The first quarter of the current fiscal is likely to be very modest for Indian IT companies in terms of revenue growth, expansion in operating profit margins, and deal flows.
Key Takeaways
- Revenue growth QoQ for top tier companies to remain in the 1% range.
- Lower discretionary IT spend impacting the revenue growth of companies
- Profit margins to remain under pressure largely due to wage hike
- Hiring likely to remain muted
Top Indian IT services companies like TCS, Infosys, Wipro, HCLTech, and others are expected to see muted revenue growth for the first quarter of FY24 due to the challenging macroeconomic environment in the US and Europe. The three-month period between April and June is traditionally considered as a strong quarter for the Indian IT services industry, setting the tone for the remainder of the year. But this will not be the case for the current fiscal, given the multiple challenges faced by the industry.
The IT companies are set to announce their first quarter financial results for FY24 starting this week. The first quarter of the current fiscal is going to be very modest for the Indian IT companies in terms of revenue growth, expansion in operating profit margins, and deal flows.
In its preview note, Brokerage house Kotak Institutional Equities, said, “A soft discretionary spending environment, combined with the pullback of projects in financial services and telecom, will drive a sequential revenue decline to marginal growth for Tier I IT companies in a seasonally strong quarter.
EBIT margin is likely to decline on a QoQ basis due to wage revisions and cost increase.” The Indian IT services industry gets close to 80% of its revenue from the North American and European markets. These two regions are facing an environment of economic uncertainty, which has led to a situation of lowered spending on technology by the companies. Brokerage house JM Financial, in its note, said, “For IT Services players, April-May-June is unlikely to have felt anything like spring.
The usual seasonal strength associated with Q1 will mostly be absent this time. Discretionary project cancellations/ramp downs initiated in March will have their full quarter impact in Q1.” “AI-led excitement aside, hi-tech demand has probably seen incremental deterioration through the quarter, as evidenced by ACN and EPAM commentaries. Large banks’ IT budgets remain constrained dampening growth prospects,” it added. The first quarter is unlikely to see any major uptick in revenue growth for the top Indian IT services companies.
According to Kotak, companies such as Wipro and Tech Mahindra will see a decline in revenue, while it will remain flat for TCS. However, HCLTechnologies and Infosys are expected to show one percent quarter-on-quarter (QoQ) growth. “We believe revenue growth YoY will move from low-single digits to high-single digits. Weak discretionary spending across many verticals, especially in financial services, telecom, and hi-tech, should contribute to weak trends. US$ growth QoQ will be aided by a cross-currency tailwind of 13-42 bps,” it noted.
Given the revenue challenges faced by these companies, there is also the pressure of operating profitmargins or EBIT. The first quarter is typically the period where the companies give out the annual salary hike to their employees, and this could have an impact on their profitability. Motilal Oswal, in its preview note, said, “The Q1 FY24 margins will see impact from growth moderation and wage hikes. However, easing supply pressure, cooling off attrition, and improvements in utilisation should help partially offset the impact.” According to the brokerage house, Tier I companies usually post margins in the range of -140 bps to +30 bps, and has projected that TCS will see its margins decline by 140 bps QoQ due to wage hikes.
The projection made by Kotak shows that EBIT margin will likely decline 20-90 bps sequentially for the top Indian IT services companies, unless they cut down their variable compensation. It further goes on to add, “Typical levers such as utilisation rate and pyramid are difficult to utilise quickly in a low-growth environment.” Today, Indian IT services companies do not enjoy high operating profit margins like in the past, and for majority of them, it has fallen much below the 20% level. Only TCS and Infosys are above the 20% level, reporting 24.5% and 21% in the previous quarter, respectively. The only saving grace for the Indian IT services industry has been the strong US dollar and weakening Indian rupee, which could, to an extent, offset some pressure on the margins. This could also mean that Indian IT services companies could record lower net profit for the first quarter. As Motilal Oswal said, “We expect our Tier-I IT coverage universe to post a PAT decline of 2.3% QoQ, while it should grow 15.3% YoY.” However, this could also provide certain opportunities for the top tier Indian IT services companies, especially in the area of large deals. There will be large IT deals ready for outsourcing as companies look to reduce their costs, and the deciding factor for the winner will be their competitive pricing. The expectation is that the current fiscal is unlikely to see Indian IT services industry bounce back sharply as many of the key demand sectors such as BFSI, retail, and manufacturing are unlikely to restart their discretionary spending on technology anytime soon. Kotak noted, “A slowing macro is feeding its way into the performance of clients of IT companies and consequently spending….pickup in large deal momentum is critical for 2H growth and laying the foundation for FY2025 growth.” This would mean hiring would be muted for the first quarter and may continue to remain so for the rest of the year.
