Source: Company Data; PL Research

Transcription

1 Multiple headwinds, Limited upside; Retain Accumulate December 12, 2014 Shashi Bhusan Hussain Kagzi Rating Accumulate Price Rs546 Target Price Rs620 Implied Upside 13.6% Sensex 27,602 Nifty 8,293 (Prices as on December 11, 2014) Trading data Market Cap. (Rs bn) 1,340.6 Shares o/s (m) 2, M Avg. Daily value (Rs m) Major shareholders Promoters 73.43% Foreign 9.09% Domestic Inst. 4.55% Public & Other 12.93% Stock Performance (%) 1M 6M 12M Absolute (1.8) Relative (0.3) (5.3) (24.9) How we differ from Consensus EPS (Rs) PL Cons. % Diff Price Performance (RIC:WIPR.BO, BB:WPRO IN) (Rs) Dec 13 Feb 14 Apr 14 Source: Bloomberg Jun 14 Aug 14 Oct 14 Dec 14 We downgraded Wipro to Accumulate in our Rear View JAS 14: X Currency led misses, but outlook healthy (quarterly review) due to continued weak performance on revenue front despite strong deal wins. We see continued headwinds for the company as seasonally strong quarters are behind. The challenges in Energy sector due to falling crude prices, cross currency headwinds, and deteriorating client mining triggered earnings downgrade. We see continued downside risk. Revenue momentum weak despite strong deal win: Wipro continues weak revenue momentum compared to peers. Despite strong deal win over the last two years, the revenue momentum failed to accelerate for Wipro. Asynchronous growth among top 10 and non top 10 clients have resulted in weaker growth. We see limited scope of outperformance despite deal wins in near term. Challenges in Energy vertical Strong headwinds: Energy and Utility vertical has been one of the strongest growth drivers for Wipro over the last three years (after SAIC unit acquisition). However, weaker crude price (~40% correction in the last 6 months) put discretionary projects of their Energy clients at risk. We may witness revenue deceleration in this vertical as green field projects and technology upgrades might be put to halt. S&M decelerated over the last 5 quarters: Wipro accelerated its Sales & Marketing expense to the highest level by Q1FY14. However, over the last 5 quarters S&M has decelerated. We see S&M deceleration as threat to revenue growth as competitive intensity continues to increase. Cross currency headwinds to erode strong H2FY15 possibilities: Wipro has highest non dollar revenue exposure among Tier 1 implying maximum impact due to cross currency headwind. Moreover, rupee appreciation against major currencies (except USD) would result in margin impact during the quarter. Valuation & Recommendation Accumulate with TP of Rs620: We expect challenges for revenue growth and operating margin to restrict any upside potential. We roll earnings for FY17. Retain Accumulate with TP of Rs 620. Key financials (Y/e March) E 2016E 2017E Revenues (Rs m) 434, , , ,231 Growth (%) EBITDA (Rs m) 97, , , ,074 PAT (Rs m) 80,859 83,934 92, ,300 EPS (Rs) Growth (%) Net DPS (Rs) Profitability & Valuation E 2016E 2017E EBITDA margin (%) RoE (%) RoCE (%) EV / sales (x) EV / EBITDA (x) PE (x) P / BV (x) Net dividend yield (%) Source: Company Data; PL Research Company Update Prabhudas Lilladher Pvt. Ltd. and/or its associates (the 'Firm') does and/or seeks to do business with companies covered in its research reports. As a result investors should be aware that the Firm may have a conflict of interest that could affect the objectivity of the report. Investors should consider this report as only a single factor in making their investment decision. Please refer to important disclosures and disclaimers at the end of the report

2 Strong deal wins not translating in revenue acceleration We downgraded Wipro to Accumulate after seeing no acceleration in revenue despite strong deal win. The upgrade in Q2FY13 to BUY was contingent of the fact that deal pipeline was seeing steady improvement along with their ability to convert those deals. Wipro tends to have seasonally strong H2 compared to H1, but the guidance indicates no acceleration in revenue momentum in Q3FY15. Exhibit 1: IT Services (QoQ US$ revenue growth): Acceleration in H2FY15 is missing 6.5% 4.5% 2.5% 0.5% 1.5% Q1FY10 Q2FY10 Q3FY10 Q4FY10 Q1FY11 Q2FY11 Q3FY11 Q4FY11 Q1FY12 Q2FY12 Q3FY12 Q4FY12 Q1FY13 Q2FY13 Q3FY13 Q4FY13 Q1FY14 Q2FY14 Q3FY14 Q4FY14 Q1FY15 Q2FY15 Q3FY15g Wipro s client segmentation to mine their top clients have yielded good result in early part of recovery. However, top clients revenue growth has started decelerating over the last 4 quarters. Strong deal wins (Exhibit: 4) has helped them accelerate growth of non top 10 clients revenue. However, the revenue growth has consistently underperformed peers despite strong deal wins. Exhibit 2: Top 10 clients contribute ~22% of revenue for Wipro Exhibit 3: Revenue deceleration in top 5 clients are evident 3.5% Last 12 qtrs Last 8 qtrs Last 4 qtrs Last 2 qtrs 78.5% 9.4% 8.6% Top Client Top 2 5 Clients Top Clients 6 10 Non Top 10 Clients 6.0% 5.0% 4.0% 3.0% 2.0% 1.0% 0.0% Top Client Top 2 5 Clients Top Clients 6 10 Non Top 10 Clients December 12,

