Strong rupee may hurt Q4 margins of Indian IT

With Rupee appreciating more than 3% since Dec 31, EPS of firms are expected to decline by 8%

Indian IT services firms may witness a dip in margins by up to one per cent if the rupee strengthens further and remains stable at Rs 65 against the US dollar, industry analysts say.

Companies such as Infosys and Wipro have struggled to maintain higher margins during the past few quarters owing to continuous pricing pressure and slow growth in digital technology adoption.

According to the analysts, during the fourth quarter of the last financial year, the value of a US dollar hovered around Rs 67 and Rs 67.5. If it improves to Rs 65, they say, these companies may see 100-130 basis point drop in margins.  “If the Indian rupee remains strong at 64-65 against the US dollar, IT services companies will see a decline in margins on a sequential basis. This will also impact the earnings per share by around five per cent,” says Madhu Babu, an IT sector analyst with brokerage firm Prabhudas Lilladher.

On Thursday, the rupee closed at 65.41 against the US dollar, strongest since October 30, 2015.

Babu says hedging cannot offset this impact if the rupee remains strong for longer period, as all the companies do a short-term hedging. 

Infosys, TCS and Wipro will announce their quarterly results on April 13, April 12 and April 25, respectively.

With appreciation of the rupee by more than three per cent since December 31, earnings per share of these firms are expected to decline by up to eight per cent across large and mid-size IT firms, says a Kotak Institutional Equities report.

“Indian rupee has appreciated by three per cent against the US dollar from December 2016 quarter average. Rupee has also appreciated against other currencies. This will impact estimated FY18 earnings of tier-I companies by five to eight per cent on unhedged basis. Companies most vulnerable are the ones with low profitability,” says an IT sector analyst with Kotak Institutional Equities.

Though the overall financial year 2017-18 looks promising, the report says, downside risks due to improvement of rupee valuation may reduce the growth opportunities in IT stocks.

“Assuming spot rate of Rs 65.64 against the US dollar for FY18, our earnings per share estimates for Infosys, TCS, Wipro, HCL Tech and Tech Mahindra have 5.8 per cent, 5.1 per cent, 5.4 per cent, 6.1 per cent and 8.5 per cent downsides respectively,” the report states.

IT firms, however, say a short-term rupee appreciation will not have big impact considering the hedging. “Unless the Indian rupee appreciation continues for a long time, it will not have a significant impact on our profitability,” says an executive with a mid-size Indian IT services firm.

IT services companies see lesser scope to overcome the impact of rupee appreciation with better employee utilization, since they have significantly improved it over the past year and hovers around “top end of the comfort zone”. 

“Tighter control on execution and delivery-efficiency measures can help (these firms) partially offset the margin impact but companies will be careful not to cut back on business investments, essential to ensure growth,” the Kotak report notes.