Buy Infosys Ltd For Target Rs.2,200 by Motilal Oswal Financial Services Ltd
Guidance lifted, but commentary cautious
Continued strength in US banks a silver lining
Infosys (INFO) reported 3QFY25 revenue of USD4.9b, growth of 1.7% QoQ/6.1% YoY CC vs. our estimate of 1.0% QoQ CC. EBIT margins stood at 21.3% vs. our estimates of 20.8%. EBIT grew 3.0% QoQ/11.9% YoY to INR89b (est. INR86b). PAT came in at INR68b, up 4.6% QoQ/11.5% YoY, in line with our estimate of INR68b. The company upgraded its FY25 CC revenue growth guidance to 4.5-5% (3.75-4.5% earlier). The top end of guidance implied a QoQ decline of ~1.0% for 4Q. Large deal TCV stood at USD2.5b vs. USD2.4b in 2Q, up 4.2% QoQ. The book-to-bill ratio was 0.5x. Net new TCV was up 57% QoQ. For 9MFY25, revenue/EBIT/PAT grew 5.5%/7.1%/7.8% compared to 9MFY24. We expect revenue/EBIT/PAT to grow 10.5%/10.8%/9.0% YoY in 4QFY25. We reiterate our BUY rating on INFO with a TP of INR2,200, implying a 14% potential upside.
Our view: Discretionary recovery still not broad-based for INFO
* Revenue growth almost entirely driven by pass-through revenues, casting a shadow of doubt over its sustainability of growth: The revenue beat in 3Q was largely driven by unusually high pass-through revenues; we view this as a double-edged sword. We expect these revenues to unwind in 4Q, likely resulting in a muted ~1% QoQ decline at the top end of guidance.
* Pass-through revenues a necessary evil of the ‘cost-takeout’ phase: Passthrough revenues have inched up over the past couple of years across the industry, especially for large caps. Exhibit 2 highlights the rise in passthrough revenues for INFO and TCS. While we concede that these revenues are unavoidable in the context of mega deals, we expect them to pose headwinds to growth in FY26 for large caps.
* Commentary less upbeat compared to peers: We note that INFO and LTIM, both companies with high discretionary tilt, have provided a more cautious view on discretionary recovery. Contrary to comments from its peers, INFO saw its large deal pipeline grow, while short-cycle deals remained flat QoQ. The communications sector continued to struggle, and weakness in the automotive sector continued to drag growth in manufacturing.
* Wage hikes to impact margins in 4Q: INFO maintained its operating margin guidance of 20-22%, supported by pricing improvements and efficiency measures. Wage hikes, phased over Q4 and Q1FY26, are expected to create headwinds. However, potential tailwinds from cost optimizations and reductions in third-party expenses may help mitigate the impact.
Valuation and changes in estimates
* We have marginally tweaked our estimates for FY25/FY26/FY27E, reflecting the anticipated QoQ revenue decline in 4Q needed to meet the upper end of guidance, alongside the cautious commentary. Nonetheless, INFO has maintained its margin guidance of 20-22%. The company remains a key beneficiary of the expected pickup in discretionary spending in FY26. We value INFO at 28x FY27E EPS. This yields a rounded TP of INR2,200, implying a 14% upside. We reiterate our BUY rating.
Beat on revenues and margins; net new TCV up 57% QoQ
* USD revenue grew 0.9% QoQ to USD4.9b. In CC, it was up 1.7% QoQ, beating our estimate of 1.0% QoQ.
* The company upgraded its FY25 CC revenue growth guidance to 4.5-5% (3.75- 4.5% earlier). The top end of guidance implied a QoQ decline of ~1% for 4Q.
* Growth was led by: Life sciences (up 5.1% QoQ), Retail (up 4.7% QoQ), and BFSI (up 3.1% QoQ), whereas communications declined 5.0% QoQ. Manufacturing & Hi-tech were muted for the quarter.
* EBIT margin was at 21.3%, beating our estimates of 20.8%. Employee count was up 1.8% QoQ.
* EBIT margin guidance was maintained in the range of 20-22%.
* Large deal TCV stood at USD2.5b vs. USD2.4b in 2Q, up 4.2% QoQ. The book-tobill ratio was 0.5x. Net new TCV was up 57% QoQ.
* LTM attrition was up 80bp QoQ at 13.7%. Utilization was flat QoQ to 86% (extrainees).
* Adj. net profit grew 4.7% QoQ to INR68b, in-line with our estimate.
Key highlights from the management commentary
* Clients continue to prioritize cost take-out over discretionary spending. The company has observed strong momentum in BFSI, with Europe joining the growth trajectory alongside US, and in the retail sector in the US.
* While the focus of clients remains on cost optimization, there is increased spending in emerging growth areas such as AI, cloud adoption, and cybersecurity.
* Strong growth was seen across all verticals, driven by effective execution despite a seasonally weak quarter. AI-driven productivity gains are being shared with clients.
* The revenue growth guidance has been upgraded to 4.5-5.0% from the earlier range of 3.75-4.5%. Furloughs are expected in 4Q.
* New deals were robust, accounting for 63% of the TCV. These deals are witnessing good traction in areas such as cloud, generative AI, SAP S/4HANA, and cost take-outs. The small deal pipeline remains stable compared to the previous quarter.
* Trends in third-party costs will depend on deal structures with clients.
* Wage hikes will be implemented in two phases, starting in January and followed by the second phase in April. Wage growth in India is expected to be 6-8%, while overseas growth will be in the low single digits.
* Utilization stood at 86%, slightly above the comfortable range of 83-85% preferred by the company
Valuation and view
* We have marginally tweaked our estimates for FY25/FY26/FY27E, reflecting the anticipated QoQ revenue decline in 4Q needed to meet the upper end of guidance, alongside the cautious commentary. Nonetheless, INFO has maintained its margin guidance of 20-22%, which we view as encouraging. We expect INFO to be a key beneficiary of the acceleration in IT spending in the medium term. We value INFO at 28x FY27E EPS. This yields a rounded TP of INR2,200, implying a 14% upside. We reiterate our BUY rating.
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