| Summary of Contents
| Thematic Report Switch from Infosys to TCS Key points -
In the uncertain demand environment for the Indian IT services companies, it is advisable to stick to the leader Tata Consultancy Services (TCS) which is our preferred stock among the frontline IT companies. TCS is likely to sustain its much superior track record in terms of revenue growth and margin stability in the coming quarters. -
On the other hand, Infosys is facing transition issues (management change) and the management offers weak commentary on the demand outlook. Industry surveys also indicate that Infosys' top clients are likely to cut back on IT spending, spearheaded by British Telecom (BT), its single largest client. In comparison, the survey indicates a 23% increase in IT spend by TCS' clients. Moreover, according to media reports, Infosys' management has undertaken desperate measures like working on some Saturdays to boost revenues in Q3. -
In terms of valuations, TCS trades at a slight premium to Infosys. The relatively sharper run up in Infosys (as compared to TCS) has narrowed down its discount to TCS which could be utilised as an opportunity to switch from Infosys to TCS due to the latter's superior growth outlook. Currently, we have a Buy rating on TCS and Hold rating on Infosys. -
Risk: The key risk to our call is the potential distortion in quarterly results due to cross currency fluctuations (especially Euro/USD and Pound/USD). Switch from Infosys to TCS: As TCS and Infosys are both the flag bearers of the Indian IT sector, it would be imprudent to completely avoid one over the other. However given the current macro uncertainties it would be better to increase exposure to TCS by cutting some exposure in Infosys till the time the disparity in the latter's fundamentals gets adjusted in its stock valuation. Why we prefer TCS
TCS better placed for market share gains: TCS' diversified scale of operations and higher exposure to the high spending banking, financial services and insurance (BFSI; 43% as against Infosys' 35%) and infrastructure management services (IMS; 9.6% as against Infosys' 5.8%) verticals will help it to garner higher market share gains. In the last one year, TCS has gained the highest market share among the Indian IT incumbents. TCS has gained market share quarter over quarter with its market share standing at 37.4% for the September 2011 quarter, up from 35.9% a year back. During the same period, Infosys has seen its market share drop to 25.9% from 26.8% a year back. Valuation: At the current market price of Rs1,180 and Rs2,731 of TCS and Infosys respectively, they trade at 19.0x and 17.3x FY2013 earnings estimates. In the last six months TCS' average premium over Infosys was around 8.2%, which is likely to expand further in the coming quarters with Infosys likely to lag behind TCS in financial performance parameters. Infosys' stock is likely to remain weak in the run-up to third quarter results, with recent earnings warning and a potential miss and revision of FY2012E guidance. Further, we believe Infosys' earnings will remain vulnerable to downgrades in FY2013E as compared to TCS owing to TCS' relatively higher exposure to BFS and IMS verticals. On the overall sector perspective, we continue to remain cautiously optimistic and would keenly wait for the finalisation of IT budgets for CY2012. Our interaction with the company's management suggests at budget closure by end January 2012. We continue to maintain our earnings estimates and price targets for both the stocks. We maintain Hold on Infosys with a price target of Rs2,772 and Buy on TCS with a price target of Rs1,250.
PULSE TRACK IIP growth nosedives by 5.1% -
In October 2011 the Index of Industrial Production (IIP) declined by 5.1%, slipping significantly below the market estimate. The October IIP numbers are the weakest in 31 months and were a result of a decline in manufacturing, mining and capital goods output. For the year till date (YTD) FY2012, the IIP growth stands at 3.5% as against 8.7% in YTD FY2011. However, the IIP growth number for September has been revised upwards marginally to 2% from 1.9%.
SECTOR UPDATE Telecommunications Regulatory news continue to unfold, new telecom policy to be unveiled by early 2012 The Telecom Commission (TC) has reached a consensus on the following matters for the new telecom policy 2011, ie National Telecom Policy, to be out by early 2012. -
One-time charge for spectrum above 6.2MHz -
Uniform licence fee of 8% -
Tower companies to be brought under the licencing regime -
Liberal M&A norms Negative regulatory news flow coupled with falling rupee to keep stocks under pressure: The commission will meet again on December 13-14, 2011 to fine-tune the policy decisions on which it has reached a consensus. The outcome of the meeting would be shared by the end of this year. We believe that till the time the new policy is unveiled with clarity, the negative regulatory reports in the media and the falling rupee are likely to keep the telecom stocks under pressure.
Long-term trajectory looks positive; liberal M&A norms to protect the downside: With the return of the pricing power in the hands of the existing players, we believe the domestic environment has turned positive . Further, the negative regulatory developments and news flow (levy of one-time spectrum charges, higher uniform licence fee of 8% and bringing tower companies under the licence net) have been in public domain for long and been discounted by the market. Thus though we see risks to the profitability and cash flow in the short term, the long-term outlook continues to be positive. We also believe that the expected liberalisation of the M&A norms would act as a downside cushion for the sector. We maintain our Buy rating on Bharti Airtel with a price target of Rs468.
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