Cautious outlook

Growth in the IT sector will be slow

The information technology (IT) industry is making a comeback in terms of popularity. But the Q1FY24 (April-June 2023) financials and the guidance received don’t seem to justify this. Management guidance by industry leaders — Tata Consultancy Services (TCS), Wipro, HCLTech, and Infosys — can be termed mildly, or at best cautiously, optimistic. However, investors have pushed up the IT index by 5 per cent in the past week after absorbing available Q1FY24 results and guidance. This could be classified as a relief rally because worse was expected. Some investors may also be simply over-optimistic, given the general momentum. The panic about macro weakness across North America and the European Union has declined. That’s good news. Churn has reduced. But there’s little visibility of strong rebound. Clients are clearly holding back on discretionary spending and avoiding projects without immediate return on investment.

In terms of new trends, while the initial adoption of generative artificial intelligence (AI) seems promising, the enterprise adoption of this new technology seems much more measured than the popular hype. Both Infosys and TCS have started pushing into this space. Macroeconomic challenges will continue to be a drag on near-term growth across the industry. The deal pipeline for now seems healthy with decent order inflows. But at best, the IT companies are maintaining their prior FY24 guidance and they have warned that orders will translate into revenue growth only late in FY24. Margin pressures were apparent across the Q1FY24 results, and may persist until well into the second half of FY24.

Infosys has cut the constant-currency revenue-guidance band for FY24 to 1-3.5 per cent (from 4-7 per cent) despite saying Q1 was stronger than expected and the company was receiving orders. Infosys has also deferred wage hikes for some employees. HCLTech maintains its prior guidance despite a relatively weak Q1FY24. Although it has deferred most scheduled wage hikes, there is cause for optimism in terms of strong order inflows. TCS also says the outlook has not changed much since Q4FY23. Wipro had an uninspiring Q1 and offered weak revenue guidance, indicating a potential drop in revenue in Q2FY24. It also warned that margins might come under pressure in the second half when it intends to institute deferred wage hikes. While attrition rates have dipped across large firms, the headcount declined quarter-on-quarter. TCS added a net of 523 employees to its headcount of 615,000, while Wipro reduced its staff strength by 8,812. Infosys saw a reduction of 6,940. The decline in HCLTech was at 2,506. Notably, Infosys has not released a hiring target for FY24, which is a break from normal practice and indicates caution. Infosys also referred to the reduced volume of work, especially in the banking and financial services industry, and also in telecom.

All the companies referred to better cost-efficiencies and better workforce utilisation. Infosys also referred to the transformative impact of AI within the company’s internal processes where 40,000 employees (out of 336,000) are being trained in handling AI. However, the disconnect between lukewarm guidance and the stock market response was stark. These companies are bellwethers with exposures across all geographies and verticals. It is thus likely that smaller IT services firms may be hit harder since they have fewer resources and are more skewed in terms of exposure.