Infosys Technologies : In line quarter; earnings downgrade cycle has likely bottomed out  HSBC

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Infosys Technologies (INFO)
OW: In line quarter; earnings downgrade cycle has likely
bottomed out
 In line quarter, but 2Q guidance missed expectations
 Telecom recovery remains the key to FY12 growth
 FY12e earnings downgrade cycle has likely bottomed, in our
view; stock is trading at 20x and 17x on normalized FY12/13e
EPS; maintain OW rating, cut TP to INR3,300 (from INR3,400).
Infosys reported an in line quarter with stronger-than-expected volume growth, but a
modestly lower-than-expected margin performance. The stock closed weak, down 5% as we
believe investors were disappointed with the 2Q guidance of 3-5% USD top-line growth,
and flat INR EPS q-o-q. We believe a cut of 2-3% to FY12 consensus estimates was well
anticipated, and post this normalization, we believe the stock offers deep value for longterm investors, unless the macro recovery derails materially.
In line 1Q performance: Overall volumes grew 4% (for IT services) and overall USD revenues
grew 4.3%. Onsite volume growth at 6.8% was stronger than the offshore growth. In terms of
verticals, Telecom declined 7% q/q, excluding which the overall growth looks much better at
5.8% q-o-q. Weakness from Telecom, we believe, was led by the top 3-4 clients and could
reverse in 2H as capex investments by the global TSPs has been improving in the 1H2011. In
terms of geographic exposure, Europe was weak, down -2.6% q-o-q (constant currency). EBIT
margins in the quarter declined c290bps q-o-q, modestly weaker than our expectations.
2Q guidance was not greeted well today, but is it that bad? The company guided for 3.5-
5% growth for its USD top line and flat EPS of INR 29.64-30.15. We believe, the company
has factored in the uncertainty around its Telecom clients and early stability would provide
upside to this guidance. Additionally, the reorganization is nearly over (excluding the
transformational group) and should help accelerate go-to-market. 2Q EPS guidance is also
affected by the INR570m one-time gain in the 1Q due to hedging gains. Excluding that the
EPS growth guidance is 3-4% sequentially.
Valuation: We modestly adjust our FY12/13e EPS downwards by 1-3%, led by a higher
tax rate and marginally lower margins. The stock is now trading at 20x FY12e EPS and 17x
on FY13e EPS. We continue to value Infosys at 20x FY13e EPS (in line with the historical
average valuation) and therefore cut TP to INR3,300 from INR3,400