The Hindu Business Line : Going continental

Indian tech companies are showing a growing appetite for European deals. But they need to retool their marketing strategy to land all of the tempting fare.

"The diverse nature of potential clients in Europe makes it imperative to have local presence to make inroads."

What's common to Wipro Ltd, Subex Systems, Sasken Communication Technologies, Sonata Software, Saksoft and KPIT Cummins, among others?

No doubt, they all operate in the IT space. Also, they are part of a growing bandwagon of Indian firms acquiring European IT and telecom firms.

Four of the six firms that Wipro acquired over the past 12 months were in Europe. The merger and acquisition effected by Subex Systems was also in Europe.

Subex acquired Azure Solutions, a British Telecom spinoff, in a $140-million deal. Sasken acquired Nordish firm Botnia Hightech Oy, Sonata picked up 50.1 per cent stake in TUI Infotech... And the list goes on... .

Europe, of late, has become the favourite hunting ground for Indian IT firms looking at the region to not only expand their market and reach but to also add specific skill-sets.

As the European IT market expands, Indian IT firms cannot afford to ignore the region, stress analysts.

Next frontier for IT/ITES

Europe, for many Indian firms, is still a small part of revenue, approximately at about 25 per cent. Given its size and business process maturity, Europe is, in a way, the next frontier for Indian IT/ITES companies, after the US.

European firms, inspired by the success of their US counterparts, are seen inclining towards the concept of outsourcing.

"Large deals such as the Pearl and ABN AMRO one last year show an early start and this has prompted Indian IT firms to extend their focus to Europe, which also helps them to mitigate the risk of overdependence on one geography," says Sudin Apte, director, Forrester India.

While the US sees intense competition for outsourcing deals as almost all the major service providers play in that market, Europe is a relatively unexplored territory.

Do it differently

Apte cautions, however, that the typical US marketing strategy does not work in Europe. Country-level issues within Continental Europe and Scandinavia are different than typical US, and also the evolution and maturity of firms is at an early stage.

"So, we believe that Indian firms desiring to be successful in Europe should re-tool their marketing message," he says.

"Unlike the US, Europe is not a homogeneous market and there are significant language and cultural barriers," says Amit Singh, assistant vice-president, Avendus Advisors, an investment bank. "And Indian companies feel that the best way forward is to use a local front end, given the significant advantages that quicker time to market has to offer," he adds.

Echoing the view is Avinash Vashistha, CEO and global managing partner at Tholons, who says, "The diverse nature of potential clients in Europe makes it imperative to have local presence to make inroads."

European firms prefer to be treated distinctly from their US counterparts, which means client acquisition in Europe using a US base is very difficult, says Vashistha.

"Acquisitions that bring in some specific capabilities or client relationships can help meet this challenge, which is driving Indian firms to European buyouts," says Apte.

"However, we see most Indian players are currently focusing on niche firms offering either of the two above-said factors and steering clear of large-scale European acquisitions. We believe that acquisition of large, mainstream IT services firms present across multiple nations will help top Indian firms to extend their European presence multi-fold," he stresses.

Amit Singh feels there is a need for Indian firms to enhance domain expertise in certain verticals such as telecom, manufacturing and energy.

Companies are looking at acquisitions in Eastern Europe in order to provide offsite services to western European countries. Further, he says, there are certain technologies and applications that are widely used in Europe, but do not have much of a market outside (Eg: Intentia's ERP products).

In order to service clients who have adopted these technologies, inorganic routes might again be the only solution. For certain segments and verticals, the billing rates in Europe are higher than that in the US.

Vashistha believes that skill availability in Europe is good, but getting the scale is difficult.

Areas of opportunity

European firms are looking for the following outsourcing services, in sequence of priority: Infrastructure services, help desk and support services, application development, front office and customer relationship management (CRM).

Indian firms are increasingly looking for companies with capabilities in Business Process Consulting and High-end Engineering services, especially in Automotive Design (All European countries have traditionally been strong in the auto sector)Heavy Machinery and Manufacturing.

Europe also provides much needed domain expertise in Pharma and Healthcare.

There are a number of products deployed in Europe that are country-specific, owing to the language requirements. There is a huge opportunity to service these clients/installed base, which would require companies to acquire and set up bases in Europe or nearby locations.

Telecom spells business

The Nordics are also home to some of the largest telecom equipment providers, thereby creating a huge amount of IP in the telecom area. Telecom is a `hot-spot' in the current market with new technologies such as Wi-MAX generating a lot of interest among Indian IT companies. An example of this is Sasken's acquisition of Botnia. Wipro has also acquired Saraware, which is an engineering and design firm in the telecom sector.

Valuations in Europe

Amit Singh of Avendus believes that Europe has traditionally been known to be relatively inexpensive as compared to the US markets. The Price-to-Earnings ratios — considered to be a good indicator of valuations in an exchange — have been lower for companies of the same kind in European Exchanges as compared to the US.

In a survey done in 2005, the valuations (forward 12 month price earnings multiple) for companies in the US were found to be, on an average, at 16 as compared to Europe's 14. This survey was not specific to IT companies. New Exchanges, such as AIM at the LSE, are also providing outlets, for listing, to smaller mid-market IT companies in Europe.

This is improving the liquidity condition, thereby also removing any illiquidity discounts on these companies, Singh says.

However, Vashistha feels the valuations in Europe are generally more expensive as compared to the US. "Capital, cost and operational efficiency in the US provide more favourable multiples for acquisitions," he says.

Further consolidation

Forrester believes that there will be several small to medium-size acquisitions in specific skills and markets — such as Benelux, Germany, France, and Scandinavia, in order to drive growth in the region. European firms — even leading ones — are clearly lagging in their global delivery strategy.

Amit Singh also believes that there is increased consolidation within Europe itself. European companies are grappling with a shrinking market size and low growth, which is affecting their margins and profitability in select sectors.

Indian companies are also increasing their presence in Eastern Europe, which serves as a near-shore development and support centre for companies in Western Europe.

Recently, Infosys expanded its Czech centre to provide Infrastructure Management and Packaged Implementation Services to customers in Europe and the UK.

As far as Europe goes, both near shore and offshore-related transactions will play their part. Infosys, which strongly favours an organic growth model, recently said that it was looking at acquisitions in Europe.

"We will look at acquisitions to fill gaps that we identify; to increase market footprint in Europe and Japan. This will help us gain traction on the ground in these markets. We will also look at building capabilities in areas such as consulting via acquisitions. At the same time, we don't want to be pushed into acquisitions," S. Gopalakrishnan, President and COO, Infosys, has said.

Big-ticket deals

European IT services firms cannot match the growth rates and profitability of their Indian peers. "As Indian firms make in-roads into Europe, we anticipate significant consolidations in the mid-tier segment," says Amit Singh.

The bulk of acquisitions is bound to be small and mid-sized, as the motivation for acquisition is not to gain scale; most of the acquisitions being made are for getting a local presence, and access to niche skills and capabilities.

"Scale-based work is still more likely to come to Asian countries such as India, the Philippines, etc., where vendors have large bases, and scaling up is easier. As Europe adopts offshoring, larger companies would become attractive for large private equity firms to acquire offshore work and thereby increase valuations," says Vashistha.

"The European pie has to be increased and the mid-tier IT firms in India will struggle if they do not get their Europe story right. In fact it could even trigger consolidation in the mid-tier IT space in India as a fallout," says Amit Singh.

vishwa@thehindu.co.in

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