described in phases in the following manner:
Phase I (1985-95)
During this period, the IT industry was at the nascent stage of

development, and the industry size was not substantial.
At this time, the industry consisted of several start-ups that offered
application development and maintenance services to some of the large
Fortune 100 companies.
Their peak contract-size was less than $5 million.
The industry's exports services were mainly in the form of sending
technical manpower onsite.
130
Phase I (1985-95)
Low cost service offerings were 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)
This period was characterised by high industry growth rate, with the
industry-size increasing to just under $1 billion.
Companies offered services in the areas of e-business, ERP and Y2K to
a large base of Fortune 500 companies.
The top five companies of the industry augmented their share, and
simultaneously small and medium-sized enterprises also witnessed
high growth rates.
131
Phase II (1995-00)
Peak contract-size reached $5 million dollars, and high-quality and

improved productivity were value propositions that the industry
offered customers.
The perception of companies underwent a change from being just
small exporters to being software service providers.
Phase III (2001 onwards)
The clientele of Indian companies today constitutes the world's top

2,000 corporations.
Indian companies have increased their presence in different service
lines such as systems integration, network management, packaged
software implementation as well in areas of products and
technological services. 132
The thrust has been on providing offshore services, while onsite services also
form part of the service offering.
Security, data protection and process management have become industry
values to customers.
In 2012-13, India IT services exports grew by 10 per cent y-o-y to USD 43.9
billion.
Indian companies are focused on providing lifecycle solutions, with offshore
development serving as a competitive edge.
They have positioned themselves as high-quality and low-cost solution
providers, besides establishing their credibility in project management.
Indian companies have been expanding their presence in areas such as IT
consulting and IT outsourcing, while consistently moving up the value
133
chain.
The top five Indian players are aiming at being ranked among the
global league of service providers.
Quality
In terms of quality too, Indian companies have moved up the ladder.

Initially, companies focused on work products, which then moved to
process improvement, and project orientation took root.
Indian companies were quick to align their quality management
systems (QMS) with the ISO 9000 standards.
This ensured consistent and orderly execution of customer
engagements and provided a framework for measurable
improvement.
134
Quality
The next stage was associated with a focus on software

engineering, which was often achieved by aligning the QMS with
the capability maturity model (CMM) framework, and undergoing
one or more assessments at increasing levels of maturity.
Consequently, today, India has the most number of Software
Engineering Institute (SEI) CMM Level 5 companies in the world.
Quality has become a key differentiating feature of Indian players
as they moved from low cost, low quality to medium cost, high
quality.
135
Policy Framework
136
Policy Framework
Given the export potential and employment-generating
opportunities in the IT Industry, the Indian government has taken
several initiatives to promote the development of the IT industry in
the country.
Recognised as one of the priority sectors for the economy, the
Indian IT industry has received abundant support from central and
state governments.
Given below is a detailed description of the policy environment,
laws and regulations concerning software and IT companies in
India.
137
Information Technology Act
Introduced by an act of Parliament in June 2000, the Information

Technology (IT) Act provides legal recognition to all transactions
carried out by means of electronic data interchange and other means
of electronic communication.
Some of the issues addressed by the IT Act, 2000, include the
following:
Chapter II states that any subscriber can authenticate an electronic
record with his digital signature, and subsequently any person can
verify that document by using the subscriber's public key.
Chapter III states that all electronic records and digital signatures
have legal acceptance.
The chapter also confers rights to the central government to make
rules with respect to digital signatures. 138
Chapter IV deals with the attribution, acknowledgement and dispatch of
electronic records and digital signatures.
Chapter VI deals with the regulation of certifying authorities. It also lists
powers of the controller to investigate any contraventions to the provisions
of the act.
Chapter VII and VIII state the conditions under which a digital signature
may be suspended or revoked.
Chapter IX states that any person who accesses, downloads, copies, extracts
data without authorisation is punishable.
The section also states that any person tampering with, damaging, denying
unwarranted access to or manipulating any computer/computer system
shall be liable to pay damages by way of compensation not exceeding Rs 10
million to affected persons. 139
Introducing viruses or causing disruptions in a computer are also

punishable under the Act.
Chapter X describes the role of the Cyber Regulations Appellate Tribunal.
Chapter XI deals with offences such as wrongful loss or damage or
destruction of information, deletion or alteration of any information in a
computer network, hacking, etc, and prescribes their punishment.
It also includes offences such as tampering with computer source
documents, publishing obscene information, misrepresentation, and breach
of confidentiality and privacy
Chapter XII states that if a network provider/intermediary can prove that
he has taken diligent steps to prevent the offence he has been charged with,
or that it was unintentional, he is not punishable under the Act.
140
Digital signatures
Digital signatures were accorded legal acceptance by the IT Act.

The controller of certifying authorities, set up to implement the IT
Act, has issued licenses to four players who can issue digital
signatures.
These are Safescrypt Ltd, National Informatics Centre (NIC), and
Institute for Development and Research in Banking Technology
(IDRBT), and Tata Consultancy Services (TCS).
In July 2001, the Government of India issued a set of laws known as
the Information Technology (Certifying Authority) Regulations, 2001.
These regulations detail the functioning of the certifying authorities
in issuing digital signatures.
141
Intellectual property right laws for computer software
Under the Indian law, computer programmes have copyright

protection, but not patent protection.
A software programme is an algorithm, and patent law does not
protect algorithms per se.
The term 'software' includes computer programmes, databases,
computer files, preparatory design material and associated printed
documentation such as users manuals.
Under Indian Copyright Act, copying from an engraving is an
infringement of the copyright, but an engraving produced
independently from the same picture is not.
Copyright laws generally do not protect the owner from independent
creations or reverse engineering.
142
Intellectual property right laws for computer software
Therefore, many software and hardware companies have been able
to take advantage of the copyright law's lack of protection against
reverse engineering.
Indian Copyright Act
A major development in the area of copyright was the amendment

to the Copyright Act of 1957 in 1999 to make it fully compatible
with provisions of the Trade-Related Aspects of Intellectual
Property Rights (TRIPS) Agreement. Known as the Copyright
(Amendment) Act, 1999, this Act came into force on January 15,
2000.
The 1994 amendment of the Copyright Act of 1957 brought sectors
such as satellite broadcasting, computer software and digital
143
technology under Indian copyright protection.
Indian Copyright Act
The present Copyright Act conforms fully to TRIPS obligations.

The other important development in 1999 was the issuance of the
International Copyright Order, 1999, which extended provisions of
the Copyright Act to nationals of all World Trade Organisation
(WTO) members.
As per the provision in the Indian Copyright Act, 1957, and as
amended in 1994-95, any person who knowingly makes use of an
infringing copy of computer programme shall be punishable.
According to Section 63 B, copyright infringement attracts a
minimum jail term of 7 days.
The Act further provides for fines, which shall not be less than Rs
50,000, but may extend up to Rs 200,000, and a jail term of up to 3
144
years or both.
Privacy
Privacy issues are dealt with by the IT Act of 2000.

Chapter XI, section 72: Penalty for breach of confidentiality and
privacy, states that any person who secures any electronic record,
book, register, correspondence, information, document or other
material without prior consent and discloses the information to a
third-party is punishable under the Act.
The punishment ranges from imprisonment or a fine, which may
extend to Rs 100,000 or both.
A draft of proposed amendments to the IT Act 2000 is currently
under review and incorporates inputs from a thorough gap analysis
of current Indian laws vis-a-vis international laws, as well as
progressive inclusions based on recommendations of a panel of
experts. 145
Privacy
Highlights of the proposed amendments are:
Definition of computer-related offences with provisions for specific
recourse in case of dishonest, fraudulent or unauthorised access, copying,
movement and storage of data.
Tampering, impairment or containment and abetting of the same.
Provisions relating to transmission and publishing of undesirable
content.
Provisions for recourse in case of breach of confidentiality and privacy.
Liability and compensation for negligence in following reasonable
security practices.
Review of provisions relating to electronically signed contracts, making
them valid and binding; provision for inclusion of a suitably qualified
expert as an examiner of evidence in case of legal proceeding.
146
Review of the liability of an intermediary.
Policies relating to inbound and outbound investments
Relaxation of limits on overseas investment
Given the global nature of remote services, building multi-country

delivery capabilities is an essential requisite.
The Indian government has progressively relaxed limits on overseas
investments allowed to Indian companies, enabling them to enhance
delivery capabilities across geographies.
Earlier in around 2002-03, the limit for overseas investments through
automatic approval was increased from $50 million to $100 million,
while the limit for joint venture investments was increased from 25
per cent of net worth to 50 per cent.
Over the years, there has been a significant development on this front.
The current ceiling on overseas investment for Indian companies
stands at 200 per cent of their net worth. 147
Foreign exchange-related policy
According to RBI guidelines, Indian software companies need to
repatriate 30 per cent of the value of on-site contracts.
The rest 70 per cent can be utilised for expenses abroad.
However, in the case of offshore projects, 100 per cent of the value of
contract needs to be repatriated to India.
Overseas offices of Indian software firms are not allowed to create
liabilities for their India head offices.
They are also not allowed to invest their surplus funds overseas,
without the prior approval of the RBI.
148
Incentives provided under the Exim Policy
Depreciation of 100 per cent can be availed over a period of 5 years for
computers and computer peripherals for units in export-oriented units
(EOU), electronic hardware technology parks (EHTP) and special economic
zones (SEZ).
Import of all kinds of computers into India without btaining licences.
An EOU/EPZ/EHTP/STP unit may import, without any payment of duty,
all types of goods, including capital goods required by it for its activities.
Import of second-hand capital goods (without any age limit) by units
located in EOU/EPZ/EHTP/STP is allowed.
The sale of units manufactured in an EOU/EPZ/EHTP/STP to the
domestic tariff area (DTA) is permissible for up to 50 per cent of FOB value
of exports and/or 50 per cent of net foreign exchange earned, where the
payment of such services is received in free foreign exchange 149
Incentives provided under the Exim Policy
Positive net foreign exchange earnings as a percentage of exports for
the hardware sector, now needs to be met over 5 years instead of
every year.
Domestic sales of 217 items falling under the Information
Technology Agreement (ITA-1) from EHTPs will be considered as
fulfillment of export obligation, provided these components attract
zero duty in the domestic market.
Extension of incentives for units located in a EOU/SEZ for a year
In addition to incentives for overseas investments and relaxation in

foreign exchange-related policy, the government has also provided
various fiscal and non-fiscal incentives to develop India as an IT hub.
The SEZ Act, 2005 benefits on various parameters are as follows:
150
Incentives offered to units locates in EOU/SEZ
151
Incentives offered to units locates in EOU/SEZ
Profits of companies that are located in or registered under Software

Technology Parks of India (STPI) are exempted under Section 10A
of the Income Tax Act for 10 years from the commencement of
operations, or up to March 2011, whichever is earlier.
However, in the union budget 2011-12 the scheme was withdrawn.
The non-extension of STPI benefits is expected to increase tax rates,
thereby affecting the cash flows of ITeS companies.
152
Other policy-related aspects
Beneficial depreciation
Beneficial depreciation provisions have been provided to enable IT

/ ITeS companies to claim depreciation on computers and
computer software at a higher rate of 60 per cent of written-down
value at the beginning of the relevant financial year for income tax
purposes.
Therefore, under the written-down value method, 84 per cent of
the cost of computers and software can be depreciated in the first 2
years.
This has been specifically done in view of the rapid pace at which
the computer/computer software technology becomes outdated.
153
Totalisation agreement
A number of software professionals are sent by Indian companies to

work in foreign countries on on-site projects.
These visits by Indians are project-specific and are normally for
short periods of time (not more than 2-3 years).
While being in a foreign country, these professionals draw a
significant part of their salaries in foreign currency.
A number of countries insist that a percentage of this salary should
be earmarked as a social security tax.
This tax is collected for various benefits such as old age, sickness
and disability and is similar to the provident fund and pension
schemes applicable in India.
An employee can draw these benefits on his retirement or in certain
cases after around 10 years of accruing them. 154
However, Indian employees work in foreign countries only for short periods
of time.
Hence, it is highly likely that at the time when they would be permitted to
draw these benefits, they would not be present in that country and hence
stand to lose the accumulated sum.
Typically, Indians have to spend 15-20 per cent of their on-site salaries in
countries such as the US and the UK on such social security taxes.
According to NASSCOM estimates, Indian IT professionals paid nearly $1
billion in the form of social security and income taxes.
Since these employees are already covered under superannuation and other
plans in India, Indian software companies are demanding that they be
exempted from paying these social security benefits to foreign governments,
especially since their employees will not be able to benefit from the same.
155
This is possible by entering into a totalisation agreement with a

country, which ensures that employees will be covered under the
social security benefits of only the home country.
Several European countries, including Belgium and Germany, have
entered into such an agreement with India.
However, since the bulk of the on-site work undertaken by Indian
companies is in the US and the UK, the government and NASSCOM
have been trying to ink a totalisation deal with these countries.
In June 2002, a totalisation policy was drafted for the US.
Some of the key highlights in the policy are as follows:
Indian professionals, whose period of employment in the US is less
than 60 months, will be covered only under the Indian social security
laws. 156
In case an Indian professional works for intermittent periods of
time in the US, then each such period would be considered
separately for the purpose of the agreement.
However, the totalisation agreement has not yet been signed.
This is because signing of the agreement requires both countries to
have a similar system of social security.
The difference in the social security systems of India and the US is
one of the major impediments to the signing of the agreement.
157
Fringe Benefit Tax (FBT) and its impact on IT/ITeS
FBT was introduced in 2005-06 as a tax paid by employers on employee
benefits that don't form part of the salary.
It taxed certain portion of the expenditure on concessional tickets for
private journeys, employee stock options, gift etc. that companies dole
out to reward their employees.
The rate of FBT on the value of fringe benefit was 30 per cent plus
surcharge and education thereon.
However, in the union budget of 2009-10 the fringe benefit tax was
abolished.
According to new rules, the perquisites are now taxable at the hand of
employees.
The move benefitted the industry as it had a high incidence of FBT due to
ESOPs.
158
This help reduced the employee compensation cost.
Minimum Alternate Tax (MAT)
Under the existing provisions of section 115JB of the Income Tax Act,
a company is liable to pay MAT on its book profit in case the tax on
its total income computed under the provisions of the Act is less than
the MAT liability.
Book profit for this purpose is computed by making certain
adjustments to the profit disclosed in the profit and loss account
prepared by the organisation in accordance with the Companies Act,
1956.
In the union budget 2011-12, the MAT was increased from 18 per
cent to 18.5 per cent while the surcharge was decreased from 7.5 per
cent to 5.0 per cent.
Thus in effect, the increase in MAT rate was offset by the decrease in
surcharge. 159
Minimum Alternate Tax (MAT)
The rates remained unchanged in the union budget 2012-13.
Further, in last year's budget the MAT was also levied on units in
SEZs as well, which continued in the 2012-13 budget.
This is expected to leave a marginal negative impact on the cash
flows of the IT services players.
In the 2013-14 budget, the surcharge has been increased from 5 per
cent to 10 per cent for companies with taxable income higher than Rs
100 million will increase the effective MAT levied to 21 per cent,
from the current 20 per cent.
However, the additional surcharge will be applicable only for the
financial year 2013-14
160
Tax paid by the Indian IT companies
161
State level incentives and subsidies
Most state governments in India have announced special promotional
schemes, offering various packages of incentives and procedural
waivers for the IT-ITeS sector.
These schemes focus on key issues of infrastructure, electronic
governance, IT education and providing a facilitating environment for
increasing IT proliferation in the respective states.
While these are state-specific initiatives, there is a fair degree of
uniformity across states, as newer locations have modeled their
schemes on those offered in states that have successfully nurtured a
thriving IT-ITeS industry.
Examples of provisions included in these packages are:
162
A majority of the states have either promulgated a government order or a
notification permitting all establishments in the respective jurisdictions
engaged in IT and ITeS services (including call centres) to: work on
national holidays; allow women to work in night shifts; and offices to
function 24 hours a day, all through the year.
State governments have announced IT policies that seek to create
(through focused human resources development programmes), a trained
pool of manpower with skills appropriate for the IT-ITeS industry.
State governments have introduced the IT Industry Employment
Promotion Scheme as a direct incentive for both the government and the
industry.
Most states in India have STP and SEZ schemes, offering world-class
infrastructure with reliable data communication facilities. 163
Further, to leverage private sector investments, state governments

