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India IT Services
Story in pictures
Event
The BSE IT Index has declined 11% YTD (vs. a 9% decline in NSE). Large
caps TCS (down 12%) and Infosys (down 15%) have corrected from historic
highs seen in January – providing an attractive entry point. In this “story-incharts”
note we highlight historical PER trends, large cap valuation relative to
the Indian market and macro economic data that underpins our bullish call on
the sector. TCS and Infosys are our favoured pick. We would accumulate
HCLT for a rise in discretionary spend and avoid Mphasis.
Impact
Follow the crowd – make money. Investors have been bullish on Indian IT
following the growth resurgence witnessed last year. The sector is crowded
and we believe investors have been refraining from putting additional money
in the stocks. We acknowledge the one-sided optimistic view on these stocks
and do not expect major movement in FY12 EPS. Even so, we believe there
is still headroom for street upgrades on FY13 EPS – driving multiple
expansion and stock performance in CY11. (See Fig 1 and 2)
Stock price correction makes valuation attractive. Following good 3Q
results the stocks had rallied to historic highs. The stock price performance
has been under stress in current quarter (Fig 9-14). Both TCS and Infosys are
now trading at ~1x PEG. While there are arguments both for and against 1x
benchmark PEG ratio we think current stock prices are tempting. Historic
PEG performance can be seen in Fig 11 and 12.
Attractive earnings growth justifies premium to broader market. Indian IT
players have traded at a significant premium to the broader Indian market in
the past. We estimate Infosys (24%) and TCS (22%) will beat Sensex
earnings growth of 19% in FY12. Superior earnings growth with good visibility,
proven track record and solid RoEs command a premium to the broader
market multiple. As a result, ~40% premium to Sensex on one year forward
PER is justified and is in line with historical trends. (Please see Fig 9 & 10).
US fundamentals look steady. Our US economist, Rebecca Hiscock-Croft,
was ahead of the street in turning bullish on the US economy (CY11 GDP
growth forecast: 3.5%). Strong US corporate revenues and earnings,
increasingly available low-cost capital, depreciated capital bases and low
capex/sales ratios will likely lead to increased spends on IT. This trend has
been amply clear in the large tech results of IBM, Oracle, SAP etc. in the last
quarterly results. Key charts supporting the optimistic US growth prospects
are shown in Fig 15-19.
Outlook
Reiterate OP. We recommend investors add to positions in the run-up to 4Q
results. We acknowledge that 4Q seasonality might make it difficult for IT
companies to beat expectations but given structural demand we remain
comfortable with our FY12 and FY13 estimates.
India Equity Research Reports, IPO and Stock News
Visit http://indiaer.blogspot.com/ for complete details �� ��
India IT Services
Story in pictures
Event
The BSE IT Index has declined 11% YTD (vs. a 9% decline in NSE). Large
caps TCS (down 12%) and Infosys (down 15%) have corrected from historic
highs seen in January – providing an attractive entry point. In this “story-incharts”
note we highlight historical PER trends, large cap valuation relative to
the Indian market and macro economic data that underpins our bullish call on
the sector. TCS and Infosys are our favoured pick. We would accumulate
HCLT for a rise in discretionary spend and avoid Mphasis.
Impact
Follow the crowd – make money. Investors have been bullish on Indian IT
following the growth resurgence witnessed last year. The sector is crowded
and we believe investors have been refraining from putting additional money
in the stocks. We acknowledge the one-sided optimistic view on these stocks
and do not expect major movement in FY12 EPS. Even so, we believe there
is still headroom for street upgrades on FY13 EPS – driving multiple
expansion and stock performance in CY11. (See Fig 1 and 2)
Stock price correction makes valuation attractive. Following good 3Q
results the stocks had rallied to historic highs. The stock price performance
has been under stress in current quarter (Fig 9-14). Both TCS and Infosys are
now trading at ~1x PEG. While there are arguments both for and against 1x
benchmark PEG ratio we think current stock prices are tempting. Historic
PEG performance can be seen in Fig 11 and 12.
Attractive earnings growth justifies premium to broader market. Indian IT
players have traded at a significant premium to the broader Indian market in
the past. We estimate Infosys (24%) and TCS (22%) will beat Sensex
earnings growth of 19% in FY12. Superior earnings growth with good visibility,
proven track record and solid RoEs command a premium to the broader
market multiple. As a result, ~40% premium to Sensex on one year forward
PER is justified and is in line with historical trends. (Please see Fig 9 & 10).
US fundamentals look steady. Our US economist, Rebecca Hiscock-Croft,
was ahead of the street in turning bullish on the US economy (CY11 GDP
growth forecast: 3.5%). Strong US corporate revenues and earnings,
increasingly available low-cost capital, depreciated capital bases and low
capex/sales ratios will likely lead to increased spends on IT. This trend has
been amply clear in the large tech results of IBM, Oracle, SAP etc. in the last
quarterly results. Key charts supporting the optimistic US growth prospects
are shown in Fig 15-19.
Outlook
Reiterate OP. We recommend investors add to positions in the run-up to 4Q
results. We acknowledge that 4Q seasonality might make it difficult for IT
companies to beat expectations but given structural demand we remain
comfortable with our FY12 and FY13 estimates.
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