As AI shockwaves hit software firms, what’s in store for India’s IT titans?

This report is from this week’s CNBC’s “Inside India” newsletter which brings you timely, insightful news and market commentary on the emerging powerhouse. Subscribe here.

The big story

Indian IT stocks are facing their steepest monthly declines since the 2008 global financial crisis, with the Nifty IT Index on track to drop 20% this month, as concerns over AI-led disruption pressure software stocks globally.

At the mega India AI summit last week, major tech companies announced tie-ups with leading Indian IT services firms to drive AI adoption across enterprises. India’s largest and the world’s second largest IT services company, Tata Consultancy Services, tied up with OpenAI, while Infosys partnered with the ChatGPT maker’s rival Anthropic.

These tie-ups did little to cheer the markets with the Nifty IT index down 19.6% so far this month as investor concerns over the impact of rapid artificial intelligence advancements on the sector has dampened sentiment.

Indian IT industry leaders, however, have called AI implementation a “big opportunity.”

“We are confident AI will strengthen growth across our business and unlock the next phase of opportunity for the broader IT ecosystem,” Sham Arora, chief technology officer at Tech Mahindra told CNBC.

But unlike the U.S., where the debate is still on between AI fears being “illogical” and a possible collapse of companies offering software as a service, or SaaS, experts told me that AI won’t make Indian firms offering IT services irrelevant. It will, however, shrink their margins.

Biswajit Maity, senior principal analyst at Gartner, told me that traditional IT services companies such as TCS, Infosys, Wipro and Accenture will play a “pivotal role in enterprise AI adoption” by leveraging their client relationships and domain expertise in integrating AI solutions.

Nvidia CEO Jensen Huang on Thursday also attempted to play down AI concerns, suggesting that markets have miscalculated the threat to software companies.

But to remain relevant, Indian IT services companies need to invest in talent and proprietary platforms, develop industry-specific AI solutions and co-innovate with clients, among other things, Maity said. And while some of that work is underway, the efforts are unlikely to protect margins of Indian IT companies, Maity and other experts forecast.

Indian IT companies collectively control over one‑third of global IT services brand value, export technology services estimated at more than $220 billion annually, and dominate the global outsourcing landscape, making them critical for the world’s digital infrastructure.

But the business models of Indian IT companies are dependent on labor arbitrage, and with the advancement of AI this will soon be replaced by technology arbitrage, said Maity.

Indian IT companies get a majority of their revenue from helping enterprises with integration of IT services and digital…