3 Exhibit 4: Strong deal win over the last 6 quarters Date Client Description Q3FY15 Levi Strauss Global business services with IT, finance, human resources, customer service and consumer relations. Q3FY15 SRL Diagnostics Implement Customer Relationship Management (CRM) application to transform its customer care operations. Q2FY15 Saudi Electricity Co Implement and rollout the plant maintenance and project system functionality of the SAP ERP. Q2FY15 OTML Ok Tedi Mining Limited will be implementing the SAP(R) ERP application. Q2FY15 ATCO Wipro will provide total outsourcing solutions to ATCO in Canada and Australia. Q2FY15 Bristol Water Responsible for monitoring, support, maintenance and development of IMS and associated software systems. Q1FY15 Sanoma Corp Sanoma transfers all ICT infrastructure and support functions. Q1FY15 7 Eleven To enable 7 Eleven with best of breed SCM. Q1FY15 Outokumpu IT outsourcing deal Q1FY15 Vasan Eye Care To outsource its entire IT Infrastructure to Wipro Infotech Q1FY15 Den Networks To enhance customer experience for the Cable and Broadband businesses of DEN networks. Q1FY15 Suncorp Bank To change the bank's core banking system Q1FY15 Corning IMS and Application Maintenance outsourcing. Q1FY15 Takeda Pharma IMS covering Takeda s entities across the world. Q1FY15 Xoserve Will involve the replacement of Xoserve's two decade old legacy UK Link suite of applications. Q1FY15 Airtel Network Maintenance part of the contract. Q4FY14 Carillion Global strategic partner to provide integrated IT and BPO services Q4FY14 Al Hammadi To launch three smart and connected hospitals leveraging latest technologies in the medical grade infrastructure Q3FY14 Tele2 AB Provide business customers with Machine to Machine (M2M) and Internet of Things (IoT). Q3FY14 CAST Wipro's AppInsight Center of Excellence (CoE)', powered by CAST, will improve application quality. Q2FY14 Sears Canada Wipro bagged IT outsourcing along with Finance & Accounting work from Sears Canada. Q1FY14 All Nippon Airways Transform the Aircraft Parts and Material Management System for All Nippon Airways (ANA) Source: Media Reports, Company Data, PL Research Wipro underperformed peers consistently despite strong deal wins. The revenue growth for Wipro was largely driven by Non Top 10 clients over the last 4 quarters. Prior to FY14, growth was largely driven by Top 10 clients. Wipro s asynchronous growth resulted consistent underperformance compared to peers. Exhibit 5: (@cc QoQ) Deal wins not translating in revenue acceleration ahead of peers 9% Infosys TCS Wipro HCL Tech 7% 5% 3% 1% 1% 3% Q1FY12 Q2FY12 Q3FY12 Q4FY12 Q1FY13 Q2FY13 Q3FY13 Q4FY13 Q1FY14 Q2FY14 Q3FY14 Q4FY14 Q1FY15 Q2FY15 December 12,

4 Energy, one of the best performing verticals, may get impacted by Crude price Wipro has got strongest Energy vertical among peers with ~17% of revenue contribution from the same. The company strengthened the vertical by the acquisition of oil and gas IT practice of US headquartered Science Applications International Corporation (SAIC) for $150mn (Rs6.71bn) in an all cash deal in The company has managed to successfully grow the vertical from 13.7% in Q2FY12 to 16.8% in Q2FY15. Energy and Utility vertical has been the best performing verticals (closely followed by Healthcare & Life Sciences) over the last 12 quarters (E&U: 3.3%, HLS: 2.7%. Overall: 1.6%). Exhibit 6: Energy & Utility contributes ~17% of overall revenue Exhibit 7: Healthcare and Energy Two best performing vertical Last 12 qtrs Last 8 qtrs Last 4 qtrs Last 2 qtrs 16.8% 13.9% Media & Telecom Finance Solutions 13.9% Mnfg. & Hitech 26.0% Healthcare Retail & Trans. 11.2% Energy & Utilities 18.2% 5.0% 4.0% 3.0% 2.0% 1.0% 0.0% 1.0% Healthcare & Life Sc Energy & Utilities Financial Services Total Revenue However, the last six months have seen ~40% price correction in Crude prices. We see the sudden change in the pricing dynamics could alter the discretionary portion of their IT budget. We see this as negative for Wipro as it has strong revenue stream from this vertical. Exhibit 8: Crude prices corrected sharply putting discretionary of Energy companies at risk Jan 12 Mar 12 May 12 Jul 12 Sep 12 Nov 12 Jan 13 Mar 13 May 13 Jul 13 Sep 13 Nov 13 Jan 14 Mar 14 May 14 Jul 14 Sep 14 Nov 14 Source: Bloomberg, PL Research December 12,

5 No acceleration in Sales & