Themes > Features

10.09.2007

Dominance and Competition in the Indian IT Sector

Come July and, unfailingly, Dataquest-one of two private agencies that are sources of detailed information on India's IT sector-releases, over consecutive issues, its data on performance of the IT industry for the preceding financial year. Dataquest's information, unlike that of NASSCOM, covers the whole of the IT sector, including hardware, software, software services and IT-enabled services. It also provides detailed information on the top 20 firms in the composite industry plus a limited amount of information on the top 200.

That data suggests that during the years since 1991-92, when the Indian software services industry and, to an extent, the hardware industry was still in its infancy, there has been one striking structural feature characterizing the sector. Over this 17-year period when industry revenues have grown by more than 150 times or at a compound rate of 34 per cent per annum, a few firms have routinely dominated the industry. Thus the share of the top 20 firms in the industry throughout the period has fluctuated between 47 and 57 per cent, standing at 55 per cent in 1999-2000 and at 56 per cent in 2006-07 (Chart 1). That is concentration as conventionally measured has been high and relatively stable. What is more there is evidence that at the core of the industry concentration is in fact increasing. According to the results of Dataquest's most recent survey, the share of the Top 20 firms in the revenues of the Top 200, which has been increasing consistently over the last few years, rose sharply from 54 per cent in 2005-06 to 64 per cent in 2006-07, as compared to a rise from 50 to 54 per cent between 2004-05 and 2006-07 (Dataquest, July 15, 2007). Acquisitions such as that of i-Flex by Oracle and a sudden, sharp 136 per cent increase in the revenues of Tech Mahindra partly explain this trend. But the fact of a high degree of concentration cannot be denied.

It is indeed true that the Top 20 list has seen the exit of some firms over the years and the entry of others and the ranks of those that have remained in the list for long have changed periodically. But even assessed in these terms there are a number of firms that have been represented in the Top 20 league for a significant number of years or over the period as a whole. This should be clear from Table 1, which lists the Top 20 firms in 1999-2000 and 2006-07. During this period, while industry revenues increased by close to 7 times at the compound rate of 32 per cent per annum, well over half the firms remain in the Top 20 club either in their original avatar or as entities that have merged with other members in the list. There appears to be a degree of stability with respect to industry leaders. Thus, a high degree of concentration combined with relative stability at the top seems to be the picture that emerges. And this is even more significant because Dataquest's figures relate to the IT ''sector'', comprising of many industries as conventionally defined.

Table 1: The Dataquest Top 20

1999-2000	2006-07
Wipro	TCS (including CMC)
Tata Consultancy	Wipro
IBM India	Infosys Tchnologies
Tech Pacific	HP India
Hewlett-Packard India	IBM India
NIIT	Ingram Micro
Compaq India	Satyam
HCL Infosystem	Redington India
Infosys Technology	HCL Tech
HCL Technologies	Oracle India (including i-Flex)
Redington India	Cognizant Technology Solns
Satyam Computers	Cisco Systems
Aptech	Teledata Informatics
Samsung India	Intel India
Ingram Micro	HCL Infosystems
CMC Ltd	Tech Mahindra
Microsoft India	Patni Computer Systems
Tata Infotech	Microsoft India
Cognizant Tech	Lenovo India
Pentasoft Tech	Moser Baer

This is surprising given the perception that low barriers to entry and rapid technological change in the information technology sector make dominance in terms of either technology or market share at any given point of time an inadequate basis for monopoly. If firms have to remain competitive they have to continuously innovate and beat the competition, which is extremely difficult in an industry where technological advance is rapid.

This view was first developed formally in Massachusetts Institute of Technology-economist Franklin M. Fisher's expert testimony in favour of IBM during the thirteen-year US vs. IBM antitrust battle that began in 1969 and ended with the case being withdrawn on the grounds that it was without merit. Fisher and his colleagues later elaborated IBM's case (Folded, Spindled and Mutilated: Economic Analysis and U.S. v. IBM, 1983), which was built on the argument that a company's share in its designated market at a given point of time is no indication of either its market power or the presence of significant barriers to entry into the industry. That argument rested on grounds that in a technologically dynamic industry producing a heterogeneous and differentiated product, a firm with an apparently large market share could be subject to intense competition, because it operates ''in a rapidly growing market in which superior new technologies succeeded each other with breathtaking speed'' (Carl Kaysen's Foreword). Further, the information technology industry is one in which customers were not all small, individually powerless and poorly informed entities, but large firms and government agencies that had the knowledge to assess the appropriateness of prices charged and the ability to ensure alternative sources of supply when exploited. History seems to have vindicated this position held by the defense inasmuch as in time IBM lost its market leadership in hardware supply and was finally forced to move out of the hardware business. The decline in share partly provided the basis for the withdrawal of the case against IBM 13 years after it was first registered.

The argument that sheer size and overwhelming market share need not be the result of anti-competitive practices, partly rested on the grounds that they could be the outcome of behaviour, practices and strategies that reflected 'superior skill, foresight and industry' rather than the misuse of monopoly. These are practices that would be inevitable for survival in an intensely competitive situation, necessitating innovation and the transfer of the benefits of such innovations to customers in the form of better products and lower prices. Only when this was not true could the firm be seen as adopting anti-competitive practices.

