Non-linear models         Driving the next    phase of growth for  the Indian IT Industry           kpmg.com/in
Foreword      The Indian IT industry has entered the post-adolescent stage now. Since its birth in      late ‘70s and 80’s...
Our thanks to these leaders for their insights Mr. N. Chandrasekaran CEO & MD, TCS Mr. Bhaskar Pramanik Chairman, Microsof...
© 2012 KPMG, an Indian Registered Partnership and a member firm of the KPMG network of independent member firms affiliated...
Table of Contents Executive Summary                                                                                       ...
1 | Non-linear Growth Model – Driving Profitability, Bolstering the Indian IT Industry                                    ...
Non-linear Growth Model – Driving Profitability, Bolstering the Indian IT Industry | 2Based on the industry trends, KPMG h...
3 | Non-linear Growth Model – Driving Profitability, Bolstering the Indian IT Industry                                    ...
Non-linear Growth Model – Driving Profitability, Bolstering the Indian IT Industry | 4India’s IT-BPO Industry JourneySourc...
5 | Non-linear Growth Model – Driving Profitability, Bolstering the Indian IT Industry                                    ...
Non-linear Growth Model – Driving Profitability, Bolstering the Indian IT Industry | 6      Changing Dynamics             ...
7 | Non-linear Growth Model – Driving Profitability, Bolstering the Indian IT Industry      Alternate markets growth not f...
Non-linear Growth Model – Driving Profitability, Bolstering the Indian IT Industry | 8anywhere through any device or any  ...
9 | Non-linear Growth Model – Driving Profitability, Bolstering the Indian IT Industry                                    ...
Non-linear Growth Model – Driving Profitability, Bolstering the Indian IT Industry | 10                                   ...
11 | Non-linear Growth Model – Driving Profitability, Bolstering the Indian IT Industry                                   ...
Non Linear Models   Driving The Next Phase Of Growth For The Indian It Industry
Non Linear Models   Driving The Next Phase Of Growth For The Indian It Industry
Non Linear Models   Driving The Next Phase Of Growth For The Indian It Industry
Non Linear Models   Driving The Next Phase Of Growth For The Indian It Industry
Non Linear Models   Driving The Next Phase Of Growth For The Indian It Industry
Non Linear Models   Driving The Next Phase Of Growth For The Indian It Industry
Non Linear Models   Driving The Next Phase Of Growth For The Indian It Industry
Non Linear Models   Driving The Next Phase Of Growth For The Indian It Industry
Non Linear Models   Driving The Next Phase Of Growth For The Indian It Industry
Non Linear Models   Driving The Next Phase Of Growth For The Indian It Industry
Non Linear Models   Driving The Next Phase Of Growth For The Indian It Industry
Non Linear Models   Driving The Next Phase Of Growth For The Indian It Industry
Non Linear Models   Driving The Next Phase Of Growth For The Indian It Industry
Non Linear Models   Driving The Next Phase Of Growth For The Indian It Industry
Non Linear Models   Driving The Next Phase Of Growth For The Indian It Industry
Non Linear Models   Driving The Next Phase Of Growth For The Indian It Industry
Non Linear Models   Driving The Next Phase Of Growth For The Indian It Industry
Non Linear Models   Driving The Next Phase Of Growth For The Indian It Industry
Non Linear Models   Driving The Next Phase Of Growth For The Indian It Industry
Non Linear Models   Driving The Next Phase Of Growth For The Indian It Industry
Non Linear Models   Driving The Next Phase Of Growth For The Indian It Industry
Non Linear Models   Driving The Next Phase Of Growth For The Indian It Industry
Non Linear Models   Driving The Next Phase Of Growth For The Indian It Industry
Non Linear Models   Driving The Next Phase Of Growth For The Indian It Industry
Non Linear Models   Driving The Next Phase Of Growth For The Indian It Industry
Non Linear Models   Driving The Next Phase Of Growth For The Indian It Industry
Non Linear Models   Driving The Next Phase Of Growth For The Indian It Industry
Non Linear Models   Driving The Next Phase Of Growth For The Indian It Industry
Non Linear Models   Driving The Next Phase Of Growth For The Indian It Industry
Non Linear Models   Driving The Next Phase Of Growth For The Indian It Industry
Non Linear Models   Driving The Next Phase Of Growth For The Indian It Industry
Non Linear Models   Driving The Next Phase Of Growth For The Indian It Industry
Non Linear Models   Driving The Next Phase Of Growth For The Indian It Industry
Non Linear Models   Driving The Next Phase Of Growth For The Indian It Industry
Non Linear Models   Driving The Next Phase Of Growth For The Indian It Industry
Non Linear Models   Driving The Next Phase Of Growth For The Indian It Industry
Non Linear Models   Driving The Next Phase Of Growth For The Indian It Industry
Non Linear Models   Driving The Next Phase Of Growth For The Indian It Industry
Non Linear Models   Driving The Next Phase Of Growth For The Indian It Industry
Non Linear Models   Driving The Next Phase Of Growth For The Indian It Industry
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Non Linear Models Driving The Next Phase Of Growth For The Indian It Industry

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Our team recently released tis publication in collaboration with CII. This was widely appreciated by most IT Leaders present at the conference. Iy you are a CEO, this is a consolidated reference document of al talking points in te industry that provides prescriptive next steps for your company. I am sharing this document for the benefit of my Linkedin connections. Kindly feel free to reach-out if you want to discuss further.

