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We continue to remain positive on the overall demand environment of Indian IT
services. We revise our volume estimate for Tier-1 to 26-30% from earlier 22-25%
and for Tier-2 to 22-27% from 16-22%. Our recent interactions with the
management increased our confidence in sustainability of demand environment. We
also roll our model forward to December-2012E and hence, revise our target price
upwards.
Tier-1 – Volume growth to be at ~30%, along with positive bias on pricing: We
revise our volume estimates for FY12E and FY13E upwards from 22-25% YoY to
27-29% YoY, as we believe that high single-digit QoQ volume growth is
sustainable. However, we keep our pricing forecast for FY12E and FY13E same at
1-2% for Tier-1. We believe that Tier-1 would deliver stronger growth compared
to their smaller peers. Our pecking order among Tier-1 is HCL Tech, Infosys, TCS
and Wipro. We believe HCL Tech would continue to deliver volume momentum
in Top-2 quartiles, whereas conservative stance of Wipro makes our view
cautious on the company.
Tier-2 – catching to new reality: We believe that Tier-2 companies are not going
to lag far behind in the race. According to our estimates, Tier-2 IT companies
would deliver volume growth of 20-25% YoY for FY12E and FY13E as the pricing
power for Tier-1 picks up. We expect the business for Tier-2 to be driven by new
business, with sporadic instances of gaining wallet share. Since the growth for
Tier-2 is coming from the new business, we expect pricing improvement for Tier-
2 to be in line with Tier-1. Our pecking order for Tier-2 is Polaris, Persistent,
Mphasis, eClerx, MindTree, Tech Mahindra and KPIT Cummins. We expect
Polaris to drive strong growth led by product revenue with sticky margin,
Persistent’s growth to be driven by new product development around emerging
technologies, Mphasis revenue growth to come from stable pricing due to new
MSA and investment in S&M, eClerx’s growth from strong existing clients mining
and MindTree’s refocus on core-business (IT Services & PES) to drive growth.
However, Tech Mahindra would see re-rating after turnaround of Satyam.
FY12 could see further acceleration in demand environment: We expect
demand environment to further strengthen in FY12 and the trend likely to spill
over in FY13. We expect growth to be driven by 1) An uptick in IT budget in FY12
by 1-2% 2) Unlike FY11, when the entire budget was not spent, we expect FY12
IT budget to be fully utilized 3) Indian IT Services to continue to gain market
share in FY12-13E 4) Winning deals in vendor consolidation 5) Good pipeline of
deals in business transformation 6) New deal comprised of discretionary spends.
We expect easing of supply-side constraint as we enter CY11 bringing attrition
to mid-teens (LTM) by mid of CY11, hence, reducing the cost pressure. We
expect realization to see improvement in FY12 due to 1) Improvement in
business mix (strong growth momentum of consulting and package
implementation continues) 2) New businesses are coming in at higher
realization 3) Improvement due to COLA (Cost of leaving adjustment)
Raising estimates upward by 0-9% and introducing FY13 numbers: We keep
our currency estimate for FY12-13E at Rs43/$; however, revise our FY11E to Rs
45-45.3/$ from earlier Rs44.5-45/$. We introduce FY13E revenue model for our
coverage universe. We revise our revenue estimate for FY12E by 0-9% on the
back of better demand outlook. We roll forward our estimates to December
FY12E and revise target price.
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