Not all gloom for IT shares

An excited Atul tells his friend Neeraj that his IT shares have done very well and he is very happy about it

Neeraj told him to calm down and asked whether he had seen the results of Infosys. The company has halved its annual growth guidance and shares have fallen. Hearing this Atul got concerned and said that he doesn’t own Infosys shares. Then he asked about the outlook on the other companies in the sector.

Barring 21 July, in last 1 month IT index has performed well. Despite fall in Infosys shares after the results, In last one month IT shares gave return of 5% as compared to 3.5% return given by Nifty. That too at a time when results of IT companies were either in line with market expectations or below it.

Now let us see what we can infer from the results of IT companies. Starting with TCS results, its QoQ profit has fallen 2.8% to come at Rs 11,074 crore. In march quarter it was 11,392 crore. However, profit has remained above the expectations as it was Rs 10,866 crore.

Company’s earnings, operating profit, operating margin and dollar profit came in line with expectations. Quarter on Quarter, order book of the company increased from $10bn to $10.2 bn which provide long term revenue visibility.

HCL Tech has performed poorly on all the parameters. However, the company has maintained its FY24 guidance. For FY24, company stated 6-8% constant currency revenue growth. While it has given EBIT guidance of 18-19%. Due to headwinds, HCL Tech has decided halt management level increments which is big chunk of employee cost. Besides this, increments for other employees has been postponed until 3rd quarter. This will support profit in short term.

Result of another IT major Wipro has also disappointed as they came below expectations. The company’s profit has declined 6.7% QoQ to come at 2,870 crore rupees. While analysts generally estimated Rs 2,980 crore profit. Similarly, the results of LTI Mindtree and Tata Elxsi have also remained below market expectations.

Now the question is, why IT index performed well despite poor results? So there are a few important factors for that. Let’s have a look at them

The First reason is that the market was not very optimistic about the results, to begin with. The first quarter is generally strong for IT companies but this time troubles in the BFSI sector along with high interest rates in US and Europe led to pressure on earnings. Customers are focusing more on cost and efficiency-driven projects while non-critical projects are being kept on hold. This is impacting the demand for IT companies.

The second reason is that besides Infosys, no other company has reduced its earnings guidance for a whole year. Despite poor performance in the 1st quarter, most of the companies have not reduced their annual guidance. Meaning these companies hope that in coming three quaters there will be recovery.

The third reason is that big deals pipeline of these companies is very strong. Total contract value of TCS has remained above $10 billion for second straight consecutive quarter. TCV of HCL tech came at $1.57 which is weak but the overall pipeline is at a record high. Wipro’s TCV has remained above $3 billion for 3rd consecutive quarter and is highest in 8 quarters. LTI Mindtree has added 19 new customers in 1st quarters and now its total customer count stands at 723. During the quarter, company has added 7 customers with more than $10 million and 2 new customers with more than $20 million. While Coforge has got record $531 million orders in June quarter.

The fourth reason is that valuations of IT companies are not that expensive. As in last 6-12 months, IT index has underperformed the Nifty.

The fifth reason is that after results we have not seen huge downgrades from brokers. Brokers feel that even though rally in shares may not last for long but their downside is also limited. Some brokers have even changed the rating on the sector from underweight to neutral.

Now let us see what will be the outlook for the companies ahead. As per brokerage house Nuvama, due to cut in discretionary spending by companies there can be decline in FY24 earnings. However this is already expected and factored in the share price. Also in FY25 there can be an increase in growth because demand for the whole sector can be strong and stable.

So, overall we can say that despite poor results. The outlook of the companies looks strong. Overall, demand for the whole sector can remain strong. Valuations of shares are attractive meaning shares are currently available at a stable price. In such a case, from the long-term point of view, you can gradually buy the shares.