GenAI Fuels IT Productivity and Strengthens Margins Despite Revenue Cannibalisation

In a recent discussion following TCS’s annual results, Samir Seksaria, the Chief Financial Officer at Tata Consultancy Services (TCS), detailed how generative AI (genAI) is set to transform the IT landscape. While there is concern that genAI might lead to revenue cannibalisation by reducing the number of engineers required, Seksaria firmly believes it is a "win-win" scenario—with increased productivity offsetting potential transaction-level losses.

Productivity Gains Versus Revenue Cannibalisation

TCS’s CFO explained that, although some revenue might be lost at the transaction level when efficiency is optimised (for instance, when a project once handled by ten people is completed by eight), the overall volume of work could increase dramatically. This means that cost reductions and a higher throughput of projects are capable of buffering profit margins even if individual deal values decline.

Key Points: - Efficiency leads to doing the same work with fewer staff. - Transaction-level revenue reduction can be more than balanced by increased project volumes.

The Transformation of the IT Business Model

Historically, India's over $280 billion software services sector has operated on a model where fees are based on the number of engineers deployed on a project. However, genAI is driving a major shift. Now, IT companies are moving toward charging based on project milestones or outcomes delivered, rather than strictly on manpower. This transition allows both suppliers and customers to benefit from productivity gains, as some savings are passed on while companies retain enough margin to invest in growth and innovation.

Market Dynamics and Future Outlook

Seksaria noted several market trends that are influencing IT spending:

• Cost Optimisation: As clients re-evaluate their tech budgets, many opt for vendor consolidation and more strategic investments.
• Sector-Specific Confidence: While sectors like auto, consumer packaged goods (CPG), and insurance experience softer technology service needs due to trade uncertainty, there is optimism in banking, energy, manufacturing, and utilities.

During the fourth quarter ending March 31, TCS posted a marginal decline from 26.0% to 24.3% compared to the previous year, primarily due to investments in promotions. Despite this, the company remains confident, projecting margins to remain within the 26-28% range for fiscal 2026 due to favorable conditions such as delayed salary hikes and predictable currency movements.

Additionally, TCS’s robust performance is evidenced by a $10 billion-plus order book accumulated over the last two quarters, even in the absence of mega deals. The firm’s scale, expertise, and deep market presence give it a competitive edge, particularly in turbulent economic climates.

Real-World Impact and Strategic Adjustments

TCS’s approach is pragmatic. In a notable dispute, after losing a minor back-office deal to UK-based Phoenix Group—a deal attributed to Wipro’s win—Seksaria reiterated that TCS remains the strategic and primary vendor for Phoenix. This example underscores the company’s resilience in the face of competitive pressures and market adjustments.

In summary, while genAI may disrupt traditional revenue streams through increased efficiency, its ability to boost productivity and generate new business volumes offers a promising pathway for sustaining and even enhancing margins in the IT industry.