IT companies’ revenue growth may moderate in third quarter

IT companies’ revenue growth may moderate in third quarter

The CNX IT (information technology) Index has outperformed the Nifty by 18% in the past three months due to rupee depreciation and the positive commentary on demand. However, decision making has slowed down and ramp-ups are behind schedule. Pricing scenario has moderated with even inflation linked increases being denied. We are lowering our growth assumptions and building in marginal price declines but the assumption of 50 against a dollar compared with 46 against a dollar currently is leading to an upgrade of 1-8% in earnings for FY13.

From confidence to optimism, IT bigwigs reflect macro realities: Until recently, top IT companies sounded confident due to the strong activity in September and October. But there is a change in the commentary now. While Tata Consultancy Services Ltd (TCS) is witnessing an increase in offshoring, there is lower optimism from business heads and sales people due to macro nervousness. The annual shutdowns, though seasonal, are believed to be higher this year and would affect growth in the third quarter of FY12. Along with telecom, growth is expected to be low from clients such as banks, financial services and insurance (BFSI), retail and manufacturing due to delay in decision making.

Lowering revenue, volume growth expectations: Revenue growth is expected to moderate in the third quarter of FY12 to 2-3% sequentially for top firms against expectation of 5% at the beginning of the quarter. Volume growth expectation for TCS has moderated to about 3.5% sequentially for the third and the fourth quarter of FY12 from the earlier 5%. Infosys has indicated that it would be able to meet the lower end of the guidance range (3.2% sequentially) against street expectation of 5% earlier. The growth outlook for the fourth quarter too seems modest. Infosys believes that it would be difficult to replicate FY12 growth in FY13 as budgets would be lower. TCS has been unable to get inflation-linked pricing increases in the third quarter.

Pricing stabilizes for now, but expect pressure in FY13: So far, there is discipline in the market hence pricing is stable. In the past, whenever volume growth slows, price declines follow as firms begin competing to increase their market share even as clients exert pressure. TCS was expecting a roll back of price cuts offered in 2008 from January 2012 onwards, but in the current environment, increases seem challenging.

Rupee offering respite: While we are modifying our growth expectations down, we revise earnings up 1-8% due to the exchange rate assumption of 50 against a dollar for FY13.

We continue to prefer TCS due to strong deal wins in the recent past and HCL Technologies Ltd for its valuation support and a strong order book. Wipro is trading at a 5% discount to Infosys and needs to deliver on the expectation of an improvement in revenue growth trajectory. Infosys would see near-term pressure due to dependence on short-term projects and higher exposure to discretionary spending. We maintain buy on TCS and HCL Technologies and hold on Infosys and Wipro.

Edited excerpts from a report by Edelweiss Securities Ltd. Your comments are welcome at

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