Analysts have largely welcomed Tata Consultancy Services Ltd’s second-quarter results, but have been left disappointed by the slight dip in the company’s quarter-on-quarter growth in constant currency.
On Wednesday, the country's largest IT services company TCS reported a 9% year-on-year growth in consolidated net profit for the September quarter at Rs 11,342 crore. Consolidated revenue grew nearly 8% YoY to Rs 59,692 crore.
Phillip Capital downgraded TCS from "buy" to "neutral" with a target price of Rs 3,780, citing the challenging macro environment affecting IT services spending.
Antique Stock Broking cut its price target on the stock to Rs R 3,550 from Rs 3,600, while Eqiurus Securities increased its target on the stock to Rs.3,810 from Rs.3,750.
Phillip Capital also slashed their revenue and EBITDA estimates by -0.8% and -0.7%.
Weak Growth
Stripped off the benign impact of rupee depreciation, TCS’ top line hardly moved during the quarter, a fact that was not missed by investors.
“TCS reported weak qoq growth of 0.1% in c/c, a tad lower than expectations,” noted Kotak Institutional Equities.
There was also a marginal miss in US dollar sales growth, with a 0.1% quarter-on-quarter growth in constant currency terms (2.8% YoY) during the second quarter.
Antique Stock Broking Limited expressed similar sentiments, pointing out that TCS reported flat revenue for the second quarter of fiscal year 2024 in constant currency terms, which did not align with street expectations.
Marginal Improvements
However, the company made a comeback in its EBIT margins. TCS managed to improve its EBIT (earnings before interest and taxes) margin to 24.3%, a 1.1 percentage point increase quarter-on-quarter.
This uptick was attributed to productivity improvements, even in the face of rising infrastructure costs.
“With a sharp recovery in 2Q EBIT margin performance, TCS should benefit from its scale and ability to optimize talent to control costs in the near to medium term,” said Motilal Oswal.
“This is especially visible in the fact that it has given timely increments despite growth concerns, which we expect to pay out over the medium term through easing attrition,” it added.
Cloudy Outlook
What probably irked most analysts was its tempered outlook.
The lowered profit margin and conservative near-term outlook prompted some analysts to revise their estimates and ratings for TCS.
Motilal Oswal, for instance, suggested that TCS's previous guidance appeared overly optimistic given the current market conditions. This led to a revision of estimates to account for the weaker demand outlook and project delays, though the company's long-term potential is still viewed positively.
Management is also unsure of near term pickup in the second half of FY 2024, but remains confident of the long-term demand for its services, driven by the return of discretionary tech spending and the emergence of newer technologies.
Analysts also noted that clients remained wary of an economic slowdown, leading them to reprioritize projects that promised higher returns on investment.
While TCS management has also indicated that client spending remains muted in the near term, it is seeing definite signs of macro recovery and improvement in client engagement over the medium term.
As for the demand environment, a high interest rate environment and macroeconomic uncertainties have left enterprises cautious about their spending decisions, affecting discretionary demand and the speed of decision-making.
“Cost optimization, vendor consolidation, and integrated operations remain a high priority while transformation projects are witnessing some downsizing. Deal wins continue to be strong with the company booking deals above USD 10 bn for the third consecutive quarter,” noted Antique Stock Broking.
Furthermore, TCS's conservative near-term outlook, particularly in key verticals such as banking, hi-tech, and telecom, raised concerns due to the prevailing macroeconomic uncertainties. TCS expects a gradual pickup in demand in the coming months but remains watchful.
“We believe that growth in near term in export sales are likely to remain soft while we remain optimistic over recovery over medium to long term unless macro issues further deteriorate ahead and impact demand beyond near term,” noted Equirus Securities.
These mixed outcomes underscore the challenges and opportunities facing the IT industry as it navigates an evolving market influenced by talent retention and economic uncertainties.
Improvement in second half
Despite the near-term overhand, the IT services company expects the second half of FY 2024 to be stronger than the first half, driven by successful deal wins.
Analysts too believe that ongoing supply-side tailwinds will aid TCS in preserving and expanding its margins, despite potential challenges in the form of lower growth and mega-deal ramp-ups in the second half of the fiscal year.
“The near-term outlook is weak and disappointing but does not dent hopes for a better FY2025,” noted Kotak Institutional Equities.
TCS anticipates robust revenue growth in FY2025, with expectations of an 11.1% increase compared to 5.1% in FY2024.
“We believe CY2024 budgets can provide first glimpses into demand in FY2025. TCS expects normal furlough impact in 3QFY24. These will take 2-4 months to get finalized,” noted Kotak.
This growth is attributed to several factors: a significant contribution from mega deals, particularly BSNL, which is projected to account for 2.5% of FY2025 revenues, an increased focus on cost-saving opportunities, and improved discretionary spending, especially in the BFSI and hi-tech sectors.
“Mega deals and large cost take-out and transformation opportunities will contribute higher to revenue growth in FY2025 as well,” it added.
“We continue to expect TCS to deliver superior growth in FY25 among our Tier 1 coverage, driven by its leadership in cost efficiency, which has led to strong deal inflows in recent quarters,” noted Kotak.
Human Resources
The company, India’s largest private sector employer, did not give any guidance about how many people it would hire, including freshers. Last year, it had hired xxxx, and the overhang of the hiring spree is likely to discourage the company from going aggressively after talent this year.
However, it did say it wll honor all the job offers it gave last year, even if there is some delay. TCS had, three months ago, said it aims to add 40,000 freshers to its rolls this year. Companies like TCS typically make job offers in the last semester of engineering courses, and onboard them through the next financial year.
Reflecting the uncertain job market, TCS saw attrition levels coming further down in the September quarter. The attrition rate on a 12-month trailing basis was 14.9% compared to 17.8% a quarter ago.
With gross additions less than departures, TCS’ total workforce fell by xxx to 608,985 as of September 30.
In recent years, the IT sector has been characterized by intense competition for talent, leading companies like TCS and Infosys to offer steep salary hikes to retain their employees.
However, the industry's cautious atmosphere and weak growth have eased off the 'war for talent' in the past few months.
The company has also slowed down on hiring new employees, adding just over 500 employees in the first quarter compared to 14,136 added in the same quarter a year ago.