CHAPTER -4

SOFTWARE INDUSTRY ANALYSIS

4.1. Introduction:

In an increasingly globalised world, significant complexity and uncertainty is getting

attached to the unprecedented economic crisis. The Indian economy has also been
impacted by the recessionary trends, with a slowdown in GDP growth to seven per cent.
The focus and exponential growth in the domestic market has partially offset this fall and
insulated the country, resulting in net overall momentum. The IT-BPO industry in India
has today become a growth engine for the economy, contributing substantially to
increases in the GDP, urban employment and exports, to achieve the vision of a “young
and resilient” India. During the year, the sector maintained its double digit growth rate
and was a net hirer. This growth has been fueled by increasing diversification in the
geographic base and industry verticals, and adaptation in the service offerings portfolio.
While the effects of the economic crisis are expected to linger in the near term future, the
Indian IT-BPO industry has displayed resilience and tenacity in countering the
unpredictable conditions and reiterating the viability of India’s fundamental value
proposition. Consequently, India has retained its leadership position in the global
sourcing market.

The Indian software industry has played a major role in placing India on the international
map. The industry is mainly governed by IT software and facilities for instance System
Integration, Software experiments, Custom Application Development and Maintenance
(CADM), network services and IT Solutions. According to Nasscom's findings Indian IT-
BPO industry expanded by 12% during the Fiscal year 2009 and attained aggregate
returns of US$ 71.6 billion. Out of the derived revenue US$ 59.6 billion was solely
earned by the software and services division. Moreover, the industry witnessed an
increase of around US$ 7 million in FY 2008-09 i.e. US$ 47.3 billion against US$ 40.9
billion accrued in FY 2008-09.
As per NASSCOM, IT exports in business process outsourcing (BPO) services attained
revenues of US$ 48 billion in FY 2008-09 and accounted for more than 77% of the entire
software and services income. Over the years India has been the most favorable
outsourcing hub for firm on a lookout to offshore their IT operations. The factors behind
India being a preferred destination are its reasonably priced labor, favorable business
ambiance and availability of expert workforce.

In the FY 2008-09, the domestic IT sector attained revenues worth US$ 24.3 billion as
compared to US$ 23.1 billion in FY 2007-08, registering a growth of 5.4%. Moreover,
the increasing demand for IT services and goods by India Inc has strengthened the
expansion of the domestic market with agreements worth rising up extraordinarily to US$
100 million. By the FY 2012, the domestic sector is estimated to expand to US$ 1.7
billion against the existing from US$ 1 billion.

4.2. Indian software industry:

Information technology (IT) is defined as the design, development, implementation and

management of computer-based information systems, particularly software applications
and computer hardware. Today, it has grown to cover most aspects of computing and
technology. The reason why it has catapulted in importance is due to the improving
accessibility, awareness and utility of technology. It is a common fact that a country’s IT
potential is paramount for its march towards global competitiveness, healthy GDP and
defense capabilities.

IT professionals perform a variety of duties ranging from data management, networking,

engineering computer hardware, database and software design, to the management and
administration of entire systems. With the already high penetration of conventional
personal computer and network technology, coupled with the growing convergence of
information, communication and entertainment, the industry is now keenly focused on
the integration with other technologies such as mobile phones, automobiles and
televisions etc, thereby increasing the demand for such jobs. The largest firms globally
include IBM, HP, Dell and Microsoft.
The India Software Industry has brought about a tremendous success for the emerging
economy. The software industry is the main component of the Information technology in
India. India's pool of young aged manpower is the key behind this success story.
Presently there are more than 500 software firms in the country which shows the
monumental advancement that the India Software Industry has experienced.

The Indian Software Industry has grown from a mere US $ 150 million in 1991-92 to a
staggering US $ 5.7 billion in 1999-2000. No other Indian industry has performed so well
against the global competition. According to statistics, India's software exports reached
total revenues of Rs. 46100 crores. The total share of India's exports in the global market
rose form 4.9 per cent in 1997 to 20.4 percent in 2002-03.

It is expected that the India Software Industry will generate a total employment of around
four million people, which accounts for 7 per cent of India's total GDP, in the year 2008.
Today, the Software Industry in India exports software and services to nearly 95
countries around the world. The share of North America (U.S. & Canada) in India's
software exports is about 61 per cent. In 1999-2000, more than one third of Fortune 500
companies outsourced their software requirements to India.

