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Morningstar | Wipro Continues to Juggle Ups and Downs; BFSI a Bright Spot; Local Shares Modestly Undervalued. See Updated Analyst Note from 20 Jul 2018

Wipro reported decent first-quarter results, with revenue coming in at the top end of management’s guidance on a currency-adjusted basis. The company continues to deal with the fallout of two large client bankruptcies from the previous quarter, which accounted for over $50 million in annualized revenue. Meanwhile, Wipro’s healthcare business continues to see more clients leave the exchange market and the communications business saw ongoing weakness. Still, it’s a balancing act across the firm, and Wipro noted that the communications business was showing signs of recovery. On a positive note, Wipro’s important banking, financial services, and insurance, or BFSI, business (30% of total revenue) showed strong momentum in the quarter, growing 14.4% year over year in constant currency. The BFSI performance was bolstered by the industry’s growing demand for digital transformation services and a generally better outlook for banks. This performance has been corroborated by both Infosys and Tata Consultancy Services, which reported similar BFSI trends earlier in the reporting cycle. We think this BFSI outlook will buttress short-term weakness in other parts of Wipro’s business. With our outlook unchanged after the first quarter, we reiterate our INR 325 fair value estimate (our U.S. dollar fair value declines to $4.75 from $4.85 due to an updated USD/INR rate of 68.75). We’d avoid the ADR given the exorbitant ADR premium on the stock but see the locally listed shares as modestly undervalued and potentially attractive to investors willing to wait out some short-term client- and market-specific weakness.

For the quarter, gross revenue increased 2.6% year over year to INR 139.8 billion, while IT services revenue rose 5.2% to INR 137.0 billion (on a non-GAAP constant-currency basis IT services revenue increased 2.4% in U.S. dollar terms to $2.03 billion). Digital revenue grew 6.2% sequentially in constant-currency terms and constituted 28% of the firm’s overall revenue in the quarter. We see this digital business as being crucial to Wipro’s long-term health in the IT services sector and believe the firm needs to ramp its development or acquisition efforts to keep pace with industry leaders such as Accenture, IBM, and Cognizant. We see Wipro as a step behind these firms but believe it can make the long-term shift. To that end, it was encouraging to hear the company had reskilled 97,000 of its employees in digital technologies (total headcount was 164,659 in the quarter).

In terms of margin, the firm’s first-quarter IT services operating margin expanded 35 basis points year over year to 17.2%. With the company leveraging automation throughout the business and shifting to higher-value digital services, we expect modest operating margin expansion over the midterm.