TCS Q2 show in-line, while Street 'unclear' on data centre push; should you buy, sell, or hold?

IT services giant Tata Consultancy Services shares fell nearly one percent in early trade on October 10, a day after the technology major revealed its earnings show for the quarter ended September 30.

Tata Consultancy Services (TCS) reported a 1.4 percent year-on-year rise in net profit to Rs 12,075 crore for the September quarter. The firm reported revenue at $7,466 million in constant currency terms, higher by 0.8 percent on a sequential basis, but lower by 3.3 percent YoY.

The earnings were in-line with Street estimates as the company booked a Rs 1,135 crore restructuring charge, likely linked to ongoing layoffs affecting over 12,000 employees.

The company reported a total contract value (TCV) of $10 billion during the quarter, supported by a $640-million mega deal with Scandinavian non-life insurer Tryg. Further, sequential growth in constant currency (CC) terms was broad-based, led by banking, financial services and insurance (BFSI), which rose 1.1 percent, and technology and services, which increased 1.8 percent.

At 9.25 a.m., shares of TCS were quoting Rs 3,038.10, lower by 0.8 percent on the NSE as compared to the previous session's closing price.

Brokerages on TCS' AI thrust

In its efforts to increase its presence in the AI ecosystem, TCS announced setting up a wholly-owned subsidiary in India to establish multiple AI and Sovereign Data Centers to provide Infrastructure and Technology enabled Services.

While management did not share exact revenue model, it noted that the business will predominantly be offering colocation services to clients in India and hyperscalers looking for data center capacities in India.

According to Nuvama, the decision places TCS at an interesting crossroad, where it will be deploying significant capital, in highgrowth but lower RoCE business, than its own.

"While this might not appear to be the best avenue to deploy capital, we view the decision as a balanced one, as it explores growth opportunities in the tech-ecosystem, with manageable capital commitment (for TCS’s balance sheet size) and decent returns profile (though lower than its own)," it added.

Japan-based Nomura said that it is unclear how the ROEs of this business will be similar to existing business RoE of ~50 percent given it is capex-heavy nature with IRRs at ~20 percent. Motilal Oswal added that TCS' integration pf the data-centre with its mainstream IT services remains unclear.

JM Financial, on the flip side, was positive on the move. As the demand for data centres in India is rising, the brokerage found TCS' co-lo foray value accretive, even if it sees limited synergies with its Services business at this stage.

"Importantly however, TCS’ willingness to put its balance sheet to use, a significant deviation from its earlier conservative approach, is a welcome change in the current dynamic environment," added the domestic brokerage.

Outlooks on margins

Nomura said that the 70 bps QoQ improvement in EBIT margin was largely due to the 80 bps tailwind from currency movements. Headwinds of salary hikes were offset by tailwinds from efficiencies.

Further, the three percent sequential reduction in headcount, including one percent through involuntary attrition, with another one percent involuntary reduction ahead, indicate a durable reset in cost base, said JM Financial. "This should either help TCS improve margins or allow it to invest for growth, improving earnings visibility in either scenario."

 

Should you buy, sell, or hold TCS shares?

TCS has corrected sharply (down 25 percent YTD) and is now trading at a valuation of 20x FY27E—in line with its historical multiple. "While we expect near-term volatility to persist, the stock appears highly attractive from a medium to long-term perspective," noted Nuvama Institutional Equities. The brokerage reaffirmed 'buy', with a reduced target price of Rs 3,650, which was Rs 3,950 earlier.

According to Motilal Oswal, while TCS' management expects FY26 growth to be better than FY25, the brokerage believes this guidance is somewhat fuzzy. "Even assuming a 1 percent CQGR in H2, we estimate FY26 international growth at ~2.5 percent in USD terms. This indicates no incremental
growth over FY25," said the brokerage, maintaining its 'buy' tag amid undemanding valuations.

Nomura kept its price target of Rs 3,300 and its rating of 'buy' intact, while HDFC Securities suggested investors 'add' the counter, with a price target of Rs 3,750 per share.

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