have proactively come out with several special incentives.
Industrial power tariff and all other admissible incentives and
concessions applicable to industries in the power sector have been
extended to the IT industry in certain states.
IT software industry is exempted from zoning regulations for
purposes of location in certain states.
In principle self-certification/exemption, as far as possible for the
IT/software industry, from the provisions of certain acts/regulations
(subject to the issue of specific orders by departments concerned in
consultation with the IT&C Department) has been permitted by
certain states.
164
Customs/excise duty for hardware products
Computer hardware tariffs applicable are listed below:
IT - Hardware and software tariffs
165
National Policy on Information Technology - 2011
The National Policy on IT focuses on application of technology-
enabled approaches to overcome monumental developmental
challenges in education, health, skill development, financial inclusion,
employment generation, governance etc. to greatly enhance efficiency
across the board in the economy.
The focus of this policy is on deployment of ICT in all sectors of the
economy and on providing IT solutions to the world.
The policy has the following goals:
Bringing the full power of ICT within the reach of the whole of India.
Harnessing the capability and human resources of the whole of India
to enable India to emerge as the Global Hub and
Destination for IT and ITeS Services by 2020.
166
National Policy on Information Technology - 2011
The policy attempts to optimally leverage Indias global edge in
ICT to advance national competitiveness in other sectors,
particularly those of strategic and economic importance.
The Policy will promote an inclusive and equitable society.
The Policy is oriented towards use of ICT to consciously promote
decentralization and empowerment of citizens.
167
Cloud Computing-Global Trends
168
Global information technology industry has been passing through
difficult times since the financial crisis of 2009.
Although there is significant pressure on companies to cut
budgets, they are also looking to meet the challenges from the
emerging trends including increasing connectivity through
internet, increasing demand for mobility and the explosion in
digital data.
169
World IT spending growth remains subdued
World IT spending has slowed down significantly since the global

financial crisis with its growth turning negative in 2009.
The uncertainty in the developed economies has been the primary
reason for IT budget cuts by most companies.
Based on our extensive interaction with industry players, we
believe that the overall IT budgets of most of global clients will
remain flat over the next year despite the recent improvement seen
in the global economies.
170
World IT spending witnessing a tepid growth
171
ACV per contract is coming down
The global IT industry's annualized contract value (ACV) per

contract (Total contract value per year/no. of contracts) has
declined over the last decade, with a sharp fall seen in the last few
years.
While master services agreements (MSA) are being made for
shorter durations of 3-4 years from an earlier average of 5-7 years,
the value of each contract is also coming down.
This is a reflection of clients' reluctance to enter into a contract for a
longer period in an uncertain business environment.
Shorter duration contracts give organizations the agility to react
quickly to situations in an adverse business scenario or to keep
pace with frequent technology changes.
172
ACV per contract is coming down
173
Globalisation, digital data explosion, rising mobility shaping
user behaviour
Globalization through connected devices
According to CISCO, the number of devices connected to network

will increase to 50 billion by 2020 from the current 12 billion in 2012.
The explosion in connected devices will facilitate an environment
where every information technology solution will be made
accessible through the internet.
Global clients in turn are trying to adopt enterprise application
either based on URL or based on cloud.
174
user behaviour
Digital data explosion
According to an IBM study, 90 per cent of digital data in the globe

has been created in the last two years alone.
The volume of digital data is expected to increase by 50 times by
2020.
This mind boggling growth of digital data within an organisation
creates the need for commensurate hardware.
Many companies believe cloud computing can address this need
because of its scalability, speed and user friendliness.
175
user behaviour
Mobility for users
In 2012, there were around 6 billion mobile subscribers across the

world, accounting for nearly 86 per cent of the global population.
According to CISCO estimates, data travel through mobiles is
expected to grow by 78 per cent (CAGR) till 2016.
Today, global companies not only want to provide opportunities
to access data through mobiles, they are also looking at interactive
platforms to engage all their stakeholders on real time basis.
176
Cloud can take on the emerging challenges
CRISIL Research believes cloud computing can address the issue of

budget pressure and also help meet the requirements of the
emerging technology trends, to some extent.
This is primarily because cloud offers cost reduction benefits along
with efficient use of resources, besides providing flexibility in terms
of scalability and mobility.
The major benefits for user organisations can be:
177
Upfront cost savings
Migrating to cloud computing from traditional information

technology (IT) means shifting from capex to opex model.
In traditional IT, end users acquire hardware and software by
investing upfront.
Whereas, in the case of cloud computing, investors pay according
to their usage.
Moreover, cloud service provider takes the responsibility of
managing technology refresh cycle.
178
Ease of implementation
Cloud deployment within organizations is relatively easier than in

traditional IT systems.
Adoption can start on a small scale and can later be scaled up as per
requirement.
The time savings are significant as provisioning can be done
quickly.
Further, vendor manages all technology related issues including
firewall and security.
179
Resource optimisation
The largest benefit comes from the efficient use of resources as

there is no need to provide for additional resources to handle
peak load.
Use of shared resources enables better optimization.
Building a new business model
Many large companies are also using cloud to enable a different

business model.
For example, Dell developed a private cloud for Max healthcare
facilities to enable remote patient care across their eight facilities by
offering video conferencing, device agnostic access facilities, etc.
Star TV enabled an on-demand personalized HD content delivery by
180
using cloud.
Cloud Computing-Business Mod & Types of Cloud
181
Cloud pyramid - Layers of the cloud
Cloud computing comprises three kinds of services: software as a service
(SaaS), platform as a service (PaaS) and infrastructure as a service (IaaS).
Software as a service (SaaS):
The e-mail is the most familiar form of SaaS.

The application services layer hosts applications over the web and provides
it as a service to users on demand.
The application services layer has several applications directed at the
enterprise community.
There are hosted software offerings available that handle payroll processing,
human resource management, collaboration, customer relationship
management, business partner relationship management, and more.
Popular examples of these offerings include IBM Lotus, Salesforce.com,
182
Sugar CRM, and WebEx.
Platform as a service (PaaS):
Software platforms are intended to support applications and

provide programmers with a platform for software development,
middleware, integration, etc.
As part of PaaS, domain agnostic platform services are provided to
programmers for software/application design and development.
Examples of offerings in this part of the cloud include IBM
Websphere, Amazon Web Services (AWS) , Microsoft Azure and
Google App Engine among others.
183
Infrastructure as a service (IaaS):
The infrastructure service provider provides server processing

capacity and memory on hire to enterprises.
Virtualisation plays an important role in creating a virtual base of
servers, which can be allocated at will.
Infrastructure services form the primary layer of the cloud services
structure on which the platform and application services are
provided.
Examples of infrastructure services include IBM BlueHouse,
Amazon EC2, Microsoft Azure Platform, etc.
184
Infrastructure as a service (IaaS):
185
Cloud is not just Virtual Private Server (VPS)
Virtualization is a key technology used in cloud computing in the
infrastructure and platform layers to enable efficient use of , which
gives the illusion resources.
A layer of software is introduced over the physical infrastructure layer
of servers of one cohesive unit of processing and memory.
This can then be efficiently utilized and split among multiple users.
This can be considered a superior version of load balancer.
Cloud computing, especially IaaS, offers similar benefits along with
the ease of provisioning.
Cloud computing is more of an integrated solution for three layers of
IT- hardware, platform and software.
We expect many companies to start with virtualization and slowly
move to cloud computing as there are still fears around security issues
186
w.r.t handling sensitive data or applications.
Cloud is not just Virtual Private Server (VPS)
This is primarily because in cloud computing, assets are owned by
third-parties, and users have less control over the assets.
187
Public cloud offers higher savings; private cloud better security
Cloud services can be classified as private cloud and public cloud.

There is also a hybrid cloud, which is a combination of the two and
shifts bursty traffic from private cloud to public cloud.
Public cloud: Public cloud is cloud computing in its true sense and
refers to a pool of hardware and software resources delivered as a
service over the internet.
The service is provided by a third-party service provider and is
chargeable on a pay-per-use basis.
Hence, it is cost-effective especially for small and medium sized
organisations.
Private cloud: In a closed private cloud, the infrastructure is operated
and maintained by an organisation for its own internal use.
188
In a hosted private cloud (co-location facility) the infrastructure is
hosted by a third-party but is reserved for a single client organisation.
Private clouds are not cloud services in the true sense as the resources
are not shared with any other users.
Hence, they are perceived to offer better security than public cloud
services.
189
190
Cloud Computing-Adoption Rate
191
Cloud adoption on the rise
Global enterprises started adopting cloud services from the time
they realized that cloud offered IT cost savings.
Since 2010, cloud services adoption has gained momentum as many
service providers have started to provide cloud services to global
enterprises.
According to NASSCOM, 69 per cent of Fortune 500 companies had
adopted cloud in some form by 2012.
However, according to CRISIL Research estimates only 3-4 per cent
of total IT spends is being allocated for cloud services.
This indicates that several companies are adopting cloud only for
their non-core data or application related work.
192
Adoption rate among fortune 500 companies
193
Adoption rate among fortune 500 companies
However, cloud adoption has been deeper among small and

medium business houses as their use of IT is not intensive.
Industry estimates suggest that almost half of the global SMEs have
adopted SaaS, and one quarter have adopted IaaS.
Small and medium business houses prefer public cloud due to the
significant cost savings it offers, whereas large MNCs tend to adopt
private cloud/hosted services.
194
Proportion of small and medium enterprises using cloud
195
New generation companies are inclined towards cloud adoption
Our interaction with industry sources suggests that new generation
companies tend to adopt latest technologies like cloud to enter a new market
or to use it to improve their competitive advantage.
While large companies of the new generation (example, Facebook) can use it
to manage their huge customer database in an unpredictable demand
environment, smaller entities, especially those engaged in e-commerce
(example, Flipkart) can use it to enter a new market.
Cloud makes it easier to scale up or reduce their IT need.
Large old generation organisations own their IT assets and are not willing to
invest in new assets.
Hence, they mostly opt for virtual private server to use their existing
resources efficiently.
Moreover, they prefer to use private cloud as cost savings in public cloud is
196
not very high.
New generation companies are inclined towards cloud adoption
197
...but challenges persist
In the early days of cloud, security issues were the primary
concern for cloud adoption.
While this concern has come down significantly with time, there
has been a demand for better performance in terms of reliability,
speed and compatibility.
Most of the user organizations are facing challenges in terms of
deployment speed, training, lack of customization and issues over
integration.
Players are also looking for integrated players who can meet all
their IT needs.
198
Percentage of business houses having issues over cloud adoption
199
Cloud Computing-Implications For Indian Vendor
200
In 2012, the global cloud computing market was in the range of USD
65-70 billion, i.e., 3-4 per cent of global IT spending of USD 1.8 trillion.
Although cloud computing is at a nascent stage of evolution, several
companies have adopted cloud in some form.
We believe, several small and medium enterprises are likely to adopt
cloud as they would gain significant cost benefits from using the same.
However, CRISIL Research believes adoption of cloud computing will
be gradual and will happen over the medium term.
Hence, most of the revenues for IT vendors will continue to come from
their traditional IT business models.
201
IT vendors will shift their focus of target client base
In the traditional business models, IT vendors directly serve the
user organisation.
However, in the cloud business model, vendors will have to
provide services to the cloud service providers.
Hence, the target client base will be shifting from user organisation
to cloud services providers.
Alternatively, vendors can also take up the role of cloud service
providers (Indian vendors can focus in SaaS space by developing
products) and can serve small and medium sized businesses.
202
IT vendors will shift their focus of target client base
203
CAD and maintenance revenues gradually set to erode
With the advent of standardised software application for multiple

clients, services such as custom application development (CAD) and
maintenance are expected to become gradually marginalized.
However, we believe that cloud would lead to increased demand will
help offset the loss of revenues from CAD for system integration and IT
consulting, which and maintenance.
Traditional on-site software product vendors are increasingly facing
competition from SaaS providers who provide flexible payment models
as against the incumbent fixed price plus annual maintenance model.
Although a few players are adapting to the new developments by
offering versions of their products over the cloud, they will have to find
a way to license their products in a more flexible manner and adopt the
new service delivery platform. 204
CAD and maintenance revenues gradually set to erode
Server vendors, who derived a large portion of their revenues on
refresh cycles, have found their incremental market shrinking with
the onset of virtualization.
Services to become standardized and to be delivered through the internet
Increased adoption of cloud computing will create the need for

standardized solutions to all IT problems, and the services will be
delivered through the internet.
The solutions have to be accessible from any device and any platform.
All applications and software are therefore likely to be developed keeping
these things in mind.
Indian IT vendors will enter the market with the right partners/alliances
(e.g. Wipro partners with firms including Amazon, Cisco, EMC, Microsoft,
salesforce.com and Vmware) to garner business and develop the right kind
205
of solutions.
Indian IT services providers to remain asset light
Cloud computing demands integrated solutions for hardware,
software and services.
To become a cloud service provider, vendors will need to have their
own hardware assets and software licenses.
However, we believe Indian vendors will continue to tie-up with
infrastructure providers to remain asset light.
For example TCS uses servers by Tata Communications; Wipro uses
infrastructure of Infocrossing (US) to provide cloud solutions to its
clients.
206
Cloud is part of non-linear initiatives by Indian vendors
Cloud computing follows a pay-per-use revenue model.

