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Expectations need to be tempered…
Infosys reported its Q3FY11 numbers below heightened Street
expectations with 6% QoQ US dollar revenue growth. Though notable
positives include 26,000 campus offers, >5,000 lateral hires, application
development (5.9% QoQ growth), Europe (5.9%) and 1.6% reported
currency (up 0.5% in constant currency), pricing uptick, at 3.1% volume
growth, was tepid. Noticeably, | 118.9 as FY11E EPS guidance leaves
significant delta relative to consensus EPS at about | 122 and implies a
lower FY11E exit rate. While FY12 earnings downgrades are unlikely,
upgrades could be restricted leaving limited upside in the near term.
Consequently, we maintain ADD but raise our price target to | 3350 (|
3195 earlier) and believe investors could get an attractive entry point at
lower levels.
ƒ Earning summary
Infosys reported Q3FY11 revenues of | 7,106 crore (23.8% YoY and
2.3% QoQ growth) below our/consensus | 7,136/| 7,144 crore
estimate. However, operating profit of | 2,147 crore was above
our/consensus | 2,124/| 2,137 estimate on an operating margin of
30.2% (29.8% our estimate). The company earned | 31.2 in diluted
EPS below our/consensus estimate of | 31.5/| 31.8.
ƒ Tapering attrition; lateral hires supports FY12E estimates
Infosys added 11,067 gross heads while net additions were 5,311.
Interestingly, the company added ~5,200 lateral hires, its highest
ever. Onsite effort was flat at 24.5% but higher compared to its
23.2% average since Q1FY09. Though LTM attrition was higher
sequentially at 17.5% vs. 17.1% (Q2FY11), absolute attrition
declined QoQ to 5,756 heads vs. 6,618 in Q2FY11.
Valuation
We have valued Infosys at 22x weighted average EPS of FY12E (70%) and
FY13E (30%) of | 152.5. i.e. with a 12 month target price of | 3350 per
share and maintain our ADD rating. This is to account for the 19%/16%
CAGR revenue/net profit growth during FY10-FY13E.
ƒ Operating metric highlights
Application development grew 12.8% YoY and 5.9% QoQ and stood
at 15.6% of the revenues. Consulting & system integration grew
6.4% and 4.1% QoQ vs. 14.1% and 49.5% growth in Q2FY11,
respectively. Product engineering continues to see demand
momentum with 10.2% QoQ growth on top of 31% QoQ growth in
Q2FY11. From a vertical perspective, BFSI had another strong
quarter with 8.3% QoQ growth vs. 8% QoQ growth in Q2FY11.
Retail grew 6.7% QoQ as clients continued to spend on next
generation commerce platforms. Geographically, Europe grew 5.9%
QoQ. Top client revenues grew 3.7% QoQ while Top 5 (excluding
top 1) and top10 (excluding top 5) grew 3.1% and 0.1% QoQ. The
company added 40 clients in Q3FY11.
Valuation
We continue to maintain our FY11E/FY12E earning estimate of | 119.8/|
145.3. We have valued Infosys at 22x weighted average EPS of FY12E
(70%) and FY13E (30%) of | 152.5. i.e. with a 12 month target price of |
3350 per share. This is to account for the 19%/16% CAGR revenue/net
profit growth during FY10-FY13E. Though secular demand trends are in
place, we believe, expectations are ahead of fundamentals and investors
would get an attractive entry point at lower levels. Consequently, we
continue to recommend an ADD rating.
Risk & Concern
Though the pound, euro and Australian dollar created tailwinds in
Q3FY11, cross currency volatility remains a key concern. Noticeably,
Infosys guided Q4FY11 revenue at an average rupee/$ rate of 44.7. Were
the rate to remain at these levels for the remainder of the year, the
average rupee/$ rate realised could be 45.5 for FY11E vs. 47.3 for FY10 or
an appreciation of ~4%, which could impact operating margins by ~100
bps. Incremental appreciation from these levels would create downside
risks to our estimates.
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