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Analyst Comment

Q1 IT service sector summary: Weak start to the year, but there is light at the end of the tunnel

DigiaDigital WorkforceGoforeLoihde

Translation: Original published in Finnish on 5/30/2025 at 2:51 pm EEST.

The IT services sector's Q1 earnings season was still approached with a cautious mood, but this time the reason was Trump's tariff threats. Possible tariffs would not directly hit the IT services sector, but they would certainly have an indirect impact through customer caution. These potential impacts were not yet visible in Q1, and the situation remained very uncertain. We will certainly get a better feel for the impacts in Q2. In terms of figures, however, the start to the year was weaker than we had expected, as revenue decreased slightly organically and adjusted for working days, and profitability fell to its lowest level in years. The weak market situation in Q1 is also reflected in the fact that none of the listed IT service sector companies achieved even a satisfactory performance as measured by the Rule of 20 we launched. Digia and Netum achieved the best performance in the sector, which is still a weak performance in our cycle-overlooking range.

Regarding the market, company-specific comments on the direction of different market areas varied and changed from the previous Q1, which in our view reflects that the market may be at a turning point at the moment. Our main concern remains the fierce price competition resulting from overcapacity, which is eating deeper and deeper into order books and will slow the recovery over time. The number of employees continued to decrease slightly, but it increased in three companies, which is more than for a long time.

We expect the performance of the IT service sector to improve only slightly in 2025. Driven by a more challenging Q1 than estimated, our profitability forecasts decreased by almost 1 percentage point for the full year. We now forecast revenue to decline by 1% and profitability to improve only slightly in 2025.

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2

Organic revenue decline slowed in Q1

Overall, the revenues of the Finnish IT service sector developed relatively well in line with our expectations. The revenue of the companies in our coverage decreased organically by 4%. There was one working day less than in the comparison period, which has an impact of slightly less than -2%. Thus, considering the number of working days, the decline in revenue slowed, even relatively clearly, to 2% (Q4’24: -5%). Progress was still constrained by customers' need to save money, which has led to IT projects being scaled down, put on hold, or new launches being postponed. Due to the sector's overcapacity, client companies have also been able to recruit experts to their own payrolls more effectively than before, which has weighed on the revenue of consulting companies. Overall, revenues developed relatively well in line with our expectations in Q1, with 2 companies above, 5 in line with and 3 below our forecast.

3

4

Source: Inderes

In general, the market situation in the IT service sector remained challenging in Q1. The market situation in the public sector is difficult as a whole, but Digia and Gofore have also seen competitive tendering in that market, which can generate good business. In our opinion, this is partly due to the companies' offerings, but also to the companies' experience and competitive advantages in this market. We have heard cautiously positive signals from the private sector during the earnings season, but it is still too early to talk about a turnaround, as the indirect effects of the tariff discussions are expected to materialize only in the coming quarters. In Q1, Loihde clearly stood out from the group in terms of organic growth, with revenue growing organically by 7%. The company's Security Solutions as well as Cyber, Cloud and Connectivity areas continued to develop well, and the revenue development of the Data, Digital and AI business area, which focuses on IT consulting, also almost stabilized compared to last year.

5

Source: Inderes

Over the past couple of years, the companies that have fared well or satisfactorily in relation to the difficult market situation are those with more recurring revenue, long-term contracts, deep and strategic customer relationships, those operating in the public sector, and generally those that make business-critical solutions for customers. These include Digia, Netum, Loihde and Gofore. Companies with a high emphasis on the private sector and customized software development fared the weakest. For well over a year, there has been a trend in the market among large clients where buyers are concentrating their purchases on fewer suppliers. In our view, this trend has supported those operators with a comprehensive lifecycle service offering, sufficient delivery capacity and/or specialized expertise required for the customer relationship. In general, we expect companies with clear competitive advantages to stand out more prominently in the future. The losers will be companies that lack critical (e.g., data, AI) or differentiating capabilities, deep customer relationships (management consulting, integration and continuity services contribute), or a deep understanding of the customer's business through industry focus.

Price competition due to overcapacity is still fierce, especially in the public sector, and this is our main concern for the sector. Price competition puts pressure on profitability when wages aren't adjusted in the same way. We do not see an end to price competition until demand picks up, which we believe will require a strengthening of the economic environment and a decrease in "tariff uncertainty", which would in turn increase the investment appetite of customer companies.

The quarter-on-quarter decrease in the number of employees continued in Q1 (-1%) but has slowed down compared to just over a year ago (Q4’23: -4% and Q1’24: -2%). Already three companies increased their headcount from the previous quarter (Siili driven by an acquisition, Solteq and Digia). On the other hand, Digia, Netum and Gofore also reported on change negotiations, which was not yet reflected in the Q1 figures.

