Emkay Global Financial Services has released a note on the earning expectations for the Indian IT companies for Q2FY23. The research house expects a steady sequential constant currency revenue growth in Q2, but adverse cross currency would impact reported USD revenue growth. The revenue growth is expected to be 2.5-4.5% CC QoQ for Tier-1 IT services companies and of 0.1-5.3% for Tier-2 firms, in the Sep-22 quarter.
The EBITM would remain under pressure on YoY basis, due to continued supply-side challenges, higher backfilling costs and limited cost pass-through via higher pricing. The sequential EBITM trajectory would reflect the salary hike cycle. Due to cross-currency headwinds, benefits from rupee depreciation are likely to be marginal in Q2. The slowdown in demand is priced in valuation, although recession has not been captured fully.
Q2 likely to be a steady quarter, cross-currency headwinds expected
A steady sequential CC revenue growth is expected in Q2. However, adverse cross currency would impact reported USD revenue. Within their coverage, Emkay Global expects CC revenue growth of 2.5-4.5% for tier-1 companies (cross currency impact of 150-210 bps on reported USD revenue) and of 0.1-5.3% for mid-cap firms (cross currency impact of 40-190 bps on reported USD revenue). Q2 growth momentum would remain steady, but incremental data-points – like job losses/freeze at client organizations, an elongated sales cycle highlighted by some global software majors, etc – indicate a slowdown in coming quarters. Indian IT companies have also highlighted pockets of weakness (Mortgage, Retail, High Tech, E&U, etc) in recent months.
Emkay Global expects the usual seasonality in H2 growth to be amplified by a potential weak demand. The research house expects Infosys to retain its 14-16% CC YoY revenue growth and 21-23% EBITM for FY23. HCL Tech is also likely to retain its 12-14% CC revenue growth and 18-20% EBITM guidance range. Wipro should guide to 0-2% CC QoQ revenue growth for Q3FY23. Cross-currency movements remain adverse, with GBP, EUR, AUD and JPY depreciating by approximately 6%, 5%, 4%, and 7% QoQ, respectively, against the USD; this may weigh on reported USD revenue and margins.
Rupee depreciated sequentially, but adverse cross currency movement to limit margin benefits: EBITM is expected to remain under pressure on YoY basis due to continued supply-side challenges, higher backfilling costs, increase in travel & back-to-office related costs, and limited pass-through of costs through higher pricing. The sequential EBITM trajectory would reflect the salary hike cycle (Wipro, HCL Tech, Tech Mahindra, Mindtree, Persistent Systems, Birlasoft). Due to cross-currency headwinds, benefits from rupee depreciation will be marginal in Q2. Emkay Global expects supply-side challenges to ease to some extent in coming quarters which would support margin recovery. Most companies’ EBITM has bottomed out and will improve in coming quarters on a flattening employee pyramid, sub-con optimization, pricing and a weak rupee.
The key monitorables for the IT companies are
a. FY23 revenue growth/margin guidance
b. deferment or cancellation of projects due to macro uncertainties, high inflation and supply-chain disruptions
c. management commentary on any impact on tech spending from high energy prices and potential economic slowdown
d. segments exhibiting weak demand trends
e. demand trends in key verticals such as BFSI, Retail, Manufacturing and Communications
f. deal intake/pipeline in Q2
g. pricing environment amid high inflation and tight labour markets
h. margin outlook
i. supply-side challenges and attrition.
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