IN HIS LATEST LETTER to shareholders, Jamie Dimon, chairman and CEO, JPMorgan Chase & Co., one of the world's biggest financial companies, warned of 'storm clouds ahead.' The reference was to rising macroeconomic worries in U.S. and Europe following the collapse of big financial institutions such as Silicon Valley Bank and Credit Suisse. "And while this is nothing like 2008, it is not clear when this current crisis will end. It has provoked jitters in the market and will clearly cause some tightening of financial conditions as banks and other lenders become more conservative," he wrote.
This is bad news for India's information technology (IT) sector. Large Indian IT services companies generate more than half their revenues from North American markets. And nearly one-third of those come from banking, financial services and insurance (BFSI) sector, which has been in the eye of the global storm, triggered by rising interest rates as central banks fight soaring inflation. The slowdown in U.S. also threatens to derail India's target of $2 trillion exports by 2030. In FY23, services exports rose 30.48% to a fresh high of $320 billion, up from $255 billion in FY22, helping India reach its target of $750 billion exports. IT services accounted for $194 billion of this, according to Nasscom.
However, this growth seems a distant memory now going by the latest commentary from leading IT services companies.
Growth Worries And Deal Momentum
In Q4 of CY2022, U.S. financial institutions started indicating that macroeconomic factors (inflation plus slowdown) could push the country into recession. In January 2023, Infosys surprised markets by revising full-year revenue growth guidance to 16-16.5% from 15-16% earlier. This was despite the company winning large deals ($100 million or more) worth $3.3 billion, the highest in eight quarters. Yet, on April 13, it announced it was ending the year with 15.4% growth, missing its revised guidance, and projected 4-7% growth for FY24. Next Monday, when markets opened, the stock shaved off nearly 9.4% or over ₹54,000 crore of investor wealth. TCS, which does not provide annual guidance, reported total contract value of $7.8 billion in Q3. The management cautioned macroeconomic uncertainties could result in a "more balanced year in 2023." It ended FY23 with 13.7% revenue growth, lower than Infosys for the fourth straight year. Meanwhile, HCL Tech, which in Q3 lowered its full-year revenue guidance to 13.5-14% from 13.5-14.5% earlier, reported 13.7% growth for FY23. It projected 6-8% growth in FY24. So, what changed in two-three months?
U.S. recession means slower growth across the board, but the pain seems to be different for each company. Rajesh Gopinathan, CEO of TCS, said during the earnings call that while the company was expecting U.S. to pick up after the New Year, it turned more negative. "We saw clients hitting the pause button on ongoing discretionary projects and deferring new non-critical projects," he said. Though bearishness in BFSI was a given, even manufacturing process and industrial verticals showed signs of weakness. TCS said in retail, while travel, transportation and hospitality continued to do well, there were challenges in discretionary retail and fashion. Infosys attributed weak Q4 to "specific client ramp-downs in discretionary spending and delayed client decision-making on new deals." During the earnings call, Nilanjan Roy, CFO, Infosys, said BFSI saw budgeting delays led by macroeconomic uncertainty and softness in mortgages, asset management and investment banking. Even in retail, companies are prioritising investment in important areas when it comes to discretionary tech, focusing on those that bring in more revenues.
The companies seem to be banking on current deal pipeline and transformational deals but dip in global IT spending growth in 2023 will be a sure-shot damper. According to IDC's April forecast, worldwide IT spending could be $3.5 trillion in 2023, growth of 4% over 2022. In October 2022, it was estimated to be around 6%. But that is not the only challenge that IT companies are facing.
The Talent Question
The pandemic-induced tech boom had sent Indian IT service providers on a hiring spree in FY21. They hired more than 1.3 lakh people, according to Nasscom. Most companies battled historic attrition and rolled out changes to compensation structures, frequency of appraisals and other incentives to encourage employees to stay.
