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Harsha Jethmalani

Infosys’ margin drop clouds revenue beat

So far, in CY22, the Infosys stock has fallen by 20%, lower than the sectoral Nifty IT index’s 27% drop, but higher than that of TCS.

What’s more, in an unexpected move, Infosys raised its FY23 CC year-on-year revenue growth guidance to 14-16% from the earlier 13-15%. Demand environment remains extremely strong with increasing traction in digital and cloud services, the management said.

In top form

But these encouraging aspects were overshadowed by weak operating performance. Ebit (earnings before interest and taxes) margin fell to a multi-quarter low of 20.1%, down 150 basis points sequentially, lagging consensus estimate of 21%. One basis point is 0.01%.

Note that the aforementioned peers also saw a higher-than-anticipated contraction in their margins in Q1, mainly due to elevated subcontracting costs and increased travel expense. So, against that backdrop, margin compression was not a surprise, but weakness in its manufacturing Ebit was disappointing. Infosys has retained its FY23 Ebit margin guidance of 21-23%.

“Infosys margins took a hit in line with what we have seen with peers. Infosys is now expecting FY23 margins to be at the lower end of its guidance range. Earlier, the Street was expecting margins to be at the mid-range of this band. Hence, while the company’s result was strong on revenue growth, it disappointed on margin, making it a mixed result," said Kumar Rakesh, a senior automobile and technology analyst at BNP Paribas Securities India.

Besides, attrition measured on the last 12-month basis, inched higher for Infosys sequentially to 28.4% from 27.7% in Q4 FY22. The management expects attrition to ease as freshers join the IT industry.

Lastly, Infosys reported $1.7 billion worth of large deal wins in Q1FY23, half of which were new deals. Note that large deals fell sequentially and annually. According to the management, deal wins during the quarter were broad-based and the company continues to see a robust pipeline of large deals.

But, analysts are cautious. “Infosys stated that the large deal pipeline is higher post Q1FY23 compared to what it was three-six months back. This is similar to the HCL commentary. We suspect clients are speeding up their budgeted spends in 2022 before they hit possible constraints in late 2022," Nirmal Bang Institutional Equities said in a report.

All said, akin to peers, earnings downgrades continue for Infosys, too. Jefferies India has lowered its FY23-25 earnings estimates by 1-3% to factor in the miss (on margins) and expect Infosys to deliver 13% earnings CAGR (compound annual growth rate) over FY22-25.

“While the company has raised revenue growth guidance, it doesn’t drastically alter the Street’s earnings estimates," said an analyst, requesting anonymity. Subdued margins, especially in the manufacturing vertical, elevated attrition and moderation in large deals were the other dampeners that would keep the stock’s outlook dim, he cautioned.

So far, in CY22, the Infosys stock has fallen by 20%, lower than the sectoral Nifty IT index’s 27% drop, but higher than that of TCS. The Infosys stock trades at 22x estimated earnings for FY24 versus 24x of TCS, showed Bloomberg data. Management commentaries of large Indian IT companies are upbeat despite worries of a US-led recession weighing on their FY24 revenue outlook. In that context, valuations of tier-I IT companies are at a risk of further correction.

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