Last Updated – December 2020
In this article, we will cover
– An overview or a snapshot of the IT sector in India
– A comprehensive well-researched list of the best IT stocks to buy
– Factors to consider while deciding the best IT stocks to buy
– A model portfolio to gain optimal and relevant exposure to the best IT stocks in the Indian market
– Portfolio companies
– A detailed table consisting of the most critical factors considered while evaluating the best IT stocks to buy
Overview of the IT sector in India
The IT sector is one of the most crucial sectors of the Indian industry as well as one the largest drivers of export revenue for the country. The industry currently contributes to about 7.7% of GDP and is expected to contribute to about 10% by 2025.India is currently the largest IT services provider in the world. The country has an edge primarily due to the availability of highly skilled and less costly manpower available. India is the leading sourcing destination in the world, serving about 55% of the global service sourcing market of an estimated size of USD 185-190 billion and a 38% market share of the BPM sourcing market.
With the onset of COVID-19, governments across the world have restricted movement of people to avoid the spread of the virus. Due to this step, the majority of the companies have had to enable “work from home” setups for their employees so as to continue the daily operations of the company. This has presented a great opportunity for IT companies as businesses across the world have been updating and developing their IT infrastructure so as to ensure seamless working among employees while maintaining constant interaction with their clients.
The pandemic has highlighted the importance of having a proper IT infrastructure to ensure efficient continuation of businesses and accelerated the push towards digitalisation across the globe for all companies ranging from small local companies to large conglomerates, who are now focusing more towards developing and upgrading their infrastructure for both consumer facing and operations related services. Along with this, a lot of IT enabled businesses have emerged during these times. This environment provides the IT industry with great business opportunities over the long term driving growth for IT companies.
As investments, IT companies are known to carry negligible to no debt on their balance sheets. They are usually asset light as no major capex is incurred due to the focus being towards providing services which enables them to generate high profitability and return ratios for investors (ROE being in the range of 20-30%) while maintaining sufficient liquidity on their books.
Summary Table of the best IT Stocks to buy
|SR NO||COMPANY NAME||NSE CODE||BSE CODE||CMP (4th DEC)||RATING||INDUSTRY|
|1||Tata Consultancy Services||TCS||532540||₹2,727.55||5||IT|
|6||Larsen & Toubro Infotech||LTI||540005||₹3,265.15||5||IT|
|8||Oracle Financial Services Software||OFSS||532466||₹3,042.30||3||ITeS|
|10||L&T Technology Services||LTTS||540115||₹1,802.30||4.5||IT|
|14||Affle India||AFFLE||542752||₹3,858.40||4||IT Ad|
Factors to consider while deciding the best IT stocks to buy
An investor should be on the lookout for certain factors which can help them identify stronger companies in the sector, such as:
- Identify the verticals and their size in the revenue of the company: IT companies service various verticals such as Banking and Financial Services, Insurance, Pharma, Communications, Media & Technology, Energy & Utilities and Manufacturing among others. The key is to find companies which are well diversified across verticals and services. Verticals which are more stable and have sound growth prospects will drive returns for the companies.
- Identify the geographic distribution of revenues: IT companies service countries across the world such as the US, Europe, Asia among others. Investors need to see the revenue share from different countries and also assess the currency exchange rate movement of India with that of the foreign currency to identify any foreign currency gains/losses which can significantly affect the earnings of the company.
- Identify the financial performance of the company: One needs to look at the performance of the company over time and against its competitors using metrics such as ROE, ROCE, P/E ratio, Cash flow from Operations and profit margin ratios among others to give an understanding about the financial position of the company and whether its financials are strong to deal with in challenging times.
- An investor also needs to assess the product offerings and the order inflow for the companies so as to ascertain the revenue flows expected for the company. Another aspect to keep an eye out for is the R&D spending of the company as technology is significantly influenced by new discoveries which can impact the business.
- IT companies are known to regularly give out dividends and conduct share buybacks as a way of giving back money to shareholders. Investors should assess the frequency and the amount of these which can also indicate stability in earnings and returns on investments. While companies conducting these activities are good for shareholders, one should assess the fact that the company maintains enough cash for expenses and inorganic and organic growth opportunities as well.
Tata Consultancy Services Ltd
Tata Consultancy Services Ltd is the largest IT company in India by Market cap and the world’s largest IT Services provider. The company is involved in providing a wide spectrum of services such as IT Services, Consultancy, business solutions, digital transformation, and IT products and platforms. The company is also foraying into newfound and developing technologies such as cloud-based computing, machine learning, AI and Blockchain-based technology. Its majority revenue segment is BFSI which forms about 31% of the total revenue pie for the company followed by Retail and CPG, Communications, Media and Tech, Manufacturing, Life Sciences and Healthcare and Energy and Utilities among Public and Others. TCS’ major revenue generation is from North America contributing to about 51%, UK and Europe ex-UK are around 15% while India is the least at 5.7%.
The company has a proven track record which is reflected in the company’s financials as it has been delivering industry leading results such as 5-year average RoE of 38.12%; an operating profit margin of 26.8% and high cash flow generating business with FCF at about Rs 18,752 crore. TCS has also seen consistent growth with revenue growing at a CAGR of 10.6% over the last 5 years while the net profits saw a 9.5% CAGR for the same period.
Though the company has delivered strong financial performance, the stock carries premium valuations vs its peers a P/E ratio at 32.3x vs industry average P/E of 19.8x. While the P/E is higher, the premium is justified as TCS has also delivered industry leading growth and returns for shareholders.
A key risk for the company lies in the fact that the company may not be able to deliver growth at a similar pace as in the past, thereby taking away the premium valuations the stock commands and impacting the share price negatively.