This is pretty much in line with non-linear product revenue model.
While non-linear business model leads to an increase in fixed costs
of the vendors, we believe that with higher scale, companies will
be able to protect their margins as benefits of operating leverage
creep in.
Indian vendors are also likely to maintain a high ROCE as their
plan is to remain asset light.
Although, companies are expected to earn better margins from
cloud services than from traditional services, we do not expect this
to have a significant impact on the industry's operating margin as
cloud will account only for about 10-15 per cent of their revenues
207
over the next 5 years.
Cloud Computing-Market Size & Outlook
208
Global cloud computing market to grow at 30-35 per cent CAGR
over the next 5 years
Growth in global cloud computing market has so far been led by the
transfer of traditional IT services to the new cloud model.
However, there is scope for the creation of substantial new
businesses and revenue streams.
While IaaS is expected to show reasonable growth in the near term
with large players including Amazon, Google and Rackspace
offering scalable hardware at affordable prices, SaaS, which
constitutes a large portion of the current estimated market, is
expected to drive cloud adoption over the longer term.
209
Global cloud model poised to grow
210
Global cloud model poised to grow
CRISIL Research believes that service adoption on cloud will

primarily be driven by the following factors:
The cloud delivery platform will help vendors grow their market by
opening up the SME segment, which does not have the financial
wherewithal to make significant investments in IT.
As cloud services becomes mainstream with increased vendor focus,
we expect the service levels to mature and some of the key issues,
especially those related to data security, to be addressed.
Although large enterprises would not be inclined to adopt cloud
services due to security concerns and the low degree of
customisation cloud offers, they would be more willing to migrate to
cloud services for their non-critical applications once the useable life
211
of their IT infrastructure comes to an end.
Domestic cloud market to grow by 35-40 per cent CAGR till 2020
In the domestic market too, cloud will be adopted quickly to achieve

cost efficiency.
Efficient use of IT resources (especially hardware) will lead to
significant cost savings for small companies that generally do not
have a large budget for technology.
Domestic cloud market growth will be driven by increased adoption
of IaaS unlike global cloud market where growth will come from both
IaaS and SaaS.
Among service lines, consulting, network integration and product
based solutions are expected to grow faster than the traditional
service lines.
212
Domestic market to grow faster
213
Mergers & Acquisitions
214
Indian IT services companies are expected to make strategic
acquisitions over the next 3-5 years to strengthen their portfolio.
Tier-I IT service players have reached a scale which lets them
compete for the large value contracts (total contract value higher
than $ 50 million).
However, these companies are not yet in the league of large MNCs
like IBM and Accenture where a major portion of the revenue comes
from lucrative service lines like consulting and system integration.
The pace of growth of Indian IT service players, which had grown at
28 per cent CAGR over 2004-05 to 2008-09 slowed down only during
the global meltdown when IT spends stagnated.
In the recovering markets, these players will need to expand their
service portfolio, diversify their geographic focus and target larger
215
contracts.
With massive cash surpluses, these companies are geared to make
strategic acquisitions to make inroads into newer verticals in key
markets over the next few years.
Faced with increasing competition from international players, wage
inflation and volatile currency, it is imperative for Indian IT service
players to explore new opportunities.
CRISIL Research believes that identifying a target company at the
right price would be the key for growing inorganically in high-end
service-lines and under-penetrated markets for cash rich Indian IT
service providers and will lead to considerable benefits such as:
Efficiencies in operations and delivery services and cost synergies
Economies of scale from consolidation of shared services, and
Opportunity to play in larger deals and more verticals and to cross-
216
sell key solutions to a broader client base
Competition intensifying from global IT majors
Global IT service providers closing the arbitrage gap
The growing trend of large IT services - MNCs like IBM, Accenture,

Cognizant, and Capgemini - setting up sizeable development centres
in India, has reduced the cost arbitrage that Indian IT services
companies have thus far enjoyed.
Their expansion into India has been both organic and inorganic.
Currently, 20-25 per cent of their employees are from India, which is
a vast variant from the 3-8 per cent of 2004. IBM has built a
development centre in India, along with buying Daksh, a BPO, in
2004.
Global players are now successfully replicating the offshore model,
the exclusive domain of the Indian IT service providers, thereby,
adding to the woes of Indian IT service providers. 217
Multinationals increasing focus on deals with smaller contract value
Multinationals, which were historically focused on large deals, are

now looking at smaller deals with shorter turnarounds in the
aftermath of the slowdown in global IT spends over the last 2 years.
Competition is thus expected to intensify over the years across the
contract spectrum.
218
Multinational IT service players competing with Indian companies
219
Wage inflation, rupee appreciation pressurising margins
Increasing competition and demand for expertise has caused wage
bills for Indian firms to soar, especially for mid-tier and smaller
companies; consequently, margins have been hit.
In addition, volatility in rupee dollar rates throughout the year has
also put considerable strain on margins and is eroding their arbitrage
advantage.
Over the last quarter itself, Rupee has appreciated by over 3.6 per
cent.
220
Profitability affected by rupee volatility
221
Profitability affected by rupee volatility
It is imperative for the Indian players to hedge their risk by

diversifying their current geographical mix of revenues.
Currently, the revenues of Indian IT industry are skewed in nature
with over two-thirds accruing from the US.
Hence, cross currency vagaries impact margins.
Although the top five Indian providers are marginally better off
than the smaller and mid-tier IT companies, eventhey will have to
diversify their geographical spread to reduce dependence on the
US.
222
Acquisition a viable option
223
Acquisition a viable option
Acquisition is a viable option for Indian companies equipped with

adequate cash reserves and a healthy stream of revenues.
Indian IT service players have undertaken acquisitions in the past to
gain entry into markets, in terms of geographies, service lines and
clients.
Acquisitions, involving Indian companies, grew by close to 33 per
cent over 1999-2008; they, however, declined over the next two years
due to the macro-economic slowdown.
With a rebound in economy and improved prospects for IT service
providers, we expect M&A activities to regain traction.
224
M&A activity grew by 33 per cent over 1999-2008
225
M&A activity grew by 33 per cent over 1999-2008
Benefits of inorganic growth:
Scale gives an opportunity to target higher contract values
Expansion of service portfolio to more niche service lines like
consulting and system integration
Exposure to new markets and an opportunity to cross sell to a
larger client base
226
Building skills across new service lines and verticals
Indian IT service players have limited exposure to high value service

lines like consulting and network integration.
They, instead, earn a bulk of their revenues from application
development, maintenance, infrastructure management and support.
MNCs hold the edge in this regard and continue to control a lions
share of high-end IT services globally.
Indian players are gaining share in key markets by expanding their
portfolio of services to their existing clients.
They, however, will need to fill in the gaps in their service portfolio,
either by building the skill set or by acquiring a specialist.
227
Service line split
228
Contract size mix for Indian IT service players
229
Untapped markets and opportunities a plenty
Traditionally, the US has constituted the largest share of revenues of
Indian IT service vendors more than 61 per cent.
However, over the last couple of years, revenue contribution has
increased from Europe and emerging markets in the Middle East
and Asia Pacific.
Companies in the UK, France and Germany have increased the
proportion of off shoring, predominantly in the retail, utilities and
insurance space.
Demand is also likely to emanate from discretionary spends in these
regions.
Indian IT service vendors have begun expanding their onsite
capabilities in these regions to capitalise on the opportunity.
Infosys has appointed country heads for France and Germany, two
230
key geographies apart from the UK.
Untapped markets and opportunities a plenty
Similarly, Wipro and TCS have also expanded their operations in

Europe through their BPO operations.
While Wipro has expanded its presence with Citibanks data centre
operations (Infocrossing), TCS has recently acquired insurance
provider, Unisyss back-office in the UK.
231
Geographical split
232
Geographical split
Chinese IT services vendors are mostly restricted to low-end services

like application development and testing; they are miniscule compared
to the large Indian IT services exporters.
A major chunk of the demand is domestic, which also makes China a
potential market, albeit difficult to penetrate due to language barriers.
Indian companies had set up operations in China - to tap into their
resource pool, to penetrate their domestic market and to continue
expanding their operations in the country.
For example, TCS has delivery centres in Hangzhou, Shanghai, Beijing,
and Tianjin.
At present, Infosys China has 2,000 plus consultants providing IT and
BPO services to China and other Asian countries from development
centres in Shanghai and Hangzhou. 233
Geographical split
Opportunity to play in larger deals
Both TCS and Infosys acquired BPOs to expand their presence in the
insurance vertical.
The typical modus operandi of Indian IT companies has been to
penetrate the market with low-end service lines and subsequently,
permeate to provide a range of services to their existing clientele.
This strategy has worked well for these players as they have
managed to garner larger deals and are now encroaching on the
space exclusive to large multinationals like IBM and Accenture.
In January 2011, US-based software services provider, iGate, entered
into an agreement to acquire 63 per cent of Patni, a mid-tier Indian
software services firm, for $1.22 billion.
Both companies are mid-sized and are niche players in terms of
234
clients and skills.
Geographical split
Opportunity to play in larger deals
The merger has helped expand their workforce and opened up

cross selling opportunities.
Moreover, the scale will help the combined entity to compete for
larger deals.
The combined entity is expected to have about $1 billion in
revenue and close to 25,000 employees.
The iGate-Patni deal has made it easier for the combined entity to
obtain large value contracts,, which have so far eluded Indian
mid-tier companies.
235
M&A activity in the recent past
236
Annexure
Relative valuation of Indian IT service players vs large multinationals
237
Data as of December 2010
238
Data as of December 2010
239
Software Testing
240
Introduction
Independent software testing accounted for about 7 per cent of

India's IT services exports at $1.85 billion in 2009- 10.
Over the next 5 years (2010-11 to 2014-15), it is expected to grow
faster than the industry driven by growing competition, better
quality benchmarks and innovations in technology.
Testing has historically been outsourced as a part of larger
projects.
Independent testing, however, is gaining prominence with
growing maturity of processes.
241
Independent testing forms a small portion of the entire IT
services exports from India
242
Independent software testing, as defined in this report, pertains
to third party quality assurance services offered by Indian IT
service vendors and captives of large international IT service
providers to enterprises, independent software vendors,
technology product organisations or OEMs.
Testing can be outsourced independently or as part of a larger
project.
In this report, however, we have covered only independent
testing services, which are estimated to be between 50-60 per cent
of the entire testing work outsourced to India.
Software testing is a key component of the software development
life cycle (SDLC) as explained in the graph below. 243
The testing process mainly seeks to verify and validate the software
and to deliver it with as few bugs as possible.
Verification is the process of evaluating a system or component to
determine if the products of a given development phase satisfy the
conditions imposed at the commencement of the phase while
validation evaluates a system or component during or at the end of
the development process to determine whether it satisfies specified
requirements.
244
Software testing and the SDLC
245
Software testing and the SDLC
Testing is integral to the SDLC as a measure to assure the quality and
robustness of the software being built and forms 25-30 per cent of the
development process.Increasing competition has brought with itself tighter
deadlines, smaller budgets and improved quality requirements.
The testing process, thus, focuses on reducing the volume of testing, cost,
improving ROI and time to market.
Service providers have invested and built upon their expertise in testing
tools, process automation, specialised applications and vertical specific
frameworks.
Effective and efficient testing and faster testing cycles are essential to
reduce costs of development and maintenance costs post deployment.
With clients getting increasingly alert and aware, separate budgets are
allocated for testing and associating with independent third party testers
246
for quality assurance services.
Functional testing accounts for a majority of outsourced
independent software testing
247
Functional testing accounts for a majority of outsourced independent
software testing
Software testing is broadly split into functional and non-functional testing
services.
Functional testing checks if the software performs its primary operations
according to expectations; non functional testing tests for the robustness of
the software.
Issues like security, compliance and performance under stress are tested.
Services offered by third party testing services include test consulting and
planning, test automation, quality assurance, functional testing, non-
functional testing, security and compliance among others.
Test consulting lies at the higher end of the value chain, followed by
vertical specific test architecture and design, creating test cases and
scenarios and executing tests.
248
Functional testing accounts for a majority of outsourced independent
software testing
As shown in the employee pyramid below, a typical software testing
team constitutes of a project lead who is the liaison between the
client and the IT services player, the project manager who heads the
team, test architects who have vertical specialisations and help in
creating and designing tests, frameworks and automation tools.
Test analysts and testers create scenarios and conduct manual testing
of the software at the lower end of the spectrum.
249
Typical team structure
250
Tier 1 companies account for a majority share of the market
Independent software testing is taken up by large IT service
players like TCS, Infosys and Wipro; mid-tier players like
Mindtree; pure play testing services providers like Applabs and
Thinksoft and captives of global MNCs.
Testing practices in most companies have evolved into
discrete/independent testing offerings from being an integral part
of their larger gamut of services (Infrastructure outsourcing,
Enterprise application services etc).
Indian IT service majors account for more than 70 per cent of the
market with a stronghold in verticals like banking, insurance and
telecom.
These verticals contribute to the majority of all independent
testing outsourced followed by healthcare and manufacturing. 251
Software testing revenues of a few players (2009-10)
There is a close competition among vendors in terms of breadth and depth

of testing services offerings, both in horizontal frameworks and vertically
driven solutions.
Vendors, although, continue to pursue ways to differentiate themselves in
value proposition.
These companies are evolving their vertical offerings by
Acquiring expertise
Developing niches
Optimising their service delivery capabilities
252
Cost savings and outcome-based SLAs
Software testing to grow at 24 per cent CAGR
The Indian independent software testing market is estimated to be
$1.85 billion in 2009-10, having grown at about 21 per cent CAGR
over the last 5 years.
Independent software testing players provide testing and quality-
assurance services to support ERP deployment, application
development, product development and embedded product
development among others; the outsourcing volume of these
services drives growth.
With maturing offshore delivery models and Indian players
moving up the value chain, software testing is expected to increase
at 24 per cent CAGR to 2014-15.
253
Independent software testing revenue outlook
254
Independent software testing revenue outlook
BFSI and telecom companies in the US and UK have been primary

growth drivers for the testing outsourcing market.
These verticals are expected to continue to drive growth along with
increased testing business from hospitals and utilities verticals.
Indian players are also focusing on technology innovation to
develop frameworks and processes to minimise time to market and
providing business value to their clients.
All these features are expected to propel growth in the future.
255
Methodology
According to NASSCOM, the global software testing market is
estimated to be about $30 billion in 2009-10, of which close to 30 per
cent is offshored.
India is the largest offshore destination, accounting for 32 per cent of
the offshored software testing pie.
This includes testing offshored as part of a larger project (40-50 per
cent) and independent testing projects (50-60 per cent).
The forecast of software testing revenues derives from our forecast
of the overall IT services export revenues from India, while taking
into account the potential for increased offshoring.
CRISIL Research has analysed these revenues with a top down
approach.
256
Methodology
We have evaluated the macro picture of revenues of key verticals,

and subsequently, percentage spends on IT services.
Further, expected growth rate by service line for each vertical is
projected.
Subsequently, the percentage offshored and India's share in the
same was analysed for each service line.
257
Market size estimation framework for 2009-10
258
Discerning trends in the industry
Automation and IP creation leading to nonlinearity
In an endeavor to differentiate their service for highly

commoditised testing services in the market, players are focusing on
developing their own testing frameworks and automation tools
specific to verticals.
Most of the Tier 1 players providing independent testing services
have their own IP for frameworks.
Even pure play testing providers have their own testing tools and
automation tools.
IP in automation tools and frameworks is also expected to lead to a
larger share of non-linear revenue.
259
Increasing SLA driven business models
Historically, testing contracts were awarded on the time and

material (T&M) basis.
Engagement models in software testing have now begun to change
in favour of outcome and productivity-based SLAs.
Indian players have begun to design productivity linked contracts in
order to provide more value to their clients and increase their
acceptance in a highly competitive market.
260
Changing service delivery methods
Indian IT service vendors have upgraded their delivery

mechanisms to meet the client's specific needs.
To serve most of the large clients, these players have developed
test centers of excellence offering specialised services specific to the
client's business.
Players have also formed alliances with developers of testing tools
to provide specific solutions to clients and niche verticals.
This also helps in giving the client access to a broader spectrum of
tools at a lower cost.
In addition, new technologies like cloud computing are being
considered, which will change the entire method of testing and
create an opportunity to utilise shared resources and tools. 261
Non Linear Growth
262
Introduction
Non-linearity is defined as de-linking of revenue growth from
employee growth.
While all projects, barring classical time and material (TnM)
projects, have an element of non-linearity, for the purpose of this
report, we have only considered product sales, cloud services,
transaction based pricing and shared risk-reward model or strategic
outsourcing as non-linear initiatives.
This is because the revenues earned from these initiatives are truly
disproportionate compared to the efforts involved on a sustainable
basis.
263
Introduction
264
Listed below are some of the most prevalent forms of non-linear
initiatives:
IP based products
Development of intellectual property is one of the surest ways to

grow non-linear revenues.
A product, once developed, can be sold to multiple clients, thus
bringing in additional revenue at no extra development cost.
For instance, Infosys earns 5 per cent of its revenues exclusively
through Finacle and TCS earns 4 per cent of its total revenue
exclusively from BaNCs.
265
initiatives:
Cloud services
Cloud based services are delivered to multiple clients through

shared resources.
Here, clients avail services at a cheaper rate than they would
through dedicated resources.
Since cloud services work on multi-tenancy model, the vendor
uses the same set of resources for many clients and thus earns
revenues in a non-linear fashion.
266
initiatives:
Transaction based pricing
Similar types of transactions availed by multiple clients can be

