FY2017–2020e CAGR expected to remain in mid-to-high single digit, says ICRA.
The credit profile of Indian IT Services companies is expected to remain stable underpinned by its ability to sustain free cash flows despite pressure on revenue growth and margins. With aggregate operating margins of ICRA sample set at 23.5 percent for FY2017 coupled with moderate CapEx and working capital requirements, the free cash flows have remained robust historically. Despite pressures on growth and margins over the medium term, free cash flows of Indian IT services companies are expected to remain healthy, though there could be moderation in the quantum of such cash flows. The credit profile is also supported by net cash position with significant liquidity in the form of surplus investments generated out of past cash flows despite healthy dividend payout and share buybacks.
Aggregate growth of 21 sample companies stood at 3.8 percent during Q1FY2018 (7.0 percent in USD terms) compared to CAGR of 17.1 percent experienced over the FY2013–2017 period with an FY2017 growth of 9.7 percent. During the quarter the Rupee appreciated by approximately 3.7 percent versus USD leading to lower Rupee growth. ICRA estimates the FY2017–2020e CAGR to remain in mid-to-high single digits for the Indian IT services companies.
In terms of verticals, BFS growth is muted over the last few quarters. Demand for the sector has been adversely impacted by current macroeconomic conditions impacting the industry including sustained low interest rates and weakening of British Pound due to result of Brexit referendum. The business is supported by digitization efforts, cost optimization, regulatory, compliance, and security driven initiatives. The insurance sector has seen good growth and is supporting the overall growth for BFSI which contributes 30 percent of sample set revenues. The manufacturing verticals (17 percent of ICRA sample set revenues) outperformed other key verticals with 6.1 percent growth in Q1FY2018 led by automation including Internet of Things (IoT), analytics, optimizing supply chain, and enhancing distribution channel effectiveness.
The Indian IT services industry operating margins have moderated from 24 to 25 percent to 23 to 24 percent over the last few quarters though they remain healthy.
Over the next decade, ICRA also expects consolidation in the industry especially among small and mid-size players as margin pressure will intensify leading to lower returns for shareholders. Overall, the credit profile is expected to remain stable over the medium term led by IT services companies to sustain free cash flows despite pressure on growth and margins though geo-political issues restricting movement of skilled labor or increase in minimum salary requirement will have negative impact on the sector outlook.
“The growth of Indian IT Services companies is impacted by lower demand led by uncertain macro-economic environment, lower deal sizes in digital technologies, cloud adoption, and high competitive intensity from local as well as international players. The growth will be supported by higher spend on digital technologies, continued cost benefit offered through outsourcing model as reflected in CY2016 USD growth of 6.2 percent of Global IT Services outsourcing market and market share gains. While companies have increased spending on digital technologies and awarding new contracts, the overall IT budgets have moderated leading to lower incremental spends. Indian IT services players market share of global IT sourcing market stood at 67 percent in CY2016 (60 percent in CY2012), however incremental gains are expected to be at a slower pace. Indian IT services companies are in the midst of re-orienting their business models focusing more on higher end services such as IT consulting and emerging technologies (digital) and have made considerable progress so far, though still lag behind international peers. We expect large Indian IT companies to grab a higher share of the digital services space over the next three years.”