Tata Consultancy Services Ltd’s (TCS’s) revenue growth has fallen considerably short of the Street’s already toned down expectations. The reported revenue of $3.9 billion is as much as 100 basis points (bps) lower than consensus estimates. The last time TCS’s reported revenue fell short by a 100 bps margin, its stock had fallen by as much as 9%. One basis point is 0.01%.

TCS shares can be expected to drop sharply again when trading resumes on Friday. The fall, however, may not be as much as the one in October, since the stock has underperformed peers since then. In contrast, leading up to the September quarter results, expectations had been running high, and valuations, at over 25 times past earnings, left no room for error.

Valuations have since corrected to 23 times past earnings. Still, investors will be worried about the loss in growth momentum at TCS. Revenue grew by only 1.6% in constant currency terms last quarter. The company attributed this to weakness in the telecom and energy sectors, where revenue fell by 6.2% and 4.7%, respectively in constant currency, and the continued decline in the insurance business connected to its earlier acquisition, Diligenta. Excluding these, revenue grew by 2.7%, the company’s chief executive officer N. Chandrasekaran said.

The problem, however, is that investors are primarily interested in the growth of the company’s entire portfolio of services, before adjusting for the trouble spots. The same goes for the company’s outlook for the new fiscal year. Chandrasekaran sounded upbeat about TCS’s prospects in most of the sectors it operates it, but his caution on the above-mentioned three sectors, which are expected to remain weak, could effectively mean that company-wide growth will be lower than 15% growth recorded in FY15.

Note also that just last week, analysts at Gartner cut their forecast of global IT spending by 60 bps in constant currency terms, compared with their outlook three months ago. Recent data shows that the US economy has weakened, and this could potentially impact demand for IT outsourcing services.

About a month ago, after TCS’s pre-results update, analysts at CLSA had cut their earnings for FY16 and FY17 by 4%. The lower-than-expected revenues in the March quarter could now lead to another round of earnings downgrades.

According to an analyst at a multinational broker, it’s difficult to put a finger on the exact reason behind the loss in growth momentum at TCS. It could be a high base effect or higher competition from multinational firms such as Accenture Plc, he says. Whatever the reason, TCS’s revenues growth rates have come off materially in the past year, and investors will do well to price this in.

The writer doesn’t own shares in the above-mentioned companies.

Close