Infosys Ltd is currently the 2nd largest IT service provider in India. The company is engaged in providing a wide array of IT services to clients across the globe and across multiple verticals such as the US, Europe, Asia and the rest of the world. The company is also engaged in the development of new technologies to better service clients.The verticals it serves are BFSI, Retail & CPG, Communications, Energy & Utilities, Manufacturing and Hi-tech. The geographical breakdown spans across North America, Europe and India and the rest of the world.
The company has delivered a strong financial performance with 5-year average ROE 23.53% while managing to deliver Operating profit margin of 24%. It has delivered a 11.2% CAGR growth in the top line and a 4.2% CAGR growth in the bottom line the last 5 years. The company currently has a P/E ratio of 27x, being relatively fairly valued among its peers. Infosys faces risks from whistle-blowers. In the past, it has been successful in allaying any concerns but multiple claims may still harm their reputation.
Larsen & Toubro Infotech Ltd
Larsen & Toubro Infotech is a large IT service provider in India providing various IT services such as Analytics, Testing, ADM, Infrastructure Services & Security and Enterprise Solutions among others. The company services clients across the globe. The verticals the company currently serves include BFS, Insurance, Manufacturing, Hi-tech, Energy & Utilities, Retail & CPG among others. The company services companies across the world, with larger order book coming from North America, Europe, India and Asia-Pacific regions. It has delivered consistently great results with a 5-year average ROE at 37.58% and an operating profit margin at 18.6%, indicating strong performance for the shareholder. On the growth front, the company delivered a 16.9% CAGR growth in revenue while the net profits have delivered a 12.9% CAGR growth in the past 5 years. At 34x P/E, it is very attractively placed and can be looked at by investors for their long term portfolio.
Oracle Financial Services Software Ltd
Oracle Financial Services Software is primarily engaged in providing IT related services to mostly the banking, insurance and financial services sector across the globe. The company provides a suite of services such as Product license and related services, BPO services and IT solutions and consulting services. The company serves across the globe, with the following geographic breakup spanning Asia Pacific, India, USA, Europe and RoW. It has delivered strong financial performance, with the 5-year average RoE at 27.9% while the operating profit margin stood at 29% and an estimated FCF at Rs 987 crore. Oracle saw a 5.8% CAGR growth in revenue while the Net profits saw 0.32% CAGR growth. With a P/E ratio of 16.4x, Oracle is valued attractively and hence it is a part of our model portfolio.
Larsen & Toubro Technology Services Ltd
Larsen & Toubro Technology Services is an IT service company engaged in the business of providing services to multiple industries such as processing, transportation, industrial, healthcare and telecom.
The company serves several verticals: Transportation, Telecom & Hi-Tech, Industrial, Process Industry and Medical devices. The geographical breakup is as follows: North America, Europe, India and RoW.
It has delivered robust growth with the 5-year average ROE at 55.34% and EBIT margins at 19.7% and an estimated FCF at Rs 112 crore. The Company delivered a 15.5% CAGR growth in revenues while the net profits saw a 16.5% CAGR growth over the last 5 years. On valuations front too it is decently placed with a performance that exceeds peers. This offers scope for long term growth potential in the stock.The company faces risks from currency volatility and changing business demographics.
Watch our video on how to analyse and pick IT stocks for investments
In order to get exposure to Best Indian IT stocks, you would need a total of approximately ₹37,150 for the below curated portfolio as of Dec 04, 2020.
|Company Name||Weightage||CMP (As of 4th Dec)||Quantity||Total|
|Tata Consultancy Services||16%||2,727.55||2||5,455.1|
|Larsen & Toubro Infotech||22%||3,265.15||3||9,795.45|
|Oracle Financial Services Software||20%||3,042.30||2||6,084.6|
|L&T Technology Services||25%||1,802.30||5
Detailed overview of the Best IT stocks to buy now in India
The table below covers some of the most important factors while evaluating Best IT stocks such as the return ratios – RoE, operating margins, sales and earnings growth, market cap, etc.
|SR NO||COMPANY NAME||NSE CODE||BSE CODE||CMP (4th Dec)||RATING||INDUSTRY||NET WORTH (Cr)||MARKET CAP (Cr)||OPM (%) FY20||ROE FY20||EMP COST/REVN FY20||P/E||Topline CAGR 5 Years||PAT CAGR 5 Years||No of Employees FY20||Attrition (%) FY20||ROCE FY20|
|1||Tata Consultancy Services||TCS||532540||₹2,727.55||5||IT||₹95,137.00||₹1,023,482.00||26.8%||37.3%||54.8%||32.3||10.60%||9.50%||448464||12.10%||47.80%|
|6||Larsen & Tourbo Infotech||LTI||540005||₹3,265.15||5||IT||₹6,325.00||₹57,009.00||18.6%||29.5%||59.9%||34||16.90%||12.30%||31437||16.50%||40.40%|
|8||Oracle Financial Services Software||OFSS||532466||₹3,042.30||3||ITeS||₹5,929.00||₹26,164.00||29.0%||25.4%||42.0%||16.4||5.80%||0.30%||8001||21.00%||39.60%|
|10||LT Technology Services||LTTS||540115||₹1,802.30||4.5||IT||₹3,097.00||₹18,903.00||19.7%||31.4%||58.6%||27.1||15.50%||16.50%||16883||16.50%||42.60%|
|14||Affle India||AFFLE||542752||₹3,858.40||4||IT Ad||₹271.00||₹9,838.00||26.6%||43.5%||8.2%||119||–||–||10632||14.30%||42.70%|
Our Collection of Best Stocks to Buy Other links you may find useful:
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