Digitalisation puts mid-size IT cos on growth path

Mid-tier IT services firms are getting serious traction in business belying fears that their larger peers would corner a large part of the outsourcing contracts in the pandemic year. Rather, most of the domestic mid-tier companies operating in both IT services and engineering services space have not only won large deals, but also received more business from existing clients. No wonder, these players are projected to grow their revenues in double digits in the ongoing financial year. The first quarter performances of Mindtree, L&T Technology Services, L&T Infotech, Mphasis, Coforge reflect this trend.

For instance, Mindtree posted 7.7 per cent sequential rise in its revenues in the April-June period and is projected to grow in double-digit in this fiscal year. Similarly, engineering services firm L&T Technology Services has revised its revenue guidance to 15-17 per cent for this fiscal on the back of strong demand. While L&T Infotech posted revenue growth of 4.8 per cent in sequential terms, Mphasis reported a 5.9 per cent rise in revenues quarter-on-quarter basis.

Most of the mid-tier IT firms have also shown traction in large deal space with many reporting record large deal wins during the first quarter. During this period, Mindtree reported its highest ever order book of $504 million, which was 34 per cent higher than the previous quarter. Mphasis also had a record deal win of $505 million in Q1 of FY22. L&T Technology Services has also seen a sound uptick in the large deal space. A strong pipeline of deals indicates that it is not only the large IT services firms that have benefitted from the rapid digitalization happening across enterprises, it also shows that mid-tier IT companies with niche offerings are gaining market share.

No wonder, when mid-tier IT companies are showing strong growth, this is being reflected in the share prices. Most of the mid-tier firms are trading at an all-time high with PE (price-to-earning) ratio ruling at a very high level. While Mindtree is trading at 38 times of its PE ratio, L&T Technology Services is trading at close to 50 times of its PE ratio. Similarly, Mphasis' share price is factoring in close to 40 times PE ratio. So, investors are very bullish on the growth prospects of these companies going ahead.

Though revenue, large deals are showing good momentum, many of these companies are facing margin pressure. The Q1 operating margin numbers showed that some of the costs relating to general administration, travel and other related aspects are slowly coming back. Such cost pressure is going to rise in the coming months as companies plan to reopen offices from September onwards.

Another important cost pressure is coming from the human resources segment. With demand for IT engineers going through the roof, most firms have to roll out wage hikes, special compensation in the form of bonuses to retain talent. Also, the hiring cost is going up due to the high demand. Such elements are likely to put pressure on margins going ahead. Despite such cost pressure, Indian mid-tier companies are well-placed to cash in from the emerging demand scenario with many of them readying to enter the big league in coming years.