TCS Q2FY23 result review - Strong growth; EBIT margin likely to see upward trend

What's Buzzing

TCS reported 4% QoQ, 15.4% YoY CC growth for the quarter. EBIT margins expanded ~90 bps QoQ. 

Context

TCS reported 4% QoQ, 15.4% YoY CC revenue growth for the quarter. Dollar revenues were up 1.4% QoQ and 8.6% YoY to US$6,877 million (mn) implying 260 bps cross currency headwinds for the quarter. In terms of revenue by geographies (in CC terms), North America market (54% of mix), grew 17.6% YoY while UK and Continental Europe reported growth of 14.8% and 14.1% YoY, respectively. Vertical wise, growth was aided by retail, BFSI, media & communication and healthcare, which grew 22.9%, 13.1%, 18.7% and 14.5% YoY, respectively. LTM attrition was at 21.5% (up from 19.7% in the previous quarter). 

It added 9,840 net associates in Q2, taking the total to 616171. On a reported basis, TCV remained steady at US$8.1 billion (bn). EBIT margin for the quarter was up 90 bps QoQ at 24%, aided by currency (rupee depreciation against dollar) as well as utilisation improvement while margin headwinds were normalisation of travelling and facility expenses as well as increase in backfilling costs due to high LTM attrition. 

Our Perspective

Revenue and margins came in strong and above ours as well as Street expectations. On the demand side, the demand environment continues to be strong in the US region and deal execution remains at a healthy pace. The company has not picked up any signs of a slowdown there, which is also reflected in steady deal TCV. Europe region, on the other hand, will likely face some challenges in the near term due to geopolitical tensions and consequent energy constraints in the region, which may have an impact on the continuity of manufacturing plants and likely ripple effect on client spending. LTM attrition was higher for the quarter but is likely to moderate in H2. It is expected to support margins in the near terms along with pricing despite normalisation of travel and facility expenses. The company reiterated exit margin guidance of 25% in Q4FY23. Overall TCV remains steady and in the guided range of US$7-9 bn. The company hired 35,000 freshers of targeted 45,000 in H1 itself, indicating slower pace of hiring in H2. Subcontractor costs were steady at 10% of revenue. The company maintained that it is expected to moderate, going forward, which will support margins in the medium term. We build in 9.4%, 9.2%, 10.1% revenue, EBITDA, PAT CAGR, respectively, in FY22-25E.