IT Stocks Rally as Third Quarter Nos Lift the Gloom

Analysis of Better-than-Expected Q3 Results for TCS and Infosys

Source and Citation: Original reporting from ET Bureau published January 13, 2024.

Analysis for Layman

India’s two leading IT services companies, Tata Consultancy Services (TCS) and Infosys, recently reported their financial results for the October-December 2022 quarter (Q3 FY2024). The earnings per share (EPS) and future revenue guidance were not as weak as analysts and investors had anticipated, given ongoing economic uncertainties. Consequently, their stock prices experienced a rally, with Infosys up over 8% and TCS nearly 4% on the day the results were announced. Other major Indian IT stocks like Wipro, Tech Mahindra, and HCL Technologies also saw gains of 3-5%.

This positive performance boosted the overall Nifty IT sector index by over 5%, as investors were relieved that the results were not more negative. While Infosys reported a 7.3% year-over-year decline in net profits and lowered their full-year revenue outlook, TCS managed to achieve a 2% profit growth. Optimistic management commentaries about future deal pipelines and client demand recovery in late 2024 further lifted sentiments.

Impact on Retail Investors

For retail investors, the Q3 results and the subsequent resurgence in stock prices offer cautious optimism for India’s IT sector in 2024. Despite ongoing challenges such as potential U.S. recession, inflation concerns, and pressure on client IT budgets, the better-than-expected earnings suggest that much of the negativity had already been factored into valuations. This indicates that the sector’s fundamentals remain robust over the long run.

While near-term volatility may persist, major players like TCS and Infosys have the resilience, client relationships, and financial strength to weather difficult periods without severe downsides. Retail investors with a 3-5 year outlook can consider these stocks for long-term growth, anticipating a revival in demand for digital transformation and services as macro uncertainty eventually recedes.

Impact on Industries

The positive Q3 results have a broader impact across India’s $227 billion IT and business process management industry. The top-tier software/IT services segment dominated by TCS and Infosys should see cautious optimism, with pressure on discretionary tech spending possibly persisting through mid-2024 before a recovery. Nevertheless, baseline demand for essential tech services and projects remains decent.

Related industries such as hardware, telecom equipment, and microchip suppliers may benefit if confidence in overall corporate and enterprise tech spending rebounds. Cloud infrastructure and platform providers like AWS, Microsoft Azure, and Google Cloud could also experience a lifted demand outlook for 2024 if important customer segments increase spending on digital transformation and cloud migration.

Long-Term Benefits & Negatives

Benefits

• Increased adoption of IT services as a vital asset class, allowing wider investor participation.
• The potential reduction in volatility as mass scale dampens price swings.
• Innovation in financial services, exchanges, and technology around cryptos.
• Birth of new payment technologies, vendors, and systems based on blockchain.

Negatives

• Oversized boom/bust crypto price cycles that destabilize markets.
• Loss of investment capital if interest fades and prices collapse.
• Systemic dependency on unreliable technologies like blockchain.
• Misuse for illegal activities without sufficient oversight.

Outcomes will depend on how well cryptos integrate with and complement existing structures.

Short-Term Benefits & Negatives

Benefits

• Easier access drawing more investors to boost prices.
• Validates crypto as a regulated investment as SEC concerns ease.
• Could generate enthusiasm similar to early crypto rallies.
• Lends reputability that stabilizes the recent slump.

Negatives

• Bitcoin prices stayed flat on Friday’s ETF launch, indicating low impact.
• Existing crypto exchanges may lose activity to mainstream platforms.
• Crypto interest could be muted after last year’s FTX/Binance fallout.
• Bitcoin itself fails to gain traction even with ETF access.

Short-term outcomes will hinge on whether investors view the availability of these ETFs as groundbreaking enough to substantially drive up bitcoin prices.

Impact of IT Earnings Rally on Companies:

Indian Companies Likely to Gain:

1. Tata Consultancy Services (TCS): TCS’ better-than-expected earnings and optimistic guidance boosted investor confidence, leading to a significant stock price hike. This positive sentiment could sustain, attracting further investment and potentially unlocking higher valuations.
2. Infosys: Despite a profit decline, Infosys’ improved revenue, strong deal pipeline, and optimistic outlook signal potential future growth. This could lead to a rise in its stock price as investors anticipate a rebound in performance.
3. Wipro, Tech Mahindra, HCL Tech, LTI Mindtree: The broad rally in the Nifty IT Index benefitted these companies with significant gains. Improved sentiment across the sector suggests potential for continued positive performance and increased investor interest in these stocks.
4. Mid-cap and Small-cap IT Companies: The positive spillover effect from large-cap IT giants could extend to smaller companies in the sector. With improved investor sentiment and expectations of broader industry recovery, mid-cap and small-cap IT stocks could see increased trading volume and potential price appreciation.
5. Indian IT Services Recruitment firms: Increased optimism in the IT sector could lead to hiring activity picking up, benefiting recruitment firms focused on placing talent in the IT industry.

Indian Companies Unlikely to Lose:

While the news is generally positive for the Indian IT sector, some companies might not see significant direct impacts:

1. Indian Companies in Other Sectors: The gains are primarily restricted to the IT sector. Companies in other sectors might not experience immediate impacts from this news unless it triggers a broader market rally.
2. Specific IT Companies Underperforming the Sector: Even within the IT sector, companies with weaker financial performance or less optimistic outlooks might not fully benefit from the rally. They may need to deliver strong individual results to attract investor attention.

Global Companies Likely to Gain:

1. Global IT giants: Positive sentiment in the Indian IT sector could spill over to other prominent global players in the industry. Companies like Accenture, Cognizant, and IBM could see increased investor interest and potentially benefit from improved investor perception of the IT sector as a whole.
2. IT Consulting and Advisory Firms: Increased focus on digital transformation and cloud adoption driven by the IT sector’s optimism could benefit consulting firms advising businesses on these strategies.
3. Cybersecurity Companies: Growing IT spending and potential security concerns associated with increased digital reliance could boost demand for cybersecurity solutions and benefit companies like Palo Alto Networks and Crowdstrike.

Global Companies Unlikely to Lose:

1. Companies Unrelated to the IT Sector: Similar to Indian companies outside the IT sector, global companies in other industries are unlikely to be directly impacted by this news unless it triggers a broader market rally.

Market Sentiment:

The news of the IT earnings rally is likely to lead to positive market sentiment in the near term. Increased investor confidence in the IT sector could spill over to other sectors, potentially boosting overall market performance. However, it’s crucial to remember that market sentiment can be dynamic and influenced by various factors beyond this specific news.

Disclaimer: This analysis is based on current information and is for informational purposes only. It should not be construed as financial advice or a recommendation to invest in any particular company or asset. Please conduct your own due diligence before making any investment decisions.