We forecast moderate growth rate improvement across many companies in our coverage universe, led by seasonal strength, large deal ramp-up and reducing intensity of cuts in discretionary programs. The EBIT margin performance will vary sequentially based on wage revision, but on yoy basis it will be steady or increasing for many. We expect Infosys, TCS, LTI, PSYS and KPIT to report robust sequential growth rates, while HCLT, Cyient and Mphasis will report muted numbers. Infosys, TCS and Coforge are our top picks.
Moderate improvement from an extremely low base
We expect a better sequential growth rate for many companies due to (1) seasonal strength, (2) ramp-up of cost takeout deals won in earlier quarters and (3) reducing intensity of cuts in discretionary programs, especially in the financial services vertical. Infosys will lead the growth among Tier 1 companies, with 2.5% qoq growth, followed by LTIM at 2.0% and TCS at 1.5%. Wipro and TechM will likely report flat revenues. On expected lines, HCLT will report 2% revenue decline qoq. Among mid-tier, KPIT (5.5%) and PSYS (3.5%) will report strong growth, while Mphasis (0.5%) and Cyient ((-)2.6%) will disappoint.
EBIT margins-stability for large cos, mixed trends for mid-tier companies
We forecast stable or increasing EBIT margins for large companies yoy, especially for TCS (140 bps yoy) and Wipro (60 bps yoy). Sequentially, margins will vary depending on seasonal factors and the wage revision cycle. TCS and HCLT will report qoq decline, whereas other large companies will report an increase. We expect a 30 bps qoq increase for LTIM, but a yoy decline of 170 bps due to investments to fund growth. The picture is mixed for mid-tier, with many likely to report a profitability decline yoy. This is down to upfront costs in large deals, a shift in mix of business and S&M costs. LTTS will report the sharpest yoy decline in margins at 160 bps.
Guidance-unchanged at Infosys and HCLT; cut at Cyient (DET)
We expect Infosys to retain its FY2025E revenue growth guidance at 1-3%. Required CQGR to achieve guidance after 1Q will stand at flat to 1.4%. EBIT margin guidance at 20-22% will stay unchanged. We expect HCLT to retain 3-5% revenue growth and 18-19% EBIT margin guidance band. We expect Wipro to guide for flat revenues at the mid-point, with a guidance range of (-)1-1% for the Sep 2024 quarter. Cyient's (DET) revenue growth guidance might be lowered to low-to-mid single digits, while its EBIT margin guidance is likely to be retained at around 16% for FY2025.
Infosys and TCS-top large cap pick; Coforge among top mid-cap picks
FY2025 will be a marginally better year on lower discretionary spending cuts. Cost takeout-driven large deals will contribute to growth. Our base case for FY2026 is recovery in spending, with continued benefits of cost takeout programs. Infosys is our top pick in the space, noting its ability to drive transformation and the cost takeout agenda of clients. TCS has the same characteristics and is among our key picks.
Moderate deal activity-higher onus on 2QFY25
Large and mega deal announcements have been somewhat below our expectations for most companies, except Wipro, courtesy the US$500 mn deal with a US telecom client. Most deals are driven by cost optimization mandates. We expect a reasonable large deal TCV of US$3 bn+ for Infosys. We expect muted growth or decline in TCV yoy for Mphasis, Coforge and TCS. While not impressive, TCV of TechM and HCLT will be significantly above 1QFY24 levels due to a low base. Timing of large deal signings tend to be volatile and hence, signings can bounce back for others in 2QFY25. Note that deal TCV was relatively weak for Infosys and HCLT in 1QFY24, but hit record highs in 2QFY24.
ERD services-auto remains robust, weakness elsewhere
Automotive OEMs continue to spend aggressively on technology transition, despite some moderation in sales volume growth for BEVs. Strong demand for auto ERD services has also attracted interesting moves by larger IT services peers such as HCLT and Infosys, acquiring European auto ERD services vendors over the past year. Tier-1 suppliers have been impacted due to the current disruption that is underway in the industry. KPIT should continue to benefit from strong relationships with top global OEMs. TELX and TTL will continue to leverage Tata Group relationships. However, demand in other verticals such as telecom and medical devices would remain weak. The aerospace vertical benefited from demand for aftermarket services over the past 5-6 quarters, but is seeing some signs of a slowdown. Spending on new product development programs would provide a fillip to revenue growth. Cyient (DET) and LTTS would report revenue declines qoq.
Key focus areas
- Recovery in discretionary spending and pace of decision-making. Macro and geopolitical uncertainties in FY2024 led to weaker discretionary spending and slowdown in pace of decision-making. We note some improvement in 1QFY24 in segments such as BFS, largely driven by a low base of the previous year. While the incremental cut in discretionary spend has moderated, an uptick appears unlikely with the delay in interest rate cuts and US elections on the horizon. Focus will be on indications of broader recovery in spending and pick-up in decision-making timelines.
- Order book conversion. Cost takeout is the underlying theme of most large deal wins. We expect the conversion of order book to improve as cost-focused deals ramp up and offset the incremental cut in discretionary programs.
- Hiring. Employee bench has been sufficiently optimized in FY2024, which is evident in higher utilization levels. Expect hiring to pick up to fuel incremental growth. We expect better fresher hiring for the industry in FY2025. We expect companies to make use of the benign supply side to onboard quality talent at reasonable wage levels. Increase in lateral hiring can also lead to a slight pick-up in attrition.
- Resource cost optimization. The median wage hike was healthy in FY2024, even as the overall increase in employee remuneration lagged, perhaps due to resource cost optimization measures. We expect cost structure repair to continue in FY2025, aiding in yoy margin improvement.
