India's IT Sector Feels Weight of Weak Euro

The economic crisis in Europe and its impact on the euro and pound will likely impact the profits of India's technology companies this year.
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NEW YORK (TheStreet) -- The ongoing economic turmoil in Europe and a weakening euro will likely weigh heavily on India's exports-dependent IT sector.

"If the bailout package does not inspire confidence in the market, the Indian market gets disturbed. This is a problem of the global linkage which cannot be avoided," said India's Finance Minister Pranab Mukherjee during a conference over the past week.

Europe is the second-biggest market for India's IT industry, accounting for around $15 billion of exports. Europe contributes to nearly 20% to 25% of the total revenue of India's top IT companies

Tata Consultancy Services

,

Infosys Technologies

(INFY) - Get Report

, and

Wipro

(WIT) - Get Report

.

For other companies such as

WNS Holdings

(WNS) - Get Report

,

Tech Mahindra

, and

Mastek

. Europe represents a larger market than the U.S.

During the current year, the euro declined more than 15% to the current conversion ratio of 1.23 against the dollar, a level last seen in 2003. Currency hedges against the euro and pound are less common than the dollar hedge. For instance, Mastek, with 55% of the company's receivables in pounds, hedges only 50% of net exposure to the pound.

The present economic crisis in Europe and its impact on the euro and pound will likely impact the profits of India's IT companies during 2010. The impact will exacerbate if major U.S. customers put their capex plans on hold because of the European crisis.

In addition to a bleak 2010 outlook for the India IT sector, the

long-term outlook seems short of promising

. Although analysts expect India's IT firms to average revenue growth of 20% to 25% driven by a cyclical recovery, we reckon that the current valuations already factor this in. We do not see any significant appreciation potential in India's IT stocks, at least for a few more weeks.

Currently, most of India IT American depositary receipts are trading at higher price-to-earnings ratios compared with the P/E ratio of 21.1 of India's

National Stock Exchange IT Index

. P/E multiples of Infosys, Wipro, and

Cognizant

(CTSH) - Get Report

stand at 21.9, 28.3 and 22.6, respectively. Whereas, PE multiples of

iGATE

(IGTE)

and

Patni Computer Systems

(PTI) - Get Report

stand at 15.0 and 16.3, respectively.