The third quarter earnings season will kick start with the IT earnings next week. Given the near-term headwinds, delays in discretionary and dollar-rupee movement, what’s the market expectation? Most analysts believe that margins are set to improve and utilisations may move up but growth may stay muted.
Kotak Institutional Equities believes that the deal trajectory in Q3FY24 of the key IT companies reveals a surprising dip in wins from North America compared to the earlier quarters. In addition, no mega deals have been announced compared to six in the previous quarter. “While we acknowledge that publicly announced deal wins only account for a small fraction of overall deal wins, modest announcements, especially in the troubled North American geography, are surprising (as companies highlight record pipelines) and a tad worrying. Infosys continues to be our preferred pick,” elaborated the analysts at Kotak Institutional Equities.
Vinod TP, Research analyst, Geojit Financial Services, added, “The IT industry is likely to showcase muted QoQ growth in Q3 due to near-term challenges such as prolonged higher inflation & interest rate, delaying discretionary projects and slowing down future earnings growth. Valuations are above long-term average; however, margins are expected to improve led by cost-cutting measures, easing attrition and improvement in utilization. Despite industry challenges, there is optimism in the sector, which is driven in anticipation of the end of the rate tightening cycle, which is expected to accelerate the resumption of delayed projects.”
Given the recent run-up in stock prices indicates heavy expectations of a recovery in discretionary spending in CY2024E but Kotak believes that “A quick recovery in 1HCY24 does not appear likely. We bake in 0.8-4.2% qoq organic growth for the Jun-24E quarter for leaders, compared with a revenue decline of 1.3% to growth of 2.9% in the Jun-23 quarter. This requires support from both recovery in discretionary spending and large/mega-deal ramp-ups. Enterprises’ focus on cost reduction and weak deal-win announcements, particularly in North America, do not inspire confidence and lead to downside risks to growth estimates”.
Geojit analysts added, “While future attention is on new demand emerging from technologies like generative AI, machine learning and cloud computing, as well as new deals won by Indian IT companies during 2023. In context to the recent rally of the sector, IT may endeavour volatility in the short-term, however don’t foresee substantial weakening, offering accumulation strategy.”