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Will TCS outperform Infosys in terms of Q2 results?
Publish Date: October 03, 2018
TCS shares have gained 81% in the last 12 months, about 15 percentage points more than Infosys shares. The technology services company from the Tata Group has become the gold standard of Indian IT growth story, replacing long-time poster boy Infosys. With the second quarter earnings out soon, will TCS lord over Infosys yet again? We feel so. The September quarter is a seasonally strong quarter for IT companies, but TCS seems stronger than Infosys on different counts.
Sizzling September and rupee rollick
The second quarter of this financial year is set to be a relatively stronger quarter for Tier-I IT companies. Constant-currency revenue growth and EBIT margins are expected to boost growth. Margins will get help from rupee depreciation against the US dollar. We maintain our view of moderate acceleration in industry growth in FY19. Good and stable performance in all the quarters would be key to annual growth. IT companies thrive when client companies are ready to close deals. The economic environment also has a bearing on the IT deal landscape.
The US dollar has strengthened against most currencies. Ideally, this would create cross-currency headwind for Tier-I IT companies. However, the 4.5% depreciation of the rupee in the July–September quarter more than offset this headwind. As a result, companies should post higher EBIT margins. On a year-on-year (YOY) basis, the rupee has depreciated by over 9%. EBIT margins for all companies in our coverage universe—except Infosys, Wipro, and HCL Technologies—will increase sharply when looked at on a YOY basis.
Also read - How Infosys is regaining digital mindshare through acquisitions
Infosys versus TCS
We expect constant-currency revenue growth of 2.8% for Infosys in the September quarter. Cross-currency headwind would be 70 basis points. Besides, we expect a modest sequential EBIT margin rise of 30 basis points despite margin tailwind from currency. For Infosys, nearly 100 basis points of favourable currency tailwind would be offset by wage revision for senior management, and by investments in sales transformation and digital competencies. We expect Infosys management to maintain their constant-currency revenue growth guidance of 6–8%. Net profit growth of Infosys would be muted in terms of YOY numbers.
For TCS, we estimate a higher constant-currency revenue growth of 4.1%. TCS would also see a higher cross-currency headwind of 105 basis points. However, TCS would show a stronger growth, helped by its seasonal strength and a rise in the number of large deals. Despite higher cross-currency headwinds, TCS could show EBIT margin expansion of as much as 150 basis points. This would be driven by 105 basis points coming from rupee depreciation and the absorption of wage revisions and operational efficiencies. We see TCS clocking a solid net profit growth of 25%.
Also read - What you need to know about the high profile exits from Infosys
What investors will look at
For both TCS and Infosys, investors will focus on some key factors to assess the business.
For TCS, the investor focus will be on the demand outlook for the rest of the year. This is will give them a sense of the macro picture for Infosys. Infosys's pipeline of large deals would also attract attention. The EBIT margin outlook would determine how the management is using levers to protect its turf. The company's reinvestment plans of the recent currency windfall, and the pace and nature of digital deals won would be key monitorables too.
In case of Infosys, the investor focus issues are slightly different. First, investors would like to know the growth trends from the vertical of financial services for Infosys. Second, leadership attrition seems to have reached worrying levels in Infosys, with CFO MD Ranganath calling it quits. Infosys is now hunting for its 4th CFO in five years. There will also be some focus on the company’s pricing outlook and the progress it has achieved on the automation front.
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