TCS, Infosys may clock worst Q2 performance in decade

The top five Indian IT firms will report their worst second-quarter results in a decade, as analysts fear a slew of factors will mute the sector’s growth for the rest of the year, and prompt the industry to cut full year forecast.

Slowing growth in the banking and financial services sector, Britain’s decision to leave the European Union, weaker discretionary spending and growing pricing pressure in the traditional business have led Indian IT firms to temper down expectations in the run-up to the earnings season.

Tata Consultancy Services, the largest IT services player, and mid-sized Mind tree have already toned down their expectations in what should be a seasonally strong period. Infosys, which has already cut its forecast once this year, is widely expected to lower its guidance again. Analysts expect Infosys to forecast growth of around 9% for the year, cutting its already lowered guidance of 10-11.5% growth.

“Revenues at the top-5 large cap companies in our coverage universe are expected to grow by just 1.5% QoQ in Q2 FY17 or about 2.3% in CC terms — which is the slowest Q2 growth in the past decade. HCL Tech and Infosys will lead revenue growth. Wipro will lag,” Kuldeep Koul, analyst with ICICI Securities, said.

Weak demand and cautious clients mean the outlook for the year is unlikely to improve. “The demand environment for IT services remains weak with clients under spending budgets and several projects cancelled/postponed. We also expect management commentary and guidance to remain muted,” Sagar Rastogi, analyst with Ambit Capital, said in a note.

Ambit expects the top five Indian IT companies to post between 0 and 3% growth. The tepid second quarter will also make it harder for the National Association of Software and Services Companies to retain its 10-12% constant currency growth target for the year. Nasscom has said that it will review the guidance after companies declare their results for the second quarter.

“I expect them to cut it. Even if they retain the target because captives are doing better, that is an even worse reflection on the Indian IT companies. It will really put a number to the fact that clients may be pulling work in-house,” said an analyst with a Mumbai brokerage who didn’t want to be identified.

The $108-billion IT sector grew 12.3% last year in constant currency terms. The industry employs about 3.7 million people currently, but hiring is expected to slow down, reflecting the poor growth prospects and increased automation. The generally weaker second half of the year is also expected to be slower-than-expected, as concerns over the US presidential election and Brexit come closer. UK Prime Minister Theresa May has indicated that Britain will go for a ‘hard Brexit’ early next year which will have a negative impact on the financial services industry in that country.

The fall in the value of pound, slow growth, wage hikes and the need to constantly cut costs to customers will mean Indian IT margins will also be impacted. “Margins are likely to decline for HCL Tech and Wipro due to wage hikes, stay flattish for Tech Mahindra due to one-time employee restructuring expense, and for Infosys, given the impact from options expensing, and grow modestly for TCS on operational efficiencies,” ICICI Securities’ Koul said. Despite an improvement, TCS is expected to close the year with a margin of 25.5% under its targeted margin band of 26-28%.