Anand Krishna’s musings

As Indian IT services companies move up the value chain, so too must their marketing. In the current market scenario, there is pressure on both top-line and bottom-line. Budgets will inevitably be cut- and yet, it will be expected that the company’s brand grows from strength to strength, and its positioning protected. Prima facie, this seems to be a tall ask. However, it is possible for marketers to modify their channel mix and choice of vehicles to achieve these goals. Online (or “digital” or “new”) media must be deployed. Other below-the-line avenues like securing speaking slots at industry trade shows, extensive analyst briefings and proactively courting media to position company leaders as thought leaders (so that the journalists will check back for views- and offer the courtesy of a few soundbytes in the story) etc. are some other ways to maximize impact during these days of low marketing budgets.

Read more of my views on the subject at:

http://www.thehindubusinessline.com/catalyst/2008/06/12/stories/2008061250130300.htm

For the last few months, the Indian IT services industry has fretted and worried about the slowdown in the US economy and its impact on business. It has reacted on expected lines:

• predicting a slower growth in top and bottom lines
• going easy on hiring
• limiting salary hikes
• reducing bench strength and increasing utilization
• cutting down on discretionary spends

These are well and good; but what is needed is to use this time to change the rules of the game. Different (and differentiated) business strategies are needed. Companies should explore new models to break the linear relationship between revenues and number of bilable employees. “Build once, use many times” could be one possible approach, wherein a cmpany develops an application “platform” that can be sued for multiple clients. Naturally, adequate security measures will need to be in place, and more importantly, disparate clients must be convinced to standardize processes and not worry about ownership of IT assets so long as business service levels are met.

This may be a good time to target Africa both as a potential market as well as a location for a development center.

Rather than cut back on marketing, this is a good time to pick up desirable media slots at a relatively lower price and lock them down for the next two years or so. That way, 6 or 9 months from now, when the miasma in the marketplace is going, companies will be ready to hit the ground really hard.

This may also be a good time to look inwards and rationalize teams.

Rather than indulge in infructuous navel-gazing, this is the time for Indian IT services companies to differentiate themselves . At a time when clients are woried about costs, Indian companies should start taking the lead in demonstrating value that goes beyond being “body shops”.

After months of waiting (during which time, naturally, valuations, strategy discussions, turnaround plans were being formulated/refined), the Tata group has finally acquired Jaguar and Land Rover from the beleaguered Ford. This is indeed testimony to Ratan Tata’s vision and execution.

The $2.3+ B paid for the acquisition is no small amount, and only time will tell how well or to what degree the Tatas have been able to extract value. As I see it, they will probably do one or more of the following (in no particular order):

1. Use JLR technologies and people to design better cars (just as they did with their acquisition of Daewoo’s truck manufacturing) so that Tata’s cars become even better.
2. Use the overseas manufacturing facilities to make the Nano and sell locally.
3. Leverage the JLR dealer network to penetrate western markets like the US and UK.
4. Use the JLR stickers to raise expectations and hence, prices.
5. Pump in much needed resources to rev up Jaguar and Land Rover sales.

Look forward to someone else’s comments!

To stimulate growth or to rein in inflation. In the current global economic scenario, that is the question most Finance Ministers and Central Bankers are grappling with.

Take the example of India. Till a couple of months ago, a 9% GDP growth was very much on the cards. Inflation was fluctuating, no doubt, but was well under 5%. But now…? Inflation has inched up to almost 6%. It is clear that our GDP will not grow any more than 8.5 or 8.6%. To be sure, these are growth rates to die for, by most countries’ yardsticks today. It is close to triple India’s own historic “Hindu rate of growth”. But a less than 9% GDP growth rate upsets many calculations. Stock markets assumed that companies and indeed, entire sectors of the economy would grow fast enough to support an aggregate growth of 9%. But now that will likely not happen- at least for the next year. Sustained 9% growth for the next few years would mean that as a nation, we would start winning the war on poverty. Again, that won’t happen as quickly as many of us would like, because of a slowing growth rate.Is the growth rate in any one individual’s control? Clearly not- and even less so in a globally inter-connected world.

Growth needs capital to fuel it. And not everyone has enough of their own money (equity) to put into their business and grow it. Ergo, they rely on borrowings from friends, banks or even money-lenders (debt). But there’s a problem. Debt must be serviced regularly via interest payments and repayment of the principal. And as inflation rises, interest rates rise. Of course, inflation also increases the returns equity investors expect (so that their real rate of return is not adversely impactred). But unlike debt, equity investors take a bigger risk. They may not get to see dividends every quarter or indeed, each year. And there is no rule that says that the stock must appreciate by a certain percentage each quarter or year.

