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TCS
OW: 3QFY11 – top-line in line, margins surprise positively
A better than expected margin performance, complemented
by robust 5.7% volume growth q-o-q
Strong hiring and deal wins suggest strong demand outlook
We remain OW with a target price of INR1,300
TCS reported another strong quarter as revenues grew 7% q-o-q (in USD terms) and
EBITDA margins were flat q-o-q. While top-line growth (including volume growth of 5.7%)
was in line with our expectation of 7.2% q-o-q growth, EBITDA margins were much better
than our expectation of an 80bps decline q-o-q. Hedging gains further surprised positively,
resulting in a net profit increase of 11% q-o-q vs our expectation of 2% growth.
Growth broad-based: While India and Latin America reported a decline in revenues
(reflecting seasonal factors), growth was broad-based in the primarily geographies of the US
and Europe. In terms of service lines, strong growth in testing, products, BPO and
Infrastructure services offset the weakness in the applications market
Other than telecoms, all vertical markets reported strong growth. Management expects telecom
growth to improve in 2011, but remain slower than overall group growth. The company added
12,500 employees (net) in the quarter and expects this robust hiring to continue in 4Q.
EBITDA margins surprised positively again and remained flat q-o-q, despite a 112bps q-o-q
headwind from INR appreciation, offset by an offshore leverage of 23bps and productivity
gain of 97bps (decline in sub-contracting costs, software and hardware purchases and
provisions for bad debts). We expect FY12 EBITDA margins to remain flat y-o-y.
Valuation: We reiterate our OW rating on TCS, valuing the company on a PE of 22x our
CY12e earnings (in line with Infosys), yielding a target price of INR1,300. Risks: Wage
inflation and a macro-economic slowdown are the primary risks to our rating for TCS
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