replicated, once the right systems and processes are put in place.
Here, the vendor incurs a one-time cost of setting up the systems,
but the clients are billed on a per transaction basis.
However, the incremental required effort by the vendor to scale up
the number of transactions is minimal.
267
initiatives:
Shared risk-reward model/Strategic outsourcing
In a shared risk-reward model/strategic outsourcing model,

vendors become business partners with their clients and sign
contracts where a revenue or profit sharing model determines the
total revenue for the vendors.
Here, the vendor sets up the entire system and infrastructure
upfront and takes on all the risks on behalf of the client.
Success of this type of initiatives depends upon the expertise of the
vendor in the business of the client.
268
Large employee base and constant wage hikes encourage
non-linearity
In the last decade, revenues of the IT services industry have grown
at a 20 per cent CAGR, driven by volumes.
During this time, employee count has also more or less grown at
the same pace.
However, in recent times, players are finding it increasingly
difficult to maintain the same employee growth rate as a
significantly larger employee base does not allow them to grow
their employee count at the same pace, thereby limiting their
revenue growth as well.
As of today, the tier-1 players' employee head counts stand as
follows:
Infosys : 133 , 560 employees
269
TCS : 202 , 190 employees
Large employee base and constant wage hikes encourage
non-linearity
Wipro : 126 , 490 employees
HCL Tech : 77 , 046 employees
Also, for tier-1 vendors, employee cost as a proportion of revenue
has been increasing over the years with continuous salary hikes,
even though billing rates have remained flat.
270
Employee cost as percentage of revenue trend
Hence, vendors are scouting for ways to grow their revenue at the past growth rate,
without increasing their employee count. This will also help them counter any margin
271
dip arising out of wage hikes.
Focus on non-linear initiatives not a new phenomenon
Between 2000 and 2007, employee growth and revenue growth has
been almost equal as shown below.
However, post 2007 and up to 2011, revenue growth has outpaced
employee count growth, despite billing rates being flat.
This signifies the fact that Indian IT players are being able to change
their focus from a completely linear regime to somewhat non-linear
revenue streams.
272
Revenue and employee growth
273
Following are two of the partially non-linear trends that have
gained traction in the recent past:
Fixed price contracts
The proportion of revenues from fixed price contracts has grown

for each of the tier-1 players over the years.
The increasing demands for efficiency and pressure to rationalise
costs for the client have been two of the key reasons.
In fixed price contract vendors gets a fixed amount of revenue from
the client, hence any kind of gains or losses due to efficiency
variations is borne by the vendor.
274
Following are two of the partially non-linear trends that have
gained traction in the recent past:
Fixed price contracts
275
Partial productisation of modules
Vendors have begun focusing more on productivity gains by

standardizing modules and reusing the same codes for multiple
clients.
This not only reduces the cost for the client but also benefits
vendors through productivity gains.
It also enables vendors to deliver projects in lesser amount of time
and, in some cases, may give the players an edge over competitors
in a bidding scenario.
276
Proportion of revenue from pure non-linear initiatives still
very small
Though revenue generation from fixed price contracts and partial

productisation of services is on the rise, presently, revenues from
purely non-linear initiatives account for only 7-8 per cent of total
IT services industry revenues.
277
Following are few of the purely non-linear initiatives that have
been observed in the industry in the recent past:
Product development
Till date, Indian vendors have not been exceptionally successful in

developing products and selling the intellectual property licensees,
barring some notable successes like Finacle (Infosys), Flexcube
(iflex), Bancs (TCS) and Intellect (Polaris).
This is primarily because Indian players have historically been into
services and small players are incapable of investing in research and
development (R&D) on a continuous basis without realising any
revenue.
However, we believe the strong focus in this area by tier-1 players
will bear fruit bring in the similar way it did for Infosys (Finacle) and
TCS (Bancs). 278
Following are few of the purely non-linear initiatives that have
been observed in the industry in the recent past:
Product development
The proportion of revenue of products for Infosys shows an

upward trend on a continuous basis as shown below.
For TCS, even though the revenue proportion from this segment
took a dip during the financial crisis, it has started to rebound from
the last financial year, as illustrated below.
279
Product revenue as a percentage of overall revenue
280
Cloud computing
The cloud services space has been attracting significant attention

from Indian players of late as this segment is expected to grow
much faster than other verticals.
CRISIL Research expects the global cloud computing market to
reach $55-60 billion by 2014-15 from the current size of $18-20
billion.
Notable initiatives by Indian vendors in the segment include iON
from TCS (CRM solution through cloud) and Infocrossing from
Wipro (multi-tenant managed infrastructure).
Although revenues from these segments are expected to grow at
rapid pace in the near future, at present, the proportion of
revenues from cloud services are miniscule compared to other
segments. 281
Transaction based pricing
Standardisation of HR payroll and settlement of financial
transactions are being offered to clients through the multi-tenancy
mode.
Any kind of process innovation or increased automation helps to
increase productivity.
Indian vendors are fairly active in this space, but competition is
high due to the relatively simple nature of the services.
282
Shared risk-reward model/strategic outsourcing model
With increasing uncertainty in the global macro environment,
clients are under pressure to manage businesses and risks more
efficiently, which has made the shared risk-reward model fairly
popular.
Also, today, Indian vendors have more matured business models
and in depth domain knowledge to take on big and high risk
assignments.
For example, Airtel outsourced its complete IT function to IBM
under a revenue sharing agreement.
We foresee increasing number of similar deals being signed going
forward, as vendors prove their capability in this space.
283
Benefits of non-linearity
For clients
The main benefit for the client is the reduction of risk, as the initial
investment for non-linear solutions is limited, especially for cloud
and shared risk-reward type of projects.
The payment is made on the basis of pay per use.
Also in cases where the vendors own the entire IT infrastructure,
the maintenance cost is incurred by the vendor.
In these kinds of services the flexibility to update technology as
well as the scalability of IT resources is easier for clients.
284
For vendors
Service providers acquire a new revenue stream by offering non-

linear services to existing customers as well as acquiring new client
base especially from small and medium business houses (SMB).
At the same time, these types of services have the potential to earn
higher margin than other service lines.
Also, vendors require less amount of manpower as revenues from
these sources are not commensurate with efforts.
285
Revenue from non-linear initiatives to grow at 35 per cent CAGR by
2016
The revenue from non-linear initiatives is estimated to be $3.2

billion in 2011.
The same is expected to grow with increased focus on efficiency,
maturing capabilities of Indian vendors, intellectual property based
product development and cloud service offerings.
Preference for shared risk-reward contracts are also expected to pick
up significantly.
Although, currently, Indian vendors are focusing on their own
expertise area, going forward, all verticals are equally amenable to
grow in the non-linear revenue segment with better acceptance from
clients and more matured capabilities of vendors.
286
2016
Cloud based services are also expected to grow faster with the use
of information technology by small and medium business houses.
With increased focus on cloud services and product development,
revenues from non-linear sources are expected to outpace overall IT
services growth rate.
CRISIL Research estimates revenues from non-linear initiatives to
grow at 35 per cent CAGR and reach $14.1 billion by 2016.
287
2016
288
Issues and challenges in acceptance of non-linear services
For clients
Cloud services: Concerns on security and control over IT resources

on the part of the client are likely to be a hindrance in the adoption of
cloud services.
Transaction based services: In case of transaction based services, the
standardised solution given to multiple clients may not fulfill their
specific needs.
IP Based (Products): In the case of products, clients are required to
give a long-term commitment, which increases the risk of failure,
and might deter clients from adopting products from new vendors.
289
Issues and challenges in acceptance of non-linear services
For vendors
For all kinds of non-linear services-lines, the vendor needs to make

an upfront investment.
Investing in the development of a new product is always a high
risk venture.
Moreover, the gestation periods tend to be high and convincing the
first client is a difficult task.
Also, vendors are increasingly facing shortage of highly skilled
resources as all of these services require specific expertise.
290
Despite challenges, non-linear revenue share to account for
15 per cent by 2016
As the need of the hour is to manage growth without diluting

margins, players will be focusing more on non-linear revenue sources.
Though the challenges in this area are plenty, CRISIL Research
believes that the proportion of revenue from this segment will double
to 15 per cent by 2016 from the current share of 7.3 per cent in 2011.
As the vendors will be required to make an initial investment, focus
on non-linearity would initially be margin dilutive at net level.
However, we believe, in the long run, the increasing proportion of
non-linear revenues and higher profit realisations accruing from this
segment will help to players to counter margin pressures from the
increasing wage costs.
291
Impact of Currency Fluctuation-Revenue & Margins
292
The Indian IT services industry generates close to 80 per cent of its revenues
through the exports of services to US, Europe, Australia and other
developed nations.
As more than three-fourths of its earnings are in foreign currencies, the
industry's earnings are highly vulnerable to movements in the Indian Rupee
(INR) vis-a -vis these currencies.
Moreover, while the earnings are in foreign currencies, most of the
corresponding costs, except travel expenses, onsite employee & other costs
and foreign currency liabilities, are incurred in INR.
This accentuates the mismatch between costs and revenues, thereby
bringing considerable volatility to earnings.
In order to bring down the volatility in their cash flows and earnings, the
Indian IT services players resort to hedging.
Hedging helps offset the gains/losses in operating cash flows with the
293
gains/losses of hedge instruments thereby enabling steady net cash flows.
Impact of hedging on revenues
Indian IT service players earn revenues in various currencies
although they report their financial numbers only in USD and INR.
294
Impact of hedging on revenues
The movements in those currencies vis-a-vis the rupee therefore
impact their revenues.
In Q3 FY12, the average 11 per cent depreciation in rupee value over
that seen in Q2 FY12 added momentum to the revenue growth of
players.
The following table gives the details of recognized average
rupee/USD conversion rate in those two quarters by tier-1 IT
services players.
295
Average INR/USD conversion rate of tier-1 players
Revenue growth in constant currency terms, wherein the quarter-on-quarter

change in exchange rate is not taken into account, is considered to be a
better indicator of fundamental business growth.
While growth in constant currency terms was in line with our expectations
for Q3 FY12, revenue growth in USD terms was weaker due to the cross-
currency effect.
The cross-currency effect- which is the effect of the fluctuations in the
exchange rate of other currencies against the USD - on revenue growth in
296
dollar terms is illustrated in the table below:

Average INR/USD conversion rate of tier-1 players
297
Impact of hedging on operating margins
Most of the Indian IT services vendors, recognize their hedging
gains/ (losses) in the P&L account only below EBITDA.
The operating margins of the players are thus vulnerable to the
fluctuations in currency movements.
CRISIL Research has observed that every one percentage point
change in rupee impacts operating margins by 40-50 basis points.
The following table illustrates how for every 2 per cent change in
currency conversion rate, operating margins can fluctuate by 80 basis
points.
298
299
However, it has been observed that in a depreciating rupee

environment, companies do not get the full benefit of depreciation
as changes in other operating costs also have a bearing on margins.
In Q3 FY 2012 for example, the benefit of 11 per cent rupee
depreciation was offset by the increase in some operating costs
such as salaries, subcontracting costs and SG&A costs.
As a result, during the quarter, the operating margins of the tier-1
companies improved only by about 200-300 basis points.
300
Note: Wipro has reported its revenue/top line at the strike price.
Hence operating margins include hedge losses.
301
Hedging policy
Indian IT services companies follow strict guidelines on hedging as
stipulated by their boards.
It has been observed that on an average, Indian IT services vendors hedge
around 40-70 per cent of their net exposure for the immediately following
twelve months.
Net exposure = foreign currency revenues - (foreign currency expenditure+
foreign loan repayment + investments)
Hedging is done as an ongoing activity, and the forward contracts that are
used to hedge the net exposure may have any duration ranging from one
day to ten years.
The average duration of all the contracts ranges from three to six months.
As illustrated in the following table, the amount of outstanding hedges may
vary across companies depending on the hedging policies adopted by them.
302
Hedging policy
303
Impact of Currency Fluctuation-Hedging Instruments
304
Although, there are various derivative instruments available in the
market, companies mostly use forward contracts to hedge their future
cash flows.
Players typically enter into agreements with banks, which offer forward
contracts at a predetermined price (strike price) and duration, to convert
their foreign currency revenues into INR.
The second most commonly used derivative instrument is the currency
option.
Players use this instrument to protect their cash flows in an appreciating
rupee scenario, while simultaneously retaining the option to discontinue
the contract when the rupee starts to depreciate.
However, in return for this facility, players are charged a significant
premium by the financial institutions. 305
Swaps and futures are other hedge instruments that are used to
minimize interest rate risk and third-party risk in addition to
minimizing currency risk.
The following table shows the various types of hedge instruments
and their basic features:
306
Impact of Currency Fluctuation-Accounting Practices
307
Indian IT services players follow different accounting practices to
recognise their hedging gains / losses on realized as well as
unrealized contracts.
In the case of hedging gain / losses from realised contracts, the
players have to recognise them in the P&L account irrespective of the
accounting practice they follow.
However, in the case of hedging gains / losses from unrealised
contracts, the players have the option to either charge them to the
P&L account or to the shareholders' funds or even to keep them
undisclosed depending on the accounting practice adopted by them.
The following table lists out the major characteristics of three
accounting practices adopted by companies.
However, in reality, many companies follow a combination of these
practices. 308
309
In the following sections, we have illustrated the three accounting
practices using examples, to highlight the differences in the
accounting of certain important financial items in both the scenarios
- of rupee depreciation and rupee appreciation.
The basic assumptions we have made are:
Revenues are USD 100 for a quarter
The entire revenue is hedged at $1=Rs50
The company has only offshore cost items, of Rs 3500
Tax rate is assumed at 30 percent
The opening balance in shareholder funds in the company??s
balance sheet are Rs 4,000
The number of shares outstanding are 100
310
Hedging status:
Revenues of USD 400 are hedged for a year
Hedges worth USD 100 are realized during the quarter
Hedges worth USD 300 remain unrealized at the end of the quarter
311
Accounting practice-1
312
Observations:
Currency fluctuations do not influence the company's financials.
As the entire revenues were hedged at Rs 50 strike price in this case,
reported revenues amounts to Rs 5,000. EBIDTA and PAT therefore
remain the same in the event of both rupee depreciation and
appreciation.
This accounting practice does not disclose the notional losses on
outstanding hedges.
Thus, the outstanding hedges amounting to $300 that remained
unrealized at end of the period were not reported in the financial
statements.
313
314
Observations:
Although revenues and EBIDTA change with the currency
movements, hedge gains/ (losses) on realised contracts negate the
effect keeping net profits stable.
In this method of accounting, realised gains/ (losses) from hedging
activity are recognised in the P&L statement below the EBITDA
while notional gains/ (losses) from outstanding hedges are
reported in the shareholders' funds.
As the effective cash flow hedge gains/ (losses) are adjusted
directly into the shareholder equity, the method of accounting calls
for extensive documentation for tracking each contract to judge its
effectiveness.
315
316
Observations:
Revenues and EBIDTA move in line with the currency movement.
The hedge gains/ (losses) on both realised as well as unrealised
contracts are recognized in the P&L account below EBITDA.
As a result, currency movements have a significant impact on net
profits.
As all hedge gains/ (losses) are adjusted in the P& L statement
below EBITDA, this method of accounting does not require
extensive documentation.
317
Infrastructure Management-Introduction
318
What are infrastructure management services (IMS)?
Infrastructure management services (IMS) encompass all services

