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Indian IT's stop-start recovery

Growth remains uneven, but early signs of stability welcomed

* 1QFY26 has been an uncertain, albeit better-than-expected quarter for IT services, in our view. While a host of geopolitical events as well as tariff uncertainty would have played spoilsport on notable deal signings, widespread client deferrals/ ramp-downs have largely been avoided. We expect 1Q numbers to reflect this reality: QoQ revenue and deal TCV across large-caps could be unexciting (expect QoQ cc growth range of -2.5% to +1.5% for large-caps. Midcaps are expected to outperform once again with a growth range of -2.0% to +7.0%). A weak dollar against a basket of currencies will lead to 100-200bp of QoQ cross-currency tailwinds, aiding estimates.

* Outlook on deal signing in 2QFY26 and beyond will be crucial. While this environment is not conducive to discretionary spending, we expect client enthusiasm to pick up, as serious GenAI projects, especially around productivity gains, start picking up and clients shrug off the uncertainty to focus on critical upgrades.

* On margins: We expect margins to be range-bound and supply-side pressures to remain muted; however, meaningful margin gains are restricted by low growth, visa costs and pressure from a strong INR vs USD.

* As argued in our note (dated 28th Apr’25: What lies ahead for Indian IT: The good, the bad, and the unlikely), a major re-rating for the sector hinges on the emergence of a new tech cycle and meaningful earnings upgrade. The set-up for IT services stocks, selectively, however, looks good: a US fed rate cut cycle on the horizon, a seasonally strong 1HFY26, and improving deal win rates, especially for a few mid-tier firms. Valuations across the sector are also palatable: not cheap, but there is room to expand if earnings and outlook spring a surprise.

* Our top picks earlier in the year have focused on bottom-up execution and revenue visibility (view our note dated 11th Mar’25: Recovery stuck in second gear). We believe there is a chance to look at more "risk-on" stocks now, with improving deal outlook and good vertical exposures. Our top picks in the largecap space remain HCLT and TECHM. We could turn constructive on Infosys if commentary/guidance meaningfully improves and deal wins pick up. In midcaps, Coforge remains our top pick, and we also like LTIMindtree in an improving environment. A materially better deal TCV outlook for MPHL could prompt us to upgrade our rating on the stock. Persistent’s execution remains the best in class, but admittedly potential for re-rating is now restricted.

? For 1Q, we expect aggregate revenue for our coverage universe to grow by 6.0% YoY, while EBIT and PAT are likely to grow at 7.0% and 6.5% YoY (all in INR terms), respectively.

Growth expectations across our coverage

* We expect TCS and HCLT to report QoQ cc revenue decline of 0.5% and 1.2%, respectively, in 1QFY26. INFO is anticipated to clock 1.5% growth, driven by recent deal ramp-ups and 20bp inorganic contribution from its recent acquisition. Meanwhile, TECHM/WPRO are likely to post QoQ cc revenue decline of 1.0%/2.5%. LTIM could deliver 1.5% QoQ cc growth, driven by deal ramp-ups and seasonally strong 1Q.

* Among mid-tier firms, we expect COFORGE to lead the pack with ~7% cc QoQ revenue growth, driven by strong organic momentum and steady ramp-up of the Sabre deal, along with contributions from recent acquisitions. PSYS/HEXT are also likely to deliver 4.0%/2.2% cc QoQ growth, while Mphasis could post 1.5% cc QoQ growth.

* We expect Cyient DET to report yet another weak quarter, with QoQ cc revenue decline of 2.0%. We are factoring in a cross-currency tailwind of ~100-150bp for most companies.

Margins a mixed bag

* We expect TCS EBIT margins to remain flat QoQ, with some pressure from talent investments and constrained operating leverage. HCLT’s margin may decline 50bp QoQ, in line with the typical 1Q software seasonality reset similar to prior years. Infosys may see a dip of 10bp due to wage hikes (effective Apr’25) for senior pyramid levels and ramp-up of large deals.

* LTIM’s EBIT margins are likely to improve by 60bp QoQ as visa-related headwinds are offset by operating leverage.

* Among mid-caps, Coforge margins may rise to 14.0% (80bp up QoQ) as most one-offs are now behind. HEXT margins are expected to stay flat QoQ at ~14.3%, with ERP costs phasing out by end-Jun’25. LTTS may see a 40bp QoQ margin dip, due to the ramp-up of large deals and muted revenue growth.

HCLT and COFORGE remain our top picks

* Our top picks earlier in the year have focused on bottom-up execution and revenue visibility (view our note dated 11th Mar’25: Recovery stuck in second gear). We believe there is a chance to look at more "risk-on" stocks now, with an improving deal outlook and good vertical exposures. Our top picks in the large-cap space remain HCLT and TECHM. HCLT benefits from its all-weather business mix, which should support growth in the current environment. We could turn constructive on Infosys if commentary/guidance meaningfully improves and deal wins pick up.

* In mid-caps, Coforge remains our top pick, and we also like LTIM in an improving environment. MPHL’s recent strong TCV wins and healthy conversion trends lend confidence to the near-term momentum. A material improvement in its deal TCV outlook could prompt us to upgrade our rating on the stock.

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