Please drop me a note on - aljo@kpmg if you have lost my number.

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Non Linear Models Driving The Next Phase Of Growth For The Indian It Industry

  1. 1. Non-linear models Driving the next phase of growth for the Indian IT Industry kpmg.com/in
  2. 2. Foreword The Indian IT industry has entered the post-adolescent stage now. Since its birth in late ‘70s and 80’s, it has seen birth of a sibling (BPO) in 90’s. It has seen two inflection points, Y2K and DotCom, which propelled its growth and then has seen atleast two economic shocks during DotCom bust and 2009 meltdown - making him a “man” out of adversity. However, now it is facing major challenges and opportunities. The tax holiday has ended, MAT on SEZs have made them irrelevant, competition from other “offshore” countries is increasing and multinationals like IBM and Accenture have cracked the Indian model. The labor arbitrage can not sustain for more than 10-12 years. The industry needs to reinvent itself. It needs to define a compelling new business model. The industry needs to dramatically change revenue per employee equation, thus bringing “non-linearity” Can it do it? In order for it to . succeed, many factors will have to fall in place. The ecosystem involving the government, trade bodies and academia is missing maturity and involvement of two critical components - (1) Consultants / Advisers (strategy, accountants, lawyers) and (2) VC/PE community. When they all work in tandem with the industry, the transformation will come. “Indian IT industry has to change its business model whereby it can create more value to its customers by facilitating business process transformation, using technology innovations. Indian companies can no longer sit back and expect to do low-end work as what they have been told to do by their customers as in the past. This paradigm shift would require IT companies to acquire in-depth understanding of their customers’ business and consulting skills to advocate and facilitate business Pradeep Udhas process changes. Vertical domain specialization Partner and Head within their hitherto technology horizontal operation IT - BPO Sector will be a key requirement going forward” KPMG in India VK Mathews Chairman - India IT Summit 2012 & Executive Chairman - The IBS Group© 2012 KPMG, an Indian Registered Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
  3. 3. Our thanks to these leaders for their insights Mr. N. Chandrasekaran CEO & MD, TCS Mr. Bhaskar Pramanik Chairman, Microsoft India Mr. Vineet Nayar Vice Chairman & CEO, HCL Technologies Mr. C. P Gurnani . CEO, Mahindra Satyam Mr. Harsh Manglik Former Chairman NASSCOM, and Former Chairman and Geography Managing Director of Accenture-India Mr. N.V. ‘Tiger’ Tyagarajan President and CEO, Genpact© 2012 KPMG, an Indian Registered Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
  4. 4. © 2012 KPMG, an Indian Registered Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
  5. 5. Table of Contents Executive Summary 1 Section 1 - Background 3 Overview & Evolution of the Indian IT-BPO Industry 3 Changing Dynamics of the Businesses 6 Geo political – The Cocooning West 6 Market conditions – High client expectations, low spend 7 Socio-technological & cultural untethered access everywhere 7 Governance & regulatory – Killing the golden goose 8 Human resource – Ready to pay but no availability of skills 8 Need for Transformation – Non-linear Model, Driving the Next Wave of Growth 9 Section 2 - Non-linear Growth Model 11 Non-linear growth model – Redefining business dynamics 11 Intellectual Property 12 Cloud Computing 18 Platform BPOs 23 Non-linear Pricing Models 26 Delivery Accelerators 29 Branding 32 Mergers and Acquisitions 36 Section 3 - The Way Forward 41 Implications for players in the ecosystem 41 Government 41 Industry Bodies/ Associations 42 Academia 42 Clients 43 PE/VC 43 Consultants – Business, process and financial 43 About KPMG in India 45 About CII 46 Glossary 47 © 2012 KPMG, an Indian Registered Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
  6. 6. 1 | Non-linear Growth Model – Driving Profitability, Bolstering the Indian IT Industry Executive summary The Indian IT-BPO industry today stands at employee conundrum. With rising attrition, an inflection point in its evolution. While, the wage inflation and non-availability of skilled industry expanded from a mere USD 8 billion employable talent pool, companies are in 2000 to USD 88 billion in 20101, contributing wondering what their strategy should be in an significantly to India’s economic progress over industry which has traditionally been highly the last decade, business leaders now agree people-dependent. that the next decade will be substantially different from the previous one, in which new business models will emerge to deal with a IT-BPO Industry Challenges rapidly changing marketplace and customer • Geopolitical - Protectionist policies, new needs1. Thus, while remarkable progress has visa policies, falling discretionary spends, been exhibited by the Indian IT-BPO industry emerging markets not compensating for in the past, the future brings increasing overall decline complexity • Market Conditions - Increased competition among vendors, low-cost destinations, The industry has had its share of turbulent Client maturity, high-end services eluding times; it has grappled with adverse Indian players protectionist policies, visa regulations, falling discretionary spends and slower scale of • Socio-Technological & Cultural - Social adoption in newer markets. Market conditions media, mobility, convergence, disruptive, have become tougher due to heightened technologies competition among vendors, emergence of • Regulatory – Taxation, IP protection other low-cost destinations and increasing maturity of clients now demanding more • Human Resource – Attrition, wage inflation, accountability. Technological disruption is huge employee base, employability. shaking up the vendor landscape, where players are racing against time to respond to change. Domestic regulatory environment At this critical juncture, firms need to look comprising of issues of taxation, transfer beyond the conventional linear growth models pricing and lax IP Protection laws are further and turn to innovative non-linear forms of adding to woes of the industry. But the most growth. important challenge of all is perhaps the 1. NASSCOM Strategic Review © 2012 KPMG, an Indian Registered Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
