Limited risks from Ukraine-Russia crisis to near-term technology spending: Information Services Group (ISG)

17 Mar 2022 , 05:26 PM

ISG advises 500+ corporates globally, and believes the current crisis has a limited direct impact on both, demand and the delivery side of IT spending. Hence, they do not see downside risks to 2022 technology spending forecasts currently. However, the trickledown impact from prolonged inflation, led by higher commodity prices, could dent the trajectory. Supply side could get tighter in the near term, as enterprises look to diversify their exposure away from Eastern Europe. In the longer-term, India would be a beneficiary if the crisis persists going ahead and if India is able to provide the required talent. IIFL Capital Services believes there could be no material downside risks to the strong IT demand trajectory and they remain positive on the sector outlook.

Eastern Europe provides high-end engineering talent, but size of exports relatively small
From a delivery standpoint, Eastern Europe has historically been an important region for access to high-end engineering talent, given its focus on STEM education and software engineering heritage. For example, Ukraine has 50,000+ employees, primarily supporting engineering services, with total exports of US$6 billion (~4% of Ukraine’s GDP). India has ~5 million employees with total exports of nearly US$180 billion (~8% of India’s GDP). Indian IT companies have negligible exposure in Eastern Europe, from a delivery stand point.

Limited risk to near-term demand; trickle-down effect from higher inflation is a cause for concern
Given the limited direct exposure from the region and the strong demand environment, ISG sees limited downside risks to the tech spending forecasts for 2022 currently. In the medium term, the trickle-down effect from higher inflation could impact the global macro, leading to slowdown in tech spending. Certain verticals like Retail (higher logistics costs), Travel & Transportation (delay in business travel), Manufacturing (supply-side constraints) and Financial Services (cyber security) could be negatively impacted. However, unlike previous cycles of uncertain macro, the demand for digital transformation remains fairly strong currently.

Supply-side challenges could persist for longer
The existing supply-side challenges in the technology sector, i.e. lack of talent availability, all-time high attrition rates and high wage inflation, are likely to persist for longer as enterprises look to diversify away from Eastern-European delivery centers. ISG has started seeing a rise in discussions about setting up Global Capability Centers (GCCs) in India, over a couple of weeks. However, ramping up of GCCs in the current supply environment is not an easy task and, hence, service providers could be beneficiaries of the strong demand environment. Part of the increased wage inflation is being passed on to clients in terms of higher pricing for rate-based work like Application development. ISG noted that it saw 4-7% YoY increase in rates for Time & Material work in 4Q2021.

India can potentially be a long-term beneficiary of diversification from Eastern Europe, if the crisis persists for longer
In the near term, it might not be easy to shift work from Eastern Europe to India, given the different profiles of work done in the two geographies, lack of near-shore advantage that Eastern Europe enjoys and language/culture barriers. However, if the crisis were to persist for longer, India could be a key beneficiary of enterprises trying to diversify away from Eastern Europe, given the scale at which it operates and the better supply-side dynamics vs. the rest of the world. However, it would be a slow grind rather than a knee-jerk reaction, as the relationships with enterprises would need to be built over a period of time.