The Hindu Business Line : Budgeting for not so good days

Enemies of Birbal in Emperor Akbar’s court once got the Emperor’s ear by saying that Birbal, despite knowing how to make horses fly, had not revealed the secret to Akbar. Furious, the emperor sent for Birbal. Knowing who was behind all this, Birbal calmly apologised but offered to make horses in Akbar’s army fly in ten years, if he were given a beautiful house set in the middle of a 50-acre tract of land in which to train the horses. Keen to have his hor ses fly, Akbar agreed to all of Birbal’s demands. Flummoxed at Birbal getting all these goodies, his enemies caught up with him outside the court and asked, “We confess to burdening you with this problem but how are you going to make horses fly?”

All that Birbal would say was, “In ten years, anything might happen: I may die, the emperor may die… and by then, who knows, even horses might fly!

This is the story you would hear from Phaneesh Murthy, CEO of iGate Inc, if you ask him about his peers’ optimism that the US slowdown would end by September of this year. In other words, no one really knows when the bad news from the US would stop! A slick story-teller, Murthy had more to tell eWorld. Read on...

Now that you have delisted from the stock exchanges, what next?

The big project we are working on now is the staffing arm spin-off. By July-end, we expect the process to be complete. We have filed the necessary forms with the SEC. Since the businesses, in many ways, were quite separate, I don’t see any issues with the approval.

On the business front, we are continuing to take a few hits, with the economy the way it is. Some discretionary projects have come down in spend. We lost one big project in the ERP space. We have had very strong earnings growth, which is what we had been focusing on for a long time.

We have reached a 37 per cent Gross margin, which is kind of getting as good as the metrics of the large companies. We have a long term goal of 40:20 (Gross Margin: Operating Margin) and hope to achieve both within the next two-three years. The challenge for us is the pace of growth we will have. The economy is patchy and we have a large exposure to Financial Services (52 per cent). A number of companies are shutting shop and as a result we are still taking hits in the mortgage space, which has come down to about 2.5 per cent of our business (from a peak of 11 per cent).

Other than mortgage space, how bad is the slowdown in the industry?

There are two things. One, as a result of companies closing down, the total outsourcing pie will come down. Two, the work being done for certain types of new business generation kind of projects is definitely being put on hold. For example, if a company was going to build a newer Web site for a better client or consumer experience for them to interact better with the banks or insurance company, that is probably on hold but at the same time we are seeing more spending on efficiency improvement projects, work flow and imaging, which actually go towards helping cost of operations.

Many companies have realised that if they can spend a dollar on technology and thereby save a dollar or two in operations, it is a better way to do it than just cut the technology costs.

In general, they are worried about bigger issues, like credit. Liquidity is a challenge and there is a genuine concern that things will get significantly worse.

As of now, about $320-$340 billion of charges have been taken in the mortgage space.

The most conservative estimate (of the charges) was $480 billion and the most aggressive estimate was that the charge would be $900 billion.

There is a possibility of a few more companies being blown away and this is a real challenge. The concern in the economy is about which companies are going to go down, which are going to survive and what are they going to look like in the future.

There is uncertainty in the market place and that is causing a negative sentiment, overall.

The general industry view is that by September we would have seen the end of this slowdown. What’s your view?

I don’t think it will go away that quickly.

MoneyControl Adds, Quoting Phaneesh: … The bigger concern is that we are going into a budgeting season in the next two-three months for 2009 Calendar Year in the US and whenever you do budgeting in a bad time, there is hardly any money kept for discretionary projects. So my concern is that it could actually turn out to be not so positive as a year because the first couple of quarters normally the January, February and March quarter (JFM quarter) we normally get a release of funds and projects. My concern is that when you are doing budgeting in this environment, that release won’t happen and if things do turn around, my sense is that the earliest will be Calendar Q3 next year, which is about 12 months from now.

But things are not looking good on the ground also. We, in the last three months, have seen evidence of cut-backs on discretionary projects; we have seen cancellations on some projects, we have also seen generally more weariness in budget releases. Overall, I would say it is slightly negative.

I think the budget actual spend in 2008 will be lower than the amount budgeted in 2008 and will be lower than 2007 and that is because all of that money is not yet being spent; people are being a little cautious and a little wary.

I think unless the environment improves and I don’t see any signs of environment improving. In fact, if at all, I see signs, particularly in the financial services sectors, that things are getting a little worse and if that environment is getting a little worse, I would argue that going into the second half of the year we will not see those releases of those projects that we were hoping for.