  7. 7. Non-linear Growth Model – Driving Profitability, Bolstering the Indian IT Industry | 2Based on the industry trends, KPMG has • D elivery accelerators to deploy reusable robust infrastructure and aiding in domesticidentified 7 emerging models increasingly tools across multiple customers growth through e-governance measures.being adopted by companies to accelerate accelerating set up time and attaining It is the Academia’s imperative to nurturetheir non-linear growth2. They are: efficiency the next generation of talent, by fostering a thinking mindset, offering vocational • Branding to command a premium over training for ‘ready to work’ human capital and competitionNon-linear Models promoting partnership with the industry to• Intellectual property • Mergers and Acquisitions as means prepare students as they enter the workforce. to acquire new ideas, clients, service A more proactive role should be played by• Cloud computing extension, patents and enter new markets. private equity funds and venture capitalists by• Platform BPOs identifying early stage technology start ups• Non-linear pricing models Today, there is an urgent need for innovation and nurturing them through their lifecycle. on multiple fronts – across products, services, Of course, one of the most important• Delivery accelerators delivery models, pricing and branding, a need stakeholders, the client, will have to shed its• Branding further accentuated by the recent slowdown. inertia and seek transformational deals with We believe it will be a combination of all these service providers, who they should see as• Mergers and Acquisitions. factors that will equip the Indian software strategic business partners. Joint initiatives industry to stay on top of their game, at an for new technologies, an open mindset, equal footing with global giants and transform transparency and calculated risks would help• Intellectual property so that companies India to a technological behemoth from just contribute to this end. In that last endeavor, can monetize their intellectual property being the world’s back office. consultants would come into the picture portfolios keeping vendors and clients ahead of the At this watershed moment in the Indian• Cloud computing to use flexibility, curve and help conceptualize new products IT-BPO industry, all important stakeholders scalability and cost benefits made available and markets based on their experience and in the technology ecosystem comprising through the ‘as-a-service’ paradigm exposure. service providers, clients, government,• Platform BPOs to use a common business industry bodies, academia and consultants With successful adoption of the seven platform for multiple clients & services will need to work cohesively in order to models of non-linear growth and incorporating develop a long-term, holistic growth strategy. them in their strategy, Indian IT majors• Non-linear pricing models linking client The government’s role here is envisioned can emerge as this decade’s leaders in expenses to business outcomes or usage to be multifold, in creating an environment technology, pioneering the next phase of instead of headcount and effort spent conducive for innovation, rationalizing tax exponential growth. structures and transfer pricing laws, building2. India IT Services, Primer on Non-Linear Pricing Models and Their Implications, March 2010, Morgan Stanley © 2012 KPMG, an Indian Registered Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
  8. 8. 3 | Non-linear Growth Model – Driving Profitability, Bolstering the Indian IT Industry Section 1 Background Overview & Very few industries in modern economic history have replicated the success story of of series of measures to encourage the growth of the IT industry was framed. In Evolution of the the Indian IT-BPO industry. The industry, which was almost at nascent stage till late 1980s, 1985, all the software export revenue was exempted from income-tax3. Domestic Indian IT-BPO grew at tremendous pace after early 1990s. The IT exports have grown by 100 times over firms shifted from exporting programmers to outsourcing custom software while Industry the last 15 years1. few others started venturing into product development. The Indian IT industry has witnessed five distinct stages through its evolution. It has The 1990s: Booming of India’s IT sector faced different circumstances and challenges, The 1990s were the turning point in the story and has emerged triumphant at each stage. of India’s IT industry. The economic reforms of 1991 reduced tariffs and other taxes that were The 1970s: Birth of Indian IT Industry plaguing the industry. The 1990s also saw the The Tata group (in the late 1960’s) has been return of IBM to India, which sent a positive instrumental in the inception of the IT industry signal to other global majors that India’s IT with the establishment of Tata Consultancy industry, was open for business. Several Services2. As software development could new Indian IT firms were started during the not come to India, Indian programmers were decade, which also saw TCS, Infosys and sent to developed countries. Towards the Wipro pull ahead of the pack to emerge as later part of the decade, the government the market leaders by the end of the decade. began to realize the potential of Information These firms started scaling up increasing