[Investors Please Listen] IT Services Sector ; Waiting to hear; Time to tone down optimism???

IT Services Sector

 

Waiting to hear; Time to tone down optimism???

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Expect sobering commentary cutting across vendors

For Infy: June'09 quarter guidance more critical than annual FY10 guidance. A more back ended annual revenue growth outlook will raise doubts unlike FY09.

Watch for Infy's views on (1)'Volumes V/s margins', (2) business pick up from telecom vertical, (3) more aggressive pricing strategies (some vendors using Balance Sheets to fund client projects and (4) more localized hiring to counter the protectionist measures and increased investments in sales

Retain Infosys as preferred pick in the large cap IT services space apart from  Mphasis (BUY, TP Rs 240) and Tech M( BUY, TP Rs 304) . However significant stock appreciation (27% over 3 months) leaves risk reward unfavorable.

Expect sobering commentary cutting across vendors

Infosys's results and annual guidance on April 15'09 remain keenly awaited by investors given the demand flux for the sector. Given sharp project deferrals/cancellations and slower ramp ups across all offshore vendors becoming the norm, demand recovery still remains a 'wait and watch situation. We expect sobering commentary from the Indian tech vendors as they continue to await better clarity on client spending plans. Though we believe that the sales pipeline for offshore IT vendors has seen an increase, confidence on actual deal closures and subsequent ramp ups would remain the key to volume/revenue pickup for the IT services space. We highlight that during the quarter gone our channel checks have indicated of projects teams being pruned aggressively cutting across vendors at a number of financial services client accounts. Our channel indicate greater pressures for TCS and Wipro in our large cap IT coverage as compared to Infosys (though do not rule out that Infy might have also faced similar pressures)

June'09 guidance more critical than annual FY10 guidance

In our view, Infy's annual commentary could remain subdued (as has been the case over the quarter passed out with Infy acknowledging of pricing pressures between 5-15%). We believe that Infy management would play it conservative and expect an annual US$ revenue growth between -5%-+3%, even if Infy were comfortable with a higher growth target.  Also worth noting is that cross currency movements alone would impact US$ revenue growth by ~4%.We are of the view that although annual guidance retains importance, it is imperative to watch June'09 quarter guidance rather than the annual revenue guidance as a back ended revenue growth would inspire little confidence about growth prospects (unlike April'08 when Infy's June'08 quarter revenue guidance was flat and the 19-21% YoY increase guided for FY09 had to be reduced later). With currency lending a helping hand we expect an annual EPS guidance of ~Rs 100 for Infosys at the least. (see working below)

Key things to watch out for

We believe that investors need to watch Indian tech vendors' comments on

(1) budget finalizations at key clients ,

(2) Results of vendor consolidation exercises at financial services clients,

(3) Pricing trends,

(4) More aggressive pricing strategies (some global players and an offshore player using aggressive pricing strategies, some vendors using their Balance Sheets to fund client spends) and

(5) Expectations from the protectionist measures being undertaken in US and Europe

We remain 'HOLD' on the sector post sector downgrade in early May'08 however Infosys  remains our preferred pick in the large cap IT services universe apart from BUY rated  Mphasis (TP Rs 240) and Tech Mahindra (TP Rs 303).
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