Over the past year, the Indian software sector was rocked by a global slowdown, worsened by high inflation. The collapse of key US banks and Credit Suisse in March 2023 only exacerbated the situation for IT companies, which rely heavily on banking and finance clients for revenues. 

The IT sector was a high-performing star in 2020 and 2021. That has changed since the start of 2022 - the Nifty IT Index has underperformed the Nifty 50 Index over the past year. 

During FY23, the global economy saw a slowdown as the US Federal Reserve raised rates in its battle against inflation. During this time the Nifty IT largely underperformed the Nifty 50, but moved in a similar trajectory. However, with the US banking crisis starting in March 2023, they have moved in opposite directions. 

As the global economy struggled, IT firms saw a decline in tech spending, leading to project slowdowns. Salil Parekh, CEO and MD of Infosys, said, “During the quarter, we saw unplanned project ramp downs in some of our clients and delays in decision-making, which resulted in lower volumes.”

Despite this, the demand for the cost optimization that technology brings, as well as digital transformation of businesses, and non-discretionary projects remained healthy. C. Vijayakumar, CEO and MD of HCL Technologies, said, “There has been some stress and uncertainty from the system, be it booking delays or ramp-up delays, but it's largely restricted to the discretionary spends.”

The quarterly performance has not enthused investors, as many IT stocks declined after their results were announced. Over the past three months, Nifty IT underperformed the Nifty 50 index, and most software firms declined. 

Along with its Q4 results, Wipro announced its largest-ever equity share buyback of Rs 12,000 crore, which represents 4.9% of its total equity. The buyback price was set at Rs 445, which was at a 19% premium of the last closing price (April 27) before the announcement. It looks like the management hoped to cushion the fall of its share price through this offer.

As for the outlook for FY24, all companies have an increasingly uncertain and cloudy future, at least in FY24. They anticipate the first half of the fiscal year to be marred by unfavourable market conditions but remain hopeful that the macro environment will improve during H2FY24.

Revenue grows YoY but is impacted by spending cuts

Despite clients cutting back tech spending, all the companies in focus have witnessed YoY revenue growth, with Persistent Systems leading the pack, followed by LTIMindtree. Among the tier-1 companies, HCL Technologies (HCL Tech) came out on top.

However, the ongoing banking crisis dampened revenue growth across the industry, as the North American and European markets are the biggest markets for Indian IT majors. To make matters worse, the crisis led to lower technology spending in the banking, financial institutions, and insurance (BFSI) sector, which is the largest vertical for most of these companies.

Persistent Systems and Tech Mahindra have a relatively lower exposure to BFSI, which has helped Persistent outperform its peers. However, it did see healthy growth in the segment, while its largest vertical, Tech & Emerging verticals, led growth in Q4.

In terms of net profit, Persistent leads the pack, but Wipro and Tech Mahindra’s profits declined 0.4% and 25% YoY respectively.  

IT giants miss Trendlyne Forecaster’s estimates across the board

Despite YoY revenue growth, the IT giants missed Trendlyne Forecaster’s revenue estimates. The recent banking crisis and the subsequent spending cuts across sectors led to a derailment in the firms’ growth trajectory. Only Persistent Systems managed to beat the Forecaster’s revenue estimates, albeit by only 0.1%. Mphasis missed it by the biggest margin among the eight companies.

In terms of profit estimates, HCL Technologies was the only company to exceed expectations in Q4, while Tech Mahindra missed it by a significant margin of 14.1%. Infosys came in second, missing the estimates by 6.6%.

Revenue growth is expected to be moderate in FY24

According to Trendlyne’s Forecaster, most of the companies in focus are expected to see revenue growth in single-digits. Only Persistent Systems and LTIMindtree’s revenues are estimated to grow in the double-digits, with a 17.8% and 11.9% YoY increase in FY24 respectively.

Among the big four, the guided revenue growth for FY24 has disappointed investors, to say the least. Wipro has provided a revenue guidance of -3% to -1% for Q1FY24,with no expected increase in EBIT margins. Infosys and HCL Tech have also set relatively low revenue guidance for FY24, with Infosys aiming for growth of 4-7%, and HCL Tech looking to achieve 6-8% YoY.

