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Indian IT Services – GFC redux?
* The sharp correction in Indian IT Services stocks recently, along with the broader markets, appears similar to the 2008 GFC. Tier I techs had fallen to 5-10x forward P/E and 0.6-2.2x EV/Sales multiple then, suggesting more downsides if that were to repeat.
* The industry had seen sharp sequential revenue declines in H2FY09; however, business began to recover from June’09/Sep’09 quarter. YoY revenue growth rates slipped sharply from the 30-40% YoY growth trajectory in FY05-07 and recovered significantly only in FY11. Tier-II techs saw more pain and underperformed on revenue growth recovery as well.
* We moderate FY21 growth estimate by 200-440bps YoY for our coverage universe by building in a weak H1FY21 and normalization from H2FY21 onward (although if a GFC-like situation were to repeat, these assumptions may turn out to be optimistic). We are making EPS cuts of 1.2-12.1% for FY21E for our IT Services coverage.
* We also change target prices based on new valuation multiples to reflect the potential risks to financials. Upgrade Wipro to Hold from Sell earlier, primarily due to inexpensive valuations.
Indian IT Services: GFC redux?
Indian IT Services stocks have corrected sharply in the last month due to the potential impact on global growth stemming from the Covid-19 pandemic. In this backdrop, we analyze if it is going to be a redux of the 2008 Global Financial Crisis phenomenon for Indian IT where the sector saw significant revenue drops in H2FY09 and significant valuation erosion (Tier I Indian techs went down to 5x-10x 1-yr forward P/E and 0.6x- 2.2x 1-yr forward EV/Sales; see charts below). During the GFC, Indian Tier-I techs had seen sharp sequential revenue declines in H2FY09 before seeing some stability from the June’09 quarter. Tier-II techs saw much more prolonged revenue/margin hits. Taking this into account, we moderate our FY21 growth assumptions by building in a weak H1FY21, but note that it is currently difficult to assess the extent of damage due to the fast-evolving situation.
Upgrade Wipro to Hold; cut target prices on lower multiples for coverage
We moderate revenue growth estimates by 200-440bps across our coverage universe (by building in a weak H1FY21). Upgrade Wipro to Hold from Sell, noting inexpensive valuations (<10x P/E, ~10% FCF yield). While we continue to maintain our preference for Tier-I techs over Tier-II techs, we would reassess our views on Tier-II techs shortly.
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