IT Q3FY12 Preview - Moderating growth but rupee the savior - MSFL Research

CNX IT made its 2011 low during August and has since then given 20% index return following the rupee depreciation rally from low of Rs.44 in August to Rs.53.4 on 29th Dec 2011. Rally in rupee depreciation was led by increase in global risk and hence USD outflow and got elongated on back of domestic concerns. While the rupee rally is definitely beneficial for Indian IT, as 1% change in rupee results in 30-50bps margin impact, the same also indicates concerns on IT demand which is significantly dependent on exports. We expect H2FY12 to register slower growth on back of seasonality and as apprehensions on growth inhibit any last minute budget flush in Q3 (as witnessed sometime). Also H2 is seasonally weak compared to H1 because of lower working days, time for closure of old budgets and new budgets coming on table only by January end. On good side, improving data from US is positive but Europe still seems to be under woods. We have moderated our USD growth assumption for FY13 to 13.5-15% for large cap and 10-11% for mid-cap. However change in rupee estimates from Rs.48/ Rs.45.5 to Rs.51.2/ Rs.48.5 for H2FY12/FY13 have more than offset the moderation in growth. We maintain 'HOLD' on the sector.

USD growth to be in low single digit; strong rupee growth: We expect USD growth to be in low single digit in 1-3% range for our coverage universe on back of seasonality. However 11% average rupee depreciation q-o-q will benefit INR growth which we expect at 11.4% q-o-q for our coverage space.TCS in large cap space and KPIT in mid cap are expected to be revenue frontrunners. Cross currency is expected to impact USD revenue growth by 100 bps.

Margins to benefit from rupee: EBITDA margins are expected to expand by 100-400bps for our coverage universe. Infosys is expected to benefit the most among large cap on back of higher USD revenue and lower cross currency impact. HCL Tech will see lower expansion because of slower wage hike normalization of last quarter and business investments. Wipro will record lower realized rate because of impact of cash flow hedges on top line itself and hence lower margin benefit. Mid cap is expected to see 300-400 bps margin expansion. Profitability will be impacted by losses on hedges with average quarterly realized rate in Rs.45- Rs.46 range. TCS will record highest hedging loss.

Guidance and management commentary: Since rupee has depreciated sharply, we do not expect lowering of FY12 EPS guidance by Infosys. However USD revenue guidance for FY12 could be lowered to 16-18% from 17-19% earlier. Outlook on pricing and budgets will be key things to watch for in commentary in addition to spending by banking clients.

Outlook and Valuation: We expect USD revenue growth to moderate to 13-15% in FY13 compared to 17-19% earlier. Rupee will however offset the impact. We maintain our 'HOLD' rating on the sector. 'TCS' and 'HCL Tech' continue to remain our sector preferred picks.

Source : Equity Bulls

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