The Government has also played a vital role in the development of the India Software
Industry. In 1986, the Indian government announced a new software policy which was
designed to serve as a catalyst for the software industry. This was followed in 1988 with
the World Market Policy and the establishment of the Software Technology Parks of
India (STP) scheme. In addition, to attract foreign direct investment, the Indian
Government permitted foreign equity of up to 100 percent and duty free import on all
inputs and products.

The software industry being the main component of the IT Industry in India has also
helped the IT sector in India to grow at a good pace. As per the proceedings taking place
in the software industry the future of the India Software Industry looks promising.
4.3. Indian Software industry Market

India Software industry is the only industry in the country that has outperformed all
others in the battle against the global competition. In fact, Indian IT industry went
through a dream run to grow from a meagre US$ 150 million in 1991-92 to an astounding
US$ 5.7 billion in 1999-2000. Taking its advancement further ahead, the Indian IT
industry has taken itself to a new height to be at par with the global leaders in the current
days.

The term 'Information Technology' (IT), as defined by the Information Technology

Association of America (ITAA) is the "study, design, development, implementation,
support or management of computer-based information systems, particularly software
applications and computer hardware." India IT market consists of all the companies that
use computer and computer software to convert, store, protect, process, transmit and
retrieve information or data.

4.3.1. Inside the Industry

India IT market emerges across four broad sectors:

• IT Services
• Software Products
• IT Enabled Services (ITeS)
• E-business

Indian Software companies encompass various aspects of computing and technology

covering almost every segment of human activities. The duties performed by the
professionals in IT companies include:

• Software Development
• Management Information System
• Data Management
• Computer Networking
 • Data Security

4.3.2. Market size:

The revenue of Indian software industry comes from domestic market and from export.
Last few years data shows following result of its market share.

Revenue source (In US billion)

Domest Expo
Year ic rt
2004 3.8 12.9
2005 4.8 17.7
2006 6.7 23.6
2007 8.2 31.3
2008 11.7 40.3

More than 80% of revenues come from Exports and only 20% from domestic business.

4.4. Growth of Indian Software industry:

Since 1991, the Indian software market has seen a substantial growth rate as the software
exports from the country have consistently been over 50% during this period. The total
revenues of software exports reached at Rs. 46100 crores. The total exports also soared
up from 4.9% in 1997 to 20.4% in 2002-03.

Software exports in India have played a major role in the economic development of the
country. The software and services revenue of the country also soared up from US$ 22
billons in 2004-05 to US$ 28.5 billions in 2005-06 with a growth rate of 32%.
Not only in the software exports, India IT market has also considerably grown in the
domestic sector as well. It saw a growth rate of 24% in the domestic market.
Following chart showcases the performance of Indian IT market over the years. The
figures are in US$ million:

Year 1995-96 1996-97 1997-98 1998-99 1999-2000 2000-01

Domestic Software Market 490 670 920 1250 1700 2450
Software Exports 734 1085 1750 2650 4000 6300
Indian Software Industry 1224 1755 2670 3900 5700 8750

Following chart describes the progress rate of Indian software market (Figures are in US$
billion):

Year 2003-04 2004-05 2005-06

IT Software and Service Export 9.2 12.0 15.2
ITes / BOP Exports 3.6 5.2 7.3
Domestic Market 3.9 4.8 6.0
Total 16.7 22.0 28.5

The NASSCOM - McKinsey Report

A research work was undertaken by The NASSCOM - McKinsey to learn about the
future of Indian IT market. The key findings of the report are:
 • IT export of the country will account for about 35% of the total export.
• Software and Services will contribute 7.5% of the nation's overall GDP growth.
• This industry will draw around US$ 4-5 billion Foreign Direct Investment.
• Around 2.2 million jobs will be generated.

4.4.1 Performance

In India, it is important to make the distinction between IT and ITES (IT enabled
services). The latter refers to services delivered over telecom networks/ Internet to a
range of external business areas (Colloquially referred to as KPO and BPO) and is treated
elsewhere on this website (see ITES industry overview). Hence, we shall focus on the IT
industry here by limiting the discussion to electronics hardware manufacturing and
software development and services.

