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Wipro Ltd.
New team’s execution could
surprise positively; Upgrade
to Overweight
What's Changed
Rating Equal-weight to Overweight
We believe the stock is already pricing in the impact
of a recession in the U.S. at current levels. Our
12-month price target of Rs480 is unchanged, but
start accumulating now at near-trough multiples.
Returns could be strong as management execution
could surprise against low expectations.
We believe Wipro’s entire management bandwidth
is focused on getting revenue growth back on track:
We sense that though management discusses
expectations of only “higher than industry growth,” its
internal targets are extremely aggressive to ensure that
the company starts delivering respectable peer-leading
performance in FY13e.
In the near term, IT services margins could come
down further in 2Q12… That’s because of the full three
months’ impact of wage hikes given in Jun-11 – known
and priced in, in our view. We expect FY12e margins of
22.1% (-60 bps yoy).
…but FY13e margins could surprise on the upside if
its current investments pay off… Improved yoy
margins for Wipro could emerge as one of the biggest
surprises for consensus and a key stock driver in FY13.
…and if revenue growth returns as we expect: Our
FY13 assumption of flat yoy margins could turn out to be
conservative, given the new CEO’s track record and
ability to shore up margins.
Key risks: Continued sub-20% yoy revenue growth in
IT services in FY13e, unexpected macro shock in US
and Europe could lead to delays in decision-making.
Upgrade Wipro to Overweight
Undervalued against Our Unchanged Price Target
Muted 1H revenue growth, change in management team and
concerns about growth in FY13e have severely hurt Wipro
stock – which has underperformed the market, correcting by
24% over the last three months compared to the 9% decline in
the Sensex over the same period.
2007-11 saw no excesses in IT spending: We believe lack of
excesses in IT spending over the last few years could make it
extremely difficult for US companies to simply cut their tech
budgets dramatically in the event of a slowdown in the US. Our
analysis of IT spending trends indicates that tech spending by
key US companies has been stagnant over 2007-11 (four-year
CAGR of 2% vs CAGR of 10-13% in 2001 and 2008). Similarly,
banks in 2011 are likely to spend similar US$ amounts as in
2007.
Please refer to our accompanying note India IT Services: Bear
case dominating mind share but IT budgets could turn out to be
resilient, September 2, 2011.
What’s in the Price?
We believe Wipro’s stock price is already pricing in the
impact of a recession in the US: The current stock price is
closer to our near-term worst-case scenario value of ~Rs300
(12-13x for flat to +/-5% earnings growth).
We believe that in our bear case scenario, Wipro could
generate IT services revenue growth of 13-15% yoy in FY12e
and FY13e.
Our bear case margin assumptions for IT services call for a
decline of -100bps in FY12e and another -50bps yoy in FY13e.
Over the long term (FY11-21e), we believe the current stock
price is building in revenue and EBIT CAGRs of 16.5% and
14.5%, respectively, with EBIT margins declining to ~15% by
FY21e.
Key Debates
Debate 1: When would Wipro’s IT services revenue
start growing at peer-leading rates?
Market’s view: Not soon. Wipro’s IT services revenue
growth could remain muted and lag its peers in FY12e
and FY13e.
Our view: Revival in store. Wipro’s revenue growth
has lagged its larger peers for the last few quarters. The
company has named a new CEO (Mr. T.K. Kurien) to
drive its IT services business. We believe Mr. Kurien is a
promising leader who has taken the right steps on
internal reorganization and tuning up the Wipro sales
engine to drive revenue growth for the company. We
expect Wipro to deliver revenue growth in FY13e of 22%
yoy in US$ terms compared to 16% in in FY12e.
As per management, Wipro has strong visibility to ramp
up its large clients over the coming quarters. The top 66
clients (~7% of total) account for 70% of revenues. On
an annualized basis, Wipro had six US$100m+ clients in
the Mar-11 quarter and management expects this
number to increase by 1-2 per quarter.
