Recession will be an opportunity for IT services firms focused on transformation: Mphasis CEO

• Companies that are focused on maintaining legacy technology platforms will have to battle cost take-outs as they are managing tech estate that is obsolete and will, over time, fade out as companies move to the cloud.
  
• Nitin Rakesh, CEO of Mphasis, tells Business Insider India that computing on demand is a trend that has not fully played out and is definitely not mainstream yet. Those on the right side of the trade will stand to gain even during recession.
  
• Economic turmoil is a great time because it provides an opportunity to stay focused on gaining wallet share.

If there’s one word that has dominated all conversations around business this year, it has to be recession. Six months into the year, shares of leading IT services companies came under selling pressure, as analysts started building in slower growth on the back of lower discretionary spends. Since June, most sell-side analysts have been monitoring not just quarterly growth and attrition but even headcount addition to justify their bearish stance on the sector. But this may be a simplistic way to analyse the sector, feels Nitin Rakesh, CEO and managing director of Mphasis.

There’s no doubt that recession does impact growth and spending, but in the last five years, companies have embarked on a massive transformational journey, as their customers began demanding more from them. This is a journey that begins at the front end and then leads to the backend. So the nature of spending has pivoted from maintenance and infrastructure services to transformation that can enable clients to deliver better service to customers and go to market faster using data analytics.

For those looking for evidence, you just need to look at the size of the industry – which is 50% bigger than it was in 2016. Says Rakesh, “The message back then was that digital will have a much larger role to play. From consumer to internal employees, everyone embraced all things digital. The first big trend we backed was that in the last five or seven years there was an alternative thanks to the proliferation of all things consumer, companies did not have time to consume tech in the same manner – which was in their premise, in their data centre and under their control – as they did earlier. This was capex intensive as you had to build the processing plant for all that data. Now you don’t need the power plant – data centre – in your office.”

‘We made the right bets’

Analysts need to look out for companies that have a significant portion of their revenues coming from managed services and infrastructure. The legacy technology platforms that were put in place to automate the processes back in the 80s and 90s are obsolete and will, over time, fade out because companies are now moving to the cloud. But there’s a lot of legacy technology assets that are being managed that will move to the cloud.

Computing on demand is a trend that has not fully played out and is definitely not mainstream, even though AWS launched its cloud services back in 2006. What has helped IT companies leverage on these new technologies is the size. It is a lot more difficult for companies with a large workforce and revenue base to pivot to the digital and transformation side of the business, which requires completely different capabilities and talent. Not surprising then that the smaller IT services companies have managed to grow faster than the Tier 1 companies. Rakesh says that his clients tell him that they no longer want to own or manage their data centres. He says: “The way companies look at budgets is very different as no more money will be spent on data centres and servers. Nobody wants to be in the business of owning real estate for data centres.”

The looming recession will be an opportunity for the players that are focused on transformation, while those focused on legacy technology estates will see cost take-outs and revenue pressure. Mphasis, as a company, picked three themes a few years ago – consumer, software as a service and cost. It seems all these are still in fashion.

The smaller tech companies (beyond the top four Tier 1 players) are of the view economic turmoil is nothing but an opportunity to stay focused on gaining wallet share. However, not all companies will have the same growth profile. There are players that will grow at plus 20% and then there are those that will see revenues contract by 20% in the global tech space and not just in Indian IT. This is because some of these players have continued to run data centres for customers – which is nothing but running the technology infrastructure of clients – and this is shrinking now. But if you are on the right side of the trade, says Rakesh, then there is a lot of money to be made. “We are fortunate because we made the right bets. The first mega trend that we have bet on is technology as a service. Second, all things consumer, which means cloud, data, cyber security and the ability to engage with consumers on experience. The third is cost,” he says.

Wage inflation unlikely to go down as war for talent continues

Given that the industry will see divergent growth trends, the war for talent is nowhere near cooling. A lot of these areas that tech companies are focusing on are still nascent and, therefore, the pool of talent is still limited. What is also making matters more challenging is the tug of war that is playing out between employees and employers in India. Be it flexi working, compensation or moonlighting, the two sides are not able to come to an amicable agreement. Explains Rakesh, “The talent market has been muddied by the future of work or what the workforce of the future will look like. The equation has to play out. There is a tug of war playing out between employees and employers. The balance will be formed and it is not near equilibrium. The equation is warped.” Occupancy in IT campuses across India remains near 20% levels and companies would ideally like to take it to 40% but it is unlikely to happen in a hurry.

While attrition is gradually coming off its peak seen in mid-2022, Rakesh believes that the devil is in the detail. While attrition is expected to remain elevated for skills that are in demand (like cloud architecture, cyber security and data analytics), wage hikes going forward could be nuanced. He explains, “Wage inflation is unlikely to go down in the near future because the talent is not available.”

The one problem that the industry is contending with is that of creating a pipeline of talent and the costs involved in doing so. Even though boardroom discussions revolve around this vexing issue, companies realise that they no longer have the option of not investing, even if it means they lose some of the reskilled talent to competition. Says Rakesh, “We have to create a talent pipeline. We are running academies for niche skill areas.”

Clearly, the journey of Indian IT services is not headed in any one direction. Companies focused on linear business models and legacy infrastructure services will take a hit in 2023, while the nimble ones that pivoted a few years ago will shine.