A slowdown can mean different things to different companies.
There are companies that take a step back, or two. There are companies that press pause. But if there’s one thing that runs through the four companies featured on this page, it’s this: they became bolder in the slowdown, demonstrated greater urgency to move forward, and made calculated choices that entailed a risk they felt confident of managing.
HCL pushed ahead with a pricey buy, one that Infosys declined, and added more range to its IT business. Maruti drove down patchwork roads to find a whole new market, one whose bottom it does not know yet. Staring at a currency crisis, and needing to shore up its bottom line, Firstsource dared to refuse business for a good reason. Britannia made many small decisions that added up to a substantial whole.
During this period of economic sluggishness, from 2011-12 to 2013-14, all four companies saw their revenues grow faster than costs -and their operating margin expand. The economy is looking up, but the levers they pulled remain just as relevant as they did then.
When 46-year-old Anant Gupta took over as CEO of HCL TechnologiesBSE 2.33 % from Vineet Nayar, he inherited a high-flying company. Eighteen months on, Gupta has built on that momentum. Operating margin has improved from 22.1per cent since he took over in January 2013 to 26.3 per cent for the year ended June 2014.
Together, Gupta and Nayar have presided over a margin gain of 9 percentage points since 2008. This is a period that saw IT industry association Nasscom lower annual growth projections for the IT services business from around 16per centto 12 per cent.
In this period, Indian leader TCSBSE 1.65 % improved this metric from 25.8per centto 30.7per cent, while the number two player, Infosys, fell from 33.2per centto 27.2per cent. HCL is narrowing the gap, leveraging its improving capabilities and bigger customers.
Back in 2010, HCL had only one $100-million customer; now it has six. In the same period, its count of $50-million clients has gone up from six to 15. “Old contracts started maturing (HCL was able to bag more business from a client) and that led to higher profitability,” says Dipen Shah, senior vice-president & IT analyst, Kotak Securities.
At the worst of the 2008 slowdown, HCL paid $658 million to beat Infosys and buy Axon, a UK-based business software consulting major. This buyout helped HCL grow its business consulting practice (services that use IT for specific business outcomes). Says Anant Gupta: “Strong focus on IT transformation deals over the past several years helped the company grow faster than the competition as growth in traditional application development and maintenance contracts withered due to pressure on client IT budgets.”
Even as HCL entered new domains with Axon, it kept an eye on its cash cow: the infrastructure management services (IMS) business. As part of this, HCL provides computer support, software upgrades, anti-virus protection, and manages data centres and networks. For Freescale Semiconductor, for example, it does this in 20 countries. IMS has grown from a $196-million business in 2007 to a powerful $1 billion revenue engine now, accounting for 30per centof HCL’s revenues and growing at the same rate.
An increase in sales and marketing spends, from $386 million in 2010 to $662 million in 2012, helped HCL win deals in the tough period. In 2011, HCL replaced IBM as British pharma major AstraZeneca’s outsourcing partner for data centre services in 60 locations globally. As the partnership matured, HCL was able to bag additional services. HCL is also using its employees more. Employee utilisation has averaged 84.5per centin the last four quarters, against 75per centthree years ago. “Productivity improvements helped margins expand,” says Sarabjit Kour Nangra, VP research, Angel Broking.
HCL tackled its lagging BPO business as well. It reduced voice work from a peak of 45per centin 2009 to below 30per centnow; it exited low-end services like customer care. After three years of losses, the BPO business, which accounts for around 8per centof the company’s $5 billion revenues, turned profitable in 2012-13.
To sustain performance, HCL will have to accelerate its lagging software services business, which accounts for less than 5per centof revenues. “Sustaining margins will be a challenge as there’s not much room to extract more juice from initiatives like employee utilisation,” says Shah. Adds Ankita Somani, IT analyst at MSFL, a brokerage: “While HCL has done well in the past, there’s too much dependence on IMS. It will need to broadbase its growth.
Two years ago, on a May morning, the top management of back-office services provider Firstsource SolutionsBSE 1.05 % watched anxiously as the rupee touched a new low against the dollar. In 60 days, the rupee had lost Rs 4. With outstanding convertible bonds of $237 million (about Rs 1,400 crore), every Re 1 fall against the dollar meant an additional debt burden of $3 million for the company.
