Are valuations getting stretched? — One of the key discussion points in our recent
US marketing trip was how much is the flow of “India money” impacting Indian IT
stocks. While difficult to quantify, money has been pouring into the Indian
markets (FII net flows of ~$15bn YTD) and the IT sector does benefit with ~17%
weight in MSCI India. Liquidity is helping short-term performance of the sector;
Indian IT has been performing in line with the market in the recent past.
Reverse DCF implies 10-year EBIT CAGR of ~15-17% for Tier-I players — We
revisit our reverse DCF assumptions – our analysis (highlighted on page 2)
suggests that present prices imply ~15-17% EBIT CAGR over next 10 years
despite assuming a pretty aggressive 5% terminal growth rate. We have also
contrasted it with similar assumptions around one year back, when EBIT CAGRs
expected were ~8-12% or so (despite assuming a more conservative 4% terminal
growth at that point).
1-year fwd PE for Infosys at ~23x – last 5-year band of ~10-28x — Infosys now
trades at ~23x 1-year forward earnings as against a band of ~10-28x it has traded
over the past five-years. While growth has picked up, consensus is still expecting
an EPS CAGR of ~15% over FY10-12E as against EPS CAGR of ~35% over FY06-
08A, where valuations went to ~28x 1-year forward at the peak.
Short-term business strength vs. medium-term uncertainty — As highlighted in our
recent note, we expect (1) Good seasonal/cyclical strength in revenues in Q2, and
(2) Favorable currency/cross currency benefit as well. However, the medium-term
outlook depends on CY11 IT budgets, which are still uncertain currently.
Sector has been a market performer; See risks ahead — BSEIT index has
performed in line with BSE Sensex YTD. With valuations starting to get stretched
and INR appreciating in the recent past, we see risk of some underperformance
going forward – we would recommend investors to trim
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