Anubhav Sahu Moneycontrol research
TCS has flagged off the earnings season for the technology sector on an upbeat note. Margins were better than expected and digital revenue contribution increased, which should lift sentiment for the sector as a whole.
Management appeared upbeat on transformational changes in key segments like retail and BFSI, but cautioned that a turnaround in those segments would take time.
Q2 2018 result update
Source: Moneycontrol research
TCS’ quarterly results was ahead of consensus expectations with dollar revenue growing 8.3% year-on-year(7.1% at constant currency). On a quarter-on-quarter basis dollar revenue grew by 3.2% backed by a similar growth in volumes.
Among the end markets, higher YoY revenue growth in constant currency terms was contributed by energy and utilities, travel and life science partially offset by retail and BFSI. Digital revenues grew 31% YoY (5.9% QoQ) basis in constant currency terms and now contribute 19.7% share in total revenue (vs. 18.9% in Q1 2018). Among regions, the North American market (51.9% of Sales) posted 3.6% YoY growth lower than rest of the geographies.
Operating profits witnessed margin expansion of 170 bps (QoQ basis) on account of the normalization of wage and visa cost.
Key end markets – What’s in store?
While TCS’s operational performance improved, two of the largest segments of the company – BFSI and retail (45% of sales) continue to witness below par growth. Management, however, underlined transformational changes both the end markets/clients are going through which can benefit large IT players having expertise in the whole value chain of IT solutions.
In the case of retail industry, TCS pointed out that customers are evolving from a phase when e-commerce only format was seen as winning. Traditional retailers are coming out with a value proposition which pure e-commerce players may find difficult to match. Interconnected retail is the case in point, where in seamless client servicing is across store, online formats and meets consumers varied requirement. A format like this would require a large IT company to provide an integrated solution rather than a point solution. The management said home improvement and electronic retailers were moving to such solutions.
Chart: Interconnected Retail
Source: Home depot
Similarly, in the banking space, open banking IT platform which is open to various to fin-tech adoption is gaining weight and this trend also requires a comprehensive IT solution.
Having said that such changes are at the nascent stage and various experimental models would evolve with time. It is here that TCS’s prudent investment in newer technologies and human resource would be tested.
New deals
In notable recent deal wins, Diligenta, a TCS subsidiary in UK, has secured a 15 year partnership with Scottish Widows, Lloyds Banking Group’s Life and Pensions business. As of now, details on the deal are awaited.
In general, the digital deals size is increasing in few areas like IOT (Internet of Things), Cloud computing segments but still larger share is from the smaller deals.
Elevated valuation
Source: Moneycontrol research
Quarterly result and management commentary adds to our earlier assessment that TCS is inching ahead with its technological transformation journey. We take notice of new insights in evolution and adaption of newer technologies. However one has to keep in mind that it would take time for the digital revenues to drive overall growth.
In light of structural changes IT sector growth is going through and the relatively uncertain earnings visibility, the valuation at 17.7X FY18 projected earnings seems elevated in our view.
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