Expectations from TCS result
We have been extremely bullish on the IT sector since January. We have been writing something called Most Bullish in a Decade series where we have already written seven to eight notes. We clearly believe that the worst for the IT sector is definitely over. Todays results will see cross currency impact for TCS but in constant currency, it should be 4.5% and even could surprise significantly on the positive side.
I am confident of this because they have given such a positive commentary and outlook. All the consultants we spoke to are saying the deal environment has improved significantly, retail has seen bottom in terms of deal announcements a couple of quarters back and that is helping them. The communications business has again started picking up, as has BFSI. There is no reason even to mathematically think otherwise.
In my view, this will be one of the best quarters in terms of commentary. You will see PAT and EBITDA growth of more than 20% year-on-year basis. This is one of the best quarters for the sector and even TCS.
On scope for further upward rerating for the stock
TCS has run up quite significantly. Year to date, it is up almost 40-50% and this kind of return in such a short time means that whatever you deliver, you are always at a risk of profit booking. I cannot deny that completely nor can I say that in spite of good numbers, the stock will go up only. But from a longer-term perspective, our series clearly says most bullish in a decade.
If you take a two-three year horizon, a lot of money can be made in the whole IT pack unless there are management issues or something company specific rather than a sectoral issue.
Sectorally, there has been a big turnaround. When there is a turnaround, the market leaders benefit a lot. We are a little conservative on TCS because of the multiples. Fundamentally it is a great company with great management and execution but the multiples are so high that we are not able to recommend a strong buy at this price also.
Pecking order among IT largecaps and midcaps
We prefer largecaps in this kind of environment primarily because in the last 30 years, whenever demand has revived, the initial four to six quarter or eight quarters are the time. Midcaps benefit a lot but after that loses steam as when the deal sizes increase, scale is required for execution and at that time largecaps start benefitting.We are already a quarter in that phase where largecaps will be preferred over midcaps.
We stick to our top picks in largecaps; Infosys followed by Tech Mahindra and HCL Tech. In the midcap, we like both L&T Infotech and L&T Technology Services. We also like Persistent and Cyant because of their R&D. But other than that, we do not prefer any other midcap as of now.
We prefer Infosys, Tech M and HCL because their digital deals are becoming bigger and bigger and clients will finally come to companies who have the scale to execute such large size deals.
Role of rupee on margin front and in overall client budgets
The client budget has again changed dramatically in the last one and a half year. When I speak to technologists in the Bay Area they simply say that now client budgets are very misleading because people are still seeing what is the budget of the CIO or the CTO in terms of IT spend and that is a wrong parameter because almost one-fourth of your spend is now being done by the chief marketing officers. So, until and unless, you get a good feedback or know what they are doing, it will be very difficult to call the budget.
Secondly, tech spend should not be seen only as tech spend. Operational cost should be seen more as a part of cost of goods sold. All the auto companies are using lots of sensors, chips and lots of components in the auto are going from IT. It is a part of COGS and also marketing budget. IT has transitioned itself from an operational cost to more of a cost of goods sold. That is another big change and the budgets will definitely keep on going up from that perspective.
On the currency front, in the near term you do not get much benefit except for the revenue and EBITDA numbers because at the PAT levels, you have hedges which impact you negatively but from a one or two year perspective, you can definitely benefit a bit.