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Source: Inderes. Total number of employees as reported by the companies. Gofore, Siili, Vincit and Witted calculated on the basis of the FTE reported by the companies.

Profitability fell to its lowest level in years in Q1

The average adjusted EBIT margin for the sector was 3.8% in Q1 (Innofactor no longer included), which was below the comparison period's 6.1% and below the previous quarter's 5.9%. The average was lowered by the clearly weaker profitability of Digital Workforce, but several companies had weak profitability. This has been responded to in H1 with several change negotiations (Gofore, Netum, Siili, Tietoevry and Vincit), the effects of which will be seen partly in Q2, but more strongly from Q3 onwards. The drivers of profitability were company-specific, but many are still weighed down by weak billable utilization. Managing billing rates is very challenging in the current market situation, where projects are being postponed/paused unexpectedly. In our view, EBITA levels below 5% should prompt consideration of possible adjustment measures.

Profitability in Q1 was still mainly divided into good or very weak profitability, with little sign of anything in between. Tietoevry, Netum, Digia and Gofore all delivered good profitability in the sector context, although many were below their "own" levels. This is partly explained by the relatively high share of recurring business in the companies, the software business (Digia and Tietoevry), and the stable public sector contract portfolio across the board (although there is price pressure on new contracts). The underperforming companies in the sector have definite potential to improve their profitability once the revenue decline is overcome. 

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8

Source: Inderes

Forecasting profitability on a quarterly basis is challenging at the moment, because the revenue trend is uncertain and has a leverage effect on profitability. In addition, it is difficult to assess the timing of the effects of the various efficiency measures. As a whole, profitability levels were clearly weaker than we expected, with 0 companies above, 5 in line (within 1 percentage point), and 5 below our forecast. In aggregate, the net effect of differences in profitability expectations was -24.1 percentage points (Q4'24: -5.5%). Most of this is explained by the clearly weaker-than-expected profitability of Digital Workforce and Gofore. As before, if the weakness in demand continues or expands, new change negotiations are likely in the sector. If the decline and difficult market situation persist, companies will also be under additional pressure to adjust their more fixed cost items. Now, in practice, almost everyone has adjusted their operations at some point (or more often) in recent years. Thus, change negotiations are becoming a normal way to adjust to changes in the market situation, and it is not as dramatic as it used to be. On the other hand, demand in the IT services sector is cyclical in nature, which seemed to be a bit forgotten before the current weak cycle, as the market situation remained so good for so long. Therefore, it is important that companies do not overreact with adjustment measures and end up in a continuous efficiency spiral, which could weaken their competitiveness when the market situation improves again. Now that companies have sharpened their cost structures after years of strong investment, as the economy and demand recover, we may see profitability return to much better levels, at least temporarily.

9

Source: Inderes

Through Rule of 20, Q1 was very weak at the sector level

Earlier this year, we launched our own Rule of 20 for the IT services sector, which we believe works well, or even as the best single parameter, to measure the sector's and especially companies' operational performance, especially when viewed over the cycle. The current market situation is more challenging than in the previous 10 years and achieving an excellent level in the Rule of 20 is more difficult, whereas in the past, more companies achieved excellent performance.

The difficult market situation in Q1 is illustrated by the fact that not a single listed IT service sector company achieved even a satisfactory performance as measured by the Rule of 20. The best performers in the sector were Digia (9%), Netum (8%), Tietoevry (7%) and Loihde (6%), which is a weak performance in our range that looks beyond cycles. The performance of the rest of the companies in the sector can be considered very weak.

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2025: Slight improvement expected towards the end of the year

We expect the performance of the IT service sector to improve only slightly in 2025. Driven by a more challenging Q1 than estimated, our profitability forecasts decreased by almost 1 percentage point for the full year. We now forecast revenue to decline by 1% and profitability to improve only slightly in 2025. We forecast the adjusted EBIT-% to be 6.4% on average and 5.1% by median (2024: average 6.1% and median 3.9%). However, we estimate that the intra-sector spread will remain wide, especially in terms of profitability. Earnings improvement is mainly driven by efficiency measures. This year, as the market decline is expected to stabilize or turn into growth towards the end of the year, it should become clear which companies have succeeded in adapting to the changed market situation and whose strategy is working. In the short term, we expect the competitive situation to remain tight, but the expected strengthening of the general economic development in Finland and Europe and lower interest rates will create the conditions for a gradual improvement in the demand outlook. However, the uncertainty created by Trump's tariffs threatens to postpone the turnaround even further.

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Company-specific Q1 comments and forecasts:

Digia (in Finnish)

Digital Workforce

Gofore (in Finnish)

Loihde (in Finnish)

Netum (in Finnish)

Siili (in Finnish)

Solteq (in Finnish)

Tietoevry

Vincit (in Finnish)

Witted (in Finnish)

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