Growth outlook remains positive; estimates cut to reflect lower margin over FY20-21; TP revised to `835; ‘Buy’ maintained.
The key disappointment in Infosys’ Q4 result was miss in margin (Ebit at 21.4%) even against muted expectations (22.1% vs. 22.6% in Q3) though FY20e guidance of 21-23% was in line and suggests scope for improvement. Revenue growth at 2.1% q-o-q & FY20e growth guidance of 7.5-9.5% were also slightly lower; however, strong deal TCV of $1.6bn/6.3 bn in Q4/FY19 vs. $3.1 bn in FY18 and robust demand environment for digital services keeps us optimistic on growth.
Miss on multiple fronts in Q4
Infosys’ Q4FY19 results missed expectations on multiple fronts: (i) revenue growth of 2.1% q-o-q const. ccy was slightly weaker than our estimate of 2.5%; (ii) FY20e growth guidance of
7.5-9.5% y-o-y const. ccy was also tad lower than expectation of 8-10%; (iii) the biggest disappointment was Ebit margin at 21.4% well below already muted expectation of 22.1% implying sharp 120bps decline q-o-q. It also announced a final dividend of `10.5/share taking full year dividend to `21.5; buyback of `82.6 bn is in progress.
Deal win momentum continues, growth outlook remains positive
The miss in Q4 growth was mainly on account of client-specific issues as per management. High large deal TCV of
$1.6 bn in Q4/$6.3 bn in FY19 (vs.
$3.1 bn in FY18) and strong demand environment for digital services despite macro headwinds gives us confidence that Infosys will deliver double-digit y-o-y growth in FY20e. Even in FY19 it achieved 9% y-o-y growth vs. initial guidance of 6-8%.
Expect margin improvement in FY20e
Management attributed 120bps q-o-q margin decline to (i) -70bps due to lower utilisation; (ii) -40bps due to large deal ramp-up (rebadging in Verizon);
(iii) -30bps for higher investment;
(iv) -30bps INR appreciation partly offset by (i) +40bps lower provision and
(ii) +40bps one-offs in Q3. Investment in sales has been completed and localisation effort in US is close to target of 10k. Utilisation decline, high sub-contracting expenses is a result of strong demand and should improve over time. We expect INR depreciation to remain a tailwind. Infosys’ track record also suggests it has consistently delivered close to mid-point of initial margin guidance. As a result, we expect margin improvement in FY20e against Q4 base, post wage hike impact in Q1.
Cutting estimates, maintain Buy
We cut estimates to reflect lower margin of 22-22.5% over FY20-21e vs.23-23.5% earlier which is partly offset by better growth. Our price target, based on 18x FY21e, increases slightly to `835 (prev. `820) as we also roll forward our estimates by a quarter. We maintain Buy rating on the stock as we expect growth momentum to continue.