The story is familiar to many companies that issued convertible bonds before the financial meltdown, but Firstsource is among the few that managed to avert a crisis. Its stock has appreciated over 300per cent since. Firstsource had inherent strengths.
It was a Rs 2,255 crore services company with good clients and a sound delivery record, and was generating cash every quarter. These reasons prompted Sanjiv Goenka to pump in Rs 275 crore in December 2012, helping bail out the company while giving him a controlling stake in it. He didn’t stop there. “The company had a lot of low-hanging fruit, which is now manifesting itself in operations and results,” says Goenka, who took over as chairman of Firstsource. The company’s three-pronged strategy was to reduce costs, lower interest burden and exit unviable contracts.
Goenka was clear that wherever contracts could not be renegotiated at better rates, Firstsource would move out. Simultaneously, it tried to grow business with top customers, where profit margins were higher.
The outcome of these efforts is visible in its 2013-14 results. Overall revenues from India have dropped, but revenues from top customers, especially its largest customer, has increased. “Our focus is on bottom line growth, and in that sense, the top line is incidental,” says Goenka. In 2013-14, while revenue grew 10per cent, net profit grew 31 per cent.
Net profit growth was also helped by lower interest costs. The company has been repaying $11.25 million every quarter, and has thus far repaid $45 million of long-term debt. If it continues at the same pace, it will be debt-free by end of 2015-16, says Abhishek Shindadkar, analyst with ICICI Direct. “The biggest kicker continues to be the repayment of debt — it sends out the correct signal in terms of the company’s health,” he adds.
As Firstsource focused on profitability, it also took a hard look at costs. Between 2006-07 and 2008-09, the company spent about Rs100 crore to set up 14 delivery centres, says an analyst, who requested not to be named.
Under Goenka, Firstsource undertook a ‘facilities rationalisation exercise’, consolidating centres and evaluating various parameters such as space utilisation. This helped it save about $10 million. In India, the company shut down two centres as it exited unprofitable domestic contracts. In 2013-14, it posted higher profits with 4,200 fewer people on its rolls.
Goenka sees margins improving and costs dropping further. Firstsource also intends to make its first investment in an analytics firm soon. Additionally, it is investing in solutions in commoditised segments like customer management and pursuing opportunities in healthcare more actively.
MedAssist, which Firstsource acquired in 2007 in the second largest deal in Indian outsourcing, had high costs because most of its people were located in the US. While this was a drag, the opportunity was potentially huge because of subsequent healthcare reforms by the Barack Obama administration.
The company decided to retain delivery staff in the US and centralise corporate functions such as human resources in India. It also integrated its payer (insurers) and provider (healthcare providers such as hospitals) businesses for greater synergy. Firstsource still has some distance to go before it catches up with peers like WNS Global and EXL Services, but it’s moving in that direction.
When it wasn’t the state of the industry outside, it was the company within. That sums up the last three years for India’s number one carmaker by market share.
Besides an economy in which urban India lost purchasing power and appetite to buy cars, the Rs 43,700 crore auto major has also had to deal with worker strife, plant shutdowns and shareholder dissent. Yet, when the dust lifted, Maruti Suzuki ended this three-year period better than where it started from, with operating margin rising from 10.1 per cent in 2010-11 to 12 per cent in 2013-14.
There was one big financial and business reengineering exercise. Maruti merged Suzuki Powertrain, a sister company supplying diesel engines to it, with itself in a share transaction. Post-merger, the profit of the engine division is now part of the combined entity.
“The biggest contributor in margin expansion in fiscal 2014 was the amalgamation of Suzuki Powertrain, which helped by 240 basis points (2.4 percentage points),” says Mahantesh Sabarad, deputy head research of SBICap Securities.
That merger was a one-time exercise. There were two other levers that Maruti pulled during this period, the benefits of which will accrue for years to come. The first was rural sales. From 4per cent of total vehicle sales in 2007-08, rural markets — defined by Maruti as places with less than 10,000 people — now accounts for over 30per cent of total vehicle sales, as the company targeted villages with purchasing power and pockets of farming prosperity.
