IT cos cautious on growth, eye M&A

India's top IT firms expressed optimism about a gradual recovery on Wednesday but stopped short of flagging a sharp rebound in the near term on uncertainties about the strength of the global economic resurgence.

Executives from the companies, hit by a collapse in demand caused by largest downturn since the Great Depression, told the Reuters India Investment Summit in Bangalore that overseas firms were gradually turning to them in the search for cost savings.

However, sluggish technology spending by Western clients, moderate fees, a stronger rupee currency and rising competition from global rivals such as IBM and Accenture are likely to keep them away from past years' heady growth rates.

"We are more comfortable with the environment now than at the beginning of the year," V Balakrishnan, chief financial officer of Infosys Technologies, seen as a trend-setter in India''s showpiece outsourcing sector, said at the summit.

"Most of the corporates are feeling much better about the economy now than they were some six, eight months back. But will they go overboard (in IT spending)? I don't think so, because they are still cautious about the environment."

The overall outsourcing sector has been on a roll in recent months following a brutal slide in demand at the end of last year as turmoil in the financial sector, software firms' key client base, led to cancellation or postponement of contracts.                                            India''s mid-sized software services company HCL Technologies said on Monday it had won a contract worth $200 million from British insurer Equitable Life.

Tata Consultancy Services, Infosys and Wipro have also announced deals in recent months from companies such as oil and gas major BP, mobile operator T-Mobile UK, brewer SABMiller and Volkswagen.

Suresh Vaswani, co-chief executive of IT business at Wipro, India's No. 3 software exporter, said the deal pipeline had improved in the first half of the current fiscal year that began in April, compared with the immediate post-crisis period.

"The recovery is taking place slowly," he said. New York-listed Wipro is betting on a demand uptick from its financial clients, which produce about a quarter of its revenue, as consolidation in the sector boosts demand for technology.

Mahindra Satyam — earlier known as Satyam Computer, a company that was rocked by India's biggest corporate fraud and subsequently sold — is also adding new clients, said Atul Kunwar, president of its global operations.

Optimism about a growth rebound has sent Infosys shares up 118% this year, in line with a surge in the sector index and outperforming the broader market that has risen 78%. Tata Consultancy has soared 194%.

"The market is hoping the next financial year will be much better growth-wise than this year or last year," said Srividya Rajesh, a fund manager with Sundaram BNP Paribas Asset Management, which holds Infosys and Tata Consultancy shares in its portfolio. "But whether the sector has got out of the woods or not will be known only once the technology spending patterns become clearer early next year," she said.

Indian IT firms provide services ranging from managing complex networks and call centres to software coding, and their  clients include Citigroup, Credit Suisse, General Electric and BT Group Plc.

The sector's scorching pace of growth has halted as many top customers were badly bruised by the recession, forcing them to tackle severe cost cuts and leaving little room to boost technology spending.

Balakrishnan of Infosys said while demand for fee cuts from clients had abated thanks to the economy's limping back to life, the No. 2 IT exporter did not see prices going up in the short term as customers were spending selectively on technology.

"You will live on similar pricing environment for some more time till the supply demand situation changes more in favour of demand," he said. "As long as the pricing remains stable, we are OK on the margins."

But a 12% rise in the rupee against the US dollar from a record low in early March could have an impact on profit margins, Balakrishnan said. Every one-percentage-point rise in the rupee crimps margins by 30 to 50 basis points at top IT firms that bill more than half their revenues in dollars. The companies hedge some portion of their revenue to deal with the currency volatility.

"If the pricing pressure and the rupee rise happen at the same time, then it will be a challenge for the companies," said Rajesh of Sundaram BNP Paribas Asset Management.

Indian software firms are looking to expand in markets such as Asia-Pacific and Europe to cut their dependence on the US market, which brings in more than half the sector's $60 billion revenues but has been badly hit by economic and market turmoil.

Infosys, which has built up a cash pile of nearly $3 billion, said it was looking to buy firms in sectors such as consulting, utilities and healthcare to boost its presence in geographies such as France and Germany, Balakrishnan said.

But the deal sizes would be smaller, with target companies revenues at about $400 million to $500 million. So far, Indian outsourcers have shied away from blockbuster deals despite having the required financial muscle and instead focused on acquiring smaller IT divisions to tap opportunities in select areas or geographies.