Nomura sees tough days ahead for IT sector on challenging macro factors

The logo of Nomura Securities is pictured at the company's Otemachi Head Office in Tokyo, Japan, November 18, 2016. Picture taken November 18, 2016. REUTERS/Toru Hanai - RTSTQUW

Brokerage firm Nomura Research forecast a potential slowdown  for information technology services demand in fiscal year 2024. The brokerage firm also sees tough days ahead for tech spending amid fast challenging macroeconomics conditions, expected Fed tightening and profit warnings by corporates across the globe.

"We think enterprises’ willingness to spend on digital transformation will continue, but growth rates on spends are likely to decelerate constrained by revenue and earnings volatility," a Nomura Research report said.

It studied revenue and earnings profiles of 750 companies and that suggest a material slowdown in the overall financial performance in the upcoming quarters. It sees a strong correlation between financial performance of the sample set and IT services revenue with a lag of 1-3 quarters, indicating a potential slowdown for IT services demand in FY24F.

Nomura has lowered IT firms coverage universe FY23-24 EPS by 0-5 percent, mainly driven by slowing revenue growth. Its FY23-24 EPS are 2-3 percent lower than the street for large caps.

"We believe that the ongoing high inflationary environment and tight labour conditions in developed markets could further intensify the need to outsource. This, to some extent, should offset the potential hit on discretionary tech spending by the global enterprises in the wake of a weakening and uncertain macro-economic environment, in our view. Although we still expect growth rates in the Indian IT sector in FY23F to be strong (double-digit revenue growth), we believe uncertainty on the same continuing in FY24F is extremely high," the report said.

The brokerage firm has downgraded Tata Consultancy Services and L&T Technology from neutral to reduce. It also cut ratings on Wipro, HCL Technologies and Persistem Systems to Neutral from Buy. Infosys and Tech Mahindra are the only buy rated stocks.

Earlier, global brokerage firm JP Morgan has downgraded the Indian IT services sector to 'underweight' and cut the target price of multiples by 10-20 percent. The report said Indian IT growth was accelerating till the third quarter of 2022 and has begun to slow down from the fourth quarter, which is likely to worsen into FY23 from tougher comps, supply issues and eventually a worsening macro. With peak sector growth behind, growth deceleration should continue to weigh on sector multiples.