Persistent Systems is relatively more optimistic about its performance in FY24 despite the weak macroeconomic condition. It aspires to achieve above-industry revenue growth of 7-10% YoY in FY24.

Discretionary spending cuts and slower deal conversions weigh down order inflow

While project ramp-downs and a sharp fall in discretionary spending significantly impacted order inflow, leading to delayed deal closures, a healthy demand for cost take-out deals, digital transformation projects and vendor consolidation deals padded the companies’ order books.

Among the tier-1 firms, Tata Consultancy Services (TCS) and Wipro performed well in terms of deal wins in Q4. For both companies, the European market drove growth in deal wins. Wipro’s total contract of value (TCV) of deal wins surged 28.1% YoY to $4.1 billion, aided by its large deals’ TCV jumping 2.7X YoY to $1.1 billion.

Tech Mahindra performed the worst among the stocks in focus, given its high exposure to discretionary projects. Its net new deal TCV came in at $592 million, which is well below the management’s guidance of $700 - $1,000 million for Q4. The company’s net new TCV fell 25.5% QoQ and 40.8% YoY. Also, delays in deal bookings and slower conversions impacted Mphasis’ net new deal TCV, which fell 22.9% QoQ and 11% YoY.  

On the other hand, LTI Mindtree and Persistent Systems witnessed healthy traction in deal wins across segments. LTIMindtree’s order inflow for Q4 grew by 8% QoQ to $1.35 billion. Persistent Systems’ deal TCV grew 16.9% YoY on the back of strong demand from its top clients.

Attrition rates continue to fall while companies hit the brakes on hiring

Attrition rates continue to decline across the board as supply-side constraints ease and churn levels fall. All companies saw their attrition levels decline QoQ, with Infosys leading the pack.

On a YoY basis, except for TCS all other companies’ attrition rates fell. Tech Mahindra’s attrition dropped the most, by 8.7 percentage points YoY. Infosys and Persistent Systems came in second with their attrition falling by 6.8 percentage points YoY each.

Hiring has dramatically slowed down compared to a few quarters ago. In fact, many IT firms saw their headcount decline in Q4. This was due to their focus on reducing lateral hires and replacing sub-contractors with full-time employees. They filled up vacant positions with freshers to increase the utilisation of their bench strength.

Only TCS, HCL Tech and Persistent Systems increased their headcount, albeit by a small margin. All the other companies’ headcounts fell, with Tech Mahindra witnessing the biggest decline. The drop in employee strength has been attributed to falling attrition rates and lower lateral hiring, leading to rising internal fulfilments.

EBIT margins contract for most companies

The majority of IT companies’ EBIT margins either declined or stayed flat on a QoQ basis on the back of higher on-site employee costs, travel costs, and administrative expenses. Tech Mahindra cited currency headwinds for its EBIT margin contraction.

Only LTIMindtree’s EBIT margin expanded in Q4, growing 2.5 percentage points QoQ. This growth was driven by lower furloughs, lower integration costs and operational efficiencies.

On a YoY basis, only Persistent Systems, HCL Tech and Mphasis witnessed margin expansion. Persistent led the pack, with its margin growing by 1.4 percentage points YoY.

Companies expect subdued demand on account of economic uncertainty

The growth outlook for FY24 is conservative, with many IT companies expecting the weakness in North America and the slowdown in the BSFI sector to linger on. As a result, many clients in the space are being cautious about spending. The overall growth outlook for FY24 remains conservative, with critical or non-discretionary projects expected to drive most of the demand. 

Thierry Delaporte, CEO and MD of Wipro, said, “The macro environment continues to be challenging. Our clients, our industry, and many sectors are impacted by the prolonged uncertainty in this economic environment. These headwinds are impacting our business and projections as well.”

Although the outlook for the near term is gloomy, companies are optimistic about their medium-term prospects and expect a quick turnaround as economic conditions improve.

This analysis by Trendlyne is meant for investor education - to help understand companies and make informed investment decisions on their own. It should not be considered an investment recommendation.