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TCS may lead IT earnings; forex losses may affect margins

Analysts expect IT firms to post higher volumes, see Tech Mahindra, Hexaware leading among mid-caps
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First Published: Thu, Oct 04 2012. 05 38 PM IST
Some analysts expect TCS to lead the tier-I pack with 4.3% quarter on quarter dollar revenue growth. Photo: Priyanka Parashar/Mint
Some analysts expect TCS to lead the tier-I pack with 4.3% quarter on quarter dollar revenue growth. Photo: Priyanka Parashar/Mint
Updated: Thu, Oct 04 2012. 11 31 PM IST
Mumbai/Bangalore: India’s largest information technology (IT) services provider, Tata Consultancy Services Ltd (TCS) is expected to lead the top-tier companies in the sector, while HCL Technologies Ltd and Infosys Ltd may outperform Wipro Ltd in July-September earnings, traditionally a strong quarter for the industry.
In the mid-cap segment, Tech Mahindra Ltd, Hexaware Technologies Ltd and KPIT Cummins Infosystems Ltd are expected to fare better than the others.
The September quarter is expected to be better than the June quarter for most IT firms that are set to post higher volume growth, according to analysts, but their margins may be hit by foreign exchange losses given the rupee’s 5.25% appreciation against the dollar in the three-month period.
A 1 percentage point appreciation in local currency has a 35-50 basis points (bps) impact on the margin. One basis point is one-hundredth of a percentage point.
Infosys, traditionally the first off the block, kicks off the earnings season for IT companies on 12 October. HCL Technologies will announce its earnings on 17 October. TCS and the others are yet to inform the stock exchanges about the dates of their announcements.
The stronger rupee could lead to translation losses on revenue booked in August, according to Kotak Securities Ltd analysts.
In a 1 October report, they said the losses would be material for companies such as Tech Mahindra and MindTree Ltd that use beginning-of-the-month currency rates to book revenue. “We build in forex losses of Rs.70-900 million for companies under our coverage; Rs.300-900 million for tier-I companies and Rs.70-810 million for tier-II companies,” said the report.
Kotak analysts expect TCS to lead the tier-I pack with 4.3% quarter on quarter (q-o-q) dollar revenue growth.
Infosys is likely to have a sound quarter with 4.1% q-o-q revenue growth while Wipro may report a weak quarter. The tier-II companies will underperform tier-I IT firms, they added.
Revenue growth will improve sequentially (2-4.5% q-o-q), led by marginal volume growth and favourable cross-currency movements, though growth would still be one of the weakest for a seasonally strong period, they said, adding sequential earnings performance would be a function of the wage-revision cycle and the magnitude of forex losses.
Slowdown in key verticals
Analysts attributed the weakness to a slowdown in key verticals—financial services and telecom, distribution of revenue to more companies intensifying competition, weak discretionary spends and visa challenges. Favourable cross-currency movements may prop up revenue growth by 0.4-0.8%.
Nomura Equity Research analysts expect aggregate revenue growth of 3.7% q-o-q for the IT firms they covered in the second quarter, better than the growth of 1.7% q-o-q in the first quarter, “in line with seasonality”.
A 3 October Nomura report said discretionary demand will continue to be soft and large revenue contributors such asbanking, financial services and insurance (BFSI) and telecom will continue to be sluggish.
More than 90% of Indian firms get their business from existing clients. Their grip on accounts, relationships with key decision-makers, and the ability to sell incremental revenue to the same clients determine how much these companies will grow in the coming five years, according to Sudin Apte, chief executive officer and research director of Offshore Insights Pvt. Ltd.
“Our research shows TCS is sitting on a huge opportunity, closely followed by Cognizant. Infosys, too, has good prospects but needs to fix ongoing issues. Further, our assessment shows HCL Tech may face a growth crunch because of limited service lines and vertical expertise,” he added. “Wipro has issues on hand and possibly will struggle unless (it) does a fat acquisition or a large-scale strategy revamp.”
According to Offshore Insights, TCS has added a number of net new clients and Infosys is still considered by its customers as a significant firm. If the latter delivers on its new Infosys 3.0 strategy (the firm’s plan to increase revenue from newer areas such as cloud computing, software platforms and products), it will be back on a high-growth path, Offshore said in a report dated 4 October.
Wipro, it said, faces challenges on the client front while HCL has an opportunity to grow via emerging technologies such as mobile, social networking and big data.
Dipen Shah, head, private client group research at Kotak Securities, said average realizations are expected to have remained stable q-o-q, barring a few instances of decline. “Ebitda (earnings before interest, tax, depreciation and amortization) margins are expected to be marginally lower q-o-q for our coverage universe,” he said.
Kotak expects Ebitda to rise by about 3% q-o-q for the companies they cover.
Mid-cap picks
In the mid-cap segment, Motilal Oswal Securities Ltd analysts favour firms that exhibit enough potential to scale and/or are clearly differentiated in their offerings, helping them be first-choice vendors for clients in their chosen space.
The brokerage prefers companies such as Hexaware, Tech Mahindra (after its integration with Mahindra Satyam Ltd and the acquisition of Hutchison Global Services, or HGS, reducing the dependency on BT Group Plc), and KPIT Cummins Infosystems.
Espirito Santo Securities Ltd’s analysts expect Persistent Systems Ltd, KPIT, Hexaware, Polaris Financial Technology Ltd and InfoTech Enterprises Ltd to meeet software lobby group Nasscom’s estimate of 11-14% growth in fiscal 2013 but more moderate growth from companies such as MindTree, Tech Mahindra.
Espirito Santo predicts that Rolta India Ltd and MphasiS Ltd may just meet or even miss Nasscom’s growth estimates.
Analysts remain cautious over valuations in this sector since recovery is yet to take place in the main markets—the US and UK—even as visa issues continue to dog all IT companies in an election year.
Kotak analysts said the annual guidance from Infosys “will be as important as ever” and so will comments on calendar year 2012 budget spending patterns from all IT companies besides pricing declines, if any, apart from insights into any pick-up in discretionary spends, hiring trends and comments on new opportunities such as cloud computing, etc.
Nomura analysts remain cautious on the sector in the near term and will watch out for improvement in the demand scenario and margin pressure from the recent rupee appreciation, especially for companies that have not gained materially on margins from the rupee depreciation till the June quarter.
Infosys lost 0.12% to close at Rs.2,575.40 per share on Thursday on BSE, when the benchmark index, the Sensex, rose 1% to close at 19,058.15 points and the IT index lost 0.28% to close at 6,008.05 points.
TCS lost 0.5% to close at Rs.1,315.05, Wipro rose 0.58% to close at Rs.383.05 while HCL Technologies ended flat at Rs.589.80.
Among the midcap IT stocks, Hexaware Technologies lost 4.05% to close at Rs.118.50, KPIT Cummins Infosystems lost 1.76% to close at Rs.122.70 and Tech Mahindra Ltd lost 2.33% to close at Rs.971.50.
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First Published: Thu, Oct 04 2012. 05 38 PM IST
More Topics: IT Preview Q2 | TCS | Nomura | CLSA | Kotak |