Published on 19/04/2017 12:58:39 PM | Source: Sharekhan
Hold Tata Consultancy Services Ltd For Target Rs.2,450.00 - Sharekhan
* Steady quarter:
Tata Consultancy Services (TCS) has delivered a stable quarter, with both revenue and margins coming broadly in line with our estimates. Constant currency revenues were up by 1% QoQ at $4,430.9 million, while reported revenues were up by 1.5% QoQ to $4,452 million. Volume grew by 1.7% QoQ and realisation dropped 0.2% QoQ. North America revenues were down by 1.8% QoQ on CC basis, while UK and continental Europe revenues were up by strong 4% QoQ and 7% QoQ, respectively. BFSI remained muted QoQ, down 0.3% on CC basis, Retail & CPG contracted 3% QoQ. Communication & Media and Hi-tech delivered growth rates of 7.4% QoQ and 5.2% QoQ, respectively. EBIT margin for the quarter stood at 25.7%, down 28BPS QoQ, impacted by INR appreciation (40BPS). Lower-than-expected decline in other income (including forex gains) and lower tax provisioning led to net income beat, down by 2.5% QoQ to Rs6,608 crore.
* Digital revenues remain strong, legacy services muted:
For Q4FY2017, Digital revenues contributed 17.9% to the topline (highest ever in reporting history), up by 8.1% QoQ to $796.9 million. For FY2017, Digital revenues delivered a growth of 29% YoY to $3 billion (contributed 16.7% to total revenues.), which is slower compared to the 53% YoY growth delivered in FY2016 on a lower base. Nevertheless, it is still almost 4.5x higher than the company’s growth in FY2017. The worrying part is that the remaining businesses (legacy services and assets levered solutions) delivered a muted growth of 2.2% YoY and 3% YoY, respectively on a reported basis in FY2017. So, till we see a material shift in digital revenues as a percentage of total revenues, it will be a tough task for TCS to deliver a decent double-digit revenue growth at least in the next two years given the pricing pressure and shift in spending patterns in the industry.
* Expect uptick in BFSI in FY2018; margin band unchanged at 26-28%:
(1) TCS management indicated that BFS will see an uptick in FY2018, citing a number of fast-moving deals in the pipeline. TCS also has a large deal pipeline in the insurance space. Further, Hi-tech is also expected to witness strong traction in FY2018. The Retail sector is facing more structural issues and is expected to remain weak in the coming quarter; (2) Diligenta is expected to revive in FY2018, led by tailwinds in the insurance space. Japan is also expected to turn around; (3) There is no change in the margin band for FY2018 (26-28%) despite INR appreciation. TCS management expects an improvement in execution, revenue mix, productivity and underperforming segments (Diligenta, Japan, Latin Americas) to drive the margin performance in FY2018; (4) Digital is expected to remain strong, as the company is working with 54% of total clients. Also, the deal size is increasing from $5-7 million to $10 million; (5) There is no change in the company’s capital allocation policy, with the TCS management re-iterating its policy to pay excess Free Cash Flow (FCF). However, the management did not reveal any concrete numbers. In the last six years, the company has paid out on an average 80% of FCF (net of acquisition). For FY2017, the dividend payout was 42%.
* Maintain Hold with unchanged price target of Rs2,450:
The TCS management mentioned that some of the demand triggers are yet to play out, and pointed to a strong deal pipeline and an uptick in BFSI revenue in FY2018. We do not see a material shift in the revenue growth trajectory for the next two years. We have revised our EPS estimates for FY2018 by 3% (change in USD/INR rate to Rs66 from Rs67.5) and also introduce our FY2019E estimates. Given the macro headwinds, the ongoing industry transition, and modest earnings growth over FY2017- FY2019E, we do not see enough merit for an upgrade in TCS, though the buyback plan will cap any downside from the current level. We maintain our ‘Hold’ rating on TCS with an unchanged price target of Rs2,450.
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