Global brokerage house Jefferies has downgraded six Indian IT firms amid concerns of recession in the US. The brokerage is cautious on the sectors and has downgraded Wipro, HCL Tech, Tech Mahindra, Coforge, L&T Infotech and Mindtree.
“Revenue growth for Indian IT firms is likely to moderate sharply by 340 basis points (bps) due to a recession in the US in fiscal 2023-24 (FY24). We lower our revenue and earnings per share (EPS) estimates by up to 15 percent to factor this and expect earnings cuts to drive further price-earnings (PE) derating for IT stocks,” the brokerage said in a recent note.
Jefferies has downgrade HCL Tech to ‘hold’ given its higher exposure to ER&D and products business as well as Tech Mahindra to ‘hold’ as it is likely to witness the sharpest earnings cuts due to slippage in margins.
Meanwhile, it downgraded Coforge to underperform as its large number of sub-$1 million relationships add risks to growth and Wipro to underperform due to risks of higher consulting exposure and slippage in margins due to acquisitions.
The brokerage also downgraded L&T Info to underperform. While its revenue mix is better versus the other mid-sized firms, the brokerage believes the integration risks with Mindtree amidst a recession are a concern.
In a recessionary environment, clients may fund their transformation programs by lowering discretionary spends, increasing large outsourcing deals and potentially consolidating IT vendors, Jefferies said. Hence, TCS and Infosys are better placed while Mindtree and Coforge are the worst placed, it noted.
While a sharp moderation in growth is almost certain in FY24, Jefferies believes that this recession is different in two ways.
"First, clients are undergoing large-scale tech transformation which might not be abruptly stopped. Given this, growth in global IT spending might remain above trend-rate beyond FY24. Second, Indian IT companies have emerged as strong transformation partners while maintaining their cost leadership, which should impact them less versus their global counterparts," Jefferies said.
Jefferies' top pick in the IT space is Infosys with a target price of ₹1,700 given its sector-leading growth and strong execution. Meanwhile, it added that TCS is better placed among the lot and has maintained a ‘hold’ rating on the stock despite rich valuations.
In 2022 so far, the Nifty IT index has tanked 27 percent as compared to a 6 percent fall in the benchmark Nifty amid fears of the global recession. All IT stocks have been given negative returns. L&T Info has cracked the most, down 46 percent followed by L&T Tech, which has lost 44 percent. Meanwhile, Tech Mahindra, Wipro, MindTree and Coforge have also declined over 40 percent each in this time. TCS and Infosys have fallen the least, down 16 percent and 22 percent, respectively.
Meanwhile, the Indian IT sector is likely to be dragged by margin and cross-currency headwinds amid concerns of recession in the US as well as overall rising inflation, brokerages said in their earnings preview.
Motilal Oswal believes that management commentary on demand will remain under focus across both Tier I and Tier II companies in the IT Services space.
According to MOSL, its IT Services coverage universe should witness modest median revenue growth in Q1FY23E, rising 3.3 percent QoQ. Growth in profit, however, will be impacted by wage hikes and supply-side pressure, despite a depreciation in the rupee, it added. Profit across MOSL's IT coverage universe is likely to decline by 2.8 percent QoQ.