Continued demand weakness in Indian IT sector; FY24 guidance cut: IIFL Capital Services

22 Mar 2024 , 11:13 AM

Accenture’s (ACN’s) Q2FY24 revenue was flat YoY CC, at the midpoint of its guided range of -2% to +2% YoY CC. Management indicated that the demand environment continues to witness slow discretionary spending and decision-making; especially in smaller projects. ACN cut its FY24 revenue growth guidance to 1-3% CC YoY from 2-5% CC YoY (inorganic contribution expected to be ~3%). Q3FY24 guidance of -1% to +3% CC YoY continues to reflect a weak near-term demand environment. However, FY24 guidance implies mid-single digit growth in Q4 – largely due to large deal ramp-ups and acquisitions. Growth in Q2 was led by Managed Services (+3% YoY CC), while Consulting (-3% YoY CC) remained soft. Adj. Ebit margin stood at 13.7% (-10bps YoY); ACN expects FY24 Adj. Ebit margin to be 15.5% (was 15.5-15.7%). New bookings were strong at the second highest level ever of USD21.6bn (-2% CC YoY), with book-to-bill of 1.37x. Managed Services bookings declined by 3% YoY, and Consulting fell by 1% YoY. ACN highlighted that while discretionary demand remains muted, strong demand is seen in larger transformation deals with a focus on security, Cloud and Gen AI technologies.

Broad-based slowdown across verticals:

Among verticals, Healthcare & Public Services led the way, growing 10% CC YoY in Q2. Resources remained steady at 4% CC YoY. Products and Financial Services continued to see moderation in growth, at 0%/-6% CC YoY while Communications, Media and Technology saw a decline of 7% CC YoY. Discretionary spending and decision-making remains slow, especially in the shorter cycle projects, as the macro environment is still challenging. New Bookings strong, but revenue conversion taking longer: New bookings for the quarter were the second highest ever at USD21.6bn (- 2% CC YoY). In Q2FY24, there were a record 39 clients with USD100mn+ in quarterly bookings. Bookings in Managed Services declined 3% YoY, while Consulting bookings declined 1% YoY. Management indicated that clients continue to prioritise large-scale transformation projects, limiting discretionary spending. ACN expects FY24 Adj. Ebit margin to be 15.5% (was 15.5-15.7%).

Notables:

1) Revenue in North America was flat YoY CC, as growth in Public Services was offset by weakness in Communications & Media, Software & Platforms, and Banking & Capital Markets. 2) EMEA declined 2% YoY CC, as growth in Public Services was offset by fall in Communications & Media and Banking & Capital Market segments. Growth in Italy was offset by weakness in the UK, France and Ireland. 3) Within Services, Technology growth was low single digit, while Strategy & Consulting and Operations saw low single-digit declines. 4) Attrition inched up to 13% in Q2 (vs. 11% in 1Q). 5) ACN continues to see a strong demand in GenAI projects and saw new bookings of USD600mn in Q2 – taking the 1H GenAI bookings to USD1.1bn. 6) During the quarter, ACN invested USD 2.1 bn in acquisitions across 11 transactions.

Near-term outlook soft:

Analysts of IIFL Capital Services believe ACN’s Q2 results and cut in FY24 organic growth outlook by 200bps to -2% to 0% CC YoY (was 0% to 3%) highlight the continued soft discretionary spend environment. This corroborates with the recent commentary from Indian IT service companies of lack of recovery in near-term demand, which analysts of IIFL Capital Services believe could lead to a lacklustre finish to FY24. Given that sector valuations are rich, they maintain their negative stance on the sector with SELL on TECHM and REDUCE on WPRO, considering the weaker growth profile and poor earnings visibility. On a relative basis, analysts of IIFL Capital Services prefer INFO/PSYS on better earnings growth visibility.