IT set for modest growth in Q3 on global headwinds

The October-December quarter is a seasonally weak one for IT firms due to th elower number of working days and more holidays (furloughs).

According to an ET poll of five brokerage houses, the top five Indian IT service providers will grow in the range of 0.1-3.7% sequentially in terms of constant currency revenue, with HCLTech leading the pack.

India’s largest software services firm by revenue, Tata Consultancy Services (TCS), is expected to report the next highest growth led by deals related to vendor consolidation.

“We expect revenue growth to reset from mid-teens to mid to high single digits from tight tech budgets and pricing pressure after higher-than-expected furloughs (or mandatory leaves in the West) in Dec 2022,” JPMorgan said in a note.

Based on management commentaries from multiple firms, the US-based brokerage said that current furloughs will drag on to the January-March quarter too, as clients remain cautious on tech spends given the macroeconomic concerns.

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TCS will kick off the third-quarter earnings season with results on January 9.
Infosys and HCLTech will report their financials on January 12, followed by Wipro on January 13.

Analysts, however, said they expect a sequential improvement in operating margins as technology workers were switching jobs less frequently due to the ongoing uncertainty.

Emkay Global sees margins expanding by 20-100 basis points (bps) sequentially for tier-1 companies and 20-50 bps for tier-2 companies on account of employee pyramid rationalization with more freshers in the equation, moderation in attrition and rupee depreciation.

On a year-on-year basis, though, the metric is seen falling 40-220 bps for the large companies.

ICRA, in a recent research report, said that since the Indian IT services industry generates close to 60-65% of its revenues from the US market and 20-25% from Europe, it remains susceptible to macroeconomic uncertainties and adverse regulatory changes in these key operating markets.

JPMorgan’s comments are in line with what HCLTech chief executive CK Vijayakumar said last month when he said some of the macros – like furloughs and drop in discretionary spending in tech, telecom and other verticals – were a “little bit” more than what they expected at the beginning of the December quarter.

Vijayakumar said he expects the company to report annual revenue growth at the lower-end of the guidance range of 13.5%-14.5%.

Analysts at Elara Capital said the IT sector would experience cross-currency tailwinds leading to an almost 2.1% sequential dollar revenue growth in a seasonally weak quarter.

“… HCLTech should likely outshine, with an estimated 3% QoQ CC growth, given positive seasonality in its products business. This should be followed by 1.8% growth for Tata Consultancy Services (TCS IN) as it benefits from vendor consolidation and strong deal wins,” the brokerage said.

It expects Tech Mahindra and Wipro to report muted growth due to an impact to the enterprise and mortgage businesses, while Infosys is expected to benefit from growth in manufacturing.

Infosys is expected to retain its annual guidance of 15-16% for the fiscal year ending March 2023, while Wipro will give a 0-2% growth guidance for the March-ended quarter, according to Phillip Capital.

The brokerage said the furlough impact was not visible in the previous two years due to very strong demand, especially in digital and large deals.

“We believe the revenue growth rates will see some moderation in FY24 after the very strong acceleration we saw in the last two years due to accelerated digital adoption,” it added.

In addition to furloughs, macro challenges are leading to weakness in mortgage, luxury retail, high tech and slowdown in 5G capex leading to a subdued Q3 performance, IDBI Capital said in a report.

“In addition, European geography and discretionary spending are expected to slow down. Slowdown in large deals, delay in decision making, cost take outs and vendor consolidation are other key focus areas,” the brokerage said.