A case for changing outdated paradigms

A case for changing outdated paradigms

The return of Nagavara Ramarao Narayana Murthy or NRN as he is popularly known to Infosys as executive chairman follows the familiar Hollywood trope of the weather-beaten veteran being called out of retirement to fight another battle for what he believes in.

The extent of convincing it took to get NRN back into the corner office is not known, but his return poses the question of whether past reputation can match performance expectations in coming quarters.

Founded on a shoestring budget of Rs 10,000 over 30 years ago, Infosys grew into a Rs 40,000-crore firm after struggling to make headway in the outsourcing market it helped pioneer in the 1980s.

Murthy led the charge without losing his nerves or his ability to inspire the rank and file as Infosys became a exemplar for the rest of the industry to follow. Cut to 2013, and the company is a shadow of what it was just over eight quarters ago. Plagued by falling client demand, high operating costs and pricing pressures, Infosys continues to see flat offshore volume growth coupled with low utilisation levels.

 Slower decision-making and less client stickiness under the present CEO S D Shibulal has seen Infosys shares declining nearly 10 per cent in value over the past three years. In the same period, those of its rival TCS have doubled.

While it is clear that Murthy is no superman to single-handedly pull Infosys out of the rut it finds itself in, the company not surprisingly, believes in him. Those in the industry agree that the rotation model followed by the company for its founders where each had a go at the CEO's chair, was fraught with problems.

They feel that Murthy's return signals the error in making Shibulal the CEO of Infosys on the ground that as a co-founder, he needed his place in the sun. Shibulal was an outstanding COO who excelled in executing laid-down strategy, but he was not really CEO material, analysts say.

 “I would say that Shibulal has taken an unfairly high amount of flak for what he couldn’t do instead of what he achieved for the company. By promoting him to CEO, Infosys lost a great implementer and got a average CEO,” said an IT analyst with a top 5 auditing and consulting firm which has advised IT companies in the past.

Scion to Infoscion

NRN’s son Rohan Murty, who is coming in as executive assistant to his father, holds a 1.38 per cent stake in Infosys. The over-achieving scion and now seemingly reluctant Infoscion, does not have much riding on his shoulders. For the moment, he will go by what Infosys says, assisting his father with data mining and timely information on different business divisions of the company in a bid to speed up Murthy's decision-making. This particular aspect has suffered under the stewardships of Kris Gopalakrishnan and Shibulal.

"It is not blind belief alone and it would be misleading to assume that Murthy's return has to do with an icon complex. Infosys cannot afford to have an obsession with icons at this point of time," said a Infosys employee on condition of anonymity. “The company is looking up to Murthy to help it revamp its strategy. Shibulal and Kris were technically proficient and outstanding operations men, good at executing a well-planned strategy with precision.”

“But Murthy, and Nilekani after him, were outstanding communicators who could effectively convey the nuts and bolts of a strategy to the most junior engineer in the room. Murthy was the only Infosys CEO who loved standing in line at the canteen come lunchtime."

From the start, Murthy was no ordinary CEO of a company he had helped co-found. At the helm of Infosys for over two decades, he pioneered the outsourcing model at cheaper cost arbitrage for US banks, manufacturing companies and utilities who were increasingly getting cost-conscious in the face of high labour and operational costs in the US.

And, his squeaky clean image, acute insights into the industry and earthy intellectuality worked with the clients. The company was keen to avoid even the slightest hint of compromise in the public eye at the operational or strategic level.

At the height of Murthy's over 20-year stint as CEO, Infosys even declined an order from General Electric as it meant that it would compromise on its integrity -- and possibly, margins.

This steady and growing obsession with margins evolved into a pernicketiness which was evident in the company's earnings guidances. These were carefully disguised to appear as modest outlooks, but were based on accurate planning on the outcomes of various project pipelines and advances from closing of new contracts.

Murthy used to reiterate at every quarterly result announcement of the company that it believes in "under-promising and over-delivering", as he cleverly balanced company performance against shareholder expectations to preserve the endearingly conservative image of the company he helped painstakingly construct.