- Insourcing. While GCC ramp-ups will continue in the medium term, a higher portion of incremental spends can be channeled toward outsourcing partners than GCCs in FY2025. We believe excessive hiring immediately post-Covid limited the use of third-party providers, as utilizing excess in-house talent took a priority.
- Gen AI. Funding of gen AI PoCs and experiments is largely done through existing discretionary budgets. We believe a greater portion of spends are funneled through to AI platform providers, hyperscalers and consulting firms compared with IT services. Increasing productivity in software development and BPO services is one of the prioritized use cases, which can lead to revenue growth headwinds in the initial stages of gen AI adoption. Opportunities in modernizing data environments to support scaling up of gen AI initiatives can offset the impact.
Discussion on individual companies
- TCS. We expect 1.6% c/c qoq revenue growth. Our estimates include US$150 mn from the BSNL deal, a marginal growth compared with the March 2024 quarter. Revenue growth would be driven by a ramp-up in execution of strong order signings of earlier quarters. We expect weak revenues in financial services and telecom. We forecast a 140 bps qoq decline in EBIT margin due to wage revision and likely decline in utilization rates. We expect a 140 bps yoy increase in EBIT margin. We expect US$11-12 bn of deal wins, driven by a high rate of closures of cost takeout deals. Renewal component in deals will be higher, in our view. Focus will be on TCS's ability to leverage its strengths in 'Run' spends and outperform on revenue growth in FY2025E. TCS also has won quite a few mega deals, which can contribute to ~2.5% growth in FY2025E. We expect investor focus on (1) the outlook in the financial services vertical and any loss of share to insourcing at large clients, (2) state of spending in the impacted North American market, and the financial services, hi-tech and telecom verticals, (3) pipeline of deals, (4) state of discretionary spending and what would it take to revive the same, (5) impact of GCC ramp-up on growth of companies and (6) levers to defend and increase margins.
- Infosys. We forecast sequential revenue growth of 2.5%, led by (1) a ramp-up of multiple mega deals, (2) the one-off impact of 100 bps on revenues in the March 2024 quarter from rescoping of engagement with a financial services client-this provides a low base and effectively a 1% kicker to the June 2024 quarter's growth numbers and (3) reducing intensity of discretionary project cuts. We expect an 80 bps qoq increase in EBIT margin due to (1) the absence of the 100 bps one-off impact-at the same time, we expect normalization of ECL and post-sale client support provision, leading to a headwind of 50 bps-this leads to a net benefit of 50 bps and (2) lower visa and subcon charges and higher employee utilization rate. We expect large deal TCV of US$3 bn. The focus will be on translation of revenues of large deals signed in earlier quarters into revenues. We expect Infosys to retain its revenue growth guidance at 1-3% and EBIT margin guidance band of 20-22%. We expect investor focus to be on (1) translation of mega deals into revenues, (2) deal pipeline, (3) outlook in BFSI-an underperforming vertical, (4) discretionary spending environment, especially in impacted verticals and (5) senior management attrition.
- HCL Tech. We expect a 2% revenue decline due to impact of usual productivity gains in annuity deals and additional impact of offshoring of a large deal that ramped up from March 2023. We forecast a decline of 2.3% qoq in IT and business services, and 2.7% in products. The decline in revenues will have a corresponding impact on EBIT margin. We forecast 70 bps qoq and 10 bps yoy declines in EBIT margin. HCLT has disappointed so far in net new deal wins in FY2024, except for the US$2.1 bn mega deal with Verizon. This will be an area of investor focus. We forecast deal wins of US$2.5 bn. Expect the company to retain 3-5% revenue growth and 18-19% EBIT margin guidance for FY2025E. We expect investors to focus on (1) the reasons for weak deal wins (adjusted for Verizon contract) over the past four quarters and its implications for revenues, (2) 2QFY25 revenue growth indication, noting likely hit to revenues from divestment of State Street JV, (3) recovery in discretionary spending in the services segment and (4) environment required to hit aspirational margin band of 19-20%.
- Wipro. We expect flat revenues for the quarter. Revenues will be above the midpoint guidance of (-)1.5-0.5%. We attribute relatively strong performance to strength in CAPCO and likely recovery in the Americas market. We forecast a 30 bps increase in EBIT margin qoq due to cost containment and efficiency measures. We expect strong deal signings after multiple quarters of disappointment. Wipro announced its first mega deal since 2021 in the communications vertical. The company has signed other deals as well, besides the mega deal announced recently. We expect revenue growth guidance of (-)1 to 1%. We expect growth in Americas to be offset by weak Europe and APMEA. We expect investor focus on (1) reasons for continued senior leadership attrition, (2) efficacy of measures taken by the new CEO to turnaround business along with progress on five focus areas, (3) sustenance of green shoots in the consulting business (Capco and Rizing), (4) positioning in cost takeout and vendor consolidation deals where Wipro can be vulnerable and (5) margin levers to meet aspirational margin level of 17%+.
- TechM. We forecast moderate growth of 0.4%, led by the manufacturing and hi-tech verticals. We forecast weak revenues in the communications vertical due to a seasonally weak Comviva impact. We forecast a 110 bps EBIT margin increase, resulting from marginal growth and efficiency measures. We expect steady net new TCV of US$500 mn. This needs to accelerate to improve to drive revenue growth. We expect quarterly financials to have a limited sway on stock performance in the near term, with focus entirely on medium targets laid by the CEO. We expect investors to focus on (1) measures to improve margins to 15% by FY2027, (2) health of the telecom vertical, a segment in which many peers have announced mega deals, (3) growth in the keenly watched financial services vertical, (4) health of the deal pipeline and positioning in cost takeout deals and (6) any revenue leakage in existing accounts and positioning in vendor consolidation events. |
