Given the sharp rally, profit booking may be normal. Any reversal in stock price of Infosys is an opportunity to add for the long term
Highlights
• Strong earnings momentum maintained
• Revenue back on growth path
• Multiple operational levers
aid strong margin improvement
• Company ups full year
revenue and margin guidance
• Record deal win and pipeline
exciting
• Profit booking likely after a sharp
rally, add on any decline
Infosys (CMP: Rs 1,136, Market Cap: Rs 4,83,912 crore) is
close to its 52-week high and the strong Q2 on the top of a strong Q1 amply
justifies the run in the stock – up 37 percent in the past three months,
matching the IT index return and outperforming the Nifty return of 13 percent
by a wide margin.
The second quarter delivered an equally blockbuster performance
with healthy traction in revenue, sharp improvement in operating margin, record
deal win, robust order pipeline and historic low attrition. Consequently, the
company has raised its revenue and margin guidance for the full year. Against
this backdrop, how should investors look at Infosys from here on?
We feel the rally in the stock in the past quarter has narrowed
the valuation gap with bellwether TCS, but it is still at a discount not only
to TCS but many high-quality mid-cap names. While some profit-taking is
likely especially if global markets correct, we would not be a seller in
Infosys from a longer term perspective given the tailwind for technology and
Infosys’ strong positioning. It is a classic buy-on-dip stock for a long-term
portfolio rather than sell-on-rally.
Given Infosys’ stellar Q1, the street was optimistic going into
Q2 earnings, and the company delivered results that took even the optimists by
surprise.
Source: Company
Key
positives
Revenue for the quarter at $3312 million grew by 6.1 percent
sequentially in reported, and 4 percent in constant currency. The year-on-year
growth is also a positive in reported as well as in constant currency, in
contrast to TCS where revenue growth YoY is still negative. For the first half,
revenue grew by 1.9 percent YoY in constant currency.
Source: Company
The share of digital rose further in the quarter to 47.3 percent
from 44.5 percent of total revenue in the previous quarter, reflecting a strong
sequential surge. The YoY growth in digital of 25.4 percent in constant
currency, continues to be much ahead of the company’s overall growth rate.
Despite giving 100 percent variable pay to employees and a
one-time bonus, operational efficiencies led to a sharp uptick in operating
margin by 270 basis points sequentially and 375 basis points YoY to 25.4
percent. Improvement in revenue productivity, uptick in utilisation rate and
favourable offshore mix along with reduction in travel expenses aided margins.
Revenue momentum and margin traction has given the management
the confidence to raise its full-year guidance. Against last quarter’s
expectations of 0 to 2 percent YoY growth in revenue in constant currency, the
company now expects full-year revenue to grow by 2 to 3 percent. While some of
the margin levers might go away with a salary hike from January 2021 and some
travel coming back, riding on strategic levers like a favourable offshore mix,
better utilisation of fresher and automation, the company has raised its margin
guidance to a new band of 23-24 percent from 21 to 23 percent earlier. The
management also alluded to pricing pressure abating significantly.
In terms of geography, the key market of North America (share of
61 percent) grew by a decent 1.9 percent YoY. India, too, showed good momentum
on a relatively small base.
Turning to industry verticals, the areas of strength were
hitech, life sciences, financial services and retail. Management alluded to
momentum coming back in retail, stability coming into manufacturing and strong
digital transformation agenda of financial services.
The single-most reason that makes us confident about the company
is the momentum in order inflows. Thanks to the deal with Vanguard (of close to
$1.5 billion), Infosys had a record deal win in the quarter. Of the 16 large
deals it won, 11 were from North America, 4 from Europe and 1 from the rest of
the world. The client matrix remains healthy with the company adding 96 new
clients in the quarter.
Source: Company
Infosys has started publishing the voluntary attrition rate. The
figure stood at an all-time low of 7.8 percent.
Collections remained strong with DSO (days sales outstanding)
declining by two days to 69 days.
Growth optimism is being reflected in the strong hiring outlook,
with the company adding 16,500 freshers in 2020, and 16,000 in the coming year.
The company is sitting on a healthy cash balance of $4.6 bn,
creating enough headroom for inorganic opportunities. Incidentally, in the
quarter gone by, the company made three acquisitions -- Guide Vision, Blue
Acorn and Kaleidoscope.
Key negatives
Given that the company has delivered 1.9 percent YoY growth in
constant currency in the first half, the guidance points to a slightly subdued
performance in the second half as Q3 is a quarter impacted by furloughs and Q4
is traditionally a soft quarter for the company.
Verticals like communication, energy and manufacturing are yet
to fully recover.
Any second wave of the pandemic could cloud the future outlook
of the business.
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