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Wipro Rating: Reduce | Margins slip to a record low

An all-round weak quarter; FY23-25 EPS down 7-10%; company more vulnerable than peers in a slowdown; ‘Reduce’ rating retained

Wipro Rating: Reduce | Margins slip to a record low
Wipro is more vulnerable than peers in a slowdown courtesy of additional challenges of turning around a business and enhanced exposure to discretionary businesses due to recent acquisitions.

Wipro reported an all-round weak quarter with significant miss on revenues, margins and earnings. OCF generation was negligible. The only positives were robust deal wins and strong headcount addition. We cut FY2023-25E revenue growth assumption by ~1% and EPS by 7-10%. We cut Fair Value to Rs 410, valuing the stock at 18X FY2024E EPS. Maintain Reduce. Wipro is more vulnerable than peers in a slowdown courtesy of additional challenges of turning around a business and enhanced exposure to discretionary businesses due to recent acquisitions.

Weak organic growth; margins fall 200 bps q-o-q to historic lows: Revenue of $2.4 bn grew 0.5% q-o-q and 13.3% y-o-y in reported terms. Sequential c/c growth of 2.1% was 70 bps below our estimate. We estimate inorganic contribution at 1%, implying weak organic q-o-q growth of 1.1%. IT services EBIT margin fell 200 bps q-o-q (280 bps y-o-y) to historic lows of 15%, a shocker noting there was no wage revision. Management attributed the sharp decline to—(1) 130 bps from decline in utilisation rates (310 bps q-o-q), higher subcon charges and internal IT investments, (2) 20 bps hit from Rizing acquisition and (3) 50 bps from increase in travel costs. Higher tax rate (23.6% compared to 16-17% in Q1FY22 and Q4FY22 due to tax reversals) and lower other income made for a worse comparison at net profit level. Net profit fell 17% q-o-q and 20.7% y-o-y to Rs 25.6 bn and was 14.7% lower than our estimate.

Juicing up margins requires payoff from investments: Wipro’s EBIT margin has declined to a new low. Besides the general industry-wide pressure, Wipro’s headwinds also result from investments to turn around the operations. These include leadership refresh, induction of several new global account executives and competencies including acquisitions. Success in many of these initiatives is critical to improve margins. In the near term, the company has to contend with wage revision and other headwinds. Our revised EBIT margin estimates of 15.5-16% for FY2023-25E is 100-140 bps lower than earlier estimates.

3-5% revenue growth guidance for September 2022: Embedded in 3-5% q-o-q revenue growth guidance for September 2022 quarter is ~150 bps contribution from Rizing acquisition. Supporting good guidance is $1.1 bn of TCV of large deal wins (size above $30 mn), representing y-o-y growth of 53.8%. Our revenue estimates are largely unchanged with positive guidance offset by revenue miss in June 2022 quarter.

Cut FY23-25EPS by 7-10%: We cut FY2023-25E revenue estimates by ~1%. We bake in sharp miss on margins, leading to 7-10% cut in EPS estimates. Retain Reduce at revised FV of Rs 410.

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