IT Firms Growth Slowing as Expected; Outlook Stable on Low Debt: India Ratings
IT companies growth slowing as expected, says Fitch Ratings
Key IT companies weighted average revenues grew sequentially in first quarter of financial year 2016-17 by 1.2 percent, which is less than half the previous year same quarter, in line with the growth slowdown expected, says India Ratings and Research.
India Ratings maintains a stable outlook on Indian IT companies on the back of low debt levels and continues to expect IT company’s growth to remain in the range of 8-9 percent in FY17. The growth slowdown in FY17 is expected on account of lower budget allocation of clients in North America (constitutes 55-60 percent of the revenues of Indian IT companies). Uncertainty on Brexit would also result in clients delaying IT spends and put budgets on hold.
Historically, the first two quarters of the financial year are the stronger quarters and sets the pace for the full financial year since client budgets are finalised and fixed on a calendar year basis and flows to Indian IT companies in the first and second quarter of the financial year. The growth rates in the third and fourth quarters are usually lower than the first two quarters.
The margins of IT companies declined by 130 basis points in first quarter of FY17, reflecting an almost identical 130 basis points increase in wages. Margins are likely to come under further pressure with the increasing proportion of fixed cost application development and maintenance contracts and the pass through of savings from automation. Fixed cost application development and maintenance contracts constitute about 50-60 percent of the revenue and the proportion is expected to rise further.
Also clients continue to push for passing on the benefits of automation to them and the same is also likely to become a pre-requisite for the renewal of some of the contracts at lower rates then earlier.
India Ratings believes that the uncertainty arising due to Brexit will lead to clients delaying their IT spend on both ‘run the business’ and ‘change the business’ projects in EU and U.K., there by impacting the growth from this region. EU constitutes about 1/3 of the total revenues of Indian IT companies and around 60 percent of it comes from UK. The impact on EBITDA margins however is still not clear. The mobility of skilled manpower in the European region may be impacted there by resulting in further increase in the subcontracting costs. Depreciation in the pound or euro against the rupee, due to Brexit can be another factor which will impact profitability of contracts originating from the European region. The outlook on Indian IT companies remains stable on the back of low debt and high cash levels. The top four IT companies have a comfortable cash cushion of over 7 times their total debt. Cash balance of the top four stood at Rs 929,000 crore and debt amounted to Rs 13,000 crore as of FY16.
(India Ratings and Research a wholly owned subsidiary of Fitch Group is a SEBI and RBI accredited credit rating agency operating in the Indian credit market.)