Fisher et. al. identify three flaws in the arguments of the government and those who held that IBM was a monopolist, based on evidence that it controlled around 70 per cent of the market. The first was that the boundaries drawn to identify the size of the ''market'', based on which market share was calculated, were arbitrary. Second, was that they assumed that ''anything'' which made it expensive or time-consuming to enter an industry constituted a barrier to entry that facilitated monopolization. And, third that they held that any price cutting by an incumbent firm, especially if it was large, was a predatory practice revealing intent to monopolize. Implicit in such views, according to them, was the wrong notion that industries were normally on long-run equilibrium. Such a notion they held was particularly wrong in a dynamic industry like the computer industry, ''which has again and again experienced a totally unexpected explosion of demand as new users of and new uses for computers came into being. In such an industry, the competitive process-including the special role of innovation-is what matters.

The view that it is misuse of monopoly rather than its presence was the problem was strengthened during the anti-trust battle between Microsoft and the Federal and various state governments in the US that began in 1997. At that time, Microsoft controlled the operating system running on 90 per cent of personal computers and reportedly earned a profit of around 40 cents per revenue dollar (Ken Auletta, Microsoft vs the U.S. Government, and the Battle o Rule the Digital Age). Even here the argument was not principally that Microsoft was using its dominance over the operating systems (OS) market by exploiting barriers to entry to overprice its product or slow the pace of technical advance. Rather, the main issue (which emerged initially with respect to the Netscape browser), was that Microsoft was ''leveraging'' monopoly in the OS market, by bundling new products like Internet Explorer with its operating system for free and forcing vendors to promote its browser, while concealing the availability of alternatives. In the process it was seen as shutting out competition in new areas to expand its monopoly and reducing consumer choice. But there was no suggestion that Microsoft could slow or was slowing the pace of technological change in its area of monopoly, and yet remaining dominant.

Overall, therefore, the perception has been and remains that the information technology sector is one where barriers to entry are limited and the persistence of a large market share depends in the final analysis on sustaining leadership through innovation. However, this view partly begs the question. The difficulty with the analysis developed by Fisher et. al. is that is it rests on three presumptions: (i) that monopoly does not exist if that structure does not result in excess pricing and stunted innovation; (ii) that if a sector is characterized by rapid technological change it cannot be subject to barriers to entry, which could either be technological or non-technological in character; and (iii) monopoly exists when only one firm dominates the industry for relatively long periods of time. An industry can be characterized by concentration for long periods, with different firms accounting for dominant market share at different points in time. Barriers to entry need not mean that no firm can break into the market or expand if it is not the leader, but that potential threats to incumbent firms can only come from those which are large in size or have deep pockets, which in turn makes it possible for them to buy or develop technologies that can help them challenge and undermine incumbents. But if there are, for various reasons, a degree of path dependence in the capacity to deliver new innovations or bring them to market successfully, even technology and deep pockets can favour the incumbent rather than a potential entrant. Though IBM lost its position of dominance, it did remain in that position for long. During its heydays, many of the leading innovations in the computer industry came from IBM, and not everybody would be convinced that this was purely because of 'superior skill, foresight and industry'.

The problem becomes even more complex when these ideas are applied to an understanding of dominance in the Indian IT sector. It is easier to apply them to the hardware segment, where the growing presence and dominance of international brands in the post-liberalization period points to the fact that even where new entrants had the opportunity to grow and develop technological capabilities in a regime of protection before facing competition, the global industry leaders can easily displace them. It obviously applies to the packaged software industry where few Indian firms have made a mark, where global leaders dominate the domestic market, and many of the few indigenously-developed software ''products'' are losing out in their relevant markets. But how do we explain persisting dominance in the software services sector? Here dominance lies not in the market, which is situated abroad and is so large that, despite India's scorching pace of growth, Indian firms still account for an extremely small market share. The dominance lies in the fact that among the large number of domestic players catering to this market, a few (such as TCS, Wipro and Infosys) account for a large share-much larger than the aggregate industry figures suggest. It is dominance over supply rather than dominance in the market that needs to be explained.

Such dominance cannot be explained by technological leadership since, as widely accepted, India's presence is still largely in (technologically) lower-end software services. This is not an area where technology can constitute a barrier to entry. The explanation possibly lies in the ability of leading firms to excel in what Fisher et. al. refer to as ''other forms of innovation''. This involves, to start with, ''process innovation'', or ''a reorganization of the way in which production is structured'', leading to more efficient ways of services provision and better global delivery models. A second form of such innovation is ''the creation of a management system that keeps decisionmakers in touch with the marketplace and links that awareness with the design and manufacturing activities'' as well as permits quick responses to customer demands and rapid technological change.

It should be obvious that unlike process innovation in commodity production, this type of process innovation in services provision is less transparent and not easily identified. Yet, it obviously exists and matters, as suggested by the various forms of certification that have been in use in the software services industry. But what is surprising is that the adoption of these practices, and the process of building an ''image'' or ''brand'' for being a firm which does so, has operated as a barrier to entry to smaller firms, resulting in persisting dominance of a few. Even here history, preexisting market size and deep pockets seem to matter.