Despite the unprecedented global economic downturn, the Indian IT industry has
weathered the storm well, and will achieve sustainable growth going forward. India is
expected to witness an average 8% salary increase in 2010 and ~50% of companies have
strong hiring plans, according to a survey by global HR consultancy Mercer, giving yet
another indication of the high confidence levels among the country’s corporate houses
after the economy staged a faster-than-expected recovery from the slowdown.

While the larger players continue to lead growth, gradually increasing their share in the
industry aggregate, several high-performing small and medium enterprises have also
stood out.

4.4.2 Growth Potential

The strong demand for electronic hardware and software in India has been fuelled by a
variety of drivers including the high growth rate of the economy, emergence of a vast
domestic market catering to the new generation of young consumers, a thriving
middleclass populace with increasing disposable incomes and a relatively low-cost work
force having advanced technical skills.

Indeed, the Government has also identified growth of this sector as a thrust area as there
remains great expectation for significant growth given the fairly low levels of penetration
of technology among the 1.1 billion population; There were only 60 million Internet users
in 2009, 7 million DVD players and personal computers were sold in 2008-09, and 11
million new mobile subscribers were added every month in the same period. In this
scenario there is now a big opportunity to step up the production to gain higher global
share besides meeting the domestic demands.

The Indian software sector has also built a strong reputation for its high standards of
software development ability, service quality and information security in the foreign
market- which has been acknowledged globally and has helped enhance buyer
confidence. The industry continues its drive to set global benchmarks in quality and
information security through a combination of provider and industry-level initiatives and
strengthening the overall frameworks, creating greater awareness and facilitating wider
adoption of standards and best practices.

4.4.3 Future Prospects

The industry is likely to continue growing from strength to strength, as local players
incorporate best in class practices from global counterparts whilst retaining their edge in
terms of lower cost of labor and focused governmental investments.

New graduates with degrees in related fields such as electrical engineering and computer
science can hope to achieve significant professional growth and a healthy remuneration
from companies looking to hire the best talent available, given the high proportion who
leave to pursue jobs in this sector overseas.

The Indian software sector persists to be one of the flourishing sectors of Indian financial
system indicating a speedy expansion in the coming years. As per NASSCOM, the Indian
software exports are anticipated to attain US$ 175 billion by 2020 out of which the
domestic sector will account for US$ 50 billion in earnings.

In total the export and domestic software sector are expected to attain profits amounting
to US$ 225 billion along with new prospects from BRIC nations and Japan for its
outsourcing operations.

• Despite the unprecedented economic downturn the industry will witness

sustainable growth
• The global technology related spending is expected to grow from 2010 onwards
led by growth in outsourcing adoption.
• Greater focus on cost and operational efficiencies in the recessionary environment
is expected to enhance global sourcing
• India Inc would remain focused on tactical measures to achieve cost savings and
greater productivity
• Services and software segments are estimated to cross USD 1.2 trillion by 2012.
This is more than the 5.2 per cent growth expected in the total IT spending
• The huge potential for global sourcing is further highlighted by an addressable
market size of USD 500 billion in 2008, which is more than five times bigger than
the current market
• The industry will continue to diversify in terms of geographies, verticals and
service lines
• SMBs are expected to emerge as a significant opportunity due to lower IT
adoption currently
• Lack of working age population in the developed economies and a significant
long term cost arbitrage indicates India’s sustained cost competitiveness
• Service providers are expected to enhance focus to domestic market to de-risk
business and tap into the local growth opportunities

4.5. Contribution of IT industry to Indian GDP:

The immense contribution of the industry can be judged from the impact it has had on the
country’s GDP, foreign exchange earnings, contribution to the exchequer and
employment generation. This industry has also been instrumental in fuelling the growth
of other sectors by employee spending and by attracting investments.

Increasing contribution to country’s GDP

The ratio of an industry’s output to the GDP of a country is an important indicator of the
impact of that industry on the country’s economy. The high growth rate of IT-BPO
industry has helped the industry in steadily increasing its contribution to India’s GDP by
five times over FY 1998-2009 to reach 6.0 per cent.

