Published on 7/05/2019 1:57:25 PM | Source: Reliance Securities Ltd

IT Sector - The Month That Was For IT By Reliance Securities

Posted in Broking Firm Views - Sector Report| #IT Sector #Sector Report #Reliance Securities Ltd

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The Month That Was For IT

Here goes our fourth edition of our monthly series of “TechAways” for the month of Apr’19. As with the previous three editions, our attempt is to provide a comprehensive brief on major happenings in the Tech sector, including industry dynamics, financial results and outlook, industry analyst ratings, deal wins, acquisitions, partnerships, management interviews and changes in consensus estimates over the month. As was the case in Mar’19, we have divided the report into sections, namely (1) Company/sector/event updates; (2) Financial results; (3) Company partnerships/strategic alliances; (4) Product/service updates; (5) Acquisitions and takeovers; (6) Management interviews; (7) Industry analyst ratings; (8) Industry analyst comments on IT sector outlook; (9) Customer/Deal wins; and (10) Others such as visa-related news and management appointments.

For Apr’19, major developments include: (1) ISG Index commentary on global sourcing market for CY19 with digital tailwinds to keep the global sourcing market on a growth trajectory, albeit with clouds on the horizon, in the form of a potential US slowdown in 2H and slowdown in Europe and China; (2) financial results of major IT firms including TCS, Infosys, Wipro, Mindtree and Hexaware, with the outlook appearing to be decent for FY20E revenue growth, albeit with an attendant share of margin headwinds in the form of wage inflation due to skills shortage, greater onsite delivery cost and currency headwinds; (3) TCS, HCL Technologies, Accenture and Atos partnering with Google Cloud; (4) Infosys partnering with Huawei for developing its Cloud ecosystem; (5) Accenture in its usual acquisitive mode, buying out 5 companies with skills ranging from consulting to digital marketing; (6) PE firm, Baring acquiring 30% stake in NIIT Technologies with an open offer to acquire another 26%, signalling interest in the Indian midcap IT space; (7) appointment of Brian Humphries as new CEO by Cognizant; and (8) interviews by IT firm CXO-level executives including TCS, Wipro, Hexaware and Persistent Systems, among others. There are >110 articles and reads relating to sectoral developments during the month. Happy Reading!


RSec Company/Sector/Event Updates

ISG Index – Digital Tailwinds to Sustain; But Clouds on the Horizon: Digital tailwinds are likely to keep the global sourcing market on a growth trajectory in CY19, according to the latest industry report from Information Services Group (ISG), the ISG Index. However, there are clouds on the horizon, in the form of a potential US slowdown in 2HCY19, apart from slowdown in Europe and China. This, along with a slow start in the Americas has led ISG to slash its forecast for traditional sourcing growth to 3.2% from 4.5% earlier, though it maintains its forecast of 25% annual growth for the As-a-Service (AaS) segment led by Infrastructure-as-a-Service (IaaS), given that digital investments are at a nascent stage and enterprises continue to transform their IT infrastructure. From broader perspective, these numbers and forecast suggest growth is likely to be decent in FY20E with the potential slowdown in 2HCY19 likely to impact FY21E outlook for Indian IT players. Given the highly volatile macroeconomic situation, we believe it is necessary to track this on an ongoing basis and it may not be easy to take a nuanced view on FY21 at this stage in light of constantly changing global factors.


March 2019 Financial Results – Mixed Bag; Revenue Outlook Decent, Margin Challenges Ahead

April 2019 marked the start of the 4QFY19 earnings season and FY20E growth outlook. Major top-tier and mid-tier IT firms including TCS, Infosys, Wipro, Mindtree, Hexaware Technologies, Cyient and Persistent Systems all reported their financial results and outlook for the fiscal year ahead. While revenue outlook appears to be decent for most companies, it is the margin profile that is of concern on the back of skills shortage, rising attrition, increasing onsite delivery cost and currency volatility. In a nutshell, even as revenue growth outlook appears to be better for FY20E vis-à-vis FY19 in CC terms, it is the margin trajectory that is of importance, given that Infosys and Cognizant have both given much lower margin guidance.


BBG Consensus Estimates – Moving Southward Post Results

Among the top-tier IT firms that have announced their 4QFY19 results, TCS saw marginal changes of 0-1% in revenue, EBIT and EPS, while Infosys saw 1-5% cut. Wipro saw 1-3% cut in revenue and EBIT, and 2-4% EPS upgrades. Among mid-tier firms, Mindtree saw 1-2% cut in estimates, Cyient 1-9% cut and Persistent 1-5% cut. Clearly, post results, consensus estimates have trended southwards signifying already healthy baked-in FY20E/FY21E estimates for the Indian IT sector. While we await results of other IT majors, prima facie it appears unlikely that there is any major scope for earnings upgrades, going forward.


Sectoral Outlook

While we expect sustained digital investments by clients, challenging macroeconomic scenario, US slowdown and Europe issues could play spoilsport, apart from significant challenges to margin defence. Stock prices have also risen over the past year, leading to limited upside. Given maturing of the offshore model, higher base for growth and margin challenges, we believe top-tier Indian IT firms can be viewed as defensive plays, given high cash flow generation and use of buy-backs for cash return, driving higher RoE and EPS. Increasing acquisitive activity could drive further upside in terms of valuation multiples. TCS and HCL Technologies are our Top Picks in the top-tier space, while Hexaware andSonata Software are our preferred mid-tier picks.


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