Polarisation in growth of software majors

The pecking order of preference among the top-tier IT companies indicated by investors and industry analysts over the past 12-18 months, clearly segregates the best performers from the others.

So, TCS, HCL Technologies (HCLT) and Cognizant Technology Solutions are preferred over Infosys and Wipro.

Lower volumes growth, reduced pace of expansion in key verticals, client-specific issues and lackadaisical pace of large-customer additions are some important reasons for segregation in performance. The markets too seem to favour players that deliver revenue growth ahead of margins, irrespective of whether a company is sitting on cash piles or enjoys superior margins.

Valuations of even global players such as Accenture and others such as Cognizant which were at a discount to Infosys and Wipro have now gone into the premium zone.

The underperformance of the past 12-18 months has been pronounced over the past couple of quarters.

TCS and HCLT managed volumes (person months or man hours billed) growth of 2.5-5.3 per cent over the past three-four quarters, while Infosys and Wipro managed just 0.8-2.7 per cent.

Key verticals such as BFSI, manufacturing and even the troubled telecom segment, all grew at the same or faster than the overall company revenue rate of the likes of TCS and HCLT. Thus, the revenue expansion for these two companies has been healthy. Higher volumes and broad-based growth indicate that these companies have been able to tap IT spends of clients much better than the others.

For Infosys and Wipro, however, the growth has been narrower. Both these companies completed organisational restructuring nearly a year back, but are yet to see that translate to sound traction on the ground. They had also rigidly held on to pricing levels, while TCS and HCLT were comfortable taking marginal (around one per cent) cuts in realisation. But Infosys has taken a huge price cut of 3.7 per cent in realisations in June quarter. It remains to be seen if the discount would ensure higher volumes for Infosys in the coming quarter.

The US-listed Cognizant too has consistently been able to meet or exceed market expectations and is snapping on the heels of Wipro and even Infosys to become the third or second largest software exporter with an Indian legacy.

On a trailing 12 months basis, revenues of Cognizant, TCS, HCLT and even Accenture have grown at 14-29 per cent, while Infosys and Wipro have lagged behind at 9-12 per cent in dollar terms. To put things in perspective, Accenture (around $29 billion) is nearly four times the size of Infosys in terms of revenues.

The price-earnings (PE) multiples accorded by the markets clearly suggests the favourites. HCL, which traded at a significant discount to Infosys and Wipro, now commands a stiff premium over them. Now, HCLT and TCS trade at 18-19 times the historic earnings (Source: Bloomberg), while Infosys’ valuation multiple is at just 13 times.

That is not all. Accenture, which traded at a discount to many Indian IT vendors, now trades at nearly 15 times the trailing earnings. Cognizant’s PE is higher at 19 times. Clearly, the markets seem to prefer revenue visibility and growth over margins or cash piles.

TCS, HCLT and Cognizant have clearly outpaced Infosys and Wipro by delivering broad-based growth across segments and geographies. These three players look set to match, if not better, trade body Nasscom’s projected growth rate of 11-14 per cent for the industry in the current fiscal. In fact, even mid-tier IT companies that are expected to grow at a pace faster than their large-sized peers, have not been able to match the likes of TCS, HCLT and Cognizant, which have clearly shown the way.