Renewals to drive growth for IT firms in FY15

The recent bullish commentary by most information technology (IT) firms on growth in FY15 primarily stems from deal renewals. According to the ISG Global Outsourcing Index for 2013, though restructuring rose 22%, new-scope awards continued to fall.

The ISG data also showed last year, smallest annual contract value band continued to dominate---$100-million deals accounted for 20% of the deals, $40-99-million deals 20% and $5-39-million deals accounted for 60%. The total number of contracts in the $5-39-million segment was 1,063, against 68 is the $40-99-million category and 24 in the $100-million segment.

Analyst say in FY15, growth will primarily come from large deal renewals. "While there has been euphoria in many quarters about a strong demand environment for IT services in the developed world, we think overall IT budgets will increase only modestly, given S&P 500 revenue growth remains tepid," Ravi Menon of Centrum said in a report.

Smaller deals will also mean large IT companies will have an upper hand over tier-II IT firms. "During FY06-FY13, barring FY11 onwards, tier-II has mostly underperformed tier-I, in terms of growth, despite the advantages of a much smaller base. There has been virtually no gain by tier-II in market share, even excluding Cognizant from tier-I, and growth rates have been converging. With increasingly sophisticated managed services/fixed price deals and investments in vertical expertise and new areas of spending such as analytics and mobility, we expect tier-I to match or exceed tier-II growth during FY15-FY16," Menon said.

The report adds niche players will fare better in the mid-cap segment. "Niche mid-cap firms (Infotech Enterprises, Persistent Systems and eClerx) have weathered downturns better than traditional mid-cap firms (Mindtree, Hexaware and KPIT) and have always been in line or ahead of large-caps, in terms of growth. We expect this to continue, as they do not suffer from the lack of differentiation that dogs traditional mid-cap players."

It added, "Through the last eight quarters, large-caps have narrowed the growth differential and even outgrown mid-caps. We expect this trend to continue and large-caps to outperform traditional mid-caps in terms of revenue growth over FY15-16 estimated earnings."

For the first half of 2014, the ISG survey predicts global markets to rise five%. It added service providers' responses to the changing sourcing market dynamics would be vital to their success.