So there lies the nub of the trade-off. Should monetary policy be aimed at reining in inflation (so that credit does not become more expensive, in turn impeding growth)? Or should fiscal policy be used to provide tax breaks so that more money is put in the hands of consumers and hopefully, this money goes either into consumption (thus stimulating demand for goods and servcies) or goes into savings, and thus exerts downward pressure on rising cost of debt)?

I don’t know the answer…. if I did, I suppose I’d be a central banker or Finance Minister somewhere!

Bear Stearns, one of Wall Street’s leading investment banks (it was ranked 5th in the US, I think), collapsed dramatically last week. This is so far the biggest corporate victim of the current financial crisis triggered by indiscreet lending, as it were (the so-called “sub prime crisis). Bear’s clients withdrew over $17B in two days, amid fears of a cash shortage. Bear was on the verge of declaring bankruptcy. The Fed intervened to prevent a larger, systemic collpase of the larger markets and virtually forced Bear to sell out. JP Morgan Chase, one of America’s largest banks (by assets) was the “white knight”, as it were, and agreed to buy Bear’s stocks.

Prima facie, it would appear that the “system” is working. So what’s all the fuss about? Several reasons, as I see the situation:

1. Should Bear not have warned the Fed and SEC earlier?
2. Should the Fed have loaned Bear enough to tide over the crisis (it seems to have agreed to loan money to JP Morgan Chase)?
3. Was it right to have given Bear just a day to find a buyer?
4. Was it right that JPMC was allowed to virtually annihilate Bear’s shareholder interests- they paid $2 per share, when the book value was closer to $80? To offer another data point, Bear stock was trading at $170/share just an year ago.

I think this situation is symptomatic of a bigger malaise. Although regulators and fiancial institutions around the world are talking more and more about “Governance, Risk Management & Compliance” (GRC), the “system” is still leaving a lot to chance. Some of it may be a case of looking the other side even as “financial engineers” come up with newer and newer “products” that are supposedly designed to offer investors a wider choice of risks and returns. But some of it is possibly because the underlying information systems in the financial services industry are not as “real time” as we think they are. Or perhaps executives responsible for GRC do not monitor their “dashboards” as often as they should.

Perhaps financial services companies should focus more on strengthening their GRC capabilities in the next few months, instead of spending money on “improving customer experience”. After all, no customer can experience anything more painful than being told that his/her investments are worth far less than the capital s/he had originally invested.

Just as importantly, regulators around the world should evolve a global GRC standard (before you say ‘Basel II’, let me point out that adherence of Basel II norms varies betwen Europe, America and yes, Asia). And then work hard at making sure people adhere to these standards.

The chaos surrounding Bangalore’s new airport would have been amusing, but for the fact that I am a Bangalorean and have to suffer the consequences. With less than a couple of months to go before its scheduled inauguration, various people suddenly realized that the road connectivity to Devanahalli is inadequate and a lot of time would be wasted in travelling to and from the airport.  Oh really?!  After years of dilly-dallying, the location of the new airport was frozen several years ago. Construction has been on for over 3 years. And the so-called intelligentsia realizes just now that the new airport is not easily accessible? For God’s sake!

Not that the state government is innocent- for years, it has dragged its feet on improving road conectivity, knowing fully well that the airport is scheduled to “go live” in March/April 2008. And now, the road will be constructed in a hurry, with scant regard for quality. In less than 3 months, the carriageway will be pockmarked with potholes (a la the rest of Bangalore). So much for making Bangalore an international city.

Bangalore has grown so rapidly that the existing airport is not adequate to meet demand. Which is why the need for a new airport was felt in the first place. I agree that the move to a new airport will not be easy. We will all pay the price. Hundreds of thousands of litres of fuel will be wasted in travelling to & from Devanahalli. Thousands of productive person-hours will be irretrievably lost. Tempers will fly as vehicles jostle to reach the airport on time and even citizens who do not need to go to the new airport will be inconvenienced because of the traffic restrictions imposed.

But even with all these drawbacks, is it even worth debating whether the existing airport should continue- whether for short haul flights, domestic flights etc.? What about Bangalore’s aspirations (or should I say, pretensions?) of becoming a world-class city? Or is it that “world-class” should only start outside the airport? What about the legally binding agreements that the State & Central governments are signatories to? If BIAL decides to file a case, it could well win, for the time to think about “public interest” was before signing the agreements, and not weeks before the new airport is scheduled to open. And think of what the news of the government reneging on a concession agreement could do to future investments by the private sector- not just in Karnataka bu across the country? And would we be OK losing investments to Andhra Pradesh just because Hyderabad has a better airport? Should any of these happen, I can guarantee that these very same members of the intelligentsia will carp about Bangalore not living up to its expectations and the sad state of “infrastructure”. And may I point out that even though the HAL airport is closer to the city centre, during peak hours, it can take upto 1.5 hours to get to/from the airport to many parts of Bangalore.

