Home » Investment Ideas » TCS’s Saga

TCS’s Saga

An Edelweiss report says margin woes to continue for TCS
By Neha Seth | July 17, 2017

Tata Consultancy Services (TCS) is India's largest and one of the oldest IT services firms. It commenced operations in 1968 and with presence in 42 countries provides a comprehensive range of IT services to industries such as banking and financial services, insurance, manufacturing, telecommunications, retail, and transportation. TCS has a large diversified client base and its employee force, including its subsidiaries stands at 385,809. Its revenues for the last twelve months (TTM) stood at Rs 1,18,200 crore (USD17.8bn).

TCS is well-positioned and armored with end-to-end full services offerings, traction in emerging markets, ability to roll up large acquisitions, improving sales and marketing prowess and willingness to take multiple big bets (different go-to-market models) to sustain its long term hi-growth trajectory.

The giant-IT firm reported revenue for first quarter of 2018 fiscal at Rs 29,584 crore (USD4, 591mn). In constant currency terms, the revenue growth during the quarter was 2 percent followed by 3.5 per cent quarter to quarter volume growth.

Its business in North America and Banking, Financial Services and Insurance (BFSI) segment has shown marginal growth. However, the growth in these businesses is critical for TCS’s revenue growth. TCS’s net income decreased by 10.0 percent on quarter to quarter basis, standing at Rs 5,940 crore.

At the current market price of Rs 2,446, TCS trades at 18.3 times forward its 2018 earnings and 16.9 times forward its 2019 earnings, respectively.

Currency, wage hike impact margins

TCS continues to disappoint on operating margin front, as it has used its margin levers to the fullest viz., utilisation, pyramid, onsite-offshore proportion and fixed price projects. Illustrated in the first quarter of fiscal 2018, the company could not offset margin headwinds emerging from currency volatility (0.80 per cent) and wage hike (1.5 per cent), leading to 2.4 per cent on quarter to quarter basis decline in margin to 23.4 per cent.

Edelweiss in its report has reduced the firm’s expected earnings for fiscal ’18 and ’19 by 6.3 per cent and 5.8 per cent, respectively, as revised the USD/INR rate to 66 from 67, while margin assumptions are moderate. The earnings growth can be capped at best to revenue growth due to limited margin drivers at its disposal.

Robust growth in digital business

TCS continues to witness good traction in its digital segment and reported 7.6 per cent quarter to quarter (QoQ) and 26 per cent year to year (YoY) basis revenue growth, contributing 18.9 per cent of total revenues.

The digital deal sizes are getting bigger with some large deals starting to materialise. Due to the complexities involved in managing the large deals, clients experimented with the smaller players for small proof-of-concept deals. However, the clients are returning to the bigger players to execute the larger digital deals.

Reorganisation of service lines to steer digital growth

TCS realigned its digital service lines on account of the rising proportion of digital revenues. The IT firm is offering new services such as Cognitive Business Operation, Digital Transformation Services and has appointed senior leadership to manage them.

Cognitive Business Operations comprising of digital transformations for the enterprise processes, cloud adoption, regulatory compliance and TCS’s platform-based services, witnessed growth over 5 per cent on QoQ basis.

TCS’s Cyber Security services had strong demand in compliance requirements, privileged access management & cyber security; this security line witnessed double digit QoQ growth.

Digital Interactive Servicesregisteredaddition of multi-million dollar contracts with two insurance clients and an energy client.

Internet of Things (IoT)-based services saw high client traction with more than 20 initial engagements in the areas of connected Home, Mobility, Energy Management and Remote Monitoring.

Vertical segment split

Various verticals of TCS, such as Energy & Utility, Travel & Hospitality, Life Sciences & Healthcare, Communications and Manufacturing, excluding BFSI and retail, have clocked robust revenue growth in excess of 3.5 per cent in constant currency terms.

The BFSI and Retail & CPG verticals too posted decent growth of 2.3 per cent and 2.0 per cent QoQ respectively. The management is seeing traction in BFSI segment, however is waiting for few more large deal wins to call out a turnaround. Although the retail segment grew 2 per cent QoQ riding its digital prowess, the underlying weakness in large customers still persists.

Geography based performance

In constant currency terms, growth in North America, UK, India, Asia Pacific and Middle East and Africa (MEA) was relatively muted as compared to revenue growth in Continental Europe and Latin America, which reported 5.9 percent and 2.8 percent QoQ basis, respectively.

The volatile and project-centric regional markets and other businesses, which constitute 17.6 per cent of total revenues, have declined by 3.6 per cent on QoQ basis in constant currency terms.

Risks on TCS’s path

TCS will face difficulties in managing its growth margins along with macro conditions such as double dip recession in major US market, slowdown in Europe post Brexit, impact of US immigration bill, visa regulations, sharp cross currency movements and appreciation of rupee against USD, Euro and GBP and structural headwinds, including pricing pressure.

 

neha.seth@outlookindia.com

Download the Outlook Money App and read all the magazine stories on your phone!
Play Store and App Store

On Stands Now
Most Viewed