that monitor, manage and enhance the performance of a client's IT
infrastructure.
These include helpdesk services, server management, data centre
management, network management, IT operations, desk-side
support, IT security services, maintenance services and
application-specific services.
We have classified the above services into 5 broad sub-segments:
319
1. IT infrastructure assessment: These services involve assessing a
client's IT infrastructure and providing a detailed analysis on gaps
between business needs and existing systems.
It also involves advising the client on outsourcing IT infrastructure
related services.
2. IT help-desk: Providing24X7 support (onsite or remote support)
to a client's end-users.
3. Data center management: These services can be further split into:
a) Server management: Installing and configuring operating
systems, scheduling maintenance tasks, etc.
b) Mail management: Administration of mail servers and user
accounts, etc.
320
c) Database management: Creation of databases and maintenance of
the same, diagnosing performance issues, performance tuning, etc.
d) Network management: Involves regular upgradation and
maintenance of a client's network systems and preventing system
failures through tools that detect and address any issues on a real-
time basis.
e) Security management: Managing firewalls, updating systems with
software patches to prevent virus attacks and improve performance,
network audits.
4. IT operations: Monitoring and management of systems and
applications
5. IT facility management: Physical management of infrastructure
like disk replacement, memory upgrades.
321
The IMS spectrum
322
Technological innovations have aided evolution of IMS outsourcing
Indian IT vendors have been offering infrastructure management services
over the past decade.
Initially, vendors provided these services onsite (by dedicating a part of
their workforce to function from the client's premises).
Such an approach evolved from clients' reluctance to outsource critical IT
infrastructure-related functions.
Lack of technology to monitor infrastructure from a remote location also led
to the use of this business model.
However, as technology gradually evolved, IT vendors started providing
IMS from remote locations, which reduced clients' costs significantly.
However, in both the above business models, the clients owned the assets
(IT equipment).
323
Technological innovations have aided evolution of IMS outsourcing
Looking at the growth potential that IMS provided, many Indian IT vendors
tried to own assets; however, the inability to scale up services as per clients
needs and significant investments needed, prevented IT vendors from
owning assets.
To solve this, IT vendors started collaborating with third-party hardware
providers to offer infrastructure services to clients.
A new cloud-based IMS model (owned by the IT vendor), where the same
infrastructure is shared by multiple clients, is also slowly gaining acceptance.
Currently, however, 90-95 per cent of Indian vendors don't own the assets
and just provide services to manage them.
They earn 60-70 per cent of their revenues from the IMS space by providing
services from remote locations.
Over the medium term too, CRISIL Research does not expect this mix to
324
change significantly.
Evolution of IMS outsourcing
325
Data centre management fetches over half the realisations for IT vendors
The IMS value chain ranges from low-end services such as IT help
desk (at the bottom of the IMS value chain) to high-end consulting
services.
Blended billing rates for different services depend upon their
complexity and the offshore-onsite mix.
For example, low-end services like facility management, which are not
much complex, fetch blended realisations of $40-45 per hour, due to
higher proportion of onsite services.
By contrast, blended realisations for high-end consultancy services
range at $70-90 per hour.
For IT vendors offering IMS, data centre management services
contribute to 55-65 per cent of total realisations.
326
Data centre management fetches over half the realisations for IT vendors
The average duration of an IMS contract is 3-5 years, as compared to

a custom application development project, which spans 1-2 years.
The size of an IMS contract ranges between $10 million and $200
million, with the median size being $20-30 million.
327
IMS value chain
328
Offshoring potential of IMS to boost revenues for Indian IT vendors
In 2012, the global IMS market was estimated to be worth $164

billion.
Demand for infrastructure management services is expected to rise at
a grow at a CAGR of 4.2 per cent over the next 5 years.
What enhances the market potential further is that 50-70 per cent of
infrastructure management services can be provided from remote
locations (or, offshored).
This translated into potential revenues of $80-90 billion for IT vendors
as of 2012.
Over the next 5 years, Indian IT vendors are expected to garner a
significant chunk of the global IMS pie.
However, certain IMS sub-segments cannot be offshored.
329
Offshoring potential of IMS to boost revenues for Indian IT vendors
For instance, in IT infrastructure assessment services, offshoring is
not possible as they involve consulting and require persons to
function from the client's end.
Similarly, language and cultural issues affect outsourcing of helpdesk
services.
Data and privacy concerns, on the other hand, prevent outsourcing of
security management services.
330
Offshoring potential for different IMS sub-segments
331
Infrastructure Management-Review & Outlook
332
Revenues from IMS exports have quadrupled in the past 5 years
Revenues from exports of infrastructure management services grew at a
robust CAGR of 32 per cent (or, quadrupling in absolute terms) to $6.6
million in 2011-12 from around $1.6 billion in 2006-07.
Growth was driven both by increased outsourcing of IMS by clients across
verticals and the sustained focus of Indian IT vendors on the IMS space.
Outsourcing of IMS increased as clients looked to control costs and leverage
on the expertise of IT vendors to manage an increasingly complex IT
infrastructure requirements.
Indian IT vendors have significantly invested on building their capabilities
in the IMS space, so as to be able to offer end-to-end services across the IT
spectrum (Before the advent of IMS, Indian IT vendors largely developed
custom applications for clients).
In recent years, the contribution of infrastructure management services to IT
333
vendors' revenues has been rising steadily.
Indian IT vendors have almost doubled their share in global IT spends
Indian IT vendors have managed to increase their share in total global
spends on IMS to 4.1 per cent in 2011-12 from 2.3 per cent in 2007-08.
Rapid technological innovations in the IMS space have enabled Indian
IT vendors to provide services from remote locations, while also
prompting clients to increasingly outsource their IMS needs.
Indian IT vendors' share in global IMS pie has grown nearly two-fold
334
Indian IT vendors' share in global IMS pie has grown nearly two-
fold
During the same period, Indian IT vendors' share in overall IT
services spends has also risen to 6.6 per cent from 4.1 per cent.
This rise in share has been driven by an increase in offshoring of key
IT services by global clients and the entry of Indian IT vendors into
newer geographies (Asia Pacific and other emerging markets).
Share in overall IT services spends has also increased
335
IMS increasingly contributing to revenues of top 4 Indian IT vendors
In the past few years, tier 1 Indian IT vendors have been building up
capabilities to deliver infrastructure management services to global
clients.
Early movers in the IMS space such as Wipro, TCS, HCL and Infosys,
who started offering services, currently derive 10-20 per cent of their
total revenues from this segment.
A significant portion of incremental revenues also comes from
infrastructure management space.
Consequently, as of 2011-12, these 4 vendors contributed to 52 per
cent of overall (exports+ domestic) revenues from IMS.
336
Clout of IMS in tier 1 vendors' revenues steadily rising
337
Market share of tier 1 Indian IT vendors
338
IMS exports expected to grow faster than overall IT services exports
Indian IT vendors' revenues from IMS are expected to continue to

grow strongly at a CAGR of 18 per cent over the next 5 years,
exceeding a 15 per cent CAGR growth in overall Indian IT services
exports.
As a result, IMS will remain a potential growth driver for the IT
services industry.
However, growth over the next 5 years is likely to sharply slower (as
compared to the previous five years) on a high base.
IMS export revenues had witnessed a one-time exceptional rise (of 103
per cent y-o-y) during 2006-07.
339
IMS exports expected to grow faster than overall IT services exports
However, in subsequent years (2007-08 to 2011-12), revenue growth

from IMS exports slowed down as the global financial crisis set in
and major global clients cut down discretionary spends (on
consulting services and other transformational projects).
As macroeconomic uncertainties persist in most developed
markets, we expect revenues from IMS exports to grow at a slower
pace.
340
High base, cut in clients' spends to slow down growth in IMS
exports...
341
...but this will still outpace growth in overall IT services exports
342
Margins from IMS to stay a bit lower than overall industry
margins...
Though infrastructure management services are increasingly
contributing to Indian IT vendors' revenues, they fetch slightly
lower margins as compared to overall industry margins.
This is because service sub-segments such as IT helpdesk, data
center services, etc, which contribute to more than half of revenues
from the IMS space, have lower billing rates.
Our interaction with industry sources suggests that EBITDA
margins from IMS are at 20-22 per cent, as against overall industry
margins of 23-24 per cent.
We do not foresee any change in this trend, as the cost structure of
IT vendors is not expected to change much given they are planning
huge investments to enhance their capabilities in the IMS space. 343
...but adoption of 'asset light' model to shield vendors' RoCE
The industry's RoCE is however expected to remain intact due to the
'asset light' model adopted by IT vendors.
Under this model, vendors tie up with third-party hardware suppliers
who provide the assets (IT infrastructure), through which the vendor
offers services to various clients.
In this case, the assets are owned by the hardware provider, which
enables IT vendors to remain 'asset light' (save on capital investments)
and leads to better RoCE.
344
Growth drivers and challenges
Newer technologies, need to cut costs to drive up outsourcing of IMS
In recent years, IT infrastructure has become more intricate and needs
constant attention.
Managing IT infrastructure using in-house competencies is difficult
for clients as technology is evolving faster.
Offshoring infrastructure management services, on the other hand,
enables clients to save costs (by 40-50 per cent).
Evolving technologies have also led to a larger number of
components in IT infrastructure setups, which need to be
consolidated.
For large MNC clients, the challenge in these circumstances is to
integrate IT infrastructure without disrupting day-to-day operations.
Three key technological innovations that will change the face of
345
infrastructure management services are:
Cloud services/ Cloud computing: Cloud services will expand the
addressable market for IMS, as even small and medium-sized
enterprises will be able to use IT for their businesses.
NASSCOM estimates the global market for cloud services to grow to
$650 billion by 2020 from $40 billion in 2010.
This is expected to create new opportunities for Indian IT services
providers in the IMS space.
Enterprise mobility: As these services enable a client to operate his
business virtually, which reduces turnaround time and enhances
productivity.
Use of enterprise mobility services can significantly improve
customer and employee satisfaction.
346
Unified communication: This is an emerging opportunity for IT

vendors to offer applications and services around a common
architecture (where services can be managed/hosted services
through multiple communication facilities.
This will enable clients to carry out business communications more
efficiently.
The above changing dynamics and developments in the IMS space
only reinforce the need to offshore the management of IT
infrastructure.
As a result, demand for infrastructure management services is
expected to grow strongly in the next few years.
347
Growth drivers and inhibitors in the IMS space
348
Data and network security concerns remain key challenges
Concerns over data and network security are expected to be a key
hindrance for clients looking to outsource the management of their
IT infrastructure.
Such concerns are especially severe in case of clients from the BFSI
vertical, who handle sensitive data (customer details, credit card
numbers, etc).
Clients are also worried about giving away the control of their
assets (IT infrastructure) to a third party service provider, as it can
lead to data leakages.
Lack of skilled talent is also a concern. In services such as IT
helpdesk, if an employee lacks multi-lingual capabilities, he will not
be able to service a diverse client base.
349
In niche areas such as consulting and IT design, lack of a suitable
talent pool and a limited onsite presence can curb growth in
revenues for IT service providers.
For instance, while Indian IT service providers have considerable
experience in developing applications for offshore clients, they have
a limited number of experienced professionals with skill sets across
diverse database platforms.
Acquisitions and tie-ups the way ahead for Indian IT vendors
Convincing clients to fully outsource IT infrastructure management
to an offshore location is not an easy task, as a number of security
concerns need to be addressed.
350
To ease these concerns, Indian IT vendors might acquire a data centre
company in a developed country.
So while the physical data is present onsite (within the client's
geography), it can be managed remotely from offshore locations.
Transferring data management work to offshore locations would also
help improve the margins of the data centre companies that are
acquired, in turn boosting the parent Indian IT vendor's profitability.
A good case in point is the acquisition of Infocrossing Inc by Wipro,
which boosted the IT major's revenues from the IMS space.
IT services providers who do not have an appetite for acquisitions
might venture into tie-ups or strategic alliances with global giants like
Cisco, Computer Associates, Nortel, Sun Microsystems and Microsoft
to build on their IMS business. 351
If, over the next 5 years, Indian Indian IT vendors make such moves
or acquisitions, industry revenues from IMS will grow at a much
faster pace than currently envisaged.
352
Infrastructure Management-Methodology
353
Methodology to forecast demand for Indian IMS exports
We have projected the future trend in infrastructure management

services (IMS) exports based on the size of the segment and our
growth estimates for the same.
We have also forecasted the share of Indian IT vendors in the IMS
segment through detailed interactions with industry sources.
354
Methodology and approach
355
Exports-Summary
356
IT service exports to improve further in 2014-15
CRISIL Research estimates Indian IT service exports to grow by 16-18 per
cent y-o-y in dollar terms in 2014-15.
This is a significant improvement over an estimated 14 per cent growth in
2013-14.
Results announced during the last few quarters by Indian IT vendors
indicate a strong volume-driven growth in the industry.
Such a trend is in line with our earlier opinion that a better
macroeconomic environment in developed nations would boost demand
for Indian IT services.
However, billing rates remained under pressure in 2013-14.
Over the long term, the service-line mix for Indian IT vendors is expected
to be skewed towards high-value services such as IT consulting and
system integration, which would push up average billing rates. 357
Traditionally, Indian IT service exports have been driven by rising spends in

the banking, financial services and insurance (BFSI) sector.
Higher IT spends from other verticals such as retail, energy and utilities,
and healthcare have also been key growth drivers.
Nevertheless, the BFSI sector will maintain its dominant share in the total
revenues of Indian IT vendors.
Over the long term, CRISIL Research believes that the geographic
concentration of Indian IT services exports to the US will narrow, with
Indian IT companies exploring new markets in Europe (France and
Germany) and the Asia-Pacific regions.
European countries have been slow in adopting the outsourcing model; and
besides their sales cycles also tend to be longer.
However, these markets have begun to accept Indian IT service companies.
358
Adoption of new technologies like social, mobility, analytics and
cloud computing (SMAC) is expected to further aid growth.
Indian IT service companies are also expected to channelise efforts
towards improving efficiencies and alter their business models,
focusing on non-linear streams, i.e. de-linking employee growth from
revenue growth.
359
Wage hike, pressure on billing rates to pull down operating margins
CRISIL Research expects operating margins of Indian IT vendors to
decline by 0-50 basis points y-o-y in 2014-15.
While a pressure on billing rates, wage hikes of 8-10 per cent and
increased onsite hiring could dent margin significantly, higher
volume growth and marginal benefits arising out of a weak rupee will
offset the effect.
At the net level, the companies' hedging position will assume
importance, as foreign exchange gains/losses will impact margins.
360
Exports-Review and Outlook
361
Improved macroeconomic environment lifted mood in 2013-14
Indian IT services exports are estimated to rise by 14 per cent in
2013-14 (in US dollar terms), after a lacklustre 11 per cent recorded
in 2012-13.
Higher volumes amid a better global macroeconomic environment
was the primary factor driving revenue growth.
Volume growth has been improving over the last 3-4 quarters and
we believe the momentum will continue as companies increase
their discretionary spending.
Another notable factor has been that growth is broad-based,
coming from across geographies and verticals.
362
Indian IT services exports
363
Billing rates stay under pressure, but volume growth to continue...
Indian IT services exporters have not been able to raise billing rates
over the past few years, ever since the financial crisis in 2008-09.
In fact, rates declined by 1-2 per cent y-o-y in last 2-3 quarters as a
result of pricing pressure from BFSI clients and stiff competition from
players who were able to pass on the benefits of rupee depreciation to
clients.
Consequently, higher volumes were the only driver for revenues.
As per disclosures made by tier-1 IT companies, volume growth (in
terms of man-month billing) bottomed out since the second half of
2012-13.
CRISIL Research expects that volumes will continue to grow over the
next 3-4 quarters, and will be the only means for Indian IT companies
to boost revenues in the near term. 364
Volume growth (y-o-y) for tier-1 companies
365
...for both tier-1 and mid-tier companies
Though revenues of tier-1 Indian IT services vendors recovered over
the last 3-4 quarters, mid-tier companies faced challenges on several
fronts.
A few of them lost clients and faced a slowdown in their focus
verticals.
However, the recent improvement in economies such as the US and
Europe has boosted client confidence.
Consequently, CRISIL Research believes that revenue growth for
both categories of Indian IT vendors will gradually improve over the
next few quarters.
366
Dollar revenue growth trend
367
IT services exports to grow at healthy pace over long term
CRISIL Research estimates IT services exports to grow by 16-18 per cent
in 2013-14 and at a 15 per cent CAGR over the long term (in dollar
terms).
Stringent regulatory requirements, geographical expansion improved
efficiencies that will help clients optimise overall costs, will drive
growth in the short term .
Key long-term growth drivers include a mature global offshore delivery
model, the greater ability of Indian vendors to execute bigger projects,
increased focus on newer markets, better capabilities in non-traditional
service-lines, process innovation and cost optimisation by clients.
Additionally, the focus on offering services via new technologies such as
cloud and related applications, mobility services and non-linear
business models, i.e. de-linking employee growth and revenue growth,
will also lend support. 368
IT services exports to grow at healthy pace over long term
A shift in in focus towards offering higher value services like