Technology, and gave the go ahead for setting their global reach in small but eventful steps up the National Informatics Centre (NIC) in in global outsourcing market which was 1975. dominated by global IT players. The 1980s: Setting up of new IT firms 2000-2010: Surging ahead – Indian As the 1970s gave way to the 1980s, the IT becomes IT behemoth industry experienced a radical transformation. The past decade witnessed an explosive On the domestic front, policy reforms that growth for the industry. It has surpassed all reduced costs of imported hardware and expectations, and has become a behemoth software caused the Indian software industry today. The IT-BPO industry is a significant to shift from supplying programmers to growth catalyst for the Indian economy and supplying software programs. Huge cost has grown 11 times in the last decade, up arbitrage and English language skills were from USD 8.2 billion in 2000 to USD 88.1 the other two most important competitive billion in 20114. IT services continues to be advantages which India had in its favour. the largest share of all segments followed by Government policy also changed to a the BPO, ER&D segment and the hardware supportive stance during the 1980s; and a industry4. New Computer Policy (NCP-1984) consisting 1. NASSCOM, KPMG in India - CII Summit 2012, Non-linear models 2012 Analysis 2. An inside look at the making of a giant, Tata Review, December-2011 3. Origins and Growth if the Software Industry in India, Rafiq Dossani, Stanford University 4. NASSCOM Strategic Review 2011 © 2012 KPMG, an Indian Registered Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
  9. 9. Non-linear Growth Model – Driving Profitability, Bolstering the Indian IT Industry | 4India’s IT-BPO Industry JourneySource: KPMG in India - CII Summit 2012, Non-linear models 2012 Analysis5. Origins and Growth if the Software Industry in India, Rafiq Dossani, Stanford University 9. http://www-07.ibm.com/in/careers/milestones.html6. NIC Website 10. NASSCOM Strategic Review 20117. http://www.nasscom.in/vision-and-mission 11. “BPOs hunt for recruits among various professionals” Dec 2010, Daily Bhaskar ,8. “Offshoring: Why businesses launch IT operations in India” Sep 2010, Silicon.com , 12. Draft National IT Policy, 2011© 2012 KPMG, an Indian Registered Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
  10. 10. 5 | Non-linear Growth Model – Driving Profitability, Bolstering the Indian IT Industry 2010 and Beyond: Continuing the saga India’s IT-BPO Industry - Snapshot13 Not being content with executing basic due to industry level initiatives countering application development and maintenance competition . Further, there exists a significant • I ndia’s market share in global sourcing (ADM) projects, Indian IT firms are offering headroom for growth through innovation industry - ~55 percent (2010) a complete integrated suite clubbing high which can propel revenues to the tune of USD • Fastest growing sector among all end services like consulting, Business 300-310 Billion by 202014. Nevertheless, the services in India Intelligence, Infrastructure Management, decade ahead seems to offer great promise Product Development etc. Firms were able for Indian IT firms, as they seek to overcome • Contribution to GDP – ~6.4 percent to withstand the tumultous period and their current challenges and tread on to new (2010) have emerged stronger than ever. As per avenues moving from their traditional linear NASSCOM India’s IT-BPO sector revenue is models to the non-linear growth models. • Contribution to India’s service sector – likely to reach USD 225 Billion by 2020 ~10 percent (2010) • Indian IT companies -- Presence in ~52 countries -- 400+ global delivery centers India’s technology and business services export market - scenarios 2020 -- 750 captives • Employment to ~10.8 Million -- Direct Employment - ~2.5 M -- Indirect Employment - ~8.3 M -- 60,000 foreign nationals • Domestic IT-BPO sector – INR 1321 Billion, growing at ~16 percent (FY2011) • I T Services – INR 501 Billion and BPO – INR 127 Billion; both growing at ~17 percent (FY2011) • I ndian Software Product segment – INR 157 Billion India IT-BPO Market Segment Breakup Figure : India’s technology and business services export market - scenarios Source: NASSCOM Perspective 2020: Transform Business, Transform India” NASSCOM, April 2009 , Summing up the Journey Industry has witnessed a complete transformation from delivering stand-alone hardware, software and services, to moving up the value chain and providing a complete suite of end-to-end integrated offerings coupled with high-end services like consulting in large transformational deals. Disruptive and Source: NASSCOM Strategic Review 2011 emerging technologies such as virtualization, cloud computing, social computing etc. have further brought revolution in the IT space. The Several top Indian IT firms have reached linkages between processes, infrastructure considerable scale and feature in the global and software are likely to get tighter and lists like Fortune 500, and Forbes 2000. pricing models such as pay-per-use and With the domestic market opening up, outcome-based pricing expected to gain more almost all major global IT-BPO firms have a prominence. All these developments are presence in the Indian market in one form compelling vendors to transform themselves or the other. Indian IT firms have also hit and adapt to the changing ecosystem. their stride, and have expanded globally across all major geographies, acquiring both clients as well as other companies. 13. NASSCOM Strategic Review 2011 14. “NASSCOM Perspective 2020 : Transform Business, Transform India” NASSCOM, April 2009 , © 2012 KPMG, an Indian Registered Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
