Rating- attractive; IT services- Digital spending to continue in long term

Rating: attractive; IT services: Digital spending to continue in long term

TCS and InfosyS both reported earnings with two common factors, though Infosys was a bigger surprise compared to TCS. These factors include a decline in demand from North America, with some discretionary programmes being put on hold or cancelled, as well as challenges in flexing margin levers due to sticky near-term costs at the start of a slowdown. While we acknowledge the heightened headwinds that may affect multiples in the near term, our long-term perspective on margins and growth remains unchanged. Stocks to avoid are the ones trading at premium multiples after assuming elevated growth and margin assumptions. The slowdown was sharper than expected. Infosys and TCS reported q-o-q revenue declines of 3.8% and 0.8%, respectively, in North America. The revenue decline in North America was across verticals on a sequential basis. The reasons for the decline were a pause in discretionary programmes and even cancellations. After a slow start in January, projects were paused in February and it continued in March.

The banking crisis in US regional banks and European banks in March 2023 has induced greater caution and could impact the June quarter. Kotak expects FY24 to remain weak for IT firms.

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In response, companies may pursue cost optimisation measures, including opportunities related to cloud and SaaS consumption. TCS and Infosys are best positioned. HCLT and LTIM can benefit in select cases. Similar cost take-out opportunities, but among smaller enterprises may be addressable by a larger pool of companies. Many other companies will struggle—growth between leaders and laggards should widen in FY2024 and beyond.