Under NRN, Infosys consistently notched up CAGRs in the 65 per cent range. During his successor Nilekani's tenure it dropped to 45 per cent, and further to around 30 per cent after Kris Gopalakrishnan took over as CEO.

It dropped further to around 20 per cent after Shibulal took over. With its current operating profit margins at 23.6 per cent, Infosys could still have some way to go before it reaches the 18 per cent levels of its nemesis Cognizant. But what is the real deal?
"Well, Cognizant and Infosys are not really comparable. Cognizant is wholly US-based and has not really chased margins at the cost of business. Infosys did just that.

Cognizant has invested hugely in its sales teams, and has also managed to make quality acquisitions which are adding to the company's bottomline. Infosys is still struggling to make Lodestone profit accretive. They have to tighten their decision-making, turnaround and execution styles if they are to take on Cognizant's nimbleness," says Phani Sekhar, a fund manager with Mumbai-based Angel Broking.

Kris, during the latter half of his tenure and later Shibulal, perennially complained about billing pressure, a phrase which NRN never had to employ. But then, NRN’s days were different. Clients are today well aware of the cost benefits of outsourcing work, but not necessarily to Indian companies alone.

Many US clients are nearsourcing BPO and ADM work to Canada, Mexico and other Latin American countries. However, forays by Indian companies into the Latin American market to grab a share of the nearsourcing pie have had mixed results. Infosys has not made much headway either.

As the recession still casts its shadow on US client earnings, many have not renewed contracts or tried to renegotiate billing terms. A US client said that if a client can now save on upfront costs, he will not mind shifting his projects to another vendor. "The problem is: Infosys is aware of this and is not making much headway while negotiating to maintain its fixed prices," he said.

Initially, the charms of Murthy and Nilekani helped Infosys bag big contracts. But the growing number of companies entering the $1-billion league today -- like Hexaware and iGate – takes the competition to a whole new level.

“The upstarts have been going in for outcome-based contracts which even TCS and HCL have taken hugely to. Infosys was slow to adopt this, and has traditionally believed in the ADM (Application Development and Maintenance) model, besides chasing fixed contracts for many years. The problem here is that if something goes wrong while implementing a fixed price contract, the vendor's bottomline is badly hit. NRN must tweak this model," Sekar notes.

NRN’s talk of cost control has not really cut ice with industry watchers. "Why talk about cost control when Infosys still has a utilisation rate of 73.9 per cent, excluding trainees?” Sekar asks.

Margin migraines

Cultural changes are imperative, believes another analyst with a leading advisory. "Infosys has clearly lost its momentum as a market leader. It has to become more client-focussed and market facing," he says. "Their approach to margins and reliance on ADM for a bulk of their revenues should change. The competition has long beaten them at this game. Infosys 3.0 put more emphasis on consulting revenues, but this model is still maturing. I would say the strategy has worked better for Infosys' competitors.

They should ask themselves if their decision and execution abilities need to be corrected proactively without waiting for the market to correct things. That would be infinitely more painful," he said, adding Murthy should concentrate on pushing a platform-based billing strategy and diversify the consulting business.

Poor client addition is a primary cause for margin migraines. For the fourth quarter of fiscal 2013, Infosys added only 56 new clients, a steep decline from the 89 it did in the previous quarter. Moreover, there was no client addition in the marquee $100 million and above revenue range.

While bringing NRN back was essentially an emotional decision, it is necessary at a time when the company needs to demonstrate that it is different. "With his reappointment, decision-making will be fast. To maintain margins and reduce costs at the same time will be the real challenge, especially when Infosys might be forced to increase US hiring to comply with the conditions of the restrictive H1-B visa bill doing the rounds in the US Senate. If the bill is passed, that would be a blow for Infosys and others in its league," say analysts.

NRN will also have to groom the next executive chairman five years down the line when he steps down, something he failed to do in his earlier stints as CEO. How much his return promises for Infosys, or for that matter, India’s international reputation as an IT services giant would rest on this as well.

That is a lot of work to do in five years. There is no reason to think that NRN will fix all of Infosys' problems -- by not spelling out a clear roadmap for the company, he has more or less admitted that. But no matter what direction he takes the company at the end of the "data mining" he is currently immersed in, NRN will not go as quietly as he came back into the house.

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