TCS reported a miss in revenue growth at 2.4% q-o-q in cc terms (vs 3.3% consensus expectations). A hit of 70-80bp was due to the billing loss in India on the back of the second COVID-19 wave. However, even after accommodating this hit (which we expect will reverse in the coming quarters), we believe the earnings upgrade cycle is largely behind TCS. The “multi-year tech upgrade cycle” to which IT firms have alluded has raised the medium-term growth outlook of the industry from 6-7% to around 8-9%, but at this stage, it is not obvious to us that double-digit growth will be certain beyond FY22.
Expected double-digit growth in FY22 is not, in our view, representative of medium-term growth (helped also by base effects of FY21 – lower revenues, but higher deal wins; just the exit rate from FY21 would lead to 8% growth for TCS). On the positive side, TCS continues to impress on operating resilience and reported margins of 25.5%, despite the wage hike. We are concerned about sector margins as costs normalise, but TCS seems the best positioned among its industry peers to manage cost pressures. Deal wins of $8.1 bn were pretty decent as well.
Q1FY22 highlights: TCS’s 2.4% q-o-q cc revenue growth was led by Life Science and Healthcare again (up 7.3% q-o-q cc). Manufacturing (up 4.8%), retail CPG (up 4.4%) and BFSI (up 3.1%) grew as well, although weakness in regional markets (down 5% q-o-q) dragged down growth. Mgmt believes demand is strong, and is seeing signs of revival in industries most impacted by the pandemic, such as travel and hospitality.
In terms of geography, North America (up 4.1% q-o-q) remained strong, whereas continental Europe slowed (up 1.5% q-o-q cc). The second COVID-19 wave in India (c5.5% of revenues) led to a 14.4% q-o-q decline in revenues. Ebit margin of 25.5% was down 130bp q-o-q, largely due to wage hikes (170bp impact), offset by favourable currency movements. Management is optimistic of growth improving in Q2 and remains confident of managing margins even when travel and other costs move up.
Changes in estimates and valuation: We tweak our EPS estimates for FY22 (down 1.3%), to factor in Q1 revenues and to reflect a slight uptick in travel and other costs. We keep our target multiple unchanged at 31x, which is at c45% premium to the market, owing to its strong operating metrics and ability to manage cost pressures. We maintain Hold with a revised TP of Rs 3,455 (Rs 3,470 earlier).