Markets
Unsettling signs emerge for IT investors
Summary
The IT sector is staring at increased potential downside risks rather than positive catalysts.
At the start of 2025, the Indian information technology (IT) sector was poised to see a reversal of fortunes during the year. Robust US economic growth and interest rate cuts by the US Federal Reserve were seen as likely drivers, giving the sluggish client expenditure in the key banking and healthcare segments an impetus. This was supposed to culminate in higher revenue visibility for FY26, paving the way for a revival. But this narrative is losing steam just three months into the year.
The global economic landscape has suddenly become more dynamic than anticipated; consequently, the IT sector is staring at increased potential downside risks rather than positive catalysts.
As things stand, the US Federal Reserve is less likely to make steep interest rate cuts in the future. This could mean higher interest rates for a longer period and hurt clients' IT budgets, especially US banks. Secondly, the ambiguity around trade tariffs means short-term instability for companies in the US and European regions—two crucial geographies for Indian IT services exporters.
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Among the other significant cues, the commentary from global IT giants is hardly encouraging. Going by the 2025 revenue guidance of global peers like Cognizant and Capgemini, growth will likely be more than the 2024 levels but could be less than the 'normalised industry growth rate' of about 6-7%, an ICICI Securities report said on 12 March. Global product engineering companies such as EPAM and Globant, which are often seen as proxies for trends in discretionary IT spending, have also indicated pockets of caution in the IT spending environment.
Further, growth guidance by large hyperscalers does not indicate a material acceleration in demand. Hyperscalers are cloud service providers that offer computing, storage, and networking services at a massive scale. The combined growth of the top three cloud companies AWS, Microsoft Azure, and Google Cloud in the December quarter (Q4CY24) was 25% year-on-year (y-o-y) versus 27% y-o-y in Q3 2024, according to an Antique Stock Broking report on 12 March.
Clouds ahead
This is a troubling indication for Indian IT companies, given their exposure to the cloud ecosystem, which is estimated to generate around 30-40% of revenues for large Indian IT firms. “Indian IT services companies have been facing budget reductions from hyperscalers due to their capex commitments. This trend is expected to maintain growth pressure as hyperscalers push these companies to cut costs and share productivity gains," added the Antique report.
Plus, elevated valuation multiples leave no room for disappointment.
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As the chart shows, during a global crisis, the IT sector has performed in line with or outpaced the benchmark index, Nifty 50, but that may not be the case now.
That is because what is different now is a very high starting point of relative valuations and outperformance in the run-up to the crisis, said a Nuvama Research strategy report on 10 March.
Sure, higher valuation multiples can be backed by companies’ improving return on equity, profit after tax, and free cash flow conversion. But the current backdrop, where the recovery in revenue growth trajectory for FY26 and beyond is uncertain, hampers confidence.
So far in 2025, the Nifty IT index is down around 17% compared to a nearly 6% fall in the Nifty 50. The increased adoption of GenAI could provide a fillip to the sector’s long-term revenue growth. Still, earnings upgrades seem elusive for now unless demand for IT services becomes meaningfully positive.