In the realty sector, the number of houses coming up on the market is increasing by the day. Banks are trying to unload houses, so real-estate prices are coming down, which puts more borrowers at significant risk. Real-estate prices have dropped 15-20 per cent in recent times.

It’s an economy that is not seeing growth, but inflation pressures are high. Not only that, if the Democrats come to power, there is likely to be higher taxes, which will mean lesser income to spend.

The US Government is sitting with very bad loans on its books, which all tax payers will pay for eventually. I do believe it will take a little longer to be back on track.

Normally in an election year, Governments try to keep the mood positive. That itself is gone, this time. Next year, tougher measures have to be taken. There will be no choice.

Social security is going to default, medicare is in trouble. There are large ranging reforms that have to be taken in the US. Things will get tougher for the people. Therefore, sentiments could remain bearish for some more time.

Are you looking at capital infusion as well as at acquisitions?

Now that we have a clean capital structure, we know what kind of companies to invest in. We are going to get aggressive on acquisitions. We don’t need fresh capital. We originally thought we might need capital to de-list and buy back. But we now have about $65 million cash. We will need capital for the acquisitions. At that time, we may look at a partner. Now, I am okay with going for bigger players in the space and may be even acquiring for boosting revenues and gaining size.

Are you now looking at the Australia market for expansion?

We got a fairly good contract from the Australian Government (State of Victoria). It is the first (what I am hoping will be the future of the Indian IT services industry) shared services, transaction priced, non-linear with people, single platform and process kind of a model. Part of that work has to be done within that country and part offshore. One of the challenges of the Indian BPO industry has been that they have believed in 100-0 (i.e 100 per cent work offshore), unlike the IT industry which has been 70:30 model. I think BPO should also be 70:30. As the industry matures, you will find BPO companies moving towards this.

This one is a bond agreement, the process in Australia is that when you rent a house and pay a deposit to the landlord, it has to be guaranteed by a bond. And that is what the Residential Tenancy Bond Authority (RTBA) does. They take charge of that money. When the tenant leaves, they ensure that the money goes back to the tenant. This process is completely outsourced and it’s the department of Justice and Consumer Affairs that is doing work with us. They have realised that they have to provide better services to people and that they need to drop costs and use technology.

The problem with shared services is that everybody claims to be concerned with security. Finally, everything is a business decision. When work (first) went to India, everyone was concerned about the security. But when the business case was good enough, you figured out how to do it. In shared services, as long as there is value proposition, the companies will figure a way to manage it.

Multiple Governments in Australia are talking to us on this shared services model.

What is the non-linearity in the Australian contract?

The pricing is per bond. We are replacing most of the work with technology. So it’s completely non-linear. RTBA has one employee. Everything else is done by iGATE including cheques issuance and that is the Virtual Enterprise model at its best. More interestingly, when the next State (Government) comes on board, I will have a revenue stream because the pricing is per bond and no incremental costs. The key thing about shared services is to have multiple customers on a single instance of technology and process.

For too long the Indian industry has been on ‘lift and shift’ model — both IT and BPO. You are replacing one job there with one job here. Therefore, there is direct linearity. Everyone talked about products being the way to get rid of the linearity. India is not ready for products. The right solution for India is shared services.

Can you quantify the non-linearity?

We think we can double the (output) workload with a 25-30 per cent extra people because of the technology and process framework we have already built and invested upfront. The next State that comes on, our margins will be significantly higher. And that’s the key in this business. My thinking is that shared services is the way to go for the future for the country and shared services is all about integrated technology and process. The inherent nature has to change from out-tasking.

What will be the manpower addition this year?

We are looking at adding 800-1,000 people this year. In spite of the slowdown, all our existing businesses are growing.

What are the new areas you are looking at?

We are looking at media and entertainment as a newer vertical. We have a couple of big customers in this space and we are looking at creating in Chennai a Centre of Excellence (CoE) around this space. We believe vertical CoEs are going to become important to build IP and differentiation required to keep winning new deals and to execute deals better. And that’s the reason we have chosen Chennai to be a CoE around media and entertainment.

We are doing with some of the network television channels and with casinos. We are one of the few companies to have executed Web 2.0 (a range of technologies that consists of a lot of cool things — social networking, collective intelligence applications, wikies for dynamic knowledge management) for enterprise.

bharatk@thehindu.co.in

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