More pressure ahead for IT sector

companies sounded fairly upbeat, but it's not clear if the bad times are over.

In sequential terms, Infosys saw marginal revenue growth of 2.7 per cent to $2.65 billion (dollar constant currency), while it saw marginal erosion of profitability. Net was up about 1.3 per cent year-on-year (y-o-y), while net profits fell by 0.4 per cent sequentially to $541 million. Guidance remained at 6.5-8.5 per cent revenue growth (constant currency) for the financial year 2017-18. Operating profits beat gloomy consensus estimates, despite slipping 2.4 per cent sequentially (up 1.6 per cent yo-y). Attrition rates were up, to 21 per cent compared to 17 per cent in the previous quarter. The Operating Margin was around 24 per cent - about 0.5 per cent lower sequentially. Geographically, the largest growth came from India, which registered 14 per cent rise in revenues off a low base. (Infosys is handling the GST project). Total headcount declined by 1,800.

TCS’s quarterly dollar revenues rose 2 per cent sequentially in constant currency terms mainly on the basis of a strong 6 per cent growth in EU. Year-on-year revenues rose by 1 per cent. Net profits declined 7 per cent sequentially. Consensus estimates were low but the stock underperformed even those consensus. What's more TCS saw net decline in workforce (by about 1,400) for the first time in eight years. Operating margins declined by 2.3 per cent. The major growth area as such, was Digital, which contributed 19 per cent to overall revenues and rose by 26 per cent over Q1, 2016-17. The attrition rate was 12 per cent.

Brokerages did not change their stances much. One note of caution was struck when JP Morgan indicated that it was worried about soft BFSI revenues. The results make it obvious that neither of the IT giants has managed to fully operationalise responses to the growing trend of cloud based services and automation. For that matter, the fear of protectionism in the US and of disruption to Europe logistics due to Brexit, both remain. Given the HR trend, the fears that the IT industry will cease to be a job-generator and start downsizing manpower appear to be quite valid.

Based on these results, neither company would be valued very highly by any conservative investor. What’s more, it’s likely that the majority of IT services firms will register somewhat similar results. This means that at best, other listed companies will just meet consensus estimates. There's no obvious visibility of earnings or margin recovery and there are no obvious signs that the industry has moved into the next generation paradigms.

The IT industry has been hit by multiple factors ranging from the cyclical, such as a stronger rupee, to the geopolitical (Brexit, Trump's protectionist stances). The weighted average valuation of the Nifty IT Index is now at PE 16.5. It was at PE 18.5-19 just a year ago. The industry has been one of the few sectors to suffer capital loss in a raging bull-market. The index is down 6 per cent from July 2016, in contrast to the benchmark Nifty, which is up 15 per cent. Among the big stocks, only HCL Tech (up 20 per cent) is a gainer in the past 12 months.

A mass of IT companies will be declaring results soon. Although Infosys went up post-results and TCS has traded sideways, losses could be more likely than gains, across the rest of the sector.

TCS’s quarterly dollar revenues rose 2 per cent sequentially in constant currency terms mainly on the basis of a strong 6 per cent growth in EU