infrastructure management services (IMS), integration services
(system and network integration) and IT consulting, is expected to
drive up billing rates in the long run.
369
IT services exports to remain healthy
370
Increasing regulatory requirements: Demand from the BFSI segment
has slowed down in the past few quarters, due to lower profitability of
clients.
However, pressures from increasing regulatory requirements (e.g. Dodd-
Frank Act) would propell demand, going forward.
In key export markets like the US and the UK, discretionary spending for
regulatory compliance will be the main growth driver (for IT services
exports) in the medium term.
With increased discretionary spending, the share of package
implementation and integration services of Indian IT service vendors is
going to increase, over the next few quarters.
Change in service-line mix: Over the long term, IT services players will
increasingly undertake high-value projects like package implementation
371
and remote infrastructure management.
We expect this strategy to boost billing rates, as players move up the

value chain.
The IMS segment is expected to contribute the largest proportion of
revenues for IT services companies over the long term.
Greater offshoring by emerging verticals: As the need to control
costs increases, verticals like retail, healthcare and energy and
utilities are expected to offshore IT services.
Although the BFSI segment is expected to retain a dominant share
in revenues, we expect smaller verticals to also increase offshoring
activities, as growing competition demands better efficiency.
Companies are also aligning themselves to a vertical-specific
strategy and developing process IPs specific to certain verticals.
372
Adoption of new technologies: Indian IT service vendors will see

new business opportunities from cloud technology adoption across
large corporates firms and small & medium enterprises.
Moreover, other emerging technologies such as social media,
mobility and analytics to drive growth over the medium term.
373
US immigration bill to marginally affect revenue growth
The proposed immigration Bill in the US, which has been returned
by the Judiciary committee, is expected to become a law in the next
10-12 months if it gets passed by both the houses and signed by the
President.
The Bill expected to limit the proportion of H-1B and L-1 visa
workers at client site.
The proposed bill, in its current form, will however only marginally
impact Indian IT vendors' revenue growth in select service lines.
CRISIL Research believes that service lines which require a higher
proportion of onsite presence are likely to be affected in the medium
term till Indian vendors step up local hiring.
Multinational players, with a higher proportion of local employees,
374
will stand to gain in the interim period.
Exports-Employee Growth
375
High utilisation rates curbed employee additions in 2013-14
In the aftermath of the global financial crisis, Indian IT vendors have
been recruiting cautiously.
They are looking to balance two objectives: (i) to execute current
projects with sufficient resources and avoid supply constraints, (ii) to
maximise utilisation of existing resources and avoid wastage of man-
hours.
To strike the right balance during a weak demand environment,
companies went slow on employee additions.
Players therefore focused on just-in-time hiring, development multi-
skilled professionals and outsourcing contracts to third party.
Moreover, companies having a greater focus on non-linear initiatives,
improved productivity through process automation and platform-
based delivery. 376
Consequently, employee additions in the industry fell significantly.
In 2013-14 too, overall employee growth remained low despite
better revenue growth, as a few major players reported better
utilisation rates.
However, the number of employees, working for Indian IT services
exporters, has almost tripled to 1.4 million in 2013-14, from 0.5
million in 2005-06.
377
378
Low attrition, sub-optimal utilisation reduced hiring in near term
During the first nine months of 2013-14, tier-1 companies added only
20,336 employees, as against 40,080 added a year ago.
CRISIL Research believes that net addition will remain weak over
the the medium term as companies will focus on improving
productivity to manage pressure on billing rates and increase the
share of non-linear revenues.
379
Net employee addition by Indian IT services vendors
380
Net employee addition by Indian IT services vendors
Though slowing employee additions may enable IT vendors to

optimise costs, over the long term, the industry's employee strength
is unlikely to keep pace with the rise in IT services exports.
Companies are trying to minimise the risk arising from talent crunch
by moving up the value chain, providing higher-value platform-
based services and developing intellectual property-based products,
which would require relatively low manpower.
381
Focus on non-linear revenue streams to impact hiring over long term
Over the past few years, Indian IT services companies have been
focusing on non-linear revenue sources , i.e. de-linking employee.
Even though these sources have accounted for only 8-10 per cent of
revenues so growth with revenue growth far, the industry's revenue
growth has outpaced the growth in employee additions.
This could be attributed to the use of automated platforms for services
and higher productivity per employee, and we expect this trend to
gather further momentum in the near term.
CRISIL Research projects a marginal increase in the number of
employees catering to IT services exports to 1.63 million in 2014-15,
and record a CAGR of 6-7 per cent to reach 2.07 million in 2018-19.
382
Employee base
383
Methodology for estimation of employee base
384
Exports-Segments
385
CAD, IMS to account for bulk of revenues
Custom application development (CAD) services continued to account
for a huge portion of revenues for Indian IT services exporters in 2013-
14, followed by infrastructure management services (IMS) and
application management services (AMS).
These three service lines together comprised more than 65 per cent of
Indian IT services exports in 2013-14.
Over the next five years, we expect the IMS segment's share to rise to
close to one-third of total revenues.
As Indian IT vendors enter newer geographies, we also expect the
AMS segment's share to grow, which is among the easiest services to
be outsourced.
386
CAD, IMS to account for bulk of revenues
A shift from traditional CAD-based (project-oriented services)

projects to service lines such as enterprise application services (EAS)
and IMS also indicates that global clients are placing greater trust on
the ability of Indian IT vendors to handle large complex orders.
Higher discretionary spending by corporate clients would boost
demand.
Similarly, higher focus on quality and standardisation of testing tools
and processes is expected to lead to demand for software testing
services.
387
Share of service lines in overall revenue mix for IT services exporters
388
Revenues from newer technologies to grow at a 20-30 per cent CAGR
According to Nasscom, social, mobility, analytics and cloud (SMAC)
will be the major growth drivers for Indian IT vendors over the next
few years.
These emerging technologies are expected to revolutionize enterprise
technology and bring more connectivity among various stakeholders
(customers, shareholders, employees etc etc) of the client firms.
Further data from the industry body reveals that revenues from
Social media related-services is likely to grow at a 17-19 per cent
CAGR over the next three years.
Clients will spend money to understand the thought process of
customers based on buying trends.
It will also help the clients capture valuable leads of potential
customers. 389
Mobility services offers clients real-time communication and
connection with their customers.
This is expected to improve operational efficiency, customer
satisfaction and greater employee satisfaction over the long run.
Nasscom estimates revenues from these services to grow at a 34-35 per
cent CAGR over the next three years.
Analytics will have much greater role to play in corporate boardrooms
and help taking various important decisions in digitised world.
Higher usage of analytics can offer clients a competitive advantage
over rival organisations and result in significant business benefits (in
the form of more effective marketing and increased revenues).
Revenues from analytics are expected to grow by more than 30 per
cent CAGR over the medium term.
390
Cloud is enabling clients to use IT resources efficiently.

The reduction in upfront cost helps many small enterprises to
leverage information technology for their daily business activities.
As per a NASSCOM study, about 70 per cent of Fortune 500
companies have adopted cloud services in some form.
Revenues from this segment expected to grow at a 15-17 per cent
CAGR over the next three years.
391
BFSI to dominate revenue mix; utilities, retail to gain share
The banking, financial services and insurance (BFSI), telecom and
manufacturing sectors form the key client verticals for the Indian IT services
industry, with almost a 75 per cent share in total revenues.
Post the slowdown in 2009-10, growth in revenues from the BFSI vertical
recovered, and the segment continues to contribute 35-40 per cent of total
revenues for tier-I vendors.
Compliance norms announced for banks and financial institutions in 2012-
13, are also expected to drive the adoption of IT services.
Growth in spends by insurance players, who are experimenting with new
business models to comply with new regulatory norms for the healthcare
sector, would be another key demand driver.
The vertical mix for IT services exports is, therefore, unlikely to change
considerably over the medium term. 392
However, the share of the BFSI vertical may decline marginally in the near
term as few financial institutions, especially investment banks, face
significant margin pressures.
Revenue growth from telecom, the second-largest vertical for Indian IT
vendors, is also expected to remain sluggish over the next few quarters as
revenue growth remains weak.
Nevertheless, demand from smaller verticals such as retail, utilities and
transport is expected to grow faster as these sectors are increasingly
adopting IT services to optimise their business performance.
Indian IT vendors are also making efforts to increase service offerings in
verticals such as retail, energy and healthcare, to diversify risks and
maximise revenue growth.
393
For instance, revenues from the energy & utilities vertical, constituting
about 4 per cent of revenues for tier-1 IT firms, have grown by 20-25
per cent over the past 3-4 years.
The share of non-traditional verticals in the IT industry's revenues is
expected to increase as vendors strengthen their expertise in emerging
verticals.
Indian IT vendors are focusing on building capabilities by executing
projects in the domestic market such as Aadhaar (Unique ID
programme), the Accelerated Power Development and Reform
Program (APDRP), state data centres (SDCs), etc.
The retail sector is expected to aid growth in IT services exports as
players are making investments to integrate their multiple sales
channels, and merge the online store and physical store into one
394
cohesive unit.
With large retailers expanding in overseas markets, there will be
greater need to integrate systems across multiple locations.
Non-traditional verticals to drive growth
E: Estimated
395
Note: Others includes energy and utilities, travel and transport, media and others.
Exports-Margins
396
Operating margins to remain under pressure in 2014-15
In 2013-14, operating margins of Indian IT service exporters are
estimated to increase by about 100 basis points (bps).
Better volume growth and an estimated depreciation of 12-14 per cent
in the rupee boosted margins during the fiscal.
However, in 2014-15, margins are likely to decline by 0-50 bps owing
to a wage hike of 8-10 per cent, pressure on billing rates and
increased onsite hiring.
However, higher volume growth and marginal benefits arises out of
rupee depreciation will negate the negative effects to some extent.
Revenues are expected to grow by 16-18 per cent y-o-y in dollar terms
in 2014-15 as against estimated 14 per cent growth in 2013-14.
Our base case scenario assumes that the rupee will average 63 per
dollar in 2014-15 from an average of 60.5 in 2013-14. 397
Operating margins to remain under pressure in 2014-15
If the rupee fluctuates from its expected full-year average of Rs 63

per dollar, operating margins of Indian IT companies will vary
accordingly.
Sensitivity of operating margins to exchange rates (Rs/$)
398
Rupee to depreciate only by 3-4 per cent...
Every percentage point depreciation in the rupee against the dollar,
drives up the operating margins of IT services companies by about 40
bps (assuming all other business parameters remain stable).
This is because a significant portion of Indian IT vendors' earnings is
in foreign currencies, yet they incur most of their costs in rupee terms
(except travel expenses, onsite employee and other costs, and foreign
currency liabilities).
A weak rupee, therefore, hugely boosts Indian IT vendors' operating
margins, as the same amount of dollar revenues fetches more in
rupee terms.
However, in 2014-15, Indian IT services companies are expected to
gain marginal benefits in 2014-15, as rupee is expected to depreciate
only by 3-4 per cent y-o-y as against a sharper decline seen in 2013-14.
399
Rupee benefits to fade...
400
...but hedging positions will hold key to net margins
An improvement in operating margins may or may not reflect on
companies' net margins, depending on their extent and level of
hedging.
Hedging gains/losses are determined by the strike price at which
forward contracts are struck.
Net margins will also be impacted owing to the increase in the
effective tax rate for Indian IT vendors, as the tax holiday for many
delivery centres expires during 2014-15.
401
...net margins hinge on extent of hedging
402
...net margins hinge on extent of hedging
Tier-1 companies tend to have a higher proportion of hedging,

hence any resultant losses tend to be considerable when the rupee
decreciates.
However, tier-1 companies report stable margins in most quarters s
compared to mid-tier companies who report relatively volatile
margins, as they enjoy the benefits of scale, bigger deal sizes.
Therefore, tier-I companies report operating margins of 24-26 per
cent as compared to margins of 15-16 per cent reported by mid-tier
companies.
403
Better utilisation rates also offer hope
A weak demand environment also took a toll on Indian IT vendors'
utilisation rates in 2012-13.
However, in 2013-14, average utilisation rates for the top four
players rose by about 100 basis points as demand increased.
Going forward, we believe few companies have scope to improve
their utilisation further in 2014-15 and this will impact margins
positively in 2014-15.
404
Utilisation rates (excluding trainees) to improve in 2013-14
405
Wage hike and onsite local hiring will impact margins...
The expected wage hike of 8-10 per cent in 2014-15 is likely to impact
operating margins, in a scenario where billing rates are expected to
remain under pressure.
Better growth in demand will boost hiring activities and this would
ironically increase attrition rates as well.
In line with our earlier forecasts, attrition rate is bottoming out since last
1-2 quarters.
Also, there will be increased demand for local hiring and increased visa
cost in the next few quarters.
Even as attrition levels and a wage hike will impact the vendors'
operating margins, they will leverage on a pyramidal structure (hiring
more entry-level employees), while ing productivity by adopting
automated platforms and other non-linear measures, i.e. de-linking
406
employee growth from revenue growth.
Attrition rates bottomed out
407
Lower billing rates to add to pressure
Over the last few quarters, billing rates have been under pressure amid
a difficul macroeconomic situation.
Clients from the BFSI space, contributing over 40 per cent of industry
revenues, also witnessed pressure on margins.
In 2014-15 too, we expect billing rates to decline by 1-2 per cent y-o-y.
The pressure on billing rates are also being heightened by aggressive
bidding from few players during renewals.
In the case of new deals, we expect vendors to pass on some of the
benefits arising from a weak rupee, which will further pull down the
blended (across service lines) billing rates.
However, blended billing rates will be a function of players' service
line mix.
408
Lower billing rates to add to pressure
Stronger demand from pent-up discretionary projects and the
rising proportion of high-value services (such as IT consulting,
system integration, etc) can partially offset this over the long term.
Billing rates (offshore) to remain under pressure
409
Billing rates (onsite) to remain under pressure
410
Onsite-offshore mix to have marginal impact
In challenging times, Indian IT services companies try to optimise

costs for clients by changing the offshore-onsite mix.
A higher offshore mix helps the client control costs and boosts
Indian IT vendors' margins.
In 2014-15, better demand and new project ramp-ups will increase
the requirement for an onsite presence.
Hence, we believe that increased onsite proportion would
marginally impact Indian IT vendors' margins.
However, in anticipation of US immigration law, companies are
trying to increase the offshore proportion slowly, which will
reduce the impact significantly.
411
Share of onsite effort to increase marginally
412
US immigration bill a key concern for margins over the long run
The proposed immigration bill, which is back from the Judiciary

committee, is expected to become a law in the next 10-12 months if
it gets passed by both the houses and is signed by the President.
In case, the proposed bill becomes law without any further
amedments will have significant imapct on Indian IT vendors'
margins.
The law is expected to limit the proportion of H-1B and L-1 visa
workers at client site.
Increased proportion of local employees and increased visa fees
have potential to impact Indian vendors' operating margins by 3-4
percent over the medium term.
(For detailed report, please refer our impact analysis section) . 413
Exports-Trends
414
Competition from global IT majors intensifying...
Entry of foreign players into offshore delivery model narrows arbitrage
for Indian players
As large information technology (IT) services multinational companies

