These IT stocks are still trading above their 10-year PE averages

Though they are the biggest laggards this year, headwinds in the IT sector are expected to peter out by end-FY23, thus helping improve margins.

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Despite falling heavily in 2022 so far, India’s top five IT firms are still expensive with their current one-year forward price-earnings (PE) ratio higher than the average 10-year forward PE.

Data shows that the gap is the highest in the case of Infosys with its current one-year forward PE at 22.6 compared to a 10-year average forward PE of 18.63. TCS’s one-year forward PE stands at 25.27 versus a 10-year average forward PE of 21.68.

Similarly, Wipro, HCL Tech, and Tech Mahindra’s current one-year forward PE stand at 16.72, 17.39, and 15.42, respectively, while their 10-year average PE stands at 16.6, 15.41, and 15.28. The BSE IT Index current one-year forward PE is 21.89, versus a 10-year average forward PE of 18.50.

Recent second quarter earnings of four large IT firms were mixed. Signs of a slowdown were visible in moderate hiring and weak total contract value (TCV). Also, some level of caution by clients due to a deteriorating macro environment has been seen, analysts said.

“We need to closely track the US and Europe economic situation as clients from these geographies contribute a lot to the Indian IT space,” said Prashanth Tapse, SVP, Research, at Mehta Equities.

According to Sumit Pokharna, VP, Fundamental Research, Kotak Securities, the biggest challenge in the coming quarters is a slowdown / recession in client geographies, which may impact the technology spent by global giants, thus impacting the TCV.

Mitul Shah, Head, Research, at Reliance Securities, feels high attrition, wage inflation, and increasing travel and visa costs may continue to squeeze margins over the next 1-2 quarters. However, Shah believes that by end-FY23 manpower attrition may decline and wage costs stabilise. This, coupled with better- pricing of new deals will aid margins in FY24. Shah remains selectively positive within the IT space and expects any further correction as a buying opportunity for a few IT names.

Pokharna, too, has similar views. “We believe attrition will come down going forward as pent-up attrition following Covid has played out, companies have replenished bench strength through aggressive hiring, and expectations of a demand slowdown will peter out. Also, the wage hike expectation of new hires has started to become more realistic, which is a favourable trend. Headwinds from tight manpower supply will progressively reduce as attrition rates and average premium for lateral hires decline,’’ Pokharna said.

The IT stocks are the biggest laggards year to date, with Infosys declining 24.8 percent, TCS losing 17 percent, Wipro falling 47 percent, HCL dropping 25.55 percent, and Tech Mahindra tumbling 42.59 percent. The BSE IT Index has plunged over 26.39 percent so far this year.

The Nasdaq index, which features a chunk of IT firms, has declined nearly 31.93 percent this year, which is a cause for concern, say analysts. India’s benchmark Sensex and Nifty are down just 1.75 percent each.

“Until NASDAQ bottoms out and starts recovering lost ground, there would be a gloomy outlook on the IT sector, even though large-cap Indian IT companies have given healthy future guidance,’’ explained Tapse.