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EPAM trimmed its revenue expectations for CY2024. It now expects a revenue decline of 2% at the mid-point of the guided band, implying consecutive years of revenue declines. Management indicated that its earlier expectation of recovery in discretionary demand in 2HCY24 is unlikely to materialize, leading to a guidance cut. EPAM has been impacted due to pullback in discretionary spends and lower offshore delivery presence, as enterprises prefer ‘more work for the same spends’. Slower-than-expected demand recovery would impact Indian IT too, but Tier-1 IT’s strong play in cost take out mandates and healthy order book would offset some pressure.

EPAM lowers CY2024 outlook, suggesting prolonged demand weakness

EPAM cut its outlook for CY2024, guiding at c/c revenue decline of 0.9-3.1% in CY2024 (1-4% yoy growth earlier). At the mid-point, revised guidance implies a 4.5% cut to CY2024 revenues. Sequentially, EPAM expects modest decline in 2QCY24, followed by some improvement in 3QCY24 and flat-to-modest decline in 4QCY24. Factors driving a guidance cut are–(1) slower-than-expected recovery in discretionary spending, (2) deferral of signed deals or revision to more modest scope and (3) delays in pipeline conversion. EPAM now does not expect material recovery in discretionary demand in 2HCY24—an assumption management had three months ago, based on interaction with clients and positive macro assumptions.

Increased focus on ramping up delivery base in India

EPAM has higher delivery presence in nearshore and onsite. Pricing in nearshore is higher than offshore. In the current demand scenario with clients focusing on efficiency of spends, onsite and nearshore resources are deprioritized in that order, with increased preference for delivery from offshore locations. The shift in client priorities has prompted companies such as Endava and EPAM to scale delivery presence in low-cost locations such as India and LatAm. India is the second-largest delivery location for EPAM, with 14.9% of delivery professionals based out of the country (9.2% in CY2021). Endava acquired GalaxE solutions in February 2024 to strengthen its delivery presence in India.

Strong order book to cushion some impact of sluggish demand for Indian IT

Infosys and Wipro have relatively higher exposure to discretionary spends among Tier-1 IT peers. Infosys has multiple large deals that are yet to ramp-up and would contribute to 2.5-3.0% revenue growth in FY2025E. Tier-1 IT (1) has strong capabilities in executing large deals, which often involve multiple service offerings, (2) are optimizing resource costs, passing on some part of efficiency benefits to clients, as the deal matures and (3) faces a benign supply-side situation, with lower-than-normal attrition, enabling focus on operating efficiencies. This, coupled with healthy order books, should help navigate weak discretionary demand. We do not assume an uptick in discretionary spends in FY2025E. We prefer Infosys (BUY), TCS and HCLT (ADD). Mid-cap IT valuations remain stretched.

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