The industry has also played an important role in the growth of the Indian services sector.
Between FY2002 and FY2009, the contribution of the IT-BPO industry to the Services
segment of GDP witnessed maximum incremental growth of 10 per cent, where
contribution by other segments either declined or remained almost flat.

The software industry in India symbolizes India's strength in the knowledge based
economy. It has witnessed a phenomenal growth in last decade. The Compounded
Annual Growth Rate (CAGR) is 42.3%. According to NASSCOM's projection, the
software industries contribution is expected to grow to 7% by 2008 which started with
0.59% in 1994-95 and reached to 2.87% by 2001-02. Total IT-BPO industry to reach
USD 71.7 billion accounting for 5.8% of India’s GDP; software and services revenues
aggregated to about USD 60 billion. As a proportion of national GDP, the sector revenues
have grown from 1.2 per cent in FY1998 to an estimated 6.4 per cent in FY 2011.

% of Indian
Year GDP
2004 3.6
2005 4.1
2006 4.7
2007 5.2
2008 5.2

4.6. Govt. of India & IT Sector – Policies & Privileges

Policies:

Setting up IT software and services operations in India are governed by certain rules and
regulations. A brief list of guidelines for individuals/ companies interested in setting up
such operations is given below:
As an Indian Company

A foreign company can commence operations in India through incorporation of a

company under the provisions of Co Act. Foreign equity in such Indian companies can be
up to 100 percent depending upon the business plan of the foreign investor, prevailing
foreign investment policies of the Government and receipt of requisite approvals. An
Indian citizen can set up IT software and services operations in India in the following
manner:

• as an Individual/ Proprietor; or

• as a Partnership Firm/ Trust; or

• as a Company registered under the Companies Act, 1956 ("Co Act").

No prior permission of Government of India is required to set up IT/ software units in

India.

Setting up of operations in India by Overseas Company/ Non-Resident

A foreign company or a non-resident planning to set up business operations in India can

do so in the following manner:

• As a foreign company through a Liaison Office/ Representative Office, Project Office

or a Branch Office; or

• As an Indian company through a Joint Venture or a Wholly Owned Subsidiary.

• A foreign company is one that has been incorporated outside India and conducts
business in India. These companies are required to comply with the provisions of Co Act.

Joint Venture with an Indian Partner

Foreign companies can set up their operations in India by forming strategic alliances with
Indian partners. Foreign investments are approved through two routes as under:
Automatic Route: Approvals for foreign equity up to 26 percent, 50 percent, 51 percent,
74 percent and 100 percent are given on an automatic basis subject to fulfillment of
prescribed parameters in certain industries as specified by the Government. RBI accords
automatic approval to all such cases. Government Approval: Approval in all other cases
where the proposed foreign equity exceeds 26 percent, 50 percent, 51 percent or 74
percent in the specifiedindustries or if the industry is not in the specified list, it requires
prior specific approval from Foreign Investment Promotion Board ("FIPB").

Privileges:

To encourage units in this sector, Government of India has announced many schemes:

Export Promotion Capital Goods ("EPCG") Scheme: This scheme allows import of
capital goods at a concessional customs duty rate of 5 percent, where the importer as a
condition is required to achieve a specified export obligation. The export obligation and
the period within which the same is required to be achieved vary based on the nature of
the unit and value of imported capital goods.

Special Economic Zones ("SEZs"): SEZs are designated areas dedicated towards
growth of exports, having full flexibility of operations that are permitted to import duty
free capital goods and raw material. The movement of goods to and fro between ports and
SEZ are unrestricted. The units in SEZ have to export the entire production subject to
permitted sales in the DTA. Currently, there are 11 operational SEZs in India which
include the Santacruz Electronic Export Promotion Zone, Kandla Export Promotion
Zone, Vizag Export Promotion Zone and Cochin Export Promotion Zones which have
been converted to SEZs. Fiscal incentives available to SEZ units have been discussed
ahead in detail. The SEZ policy is welcome, very welcome. They need islands of non-
interference. The devil is in the details as usual. The centre has formally approved 212
SEZ units with an in principle approval to 152 more. I don’t buy the usual rhetoric that
poor farmers will be affected and the like. First of all, large landowners are not
necessarily poor. Every day, dozens of large landowners are turning into instant
millionaires by turning in their lands to real estate / IT giants. The government must
assure prevailing rates to them and/or issue bonds tied to the future development of the
area. It must also take into account small and marginal landowners interests and device a
new scheme for them which tie them monetarily into future development in that area. The
issue must stop there. The SEZs provide a 15 year tax holiday to the IT companies after
2009. The details are 100% exempti0n for the first 5, 50% for the next 5, and variable for
another 5 based on reinvestment in SEZs.

