TCS - Tepid Performance; Retain Hold On Stretched Valuation - Nirmal Bang

Tata Consultancy Services' (TCS) 3QFY14 revenue stood at US$3,438mn, up 3% QoQ and 1% below our estimate (US$3,473mn). Volume growth came in at 1.8% QoQ, below our estimate of 3.0% QoQ, while realisation rose 0.7% QoQ (in line with our estimate). Revenue growth in constant currency (CC) terms stood at 2.1% QoQ. EBIT margin was at 29.7%, down 42bps QoQ, owing to currency headwinds and higher wage costs following significant gross hires (largely in line with estimate). However, owing to significant other income of Rs6.7bn (Rs427mn loss in 2QFY14), net profit grew 13% QoQ (Rs53.1bn, 2.9%/3.7% above our/Bloomberg consensus estimates, respectively). The management believes that FY15 will be a stronger year than FY14, led by increased investment in digital technologies and greater deal sizes as well as a rising number of clients mulling these investments. Nonetheless, given the steep stock price run-up, we have retained Hold rating on TCS with a revised target price of Rs2,590 (Rs2,417 earlier), as we roll over to FY16 earnings.

Revenue in line with expectations: TCS posted a 3% QoQ revenue growth in US dollar (USD) terms for 3QFY14 at US$3,438mn (1% below our estimate). Volume growth came in at 1.8% QoQ (our estimate at 3.0%), while realisation grew 0.7% QoQ. Key growth drivers from a vertical perspective were manufacturing (up 7.7% QoQ in USD terms), telecom (6.3%% QoQ), life sciences (6.6% QoQ) and travel & hospitality (6.1% QoQ). Revenue growth in CC terms stood at 2.1% QoQ. Rupee revenue grew 1.5% QoQ at Rs212.9bn. The management believes that FY15 will be a stronger year than FY14, led by increased investment in digital technologies and greater deal sizes as well as increased number of clients mulling these investments.

EBIT margin falls on currency headwinds, other income powers net profit: TCS posted a 42bps QoQ fall in EBIT margin at 29.7%, largely in line with our and Bloomberg consensus estimates. This was because of slow revenue growth, currency headwinds and higher wage costs, given the significant gross hires. Nonetheless, significantly higher other income of Rs6.7bn (Rs427mn loss in 2QFY14) led net profit to surge 13% QoQ at Rs53.1bn (2.9%/3.7% above our/Bloomberg consensus estimates, respectively).

Retain Hold rating, stretched valuation prevents a more favourable view: TCS' stock price has surged over 70% over the past one year. The IT major continues to perform consistently and its management believes that FY15 will be a stronger year than FY14, led by increased investment in digital technologies and greater deal sizes as well as a rising number of clients mulling these investments. Nonetheless, given the steep stock price run-up and lacklustre 3QFY14 performance, we have retained Hold rating on TCS with a revised target price of Rs2,590 (Rs2,417 earlier), as we roll over to FY16 earnings (20.5x P/E multiple). We have factored in a 13% USD revenue growth, a slight 15bps margin expansion and 13% earnings growth for TCS in FY16E.

Source : Equity Bulls

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