1. Jefferies rates TCS as ‘Buy’ despite slip; here’s why

Jefferies rates TCS as ‘Buy’ despite slip; here’s why

Slowing growth in banking/financials/insurance and decline in Japan dragged down performance

By: | Published: July 18, 2016 6:04 AM
TCS Q1 result preview Revenue a small miss, BFSI and Japan main culprits, Brexit uncertainty to continue: TCS’ revenue growth was a small miss vs our estimates. (Reuters)

Revenue growth of 8.1% y-o-y, 3.7% q-o-q was a 0.4% miss versus our estimate, dragged down by slowing growth in banking/ financials/insurance and decline in Japan. Aside this execution was strong, with wage hike impact mitigated by internal efficiencies, strong client metrics and deal wins, steep lowering of attrition rates, and healthy growth in digital of 38% y-o-y. The company maintained its 26-28% earnings before interest and tax (Ebit) margin guidance for FY17e, a concern going into the results.

Revenue a small miss, BFSI and Japan main culprits, Brexit uncertainty to continue: TCS’ revenue growth was a small miss vs our estimates. Growth in cc terms was 3.1% with a volume growth of 3.4% q-o-q. Banking Financial Services and Insurance (BFSI) + 1.7% q-o-q was the major growth laggard among verticals while Japan declined among geographies. Other verticals delivered robust growth. By service offerings, IMS 5.4% q-o-q, engineering services 7% and consulting services 7% led growth. Management failed to provide any direction on the impact of Brexit although it did say that while there are threats, there would also be opportunities.

Ebit performance healthy, maintains FY17e margin forecasts: TCS was able to restrict the Ebit margin decline in the quarter to 100bps q-o-q despite the 220bps negative impact of wage hike and currency headwinds, due to operational efficiencies, with 48bps positive impact on account of equipment and software costs alone. The company maintained its Ebit margin guidance of 26-28% for FY17e, a key concern going into results given the low exit rate.
Leadership in digital continues, other metrics healthy: TCS’ leadership in digital continued with its contribution increasing to 15.9% of revenues in the quarter , annualising at $2.8 bn now. We had highlighted this in our recent note . Company added four clients to the >$50m bucket and signed nine large deals during the quarter. Attrition saw a sharp decline (-220 bps q-o-q to 12.5%), now the lowest in the industry.

Valuation/Risks: We tweak our estimates to incorporate the results and commentary. Consequently, our dollar revenue estimates and margins see a small downward revision and the FY17e/18e EPS is revised -0.7%/-1.6%. We maintain our 12million PT of R2,890, still based on a PE multiple of 18x (unchanged from earlier). We continue to like TCS for its steady growth, low EPS volatility, and leadership in digital among the Indian IT vendors.
Risks: Weakening macro, higher competitive intensity, unfavourable cross currency, stronger rupee.

We tweak our estimates to incorporate the results and commentary. Consequently, our dollar revenue estimates and margins see a small downward revision and the FY17e/18e EPS is revised -0.7%/-1.6%. We maintain our 12 million PT of R2,890, still based on a PE multiple of 18x (unchanged from earlier). We continue to like TCS for its steady growth, low EPS volatility, and leadership in digital among the Indian IT vendors. Maintain Buy.

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