Kotak's Revised Outlook for Indian IT
Kotak Institutional Equities has significantly adjusted its financial outlook for Indian IT companies, anticipating a challenging June quarter for FY2027. The brokerage firm points to a combination of GenAI-led deflation and broader macroeconomic headwinds as key factors dampening expected seasonal strengths.
The revised estimates suggest that most large IT firms may struggle to achieve the midpoint of their FY2027 guidance. Kotak has consequently reduced its FY2027-29 revenue estimates by approximately 0-1 percent and lowered fair values by about 2-21 percent across the sector.
Weak Revenue Growth Expected
Incumbent IT companies are forecast to report modest revenue growth, ranging from -1 percent to +1 percent in 1QFY27, despite the quarter typically benefiting from additional billing days. Specifically, HCL Technologies' services growth could be around -1 percent, and Wipro's at -1.1 percent. Tata Consultancy Services (TCS) is projected to report flat revenue, while Infosys and Tech Mahindra might see an underwhelming 1 percent organic quarter-on-quarter growth.
Two primary drivers for this subdued performance are identified: the West Asia crisis, which has marginal direct and indirect effects, and the increasing impact of AI deflation, which is beginning to filter through contracts.
Margin Stability and Hedging Impact
EBIT margins are largely expected to remain stable across most companies, with the exception of TCS, which has already accounted for wage increases. Pricing pressures are reportedly being cushioned by rupee depreciation, which saw a 2.6 percent quarter-on-quarter and 9.7 percent year-on-year decline.
However, this currency benefit may not immediately translate into higher net profits due to cash-flow hedging. Companies like Tech Mahindra, L&T Technology Services (LTM), Coforge, and Hexaware are likely to report meaningful forex losses, illustrating wide variations in net profit outcomes based on hedging strategies.
Guidance Revisions and Valuation Reset
Kotak anticipates that companies will likely remain below the midpoint of their annual targets. Infosys, for instance, is expected to revise its FY2027 revenue growth guidance to 2-3.5 percent from an earlier 1.5-3.5 percent, including a 110 basis point contribution from the Optimum acquisition. Wipro may guide for -2-0 percent revenue growth for the September 2026 quarter.
The brokerage's valuation reset reflects a higher GenAI deflation assumption (at the upper end of the 3-3.5 percent band) and an increased cost of equity to factor in medium-term disruption risks. While valuations may limit downside, a rerating would necessitate faster growth or new commercial models that capture AI value, neither of which is currently evident.
Key Picks and Fair Values from Kotak
Kotak's analysis suggests that 'challenger' firms are better positioned to outperform incumbents in the current environment. Among incumbents, TCS remains its preferred pick. For challengers, Coforge, Hexaware, and Indegene are highlighted.
- Buy Ratings: Coforge (FV: Rs 1,640), Indegene (FV: Rs 705), Infosys (FV: Rs 1,220), L&T Technology Services (FV: Rs 3,450), Mphasis (FV: Rs 2,210), Sagility (FV: Rs 52), and Tech Mahindra (FV: Rs 1,600).
- Add Ratings: TCS (FV: Rs 2,450), HCL Technologies (FV: Rs 1,120), and Amagi Media Lab (FV: Rs 625).
- Sell Ratings: Hexaware Technologies (FV: Rs 600), KPIT Technologies (FV: Rs 520), Persistent Systems (FV: Rs 4,480), RateGain Travel Technologies (FV: Rs 600), Tata Elxsi (FV: Rs 3,800), Wipro (FV: Rs 150), and Tata Technologies (FV: Rs 470).
- Reduce Ratings: Cyient (FV: Rs 880), eClerx Services (FV: Rs 1,550), Firstsource Solutions (FV: Rs 225), and LTIMindTree (FV: Rs 3,700).
Overall, the June quarter is anticipated to show weak revenues, with margins potentially stabilizing due to currency support, but guidance remains a challenge as the sector continues to adapt to GenAI-led deflation.