"IT" DOES NOT LOOK GOOD IN Q2FY17

By Ruma Dubey

TCS will declare its Q2FY17 numbers on 13th October and the succeeding day, 14th Oct, Infosys will reveal its Q2 numbers. Wipro is much later on 21st, the same day when mid cap stock, Mindtree also reports its results.

IT stocks, just like banking will be very much in focus this time as the outlook already has been predicted to be not very optimistic. Profit warnings have already come – first from Mindtree and then TCS too, followed by Infosys too.

In the first week of Sept, Mindtree stated that its performance for Q2FY17 will not be good. The company stated that its margins will be lower than expected, with revenue and EBITDA margins expected to fall, lower than Q1. The company has also warned that its Bluefin business is expected to show a loss at EBIT levels. It has also categorically stated that the savings from the various initiatives will not be enough to offset the topline slowdown. Thus overall H1FY17 will be much lower YoY.  The midcap IT company had posted a sharp 7% (QoQ) drop in net profit at Rs.123 crore and growth is revenue was flat at Rs.1328 crore v/s Rs.1320 crore in Q4.

Within three days on this warning from Mindtree, TCS also issued a similar disappointing note. It said that it was seeing some QoQ loss of momentum in its Banking and Financial Services Solution (BFSI) business in USA and warned that it was holding back its discretionary spending in the segment. This is not very good news as BFSI accounts for almost 40% of the company’s total business and we in fact saw this pressure come in during Q1FY17 itself. TCS also guided for an overall slower growth for Q2 on sequential basis. In the same vein, Infosys also cut its revenue guidance to 10.5-12 from the earlier 11.5-13.5%. It’s one big client, Royal Bank of Scotland cancelled a project in August due to business uncertainties and this is what could impact its margins.

Another big IT company though not listed on the bourses, US based - Cognizant, also issued a profit warning following its Q2 results. The company which follows the Jan-Dec fiscal lowered its revenue outlook for the entire year to $13.47-13.60 billion, which is a growth of 8.4 to 9.5%, much below Nasscom’s estimate of 10-12%. When the year began in 2016, Cognizant had been much positive and then, it had guided for a growth rate of 9.9-14.3% but after Q1 performance, it reduced it to 9.9-12.7%. Thus as the year progressed, it has only been cutting its growth estimates.

So what ails the industry? Three reasons. Firstly, when the year began, all IT companies had assumed that the US Federal Reserve will hike rates but soon it became apparent that it might either not happen at all this year or maybe in December. Those in the IT industry say that due to this, the net income of banks in US is suffering and they could have undertaken major budget cuts, which usually means no new technology or IT additions. This is what could have affected the BFSI sector and we will see it probably till end of 2016.

The second reason is Brexit. Currently in UK and Europe, major banking decisions are on a hold because of the impending Brexit , now scheduled for March’17. Till all negotiations are done and the banking sector is assured of support, where the ramifications of this exit do not become crystal clear, surely no bank will sign on new orders. Consequently, this too has affected the BFSI sector and the IT industry in particular.

Thirdly, the Indian IT companies have not participated in consulting led business and digital opportunities. The new players have tried to get a foothold but this is through new and often disruptive business models, not helping the large and mid cap IT companies.

Another reason is also on account of falling returns in their traditional services and this is something that we have been seeing over the past few quarters. Price to vendors has been falling, where despite higher costs, prices are fixed or even given at a discount. This trend of diminishing returns is expected to continue through 2016.

The bottomline – the outlook for the IT industry for Q2FY17 does not look good. TCS margins could come more pressure but Infosys and Tech Mahindra are poised to much better than the rest of the pack.