Infosys Q4 Results Review: Recovery Seen Delayed Until FY25 After Earnings Shocker

Infosys Ltd. is unlikely to return to industry-leading growth until fiscal 2025, as a shocker in the March quarter portends a disappointing year.

In a post-earnings investor call, Infosys cited three reasons for the topline miss: unplanned client rampdowns across verticals, delayed decision making, and a one-time impact.

The company saw some signs of improvement in the market environment in March, amid persistent macroeconomic uncertainties in its crucial markets—the United States is still the biggest pain point due to a banking crisis and the spectre of recession.

The management indicated that the company’s exposure to U.S. regional banks is less than 2% of its revenue, but the crucial financial services vertical—which accounted for nearly 30% of its business as of March 31—was adversely impacted due to tech budget deferrals and delayed decision-making.

Still, Infosys seems confident of making good on its revenue growth guidance on the back of digital transformation and cloud deals, which are seeing increased visibility.

But analysts aren’t impressed.

"The weak exit from FY23 means the CQGR (compound quarterly growth rate) required is 1.6-2.7%. The upper end of the guidance seems ambitious as we believe the worst on the U.S. macro front is ahead of us and not behind us," Girish Pai, head of research at Nirmal Bang, said in an April 14 note. "If customers behave like this when the U.S. economy has been resilient, we wonder how they will react when the economy actually turns down."

The brokerage expects clients to tighten their belts even further amid a likely U.S. recession. "We think a spending pick-up is probably a 2024 event at this point," Pai said.

Infosys sees its robust deal pipeline as crucial to riding out the revenue slump, but admits that closures are taking time.

In the March quarter, the IT bellwether clocked total contract value from large deals at $2.1 billion, compared to $3.3 billion in the previous three-month period. At $440 million, net new deal wins were the lowest since the beginning of the pandemic, Nomura said in a report. The IT services company expects future demand to be concentrated towards cost takeout and cost optimisation projects and large deal wins.

Again, analysts aren’t impressed.

"Infosys’ upper-end guidance of 7% involves the execution of some mega deals, which are currently only in the pipeline," Pai of Nirmal Bang said. "We think if the macro does not improve, the conversion from deal pipeline to revenue is unlikely in 2023."

Infosys' EBIT margin—a measure of operational performance—dipped 50 basis points to 21% in the March quarter due to the project rampdowns. Utilisation levels fell and employee costs rose, as a consequence, though their impact was offset by lower subcontracting costs.

The IT firm has now guided for an operating margin of 20–22% in FY24, which is 100 bps lower than the 21-23% estimated for FY23.

Infosys can improve its margins through falling attrition and lower subcontracting costs, according to Nomura. The company’s attrition rate eased to 20.9% in Q4 FY23 from 24.3% in the previous quarter, even as its total headcount fell 3,611—equivalent to 1% of its overall workforce.

The company’s management indicated that the current cost structure is inefficient due to supply-led challenges and multiple wage hikes last year. It now aims to fix the "employee pyramid" with the right mix of freshers.

"Infosys expects subcontracting expenses to come down going forward, given the high employee addition over the past few quarters, while utilisation levels could improve as freshers enter billable hours," Nomura said in its note.

Nirmal Bang’s Pai was still unimpressed.

"While the (CEO) Salil Parekh era at Infosys has brought faster dollar revenue growth, gross margin and net margin have slipped by 600 basis points and 440 basis points, respectively, during FY18-FY23," he said. "A continuation of this strategy poses a downside risk to consensus and our estimates."

At least 10 brokers—including JPMorgan, Macquarie, and Citigroup—have slashed their ratings on the Infosys stock. While Motilal Oswal and Jefferies continue to have a "buy" rating on Infosys, Nomura is "neutral". Nirmal Bang has called for a "sell".