Thursday, February 29, 2024

Q3 result preview: IT firms expected to post muted revenue, subdued profit amid weak demand

The IT sector has been struggling for the last few quarters due to weakness in the key markets in the West amid inflation, rate hikes and economic uncertainty.

Experts observe that several IT companies saw the extension of the timelines for deal closures during Q3, primarily due to the higher-than-expected number of furloughs. This could mean the Indian IT firms’ Q3 revenue remained muted.

As the brokerage firm Motilal Oswal Financial Services pointed out the seasonality is likely to hurt revenue growth and margin performances of both tier-1 and tier-2 IT companies.

“The industry has not witnessed any meaningful change in spending patterns, as discretionary spending continues to pause enterprises. Although sentiment has improved, it has not yet been reflected in actions,” Motilal Oswal said.

Motilal Oswal expects its IT services coverage universe to report a median revenue growth of 0.7 per cent quarter-on-quarter (QoQ) and 2.5 per cent year-on-year (YoY) in Q3FY24.

The brokerage firm expects the revenue growth of tier-1 companies to be in the range of -2.7 per cent to +4.5 per cent QoQ in CC (constant currency) terms. Revenue of tier-2 players is expected to grow to the tune of -4.4 per cent to +3 per cent QoQ in CC terms, according to the estimates of the brokerage firm.

“The adverse movement of major currencies (EUR/GBP: -1.2 per cent/-2 per cent) is anticipated to further slow down the reported growth,” Motilal Oswal said.

“The muted revenue growth and revised compensation (selective names) in 3Q are less likely to aid margin improvement. However, the weakening Indian rupee (INR) should act as a support. We estimate a flat dollar revenue YoY, while INR EBIT (earnings before interest and taxes) and INR PAT (profit after tax) will decline 4 per cent and 2 per cent YoY, respectively, in Q3FY24,” said Motilal Oswal.

The brokerage firm expects the deal TCVs (total contract value) to moderate from the Q2 high base coupled with furloughs impact in Q3.

Also Read: Infosys, Wipro and Tech Mahindra to witness revenue dip in Dec quarter: Kotak Institutional Equities

Motilal Oswal prefers tier-1 over tier-2 companies and HCL Tech remains its top pick. Cyient is its top pick among tier-2 companies.

CA Vatsal Vinchhi, Equity Analyst – IT sector, Choice Equity Broking expects IT companies to deliver subdued performance in Q3 despite a strong order book.

“Q3 being the smallest quarter, we anticipate muted or marginal growth in revenue due to uncertain environment, slowdown in discretionary spending, weak BFSI segment and struggling North America geography,” said Vinchhi.

“Uncertainty persists and hence there is limited revenue visibility. Focus will remain on cost optimisation initiatives and large deal transformation deals shall start materialising from FY25E. The US Federal Reserve’s decision to maintain a steady interest rate and expectation of significant rate cuts are likely to trigger the IT sector in FY25E,” Vinchhi said.

Also Read: Pharma Outlook 2024: How are Cipla, Sun Pharma, Dr Reddy’s and others likely to perform this year?

Abhishek Jain, Head of Research at Arihant Capital pointed out that the increased furloughs in Q3FY24 have exacerbated the weakness in the information technology services demand, affecting both tier-1 and tier-2 IT companies due to seasonality.

“The industry experiences a pause in discretionary spending, with no significant change in patterns, despite improved sentiment,” Jain said.

Jain believes adverse currency movements may hinder the reported growth of IT companies.

Jain expects IT companies may report flat dollar revenue on YoY terms, while their EBIT and PAT in rupee terms may decline by 4 per cent and 2 per cent YoY in Q3FY24.

Among the tier-1 companies, Jain likes TCS, while Coforge, Persistent Systems and Route Mobile are his picks among the tier-2 companies. Allied Digital Services is Jain’s pick from the tier-3 space.

Also Read: Weak rural demand to dent FMCG sector volumes in Q3FY24, says Nuvama; United Breweries, Nestle to be outliers

Vinod TP, a research analyst at Geojit Financial Services also expects the IT industry to report muted QoQ growth in Q3 due to near-term challenges. However, he believes margins may improve led by cost-cutting measures, easing attrition and improvement in utilisation.

“Despite industry challenges, there is optimism in the sector, which is driven by anticipation of the end of the rate tightening cycle, which is expected to accelerate the resumption of delayed projects. Future attention is on new demand emerging from technologies like generative AI, machine learning and cloud computing, as well as new deal wins by the Indian IT companies during 2023. In context to the recent rally of the sector, IT may endeavour volatility in the short-term, however doesn’t foresee substantial weakening, offering accumulation strategy,” said the analyst.

Disclaimer: The views and recommendations above are those of individual analysts, experts and broking companies, not of Mint. We advise investors to check with certified experts before making any investment decisions.

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Published: 02 Jan 2024, 02:33 PM IST

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