Brexit, banks and US polls: The Indian IT sector’s big-bang quarter may end with a whimper

Quartz india
Quartz india

The Indian IT outsourcing industry typically ushers in autumn in style, after posting strong earnings in the July-September quarter. However, this year may see that trend turn on its head.

The $100-billion sector, which contributes around 9% to India’s GDP, is expected to post lukewarm growth in the second quarter. The industry employs around 3.7 million people, directly and indirectly.

“Brexit and the impending US elections are keeping expectations muted… The seasonal strength that leads to strong sequential growth in the September quarter is hardly expected to play out this time,” brokerage firm Motilal Oswal said in a note.

India’s largest IT outsourcing firm, Tata Consultancy Services (TCS), is scheduled to post its second quarter results later today (Oct. 13); competitors Infosys and Wipro will follow suit on Oct. 14 and Oct. 21, respectively.

Here’s a look at what analysts and experts expect from the top players in the sector:

Bled by Brexit

Europe is the second-largest market for the Indian IT industry, accounting for about 25% of its revenue, with the UK as a major contributor to this. Around 800 firms have exposure to the UK and together employ about 110,000 people there.

So, in June, when Britain voted to exit the European Union (EU), the sector was already bracing for impact. Partly as a result of Brexit, in July, India’s second-largest IT services company, Infosys, cut its revenue growth guidance for 2017 fiscal year to 10.5-12% from 11.5-13.5%.

A month later, Infosys received a major blow when the Royal Bank of Scotland (RBS) abandoned its plans to float a separate bank in the UK and cancelled a major contract awarded to the Bengaluru-headquartered company. This hurt 3,000 Infosys employees and is expected to shave about $40 million off the company’s 2017 fiscal year revenues.

That isn’t all. In September, Infosys CEO Vishal Sikka warned that the company may further trim its guidance. “We do see risks that would get us toward (the) territory of downward revision of guidance because the atmosphere during the course of Q2 has worsened…,” he said.

Several analysts expect that Infosys may announce an even lower 2017 fiscal year guidance when it posts its results later this week.

Meanwhile, the British pound has been in free-fall following Britain’s decision to exit the EU. In July-September, the pound on average depreciated 8.4% quarter-on-quarter against the dollar, according to brokerage firm Centrum Equity Research. Any hopes of a recovery evaporated last week as the pound recorded its worst four-day fall since the vote after British prime minister Theresa May outlined her plans to pursue a “hard Brexit.”

A depreciating pound, too, will impact on quarterly earnings. “TCS and Tech Mahindra, which have higher GBP (pound) exposure would see a higher cross currency headwind impact for the quarter,” Centrum Equity Research said in a report published on Oct. 05.

Weak banking

Banking, financial services, and insurance (BFSI) are Indian IT’s biggest clients, contributing over 25% to the sector’s revenues. In September, TCS said that its clients in the segment are putting discretionary spends on hold, which may lead to a slump.

“Based on the data at the end of August 2016, the company has characterised customer outlook as one marked by ‘abundant caution’… particularly (in the) BFSI vertical in the US, resulting in sequential loss of momentum,” TCS said in a filing to the BSE.

This slowdown in spending by clients is likely to hurt all of TCS’s peers during Q2.

“The global banking sector is under tremendous pressure owing to continued low-interest rates, fines, regulatory challenges, etc. Indian IT companies have indicated that client specific issues and challenges in BFSI vertical are weighing on growth outlook,” Centrum report said.

US elections

The uncertainty around the upcoming US presidential polls, too, will take its toll during the July-September quarter, analysts said.

Election years are typically weak for IT companies as clients tend to wait for policy announcements by the new government before making any fresh big-ticket investments.

“Seasonal weakness of the second half (October-March) will be further exacerbated by current sluggish macro and the US elections in November,” Motilal Oswal report said.

The US contributes over 70% of the revenues of the Indian IT outsourcing sector.

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