IT stocks surge post Accenture's good Q3, but gains may be limited

In fact, Accenture's 6 per cent growth in new order bookings was also led by outsourcing contracts, and it also raised its lower-end revenue growth guidance

At a time when investors were cautious about IT companies because of the likely impact of the Covid-19-led disruption and H1B visa issues, Accenture’s results for the third quarter (March-May 2020; Q3) surprised the Street. 

It also rubbed off positively on Indian IT stocks with the Nifty IT index gaining 4 per cent on Friday. Among major stocks, Infosys gained the most (6.6 per cent), followed by Tata Consultancy Services (TCS; 4.9 per cent), Wipro (3.3 per cent), and HCL Technologies (2.3 per cent).

While there are some positive reads for Indian IT companies from Accenture’s Q3, some factors indicate a reason to be cautious. Accenture, the New York-listed tech firm, follows a September to August accounting period.

Despite Accenture’s Q3 being impacted by the Covid-19 pandemic, the company reported 1.3 per cent year-on-year revenue growth, in constant currency (CC), which was driven by 5 per cent growth in the outsourcing business, where Indian IT companies have high exposure. In fact, Accenture’s 6 per cent growth in new order bookings was led by outsourcing contracts, and it also raised its lower-end revenue growth guidance. It’s FY20 revenue growth guidance, in CC, now stands at 3.5-4.5 per cent, from 3-6 per cent earlier. While the upper end has also been reduced, the increase in lower-end guidance suggests the situation is improving.

 

 

Besides, Accenture’s operating margin expanded by 220 basis points sequentially and 10 basis points year-on-year (YoY) to 15.6 per cent in Q3. Analysts believe the margin performance indicates no significant pricing pressure for IT companies. Because of limited spending capacity of clients amid Covid-19, Indian IT companies were expected to see a decline in pricing power.

On the flip side, a look at Accenture’s segment performance shows its revenue growth was driven by the health and public segment, where Indian IT players have limited exposure. For instance, in the case of TCS and Infosys, the health-care segment accounts for less than 10 per cent of their revenue. 

On the other hand, the financial services segment, key for most Indian IT players, is still under pressure, say analysts. Accenture’s financial services segment, which contributes at least 30 per cent of revenues for most Indian IT companies, fell by 3 per cent YoY in Q3, according to analysts at Prabhudas Lilladher. All other verticals also reported a revenue decline.

Further, analysts at Motilal Oswal Securities, say: “Growth markets remained a key growth driver for Accenture which is not a big and reliable segment for Indian companies.” The analysts are sceptical of the extent Accenture’s encouraging Q3 results would replicate for Indian IT companies’ performance. Accenture’s growth markets, which accounted for 20 per cent of its revenue, include regions, such as Asia Pacific, West Asia, and Africa.

Though Accenture’s strong performance in the digital segment suggests further margin and revenue support for Indian IT companies, the gains for the latter may be limited. “Accenture’s digital revenue stands at 70 per cent of its total revenue versus 35-40 per cent for Indian IT peers because of which there is limited read through,” says Aniket Pande, analyst at Prabhudas Lilladher said in his note.

Therefore, it would be too early to assume that worries are behind for Indian IT companies. Accenture’s management expects a decline in client IT budgets due to the weak economic growth outlook. Thus, how the pricing power and overall deal book pans out would be a key monitorable.