BackIT sector recovery hopes pushed back to FY26; stock valuations attractive after recent correction, says Kotak Equities
The recent corrections in the IT stocks have made valuations more palatable and further correction can make some mid-tier IT stocks more interesting, analysts at Kotak Institutional Equities said.
PremiumThe Indian IT services companies reported subdued earnings for the fourth quarter of FY24 with muted revenue growth. While the outlook for weak demand and macro uncertainty has been extended, analysts believe the recovery hopes have been pushed back to FY2026.
However, the recent corrections in the IT stocks have made valuations more palatable and further correction can make some mid-tier IT stocks more interesting, analysts at Kotak Institutional Equities said.
The growth in the IT sector during the quarter ended March 2024 was primarily driven by ramp-up of large and mega deals and furlough reversals as the discretionary spending environment remained muted. However, revenue growth guidance for FY2025 (1QFY25 in Wipro’s case) missed expectations for all companies.
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Modest guidance was driven by weak discretionary spending environment—companies do not expect improvement in FY2025, continuation of ramp-downs in existing engagements although at a lower pace and slower conversion of pipeline to Total Contract Value (TCV) and revenue, Kotak Institutional Equities said in a note.
The extended outlook for weak demand by IT companies led to reset of both growth and margin expectations for FY2025. The reset led to muted growth guidance for all and weaker margin outlook for select companies, the brokerage firm added.
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On the margin front, Tata Consultancy Services (TCS) and Wipro fared better on margin improvement aided by strong execution on cost-optimization programs. Margin outlook reduced for mid-tier companies such as LTI Mindtree and Persistent Systems due to aggressive investments to capture market share.
Meanwhile, Infosys and TCS reported solid bookings powered by large and mega deals whereas TCV of Wipro and Tech Mahindra was muted. LTI Mindtree and HCL Technologies reported reasonable TCV but not enough to significantly accelerate growth in FY2025.
“Companies indicated slowdown in decision-making and spending reprioritizations by clients as reasons for muted TCV. Most of the large deals involved cost take-out themes," Kotak Equities said.
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However, despite plenty of stock action during results, its top picks in the IT sector remain unchanged. Kotak Equities likes Infosys followed by TCS and HCL Technologies in Tier-1 and Cyient in mid-tier.
“Infosys has reasonable growth visibility in FY2025 aided by large deal wins in the past few quarters and will stand to benefit disproportionately compared to Tier-1 peers when discretionary spending picks up. Stocks such as LTI Mindtree and Persistent Systems have come off from highs but still trade at expensive valuations. Further correction can make these stocks interesting," Kotak Equities said.
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Disclaimer: The views and recommendations made above are those of individual analysts or broking companies, and not of Mint. We advise investors to check with certified experts before making any investment decisions.
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