Stock Review: TCS

TCS GREW faster than its closest peer Infosys yet again in the December 2010 quarter, in line with the projections made in this column last week. This was also the fifth quarter when TCS's net profit on a trailing 12 months basis outpaced that of Infosys (see graph). The global demand for IT outsourcing has recovered in the last four quarters but its benefits are not percolated evenly across the sector. Only the top-tier IT services vendors have shown improved performance. Among them, TCS has emerged as the biggest beneficiary. During the December 2010 quarter, the company's dollar denominated revenue grew sequentially faster than Infosys' for the third consecutive period.

 

A comparison of the net profit growth of the two giants in the trailing 12 months at the end of each of the eight quarters to December 2010 makes an interesting study. The period encompasses the subprime crisis of mid -2008. The graph shows the turnaround in the performance of TCS over this period. The company fared poorly when compared with Infosys in the initial three quarters ended September 2009 due to the huge exposure to loss-making forex hedges. Since the December 2009 quarter, however, TCS has been consistently beating Infosys in profit growth. It may appear that TCS has been winning new accounts aggressively, but that is not necessarily true. Infosys has added far more clients than TCS since the March 2009 quarter. Its client base increased by 33, while TCS's fell by 26 during the period. Even in the case of larger client accounts with billing above $100 million, Infosys was far more aggressive with seven new clients compared with just two additions by TCS.

   A lower growth rate in the initial phase of the demand recovery could partially explain the turnaround in TCS. But more than that, TCS improved its revenue share from its top-10 clients during the period. It remained stagnant for Infosys. This means TCS was able to leverage its top clientele, which could have helped its profits and profitability. It also means that the future growth of TCS would hinge upon how fast its bigger clients ramp up projects. This may continue in the near term given its rapidly growing consultancy function.

   Given the momentum in its volumes and the pace of project additions, TCS, the country's-largest IT exporter, is expected to maintain its growth streak in the coming quarters. What could be of interest to investors is whether Infosys, the second-biggest IT firm, does some catching up. To that extent, its stock may see some pressure on its premium valuation vis-à-vis its biggest peer.