100 Percent Export Oriented Unit ("EOU"): In terms of the benefits available, the
EOU scheme, on a general basis, is similar to SEZ scheme. But in this scheme, there is
no need to be physically located in the designated area (as in the case of SEZs). This
scheme offers zero import duty on import of all capital goods, special 10 years income
tax rebate (however, such rebate will not be available for Assessment Year 2010-2011
and onwards). The incentives provided to EOUs are generally similar to those provided to
SEZ units, except the exemption from central sales tax on purchases.

Software Technology Park ("STP"): This is a special scheme under the Ministry of
Information Technology, similar to EOU scheme, which is specific for the software
industry. STPs are located at Noida, Navi Mumbai, Pune, Gandhinagar, Hyderabad,
Bangalore, Chennai, Bhubaneshwar, Jaipur, Mohali and Thiruvanathapuram. This
scheme offers zero import duty on import of all capital goods, special 10 years income
tax rebate (however, such rebate will not be available for Assessment Year 2010-2011
and onwards), availability of infrastructure facilities like high-speed data communication
links, etc. The incentives provided to EOUs are generally similar to those provided to
SEZ units, except the exemption from central sales tax on purchases.

STPI (Software Technology Park India) is a scheme that dates back to the early years of
the IT industry. It allowed for a 10-year exemption from Corporate Income Tax (upto
90% of turnover), Sales Tax, Customs Duty, Excise duty. Back in the day, the infant IT
companies could not deal with the astronomical cost of telecommunications, archaic
customs duty rules, and a high rate of taxation. So the initial 10-year tax holiday helped
an infant industry attain critical mass. Even though companies like Infosys are 20 years
old, they are still able to avail of the 10-year tax holiday by setting up new units with
fresh 10-year extensions. For companies outside the STPI, the corporate income tax rate
alone is 36-37% (Corporate Income Tax = 35%, Surcharge = 2.5%, Education Tax =
2%). Sales tax exemption is 10-12% for states and 3-4% for Union Territories (UT). This
is why you don’t find all IT companies in UTs. The contribution of the STPI tax holiday
to

the overall success of the IT story cannot be underestimated. It is rated it as one of the
best initiatives undertaken by the Indian government. The party it set to end in 2009. If all
IT companies come out of the scheme – the Indian government will realize between $3-5
billion dollars (15-25000 cr) in direct taxes alone (this figure is based on projected size of
the IT industry at a 36% tax rate on a $50bn size).

4.6. Market Share/ Competition in market:

Indian IT market is dominated by a few large companies presence of a number of small

and medium companies.

Key Players:

The following are India’s Tier 1 companies in the IT sector:

• Tata Consultancy Services Ltd.

• Wipro Technologies Ltd.

• Infosys Technologies Ltd.

• Satyam Computer Services Ltd.

The other key players include the following:

• IBM
• HCL

• Patni

• Polaris

• Cisco

• KPIT Cummins

• Kanbay

• i-Flex Solutions

• Cognizant

• Sapient

• Mphasis

Global IT players in India:

There are a large number of multi-national IT enterprises operating in India in sectors
such as: Integrated Chip Design, System Software, Communication Software, R&D
Centres, Technology Support Sector, Captive Support Sector, BPO Sector etc reaping the
cost and quality advantages. These multinationals include Siemens, Philips, Intel, Texas
Instruments etc. (Chip Design); Siemens, Motorola, Lucent Technologies, Sony, Nortel
etc. (Communication Software); Microsoft, Oracle, Sun Microsystems, HP, Compaq etc.
(Systems Software); Google, Yahoo etc. (R&D Centres); Axa Business Services, Swiss
Shared Services, Siemens Shared Services etc. (BPO Sector); Accenture, DELL, HSBC,
GE Capital, Fidelity etc. (Captive Support Sector).