Selloff in IT stocks continue, BSE IT sheds 23% since January

IT stocks sold off for the fourth straight session on Tuesday owing to investor concerns that margins of software firms could continue to stay under pressure as wage and retention costs rise and expenses on travel and facilities also increase. Moreover, there are apprehensions that business from top geographies could slow. The BSE IT index has given up close to 23% since January and ended Tuesday’s session at 29,505. 69.

Despite the correction in prices, the sector continues to trade a fairly hefty premium to pre-COVID long-term averages and stocks are by no means cheap.

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The brokerage downgraded Infosys, Tech Mahindra, Mphasis and Persistent.

With their margins under pressure, several IT firms have reduced the variable pay component for employees in Q1FY23. While the variable pay is typically not a very large component, the cuts nonetheless indicate that companies are feeling the stress. Infosys wrote in a mail to its employees that the average variable payout for Q1FY23 is 70% at an organization level.

Analysts have pointed out that with the majority of IT firms due to give wage increases in the September quarter, the decline in margins could be more widespread.

EBIT (earnings before interest and tax) margins of Tier-1 IT companies contracted by a sharp 90-240 bps on a sequential basis in the June quarter. The contraction year-on-year was sharper at 240-410 bps capturing the whole impact of a rising-cost environment.

Not all analysts are pessimistic. “We believe margins have bottomed out for the sector and will improve hereon. The sector has been hit by a perfect storm of supply shortage and high attrition, fresher hiring cost which shows up in lower utilisation, higher subcontractor costs and increase in discretionary costs such as travel,” analysts at Kotak Institutional Equities said after the results season.

Others have pointed out that while it is unlikely that client budgets for 2022 would change too much, there could be a slowdown in FY24. However, in a positive development, analysts see deal contours. “From pure cloud migration or transformation deals in the past 2-3 years, we see spend on optimisation of the existing cloud landscape, with cost optimisation deals returning,” analysts at HSBC noted.