IT firms with higher fixed-price contracts may see lower impact on top line

HCL Tech, Wipro have more than 60% of revenue coming from such contracts, while Infosys has more than 50% share

Indian IT services firms with a higher percentage of fixed-price contracts are likely to see less contraction in revenue, over the next few quarters.
 

Analysts say the impact of furloughs and project ramp-downs will not have much of an adverse impact on IT firms with higher fixed-price contracts, as against those drawing more revenue from time and material (T&M) contracts.
 

Clients have increasingly started asking IT companies for deep price discounts in the backdrop of an industry-wide slowdown. An analysis of the top four IT services firms showed that HCL Technologies (HCL) drew 68 per cent of its revenue from fixed-price contracts according to the last reported data — the highest among its peer group, while for Wipro it was around 60 per cent.

For the latter, the share of revenue from fixed-price contracts stood at 53 per cent at the end of FY19. Tata Consultancy Services (TCS) discontinued the practice of giving this break-up four years ago, but market analysts peg the figure at 50 per cent.
 

Among mid-tier firms, Hexaware Technologies derives above half its revenues from fixed-price contracts, while for Bengaluru-headquartered Mindtree it stands at 58 per cent.
 

“When a firm has a higher share of fixed-price contracts, the impact of furloughs being seen due to the Covid-caused crisis will be less, given these contracts provide revenue assurance. Even the profile of customers in fixed-price contracts is better,” said Parikh Jain, founder of Parikh Consulting.

Further, unlike T&M — in which clients are billed based on the number of hours spent by each employee — fixed-price contracts give service providers the flexibility to decide the number of people to be deployed. This also aids the profitability of the company.

In the March quarter, managements of IT services firms also said that higher fixed-price contracts provided them with a leverage in protecting operating margin over the medium term.
 

“What has changed from the global financial crisis is that a large portion of our business has now become fixed-price. We will, therefore, immediately have to take certain reduction in terms of both top line as well as profitability. However, when you are able to lock in a business on a fixed-price basis — say for a 3-year or 4-year timeframe — you are better able to control your automation plans, (employee) pyramid and onsite/offshore mix. This helps in getting some of those productivity benefits back into margin at a later point in time,” Jatin Dalal, CFO of Wipro, had said in an analyst call last month.

 However, the Infosys management has dismissed some concerns relating to T&M contracts, saying clients are more focused on business continuity at present.
 

“It is early days. I do not see any distinction between T&M or fixed-price. Initially, clients were worried about ensuring business continuity and safety of their own employees. T&M, fixed-price, or managed service (contract) — these are more of commercial terms,” said U B Pravin Rao, chief operating officer of Infosys.