The last few weeks have already seen discussions about a high-speed rail link, extension of the regular railway line, etc etc. I think the debate should focus on how best to improve connectivity to the new airport and force the government to act quickly. Bangalore needs an international airport quickly.

The strike, Standing Committee directive, cries by industry leaders to continue with the HAL airport- frankly, it’s all much ado about nothing.

PS: I do not own any real estate at or near Devanahalli!

In a globally integrated financial system, it had to happen, I suppose. I am referring to Indian banks being affected by the US sub-prime crisis. In the last day or two, news is trickling in that a few Indian banks have had exposures to US housing loans that have now gone bad. It is not that these banks have lent to borrowers who have become delinquent. What has happened is that the original lenders have parcelled off bundles of asset-backed loans into what are called “Collateralized Debt (or Mortgage) Obligations”. The cash flows and hence returns from these CDOs/CMOs are derived from the cash flows and returns generated by the underlying assets- which are the lender’s receivables against the loans. That is why these are derivatives. And almost always, lenders package a mix of loans into each CDO “package”- some good, some more risky, some of relatively short term, others of longer term etc. The trouble is that investors do not fully understand the associated risk- manifested either as creditworthiness of the borrower and/or quality of the asset used as collateral. The problem becomes compounded when the original loan is made, say, in Texas, and the investor in the CDO is a bank in India- due diligence is that much harder.

Some estimates of the sub-prime crisis suggest that well over $1 Trillion is at risk. So far, only about $100B of write-downs have happened. Do the math yourself ($1 Trillion is roughly the total market cap of India’s equity markets). And start worrying about where your mutual/hedge fund has made investments, given that it promised to take advantage of investment avenues in global markets to deliver “superior returns”.

The Union Budget to be presented by Finance Minister P C Chidambaram in a week or so will be his last as part of the current UPA government, assuming that the Lok Sabha elections are held on schedule.

Every year, the Budget is a huge event that shapes not just macro-economic and fiscal policies, but also sets the tone for how the stock markets are likely to behave. In fact, right from the first week of February, the stock market takes cues from second-guessing what the Finance Minister is likely to unveil.

In the last couple of budgets, the FM has acted on expanding the tax base. New services have been brought under the service tax net. However, agricultural income remains outside the income tax regime and this continues to benefit several large farmers. Excise duty cuts and sales tax rationalization hve also occurred over the past few years, and these are laudable. However, the introduction of levies like the FBT have raised more than a few hackles. Extending the tax breaks for India’s IT and ITES industries is something else that needs careful consideration. While the industry has matured and at least the large players no longer need fiscal breaks, it cannot be denied that these breaks attracted initial investment and these in turn helped create the ecosystem that is today India’s source of advantage via-a-vis some other destinations. The budget must also encourage Public-Private Partnerships to accelerate urban and rural infrastructure development. By “infrastructure”, I do not just mean roads, power and airports; I also mean schools, drinking water, sanitation and healthcare.

The FM has a great chance to use the budget to drive GDP growth past the magical 9% mark. But there will also be electoral compulsions to come out with a populist budget, so that the Congress can piggy-back on its “feel-good” wake and try to win the upcoming elections.

What choice the good Dr Singh and “PC” (Mr P C Chidambaram) make will be decisive in how fast India continues to grow. In the short term, the budget will also impact stock market sentiment, especially at a time when the dark clouds of US slowdown are looming large on the horizon.

The government has increased the price of petrol and diesel respectively by Rs2 and Re1/litre. The increase will kick in less than 2 hours from now. Petrol in Bangalore will cost almost Rs53/litre, which probably makes it the most expensive in the country. In fact, fuel prices in India are among the highest in the world. With supplies not increasing at the same rate as demand, price increases are only natural.

But how long can this go on? In a country like India, where LPG is a major source of fuel for domestic cooking and freight is hauled either by diesel powered trucks or diesel locomotives hauling goods trains, an increase in diesel prices will have an impact on almost all other prices in the economy. In other words, inflation will increase. This will put upward pressure on interest rates, while fears of slowing domestic growth will cuase bankers to revise interest downwards to ease credit. Which of these forces will have a greater effect depends on their relative strength. And higher interests can only mean a relatively depressed stock market.

Either way, hold on tight folks, for an economic roller coaster ride!

