Several top tier companies missed profit estimates in the April-June quarter due to higher costs.
“The Indian IT sector benefitted from three secular tailwinds during the pandemic: outsourcing, offshoring and digitalization on the back of accelerated cloud migration. Given the upcoming macro slowdown (not recession) our macro team expects, which is percolating down multiple leading demand indicators, we believe Indian IT sector USD revenue growth will start to materially slow down from here, weighing on the secular tailwinds highlighted above. Hence, we cut our FY24E USD revenue growth forecast for the top 5 companies by 4ppt to 6% yoy on average vs. our earlier forecast of 10%," Goldman analysts said in a note.
Goldman said it remains "more sanguine" on the EBIT margin forecasts than on revenue of Indian IT companies, given multiple levers such as higher employee utilisation, controls on variable pay and annual wage hikes.
The Nifty IT index was down 3.1% on Wednesday as a surprise increase in US inflation stoked fears of aggressive rate hikes by the Federal Reserve.
"Now the market fears that inflation is getting entrenched and an ultra-hawkish Fed might trigger a hard landing for the US economy. This thinking too, might change when new data emerges. Global economy-facing stocks like IT and metals are likely to be under pressure," said VK Vijayakumar, Chief Investment Strategist at Geojit Financial Services.
The IT index has been one of the worst hit sectors, falling over 27% so far this year, underperforming benchmark Nifty 50 index, which is up 4%. The IT firms made a windfall when pandemic struck the world couple of years back as several global corporations poured millions of dollars to rev up their digital infrastructure. IT stocks were outperformers last year.
However, some foreign brokerages have turned positive on Indian IT stocks, citing valuation comfort after the recent correction though they acknowledge that IT firms are likely to face some near-term headwinds.
“We believe that though the India IT sector might face some near-term pressure on recessionary concerns, it offers a decent valuation post the c28% correction from its peak in January 2022, with its strong medium-to-long-term growth potential. We tilt toward defensive positioning with overweight on IT and pharma instead of auto (undserweight), consumer staples (UW) and consumer durables (UW), where the valuation comfort after the recent run-up is low," BNP Paribas said in a recent note.
Infosys is among its top picks from the IT sector.
“Despite a high base, y-y industry revenue growth stayed strong in 1QFY23, adjusting for cross-currency impact. In terms of USD revenue growth, India-based IT services companies continued to outperform the global IT services industry. Consequently, India-based IT services industry’s market share improved 44bp y-y. EBIT margin for the overall IT industry fell to 16% (-62bp q-q) as supply-side challenges continued, along with wage hikes and increased subcontracting expenses," BNP Paribas said.
India's top IT services firms have started freezing or cutting staff bonuses, worried that tightening budgets at US and European clients who are bracing for a recession will sharply hit their own profit as the pandemic-led boom fades out.
JP Morgan had recently downgraded its outlook on Indian IT sector to underweight. “Overall signings have seen growth slow sharply over the last three quarters, per our analysis. Lastly, our analysis of management commentary this earnings season highlights that descriptions of demand/pipeline/ order book have changed from superlative to positive-comparative suggesting flagging growth ahead," its note stated.
