Maintain ‘buy’ on Infosys, target price at Rs 865

Even as INFO’s revenue growth improves — its FY19 EBIT margin exit at 22- 22.5% followed by wage hikes in 1QFY20, pose a risk to consensus EBIT estimate of 23.4% for FY20. This is a key concern weighing on the stock’s attractiveness. INFO’s recent revival under Salil Parekh in revenue growth came with an EBIT margin decline of 120bp, despite INR/USD depreciating 11% during the same period.

The trend is remarkably similar to the period under Vishal Sikka, when INFO’s revenues increased from 6.3% CC in 2QFY15 to 15% YoY CC in 4QFY16 and 12% in 1QFY17. In both instances, however, we see revenue growth gaining priority over margins. In the earlier period, INFO saw its stock price gain 33%, while in the recent period, the uptick in the stock price was a robust 59%. A big difference between the two periods under different leaders is the realisation rate. There was a significant drop of 7.7% during the earlier period under Vishal Sikka, in the CC offshore realisation. However, the same has remained within a tight range in the last seven quarters under Salil Parekh, and yet the similarity of margin performance. Margins were impacted at the gross level in both instances and sub-contracted costs also expanded almost equally on both occasions.A potential explanation is the elevated delivery costs this time around, for sustained price points.

Traditionally, revenue growth has been a key lever for margin expansion in the industry. This was due to disproportionately higher fresher additions to fuel growth, which brought down the overall cost of delivery.

We estimate margin pressure for INFO to bottom out in FY20 between 22.5-23%. Our price target of Rs 865 discounts forward earnings by 19x, a 10% discount to TCS’ 1-year forward multiple. Maintain ‘Buy’.

Infosys Technologies Limited