Revenue growth likely to moderate, but valuations have turned attractive after steep correction.
The Infosys scrip is down about 22 per cent over the past month on global macro concerns. Analysts believe the stock looks attractive at current levels, as the sector at large and Infosys specifically are likely to see moderation in revenue growth over the third and fourth quarters of the year, rather than a revenue decline. This outlook factors in healthier corporate balance sheets, compared to 2008.
Analysts note that global corporate information technology budgets have taken the uncertain economic climate into consideration, focusing on cost-cutting (including minimising wasteful expenditure) and near-term revenue enhancement. This means sharp cuts in spending, as seen in 2008, are unlikely. IT companies have also, by and large, indicated that while uncertainties in the global environment are higher than a few months earlier, there are no significant changes in client spending. Infosys, in its analyst meet last week, also highlighted status quo on client spending and no project delays or cancellations, as in an IIFL report. Management left the back-ended 2011-12 revenue growth outlook (with higher growth in the second half) unchanged, highlighting that it doesn’t expect an IT spending freeze by companies.
| NEGATIVE SURPRISES ON THE RISE | |||
| Period | Actual EPS (Rs) | Est EPS (Rs) | Surprise (%) |
| Q4 FY12 | – | 38 | – |
| Q3 FY12 | – | 35.77 | – |
| Q2 FY12 | – | 32.99 | – |
| Q1 FY12 | 30.14 | 30.42 | -0.91 |
| Q4 FY11 | 31.82 | 32.96 | -3.46 |
| Q3 FY11 | 31.16 | 31.76 | -1.93 |
| Q2 FY11 | 30.41 | 29.68 | 2.47 |
| Q1 FY11 | 26.06 | 27.02 | -3.56 |
| Q4 FY10 | 28.27 | 28.05 | 0.80 |
| Q3 FY10 | 27.73 | 25.54 | 8.66 |
| Q2 FY10 | 26.87 | 25.45 | 5.54 |
| Q1 FY10 | 26.65 | 24.14 | 10.46 |
| Q4 FY09 | 28.16 | 27.05 | 4.09 |
| Q3 FY09 | 28.66 | 26.65 | 7.54 |
| Q2 FY09 | 25.02 | 24.45 | 2.34 |
| Q1 FY09 | 22.75 | 21.32 | 6.70 |
| Surprise is the difference between the Street’s expectation and actual earnings per share reported by Infosys Source: Bloomberg | |||
CHALLENGE AHEAD
Revenue growth for the sector and Infosys in particular could shrink to about two per cent quarter-on-quarter over the next couple of quarters, believes Ganesh Duvvuri of Edelweiss. The moderation, he says, is due to delayed decision-making by clients, which could pick up in 2012-13. This could lead to a downward revision in earnings estimates of Infosys by four per cent in 2011-12 and seven per cent in 2012-13. He assigns a target multiple of about 15 times 2012-13 earnings per share (EPS) for the stock price. However, he believes the Street has anticipated this and, after the recent correction, the stock looks good at current valuations.
In contrast, a BNP report suggests the risks to Infosys’ 2012-13 revenues appear higher, on factoring the increasing probability of a US recession (about 50 per cent, according to the BNP economic team). Anticipating both a slowing in demand, leading to muted revenue growth (18 per cent year-on-year for FY12 and 11 per cent for FY13) and pricing pressures hurting margins, the brokerage has cut its 2013-14 top line and EPS estimates by nine to 11 per cent and 12-13 per cent, respectively. It has cut target multiple to about 13.5 times 2012-13 EPS estimates, adding the stock price is yet to reflect the impact of global macro conditions. The brokerage has downgraded the stock to reduce and the IT sector outlook to deteriorating.
CORRECTION OVERDONE?
History holds its own lessons. In 2008-09, the price to earnings (P/E) valuations fell to 10.5 times one-year forward estimates from 19 times in a short span of time, prior to Infosys reporting its first quarter of revenue declines (on a sequential basis). Duvvuri points out that analysts over-reacted and lowered 2009-10 earnings estimates by 15 per cent after the company reported revenue declines in the December 2008 quarter, only to increase it by 10 per cent later. Pralay Das of Elara Capital points out that the trough valuations in 2009-10 was led by a cut in official expectation as well. The sharp dip was followed by an equally sharp retracement over 2010-11 and Das believes the stock, at Rs 2,274 and current P/E valuations of about 16 times, presents an attractive opportunity from a 12-18 month perspective, as multiples retrace once clarity on corporate spending emerges.
