Infosys: Closing in on TCS

Valuation gap with TCS reduces in recent months, and this trend is likely to sustain

The Infosys stock outperformed the S&P BSE Sensex in the past few months, making a new all-time high of Rs 1,186 last month. Higher focus on automation and digitisation, increased efforts to mine existing clients, improved utilisation and ramping up of large deals will aid Infosys' growth in the next few years and is a key reason for the recent rally. Though it benefits all information technology (IT) companies, the rupee depreciation has provided further boost to sentiments. Every one per cent fall in the rupee against the dollar would add 1.5 to two per cent to Infosys' earnings, say analysts. The rupee has fallen 3.2 per cent in the past month. Another reason fuelling the stock is the increasing number of upgrades in analysts’ recommendations. As a result, Infosys' valuation discount to Tata Consultancy Services (TCS) has reduced to nine per cent versus 13 to 14 per cent earlier. At Wednesday's closing price of Rs 1,100 a share, Infosys trades at 19 times FY16 estimated earnings against TCS’s 21 times. Analysts believe though Infosys might continue trading at discounted valuations to TCS, given the latter's consistent financial show and better margin profile, the discount might not increase. Many analysts expect Infosys to report higher-than-sector growth in FY17.

“Infosys needs $1.1 billion in FY17 to achieve the current Street expectations versus $2.4 billion for TCS. Over the next two years, even if Infosys achieves mid-range of the forecast (7.2-9.2 per cent), the quarterly run-rate would mean 12 per cent growth in FY17,” HSBC Global Research analysts said.

In a recent meeting with brokerage JPMorgan officials, the Infosys management said it expected the rupee depreciation to aid operating margins by 60 basis points in the near term. It also re-emphasised the plan to do away with the bench staff and increase employee utilisation.

Infosys recently announced three new service lines, which analysts believe will aid marketing and selling of traditional service offerings. Infosys has set a target of 30 per cent operating margin by 2020 versus 25 to 26 per cent now by raising software innovations. While it is forecasting 10 to 12 per cent constant currency revenue growth in FY16, aspirations are $20 billion in revenues by 2020.