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Strong FY21 exit rate and deal wins to drive growth in FY22

Valuation continues to factor in growth

* Tata Consultancy Services (TCS) reported revenue growth of 4.2% QoQ CC in 4QFY21 (v/s our estimate of 3.4%), delivering its third consecutive quarter of broad based (over 4% QoQ) growth. It marginally improved its EBIT margin to 26.8% (+20bp QoQ/+170bp YoY). The same was below our estimate (27.2%) on ramp up of large deals. Deal wins in 4QFY21 stood at USD9.2b, the highest in its history, with a book-to-bill ratio of 1.5x. A good 4Q helped it report sales (USD)/EBIT/PAT growth of 0.6%/10%/0.4% in FY21.

* Strong recovery from TCS, post the initial phases of the COVID-19 pandemic, indicates continued strength in the tech spending environment, along with its ability to capture outsized market share. The management commentary on enterprise demand, especially on Cloud, implies a positive outlook for peers as well. It also highlighted a robust pipeline, with a mix of small/midsized deals along with a few large ones, giving it confidence on client spends.

* TCS continued to positively surprise with its ability to manage attrition (7.2%, record low). Despite higher demand for talent in the market, the management feels it won’t face much pressure given its ability to train employees in Digital skills. TCS added 19.4k employees in 4QFY21, the highest in its history.

* We expect TCS to be relatively better positioned (v/s the sector) to leverage the acceleration in large deals as clients increase spends on Cloud. Backed by strong deal wins in FY21 and continued momentum in Cloud and Data, we expect the company to deliver ~16% USD growth CAGR over FY21-23E.

* It reported an OCF/PAT of 100% and FCF/PAT of 87% on good working capital management. The total cost of the buyback (including expenses) was INR197.6b, resulting in 4QFY21 cash of INR504b (v/s INR654b in 3QFY21).

* We keep our EPS estimates unchanged. While we continue to be positive on the company, we remain Neutral given the elevated multiples. The stock currently trades ~25x FY23E EPS.

Good exit to FY21, deal wins at record highs

* In CC terms, revenue was up 4.2% QoQ, above our estimate of 3.4%. On a YoY basis, revenue grew by 5.9% YoY CC.

* USD revenue was up 5% QoQ v/s our estimate of 4%. On a YoY basis, USD revenue was up 10% v/s our estimate of 8.8%.

* Overall TCV of deals won during 4QFY21 was at a record high of USD9.2b compared to USD8.9b in 4QFY20.

* EBIT margin stood at 26.8% (v/s our estimate of 27.2%), up 20bp QoQ and 180bp YoY.

* PAT grew 14.7% YoY to INR93b, 3% miss, on account of higher ETR at 25.9% v/s our estimate of 23.5%.

* Growth was broad-based across verticals with BFSI (+7% QoQ, +13.3% YoY), Retail and CPG (+4% QoQ, -0.9% YoY), Life Sciences and Healthcare (+3.8% QoQ, +19.3% YoY), Manufacturing (+3.9% QoQ, +1.3% YoY), Technology and Services (+2.8% QoQ, +3.9% YoY), and Communications and Media (+1.8% QoQ, -4% YoY). 4QFY21 BFSI growth benefitted from scaling up of Postbank and Prudential captive deals.

* On a full-year basis, Life Sciences and Healthcare (+17.1%), BFSI (+2.4%), and Technology and Services (+0.2%) grew, while the rest continued to be below prior year levels.

* Growth was dominated by Continental Europe (+8.5% QoQ CC). North America and the UK also saw healthy growth (3.9%/3.4% QoQ CC).

* 4QFY21 saw the highest net addition of employees at 19.4k QoQ at 488,649. This was further complimented by lowest ever LTM attrition of 7.2%.

* During 4QFY21, subcontracting cost increased by 80bp YoY.

* CFO/FCF was 100%/87% of PAT. Total cash and cash equivalents at the end of FY21 stood at INR504b.

Key highlights from the management commentary

* TCS reported the highest ever TCV at USD9.2b in 4QFY21. Of this, USD3.9b/USD1.4b was in BFSI/Retail, while North America reported USD4.2b. The company had many wins around Digital transformation, with Cloud migration at the core of it. TCS has a strong order book and pipeline, which will result in strong growth momentum in FY22.

* Margin expanded despite an increase in subcontracting expenses, which was more on the tactical side. The management remains confident of managing supply constraints in the longer term, given its ability to train employees in Digital skills. It alluded that supply-side constraints in the short term may lead to higher subcontracting expenses.

* Employee addition of 19.8k was at a fresh record high, with attrition at 7.2% (record low). The management expects attrition to increase as growth returns to the industry. In terms of salary hikes, the management stated that it would be on the same level as previous hikes.

Valuation and view – rich multiples justified

* IT Services has entered into a technology upcycle, with Cloud- and Data-driven deals coming into the market.

* Given TCS’ size, capabilities, and portfolio stretch, it is rightly positioned to leverage expected industry growth.

* The company has consistently maintained its market leadership and shown bestin-class execution. This gives the company continued room to increase its margin, while demonstrating industry-leading return ratios.

* We have left our estimates unchanged as we have factored in double- digit growth for the company in FY22E.

* Our TP implies 26x FY23E EPS. While we remain positive on the company, we remain Neutral given its rich multiples.

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