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Resilient performance amidst weak season; Cloud migration, a growth driver

TCS reported Q3FY24 revenues at $7,281mn (marginally above our estimates), up 2.9%YoY in USD terms and 1.7%YoY in CC terms. In INR terms, revenue stood at INR605.8bn, up 4.0% YoY and 1.5% sequentially. Growth was despite the seasonally weak quarter buffeted by macro-economic headwinds. Q3FY24 order book TCV stood at $8.1bn (+3.4% YoY), lower than $9-10bn guidance range and did not include mega deals. Book-to-Bill ratio came at 1.1 for Q3FY24. Net CFO stood at 102% of net income to INR112.8bn.

*Growth led by India geography and Energy & Utilities vertical: Q3 revenue remained resilient on the back of strong 23.4% YoY cc growth in Emerging markets like India and 11.9% YoY cc growth in Energy, Resources and Utilities vertical. Growth was also led by Manufacturing (+7% YoY cc) and Lifesciences & Healthcare vertical (+3.1% YoY cc). Geographically, management sees growth opportunities in UK and India. Middle East and Africa grew 16.0%, Latin America grew 13.2% and Asia Pacific grew 3.9%.

* Fresher hiring to happen in FY25E: LTM attrition stood low at a comfortable band of 13.3% (down 160bps sequentially). There was a net addition of -5,680 employees resulting in workforce strength at 603,305. Company has commenced fresher hiring from campuses and recalibrated hiring, focusing more on utilizing the capacity. Management also mentioned that TTM attrition might go down further and net addition in Q4 shall be in similar range as previous quarters. There has been continuous focus on training employees for GenAI offerings.

* Margins target band 26%+: Adjusted operating (EBIT) margins came in at 23.4% for the quarter, down 83bps sequentially and 110bps YoY. Margins were impacted (160bps) by one-time charge of $125mn towards settlement of legal claim. Higher third-party expenses and seasonal furloughs headwinds were offset by efficiency improvements through productivity and realization and reduction in subcontractor expenses. Margin improvement levers are identified as improving productivity, utilization, realization (pricing) and reducing subcontracting costs. Company aspires the margin band between 26-28% going ahead. Net margin (Adj.) came in at 18.3% for Q3FY24.

* Management Outlook: Market sentiments are similar to previous quarters and macro uncertainty prevails. BFSI vertical de-grew 3% YoY cc due to gaps between projects and continued furloughs, however, management expects the vertical to grow in Q4 due to strong pipeline. Clients continue to prioritize business agility and cost optimization initiatives even while exploring innovative uses of Gen AI.

* Valuation: We expect strong deal momentum resulting in a solid order book providing visibility for long-term growth. There has been tremendous client interest in GenAI and company is leading the innovation and exploratory efforts for the same. We expect Revenue/EBIT/PAT to grow at a CAGR of 8.4%/9.4%/8.9% respectively over FY23-FY26E. We maintain our rating to ADD with a revised target price of INR4,065 implying a PE of 25x (unchanged) on FY26E EPS of INR163

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