Fitch Ratings says that the outlook for Indian information technology (IT) services sector is stable for 2010, reflecting a gradual improvement in worldwide demand beginning in H209. Concerns for 2010 include currency volatility, imminent salary hikes for employees, US regulatory risks, and the pace of demand recovery.
Fitch projects a gradually improving quarterly revenue growth through 2010 for large players like TCS, Infosys and Wipro as an improving global economy leads to a gradual recovery in client demand for discretionary expenditure, and longer-term transformational engagements (that were postponed since 2009) in lieu of cost-reduction projects with near-term paybacks. IT services revenue growth will also benefit from growth opportunities relating to healthcare, telecom and internet security, along with a revival in demand of the banking, financial services and insurance (BFSI) sector. The BFSI sector is the second-largest purchaser of IT services worldwide behind the government market.
The recently announced third quarter results for the financial year ending 2010 (Q3FY10) of IT services companies illustrate continued robust performance. Better capacity utilisation, hiring cutbacks and pay freeze, better negotiations with customers on pricing and increased off-shoring have resulted in better-than-expected margins for most of the IT companies. However, the long-overdue wage hike could put pressure on margins.
The Indian IT sector has consistently generated positive free cash flow (FCF), resulting in significant cash balances of more than 20% of total assets for the large IT companies – enabling them to weather the slowdown better than most other industries. Consequently, most IT service companies continue to be debt-free or have low leverage, and have strong credit-protection measures. Cash flow generation continues to be adequate to fund working capital and, in most cases, capex requirements as well.
Fitch expects acquisition activity to continue in 2010, as companies are trying to utilise the excess cash to diversify service line mix, expand geographically, and/or add capabilities in targeted vertical markets. In certain cases, these acquisitions could be debt-funded, potentially pressuring credit profiles.
Reflecting the geographical concentration of revenues, Indian IT services companies book most of their revenues in US dollars, while service delivery costs are in Indian rupees. As the Indian rupee has appreciated against the dollar since April 2009, many companies were caught off-guard as their hedge position proved inadequate. Most of the bigger IT players, with the exception of Wipro, do not seem to have any elaborate policy for hedging currency fluctuations, which could be one of the key concerns for the sector.
IT outsourcing revenues from the US could be exposed to regulatory risk given the current pressures of unemployment. The US government has vaguely outlined plans to end tax breaks for companies outsourcing work to other countries. However, Fitch has not so far seen any significant cutbacks in outsourcing by US companies attributable to tax concerns.
Source:http://in.reuters.com/article/businessNews/idINIndia-46092820100211
