Top-tier IT stocks have sharply gained over the past few trading sessions, with investors seemingly more confident about their prospects. There has been less enthusiasm witnessed for mid-rung IT firms. Large-cap IT stocks were up 5-10% over the last couple of days as the top-four companies have reported their third quarter results. However, one section of the Street remains cautious.
Analysts at Citi Research have observed that while management comments have been balanced and consistent, words like “pent up” and “green shoots” have created optimism among investors. “Meanwhile, headcount reductions continue and deal TCV trends are moderate – pointing to a gradual recovery only, which is our base case,” Surendra Goyal, head of research at the brokerage, said.
He pointed out that the sentiment has improved to euphoric from pessimistic in some pockets, pushing up valuations in the context of pre-pandemic five-year period. TCS, Infosys, Wipro and HCLT are currently at higher valuation versus the five-year pre-pandemic average or last five-year average with limited visibility on growth and margins. “If one benchmarks to the pre-pandemic five-year period – which we believe is the period of growth consistent with what is coming in the next two years, valuations are >3sd of that range,” Citi wrote.
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The NSE IT index trades at a 27% premium to the Nifty, well above the historical average levels. Since January 12, the Sensex and Nifty have rallied 1.96% and 1.78% while the BSE IT and NSE IT indices have gained 5.66% and 5.73%, respectively.
Most of the second-tier IT companies are yet to announce their December quarter results. Ahead of the numbers, analysts have noted that they will have mixed trends in growth, with a declining slope of growth for all. These stocks have moved in the range of (-)3.3% to 6%. Newgen, Sonata and a few other BPO firms saw their stocks rallying above 6%.
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Going by the trends noticed for larger players, mid-tier IT players are unlikely to surprise the Street. As analysts have pointed out, budgets of clients do not seem to indicate any significant changes in their priorities. As such, spends could remain muted in 2024, they believe. Clients in a couple of verticals, such as manufacturing and life sciences & pharma, would continue to spend at a healthy rate while retail spends are expected to recover.
In FY23, most mid-tier companies, including some IT engineering services firms, were growing their revenues faster than TCS and Infosys. Some of these mid-cap IT companies were growing at 25-45% Y-o-Y during FY23 due to the secular shift towards digitisation and cloud during the pandemic.
