Citi stays bearish on TCS, Wipro, 2 other top-tier IT firms citing valuation risk

As investors await  the onset of the corporation earnings season, due next week, Citi has reiterated a ‘sell’ rating each on Tata Consultancy Services (TCS), Wipro, Tech Mahindra and LTIMindtree and a ‘neutral’ call each on Infosys and HCL Technologies. However, the global brokerage has raised its targets for the six stocks by 9.5-18 per cent.  

Citi has estimated revenue growth at the IT firms under its coverage universe to come in at 6 per cent in constant currency terms for FY25, as against its 2 per cent for FY24 and around the pre-pandemic level of 8 per cent. Despite the recent underperformance of the sector, valuations are deemed to be still at risk, according to the brokerage.  

Citi has placed its price-to-earnings (PE) multiple for the sector for the next one year at 26 times, in stark contrast to a pre-pandemic five-year average of 18 times.  The brokerage has turned cautious on the sector citing the valuation risk and possible further downside. Here’s where it has placed its targets for the six IT stocks:  

Meanwhile, Tata Consultancy Services is slated to kick off the Q3 earnings season for on  January 11. Typically, Q3 is seasonally weak for the Indian IT space, owing to factors such as furloughs, slower deal ramp-ups and lower spending. 

“Delayed decision making, slower ramp-ups in deals, slower deal conversion, slowdown in discretionary spend, challenges in hi-tech, retail and BFSI continues to be a broad commentary of IT companies. The outlook of FY25E is riding on expectation of higher client budget, traction in generative AI and improving macro,” analysts at brokerage IDBI Capital Markets wrote in a research report, dated xx. 

For the third quarter, the brokerage has estimated the largecap IT dollar revenue growth to be in the range of -2.5 per cent to 3.9 per cent on a sequential basis, offset by a cross currency impact of around 35 bps. 

“Among mid-caps we expect -4.3 per cent to +5 per cent QoQ growth. In terms of margins, we expect margins to dip across companies (except Coforge & Newgen) mainly due to furloughs and wage hike in some cases, added the brokerage,” the analysts wrote.  

IDBI Capital expects Sonata, Newgen and Coforge to report robust numbers for the December quarter. Nirmal Bang remains ‘underweight’ on the IT services sector.  A shallow recession is likely in 2024, leading to consensus estimates being downgraded d for both revenue as well as margins and the subsequent multiple compression, according to Nirmal Bang.