Other car companies too fanned out, but none as aggressively as Maruti. Company officials say Maruti reached 94,000 of India’s 640,000 villages in 2013-14, and plans to double this in 2014-15. The strategy paid off as it closed the last financial year with 42.1per cent share in the overall car market (against 38per cent in 2010-11).
Its share in vans and utility vehicles — rural mainstays — was 69per cent and 12per cent, respectively. And it’s hopeful of making more inroads. “We don’t know what that number (overall rural sales) will be in the future,” Mayank Pareek, chief operating officer (marketing and sales) of Maruti, told ET in October 2013. “I think we have just scratched the surface.”
In its factories, it scratched more than the surface to squeeze out cost benefits. The company actively solicited suggestions from its employees on improving processes and reducing costs. “We have managed to save more than `350 crore through suggestions,” says Ajay Seth, CFO of Maruti.
For example, the trolleys that carried instrument panels from the JV’s factory to the Maruti assembly line were covered with polythene sheets to protect them against dust and rain. The polythene would be discarded after a few uses. An employee suggested a permanent cover on the trolleys.
This helped eliminate the polythene scrap. It also helped increase trolley capacity from 12 pieces to 15, thus reducing the number of trips. The company estimated its savings at about Rs30 lakh. Overall, the stress was on cost saving. “During the slowdown, we also saw to it that our expenses were based on business needs and not wasteful expenditure,” adds Seth.
In an environment where the rupee was weakening against other currencies, Maruti reduced its reliance on import content: from 27per cent of net sales in 2008-09 to 16per cent in 2013-14. The rupee is stronger now. And the share price of Maruti, even as it embarks on a difficult negotiation with shareholders over the ownership of a new plant, is up 122 per cent in the last two years.
Raw materials, typically, account for 40 per cent -50 per cent of revenues of FMCG companies. For Britannia, that number stood at 65% in 2011-12, a year when the biscuits, bakery and dairy company posted a slim operating margin of 4.8 per cent. Last year, the raw material metric fell to 60.5 per cent and the profit metric rose to 8.9 per cent —its highest in eight years.
This shows how much Britannia depends on the price of wheat and sugar, which account for one-third of its raw material and packaging costs. A year of runaway prices, as 2012 was, can wreck its numbers. A year of price restraint can lift them significantly.
Yet, they need a bigger lift: sector leader Hindustan Unilever earns a margin of 16 per cent, food companies Nestle and GSK Consumer Healthcare 22per cent and 23per cent, respectively.
In their latest report on Britannia, Sanjay Singh and Pratik Biyani of Standard Chartered Equity Research list some reasons that have held back the Rs6,913 crore company: limited innovation, lack of offerings in high-growth segments like mid-priced cookies and cream biscuits, entry into unrelated categories and international forays.
Yet, they have an ‘outperform’ rating on Britannia today. Part of that faith is on a new management, under Varun Berry, who took charge as managing director on April 1. Britannia did not participate in this story as it was in a silent period before its June quarter results.
But there are initiatives happening at several levels that offer a glimpse into the shape of things. Berry has reorganised reporting structures to speed up decision making, sharpen product focus, strengthen the front end and cut costs.
In a recent research report, Aashish Upganlawar of Elara Capital points out that Britannia has reduced the number of stock keeping units (SKUs) — essentially, all a company’s products and their variants — by about 30per cent to 220. “Additionally, in urban India, it has split SKUs between two sales executives serving one retail outlet, compared to one in the past,” he says.
Elsewhere, Britannia is scaling up rural presence, by growing outlets at the rate of 6per cent-7per cent a year, as well as pushing more products through them. It is tightening back-end processes, setting up new factories in Orissa, Bihar and Gujarat to help address demand locally, which leads to better product freshness. In 2012, the company executed about 350 projects to cut costs in manufacturing and supply chain.
In a low-margin business, with limited manoeuvring room in raw material prices, Britannia needs to do more in premium categories. This is a stated objective. The company, living off its old brands, has underinvested in advertising compared to peers.
It has also never spent more than 0.1per cent of its sales on R&D in any of the past 10 years, a period that has seen the company’s market share in biscuits decline from 45per cent to 31per cent and seen it lose market leadership in cream biscuits.
At the lower end, the challenge is managing margins. At the middle and upper end, the challenge is generating growth. How Berry tackles this will determine whether Britannia can build on the margin surge of the last three years.