TCS: Hold

Even as software services firms work with reasonably good earnings visibility in the light of the revival in IT spends from clients in developed economies, many top-tier players look set to derive a bigger share of projects.

In this regard, TCS has been the leader of the pack as it has consistently reported superior financial and operational growth compared to its peers.

Growth across key verticals, steady increase in large customer additions and robust performance in volumes and utilisation favour TCS.

The TCS stock has appreciated by around 30 per cent in the last one year, underperforming the bluechip indices significantly as markets favoured cyclicals over defensives.

Valuations too have not been cheap. At ₹2,597, the share trades at 22 times its likely per share earnings for FY15. At this level, the TCS stock is not cheap compared with the broader markets or the 15-18 times that its peers such as Infosys, HCL Technologies and Wipro trade at.

But given TCS’ rich valuations, investors can hold the stock. Fresh buying can be considered only on significant declines for investors with a two-three year view. Current investments can be retained.

In FY14, the company’s revenues rose nearly 30 per cent over the previous fiscal to ₹81,809 crore, while net profit increased 37.7 per cent to ₹19,164 crore.

TCS’ growth in revenues and volumes over the past 8-12 quarters has been much ahead of the industry and higher than peers such as Infosys, Wipro and even consistent performers such as HCL Technologies.

The company looks well set to beat the likely industry growth rate of 13-14 per cent (in dollar terms) in FY15. Going by the numbers reported by peers such as Wipro and Infosys and their guidance, TCS may end up growing at a rate even twice as much as these peers. Its net margin, at 23.4 per cent in 2013-14, is among the highest in the industry.

TCS has increasingly focused on winning projects where it could provide a clutch of services, rather than on getting into isolated contracts.

In the last one year, the number of clients in the $100-million category increased by five to 24 currently, while those in the $50-million bucket has improved by a count of five to 58.

Nielsen, with which TCS had signed a $1-billion deal a few years back, increased the size to $2.5 billion and enhanced the tenure of the deal. This is testimony to the company’s ability to mine its existing clients well.

All key verticals of the company such as BFSI, manufacturing, and retail and distribution have been growing at or faster than the company’s overall revenue rate. Even the troubled telecom vertical has been delivering over the past few quarters. The demand is strong across its offerings — application development and maintenance, engineering services, testing, enterprise solutions and business process outsourcing.

Key geographies such as the Americas and the UK continue to grow. Thus, the company’s growth has been broad-based.

TCS’ acquisition of Alti would help it derive greater traction in Europe. As this region is conservative towards outsourcing and offshoring compared to the US, TCS would be looking to tap Alti’s local presence in France, Belgium and Switzerland and gain from IT spends.

It would also increase its presence in the enterprise solutions space, where it is not such a large player as Infosys.

Next, TCS’ two existing units — Nippon TCS Solution Center and TCS Japan — will be consolidated with IT Frontier Corporation, which is the $500-million subsidiary of Mitsubishi.

A joint venture would be created with this set up, opening up a possibility of generating $600 million in revenues, with TCS having the controlling stake.

TCS’ utilisation rate, at 85.3 per cent, is among the highest in the industry. This indicates that the company has sufficient visibility on volumes and revenues.

Attrition, at 12 per cent, is the lowest among peers. Any pricing pressure in large deals can threaten the company's margins. TCS’ realisations do slip every now and then, but the company has indicated that pricing will continue to be stable.

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