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IT firms to see growth bounce-back in Q2 at the back of digital transformation

Analysts say demand has normalised to pre-COVID levels with discussions being revived for deferred deals as well. However, they say pricing pressure may resurface. The Q2 earnings season will start on October 7, with TCS results.

October 08, 2020 / 12:29 PM IST

Increased tech spending by clients in digital transformation and the resulting deal momentum will drive growth for Indian IT services for the quarter ending September 2020, say analysts.

This optimism was what reflected in the rally of Indian IT stocks that jumped by 50 percent, on an average, between March 2020, when the pandemic struck, and September 2020.

TCS will kick off the IT firms’ earnings season on October 7, followed by WiproInfosys and HCL Tech on October 13, 14 and 16, respectively.

What can we expect?

Growth: Q2 saw better deal momentum across IT services firms, aided by vendor consolidation and increasing spend as clients shifted to the digital sphere in a short period of time.

For instance, Infosys closed two significant deals, Vanguard and Consolidated Edison, for digital transformation. TCS won deals from life insurance and pension consolidator Pheonix  Group for client analytics tool,  and retail firm Morrisons. Wipro won an automotive software engineering deal from Marelli and HCL Tech the Ericsson deal.

Girish Pai, Head - Research, Nirmal Bang Securities, said in a note that these clients shifted the spending from internal  IT , selling, general and administrative (SG&A) and hardware, to outsourcing and digital. This means that global clients prioritised tech spend to speed up the digital transformation processes such as migration to cloud.

Mohit Sharma and Heenal Gada, research analysts, Motilal Oswal, a brokerage firm, said in a note that demand has normalised to pre-COVID-19 levels with discussions being revived for deferred deals as well. The analysts further added that with utilisation returning to pre-COVID-19 levels, margins are expected to be resilient as well.

This will reflect in improved growth compared to the previous quarter.

A case in point is the mid-quarter update from HCL Tech, where the company increased its revenue guidance for the July-September quarter from 1.5-2.5 percent to 3.5 percent. Brokerage firm HDFC Institutional Research pegs that the IT sector is expected to grow 3.2 percent in Q2 as opposed to a decline of 6 percent in the June quarter.

Pricing pressure may resurface

One of the main concerns for IT firms as COVID-19 hit was pricing pressure. However,  by June 2020, it was not as much of a concern as it was in April.  Sudheer Guntupalli and Hardik Sangani, research analysts, ICICI Securities, in a note, pointed out that it was thanks to the timely support central banks across the world extended to enterprise balance sheets.

“However, in the context of the continuously evolving nature of the pandemic and the asymmetric administrative response across economies, the possibility of pricing pressure coming with a lag cannot be ruled out. As enterprises reprioritise core spends, we expect some of it to manifest in the form of requests for discounts,” the note added.

Hiring, employees

For the quarter ended June, the top four IT firms’ collective headcount declined by 9,000. This is one of the biggest contractions in hiring these companies have witnessed in a single quarter.

TCS saw a decline of close to 5,000 in Q1, while Infosys recorded a decline of 3,000. Wipro saw a drop of 1,000, while HCL Tech’s net hiring figures remained largely flat, with a decline of about 150 people. IT executives had attributed this to low attrition and hiring freeze. The firms also did not onboard freshers.

The IT leadership commented that the numbers are likely to increase in Q2 as July saw freshers being on-boarded and resumption of lateral hiring. Headcount would be the key to watch as analysts had suggested that performance- related layoffs are likely to increase amid the pandemic.

Swathi Moorthy
first published: Oct 6, 2020 01:18 pm