The third quarter results of a select 40 software companies seem to confirm the apprehensions of the market over the second rung companies. Not only have investments in these companies eroded in value-terms, they have even failed to keep pace with the market expectations in terms of revenue growth and profitability.

Interestingly, last year around this time, most of the tech stocks were on the rampage. The investor fancy for stocks with the "tech-tag" ensured astronomical rise in their prices. And, while the top rung were basking in glory, second rung companies too were raking in the moolah. Most of them crossed the four-digit mark, as investors went berserk for these stocks. Today, there has been a reversal in the fortune of these companies that have left investors high and dry.

According to the analysis, top rung companies seem to be unaffected, what with the biggies like Infosys, Satyam and Wipro clocking over 100 per cent jump in their net profits. A diversified clientele and diverse operational efficiencies have held these companies in good stead. But how about the second rung companies?

These companies have started feeling the heat. Strain is obvious in the operating and net profit margins of such companies that have been highly erratic and inconsistent through the first three quarters.

Take for instance Mastek - the companies operating profit margin (OPM), net of other income, for the third quarter stands at 25.4 per cent (36.4 per cent), whereas for the first and second quarters of the current year its OPM was at 42.6 per cent and 35.2 per cent respectively. Evidently, its Net Profit Margin (NPM) did come under pressure and stood at 26.6 per cent and 38.9 per cent for the first and second quarters respectively. However, it stands at 13.4 per cent for the third quarter.

Not only Mastek, companies like Tata Infotech, Sonata Software, MPhasis BFL, Cybertech Systems & Software, VisualSoft Technologies, Trigyn Technologies along with new entrant to markets like SQL Star International, Geometric Software Solutions, KPIT Infosystems and Mascot Systems also confirm the above trend in the profitability tangle. Although, the margin fluctuation has also to do with the provisioning policy of individual company. Yet, the quantum of margin fluctuation in some cases has been quite alarming for eg Mascot Systems, its third quarter OPM stands at 8.7 per cent (50.5 per cent), while for the first and second quarters the company recorded OPM of 14.9 per cent and 17.6 per cent. Trigyn Technologies, another case in point, reported both OPM and NPM negative for the third quarter. For the first and second quarters, the company reported OPM of 21.7 per cent and 20.9 per cent respectively. It is not surprising, therefore, that these stocks have been hammered down at the bourses.

A brew of factors such as lack of diversification, over-dependence on select clients and burgeoning staff costs has been the undoing of these companies. Besides the threat of outsourcing from China could put spanner in the works. The slowdown in the US, according to analysts, might actually benefit the Indian software industry as this would lead to an increase in outsourcing.

The Indian industry, due to its cost advantage, stands to gain from this. However, cost conscious US firms might eventually put pressure on the billing rates. And this might just impact the bottomlines of these companies.

The US economy has been responding positively to the Greenspanian commandments as for now. To ensure a softlanding of the world's biggest economy the US Fed might go in for another cut in the interest rates following on the heels of the 50 basis points cut in January, 2001. While there is no doubting the Indian software growth story, despite a slowdown in the US economy, it remains to be seen if bottomlines would continue to grow at the scorching rates witnessed so far.