Debate 2: Could IT services margins surprise positively
in FY13e?
Market’s view: No. We believe the market is currently
pricing in further downside to its margins from the current
levels in FY12e and FY13e.
Our view: Yes. We believe Wipro’s IT services margins
could surprise positively in FY13e. We have assumed
Wipro maintains its current level of margins for FY12e.
For FY13e we have assumed flat margins in IT services
business for Wipro. We believe our margin assumptions
could turn out to be conservative in the event of an
earlier than expected turnaround in revenue growth.
Wipro’s margins in FY13e could move up if its current
investments pay off.
Key Business Positives
1) Diversified service offerings in IT, BPO, Testing and
Infrastructure services;
2) Presence in the domestic IT Hardware and Services
segment;
3) Lower concentration of revenues from top 10 clients
(~19% of revenues) compared to its larger peers.
Key Business Negatives
1) High exposure to telecom vertical (~17% of revenues),
which continues to lag other verticals;
2) Acquisitions tend to be margin-dilutive and carry other
acquisition-related risks;
3) Revenue productivity in IT services (revenue per
employee) lags its peers.
Price Target and Scenario Analysis
We have maintained our price target at Rs480, derived from
the probability-weighted average of our risk-reward scenarios.
[PT Rs480 = Rs580*40% + Rs440*50% + Rs280*10%]. We
maintain the probability weights in our scenarios. Our price
target implies 18x FY13e EPS.
Our base case value remains Rs440: We expect IT services
revenue growth of 16% yoy in FY12e with EBIT margins of
22.1% (-60bps yoy). For FY13e, we believe Wipro could deliver
IT services revenue growth of 22% with flat to lower margins.
Overall, we maintain our earnings estimates for FY12e-14e
and expect revenues and earnings CAGR of 19% and 11%
respectively for Wipro.
Over the longer term (FY11e-21e), we forecast 19% and 17%
revenue and EBIT CAGR, respectively (previously 20% and
19%, respectively). Our base case value remains at Rs440
despite slightly lower long-term growth assumptions, due to the
higher current cash balance for our base case DCF equity.
Our base case implies P/E of 17xFY13e EPS.
Our bull case value remains Rs580: In our bull case, we
believe Wipro’s revenue growth could accelerate and grows in
line with the larger peers. A strong revenue growth would help
margins. We factor in faster ramp up in revenue and improving
margin performance yoy in FY12e and FY13e.
Over the longer term, we assume revenue and EBIT CAGR of
23.7% and 22.7%, respectively, over F2011-21e and ~140bps
margin decline by F2021. So far, larger companies have
indicated clients’ budgets for 2011 remain stable despite
uncertainty in the macro environment. Stability in the macro
environment could lead to higher-than-expected off shoring
spend by clients, and help revenues grow faster than
expectations. Strong revenue growth, stable operating margins
and favorable currency benefits could push the stock closer to
our bull case value.
Our bull case value implies a P/E of 19x FY13e bull case EPS.
Our bear-case value remains Rs280: Due to reorganization
and change in the management, Wipro’s revenue growth has
lagged peers. It should start growing above industry average
by end of FY12e, as per management. We believe slower than
expected turnaround combined with increased macro
uncertainty could cause revenue growth to lag expectations
and grow at a slower pace in FY13e.
Our bear case assumptions for the longer term are revenue
and EBIT CAGR of 15.7% and ~13.4%, resp., for F2011-21e
with EBIT margins declining to ~15% by F2021e.
Our bear case implies a P/E of 12x FY13e bear case EPS.
Valuations
Over the past three years, Wipro has generally traded at a
discount of about 0-30% to Infosys. Wipro is currently trading at
a discount of 5-20% to Infosys and TCS. We believe the
discount to larger peers could narrow over the coming quarters
as Wipro could surprise positively and show an improvement in
FY13e revenue growth trajectory.
