Sunday, 16 July 2017

IT Industry

IT Industry - TCS, Infosys, Wipro, HCL

From time immemorial, people have advised that investing in SIPs, especially in companies like Infosys, TCS etc, is the best way to invest in the stock market. My friends would also advise in investing in these stocks to convert small savings into bigger returns.

This strategy was well tried and proved good in the past yielding good returns for an investment 

                                                                                    period of 10-15 years.

But the question which now arises is whether this strategy still works ? I would say NO.

So with the tried and tested formula not yielding the desired results, the question that's on top of everyone's mind is why the  IT boom is on a decline & what is its future.

There are various factors which determines the future of an industry and it stock and today
we try to discuss different factors which  affect the IT Industry and it's future.

Factor 1 - Artificial Intelligence

Indian IT industry is not only about software development, a major chunk of its revenue comes from BPOs. Whether it is TCS, Infosys, Wipro or HCL, a major portion of their revenue comes from their BPO business.

A lot of research research and development is happening to automate the work that is currently outsourced by the western countries to the BPOs in India. Artificial intelligence & Robots are being developed which would replace the humans and ultimately the work of the BPO industry.
The signs of the affects of artificial intelligence is already visible and has started reflecting in the share price of IT Companies.

Factor 2 - Foreign Exchange rate -

If we take a quick peak into the past, we realize that till 2014, the INR was always depreciating vis a vis USD or Euro. This had a direct positive affect in the Top line of IT companies. As their major revenues come in Dollars or Euro, any increase in Dollar increases their both Top & bottom line.  But post the formation of the Modi Government in 2014, the main emphasis of the Government has been on reducing Imports & increasing Exports by their various schemes like 'Make in India' etc.This may have shown results too as from long time Current account deficit, we are almost at Current account surplus. It also reflects in the FX pricing, in past 3 years INR has become one of the best performing currency and from Re 69 per USD in 2013 we are at around Re 64.5 per USD in 2017. Small wonder that this has eaten into the revenue and margins of IT companies.

Factor 3 - Trump effect 

With saying 'Trump Effect' we mean Nation first policy.  It is not only Donald Trump, but we are witnessing Right wing sweep in major countries like US, Australia,  Japan and Britain with Britain exiting from European union.  This would directly effect the  IT business as these countries would want to retain jobs in their country thereby reducing outsourcing to developing nations.

Technically,  IT Stocks have under performed the bench marks by a wide margin. TCS/Infosys/ Wipro/HCL Tech are down  over the past two year vs benchmark index. A major part of the P/E DE-rating has happened over the past three months with 1Q revenue miss across the pack and signs of steep deceleration in growth momentum for FY17. We believe that FY17E would be a washout year on growth with vertical and client specific issues weighing on growth. Sector leaders, Infosys/TCS are set to deliver 8.5-9.5% YoY USD revenue growth.  While a significant portion of P/E DE-rating has played out, we believe that it's time to focus on capital allocation. During this period of transition, we believe that Infosys should increase dividend payout ratio to 100% of PAT (excluding dividend tax) for the next three years (FY17-FY19E). This would entail Infosys to gradually shrink the balance sheet (reduction in net cash position on balance sheet).

Overall,we are having a view that sector is going through a tough time with scope for further downgrade in revenue and earnings.rupee depreciation which was helping the sector for the past three years also started to reverse. Hence management should focus on higher payout ratios.

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