Impact of COVID on IT & ITES Sector
With each passing day of March, the COVID 19 situation has turned worse. What’s transpired in the first 3 weeks of March couldn’t have been forecasted by anyone globally. I do hope that things get better and the pandemic is tamed with social distancing, and hopefully even with a breakthrough vaccine sooner than later. Yet, the financial impact of COVID 19 on businesses will continue to be felt for many quarters. In this segment, I look to analyse the impact of COVID 19 on the ITES sector that employs millions of people globally.
1) New Business Growth, and Including Hot Leads, Come to a Standstill - Let’s take a look at what’s happening with some of the key client sectors of the ITES industry. The CPG clients are struggling to accurately forecast future demand of different product categories (as traditional forecasting models have become defunct overnight), and realigning production schedules to match the spike in demand of essential low margin commodities (with no demand for high margin non-essential commodities). The financial services clients are coming to terms with asset and NAV erosion, and looking to scale back already. The travel and aerospace clients are adversely hit as the travel & tourism industry has come to a complete halt. Energy sector too has its set of fundamental challenges. LifeSciences clients are continuing to see some activity, but that too is restricted to certain segments of the industry.
The net impact of all of this is that there is limited executive bandwidth with clients to talk about anything else except BCP, and risk assessment & mitigation plans. Reaching out to a new client for a new sale conversation at this point of time is preposterous to say the least. Even with existing clients, taking about a new sale that doesn’t marry with their risk mitigation work streams are unlikely to go through. In fact, if persisted, these conversations are likely to damage the hard built service provider equity with their clients.
In a best case scenario the ITES industry will see this period of negative revenue growth lasting for a couple of quarters. However, even beyond that, the client industries will take time to reassess their priorities and gradually get back to business as usual. So even in a best case scenario, 2020 revenue forecasts will be severely hit, with a likelihood of some impact being carried forward to early 2021. Now in a worst case scenario, this period of negative growth could last for a couple of years as well driven by economic slowdown coinciding with the COVID’s impact. Uncertainty of upcoming US elections and Brexit add further fuel to the fire. The specific impact for a service provider will vary basis their relative exposure to different end client sectors and the dynamics faced by these clients.
2) Business Plan 2020 Goes for a Toss - At the start of 2020 most service providers were bullish about the state of the industry and built growth plans in line with this. In line with these growth plans, the company’s started committing to strategic projects related to expansion, digitization, marketing and hiring. Now with the slowdown, and very high probability of recession in play, means these plans need to shelved and not just toned down. The key risk though is of a possible wastage of already expended investments, seeing the inevitable rough runway over the next 6-12 months.
There is frenzy, as we speak, in virtual boardrooms and CFOs alike to build scenarios A, B and C – and then realign committed and assigned budgets. The more decisively agile the leadership at the service provides the better likelihood of companies tiding over this difficult time with manageable damage.
3) Product & Service Mix Needs a Relook - There is a need for the product and service lines to be relooked. There are two clear imperatives here. First, service offerings targeted at supporting clients with market growth support opportunities need to be put in cold storage for the most part (to align with the state of client’s market situations). Service providers need to bring to the fore and/or develop services that can help in risk assessments & mitigation, BCP, scenario planning kind of activities. The market growth related services will be need to be narrowed down to a limited cross section of clients that are continuing to grow – for instance, the tech collaboration companies, online learning platforms.
Second, product based offering with minimal human support are likely to be more compelling from a cost and serviceability standpoint. The cost of delivery for these services is likely to be lower, and scalability potential much higher than pure services business. ITES companies will likely pivot towards higher investment on the product side, something that’s remained elusive over the years.
4) Human Capital @ Risk - ITES industry, for the first time in the last three decades, is going to the see minimal attrition. This is a stark contrast from the average 25-30% per annum industry attrition we gotten used to seeing. This probably is the only silver lining on the human capital side.
Outsides of this, most hiring is already frozen, and even committed campus joining are likely to get pushed out by many a month/ quarter. This isn’t the worst part through. There is a realistic chance of large scale lay-offs and pay cuts that’s staring the industry in the face! A large of this will impact the senior to mid-level employees.
5) Operational Risks - The ITES industry is built on the back of high security work environments and frequent travel for collaboration. The scale of BCP and remote working that the world has gone into is challenging this paradigm. It is requiring service providers to reach out to their clients and seek relaxation on the restrictions that are typically part of the service contracts.
Basis the experience of how the next few months pan out, we could see of one of two things happen. First, the ITES service providers could gradually embrace a more virtual set-up of working, strengthened by stronger remote working infrastructure and security features. This could lead to a partial scale down of large physical facilities that are maintained today, thereby offering some bottom line relief. Alternatively, the industry witnesses wide scale security breaches and quality issues during the COVID BCP times. This will could negatively impact the ITES industry growth. However, basis my discussions with colleagues and industry leaders, I would bet on the former happening than the latter.
6) Pricing Pressure - Wage and cost inflation has meant that service providers have traditionally managed to increase prices, at least for new orders. The current situation is going to disproportionately put the buying power further into the client’s hands. This will see service providers having to compete on price, driving margins further south, for the next few quarters.
7) SMEs will Face Existential Pressure - The smaller service providers are likely to have higher cash flow and profitability concerns, with every passing month of negative growth. This coupled with cases of lower cash reserves could hamper their ability to absorb the business shock for long. Some of these SMEs in the ITES sector could go bankrupt while others may become attractive acquisition targets for the larger players & captives towards the end of 2020.
However, not all is gloomy. ITES firms that are able to tide through these next 6-12 months will have an opportunity to ride the growth wave once again. The focus areas of digitization and analytics have strong fundamental drivers, and their uptake is inevitable. The 2007 experience has taught us that once the dust settles, everyone has an opportunity to win and compete for market share. The key remains how we manage the next 6-12 months prudently, and balance out maintaining cash flow & profitability (or minimal losses) with building capabilities that could catapult us onto the next growth wave.