India Equity Research Reports, IPO and Stock News
Visit http://indiaer.blogspot.com/ for complete details �� ��
Wipro Ltd.
New team’s execution could
surprise positively; Upgrade
to Overweight
What's Changed
Rating Equal-weight to Overweight
We believe the stock is already pricing in the impact
of a recession in the U.S. at current levels. Our
12-month price target of Rs480 is unchanged, but
start accumulating now at near-trough multiples.
Returns could be strong as management execution
could surprise against low expectations.
We believe Wipro’s entire management bandwidth
is focused on getting revenue growth back on track:
We sense that though management discusses
expectations of only “higher than industry growth,” its
internal targets are extremely aggressive to ensure that
the company starts delivering respectable peer-leading
performance in FY13e.
In the near term, IT services margins could come
down further in 2Q12… That’s because of the full three
months’ impact of wage hikes given in Jun-11 – known
and priced in, in our view. We expect FY12e margins of
22.1% (-60 bps yoy).
its current investments pay off… Improved yoy
margins for Wipro could emerge as one of the biggest
surprises for consensus and a key stock driver in FY13.
…and if revenue growth returns as we expect: Our
FY13 assumption of flat yoy margins could turn out to be
conservative, given the new CEO’s track record and
ability to shore up margins.
Key risks: Continued sub-20% yoy revenue growth in
IT services in FY13e, unexpected macro shock in US
and Europe could lead to delays in decision-making.
Upgrade Wipro to Overweight
Undervalued against Our Unchanged Price Target
Muted 1H revenue growth, change in management team and
concerns about growth in FY13e have severely hurt Wipro
stock – which has underperformed the market, correcting by
24% over the last three months compared to the 9% decline in
the Sensex over the same period.
2007-11 saw no excesses in IT spending: We believe lack of
excesses in IT spending over the last few years could make it
extremely difficult for US companies to simply cut their tech
budgets dramatically in the event of a slowdown in the US. Our
analysis of IT spending trends indicates that tech spending by
key US companies has been stagnant over 2007-11 (four-year
CAGR of 2% vs CAGR of 10-13% in 2001 and 2008). Similarly,
banks in 2011 are likely to spend similar US$ amounts as in
2007.
Please refer to our accompanying note India IT Services: Bear
case dominating mind share but IT budgets could turn out to be
resilient, September 2, 2011.
What’s in the Price?
We believe Wipro’s stock price is already pricing in the
impact of a recession in the US: The current stock price is
closer to our near-term worst-case scenario value of ~Rs300
(12-13x for flat to +/-5% earnings growth).
We believe that in our bear case scenario, Wipro could
generate IT services revenue growth of 13-15% yoy in FY12e
and FY13e.
Our bear case margin assumptions for IT services call for a
decline of -100bps in FY12e and another -50bps yoy in FY13e.
Over the long term (FY11-21e), we believe the current stock
price is building in revenue and EBIT CAGRs of 16.5% and
14.5%, respectively, with EBIT margins declining to ~15% by
FY21e.
Key Debates
Debate 1: When would Wipro’s IT services revenue
start growing at peer-leading rates?
Market’s view: Not soon. Wipro’s IT services revenue
growth could remain muted and lag its peers in FY12e
and FY13e.
Our view: Revival in store. Wipro’s revenue growth
has lagged its larger peers for the last few quarters. The
company has named a new CEO (Mr. T.K. Kurien) to
drive its IT services business. We believe Mr. Kurien is a
promising leader who has taken the right steps on
internal reorganization and tuning up the Wipro sales
engine to drive revenue growth for the company. We
expect Wipro to deliver revenue growth in FY13e of 22%
yoy in US$ terms compared to 16% in in FY12e.
As per management, Wipro has strong visibility to ramp
up its large clients over the coming quarters. The top 66
clients (~7% of total) account for 70% of revenues. On
an annualized basis, Wipro had six US$100m+ clients in
the Mar-11 quarter and management expects this
number to increase by 1-2 per quarter.
Debate 2: Could IT services margins surprise positively
in FY13e?
Market’s view: No. We believe the market is currently
pricing in further downside to its margins from the current
levels in FY12e and FY13e.
Our view: Yes. We believe Wipro’s IT services margins
could surprise positively in FY13e. We have assumed
Wipro maintains its current level of margins for FY12e.
For FY13e we have assumed flat margins in IT services
business for Wipro. We believe our margin assumptions
could turn out to be conservative in the event of an
earlier than expected turnaround in revenue growth.
Wipro’s margins in FY13e could move up if its current
investments pay off.
Key Business Positives
1) Diversified service offerings in IT, BPO, Testing and
Infrastructure services;
2) Presence in the domestic IT Hardware and Services
segment;
3) Lower concentration of revenues from top 10 clients
(~19% of revenues) compared to its larger peers.
Key Business Negatives
1) High exposure to telecom vertical (~17% of revenues),
which continues to lag other verticals;
2) Acquisitions tend to be margin-dilutive and carry other
acquisition-related risks;
3) Revenue productivity in IT services (revenue per
employee) lags its peers.
Price Target and Scenario Analysis
We have maintained our price target at Rs480, derived from
the probability-weighted average of our risk-reward scenarios.
[PT Rs480 = Rs580*40% + Rs440*50% + Rs280*10%]. We
maintain the probability weights in our scenarios. Our price
target implies 18x FY13e EPS.
Our base case value remains Rs440: We expect IT services
revenue growth of 16% yoy in FY12e with EBIT margins of
22.1% (-60bps yoy). For FY13e, we believe Wipro could deliver
IT services revenue growth of 22% with flat to lower margins.
Overall, we maintain our earnings estimates for FY12e-14e
and expect revenues and earnings CAGR of 19% and 11%
respectively for Wipro.
Over the longer term (FY11e-21e), we forecast 19% and 17%
revenue and EBIT CAGR, respectively (previously 20% and
19%, respectively). Our base case value remains at Rs440
despite slightly lower long-term growth assumptions, due to the
higher current cash balance for our base case DCF equity.
Our base case implies P/E of 17xFY13e EPS.
Our bull case value remains Rs580: In our bull case, we
believe Wipro’s revenue growth could accelerate and grows in
line with the larger peers. A strong revenue growth would help
margins. We factor in faster ramp up in revenue and improving
margin performance yoy in FY12e and FY13e.
Over the longer term, we assume revenue and EBIT CAGR of
23.7% and 22.7%, respectively, over F2011-21e and ~140bps
margin decline by F2021. So far, larger companies have
indicated clients’ budgets for 2011 remain stable despite
uncertainty in the macro environment. Stability in the macro
environment could lead to higher-than-expected off shoring
spend by clients, and help revenues grow faster than
expectations. Strong revenue growth, stable operating margins
and favorable currency benefits could push the stock closer to
our bull case value.
Our bull case value implies a P/E of 19x FY13e bull case EPS.
Our bear-case value remains Rs280: Due to reorganization
and change in the management, Wipro’s revenue growth has
lagged peers. It should start growing above industry average
by end of FY12e, as per management. We believe slower than
expected turnaround combined with increased macro
uncertainty could cause revenue growth to lag expectations
and grow at a slower pace in FY13e.
Our bear case assumptions for the longer term are revenue
and EBIT CAGR of 15.7% and ~13.4%, resp., for F2011-21e
with EBIT margins declining to ~15% by F2021e.
Our bear case implies a P/E of 12x FY13e bear case EPS.
Valuations
Over the past three years, Wipro has generally traded at a
discount of about 0-30% to Infosys. Wipro is currently trading at
a discount of 5-20% to Infosys and TCS. We believe the
discount to larger peers could narrow over the coming quarters
as Wipro could surprise positively and show an improvement in
FY13e revenue growth trajectory.
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