IT companies likely to report strong revenue in Q1, margins under pressure

Top Indian IT services companies are expected to report strong revenue growth of 2.3-4.3% QoQ in constant currency during the first quarter ended June, according to analysts. Tata Consultancy Services Ltd (TCS) will kick off the earnings season on Friday.

However, the peak revenue growth of Indian IT services companies is likely to be behind them and the momentum is expected to start softening from H2 FY23 on account of absence of large deal wins and clients postponing their technology spends. While the long-term demand environment remains unaltered, elevated inflation and an economic slowdown in the US and Europe is likely to impede growth by the second half of the fiscal.

“We anticipate Infosys to lead on organic revenue front with growth of 4.3% QoQ in constant currency, followed by TCS at 3.6% QoQ in constant currency. Growth in Tech Mahindra, Wipro and HCL Technologies is expected to be soft due to seasonal weakness and moderation in demand,” ICICI Securities said in a pre-earnings note.

Margins are likely to be under pressure due to wage hikes, higher backfilling costs, increase in travel/visa/other discretionary costs with the easing of travel restrictions, and back-to-office trends, said Emkay Research. “Due to cross-currency headwinds, benefits from rupee depreciation will be marginal in Q1.”

The brokerage firm expects Infosys to retain its annual revenue growth guidance of 13-15% in constant currency and EBIT margin guidance of 21-23% for FY23. HCL Technologies is also likely to retain its 12-14% revenue growth and 18-20% EBIT margin guidance range. Wipro should guide for a 2.5-4.5% sequential growth in constant currency with Rizing adding about 1% incrementally for Q2 FY23.

In the absence of large deal wins, smaller deals will drive deal intake during the June quarter. “ACV (annual contract value) of signed deals to remain strong. We expect the deal intake to remain healthy across companies in Q1, with an uptick in smaller deals (led by clients’ urgency to execute digital transformation deals quickly) driven by increased demand for cloud adoption, digital transformation and customer experience transformation deals,” Emkay Research said.

Management commentary on deal pipeline, decision-making cycle, reprioritization of spending, pockets of weakness, and deal closures will be key metrics to gauge confidence on growth continuity and better predictability.

The uncertainty in the global macroeconomic environment is making analysts cautious of the impact on the sector. “We will be watchful of any moderation in the demand commentary across both tier-1 and tier-2 companies in the IT services space. While our recent discussions with managements indicate continued momentum in spends on technology services, we expect initial signs of an impact in sectors like retail and manufacturing in Q1 FY23,” Motilal Oswal said.