  11. 11. Non-linear Growth Model – Driving Profitability, Bolstering the Indian IT Industry | 6 Changing Dynamics Maintaining the same level of rapid growth as registered in the past decade is going to of the Businesses be a challenge for Indian firms. The current market is characterized by uncertain demand, increasing competitiveness and changing technology landscape.IT-BPO Industry – Changing DynamicsSource: KPMG in India - CII Summit 2012, Non-linear models 2012 Analysis To sustain sharp growth registered by punish the US companies outsourcing their vendors, there is a constant impetus customer calls by denying them federal grants on companies to innovate and undergo or loans for a span of five years15. Operators transformational changes to stay relevant would need to disclose their location to in the market place. Like any other industry customers and offer them the option of being during its growth phase, this industry is also serviced by an alternate US call centre. In a going through its share of turbulence. separate move last year, the State of Ohio had banned outsourcing in government funded projects5. Geo Political – The Cocooning West New Visa Policies Extreme measures by western economies New visa norms are making it more to prevent jobs from flowing out of their challenging for the industry players to serve countries to destinations like India are their customers in their biggest markets. weighing heavily on Indian exports, especially Last year, US government imposed a steep the Indian IT-BPO industry. hike in the visa fees for work permits for the Protectionist Policies skilled workers to fund the security on Mexico border16. This steep hike could potentially The economic crisis resulting in rising jobless make it difficult for some of the IT resources claims has once again forced the west to to visit US for work. UK government has also raise anti-outsourcing flags and promote taken few measures making it difficult for protectionist policies. For example, the companies in UK to hire workers from outside recent US Call Center Worker and Consumer the country. Protection Act introduced by some members of US House of representatives seeks to15. http://www.thehindu.com/opinion/editorial/article2738977.ece16. http://articles.economictimes.indiatimes.com/2010-08-13/news-by-industry/27603986_1_visa-costs-hike-in-visa-fees-protectionist-move© 2012 KPMG, an Indian Registered Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
  12. 12. 7 | Non-linear Growth Model – Driving Profitability, Bolstering the Indian IT Industry Alternate markets growth not fast enough North America, UK and Western Europe comes to outsourcing. They have better incomplete without the social layer today. are the largest markets for outsourcing. controls in place, not just to manage More companies are now interacting with On the other hand, the rate of growth outsourcing but also measure the quality of their customers directly, through various in outsourcing has been highest among delivered goods. As a result they have turned mediums not confined to the traditional emerging economies though the base is still more demanding towards the vendors and channels. While the IT vendors create relatively small. The lower volume and low their expectations are sky high. The cost business tools or various enterprise scale of IT adoption in emerging markets is pressures on them just makes it worse, applications, now they need to think about not proportional to the contribution made by since their expectations are still high but their social interactions right from the inception western countries and has not been able to spends are not increasing considerably. during conceptualization phase and not compensate for the decline in growth from relegate it to an after-thought. Whether it is a West. Consulting to implementation: The elusive bank or a retailer or a telecom firm, customer value chain interactions are no more limited to branches Domestic market emergence Despite the top Indian players having or outlets. Consumers are connecting to the While the industry has primarily been established their brands globally and having companies from anywhere now – whether its export-centric, India’s domestic market is cutting edge solutions across certain verticals desktop, laptops, phones or tablets. They are now also gaining traction, the expected size and functions, boardroom access still eludes using the likes of Facebook and Twitter as a of Domestic market is USD 29 Billion17. The most of them. They are still looked upon medium of expression, and given the extent market size of domestic BPO is expected to as vendors instead of partners – as against to which the organizations might be exposed, reach USD 2.47 Billion by 201418. Domestic IT how the global players are positioned in the they can do anything but ignore it. spend is USD 16 Billion18. The Indian software marketplace. product segment fuelled by replacement of in- Mobility in enterprise house software applications to standardized Falling discretionary spends Workforces are getting mobile at a rate products from large organizations and The slower than expected and uncertain faster than ever before. Desktop/workspace innovative start-ups is estimated to be USD economic recovery has made companies are losing their definition as the new order 3.5 Billion18. The government (state and cautious in making any discretionary demands people to be able to work and centre) annual spend on e-governance is investment decisions for the future. This have complete access from wherever also expected to be USD 4-6 Billion over the resultant decrease in discretionary spend they are. While ‘Blackberry’ and VPN were next couple of years19. Most of the IT-BPO from clients has impacted the order pipeline synonymous with ‘work from home/ companies now have an independent vertical of IT companies and delayed contract anywhere’ in the past decade, the coming for Government17. closures. decade will have the employees’ entire office ‘move’ with them giving them the ‘access’ to everything which they had from their Market conditions- High