(MNCs) such as IBM, Accenture, Cognizant, and Capgemini are setting
up sizeable development centres in India, the cost arbitrage enjoyed by
Indian IT services companies has shrunk significantly.
Global IT companies have expanded in India, both organically and
inorganically.
Currently, 25-30 per cent of their employees are Indians, much higher
as compared to a 3-8 per cent share in 2004.
Global IT services companies are now successfully replicating the
offshore model, which has so far been the exclusive domain of Indian
IT service providers, thus intensifying the challenges for domestic
415
players.
Competition from global IT majors intensifying...
MNCs increasing focus on lower-value contracts
Growth in global IT spends have slowed down over the past three
years.
Multinational IT services companies, which historically focused on
large deals, are now looking at smaller deals with shorter
turnaround periods to support growth.
This will pit them in direct competition with Indian IT services
companies across the IT services value chain.
416
Multinational IT service players competing with Indian companies
417
...New business models to help Indian IT vendors in the long run
Shift towards SLA-driven business models
Indian IT services companies have been slowly moving towards a

business model based on fixed prices and service-level agreements
(SLA) from one that was based on time and materials.
The global slowdown has encouraged this trend, as clients trimmed
costs.
In this regard, Indian IT companies have begun to design productivity-
linked contracts to provide greater value to clients, and hence are
making higher investments in improving clients' processes.
To balance this spurt in investments, it is imperative that Indian IT
vendors improve efficiencies and focus more on non-linear revenue
sources, such as developing intellectual property (IP)-based products.
418
Fixed-price contracts on the rise
419
New technologies, automation, licensed products opening up non-linear
revenue sources
Indian IT services companies are looking to move up the value chain

and capture a larger share of the global outsourcing pie by entering
non-linear businesses such as: standardisation of processes and
building a portfolio of high-value products.
Greater focus on non-linear revenues will help vendors reduce
dependence on employees.
420
Adoption of cloud-based services gaining momentum
Client requirements are evolving as new technologies emerge, as in the case

of cloud computing services.
Through this technology, we expect Indian IT service vendors to provide
services such as mobility applications, social media applications and
analytics and customised services.
Tier-I companies like Tata Consultancy Services (TCS), Infosys, Wipro and
HCL Technologies, along with some mid-tier companies, are already
offering cloud computing services.
Vertical-specific needs are also evolving, with sectors like healthcare opting
for automation for generating electronic medical records, medical bills, etc.
According to NASSCOM, globally cloud based services are expected to
grow by 15-17 per cent CAGR over the next three years. 421
Adoption of cloud-based services gaining momentum
Revenues from other new technologies such as social media,

mobility and analytics are expected to grow by 20-30 per cent CAGR
over the medium term.
Untapped markets offer considerable opportunities
Traditionally, the US has accounted for the maximum share of

revenues earned by Indian IT service vendors.
However, over the past couple of years, revenues from Europe and
emerging markets in the Middle East and Asia-Pacific, have also
increased.
Clients in the retail, utilities and insurance space, in the UK, France
and Germany, are increasingly offshoring IT services.
422
Indian IT service vendors are expanding their onsite capabilities in these
regions to boost revenues.
Infosys has appointed country heads for France and Germany, its two key
geographies in Europe, apart from the UK.
Similarly, Wipro and TCS have also expanded operations in Europe
through their BPO arms.
While Wipro has expanded its presence with Citibank's data centre
operations (Infocrossing), TCS has acquired insurance provider Unisys'
back-office operations in the UK.
By contrast, Chinese IT vendors mostly restrict themselves to low-end
services like application development and testing; they operate on a
smaller scale compared to large Indian IT services companies.
Most Chinese IT firms operate in the domestic market, which also makes
423
China a potential market for Indian players.
Indian companies have set up operations in China. For e.g., TCS has
delivery centres in Hangzhou, Shanghai, Beijing, and Tianjin.
At present, Infosys China has 3,000 plus consultants, providing IT
and BPO services to China and other Asian countries from
development centres in Shanghai and Hangzhou.
However, language-related barriers would deter Indian vendors'
penetration into China.
424
Geographical split of Indian IT services exports
425
Exports-Methodology
426
Approach and methodology
The process for projecting demand for Indian IT service exports has
been explained below:
Identification of key verticals that have a higher share of IT spends
and revenues
Estimation of IT services spend for each vertical, further bifurcated
under service lines
Aggregation of demand for global IT services under various verticals
and service lines
Estimation of percentage offshored under service-lines
Estimation of India's share in offshored IT services
427
Methodology for forecasting IT services exports
428
Domestic-Review
429
Domestic IT services grew by 14 per cent (CAGR) in rupee terms
in the last 5 years
Indian IT services players have traditionally focused on the exports
market to leverage on India's cheap manpower cost.
The global economic downturn in 2008-09 impacted the IT spends of
industries in major outsourcing hubs like the US and Europe, thus
impacting growth prospects of Indian IT service providers.
Consequently, Indian players invested in developing capabilities in
the domestic market to showcase to clients abroad their ability to win
and successfully execute large-scale domestic projects.
This strategy will enable them to win more orders abroad.
For a long period, the domestic segment constituted over a quarter of
total IT services revenues.
However, with significantly lower growth in the past 3 years (2011-12
430
to 2013-14), this proportion fell to 19 per cent by the end of 2013-14.
Domestic IT services grew by 14 per cent (CAGR) in rupee terms
in the last 5 years
Cautious spending by enterprises amid a slowing economy, slower
pace of implementation in Central government projects, and the wait-
and-watch policy prior to the impending general elections impacted
growth for 2012-13 and 2013-14.
For the 5-year period of 2008-09 to 2013-14, the domestic IT services
revenues grew at an estimated CAGR of 14 per cent in rupee terms,
driven by huge investments in the government, banking, finance and
insurance (BFSI) and telecom verticals, for the 5-year period of 2008-09
to 2013-14.
In the exports market too, the growth rate was similar at 14 per cent
CAGR in US dollar terms.
However, domestic IT services in US dollar terms grew at a mere 8 per
cent CAGR over the last 3 years due to significant rupee depreciation.
431
Indian IT services revenues: 2008-09 to 2013-14
The exports market has grown at a healthier rate in comparison with the domestic market,
432
thus further reducing the importance of the domestic market for IT vendors.
Domestic market is not as attractive as the exports market
The domestic market is considered to offer "high risk, low returns"

as compared to the exports market.
This is mainly because, vendors carry significant risk while
executing projects and this is not commensurate with the
profitability that the segment offers.
Some major features that constrain profitability of the domestic
market are listed below:
433
Delays in decision making, changes in scope inflate costs
As most of the projects are fixed priced contracts, slower

implementation leads to extra manpower costs for IT vendors.
Though delay in implementation may be the result of a change in
scope or delay in decision making by clients, vendors need to bear
the extra cost.
These risks render projects in the Indian market less attractive for
many IT vendors.
Over the last 3 years, significant delays in the execution of the
Central government projects has only reiterated this issue for
players.
434
Billing rates are lower by 40 per cent
The pack of services offered in the domestic and export markets are
different.
However, on a like-to-like comparison, domestic billing rates tend
to be lower by 40 per cent than offshore billing rates.
This gives the vendor limited leeway to manage costs.
Consequently, operating margins are significantly lower in domestic
projects in comparison with export projects.
435
Majority of the domestic contracts are on fixed-price basis
IT adoption in India is still considerably lower than that in the

developed economies.
Thus, the nature of work is largely project-based, and revenues
depend on the tendering and execution of such projects.
Also, 90 per cent of the contracts awarded are on fixed price.
This is in stark contrast to the exports market, where more than 50
per cent of the contracts are time and material-based in nature.
436
Small projects invite more competition
The average ticket size of domestic products is around Rs 20-50 lakh while
the ticket size of most of the export projects is over $1 million.
The small size of the contracts typically encourages many players to bid,
which leads to extra competition, thereby impacting margins.
As Indian customers are typically cost-conscious, profitability in the
domestic market is lower than that of exports.
However, despite these issues, the domestic IT services industry will
continue to render services in the domestic market as a capability-building
exercise.
Also, IT spends are expected to rise in the domestic market. Focus on
improving consumer satisfaction in segments like telecom and banking,
citizen-centric services and the need to reach the citizen directly, focus on
automation and standardisation will drive government-centric investments.
437
Small projects invite more competition
Further, the need to stay competitive and remain cost-effective
will drive enterprise investment although growth recovery will
lead to enhanced investments in that segment.
438
Top 10 players account for close to 35 per cent of the market
The domestic IT services market has a sizeable number of unorganised
players - nearly 50 per cent of the players are in the unorganised sector.
Among the top 10 players who account for nearly 35-38 per cent of the
industry's revenues, TCS, Cognizant, IBM, Wipro, HCL clocked revenues
of over Rs 25 billion each in 2013-14.
According to NASSCOM, Indian players accounted for a larger share of
the domestic market ( around 65-70 per cent in terms of revenues as stated
in their 2013 report) while global IT vendors accounted for the rest.
Also, players with integrated offerings have an edge over others in the
domestic space as domestic clients prefer players with integrated
hardware, software and service offerings over pure-play IT service
vendors, since projects in the domestic IT services space involve end-to-
end IT implementation. 439
Domestic revenue contribution is low for most of the players (2012-
13)
440
Domestic revenue contribution is low for most of the players (2012-13)
Revenues from the domestic IT services market account for a mere 5-7
per cent of the revenues of the top 10 players, the chief deterrent being
the lower billing rates, and consequently, lower margins.
At about $10-15/hr, domestic billing rates are significantly lower than
offshore billing rates of $20-25/hr in the IT services exports market.
Despite lower billing rates, the Indian IT service providers realise the
strategic importance of being present in the growing domestic market -
especially given the mileage they can showcase in terms of executing
large projects and uncertainty on growth prospects in the global
markets.
Several players now have dedicated work forces and strategies in place
to service the domestic market.
441
Domestic revenue contribution is low for most of the players (2012-13)
Investment by IT-intensive verticals, technological upgrades and IT

adoption at the state government level along with ramp-up in
execution by the Central government post the elections will drive
growth in the near future.
442
Domestic-Verticals
443
Revenue share of different verticals (2013-14 E)
444
Government to lead IT spending in domestic market
The government's spending on IT accounts for the largest share of

the industry's total revenues in 2013-14.
Currently, this vertical accounts for nearly 32-34 per cent of total
domestic IT services revenues.
This share is expected to go up marginally by 2018-19 as revenues
from this segment are forecast to grow by a robust 14 per cent over
the next 5 years.
Growth will primarily come from the 31 mission mode projects and
various other initiatives undertaken by the Central and state
governments.
This is in line with a very low per capita public sector IT spending
which stands at close to Rs 60-70 for India versus almost 3 times for
445
a country like China.
The National e-Governance Plan (NeGP) has three core initiatives
which include providing secure access to states (SWAN),
providing them with data management facilities (SDC) and kiosks
to deliver services to people (CSC).
The government is also increasing its defence spends for
automation, logistics management solutions and real time data
analytics tools for the armed forces.
The state's IT spending is expected to grow at a faster pace in
verticals like education, healthcare and PDS in the coming years.
While a number of government services have reached a stage of
delivering transactions, a lot needs to be done in the area of
integration among various government agencies and across
stakeholders. 446
All these would involve significant infrastructure planning and

management, and system integration capabilities.
For example, TCS executed the 'eDistrict' initiative in West Bengal.
The project focused on better district efficiency, lower travel time
and waiting period and shorter turnaround times.
Computerisation of passport services, taxation and insurance
would involve significant overhaul of the existing IT systems,
integration of systems with new applications, database
management and setting up of disaster recovery systems.
Managing the IT needs of utilities like power, water and
communication also provide domestic IT services companies with
significant opportunities.
447
Government spending during Thirteenth Five-Year Plan: e-
Governance Initiatives (Rs bn)
448
Budget break-up under NeGP (Rs billion)
449
Financial outlays for MMPs (Rs bn)
450
Key risks
Most of the government projects are in the nature of fixed-price
contracts, awarded on the basis of open bidding to the lowest
bidder.
As a result, the IT vendors' revenues from the government segment
are typically volatile in nature.
Thus, reserving resources (in terms of manpower) for the same is a
high risk to overall utilsation (brings down average utilisation
rates).
As the projects are fixed-priced contracts, delays in approvals and
execution by various government departments will lead to extra
cost for the vendor.
This poses high risk to operating margins as costs might increase
disproportionately. 451
Key risks
Although all the government projects' payments are guaranteed by the
government, any delay in fund allocation leads to higher DSO (Days
sales outstanding).
After nearly 7 years of it being set up, the NeGP has spent close to 25-27
per cent of the allocated outlay as of June 2013.
Initiatives like e-district, SDC and SWAN have received most of this
spending.
In case of state MMPs, while projects are being implemented across the
states, only 18 out of the total 35 earmarked territories have shown
continued progress.
The Department of Electronics and Information Technology is also in
the process of setting up NII 2.0 (National Information Infrastructure) -
an expert committee to design the roadmap for setting up IT
452
infrastructure in the country.
Key risks
Projects like 'Meghraj' (the Union government's Cloud Computing
project) are expected to promote a fresh round of initiatives in the IT
services space.
453
BFSI to remain the largest contributor among companies
The pace of IT adoption is relatively higher in the BFSI vertical as compared

to the rest of corporate India.
This vertical contributed to nearly 27 per cent of the industry's total
revenues in 2013-14, a large chunk of which, came from the implementation
of core banking solutions.
However, most banks now have their core banking solutions in place and
are currently looking at greater financial inclusion.
They are increasingly investing in tools for customer analytics and are
looking to integrate with insurance databases to cross-sell their products.
A large number of public sector banks are computerising and networking
their rural branches as well.
This is expected to lead to higher demand for network consulting,
integration and infrastructure management services. 454
BFSI to remain the largest contributor among companies
Additionally, large networks would also require implementation of security
systems.
Also, the RBI is expected to issue new banking licenses which will create
incremental demand for IT services.
This demand is expected to drive up IT services spend in the BFSI vertical
by 13-14 per cent CAGR between 2013-14 and 2018-19, increasing its
revenue share further to close to 28 per cent by 2018-19.
The growth from this vertical is closer to the average industry growth rate of
13 per cent (CAGR) with increasing need for customer-centric solutions.
Moreover, as per the RBI regulation, certain types of work cannot be
outsourced.
For example, core management functions such as corporate planning and
decision-making functions such as determining compliance cannot be
455
outsourced by banks for cost reduction.

