Will US recession affect Indian IT industry?

The largest significant export market for India is the United States. The increasing worries of a US recession are worrying the Indian exporters. It is because a slowdown in demand negatively impacts export growth here. 

The United States has released its second-quarter GDP (gross domestic product) figures, which show a drop. The country recorded a 0.9 per cent drop on an annual basis. It is the second consecutive quarterly drop. It indicates that the economy is likely to enter into a recession. 

A recession is announced when an economy has two sequential quarters of GDP decline. Although this is an ancient saying, it is challenging to establish modern-world complex economies based on only two quarters.

Why the US recession is a concern for India?

America is the main market for Indian IT service providers. Providers such as TCS, Infosys, Wipro, HCL, and Cognizant had $50 billion in sales to the United States in 2020.

Accenture, IBM, Deloitte, and DXC are some American IT services firms that outsource much of their work to India. These four companies employ more than 4 lakh people in India.

More than 1 thousand US corporations have developed their own operations in India. They employ around 1 million people for everything from back-office IT services and call centres to strategic innovation and R&D. 

Through the H-1B visa programme, over 4 lakh Non-U.S residents work in the United States. Nearly three-quarters of these come from India, and most work in IT. Indian Americans have a strong and prominent presence in Silicon Valley. So do Indian students and professors at America’s top colleges, particularly STEM subjects.

According to Goldman Sachs, a US-based brokerage business, there is a 30% likelihood that the US economy will enter a recession in the following year. Bank of America maintains the same assessment. However, it is a little more sure about it – 40% probability.

The most significant shift at present is the severity of the American recession.

What effect will the recession have on the Indian IT sector?

The US Federal Reserve steers the US economy through the difficult conditions created by the Russo-Ukraine struggle and inflationary pressures. The effects will be evident in the Indian subcontinent. The US market contributes between 40-78% of the revenue earned by Indian IT companies. Companies like TCS, Infosys, Wipro, HCL Tech and Tech Mahindra have more than 50% exposure in the US.

Recently, J.P Morgan has downgraded the Indian IT sector’s outlook to underweight. It believes that the sector’s happy days are over. Another leading brokerage firm said that this slowdown was due to 3 key reasons-

The companies in the sector had already predicted that their margins would be affected by the downside. But they weren’t ready for such an economic slowdown. Driven by the economic slowdown, there is a major shift in the global outlook of the sector. 

The fundamental and technical analysts are storming their research heads. The valuations have also taken a hit due to the slowdown and the somewhat bumpy future. IT stocks saw a decent amount of correction due to the worries of a long-drawn slowdown. There are many signs of a stagflation-like situation. Even the Nifty IT Index has plunged close to 25%.

The revenue fronts may not see much downside due to the contracts having predetermined multi-year deals. But the margins will take the plunge, and so will the valuations—the market’s price in everything. The correction in valuations will continue as long as the macro situations do not change.

How will it be a turning point for India?

In the event of a recession, the survey implies that CIOs who use Indian IT giants Tata Consultancy Services (TCS), Infosys, and Wipro as vendors will reduce their IT expenditure.

Profitability may come under challenge for the remainder of the year. It is owing to both a slowdown in the West and how the Indian business is structured. 

Outsourcing is attractive, but without physical postings at client locations and dollar compensation, the individuals it hires will leave. 

With the pandemic at its fag end, travel and visa charges are soaring. US companies will use the rupee’s near-7 per cent decline this year as a justification not to raise the dollar price of contracts. But Indian IT companies will seek to get paid more. The exchange-rate advantage will, however, be inadequate to compensate for increased rupee expenses.

A twist in the story? A silver lining, perhaps.

Macquarie Capital views Tier 1 India as an appealing market and has upgraded all Indian IT firms in its universe to outperform.

According to a leading analyst, Indian IT has a strong foothold. Key strategic partnerships of the Indian IT companies are not expected to be much damaged by the tiny cuts in IT spending. Though, the smaller companies will bear the burns.

Some brokerages and analysts believe that during the COVID-19 epidemic, Indian IT businesses performed solidly. Those experiencing sales and margin problems are unlikely to reduce technology spending. They may, however, minimise travel expenses, restrict the number of extensions granted to highly experimental projects, and are most likely to lower budgets by 1%.

According to a former investment consultant, Nithin Menon, offshore operations will increase in the event of a recession. Global technology corporations will stop ‘wasteful’ spending and focus on their core services, which typically leads to an increase in outsourcing as a cost-cutting solution. In other words, the Indian IT industry stands to benefit.

Conclusion

Furthermore, Indian IT firms’ clientele and key partners are not usual IT startups. Most Indian IT firms provide legacy businesses with banking, automobiles, and real estate services. Despite the recession, such enterprises would continue hiring Indian IT services.