client Socio-technological & cultural- workspace in office. The larger challenge will be to provide this not on a single medium like expectations, low spend untethered access everywhere desktop/laptop, but other digital mediums The sector where “stock performance” Social layer which has spread itself atop too like phones or tablets as the employee is directly linked with quarterly results, almost every consumer-related service, is might choose. ny web/online presence companies are in constant pressure to now spreading fast into enterprise space. or an enterprise application tool dealing perform and deliver while facing issues of Adding to this is the new “mCulture” that with customers is incomplete without the margin pressure due to rising wages, lower is defining the lives of next generation of social layer today. More companies are now billing rates and forex volatility . consumers wherein “touch” and “share” is interacting with their customers directly, ubiquitous and mobile is the new desktop. through various mediums not confine Heightened competition between vendors Limited client spending in a recessionary Mobility in consumer space environment has led to intense competition • G lobal market size for Enterprise Mobility - Past 3-4 years have seen the growing use amongst Indian IT vendors, often leading USD168.8 Billion by 201520 of ‘Smartphones’ and more recently the to undercutting of prices to win a bid. This • Over 840 Million active mobile ‘Tablets’. The underlying principal to the rapid is leading to pricing pressure as contracts subscribers21 expansion of these new product types is quite are won based on lowest price bids. This simple – mobility. IT/technology vendors and heightened competition is leading to • 15 million mobile subscribers are added clients alike will need to think ‘Mobile up’ increased cost pressures on the companies every month21 design strategy rather than create a solution as margins get hit. • Smartphone market share - 15 percent21 and then making it mobile enabled. New low-cost destinations • Laptop market growing at the rate of CAGR Communication is changing 50 percent21 Emergence of low-cost destinations like To get a perspective: The number of social Philippines, Eastern Europe and Latin America • Banking, Manufacturing and Retail are media accounts is 3 times more than the is also adding to already existing competitive leading the way in applying mobility service email accounts. Email has seen a 59 percent environment; as a result, unlike in the past to their operations21 decrease in usage amongst 12 to 17 year-olds where India was the default destination for • Over 34 million22 Facebook users and over and 12 percent decrease amongst 45 to 54 outsourcing, the customer today has options, 13 million Twitter users23 year-olds24. This implies that ‘instant/social’ and they are using them. This too is exerting is to communications today to like what pressure on the Indian players. ‘email’ was 10 years ago. Adding to this is the Social- The new ‘uncontrollable’ channel existence of multiple platforms unlike single Maturing clients- demanding high quality Any web/online presence or an enterprise platform in the past decade. The consumers Clients are now way more matured when it application tool dealing with customers is of today want to communicate from 17 NASSCOM Strategic Review 2011 . 21. The Enterprise Mobility Study-India Market Analysis, Zinnov 18. http://www.indianexpress.com/news/indias-domestic-bpo-market-to-be-worth-1.4/775190/ 22. http://fbupdates.com/2011/09/india-34-million-facebook-users-and-numbers-on-a-rise/ 19. Press Information Bureau – Government of India, July 17 2010,E-Governance Projects , 23. http://asiancorrespondent.com/71003/india percentE2 percent80 percent99s-digital-media-not-fad-not-bubble-its-just- 20. ttp://www.prweb.com/releases/enterprise/mobility/prweb4370204.htm getting-started/ 24. http://www.huffingtonpost.com/ryan-holmes/social-media-holiday-retailers_b_1158356.html © 2012 KPMG, an Indian Registered Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
  13. 13. Non-linear Growth Model – Driving Profitability, Bolstering the Indian IT Industry | 8anywhere through any device or any SEZ: Imposition of MAT Captives centersapplication. Hence, communication needs Minimum Alternate Tax at 18.50 percent (plus The captive centers being ‘low-risk’ andto be treated as a platform over which other applicable surcharge and cess) of book profits involved in ‘low-end’ functions are typicallyexperiences are built, and not vice versa. has been made applicable to SEZ Units and remunerated by their foreign affiliates SEZ Developers vide Finance Act 201126. between 10 to 15 percent on their cost.While earlier, the ‘market’ for all the latest in Although, a Company may claim set off of However, the IRA have adopted an aggressivetechnology used to be the west, thanks to taxes paid under MAT against taxes payable approach and expect a return of as high as 25the demographics and the rate of technology under normal provisions in future years, it is to 35 percent from the captives by comparingadoption in emerging countries like India, the possible that the set off may not be available them with full fledged entrepreneurs. Denialmarket is now shifting close to home. India in its entirety. In such a scenario, taxes paid of economic adjustments for functions &is central to the global mobile and internet under MAT would become a cost for the risk differences and single customer risk arerevolution having one of the highest rates of Company. Further, Dividend Distribution few pain areas for captive centers. Further, ingrowth of user penetration. This gives the Tax at 15 percent (plus applicable surcharge the recent transfer pricing audits the captiveIndian technology firms an opportunity to and cess) has also been made applicable centers are looked upon as creating uniqueuse the domestic market as testing grounds