Mid-sized IT firms stand to benefit most with increase in demand

Demand in the information technology services sector has started showing signs of recovery, and mid-sized IT companies may benefit the most from this trend in the near-term, analysts said.

“Mid-sized companies typically outperform when the demand environment improves,” Credit Suisse said in a recent note. “…there are signs of an improving demand environment. This can benefit all companies - a "rising tide lifts all boats" argument. The mid-sized companies' margins tend to be more leveraged to revenue pick-up given their smaller scale,” the brokerage house added.

Japanese broking firm, Nomura Equity Research also said that three of the four indicators that it watches to assess demand have shown a turnaround.

In a recent note, Nomura said, it has seen a positive trend in client financials, especially in the banking, financial services and insurance space, the largest vertical for most of Indian IT services companies. The brokerage firm also derives optimism from the latest US PMI data and US private job additions.

“In addition to macro indicators, commentary on US and discretionary spending has improved across companies,” Nomura said in a note. “This reduces downside risks to growth expectations and has the potential to provide upside kickers of around 3% to revenue growth for tier-1 IT companies in the best-case scenario versus our current estimates.”

Credit Suisse expect Tech Mahindra, Mindtree and Hexaware to be the front-runners in the mid-size IT pack, and also see KPIT Cummins and Persistent Systems also to benefit due to their “good business momentum recently”.  

It, however, warned that the US immigration issue, and any sudden and deterioration in demand environment could pose risks to the mid-size pack.

“Adverse resolution of the proposed US immigration issues is a key risk. While this will be negative for the entire sector, the larger companies may be able to navigate through it relatively better,” Credit Suisse said.

Nomura, which recently upgraded sector heavyweights Tata Consultancy Services and Infosys, sees iGate and Hexaware Technologies as preferred companies in the tier-2 segment.