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Robust TCV growth ensures continued growth into FY20
* TCS beat Street/our estimates on revenues with 2.4% CC sequential growth against expectations of 2.2%. EBIT margins, however, was 25.1%, down 50bps qoq vs. our expectation of 25.6%, but in line if adjusted for one-time charges toward electoral trust.
* Robust commentary driven by client optimism, evident from strong TCV signings of US$6.2bn – up 5% qoq – indicates continued business traction for TCS in FY20E. The company also believes that sustained growth will drive margin recovery.
* We believe consistent growth performance, stable profitability, robust commentary, and superior delivery over peers mean TCS commanding even higher valuation premium over other IT-services peers, going forward.
* In our view, TCS will continue to deliver sector-leading growth performance and thus we maintain our Hold rating on the stock with a TP of Rs2,100, valuing it at 20x FY21E EPS - implying 2x on PEG and largely in line with its current valuations on a TMF basis.
Hyper-specialized and empowered business units continue to pay rich dividends
TCS’ success can be attributed to several differentiated strengths such as its career-centric hiring, distributed agile capability, world’s largest digital workforce, and the lowest-cost delivery. However, in our view, the successful creation of independently-running small business unit structure has emerged as its biggest competitive advantage over peers. Currently, it is running ~150 such business units, giving agile decision making and better micro-accountability on growth/profitability metrics across all sub-units. This hyperspecialized approach has ensured consistent and broad-based growth performance for TCS. In FY19, the company delivered sector-leading revenue growth of 11.4% in CC terms, wherein all its verticals and geographies (except the Middle East) reported a minimum 5% growth over the previous fiscal, implying TCS has delivered better growth across its business units vs. the industry growth rate of ~5% for IT spends in the same period. With BFSI clocking its best revenue growth in several quarters and continued traction across other segments, we believe TCS is all set to deliver another stellar year of financial performance in FY20E.
Growth supremacy to continue; outlook and valuations
Given its broad-based growth performance, robust TCV signings of about US$21.9bn and confident commentary, TCS should maintain its financial outperformance among Tier-1 names (organically) in FY20E. TCS, with its superlative operating metrics, scale, optimized cost, and unmatched consistency in performance, should command a valuation premium. We assign it a PE multiple of 20x to arrive at a TP of Rs2,100 with a Hold rating (in line with the current multiple; implies ~2x on a PEG basis). Note: Worsening in the macro-situation in US and further impact on currency from Brexit remain key risk to our estimate and view.
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