to SEZ Developers27. These developments intangible and a portion of the profits earnedfor path breaking technologies and solutions have adversely impacted the prospective by the foreign parent at the global level islike mobile workspace, mobile peer-to-peer investment in the SEZ scheme demanded.payments, mobile banking, mobile shoppingetc. before they take their solutions to global Intellectual Property (IP) protection Companies focusing on R&Dplatform. Software industry is currently plagued with The Indian Revenue authorities also claim weak patent protection and high piracy rates. that the Indian subsidiaries engaged In order to foster R&D, there is a need for in undertaking contract research andGovernance & regulatory- Killing the the government to put in place a strong IP development (‘R&D’) activities, creategolden goose protection law (and enforcement). As of today, intangibles for the foreign parent. ThePast couple of years have seen the the IP protection laws in India are tenuous at intangibles and the proprietary productgovernment rolling out policies that are not best. Looking at the ongoing patent disputes so created are commercially exploited byfavorable for the industry. In addition, the across the world, especially in the mobile the foreign parent to earn super normalTax authorities have been very aggressive space (Apple vs. Google, Apple vs. Samsung, profits while the Indian captive centre iswith respect to imposing tax regulations on Motorola vs. Microsoft etc.) there is a strong remunerated with a ‘low’ mark-up on itsthe Indian IT players as well as MNCs who need to evaluate whether current IP laws costs. This happens despite the fact that thehave set up captive centers in India. Adding and judicial systems are geared up to handle R&D centre in India does not assume any riskto these is the lack of clarity on agreements cases of complex dimensions, should they for the work done by them and perform onlywith various countries for avoidance of double arise in the future28. limited functions.taxation. Current taxation measures fromgovernment authorities need to consider the Transfer pricing: Affecting MNCs and These multiple regulatory issues arecurrent market situation, the challenges and Indian players alike impacting the industry growth potential andneeds of the industry. This calls for an open India is an attractive destination for MNC’s to would need attention from government so asdialogue between the government and the set up and operate their Captive units, R&D to give the required boost and support to theindustry representatives which would lead and ODC. The conducive tax environment industry.to formulation of favorable policies by mutual in the form of tax holiday benefits given toconsent. IT-BPO industry under the STPI, EOU and SEZ schemes have acted as a catalyst in its Human resource- Ready to pay butTax growth. However, this has not come without no availability of skillsUpto Financial Year (‘FY’) 2010-11, the increased scrutiny from the Indian Revenue Attrition and wage inflationIncome-tax Act, 1961 (‘the Act’) provided Authorities (IRA) especially in the area offor deduction from profits generated from Indian IT-BPO industry is facing challenges transfer pricing where there is a steep riseexports of computer software and IT-BPO in hiring, managing and retaining talent in in the transfer pricing adjustments. Keyservice25.In the last few years, the IT-BPO current environment. Availability of abundant Challenges faced by the IT-BPO companiesSector has not seen the high growth rates opportunities has led to rapid job switches have been mentioned below.experienced by it in the earlier part of the among professionals leading to high attritiondecade. Indian players levels. An effect of this is the wage inflation which is adding to margin pressure on firms. The IRA considers Indian entrepreneurFurther, while the Industry has grown big, To contain attrition, companies have to players to be the technology and branda major portion of the industry revenue is invest proactively in hiring, training, cross owner. Accordingly, the Indian players areconcentrated with the top 10 players. Small skill development, managing motivation and expected to retain higher profits in India andand Medium Businesses (‘SMBs’) are large paying higher salaries to employees. All these compensate the foreign affiliates at minimalin number, have a low revenue base and measures lead to further cost escalation cost plus margin. Another key challengethey are the ones who constitute the bulk aggravating margin pressure on the firms. for the Indian players is that the IRA areof companies registered under the STPI increasingly trying to compare prices ofscheme. The expiry of income-tax benefits Huge Employee Base leading to software products supplied to domesticunder the STPI scheme from 1 April 2011 (i.e. operational complexity parties with exports being made to overseasFY 2011-12) would impact the SMB sector in The top Indian companies in the IT-BPO affiliate company despite there beinga big way. sector have an employee base greater than significant differences in terms of geography, 100,000 and are hiring in the rage of 40,000 market dynamics, marketing expenses being employees to 60,000 employees annually29. accounted for in the pricing etc.25. Section 10A / 10B of the Act 28. “Patents dispute between Google and Apple gets ugly” Sep 2011, CS Monitor; “Samsung widens patent ,26. Section 115JB of the Act dispute with Apple” Sep 2011, The Wall Street Journal; “Judge sides with Microsoft in Moto patent dispute” , , Dec 2011, CED News27 Section 115O of the Act . 29. Company data, KPMG in India - CII Summit 2012, Non-linear models 2012 Analysis© 2012 KPMG, an Indian Registered Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
