Stagnant contracting increases ask rate for H2 in IT sector: IIFL Capital Services

12 Apr 2024 , 10:31 AM

Analysts of IIFL Capital Services hosted a conference call with Information Services Group (ISG), an outsourcing advisory firm working with over 500 corporates globally. Key takeaways: 1) Managed services ACV declined 1% YoY and QoQ in Q1CY24, at USD10bn, due to weakness in Americas (-8% YoY), particularly BFSI (-18% YoY). 2) ISG lowered Managed services growth guidance to 3% YoY (vs 4.25% YoY previously) in 2024, due to the slow start to the year. Overall tech budgets are expected to be flat YoY leading to reprioritization of spend. 3) As-a-service ACV came back in the growth trajectory at 7% YoY/8% QoQ, after five straight quarters of YoY decline. The Big 3 hyperscalers, which represent more than 65% of the Infrastructure-as-a-Service (IaaS) market, led the rebound in growth. ISG continues to expect As-a-service ACV to grow 15% in 2024, on favourable base and acceleration of cloud spend. 4) Among the Indian vendors in the Standout providers, Zensar entered the <USD1bn revenue bracket, while Sonata Software dropped out of the same category. Analysts of IIFL Capital Services believe the commentary from ISG corroborates analysts of IIFL Capital Services’ view of the pace of recovery for Indian IT services in 2024 being gradual given the macro uncertainties, and stay cautious on the sector.

Managed services declines on weakness in Americas:

Managed services ACV at USD10bn, declined 1% QoQ and YoY, due to weakness in Americas and BFSI. As-a-service market ACV growth bounced back to growth 8% QoQ and 7% YoY, after five straight quarters of YoY decline, on strength in the big 3 hyperscalers. Combined ACV was up 4% YoY. Managed services ACV in Americas grew 4% QoQ and YoY. EMEA markets witnessed a 3% YoY increase in managed services ACV, while APAC managed services ACV increased 18% YoY.

Key notables from the con-call:

1) 4 mega deals were announced in the managed services segment vs 8 in Q123, while small deals continue to be under pressure 2) As a service ACV bounced back in the growth trajectory, as optimization cycles are largely behind and AI is leading to higher cloud usage 3) Managed services is seeing flat pricing YoY (vs 2- 4% decline on an avg.) 4) Top 30 Service Providers are seeing rapid scale up of GenAI projects, with ~USD6.1bn TTM revenues.

Pace of recovery to be gradual:

Demand commentary from ISG reaffirms analysts of IIFL Capital Services view that 2024 could potentially be a year where the pace of recovery will be gradual. H1 is likely to see continued pressure on discretionary spend and the focus is likely to continue to be on cost optimization deals. analysts of IIFL Capital Services expect Indian IT services sector to grow at 6.4%/10% CC in FY25/26 vs pre-Covid 5/10-year average at 8%/9% respectively. Analysts of IIFL Capital Services recommend to stay selective with firms providing better visibility (INFO/PSYS), while avoiding turnaround trades (TECHM/WPRO).