IT Q3FY20 earnings comparison: HCL Tech, Tech Mahindra and L&T Infotech lead the pack

Tier-1 IT pack delivered reported CC revenue growth of 0.4-4.3 percent QoQ. Among mid-tier companies, L&T Infotech (LTI) and Tata Elxsi surprised positively with strong revenue growth, led by a recovery in top accounts and broad-based growth across many verticals.

Barring Tech Mahindra, the EBIT margin of tier-I IT companies improved by 20-100 bps QoQ with a leading performance by TCS.

“While higher utilization, stabilization of subcontracting expenses and currency tailwinds helped companies to report better margin performance, the transition of large deals impacted the margin performance of Tech Mahindra,” the report said.

Total TCVs (total contract value) of large deals remained slightly weak in a seasonally soft quarter, with the exception of Tech Mahindra.

Further, Infosys and HCL Tech raised CC revenue growth guidance, while Wipro and L&T Technology Services provided in-line revenue growth guidance, according to Sharekhan.

The brokerage maintains a 'Neutral' stance on the IT sector.

It expects revenue growth rates for the industry to remain flat or slightly moderate in Q4FY20, owing to continued weak growth in BFSI, picking up of insourcing, budget constraint among disrupted retailers, Coronavirus and macro concerns.

“Weak growth in the BFSI vertical is expected to continue in the medium term owing to a slowdown in technology spends especially in capital markets and banking in the US and Europe, though Infosys and Accenture indicated gradual improvement of spending in North America,” the brokerage said.

The demand environment remains healthy, which is evident from the strong pipeline, availability of large deals and acceleration in core transformation works.

Sharekhan expects flat or slight moderation in the industry growth rate in FY2021E. On the margin front, the brokerage expects the pace of decline in EBIT margin to moderate in FY2021E because of scope for reduction in subcontractor costs, the slower pace of investments and expected better pricing for products or services.

The CNX IT index has moved up by around 8.8 percent in the past three months and outperformed Nifty by 7.5 percent in the same period due to a strong rally in stock prices of some IT companies.

The stock led by margin expansion, clean chit in whistleblower issues and bottoming out of certain client-specific issues, the report added.

“Infosys still continues to trade at a high 20 percent discount to TCS despite strong revenue growth acceleration over FY2019-FY2022E. HCL Tech is trading at a significant discount to its large peers and offer favorable risk-reward,” the report added.

The brokerage believes companies with the right set of services and capabilities are well placed to capture opportunities available in the market and are able to deliver growth in CY2020.

“Hence, we continue to remain selective in terms of our preferred picks in the IT sector, given leading revenue growth among peers from large deal wins, long runway for revenue growth, potential recovery in growth, and a reasonable valuation,” Sharekhan said.

Going ahead, key risks for the IT companies will be rupee appreciation vis-à-vis US dollar which would affect earnings estimates in FY2021E/FY2022E and stock performance. Weaker macros including potential for slower GDP growth in the US and trade wars and delay in decision making due to the upcoming US election will also remain key risks.

Sharekhan’s preferred picks among large-cap companies are Infosys, HCL Technologies and Tech Mahindra while it picks L&T Infotech and Tata Elxsi in the mid-cap space.