HDFC Securities: Indian IT - Expanding Centre Of Gravity

HDFC Securities Report

We maintain our positive outlook on the sector despite the sector recently re-rating to +2 standard deviation valuations.

The centre of gravity is expanding beyond just the tier-1s, as mid-tiers are showing symmetry in balance sheet metrics (and reverting to growth premium).

Core strengths across the sector include:

1. Low cyclicality supported by high-annuity/client longevity, diversified industry verticals, growth drivers across cycles and large total available market.
2. Strong cash generation and capital allocation.

In this note, we have assessed the sector's capital allocation and used multiple scenarios (growth-time, payout, and work-from-home) to deconstruct .

We believe that the sector is poised for higher multiples, led by:

1. The longevity of high-growth period (current valuations imply approximately 5% 10-year compound annual growth rate) with ‘multi-year’ growth tailwind from the economic crisis.
2. The continuity of high (increasing) payouts.
3. Global ‘best in class metrics’ across growth, free cash generation, and balance sheet strength.

We reckon that the sector (including mid-tier) can command multiples higher than historical averages, supported by the sector’s resilience and growth longevity (in some cases anti-fragility).

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