Back to sequential growth, outlook maintained in Indian IT sector: IIFL Capital Services

3 Aug 2023 , 10:32 AM

CTSH’s Q2CY23 revenue grew 1.5% QoQ (-0.1% cc YoY), at the high end of the guided range of -1% to 0% cc YoY. Bookings in Q2 increased 17% YoY led by large deals (~30% of TCV), taking TTM bookings to USD26.4bn (+14% YoY), implying a book-to-bill of 1.4x. CTSH is stepping up investments in building GenAI capabilities and plans to invest USD1bn over the next 3 years including expanding partnerships with Google Cloud, Microsoft and ServiceNow. CTSH already has over 100 active client engagements in various stages with a focus on cognitive and generative AI. CTSH maintained CY23 revenue growth guidance of -1% to +1% cc YoY and for Q3 to be -0.5% to +0.5% cc YoY, as it expects continued softness in the discretionary spend. Adjusted operating margins in Q2 came in at 14.2% (-130bps YoY), primarily due to two wage hikes over the last 12 months. 

Sequential pick up across verticals (ex-BFSI): 

BFSI declined 0.9% QoQ (-4.8% cc YoY), due to continued weakness in discretionary spending. CTSH is transitioning more work in BFSI to managed services as clients focus on driving cost take outs, vendor consolidation and productivity initiatives. Healthcare grew 0.5% QoQ (+2.1% cc YoY). Products & Resources grew 5.3% QoQ (+3.7% cc YoY) while Comm, Media & Tech grew 2.7% QoQ (-0.4% cc YoY). 

Bookings remain healthy driven by large deals: 

Bookings for the quarter increased 17% YoY, led by several large deals (~30% of the TCV) including 5 USD100mn+ deals. TTM bookings came in at USD26.3bn (+14% YoY), implying its TTM book-to-bill increasing to 1.4X. CTSH indicated that they are seeing an uptick in their large deal pipeline. CTSH maintained CY23 revenue growth guidance of -1% to +1% cc YoY and expects Q3 revenue growth to be -0.5% to +0.5% cc YoY. Wage hikes impact margins: CTSH’s adjusted operating margins stood at 14.6% (-40ps QoQ/-130bps YoY), due to increased compensation costs which was partially offset by tailwinds from FX and higher utilization. GAAP margins were impacted by the previously announced cost cutting program. TTM voluntary attrition reduced further by 3pp QoQ to 19.9%. CY23 operating margins guidance of 14.2%-14.7% was maintained. 

Large deal focus to increase competitive intensity: 

Analysts of IIFL Capital Services believe CTSH’s muted H2 guidance is a reflection of the near-term macro challenges and lower discretionary spending and corroborates with the commentary from the managements of Indian IT service companies. Under the new management and a refreshed strategy, CTSH has started focusing more on large deals and productivity led initiatives by enterprises, which has resulted in a higher large deal win success rate and increased the competitive intensity in the sector. However, in the near-term analysts of IIFL Capital Services believe Indian IT peers will continue to gain market share over CTSH, as reflected in its CY23 guidance of -1% to +1% cc YoY growth. They recommend staying selective in picking stocks given the macro uncertainties. They continue to prefer stocks with better growth visibility in large caps (INFO/TCS) and midcaps (PSYS/COFO/CYL).