EUR 850.00 For Business Accounts Only

Morningstar | Solid 1Q for Tata Consulting Services but Wait-and-See Approach to Year; Shares at a Premium

Tata Consulting Services reported a solid start to the fiscal year, but revenue growth was a little modest versus our expectations, and management is taking a wait-and-see approach to the second quarter to determine whether a double-digit full-year revenue growth outlook is a reasonable forecast. Tata noted that banking & financial services and retail had been slightly softer than expected, and we were assuming as much with peers such as Cognizant seeing a similar trend especially in the banking & financial services space. Nevertheless, we think Tata remains in a secure and strong position in the IT services market. The firm continues to see healthy broad-based deal activity with first-quarter total contract value signings of $5.7 billion compared with $4.9 billion last year. In addition, the company’s optimistic midterm growth outlook and pipeline is supported by strong hiring with 12,356 employees added in the quarter (the highest in five years). Overall, we remain confident in Tata's narrow economic moat and maintain our INR 1,635 fair value estimate. With shares trading at a premium, we’d seek a wider margin of safety before committing new capital to the name.

For the quarter, revenue grew 10.6% year over year to INR 381.7 billion (rose 11.4% in constant currency and 8.6% in reported USD terms). Widespread demand for digital transformation services continued to drive Tata's result with digital revenue constituting 32.2% of total revenue in the quarter and growing 42% year over year. Tata’s automation software, ignio, continues to perform well and is one example where the firm’s next-generation services are gaining increased adoption and leading to deeper relationships with clients. To that end, we saw good client retention and wallet share expansion in the quarter.

On the margin side, the first-quarter operating margin was 24.2%. It was affected by both yearly salary increases and cross-currency movements. The overall impact of these two influences was a 230-basis-point headwind. Still, some of this impact was mitigated through operating expenditure control. On a net income margin basis, higher other income and a lower effective tax rate meant nearly flat performance at 21.3%. We continue to see margin uplift through the year and forecast a midterm operating margin in the realm of 26%-27%.