Rupee inflation hits Indian outsourcers

No one is suggesting that the dream is over for the Indian IT services moguls, whose phenomenal rates of revenue growth in the past five years make Western executives weep with envy, but reality is certainly beginning to kick in.

One factor – and a highly distorting one at that – stands out in the latest financial numbers from the offshore services companies. As foreign investment has poured into India in recent quarters and as the country’s economic growth rate has risen to close to 10%, the value of the rupee has risen sharply against the Western currencies in which India’s IT services companies are paid. Most significantly, since March the rupee has appreciated by around 7% against the dollar.

The upshot is that Indian IT services companies are seeing the rupee value of their contract payments shrink before their eyes. The top four Indian IT services companies – Tata Consultancy Services, Infosys, Wipro and Satyam, all of which published financial results in July – highlighted that while their growth figures are still comparatively good, the escalating rupee had a major impact on their revenue growth.

Infosys, the country’s second largest technology outsourcer, generated revenues of Rs37.73 billion ($930m) in its first quarter ending 30 June. That was up 41% on the comparable quarter in 2006 when measured in dollars, but represented a more modest 25% growth in rupees.

The same impact was seen in profitability. Net income rose 34% to Rs10.79 billion; using dollar calculations, the company grew profits by 50%.

Although the company signed a solid 35 new clients in the quarter (several of them UK bluechips), Infosys is predicting that the currency effect will become even more acute during the rest of its financial year. Growth for the full year of 2007/8, it advises, will be 17% to 18% – or 31% to 32% under US GAAP accounting.

There was a similar story at Satyam; quarterly revenues reached Rs18.93 billion or $466.5 million during the quarter, a year-on-year increase of 40% under US GAAP. Using Indian accounting standards, however, the revenue growth was more like 25, depending on whether the company’s consolidated figures are used or the way the rupee’s value is applied over the two comparative quarters.

The same applied to profits – which looked decidedly flat on paper. “In dollar terms, we have grown [our profit] by 10%, and in rupee terms, the growth is 3%,” said Satyam chief financial officer Vadlamani Srinivas. “The 7% difference represents the rupee impact” – an impact that chopped about $34m off revenues.

However, the currency swing sits aside a picture of continued success, with the company bagging 29 new customers during the quarter, including two Fortune 500 companies. That brings its total number of ‘associates’ to 2,716, with 65 of those receiving a bill of more than $5 million annually.

Slightly higher up the tier 1 pecking order, Satyam rival Wipro added 39 new customers, including a $130 million ‘total outsourcing’ contract with an unnamed European utility provider. Wipro’s IT services division took in revenues of Rs42.03 billion ($1.04bn) in the April to June quarter, up an impressive 34% from the previous year’s first fiscal quarter.

In comparison, Tata Consultancy Services (TCS), the number one IT services provider in India, reported quarterly revenues up 27% to Rs53.65 billion ($1.32 billion), but 42% when measured by dollar standards. Like others in the field, the company is trying to contain the impact of rupee appreciation by hedging currency trades. It is rapidly increasing its investment in currency futures, having already doubled the amount it holds in currency hedging since March to reach $2.5 billion – or half a year’s revenues.

While they are beginning to understand how to minimise the associated risks, currency appreciation will still be particularly painful for such companies, as it will only accentuate the impact of the wage inflation that is gradually eating into their high profit margins.

The level of staff attrition among Indian IT services companies reveals the pressure they are under to hold on to their human resources. Between them, the top four companies saw around 10,000 employees leave (or, more accurately, ‘churn’) during the first quarter.

Although each company added several thousand more employees than they lost, the sheer number of staff leaving and joining inevitably accelerates wage rises. Indeed, Wipro has announced that it will bring forward this year’s annual salary increase specifically in an attempt to curb attrition. And just as inevitably, at least some of those escalating costs will be passed on to the customer. Service prices are already rising across the board, and this will drive customers – and services companies – to look to other offshore regions for their contract fulfilment.

But here is where the silver lining of rupee inflation becomes apparent. The strong rupee puts Indian companies in a good position to build resources or acquire companies abroad, and therefore to remain a dominant force in the offshore market as the services industry continues to globalise.

Infosys, for example, has revealed plans to invest $4 million in a development centre in Mexico to serve its US customers. It is also expanding its footprint in the Czech Republic, China and the Philippines. Satyam, Wipro and others plan to make European acquisitions, and are looking to invest in developing nations.

Pete Swabey

Pete Swabey

Pete was Editor of Information Age and head of technology research for Vitesse Media plc from 2005 to 2013, before moving on to be Senior Editor and then Editorial Director at The Economist Intelligence...

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