Indian IT companies face structural headwinds to margins, says JPMorgan

JPMorgan is worried about the topline and margin prospects of Indian IT companies. The firm believes that the impact of slowing demand will reflect in the next few quarters.

The brokerage, which has an underweight on the Indian IT sector, expects margins to remain "meaningfully below" the long-term trend due to high onsite inflation, return of travel costs, limited price hikes, underwhelming graduate uptake and a reversal in employee-employer bargaining power.

“The real point is how long can these companies keep these very low margins, how long will it take for them to recover margins? That is where we think there is a lot more structural pressure on the margins,” said Ankur Rudra, Executive Director, Technology & Telecom Research at JPMorgan told CNBC-TV18 in an interview.

The Nifty IT index is the worst performing sector this year, declining over 30 percent as concerns over growth and demand in key markets have returned, prompting profit warnings from some top global companies. This has led to divided opinions on the street regarding future prospects of Indian IT companies.

Despite the correction, Rudra still finds valuations of some companies to be very high, which remains the challenge.  “For a significant proportion of the companies, especially some of the large companies and many of the midcaps, valuations remain significantly higher,” he said.

All eyes are now on the fourth quarter results of Accenture on Thursday which are particularly important as Indian companies like TCS, Infosys and Wipro follow a similar demand cycle. Rudra believes that Accenture's commentary for the upcoming fiscal year will be an important metric to get a sense of incremental demand.

“Even if Accenture really does well, we will have to see if it comes from consulting or technology outsourcing and how much of that is relevant for the Indian IT companies,” he said.