Amid a challenging global economic landscape, Indian software giants have faced a tough climate in FY24. The first quarter was disappointing, with weak revenue growth and a cautious outlook due to macroeconomic uncertainties. 

The usual optimism around big deals and new spending was tempered in the earnings calls, with Infosys CEO Salil Parekh saying, “We see some clients stopping or slowing down transformation programs and discretionary work.” The ripple effects of the banking crisis in the US and Europe in March continue to be felt, and industry headwinds observed in Q4FY23 have persisted.

N.G. Subramaniam, the COO of Tata Consultancy Services (TCS), said, “Last quarter, we had called out the growing caution among clients, resulting in deferments and pauses in discretionary projects, particularly in North America and Europe. That has continued.”

‘Reduction in discretionary spending’, a phrase mentioned by all four – Infosys’ Parekh, TCS’ Subramaniam, Wipro’s Delaporte and HCL’s Vijayakumar – is key here for investors in Indian IT. What India’s tech companies are saying is that their clients are making only essential, ‘business-critical’ tech spends that keep processes running and the lights on. Beyond that, customers are re-looking at their tech priorities. The honeymoon of aggressive tech spending during the pandemic and right after, has clearly ended. 

The lacklustre performance was accompanied by a cut in revenue guidance. Infosys trimmed its FY24 revenue guidance to 1-3.5% in constant currency (CC) from its earlier estimate of 4-7%, due to lower discretionary spends. While HCL Technologies maintained its FY24 revenue guidance of 6-8% CC, Wipro guided its revenue to grow by -2% to 1% CC in Q2FY24. All companies share a wary outlook for FY24, given the hostile market conditions.

However, not all was bad this earnings season, as deal inflow was steady. A healthy deal pipeline aided TCS, Wipro and HCL Tech to rise in the stock markets after announcing their results despite weak performance.

Given the uptrend in IT stocks, barring Wipro, all the others have outperformed the Nifty 50 index over the past three months. However, all the software companies have lagged behind the Nifty IT index over the same time period.

Discretionary spending cuts hit revenue

Revenue growth was hit by falling discretionary spending and weakness in key verticals like banking, financial institutions, insurance (BFSI), communications and technology. Barring HCL Technologies, all other IT giants saw a decline in revenue from the BFSI segment. Also, spending cuts in major geographies like North America and Europe impacted growth.

Although all four companies saw revenue growth on a YoY basis, only Infosys and TCS’ top line grew on a QoQ basis.

Notably, revenue growth of these software players lagged the growth in total contract value (TCV) from deal wins, due to slower conversions and execution delays. In the near term, Indian tech will see moderate revenue growth as companies expect client spending on maintenance and cost optimization projects to remain steady, while discretionary spending is likely to fall.

For the companies in focus, net profits grew YoY but fell on a QoQ basis on the back of recent salary hikes amid softness in revenue growth. TCS led the pack in terms of net profit growth on a YoY basis, followed by Wipro.

Business-critical projects pad IT firms’ order books

The order books of most IT firms remained stable due to the demand for cost optimisation, digital transformation projects, and vendor consolidation deals. This offset the cutbacks  in technology spending and delayed decision-making. K. Krithivasan, the MD & CEO of TCS, said, “We continue to prioritise business-critical projects with faster ROI realisation.”

Except for HCL Technologies, all companies saw growth in their TCV both YoY and QoQ, with Infosys leading the pack. Its TCV grew by 35.3% YoY and 9.5% QoQ. However, HCL Tech’s net new deal TCV declined to $1.6 billion, a drop of 23.9% YoY and 24.6% QoQ.

Commenting on the decline, C. Vijayakumar, CEO of HCL Tech, said, “This quarter, our bookings came in at $1.6 billion, which was soft. Bookings are normally lumpy. We expect some spikes in the coming quarters to compensate for the drop in Q1.”

EBIT margins contract due to salary hikes

EBIT margins fell across the board on a QoQ basis as higher employee costs, travel costs and administrative expenses offset gains from lower subcontractor costs and higher utilisation. TCS saw the most significant decline among the big four sequentially.

Facing a challenging demand environment, IT firms are focusing on preserving their margins. They hope to achieve this through cost optimisation and better utilisation.

Despite lowering revenue guidance for FY24, none of the companies has cut their margin guidance. For instance, Infosys maintains its EBIT margin guidance at 20-22%.

Forecaster estimates moderate revenue growth in FY24

According to Trendlyne’s Forecaster, revenue growth is estimated to be moderate in FY24, with single-digit growth rates across the board. As the global slowdown impacts client spending, IT firms are determined to maintain stable revenue and protect their margins in FY24.

Despite the challenges, the CEOs are projecting confidence that they can handle the slowdown and expect to bounce back higher once the conditions improve. Thierry Delaporte, CEO of Wipro, said,” I'm confident that our long-term business strategy is correct and well suited to ride the changes we predict in the industry.”

In reality however, Indian IT faces multiple uncertainties, especially around AI, persistent inflation (which is coming down but still high in key markets), and caution around new spending by customers. Macro factors in the largest customer markets, and Indian tech’s own AI initiatives and acquisitions will be key to their recovery, and it’s something investors will have to keep an eye on in the coming quarters.

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.