FY14 revenue growth to come at the lower-end
In a recent interaction with investors, Infosys communicated that it expects Q4 FY14 revenues to come at the lower end of its guidance implying flat to marginal de-growth on sequential basis. Consequently, full-year dollar revenues are also expected near US$8.2bn, the lower end of its guidance. The calibration in expectations was driven by management’s recent meetings with some important clients and sales teams which indicated a slowdown in business momentum during the quarter. As customers across verticals are witnessing slowdown in their business, there have been unanticipated project rampdowns and cancellations. Further, in few other cases, project ramp-ups have been impacted by skill mismatches.
FY15 growth could be impacted also
With Infosys expecting these sluggish factors to linger in the early part of FY15, it is likely to have a negative bearing on the full-year growth. We cut our dollar revenue growth estimate to 10% from earlier 12% for FY15. So even next year the company would grow below NASSCOM’s industry growth forecast of 13-15%. However, Infosys’ revenue performance in FY16 will be much better.
Strategic initiatives to have produced visible results by FY16
Infosys pointed out that its failure to align with market realities and contain costs led to the sharp fall in revenue growth and profitability over the past few years. Company’s initiatives in the areas of cost optimization, improving sales effectiveness and improving delivery efficiency are expected to show significant visible results (both on growth and margin recovery fronts) by Q2/Q3 FY16. Cost optimization measures have already started to yield results as seen in recent margin gains. Infosys is not perturbed by the recent top level exits as it has not impacted its service delivery as per a recent client survey. It indicated about more high level exits over the next 12 months and a possible Board churn.
Revenue choppiness could impede margin recovery in the near term
The near term sluggishness in revenue growth from aforementioned client specific issues could halt margin recovery temporarily. Therefore, incremental cost optimization benefits are likely to be more visible from Q2 FY15 from when we expect revenue traction to improve. Other profitability improvement levers on which the company currently is working such as increasing products/solutions contribution, service differentiation, improving BPO productivity, focusing on consulting projects, etc are longer term in nature. We have lowered OPM assumptions for FY15/FY16 by 108/95 bps respectively on assumption of a deferred margin recovery.
Cut earnings estimates and target price by 5-8% but retain BUY rating
The lowering of revenue growth assumptions by 2.5-3% and margin expectations by 90-110bps for FY15/16 has resulted in an earnings cut of 5-6%. While peers commentary continues to be encouraging highlighting improving growth environment, the muted near-term revenue growth commentary by Infosys only underscores a company-specific issue and thus is likely to impact its relative valuation. We have reduced 9-12 month target by 8% from Rs4,132 to Rs3,800. However, we retain BUY recommendation and believe that incremental correction (stock already down 8-8.5%) should be used to accumulate the stock.
Summary of revision in estimates
|Revenue US$ mn - Earlier
|Revenue US$ mn - Revised
|Revision - %
|Revised Revenue growth yoy %
|OPM - Earlier
|OPM - Revised
|PAT Rs bn - Earlier
|PAT Rs bn - Revised
|Revised PAT growth yoy %
|Old Target Price Rs
|New Target Price Rs
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