Posted by: qmaxim | June 27, 2012

Infosys’s predicament

All these years Infosys has been known as the bellwether of India’s 100 billion US$ out sourcing industry. Reason being consistently high level of revenue  growth, industry leading profitability, ethical behaviour, high quality levels, transparency, open communication, investor returns and friendliness, employee wealth sharing, consistently meeting revenue guidance, etc.  It was also one of the first companies in the sector to list on the  NASDAQ stock exchange in USA. Performance reported by Infosys was considered to be indicator of the overall health of the outsourcing sector.
In the 2011 annual general body meeting (AGM) company’s legendary chairman and co-founder Mr Narayana Murthy  retired. COO – Mr Shibulal took over the  CEO function ,  well known banker Mr  Kamat took over as  non-Exec Chairman and former CEO Mr Kris Gopalakrishnan moved into  the role of  executive Chairman.
In the recent past many people have started questioning whether it deserves bellwether label or not.  Reasons are many. In the last one year many  things have not been going well for the company. Along  with Mr Murthy some other high profile senior executives quit / retired. For the first time Infosys missed self declared revenue guidance. Next year’s revenue  projection has  also been tepid;  company blamed tough economic conditions as one of the reasons. But other large companies in the sector  (such as Cognizant ,TCS, Wipro, HCL)  reported relatively good  performance though not matching  with previous years’ performances. (Not all of them have the same profitability levels). Though company has large cash stockpile did not manage to deploy it  in productive way such as buying smaller companies. In the span of last one year, company’s share price declined by about  15%  whereas  share price of  larger competitor TCS went up by about  7%  during the same period. Also, there has been a barrage of criticism from institutional investors, press, and  even  common share holders of the company.
Last year company launched new strategy called Infosys 3.0 with a slogan ‘accelerating growth’. Extensive reorganisation was also carried out along with this launch.  As explained by the CEO (during the 2012 AGM) strategy essentially involves moving away from plain vanilla offerings to  consultancy and  products.
As I see it the company faces several predicaments. At this juncture there are  no easy solutions. Some of them are:
Plain vanilla offerings (albeit of high quality ) constitute over 60%  of revenue at present. It is becoming increasingly difficult to maintain higher  margins than competitors due to prevailing business environment ; many of  the leading players in the field also have similar operational excellence levels (i.e. Quality) does not help either. Persisting with higher margins could lead to loss of big orders which also has implications on labour productivity, hiring, overall cost, etc. Trade off between these revenue streams  is the first predicament.
Consultancy work done by the company is  unlike  that of  by pure consultancy firms like McKinsey. It is a mixture of  management consultancy and  technology consultancy + system  integration. Revenue per employee tends to be much higher in management consultancies as compared to  system integration type of work. In the case of the company both types of employees  coexist and  probably there is a vast  salary differential between two types of consultants. If there is too much emphasis on management consultancy  volume growth  is likely to suffer. This is the second inherent contradiction.
Company has been putting increasing emphasis on generating revenue from European region to de-risk  overdependence on north American market and has succeeded to a large extent.  Due to prevailing  challenging economic environment (some countries are in the danger of going bust and future of Euro in question, etc)  it has become more risky. But, at the same time, this  might just be  the right time to push for orders as many European companies  are  under  pressure to reduce cost and improve efficiencies and thus might be more amenable to change.  This is the  third contradiction.
Infosys has relatively small  presence in Indian market. Increasingly new technologies and business models are being  developed / implemented in India. It is said that Indian market order inflows tend to be volatile and margins are  lower. Increasing revenue from India could have  adverse effect on margins but not having a substantial presence could result in missing out on  experience of new ways of doing business.  According to innovation thought leader Prof.  Vijay Govindarajan innovations developed in emerging markets will increasingly move to developed countries. He calls  this  trend reverse innovation and says   that such innovations could lead to   huge business opportunities in future. This is fourth predicament.
Deploying huge cash mountain to  get decent returns  and  for buying up  companies has been a big challenge. Some of the competitors have made several buys during past  year. As  present valuations of  many companies  are  attractive  this might be the  right time to move aggressively  on this front.  Of course, this has inherent risks as compared to parking the money in safe seurities. This is the fifth predicament.
If the company is able solve these predicaments in creative ways then it  is likely to  meet with  great success. It says it is gaining  traction in implementing new strategy.  Factors such as recent crash of  Indian Rupee and falling employee attrition will no doubt help. Of course, these are not the only challenges and opportunities in the horizon.

I will be pleased to hear your views

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