TCS Q3 Earnings : Five things to watch, The IT sector earnings season for the third quarter of fiscal year 2023 is set to begin today, starting with IT services major Tata Consultancy Services (TCS). This will be followed by Infosys and HCLTech on January 12 and Wipro on January 13 – all in the same week.
While the overall growth in the sector is expected to be muted in Q3 due to the holiday season, high furloughs and macroeconomic challenges creating select pockets of volatility in client segments like BFSI, high tech and telecom etc.; TCS will likely be able to report a decent performance as compared to its peers, according to industry analysts. However, its exposure to weaker markets like the Europe and the UK is the highest among peers. Join Our Instagram Channel
Commenting on the current quarter’s demand outlook, TCS CEO Rajesh Gopinathan had said during Q2 earnings, “While the strength of our order book as well as the pipeline for Q3 is somewhat comforting, given the volatility, we remain very vigilant and are staying very close to our clients.”
Mega deals have already started to slow down and so has the nature of deal wins as clients are rethinking technology budgets amidst war, inflation, adverse regulatory changes and recessionary pressures in markets like the US, which account for nearly 60-65% of the revenue for the Indian IT services companies and Europe for another 20-25%, according to a recent ICRA report. Analysts are estimating TCS’ revenue for Q3 in constant currency (CC) terms to come in at around 1.5-1.9% touching $6,980 million or Rs. 56,922 crore. Join Our Telegram Channel
TCS as compared to its peers has the highest exposure to the Europe and UK markets (currently the weakest against the US) at around 30% of its revenue, which might make it more vulnerable to the existing macro uncertainties.
Leading IT analyst Moshe Katri of Wedbush Securities, in his recent note said that TCS’ clients will remain cautious about CY23 IT budgets though there are no “indications of upcoming budget delays or elongated sale cycles.” Similar to September quarter, demand continues to exceed expectations, Katri said.
Demand may be in line with estimates
TCS’ management over the past couple of quarters remained bullish on maintaining deal win total contract value (TCV) in the range of $7-9 billion each quarter. In Q3 too, analysts at Kotak Institutional Equities believe it could cross $9 billion plus even in TCV. Nirmal Bang’s head of research Girish Pai, however, expect that with no large deal win in Q3, the TCV could remain flattish on the account of “delays seen in decision making, especially on longer term deals.”
Wedbush Securities’ Katri said that TCS continues to remain focussed on expanding wallet share from existing clients by “aligning customer size/maturity with delivery, with the intention of building confidence while creating cross-selling transformational initiatives; TCS’ business transformational group manages large/mature clients.”
With large and mega deals slowing down as well as multi-year transformation deals which were earlier being broken down among several service providers taking a back seat, vendor consolidation is the latest is trend that has emerged and likely to benefit Tier-I IT companies like TCS. These deals though will be comparatively of lower sizes as compared to the overall mega digital transformation deals, analysts told Moneycontrol.
“Vendor consolidation could become the theme for the coming quarters and would be a lever of growth for the company,” Pai said in his report.
Hence, the nature of deal wins, deal sizes and the sectors will be something to watch out for.
Impact of furloughs
Commentary on higher than expected furloughs will be a major theme to keep a track on; combined with slowdown in demand and decision making from certain sectors like mortgage, hi-tech, telecom, retail and manufacturing.
This will also reflect in the revenue growth numbers. “In CC terms, the revenue growth is likely to be at ~1.6% QoQ, implying ~20bp of currency headwinds. 3Q furloughs are expected to be higher than the earlier trend,” analysts at Motilal Oswal noted.
“The focus on furloughs will be high. The furlough impact was minimal in the last two years due to aggressive client spending and large deal rampup. We expect high furloughs in hi-tech and moderate in others,” said analysts at Kotak Institutional Securities.
Consequently, attrition rate is expected to start receding. Last quarter, TCS management said that attrition had likely started to bottom out and the company will now focus on improving utilisation rate. In fact, in Q2 employee addition stood at 9,840, its lowest net new addition in the last nine quarters.
Rupee depreciation to reap benefits
Overall EBIT margins or operating margins is expected to improve/ expand further by around 60-100 bps, according to analysts. According to Kotak’s analysts, this will be driven by depreciation of the rupee against the US dollar and other currencies, easing supplyside pressures, especially in India and general operational improvements.
Last quarter, TCS management had shared a guidance of 25% operating margin by Q4 exit. Any commentary on margins and changing trends will be important.