Contract employee costs surge for IT services cost

BENGALURU: As demand for IT services accelerated during the pandemic, Indian IT firms went shopping for subcontractors globally to bridge digital skill gaps. That has led to a surge in subcontractor costs for all major IT services firms.

Subcontractors are those hired by IT firms through staffing agencies. It’s a contract-to-hire service where staffing firms vet prospective contractors, process their payroll, offer insurance coverage, and other benefits. The staffing agencies also provide performance guarantees.

Subcontracting expenses for TCS rose 34.2% to Rs 16,975 crore in FY22. For Infosys, it rose by as much as 77.9% to 12,607 crores during the same period. Wipro’s went up by 30% to Rs 10,858 crore, and HCL’s by 23%. Subcontractors can be onboarded in shorter timeframes, compared to regular hires, because staffing agencies have a ready pool of talent. Subcontractors work alongside employees to ramp up on projects. Ramkumar Ramamoorthy, partner in tech advisory firm Catalincs, says subcontractors are used to bridge skill gaps, meet unusually high demand or strengthen a rapidly depleting talent bench. “Given the velocity of digital acceleration and the inability to move digital talent around because of the pandemic, subcontractors and attendant costs have gone up for all three reasons, While this may impact margins in the short-run, I see this as a big positive for IT service providers,” he says.

It demonstrates, he says, that IT service providers are nimble enough to meet heightened demand, willing to invest to gain market share, and strengthen stickness of client relationships. “Further, with bloated attrition, many firms are adopting a try-and-buy approach, whereby they first hire on a contractual basis and convert them as employees after some time,” he says.

Rod Bourgeois, managing partner at DeepDive Equity Research, says in the two years prior to Covid, the top Indian IT firms experienced some margin pressure from heightened subcontractor expenses. From March 2018 to March 2020 (just prior to the Covid crisis), subcontractor costs as a percentage of revenue increased from 6.1% to 7.3% at Infosys and from 7.8% at TCS. These pre-Covid subcontractor costs increase, he says, were in large part driven by the need for access to experienced onsite skills. But in more recent quarters, he says, Indian IT firms have experienced a post-Covid-crisis surge in demand for IT services while also wrestling with elevated staff attrition, which in turn has caused further escalation in their reliance on subcontractors to fill this demand. “As of March 2022, subcontractor costs as a percentage of revenue reached 11.1% at Infosys and 9.2% at TCS,” he says. But subcontracting is relatively more expensive. So, Bourgeois says, Indian IT firms are now making concerted efforts to curtail their subcontractor usage by more aggressive hiring of young talent.

Phil Fersht, CEO of HfS Research, says the rapid increase in new business is driving IT service providers to look outside of their companies for specific skills. “They do not have the time to train up freshers in areas like hybrid cloud and cybersecurity. In addition, there is unprecedented attrition, making it harder to rely on their more experienced staff, most of whom are under intense pressure to deliver. This is a long-term issue that is only going to get more expensive, and more challenging to IT service providers as they continue to fight the surge in client demand and the impact of staff turnover,” he says.

Source: GWFM News