India's IT sector is likely to experience a sluggish beginning to the first quarter of fiscal year 2027 (1QFY27), as revenues face headwinds from the ongoing West Asia crisis and increased productivity pass-throughs in managed services contracts. Kotak Institutional Equities has revised its outlook, warning that most large IT services companies will struggle to reach the midpoint of their FY2027 guidance.
Revenue Estimates and Fair Value Cuts
Kotak has trimmed its FY2027-29 estimated revenue for the sector by approximately 0-1 per cent. The brokerage has also slashed fair values by a range of 2-21 per cent. "We expect companies to be below the midpoint of their annual guidance," the report stated.
Key Factors Behind the Downgrade
The downgrade is attributed to two primary factors. First, Kotak raised its assumption for GenAI-led pricing deflation to the upper end of the 3-3.5 per cent range, citing faster-than-expected advances in frontier AI models for software-related tasks. Second, the brokerage increased its cost of equity assumption to account for higher medium-term disruption risks.
Currency Depreciation and Its Impact
Pricing pressure in the IT sector is being partly offset by the rupee's depreciation. During the quarter, the rupee weakened 2.6 per cent sequentially and 9.7 per cent year-on-year. However, the benefit of the weaker rupee may not immediately translate into higher net profits for many companies because of cash-flow hedging. Major IT companies are likely to report significant forex losses.
According to the report, most mid-tier companies have largely locked in FY2027 profit and loss statements through hedging, typically in the USD/INR range of 90-92. "Currency benefits will therefore not flow through fully to net profit, creating a visible divergence between operating performance and bottom-line growth in FY2027E," it said.
M&A Activity Picks Up
The report also highlighted a sharp pickup in merger and acquisition (M&A) activity across the industry in 2026. While some deals are aimed at strengthening capabilities and scale, others are focused on expanding sector expertise or geographic presence. However, a few acquisitions are in service areas that could themselves face GenAI-led pricing deflation.
"The shift worth watching is whether the industry moves further toward AI capabilities and platform M&A or leans on revenue and access deals to support growth," the report noted.
