After years of astronomical growth, the question of how long the Indian outsourcing model can continue its sustained rise is becoming more pressing.

A recent Datamonitor report shows flat year-on-year contract volumes in the country during the third quarter, while the total value of deals fell by 32 per cent.

In the third quarter of last year, Indian firms signed contracts valued at $41.9bn (£24.5bn), while in the corresponding period this year they managed just $28.5bn (£16.7bn). The average value has also dropped from $95.7m (£56m) to $66m (£38.6m).

This is in part because many of the most obvious outsourcing candidates – such as the financial services industry with its high volumes of data processing – have already shifted much of their work offshore.

In response, Indian firms are increasingly pitching for more complex contracts, beyond call centre and data processing work. ‘A lot of Indian ICT companies have been moving up the value chain,’ said Gopi Shankar, IT sector head at the UK’s High Commission in Bangalore.

He cites firms such as Reuters, which conducts much of its financial market analysis from Bangalore, and says others are starting to use India as a base for research and development (R&D) operations.

Another metric that highlights this shift is the rapid growth in patent applications, currently growing by 25 per cent each year, according to Shankar.

And outsourcing providers themselves are confident of much growth to come.
Subramanian Ramadorai, chief executive of Tata Consulting Services (TCS) and chairman of Indian IT trade body Nasscom, says Indian software and services firms are starting to enter the world’s ‘premier league’ of IT companies.

‘They are recognised for their strength. They are starting to become a full services play. R&D looks to be the next big paradigm for India,’ he said.

Phiroz Vandrevala, executive vice president at TCS, adds: ‘A lot of people look at India as a cost arbitrage opportunity. People come in on the basis of cost, then start to look at transformation.’

TCS is a giant in the local market: an employer of 45,000 people and the first Indian IT firm to break through the $2bn (£1.2bn) revenue barrier – it says it is well on track to hit $3bn (£1.8bn) by next year.

More impressively, the firm is still achieving profit margins of 27 per cent.

But as the market changes, its own growth strategy is starting to evolve. Over the past year, it has acquired companies in Chile, Australia and other regions around the globe to bolster its presence.

‘Growth from our company will increasingly be through inorganic growth, as we expand into new markets,’ said Ramadorai. ‘M&A-led growth is going to be part of the equation.’

Meanwhile, companies from outside India, such as Anglo-Dutch services firm LogicaCMG, are expanding operations in cities such as Bangalore to better service international clients.

‘This is global production. The need to tap into talent over the world is clear,’ said Rahul Patwardhan, chief executive of LogicaCMG’s Global Delivery Centre in Bangalore. He believes the market is far from reaching maturity or saturation.

Other evidence of the region’s rapid growth comes from BA, which recently launched a direct route into Bangalore in response to rising demand.

The airline has synchronised flights from California and Bangalore to ensure it can ‘link up the US’s Silicon Valley with India’s Silicon Valley’, says chief information officer Paul Coby.

And demand for the service is strong, with all of its five weekly services regularly selling out.

Nevertheless, local service providers have a rising number of issues to contend with, such as wage inflation, the threat of global rivals, infrastructure concerns and worries over data protection.

Local wages are rising at about 14 per cent a year, while staff attrition rates average about 15 per cent, according to the UK’s High Commission.

‘The cost advantages in India are not going as yet, but they are definitely being eroded,’ says Shankar.

And on a technology level, data protection, security and privacy have become key concerns across the industry.

‘They are the core issues that could derail our growth strategy,’ admits TCS’s Vandrevala. ‘It’s an issue we take very seriously. It’s absolutely critical.’

In response, India is creating a database of all people employed in IT in the country, with work expected to start in January. ‘We want to be able to identify people if and when issues take place,’ said Vandrevala.

While China and other countries are increasingly keen to get in on the offshore outsourcing act, no one can match the number of skilled workers India produces.
Some 400,000 engineering students graduate from its universities every year, while China produces just 50,000. While India’s figure continues to grow, China’s is in a slow decline.

‘Attracting talent, in terms of numbers, isn’t a challenge,’ said Patwardhan. ‘But getting specialist, experienced talent is.’

During a recent recruitment drive, LogicaCMG received 17,466 applications for positions in its Bangalore centre. It conducted 14,495 interviews and technical evaluations before making just 397 offers. And these are only one month’s figures.
Patwardhan argues that while wage inflation is a real factor, it is largely offset by the economies of scale achieved as firms increase their activities and related staff count.

Meanwhile, falling telecoms, tariff and IT costs also help keep overall costs in check. ‘We’re confident that over the next two to three years we can hold on to cost margins,’ said TCS’s Ramadorai.

The market for Indian software firms may be changing, but it is clear that a lot of scope for growth still remains.