For years, economists and politicians have waxed eloquent about the wondrous benefits of globalization. Countries like India, that had erected protective trade barriers for the first 50 years after independence, started a regime of dismantling such barriers and “integrating with the global economy”.

Western corporations had (finally) got access to emerging markets and CEOs were salivating at the prospect of selling a range of goods and services to a rapidly growing middle class in Brazil, Russia, India, China and elsewhere. All was hunky dory as long as the going was good. But now, the world is faced with a disquieting reality: when things go sour, the very economic inter-connectedness that votaries of globalization were rooting for, causes pain. And apparently, lots of it!

In the last decade, the world economy has seen the Asian melt-down of 1997-98, the dotcom bust, the US recession/slowdown of 2001 and most recently, the sub-prime crisis. In the 20+ year old film “Wall Street”, Michael Douglas epitomized the typical investment banker in his famous line “Greed is good”. And it is exactly this greed that has amplified the current global economic crisis.

In their quest to deliver “superior returns”, managers of hedge/mutual funds have created “structured products” that tend to obfuscate investors’ (and possibly the managers’ own) understanding of risk. But it is axiomatic that higher returns go hand in hand with higher risk. In their greed for higher returns, people (investors and fund managers) lost sight of the difference between “alpha risk” and “beta risk” and when the sub-prime loans started unravelling, so too did a plethora of other asset classes. In many instances, there is poor understanding of the underlying risks. Compounding the situation further is the fact that because of globalization (which facilitated cross-border investment flows), investors in country X are being exposed to risks associated with economy Y. Ergo, the global economy has begun to feel the pain.

This pain is also being felt in other quarters. The largest Wall Street financial supermarkets- the Citigroups, Merrill Lynches, Morgan Stanleys and their European peers/competitors- the UBSs and Societe Generales- are taking substantial P&L hits. To at least part-offset these losses, some are considering a trade sale of assets like their captive back-office operations in locations like India- which represent a source of competitive advantage to these companies. Such sales, if effected, will affect the equilibrium of both the outsourcing industry (which may acquire such assets) and the domestic talent market- after all, captive BPOs do employ 50K+ skilled employees in India alone.

How all this will finally play out is a trillion dollar question. But for everyone involved- and that includes average investors like you and I- the next 12 months or so will be crucial.

The PM has promised to use policy as a means of driving behavioural change. This is a welcome step. There is talk of a reduction in excise duty/import duties for cars that run onybrid fuel technology. This should also encourage domestic auto manufacturers to improve engine design so as to comply with ever-tightening emission norms.

But just as importantly, the government must act on existing old vehicles, that do not comply even with emissions norms of 10 years ago. Every city has several hundreds of cars, buses, trucks or autorickshaws that belch smoke. Unless policy is also changed to make sure that such vehicles are not issued roadworthiness certificates, much of the gains made by the tightening emission norms wil be lost.

And finally, the only sustainable solution really is to provide quality mass transit infrastructure that will enable people to travel quickly, comfortably, safely and conveniently across the towns and cities they live in.

India’s IT industry has enjoyed an amazing run over the last two decades, with only a brief pause to catch its breath in 2001. All good things, it is said, must come to an end. Clearly, as in other industries, the scope for “super-normal profits” is a thing of the past. What does the future hold for the IT services industry? Answering this question is not simple; in fact, there are several forces at work, and the outcome will depend on their complex interplay.

1. As the US economy heads into what may be a prolonged slowdown,  domestic spnding will dry up. Companies will go into cost-cutting overdrive and hence many companies will embrace higher levels of outsourcing.
2. With the dollar continuing to weaken against the Rupee, shrinking IT budgets will be able to buy only a smaller amount of services priced in Rupees. New projects aimed at enhancing competitive advantage may be put on the back-burner, and companies will only want to “keep the lights on”.
3. It’s election year in the US and anti-outsourcing rhetoric will reach a crescendo. Companies will defer their outsourcing program, for fear of being called unpatriotic or responsible for domestic job losses.
4. As other industries start competing for talent in India, the IT industry will be forced to raise wages- but because of the margin pinch, this increase will be lower than what other sunrise industries like Retail and Construction can offer. The supply constraint thus caused will further impede India’s outsouricng companies in their abilities to deliver more projects- and thus drag revenue and possibly, margins.

The next 12 months will be critical for the entire industry, which is at an inflection point. Companies that reinvent themeselves to be able to deliver superior value in terms of newer offerings that can deliver “non-linear growth” (revenue growth graph that is not parallel to the graph showing increase in employees),  more IP-based  services (such as  true management consulting) or move into new types of knowledge-based outsourcing (such as outsourcing of marketing servcies, analytics, equity research etc.) will come out on top. For the others, well- there’s always the option of being taken over!

