TCS has announced that it has signed an agreement with Mitsubishi Corporation (MC) to merge TCS Japan, IT Frontier Corporation (ITF), MC’s 100% owned IT subsidiary, and Nippon TCS Solution Center (NTSC) as a single new entity in which TCS will have a majority 51% stake and MC 49%. The transaction is expected to close by end June 2014.

The new entity will have over local 2,400 employees in Japan and access to over 1,000 other local business associates.

This is a major new initiative for TCS, who has been actively looking to grow its business in Japan since 2008, attracted by its size and growth potential. TCS set up a JV with MC for an onsite delivery center nearly two and a half years ago. TCS Japan’s FY 2014 revenue is ~$100m, that of the  NTSC JV (in which TCS has a 60% stake) ~$5m, and that of ITF is ~$500m. 

TCS will be making a cash payment of ~$50m to gain a 51% stake and will have options to increase its stake over a period of time, to 65% after five years, and to full ownership after ten.

The new JV will have annual revenues of ~$600m, of which ~$250m from MC. It also serves a number of large Japanese corporations, including in the banking, manufacturing, retail and hi-tech sectors.

This is a very shrewd move by TCS to gain access to large Japanese corporations through a local operation attached to the MC brand, which will be backed by TCS’ own technology expertise, industry domain knowledge, and global delivery capabilities. TCS has been eying Japan, the second largest IT services market globally, but which has been very insular since before 2008. When TCS and MC set up the JV in 2012, they had in mind whether a bigger strategic move such as this would work. This initiative is well timed, as Japanese multinationals are - at last - showing an increased appetite for (and understanding of) outsourcing - they are look for support in a range of areas, from their ongoing global expansion (including into India), to IT infrastructure optimization, to shared services and BPO. There is also an increased readiness by Japanese corporations for offshoring, as access to talent is becoming increasingly difficult in Japan. And in the several years that TCS and MC have spent in preparing for this initiative, they will have developed a closer cultural affiliation.

Other large Indian IT services, notably Infosys and Wipro, have tried to penetrate Japan in recent years, but none have yet managed to really scale. TCS’ approach, through a partnership with a major JOC, is more likely to resonate. 

The JV will be margin dilutive for TCS in the short to mid-term, but the priority will be topline growth. Using TCS' global delivery network will clearly help improve margins, as will increasing the proportion of higher margin services. TCS is presumably looking for Japan to reach a simile scale as Continental Europe, where its revenues now top $1.5bn. Rapid growth in the Japanese market would assist TCS in continuing its trajectory of high growth (16.2% in FY 2014), growth which has to date been primarily organic.

In contrast, LatAm has been something of a letdown, and is currently a less attractive market. TCS was among the first of the target Indian oriented service providers to target LatAm: in Chile for example, after an initial entry in 2002, it acquired local vendor Comicrom in 2005; this brought in a financial services BPO capability, led to a 5-year BPO contract to support the loan and credit business of a Chilean bank in 2006 and was useful in its winning in late 2006 of a 5-year $140m ITO and BPO deal with Banco Pichincha in Ecuador. However, TCS’ IberoAmerica business has not been a growth engine in recent years: in fact revenues declined by nearly 19% in FY 2014 to just $315m.

We expect TCS to appoint a very experienced exec that already has experience of growing another region to lead its growth initiative in Japan.