  14. 14. 9 | Non-linear Growth Model – Driving Profitability, Bolstering the Indian IT Industry Managing such a massive employee base “investments” to build best of the breed is becoming a mammoth challenge owing talent are increasingly being viewed as cost to its operational complexity which leads to amongst companies. increased HR costs. Factors such as wage inflation, skills Employability shortages, rising attrition and operational With a large pool of graduating engineers complexity in managing large pool is making it largely unemployable due to deficiencies in difficult to source talent in the industry. These the current system of education, the IT-BPO challenges are forcing IT-BPO companies to sector is grappling with the issue of not being re-calibrate their strategies and shift focus able to recruit the ‘right fit’. The wide industry- from cost competitiveness to providing academia gap is forcing companies to invest increased value in terms of domain expertise heavily in training to convert “qualified” and efficiencies to customers. As part of manpower to “billable” resources. Owing to larger strategy to de-risk, thrust is on moving current falling margins and pricing pressure, from being “people dependent” to “process dependent” . Need for Given the many challenges the Indian software faces currently, linear growth transformation - Non- i.e. proportional increase in headcount to augment revenue is neither desirable nor a linear model, driving sustainable model. The impact of linear growth could be gauged the next wave from the fact that at the current revenue per employee levels of top Indian vendors, the growth employee base could double by FY2014 at current growth levels30. From the current employee base of ~493,000, the top 4 Indian firms could add another ~430,000 employees over 3 years to reach a total of ~923,000 by FY201430. Managing such a massive base could become a herculean task and might be unsustainable over long-term. Employee headcount growth- Top 4 firms Figure : Employee Headcount growth of Top 4 India-based IT firms Source: Company Annual Reports, “Global IT Services” Morgan Stanley Research, September 2011 Includes data for TCS, Infosys, Wipro, HCL Technologies , Revenue per employee (RPE) ratio – Global Indian firms33. Also, on the RPE metric (one IT services vs Indian IT services firms of the metrics to measure non-linearity), the Over the last 5 years, the aggregate revenues RPE of global firms has been ~3-4 times of top pure play global IT services firms31 have the RPE of Indian counterparts33. Over the been in the range 2-4 times the aggregate years, while the revenues of Indian vendors revenues of top Indian IT services firms32 have been growing at a CAGR of 21 percent, while the employee base of global majors the employee headcount has also growing has been proportionately declining, reaching at a slightly lower rate (CAGR ~18 percent) at 30 percent lower level (2011) than the top making the RPE metric nearly constant over the years33. 30. Global IT Services, Morgan Stanley, September 23, 2011 32. Indian IT services Firms – TCS, Infosys, Cognizant, Wipro, HCL Tech. 31. Global Pure play IT Services Firms – Accenture, Capgemini, CSC, Atos Origin 33. Company data, KPMG in India - CII Summit 2012, Non-linear models 2012 Analysis © 2012 KPMG, an Indian Registered Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
  15. 15. Non-linear Growth Model – Driving Profitability, Bolstering the Indian IT Industry | 10 Revenue and employee growth - Global IT services vs Indian IT services Source: Company data, KPMG Research; Indian IT Services Companies – TCS, Infosys, Cognizant, Wipro, HCL; Global IT Services – Accenture, Capgemini, Atos Origin, CSC Revenue and employee growth - Global IT services vs Indian IT services Source: Company data, KPMG Research; Indian IT Services Companies – TCS, Infosys, Cognizant, Wipro, HCL; Global IT Services – Accenture, Capgemini, Atos Origin, CSC It is because of these reasons that companies are eyeing non-linear growth models which can deliver higher revenue per employee value. This would enable these players to stay lean and deliver sustainable growth and profitability. To achieve this, it would require a clear shift from “labor-based service delivery” to “asset-based service delivery” . Gradually, this is leading to a change in the rules of the game and a transition to non- linear growth model, which is expected to be the next driving force of the industry.© 2012 KPMG, an Indian Registered Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.
  16. 16. 11 | Non-linear Growth Model – Driving Profitability, Bolstering the Indian IT Industry Section 2 Non-linear growth model Non-linear growth In the next phase of growth, the Indian software industry is attempting to move (e.g.: cloud, products, platforms, M&A) and some incremental (CoEs, Delivery model- Redefining away from delivering a cost advantage to clients to delivering value for them, by Accelerators, Pricing Models, Brand), a move to non-linearity is inevitable. business dynamics exploring different avenues of non-linearity. While, a majority is focusing on creating IP/ Based on the practices prevalent in the products and platforms, some are exploring industry, there are primarily following seven novel pricing mechanisms; few are building models through which vendors are redefining efficiencies into how they deliver service their services in their endeavor to deliver using repeatable modules. Though the effect value to their clients. of some effect of some could be disruptive Non-linear growth models In the subsequent sections, we explore each of these models in more detail, identifying trends, current scenario and imperatives for players attempting to use these levers of non- linear growth. • Intellectual Property • Delivery Accelerators • Cloud Computing • Branding • Platform BPO • Mergers and Acquisitions • Non-linear Pricing Models © 2012 KPMG, an Indian Registered Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.

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