Telecom vertical to account for lower revenues than the average
contribution of other sectors
Net subscriber additions in the telecom services sector grew at a
staggering 40 per cent CAGR between 2006-07 and 2011-12 to touch
919 million subscribers in March 2012.
However, the rate of subscriber additions plummeted post that given
the large-scale de-activation undertaken by operators of inactive
subscribers from their networks.
The wireless subscriber base stood at 886 million as of December 2013,
a modest increase from March 2013 levels of 867.8 million subscribers.
Consequently, revenues from this segment will grow at 8-9 per cent
CAGR till 2018-19 vis-vis the industry growth of 13 per cent CAGR till
2018-19, and its contribution to total domestic IT services revenues
will decline from 8 per cent in 2013-14 to 7 per cent in 2018-19.
456
Telecom vertical to account for lower revenues than the average
contribution of other sectors
Growth will primarily come from application development for smartphones
to enable an ecosystem that can provide value-added services.
CRISIL Research believes that domestic IT services will get significant
opportunities in this space with the increasing use of data services by
citizens.
Mobility-related application is also on the rise as large enterprises are
seeking ways by which they can enable executives to access real-time data of
the organisation from any location using tablets or smart phones.
Mobile operations require significant IT support for network and call traffic
management, and robust service delivery platforms (SDP) for effective
delivery of value-added services.
Bharti Airtel, for example, has engaged IBM to manage its IT infrastructure,
develop and manage SDP and handle customer calls. 457
Key risks
Although some players have decided to exit the telecom space

after the Supreme Court's verdict on cancellation of 2G licences,
competition remains price-based as the consumers are extremely
price-sensitive.
The entry of newer players with aggressive price strategies might
further dampen financials of telecom players.
This has curtailed the ability of telecom service providers to spend
significant money on IT infrastructure.
458
Revenues from other verticals to grow with increased IT adoption
Retail
Growth in IT services revenues from the retail vertical will come

primarily from robust growth of nearly 18-20 per cent in the
organised retail sector over the next 5 years.
The increasing demand for online presence to connect to customers
on 24X7 basis is also expected to drive higher IT usage in the sector.
Thus, growth in multi-channel retail and the need for differentiated
customer service will drive growth in IT investments in this segment.
CRISIL Research expects IT services revenues from the retail sector to
grow at 16 per cent CAGR over the next 5 years to Rs 37 billion and
contribute to nearly 3 per cent of domestic IT services.
Contracts from this segment will continue on a piece-meal basis.
459
Healthcare
In 2013-14, Healthcare contributed to nearly 5-7 per cent of overall Indian

domestic IT services revenues.
CRISIL Research estimates that IT services revenues from the Healthcare
vertical will grow at 13-14 per cent CAGR over the next 5 years to Rs 70
billion.
Growth will primarily come from customer-facing business processes on
account of higher adoption of IT in automation and decision support
systems like remote patient monitoring, tele-medicine and clinical data
repositories.
Most of the contracts from this segment too are on a piece-meal basis.
Growth will also be supported by the the health delivery industry which is
expected to grow at a CAGR of 12 per cent to Rs 5.2 trillion in 2017-18 from
460
Rs 3 trillion in 2012-13
Manufacturing
The Indian manufacturing sector spends less than 1 per cent of its revenues
on information technology.
This is a reflection of the low adoption of technology in managing day-to-
day business operations.
We believe that post the economic revival, enterprises will accelerate their
pace of IT adoption to achieve cost efficiencies.
IT services revenues from the manufacturing sector will grow at about 10-11
per cent CAGR over the next 5 years to Rs 64 billion in 2018-19.
The growth will be driven by the integration of systems among different
units.
The large manufacturing units have established enterprise resource
planning (ERP) systems and are well-connected with their dealers and
461
suppliers.
Manufacturing
These units are looking to integrate ERP solutions with the shop floor
to improve efficiency.
Investments in business processes, support functions, cost reduction
and warehouse management will drive growth.
Small and medium business units are also increasingly looking at
open source and on-demand software solutions and are aiming for
better connectivity and interaction with their dealers, suppliers and
customers.
Most of the contracts in this segment are piece-meal contracts.
462
Cloud services will drive growth in SMEs
The penetration of information technology among small and medium
enterprises (SMEs) across industries is very low as the cost of IT is
very high.
However, the proliferation of new technology such as cloud services,
where the initial investment is done by IT vendors and the total
operational cost is shared among end-users, the cost of IT for SMEs
has come down significantly.
CRISIL Research believes that the cost benefit will drive the growth of
cloud services and many of the small companies are looking forward
to using this technology to their advantage provided it comes at an
affordable price.
According to our industry sources, SMEs contributed to only about
25-30 per cent of domestic IT services revenues in 2013-14. 463
Cloud services will drive growth in SMEs
However, in future, we expect cloud services using the pay-per-

use model to accelerate consumption by SMEs.
464
Domestic-Trends
465
Players focus on domestic market for strategic reasons
Although the domestic market is not as profitable as exports, many

players are taking up projects in the Indian market for various reasons.
Building competencies and gaining competitive advantage are the two
most important reasons among those.
Vendors often use the experience gained from executing a project in the
domestic market Building competencies: in a bigger project to be
executed for a developed market.
For example, VFS Global started providing visa processing services in
India first and replicated the platform later in 83 other countries.
In another instance, the TCS passport seva project was first executed in
the Indian passport offices.
It is now proposed to be replicated in all Indian embassies across the
globe. 466
Players focus on domestic market for strategic reasons
Competitive advantage: Large MNCs can benefit from the global

experience in developing solutions for similar situations.
The same IT vendors can replicate the solution and deliver it at a
lower cost in the domestic market.
For example, big players like IBM would have a competitive
advantage over other players who would be completely new to
these kind of projects.
467
Domestic projects involve delivery of end-to-end solutions
In the exports market, IT service providers earn about 70 per cent of
their revenues from low-end service lines such as 'application
development and maintenance' and 'custom application development'.
Indian IT players, to date, have been unable to establish themselves
successfully in high-end IT consulting, system integration and
network integration services. Indian IT service vendors success has
been limited to few infrastructure management services projects.
Consequently, the revenue share from high-end service lines have
remained at low single digits till date despite significant focus on such
service lines by tier-1 players.
In contrast, projects offered in the domestic space require end-to-end
IT implementation encompassing consulting, implementation, system
integration, testing and infrastructure management services (IMS). 468
Domestic projects involve delivery of end-to-end solutions
System integration and application management together account

for 60 per cent of the domestic IT services revenues.
Such contracts provide ample opportunities to Indian IT service
providers to develop their capabilities and win clients abroad.
IT players are also forming consortiums and leveraging on
individual Strengths to bid for such large projects .
469
Service-line mix in domestic and export markets (2013-14)
470
Delays in implementation, scope creeps impact player margins
Delays at the decision-making and implementation stage along with

frequent scope creeps, particularly in government projects, make
management of projects within the committed cost a daunting task.
As most of the projects are fixed-price projects awarded on the basis of the
least bid, player margins are significantly impacted by such scope creeps.
Cloud to gain traction across SMEs
Traditional enterprise applications attract an annual maintenance contract
(AMC) fee amounting to 17-20 per cent of the license cost.
Also, the traditional way of IT usage where clients own all assets, requires
significant upfront investments.
Hence, SMEs are increasingly investing in open source or on-demand
software, using software as a service (SaaS), as they are significantly
471
cheaper.
Cloud to gain traction across SMEs
The other kind of cloud services (Iaas and PaaS) are also on the rise
as these services are offered using the pay-per-use model.
CRISIL Research believes that cloud services would result in
significant uptake of IT by SMEs as the capex intensity is low.
472
Subcontracting, standardising, shared risk-reward improve
project viability
It is extremely important to manage the cost of service delivery so
as to be successful in the domestic market. Hence, players use
various methods to optimise the business model to render the
projects viable:
Automation and standardisation to minimise human intervention,
e.g. cloud services
Subcontracting to smaller vendors to control costs; for example,
Wipro subcontracts nearly 40 per cent of its business (measured in
revenues) in the domestic market
Service delivery from tier-II and tier-III towns and employing non-
engineers in order to control costs
Shared risk-reward model allows the vendor to enjoy a part of the
473
profits made by the client, e.g. IBM-Bharti.
Major IT services vendors increasing focus on the domestic market
With increasing focus on the domestic market, big IT vendors are
offering IT solutions to SMBs, large enterprises and the
government.
A few of the examples are:
Small and medium businesses
Wipro is offering cloud services to SMBs in an attempt to become

the largest IT vendor in the domestic market.
According to the company, the number of SMB customers is
growing very fast as it is affordable for them.
TCS iON has garnered 235 customers in the domestic market.
The company has a target of garnering revenues of $1 billion from
this product over the next 5 years.
474
Major IT services vendors increasing focus on the domestic market
Large enterprises
IBM has bagged a deal of Rs 2.85 billion from Jet Airways and also
signed a deal with Vodafone Essar.
Wipro has won big ticket deals from Aircel, Lavasa, DIAL, ESIC,
Punjab & Sind Bank and Uninor.
Government
TCS is providing technology for automating the process of issuing

passports to the external affairs ministry.
MindTree won a deal worth Rs 200 million for handling the application
development and maintenance (ADM) work for the Unique
Identification Authority of India (UIDAI).
Glydone technology is implementing the BOOT project (like MNREGA)
for the Maharashtra government on a managed services model. 475
Domestic-Outlook
476
Domestic IT services to grow by 13 per cent CAGR over next 5 years
The domestic IT services market is expected to grow at a CAGR of 13 per
cent from an estimated Rs 727 billion in 2013-14 to Rs 1,350 billion in 2018-
19.
New emerging verticals along with BFSI, and higher spends by the
government will drive growth in this market.
However, players will experience volatility in revenues as most contracts
are project-based where revenue does not come in on a regular basis and at
times, revenue growth might slow down due to delays in project sanctions
and implementation.
However, growth in revenues will improve to 12-13 per cent in 2014-15 from
an estimated growth of 9.7 per cent y-o-y in 2013-14 on account of increased
spending by the government following the general election and pent-up
demand from companies in an improved macroeconomic environment.477
Domestic IT services revenue growth outlook
478
Operating margins to remain flat over next 2 years
Revenues in the domestic market come largely from fixed cost
projects.
As mentioned earlier, the billing rates of domestic IT services
players are lower at about $10-15/hr in comparison with $20-25/hr
for an exports player.
Lower billing rates combined with frequent scope creeps result in
significantly lower domestic margins compared with the exports
margins.
As per our analysis, in 2013-14, the operating margins of IT
services exports were higher at 22-25 per cent as compared to 14-16
per cent earned on domestic sales.
Service providers attempt to increase their margins by controlling
costs. 479
Operating margins to remain flat over next 2 years
Increasing the proportion of low-cost workforce such as
freshers/non-engineering graduates for domestic IT projects and
subcontracting are some strategies adopted by players to manage
their operating costs.
Typical cost structure of a pure-play domestic IT services player
480
Typical cost structure of a pure-play domestic IT services
player
CRISIL Research expects the operating margin of domestic IT
players to remain stable in the near term.
As pure-play IT services players improve their offerings to
accommodate end-to-end solutions, their offerings will get skewed
towards higher-end service lines.
However, with rising competition, higher billing rates would be
difficult to achieve.
As a result, we expect operating margins to remain stable over the
next 2 years .
481
Domestic-Employee Growth
482
Employee base to grow by 5 per cent CAGR by 2018-19
According to NASSCOM estimates, a total of 6.8 lakh employees are
employed in the domestic IT services and IT-enabled services sectors.
As per CRISIL Research's estimates, around 4.7 lakh IT professionals
worked in the domestic IT services market in 2013-14, while another 2.1
lakh people worked in the ITeS space.
We expect growth in the Indian domestic IT services employee base to
be limited to 5 per cent (CAGR).
The number of employees will thus increase to 5.9 lakh employees in
2018-19 from 4.7 lakh in 2013-14.
The lower growth is mainly because of the slower-than-expected
growth (13 per cent CAGR) in the domestic IT services domain over the
next 5 years and the increasing share of revenues from cloud-based or
automated platform services that require less manpower.
483
Growth in employees
484
Methodology for forecasting number of employees
485
Domestic-Methodology
486
Domestic IT services revenue projections: Approach and
methodology
We have estimated the size of the domestic IT industry's revenues and

projected the same based on a top-down approach and our interactions
with the players in the industry.
Through this exercise, we've tried to assess the potential revenues of key
end-user verticals and thus gauge the extent of their likely spend on IT
services.
We have pegged our expectations on the government's (both the Central
and the state governments) spend on IT, based on budgetary allocations
and discussions with players in the industry.
The process followed while projecting domestic IT services is detailed
below:
Identifying key verticals with a significant share of IT spends and revenues
487
Domestic IT services revenue projections: Approach and
methodology
Estimating IT services spend for each vertical
Aggregating vertical-wise demand for IT services
Estimating average IT spend by the Central government and all
state governments
488
Domestic IT services: Demand methodology
489

IT Services

Uploaded by

Document Information

Copyright

Available Formats

Share this document

Share or Embed Document

Sharing Options

Did you find this document useful?

Is this content inappropriate?

Copyright:

Available Formats

IT Services

Uploaded by

Copyright:

Available Formats

Analysis of IT Services Industry

According to NASSCOM, the worldwide information technology

According to NASSCOM estimates, hardware spending is expected

Worldwide hardware spending

In 2012-13, revenues in the hardware segment grew by 10 percent.

In 2012-13, the US dollar has appreciated against Euro and Pound

Although most of players witnessed a marginal rise in revenues,

Given the commoditised nature of the hardware industry,

In order to differentiate product offerings, firms will have to increase

Effective supply chain management will help reduce inventories and

The global software product market is characterised by stiff

According to NASSCOM, spending on packaged software is expected to reach

As compared to 2011-12, revenues of all major software players in

Software piracy is the unauthorised copying or distribution of

The global rate was increased from 35 in 2005 to 42 in 2011, as

As concerns of electronic attacks from viruses and unauthorised

According to NASSCOM, the global IT services industry is

In 2012-13, the topline of major players increased on an average of

Revenues of global IT service majors will continue to be under

The establishment of near-shore delivery centres has also supplemented the

Operating margins of software firms remained under pressure due

Verticals refer to various industries from which a firm derives its

As a result, the telecom meltdown in mid-2000 had a devastating

Changes in the service mix can impact a company's overall

Commoditisation of these service-lines could adversely affect billing

Geographical concentration refers to the amount of revenue that

Client concentration refers to the proportion of revenues a firm

A majority of the business of Indian IT services players is transacted

Such currency fluctuation puts margins of players at risk. This has

Initially, Indian firms had revenue streams that were predominantly

Most employees employed by Indian firms are Indian nationals,

Since Indian firms operate in a variety of countries, they are affected

The Indian IT services market is highly competitive. Competitors

A major cost component in the IT industry is employee-related costs.

Exports account for almost 78 per cent of the Indian IT services

In addition, companies are increasingly recruiting local executives in

The financial services sector (including securities, banking and

In IT services, the telecom vertical accounts for the second largest

The manufacturing sector contributed about of 16 per cent in 2012-13.

The Indian IT services export revenues (excluding revenues earned from

In 2012-13, the IT outsourcing segment accounted for about 49 per cent of

Application management services are estimated to grow from USD 3.7

Infrastructure management services (IMS) refer to maintenance,

Application implementation, software/hardware deployment, and

The domestic market has evolved steadily to complement the growth

In 2012-13, hardware constituted 40 per cent of the domestic market share.

Government focus to improve efficiency by IT adoption and

During this period, the IT industry was at the nascent stage of

Peak contract-size reached $5 million dollars, and high-quality and

The clientele of Indian companies today constitutes the world's top

In terms of quality too, Indian companies have moved up the ladder.

The next stage was associated with a focus on software

Introduced by an act of Parliament in June 2000, the Information

Introducing viruses or causing disruptions in a computer are also

Digital signatures were accorded legal acceptance by the IT Act.

Under the Indian law, computer programmes have copyright

Indian Copyright Act

A major development in the area of copyright was the amendment

The present Copyright Act conforms fully to TRIPS obligations.

Privacy issues are dealt with by the IT Act of 2000.

Given the global nature of remote services, building multi-country

Extension of incentives for units located in a EOU/SEZ for a year

In addition to incentives for overseas investments and relaxation in

Profits of companies that are located in or registered under Software