BUSINESS

What Infosys And TCS Need To Do To Get Out Of The Rut They Are In

They have similar internal challenges: too much cash, too little dash

15/10/2016 2:28 PM IST | Updated 15/10/2016 5:43 PM IST
NEW! HIGHLIGHT AND SHARE
Highlight text to share via Facebook and Twitter
Stringer India/Reuters
File photo of Infosys CEO Vishal Sikka.

It is easy to get caught up in the quarter-to-quarter vicissitudes of India's two bellwether IT companies, Tata Consultancy Services (TCS) and Infosys. These two, which announced tepid results in the second quarter of 2016-17, have problems that run deeper. The story is unlikely to be too different when the other three big Indian IT companies, Wipro, HCL Tech and Tech Mahindra, bare their financial innards this month.

While TCS missed analysts' estimates of performance by a mile, its boss N Chandrasekaran talked of an "unusual Q2". Infosys CEO Vishal Sikka reported better results, but downgraded guidance for the rest of the year, citing an "uncertain external environment". Well, without going into the numbers in detail, one can make this comment: the future will remain unusual and uncertain for an extended period of time, given the weak growth impulses of the global economy right now.

Infosys had ₹35,640 crore in cash at the end of September 2016, but despite increasing shareholder payouts in the forms of dividends and bonuses after Vishal Sikka took over two years ago, this pile is not shrinking.

But the internal structural problems both companies have will never go away, unless both learn to think differently. They have similar internal challenges: too much cash, too little dash. Too many people, too little innovation relative to their size. Too much Indian, too little American. Too preoccupied with protecting their current cash cows, too unresponsive to opportunities in the technology-led growth that the world has thrown up in recent times. Too focused on current margins, too little on tomorrow's businesses.

Put simply, they have been too risk-averse to really up their games despite having more cash than almost anybody in India.

Take Infosys. It had ₹35,640 crore in cash as at the end of September 2016, but despite increasing shareholder payouts in the forms of dividends and bonuses after Vishal Sikka took over two years ago, this pile is not shrinking. Do shareholders need an Infosys top management to manage their fixed deposits at the corporate level when they are capable of doing so themselves? If Infosys truly have nowhere to invest, it should just pay out the surpluses to shareholders.

TCS has, for a very long time, been less parsimonious than Infosys in terms of dividends.

TCS has, for a very long time, been less parsimonious than Infosys in terms of dividends. But it has been less conservative only because of another compulsion: it had to hand out bigger dividends to its parent, Tata Sons, primarily to ensure that the latter has enough cash to finance the cash guzzlers in the Tata group and retain group stakes at a decent level. In short, TCS has been supporting Dad's expensive habits, not its own expansive future.

Over the last half-decade, the number of employees needed to generate $1 billion in export revenues has already halved.

Too much cash in the hands of managements for prolonged periods of time leads to risk-averse thinking. Consider Bajaj Auto. It was making way too much money on its Chetak scooters in the 1980s and 1990s to notice the threat coming from Hero Honda (now Hero and Honda, who have broken up) in mobikes. It never lacked for cash ever, but it sat on them. It was only when Hero Honda nearly overtook it that it started the big investments in branding and technology, and now is doing well in the power segment of the mobike market. But it lost the scooters market through sheer laziness to Honda.

Both the IT behemoths will die like moths on the technology flame if they think headcount counts. TCS may nudge 4,00,000 employees over the next two or three quarters, and Infosys is already past 2,00,000. But productivity levels are abysmal. There is no long-term strength in numbers.

Large employee complements leave you with gigantic HR costs and demands on managerial, neither of which is conducive to creating breakthrough innovations. The world over, it is small start-ups that create disruptive innovations, not large companies. WhatsApp, which was bought by Facebook for over $19 billion in 2014, had barely 55 full-time employees. A handful of employees created so much wealth. Compare that with TCS, currently valued at $70 billion, with 3,71,519 employees. TCS is still substantially a body shop, not a true technology innovator in a globally relevant way.

To morph into a company that matters globally, TCS needs to dramatically shift focus from growing employee numbers to innovation, either through acquisitions or by investing in start-ups. Ditto for Infosys.

Automation is anyway destroying low-skilled jobs even in IT companies. Over the last half-decade, the number of employees needed to generate $1 billion in export revenues has already halved, The Economic Times reported earlier this year. But, Andy Mukherjee notes in a blog for Bloomberg, the Big Three of Indian IT deploy 50 percent more staff in digital technologies to produce 40 percent less revenue than Accenture. High employee cost realities made harder competitors out of IBM and Accenture. Mukherjee's example suggests that Accenture's digital productivity is almost twice that of Indian IT.

To conclude, Indian IT companies must think out-of-the-box to outcompete their western counterparts in a world driven by automation, global protectionism, and innovation. You can't think out-of-the-box as long as you are boxed in with Indian thinking about scale, size and disruption. You have to transcend your Indian DNA of thinking small, thinking incremental innovation. India is not currently the hub of productivity or innovation. It cannot incubate the next Google or Whatsapp. Maybe this can happen in future, but not the immediate future, for the climate for disruptive innovation is missing. Jugaad, for example, is the norm, and jugaad is about making do with what you have, not creative disruption.

To grow from good to great, the likes of TCS and Infosys should be thinking major, disruptive moves.

One, they could relocate themselves to the US, in Silicon Valley or Boston. Sikka has at least got the right idea, by shifting base to the US. TCS needs to do that as a first step before shifting its corporate decision-making base to the US. Both TCS and Infosys should be less Indian and more American at this stage in their growth. What worked for them in the bodyshop phase of growth will not work in the second decade of the 21st century. In short, they must become American companies with many more American employees, backed up by a large complement of lower-skilled Indian offshore workers based here. As long as TCS and Infosys have Indian moorings, they will think safe, not daring.

Bloomberg via Getty Images

Two, they must think less about margins and more about disruptive technologies. This is easier done if they become American companies, with a window seat to Silicon Valley. Acquisitions and investments in start-ups in the US are more important than cash hoards. Remember, cash will be easy to raise in the US, where venture capital exits are easier, than if they remain Indian companies.

The real way forward for big companies is to buy what are called "real options." That is, they invest in many promising start-ups simultaneously, with clauses that enable them to up their stakes to 51 percent when some of them deliver on their promises. They should be investing in the next 50 WhatsApps rather than enrolling their next 10,000 employees in Indian development centres.

Both TCS and Infosys are too big to grow. They need to split their businesses either by vertical or geography (or both), so that these smaller companies can themselves become innovative, and if needed, raise their own capital.

Three, both TCS and Infosys are too big to grow. They need to split their businesses either by vertical or geography (or both), so that these smaller companies can themselves become innovative, and if needed, raise their own capital. Having too much cash in one large company is simply leading to risk-aversion and incrementalism. TCS and Infosys should consider becoming holding companies, with the operative subsidiaries mostly based in the US and Europe, with one Indian subsidiary focused on low-margin growth focused on growing the domestic IT industry. In the next 10 years, as India becomes a middle income country and a $5-6 trillion economy, the domestic IT business may well turn out to be a goldmine, as Indian governments, manufacturing companies and services automate in a big way.

It may sound nationalistic to think of TCS and Infosys as Indian companies, but their medium term future lies in the US and Europe, not India. And to grow in your biggest markets, you have to think like your customers. You can't do that by deciding your plans in Mumbai and Bengaluru.

Also On HuffPost:

RIP cable TV and telephones

More On This Topic