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Global economic worries to weigh on IT cos in 2019

Cogencis, Thursday, Jan 3

 

By Nikita Periwal

 

MUMBAI – The best performing sector of 2018 is set to start the New Year on a sour note as companies take note of slowing global economic growth, which could deter spending on technology. 

 

The revival in growth of Indian IT companies in early 2018 and strength over the course of the year resulted in sharp gains for their shares, but a repeat of this trend is unlikely this year, analysts said.

 

Deteriorating trade conditions between the world's two largest economies, US and China, uncertainty over Brexit, and an overall volatile macro environment is likely to make technology companies tune down their optimism.

 

Some of these concerns have already been factored in the share prices, as the Nifty IT index fell by a sharp 9% in the December quarter, underperforming the benchmark Nifty 50 index by a massive 820 basis points.

 

US-based Accenture recently said that it expects growth to remain weak in the February quarter, after its banking, financial services and insurance vertical grew a mere 1% sequentially in the November quarter. Cognizant, too, cut the higher end of its sales growth guidance for 2018.

 

Given that large technology companies such as Tata Consultancy Services and Infosys get close to half of their sales from BFSI in the US, and some smaller companies get as much as three-fourth of their sales from this segment, soft guidance from these technology majors is a concern.

 

Flattening of the yield curve in the US could further hit demand from the banking sector, while higher costs of operations in the country is expected to eat into the profitability of Indian companies.

 

Apart from higher costs of obtaining visas, the struggle of technology companies to find adequate talent locally in the US is also seen affecting margins as companies then have to resort to a mix of subcontracting and offshore or nearshoring to meet demand.

 

"Even as IT companies have stepped up local hiring, the fact is that talent is not easily available at the mid-level," Kotak Institutional Equities said in its pre-earnings note for the sector.

 

Mid-cap company Hexaware Technologies citied lack of talent as one of the reasons for its weak performance in the September quarter, and expects the problem to persist up to June. Industry bellwether TCS also acknowledged that the issue of talent scarcity in the US is real, but said the company is better placed than peers to deal with it.

 

Edelweiss Securities said that it prefers shares of large-cap technology companies over those of mid-sized companies because of their ability to cope with the shortage of human resources in the US.

 

Though a likely softness in guidance could dissuade investors from buying shares of technology companies like they did in 2018, this pressure could be offset by likely corporate actions–-particularly share buybacks or hefty dividends.

 

Infosys is seen announcing a $1.6-bln buyback and buy back shares at 800 rupees each, in line with its plan of returning $2 bln to investors announced at the start of the year, Antique Stock Broking said in a report.

 

Wipro could also announce a share buyback, the brokerage said.

 

OCT-DEC EARNINGS

 

Though the December quarter is seasonally weak for most technology companies due to lesser number of working days and year-end holidays, weakness in the Indian currency will once again come to their rescue.

 

The rupee has fallen 2.7% on an average during the quarter, which will help protect margins of these companies.

 

The operating margins of top five technology companies are likely to rise by 70-100 basis points sequentially, Edelweiss Securities said. Apart from the weakness in the rupee, greater use of automation and wage hikes and higher visa costs being taken earlier through the year is expected to help these companies.

 

"However, the impact will be limited due to lower utilisation owing to furloughs, investments in digital and localisation, and training of freshly inducted employees," Edelweiss said.

 

However, margins of Bengaluru-based Infosys are seen under pressure due to reinvestments in business and transition costs in large deals.

 

Sharp gains in the Indian currency towards the end of the December could also result in translational foreign exchange losses.

 

The net sales of 10 Indian technology companies are likely to rise 4% on quarter, and the bottomline is expected to grow by 6%, an average of estimates of four brokerages compiled by Cogencis showed.

 

Of these, the sales growth of TCS, Infosys, Tech Mahindra, Wipro and HCL Technologies is seen 3% sequentially, with a 6% growth in profits. Wipro's profit is seen surging 23% on quarter led by the full-quarter benefit from the Alight Solutions deal.

 

Larsen & Toubro Infotech is seen leading sales growth in the mid-cap space. The overall sales growth in tier-II companies is seen stronger than that in tier-I helped by momentum in the past few quarters.

 

Given that the continued momentum in digital services has been a major growth driver for most technology companies, their outlook on this segment will also be watched, analysts said.

 

The Tata group flagship, TCS, will be the first IT company to announce earnings on Jan 10, followed by Infosys a day later.

 

Following are the estimates for Oct-Dec earnings of companies as compiled by Cogencis:

 

Company name Sales PAT Sales  PAT   Sales PAT  EBITDA   Result date
  ——Average——- —–(Q-o-Q)—– —–(Y-o-Y)—– (in mln rupees)     
    (in mln rupees) ————–% Change————–    
TCS + 379,190 84,077 3 6 23 28 107,530 Jan 10
Infosys + 212,433 41,609 3 1 19 (19) 53,474 Jan 11
Tech Mahindra + 89,601 11,359 4 6 15 23 17,104
HCL Tech + 154,732 26,320 4 4 21 27 36,915
Wipro + 151,785 23,104 4 23 11 20 26,059
L&T Infotech + 24,362 3,895 5 (3) 29 38 5,187
L&T Technology Services + 12,998 1,711 3 (10) 34 35 2,497
Mindtree + 17,997 1,939 3 (6) 31 37 2,818 Jan 16
Hexaware Tech + 12,577 1,540 4 (10) 25 27 2,093 Jan 30
Persistent Systems + 9,264 9,264 11 11 17 17 1,711 Jan 28
Total 1,064,937 204,817 4 6 20 13    
 
Note:
+ Consolidated Figure
Y-o-Y: Year-on-Year
Q-o-Q: Quarter-on-Quarter
N.A.: Not Available
Rs: Rupees
 
Estimates from:

Kotak Institutional Equities, Emkay Global Financial Services Ltd, Edelweiss Securities Ltd and Nirmal Bang Equities Pvt Ltd.

 

End

 

Table compiled by Mukesh Saroj and Shivaji Jagtap

Edited by Maheswaran Parameswaran

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