Investor Caution in IT Stocks

Rupee depreciation and cost control seems to have helped in margins inching up. Companies activated a few levers to defend margins….reports Asian Lite News

Early results from the information technology (IT) and banking sector present a mixed picture. A lot of the worries ahead of the results have proved to be right.

IT companies reported sluggish topline growth due to delay in execution (largely at the client end) but margins improved.

Deal flow was also healthy — total contract value (TCV) of deal wins were at a record high; however the execution period of the deals seem to be longer and hence revenue growth visibility remains muted.

Cancellations, delays and reprioritisation continue to impact discretionary spending. This situation can continue till the geo-political events settle down that could help in eliminating fears of growth slowdown or recession.

Rupee depreciation and cost control seems to have helped in margins inching up. Companies activated a few levers to defend margins.

These include raising utilisation rates, increasing productivity measures, lowering average cost of resources, further cutting subcontracting costs and managing selling, general and administrative (SG&A).

Attrition seems to have come under control, helping the companies plan their resource allocation well and keep manpower costs under control.

The spread of artificial intelligence (AI) and machine learning (ML) has brought some bit of uncertainty in client decision making and over time one may see IT companies concentrating more on digitisation and AI implementation and leaving the lowly jobs to unorganised players.

This could create uncertainty on manpower addition plans for most large companies but can lead to better per employee revenue over time. Other risks include any further unanticipated deterioration of demand and the costs of return to office.

Company managements have been cautious in guiding growth in topline and margins. IT stocks don’t seem overvalued but lack triggers for the upside in the near term.

IT companies have finally bitten the bullet and gone for aggressive cost rationalisation, many mega-deals have been closed; however the visibility of an improvement in discretionary spending is still not bright.

Investors will wait for the global technology spend to resume in a normal way before they become excited about this space.

Most banking companies (though quite a few large banks are yet to come out with results) have reported fall in CASA ratios as depositors moved funds to term deposits to avail of the current high FD rates.

Deposits have grown at a slower pace suggesting struggle for funds without raising the rates too aggressively.

Cost of funds has risen faster than yield on advances resulting in a squeeze in net interest margins (NIM).

Asset quality has remained steady but fear of higher non-performing assets (NPA) from the unsecured personal loans and agriculture/MSME segments has been highlighted by some banks and even the Reserve Bank of India (RBI).

Festival season may see higher disbursement by banks as consumers open up their wallets to spend on durables, travel and other purposes.

Banking stocks currently seem to be over owned and hence may underperform in the near term.

Banking services are headed towards getting commoditised.

Only when the competitive scenario stabilises, asset quality fears subside and liquidity situation improves, investors may once again become interested in upping their holdings in banking stocks.

(Deepak Jasani is the Head of Retail Research, HDFC Securities Ltd)

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