A few years ago, business leaders started talking about organizations exhibiting “boundaryless behavior” to win in the marketplace. I cannot claim I fully understand what the term means (or was meant to mean).  However, as a colleague and I were discussing on the drive home, the advent of the computer, internet, mobile phones etc. have made life easy in many ways, but just as hard in others. A simple example is the concept of “getting off work”. Today, most of us are never “finished” with work.

In this digital age, one is “always connected” to one’s workplace- whether by blackberry or mobile phone with a bluetooth”hands-free” set. This is suppose to improve productivity- but it also has an insidious, often un-noticed role to play in our lives. For instance, I leave for work by 7:00 a.m. and return only by 7:30 p.m on most days. My killer commute takes me right therough the heart of Bangalore city during peak traffic, and has a major role to play in me spending a good 2.5 hours a day on commute to/from work. On almost 3-4 days a week, I enter my house in the evening with the mobile stuck to my ear and me busy in conversation with a colleague somewhere around the world (usually the US or Europe). Wife, kid, visitors, neighbors- nothing matters. If I am lucky, I get to finish the calls by 8:30 p.m., and thus have some time to spend with the family (usually at dinner). Thereafter, it’s either e-mail (either on the laptop or blackberry) or more calls. A few minutes of TV to catch up on the news and by now, it’s past 11, or time for bed (otherwise, getting up at 5:45 a.m. the next morning is not easy).

In this whole schedule, what is conspicuously absent is quality time for myself and my family/friends. Work coalesces into “leisure” or “family time” and the boundaries blur. That’s my reality of “boundaryless behavior”. But I am sure this is not what the management gurus had in mind- or did they?

After sustained falls in the first part of last week, the 30 stock BSE Stock Index (the Sensex) gained well over 1000 points on Friday- the highest ever gain in one single day. Essentially, the “India Story” is too good to ignore. FIIs have started coming back to India, after a spate of selling (to book profits). The P-Note saga too has perhaps played out completely. Admittedly, global cues from western markets are worrying, but India has a vibrant domestic savings rate and pretty decent domestic demand.

A rapid rise back by the Sensex to 21,000 is not a planned-or controllable- activity. But as I said in a previous post, sectors like infrastructure, retail and financial services are the engines of our economic growth. The RBI has made some conciliatory noises about reining in the Rupee. Although Finance Minister Chidambaram has suggested (on the sidelines at Davos) that there will be no tax reductions in next month’s budget, we must remember that general elections are around the corner. The markets will expect a populist budget and hence start rising in the coming 4 weeks. In fact, after Congress’ rout in Gujarat and HP, a populist budget cannot be completely ruled out- although I hope fiscal prudence will not be sacrificed at the altar of electoral populism.

To me, the bottom line is this: keep the faith, and in 12 months, an average equity portfolio return of 25% is very much possible. I agree though that this is nowhere close to the 50+% annual returns many investors have enjoyed over the past 2-3 years. But hey, past peformance is no indication of future performance!

The Sensex has lost over 2200 points in the last two days. Stock markets across Asia, Europe and the US too have fallen. This global collapse was inevitable, given that the credit crisis in the western world was not limited in impact to the western economies.

Highlighting the key underlying forces is instructive. In India, a major reason was the high valuations implied by a Sensex that stood at 21000+ . The specific trigger, perhaps was investors’ mad rush to cash in on the listing gains for IPOs. The mother of all IPOs- Reliance Power- has just sucked up huge amounts of capital from the market. Several investors sold their shares just to raise money to invest in the Reliance Power IPO. Also, several investors were highly leveraged, and lacked the liquidity to take delivery of shares. Add to this the  sustained selling by FIIs, many to offset their sub-prime losses. Voila- a recipe for an implosion. Which is exactly what happened. Those most directly impacted (apart from investors) will be companies that had IPOs scheduled in the next few months, as they see poor subscriptions to their issues, prices at the lower end of the band and so on.

But there is hope for the strong of heart. Those willing to ride out the volatility for another 6-9 months should see the Sensex recoup its losses. Expectations around a friendly budget (likely, since elections are round the corner) could accelerate the rebound process.  However, another imponderable is corporate performance in Q4. If the US economy does enter a recession, it could slow down Indian exports. The IT sector might gain because more companies in the US will seek to outsource- but lower price points could neutralize some of these gains. If you have surplus funds, invest in select stocks and mutual funds that have the right stocks in their portfolio. Time, it is said, is the best healer. The statement is true for stock markets as well.
Happy investing and good luck!