Monday, April 17, 2023

Infosys Ltd; Disappointing Quarter Misses Revenue Margins


CMP: Rs1389  

Target Price: Rs1620

Infosys reported disappointing operating performance in Q4. Unplanned ramp down of projects, delay in decision-making and some one-off revenue impacts, including a few client-specific project cancellations, hit revenue growth in Q4, leading to the revenue-guidance miss. Mgmt highlighted weakness in parts of BFSI (mortgage, asset management, and investment banking), telecom, retail, and hi-tech which subdued growth. Among geographies, USA is more impacted than Europe. Infosys has guided for 4-7% YoY CC revenue growth for FY24, implying 1.7-2.9% CQGR over the next four quarters. After missing revenue growth guidance for FY23, Infosys is likely to guide conservatively for FY24, given increased caution in spending by clients and prevailing macro uncertainties; but the asking rate at the upper-end appears to be demanding and may require support of some mega-deal closures during FY24. Mgmt has guided for 20-22% EBITM for FY24 which is 100bps lower than the guided margin range at beginning-FY23. Despite near-term challenges posed by the tough macro environment, we believe Infosys is well positioned to capture the growth opportunities across digital transformation, cost efficiency and consolidation-led deals over the medium term. We cut our EPS by 4.4-6.3% for FY24E/25E, factoring-in the disappointing Q4. We maintain BUY on the stock, with revised TP of Rs1,620/share (earlier, Rs1,700) at 22x Mar-25E EPS.

Result summary: Revenue declined by 2.3% QoQ to USD4.55bn (-3.2% QoQ/+8.8% YoY CC), below our expectations of USD4.71bn. EBITM declined by 50bps QoQ to 21.0%, coming in 70bps below our expectation, on account of lower utilization (-70bps), a one-time revenue impact (-90bps) – partially offset by cost optimization (+50bps), and reduction in provisions for post-sales client support (+60bps). Adj. profit stood at Rs61.3bn, below our expectations due to the miss in operating performance. Growth was led by Retail (2.5% CC QoQ) and Others (15.1%), while Communication (-11.2%), Hitech (-7.1%), BFSI (-3.7%), Life sciences (-3.6%), EURS (-3.5%), and Manufacturing (-1.2%) posted a weak performance. Based on Infosys’ deal intake, deal pipeline including a few mega deals, and current assessment of the evolving macro situation, Management has guided for 4-7% YoY CC revenue growth in FY24. What we liked: Strong FY24 revenue growth guidance, moderation in attrition (LTM attrition down 340bps QoQ to 20.9%/quarterly annualized attrition down by >400bps QoQ), steady deal intake, healthy cash generation (73.5% OCF/EBITDA in Q4). What we did not like: Operating performance miss in Q4, lower-than-expected margin guidance.

Earnings call KTAs: 1) Company highlighted that it is witnessing increased client interest for efficiency, cost and consolidation opportunities, resulting in a strong large-deal pipeline. 2) Management indicated that Company’s exposure to regional banks is <2% of revenue. Macro uncertainties, softness in mortgage, asset management and investment banking are weighing on BFSI demand. A strong deal pipeline gives growth visibility for FY24. 3) Discretionary spend in Retail continues to be under pressure, while Manufacturing is showing resilience on the back of large-deal ramp-ups and benefits in vendor consolidation. 4) Company indicated that currently, North America presents a more challenging operating environment than Europe. 5) Owing to softness in demand, utilization in Q4 stood at 80% (excluding trainees), which the company expects to gradually improve. 6) The headcount declined by 3,611 employees in Q4. Management indicated calibrated hiring in FY24 meeting growth & margin aspirations. 7) Infosys signed 17 large deals with a combined TCV of USD2.1bn (21% net new) in Q4, split across geographies (10 in North America and 7 in Europe) and verticals (5 in Manufacturing, 4 in BFSI, 3 in Communication, 2 each in Life sciences and Hitech, and 1 in EURS). 8) Company guided for the mid-point of FY24 EBITM to be closer to the FY23 EBITM, to retain flexibility. Higher utilization, flattening pyramid, subcon optimization, improving realization, and automation-led efficiencies remain the key margin levers. 9) Company declared final dividend of Rs17.5 per share.

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