IT giants beat the Street

TCS, HCL Tech join Infy in reporting improved earnings, are bullish on outlook

If Infosys trumped market expectations with a strong performance last week, it was the turn of its peers, Tata Consultancy Services and HCL Technologies, to do an encore in their December 2013 quarter earnings. All three companies also exuded confidence about the future demand environment.

N Chandrasekaran, chief executive officer & managing director of TCS, said he believed next year would be a stronger one than 2013-14, as customers executed their business plans in a relatively stable environment. HCL Technologies Chief Financial Officer Anil Chanana said the deal pipeline looked significantly better. “We won 15 large deals in this quarter — about half of them in the IMS (infrastructure management services) space. We remain confident of the growth ahead as client budgets remain stable”.

Infosys had also improved its revenue guidance for the financial year from 9-10 per cent to 11.5-12 per cent.

For the December 2013 quarter, TCS’ revenues grew 32.5 per cent to Rs 21,294 crore and net profit stood at Rs 5,314 crore, up 49.6 per cent from that in the year-ago period. For Infosys and HCL Technologies, on a year-on-year basis, revenues grew 25 per cent and 30.4 per cent, to Rs 13,026 crore and Rs 8,814 crore, respectively. While Infosys’ net profit had jumped 21.4 per cent to Rs 2,875 crore, HCL Technologies’ rose 58.4 per cent to Rs 1,496 crore.

HCL Tech also saw an improvement in its core software services business (up 1.5 per cent sequentially), after four quarters of mere one per cent growth. While the HCL Tech management remains confident of maintaining growth in the core software services business, which accounts for over half its revenues, analysts will wait till the March 2014 numbers to re-rate its stock. The IMS business also continued to grow at a fast pace, driving the overall performance.

TCS’ revenue growth was supported by strong growth in Europe and telecom but came in a little lower than expected. A flattish performance of the key BFSI and retail/distribution verticals was seen as a negative. The India business, as the management had hinted earlier, declined by almost nine per cent. The company expects its domestic operations to remain under pressure till the June quarter, or even the September quarter, due to uncertainty over the coming general elections.

Nimish Joshi of CLSA India said: “Expectations had run a tad up after the Infosys result and, against that backdrop, TCS’ quarterly report could slightly disappoint some investors and lead to some correction in the stock. Nevertheless, TCS has been a highly consistent performer over the past few years and we expect the Street to be more accommodating of such minor misses. Moreover, TCS has indicated that dollar growth in 2014-15 may be higher than that in 2013-14; this should assuage any concerns on demand trends.”

Excluding India, however, the international operations (in dollar terms) of TCS grew by 3.8 per cent in the quarter, sequentially. Compared to Infosys and HCL Technologies, TCS sounded more bullish and that reflected in its hiring targets. The company’s total hiring for the 2013-2014 will be 55,000, against 50,000 estimated earlier.

“TCS’ revenue growth came in below expectations; its volumes grew just 1.8 per cent, against our expectations of 2.8 per cent. We believe the stock will correct tomorrow. BFSI, too, remained muted, but we think these are one-off issues, given that the company will gain from an improvement in BFSI demand in the US, where it has a strong presence. We believe tomorrow’s likely fall will provide good entry point in TCS,” said Ankita Somani, IT analyst at Angel Broking.

Optimisation of selling, general and administration expenses (SGA) had resulted in margin expansion for Infosys, while in case of HCL Technologies SGA limited margin decline to 31 basis points. While Infosys had witnessed margin expansion after almost six quarters, HCL Tech managed to inch up its margins consistently in the same period. TCS, on the other hand, witnessed a slight margin contraction, as it continued to make investments in SGA; stronger rupee and higher hiring activity also helped. The company said it invested margins to the tune of 70 basis points in sales.

For both Infosys and HCL Technologies, clients' budgets are stable, with minor upticks here and there. The TCS management, too, remains confident and expects budgets to be better in 2014.

Net profit growth in the quarter for all three companies was boosted by forex. TCS saw a 13 per cent jump in net profit, as it reported other income of Rs 673 crore, versus other expenses of Rs 43 crore in the September 2013 quarter. This was led by a Rs 300-crore forex gain, versus a forex loss of Rs 375 crore in the previous quarter. Though Infosys posted a higher sequential net profit growth, the number was driven by non-core and forex gains of Rs 120 crore. HCL Tech's net profit was driven by lower forex loss on a sequential basis.

The stocks of all three companies hit their all-time highs last week. At current prices, TCS trades at a significant premium (23-43 per cent) over the next three players. Its estimated price/earnings ratio for 2013-14 is about 24 times. The metric stands at 20 times for Infosys, 18 times for Wipro and 17 times for HCL Technologies. While the TCS stock may witness some correction on Friday, analysts believe this valuation premium is unlikely to shrink significantly in the near term.

Most analysts remain positive on TCS and HCL Tech, though there is a mixed outlook for Infosys. While some are optimistic on Infosys, many believe the company's restructuring will take some more time to bear fruit.

"Infosys' revenue rose 1.2 per cent in constant currency terms and guidance suggests -0.4 per cent to +1.4 per cent growth in the March quarter.

That will mean continuing underperformance to peers. We remain concerned over HR-related issues. In the current environment, we continue to prefer HCL Tech and TCS, where we see little risk," says Anantha Narayan of Credit Suisse.