Now, the wheels have turned, as seen by cooling attrition over last two quarters. The pain of what might lie ahead for Indian IT services companies was seen during Accenture's second quarter earnings for FY23. K.C. McClure, chief financial officer, said cost optimisation measures would impact 2.5% or 19,000 of the workforce — over half being non-billable corporate functions and 800 senior executives. An estimated 6,000-plus people in India are likely to be impacted by this move.
Infosys, whose headcount fell by 3,611 during the fourth quarter, refused to share its planned hiring for FY24. TCS, which onboarded over 44,000 freshers in FY23, said while it could hire around 40,000 from campuses, lateral hiring would be done on a need basis. HCL Tech indicated it will hire around 15,000 freshers in FY24 compared to 26,000 in FY23. According to data by staffing company Xpheno, the IT services cohort has registered a 43% dip in active talent demand YoY. "The impact will be visible across the hiring funnel with reduced velocity of attrition refills and lower expansion hiring. This combined effect could push down net headcount growth figures of IT services cohort by 40-50% in the coming fiscal compared to FY23," says Kamal Karant, co-founder, Xpheno. With the sector on an hiring spree in past six-seven quarters, experts are expecting much of the correction over the coming few months.
With voluntary attrition declining and early management commentaries indicating weak hiring, will the industry opt for layoffs or reduced wage bills or both? Sekhar Garisa, CEO, Foundit, says while hiring pain is here to stay for the next six months, salary costs are already coming down with expectations of the workforce recalibrated due to the macro environment. However, impending layoffs can't be broad-brushed. "While top talent will always get hired, the real problem is with two sets of people—freshers coming into the market, because almost everyone has cut down plans to hire freshers and, two, mid-tier talent that has moved up the compensation level because of tailwinds. Now, they'll struggle to justify compensation to organisations looking to optimise costs," says Garisa.
Adding to uncertainties in FY24 is new heads at three out of five big tech companies in India. The biggest surprise was announcement by TCS CEO Rajesh Gopinathan that he would be stepping down, to be replaced by veteran Krithi Krithivasan (who led BFSI at the company) beginning September. In March, Tech Mahindra (TechM) announced Infosys veteran Mohit Joshi would succeed CEO C.P. Gurnani in December as he superannuates. Gurnani led Tech Mahindra for nearly 11 years as CEO. Cognizant Technology Solutions has chosen another Infosys veteran, S. Ravi Kumar, as CEO starting January this year.
As markets wait and watch the impact of these changes, at TCS' Q4 earnings call, Krithivasan said leadership change wouldn't lead to strategy change, adding, "We'll be tweaking what we do based on the market situation. Our strategy is anyways based on client centricity and employee empathy." However, given the challenging year ahead, his leadership skills will be put to test. At Cognizant, Ravi Kumar has to tackle sub-par revenues, loss of market share to IT companies and high attrition rates. During the fourth quarter earnings call, he said his top priorities would be winning large deals and making the company an 'employer of choice' in the industry. While Mohit's appointment has been seen as a positive, following TechM's investor day meet, ICICI Securities said in a note, "We downgrade the stock to Reduce (earlier: Hold) as we do not expect earnings fundamentals to materially change over the next three years despite potential leadership change."
After the pandemic-led boom to layoffs, delayed talent onboarding and single-digit revenue growth forecasts, IT companies seem to have adopted a wait and watch strategy for the near term, while remaining bullish for the medium to long term. While demand from different sectors may differ for the large companies, global technology research and advisory firm ISG's latest state of the industry reports gives insights into where enterprises are willing to spend and where they are holding back. According to ISG, annual contract value of deals over $5 million was around $24.1 billion in Q1 of 2023, 8% less than Q1 of 2022. Interestingly, share of managed services grew 7% ($6.8 billion), indicating that companies would continue to spend on digital transformation projects. Anything as a service and software as a service segments were down 13% and 4%, respectively. This indicates that enterprises are looking at either cloud migration or new projects in the cloud environment and holding back on these spends.
With the Indian technology sector employing 5.4 million people, one can't wish away the trickle-down effect of the IT slowdown on the overall India consumption story in the next four-six quarters. The only hope is fast economic recovery in U.S.