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MOSL : WIPRO: Slowdown in Consulting to dampen revenue growth

WIPRO: Slowdown in Consulting to dampen revenue growth

(WPRO IN, Mkt Cap USD27.2b, CMP INR408, TP INR380, 7% Downside, Neutral)

Margin recovery to take some time

• WPRO reported a 2QFY23 IT Services' revenue of USD2.8b (up 4.1% QoQ in CC terms), in line with its guidance and our estimate (including a 130bp gain from the Rizing acquisition). The EBIT margin in IT Services stood in line at 15.1% (up 10bp QoQ). Its 3QFY23 USD CC revenue growth guidance of 0.5-2% QoQ was disappointing and missed our estimate by 50bp. The management also guided at a stable margin performance in 3QFY23.
• We were disappointed by WPRO's weak 3QFY23 revenue growth guidance. While the management blamed this on macro uncertainty and geopolitical issues, it said that it has started to see a slowdown in the Consulting business, although the same was partially compensated by cross-selling in Services. We remain concerned given the vulnerability of Consulting due to its early cycle nature. Moreover, the low employee addition in 2QFY23 also adds to near term growth concerns. We are factoring in a FY22-24 USD revenue CAGR of 7.8% - the weakest in our Tier I IT Services coverage.
• WPRO is on track to deliver a 230bp drop in EBIT margin in FY23 (excluding a one-off impact in 2Q due to the restructuring in Europe), which inhibits the management's ability to focus on growth. We expect WPRO to stay meaningfully behind its 17-17.5% medium term IT Services' EBIT margin guidance over the next two years. With the Consulting business slowing down, risk to profitability from a weakness in Capco continues to rise and may force WPRO to choose between scaling up the vertical and margin.
• We expect FY23 EBIT margin at 15% (down 250bp YoY, including a one-off impact) in IT Services, which should result in a 7.4% drop in INR PAT, despite a 7% gain from the depreciation in the INR v/s the USD. We expect a FY22-24 INR PAT CAGR of 3% - one of the lowest in our IT Services coverage.
• We lower our FY23/FY24 EPS estimate by 6%/2% to factor in a miss on growth and elevated risk. We maintain our Neutral stance as we view the current valuation as fair. Our TP implies 16x FY24E EPS.

 

In line 2Q earnings, but 3QFY23 guidance is softer than expected

• In 2QFY23, revenue from IT Services grew 4.1% QoQ in CC terms, INR EBIT fell 7% YoY, and INR PAT declined by 9% YoY.
• It delivered a USD revenue/INR EBIT/INR PAT growth of in 7.6%/(4.6%)/ (15.3)% YoY in 1HFY23.
• The EBIT margin in IT Services was in line at 15.1%.
• Its revenue growth guidance of 0.5-2% QoQ in CC terms for 3QFY23 was lower than our expectations.
• FCF-to-net income ratio stood strong at 166%. The cash on its books stood at USD897m.
• PAT fell 9% YoY to INR26.6b and was 10% below our estimate.

 

Key highlights from the management commentary

• Consulting is more prone to a risk in a weakening macro environment. It has seen an impact with some slowdown in Capco. Clients are changing the nature of deals, with a greater skew towards productivity deals.
• A weakening macro-economic environment, the crisis in Ukraine, the energy crisis, and a possible recession are creating heightened uncertainties, which will impact clients.
• The management said it will continue to face some margin headwinds in 3QFY23.