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Graphic by Satish Kumar/Mint
Graphic by Satish Kumar/Mint

After a strong run in 2019, a sober year awaits the Indian IT services industry

  • Performance over the past year shows IT companies are withstanding the market changes better
  • Outperformance of the NSE IT index waned since September, partly because the govt’s tax cuts did not benefit IT firms

The outperformance of the NSE IT index waned in 2019 since September, partly because the government’s tax cuts did not benefit software services companies. But investors are also concerned about the moderation in revenue growth during the year. The NSE IT index had gained 24% in 2018, while the Nifty had risen 4%. So far in 2019, the NSE IT index has risen 9%, whereas the Nifty gained 12%.

The year-on-year constant currency revenue growth of industry leader Tata Consultancy Services Ltd dropped to single-digits in the September quarter. Growth at Wipro Ltd remained sluggish. Infosys Ltd and HCL Technologies Ltd kept up the momentum during the quarter. But many doubt if the one-off large deals that have powered Indian IT in the past year will be replicated in 2020.

The reasons are partly cyclical. Uncertainty on government spending, taxation and regulation ahead of the US presidential elections in November 2020 can delay decision-making at clients’ end, some fear.

“Besides inherent immigration rhetoric, we find that slow, delayed decision-making by clients in election years (FY09, FY13, FY17) has translated into cyclical growth moderation for the IT services industry," BOB Capital Markets Ltd said in a note.

There are structural headwinds as well. Sluggish economic activity and low bond yields in Europe are hurting spends in the key banking and financial services segment. Analysts at Kotak Institutional Equities warned that if spends of clients facing disruption in their respective industries can take a hit.

“While maturity of digital spends augurs well for medium-term growth delays/decline in spends of challenged clients can create near-term headwinds. Tier 1 IT has provided cautious outlook on near-term growth in spends from the (retail) vertical," analysts at Kotak said in a note.

Separately, an analysis of the client financials by Nomura Financial Advisory and Securities (India) Pvt. Ltd shows a steady state at the US banking, financial services, insurance and consumer verticals. But troubles in retail, softness in oil and gas, manufacturing, in Europe means a large part of the IT companies’ target market is facing growth headwinds.

Of course, it is not all gloom and doom. Performance over the past year shows IT companies are withstanding the market challenges better. Digital and new-age services, which are seeing strong client spends, now constitute a large part of the IT companies’ revenues. In the September quarter, more than 38% of Infosys’s revenue came from digital. For TCS, the share stood at 33%.

With deal sizes also increasing, digital has become a key growth driver for Indian IT. However, the rapid expansion of this business has caught companies off-guard on the human resources side. Companies rushing to recruit employees with required skillsets is driving up costs, and hurting profitability. The trajectory of margins is another aspect investors will keenly track in 2020.

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