Third-party service providers are talking a lot about digital transformation, and their strategies for rotating into digital services are well underway. HCL Technologies is quietly taking a different strategy, creating a different base of business than providers such as Cognizant, Infosys, TCS and Wipro are building. This strategy is currently rewarding HCL with higher growth and is causing HCL to be quite a different firm, standing out from its rivals.
I think it’s refreshing to see a service provider separating itself from the pack and taking a differentiated path. This is not the first time HCL has done this. Early on, the firm recognized the power of Remote Infrastructure Management (RIM) and was a leader in that space. It was rewarded handsomely by building a leading infrastructure practice on the back of that capability.
Now, as part of its strategy to rotate into digital, HCL is aggressively acquiring other firms – so aggressively that the firm’s revenue is just $222 million short of displacing Wipro as the third-largest software provider in India. Seeking to scale its business inorganically, HCL acquired eight companies in the past two years, including 80% of US hybrid cloud and analytics company, Actian.
HCL’s strategy is leveraging its balance sheet to acquire legacy assets. It could be legacy IT assets on the infrastructure side and legacy software on the engineering side. This is different from the way the rest of the service providers are operating, and it allows HCL to garner large contracts. There is no indication that the legacy assets the firm is buying aren’t remunerative and that these deals are not well thought through and kept in focus. But there is a trap in this strategy, which other firms before HCL fell into.
Shareholder Value and Risks
Firms that leverage a balance sheet to buy legacy assets can end up overpaying for those assets. This is a trap that EDS and CSC fell into, and they spent years digging their way out of the trap. EDS was first purchased by HP and then merged with CSC, then into DXC. So, there is a trap in HCL’s strategy, but it doesn’t necessarily mean HCL is doing bad deals. Providers using this strategy must be disciplined. So far, there is no indication that HCL has not been disciplined.
HCL’s rivals in the services marketplace are buying or building digital assets that help accelerate their rotation into a digital model. In contrast, HCL (at least in its acquisition aspect) is becoming a consolidator of legacy assets. The market absolutely has a differentiated, profitable place for a consolidator of legacy assets, whether they are software or infrastructure assets. In fact, DXC perfected this strategy and created shareholder value with this strategy. The HCL path will differ from DXC in some respects but, fundamentally, could be very similar.
HCL looks to be creating itself as a consolidator of legacy assets and using its labor arbitrage position to extract value from these assets in both an innovative and clever way. I’ve been calling for providers to create differentiation, and I think HCL is doing so. But the firm runs risks that its rivals are not running. However, a legacy consolidation strategy may be less risky than creating a new business model, which is the strategy of HCL’s rivals.
Risks for Clients?
I think HCL’s clients need to understand what the firm’s strategy means to them. There is a risk for clients in believing the rhetoric around digital transformation. Clients need to see HCL for what it is truly doing, not for what it is “selling.” The firm appears to be trying to wrap itself in the flag of digital transformation. In reality HCL is playing a sophisticated legacy consolidation game. Legacy consolidation is an important and valuable role for the firm’s clients. However, clients should not fall into the trap of believing it equates to digital transformation.