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IT Services: Q1FY19 preview - Cross currency to weigh on USD growth, INR supportive.

Indian IT is expected to report a mixed quarter, as cross-currency movements weigh on USD growth but INR remains supportive. We expect the sector to report a US$ growth of -2%-1.5% QoQ for Q1FY19. While INR is a substantial tailwind for the sector, USD has appreciated against GBP/EUR and this will be 80-120bps QoQ headwind to reported USD growth. Given this is a quarter of wage hikes and visa costs, we expects margins to decline QoQ. That said, 4% depreciation of the INR limit the decline to 100-150bps QoQ. Tech Mahindra (TechM) will be underperformer with negative CC growth QoQ, while MTCL is expected to outperform. Overall, we expect the sector to deliver INR Revenue/EBIT/PAT YoY growth of 11%/12%/9%, respectively. We don’t expect material changes to CC guidance for Infosys and HCLT.  

Expect a mixed Q1FY19E

June is a typically a better quarter but USD movements will impact reported revenue growth. We expect Infosys/TCS/ HCL Technologies/Wipro to record sequential USD revenue growth of 1%/2%/1%/-2%, respectively. TechM has negative impact of seasonality in Communications vertical, but this seems to be accentuated by decline in Telecom outside Comviva and growth moderation in Enterprise. Mindtree should deliver solid 2.8% QoQ USD revenue growth with 93bps margin decline. 

Don’t expect material CC guidance changes

Guidance from Infosys and HCL Technologies (HCLT) will remain in focus. We don’t expect either of the companies to adjust their CC guidance of FY19. However there could be reduction in USD revenue guidance of 80-100bps to factor in a stronger USD. We expect Wipro (WPRO) to guide to -0.5%-1.5% like-for-like revenue growth for Q2FY19E.

Demand commentary, specifically US BFSI and Retail, key driver

The demand commentary has been mixed from the large-caps and thus focus will be on spending outlook from in US BFSI and Retail given they have been laggards for the sector, particularly for large caps (TCS/Infosys). TCS suggested that end of Q1 they will be in a better position to provide color on demand trends on these two verticals.

Maintain preference for TCS and Infosys among large caps

We have seen a sharp run up in the sector with CNX IT index outperforming Nifty by 6% this quarter. We think that mid-cap valuations are expensive, and continue to prefer diversified large-caps. We maintain our preference for players leveraged to this cyclical spending uptick (TCS and Infosys). Expect a steady quarter from MPHL and new deal wins will be key monitorable.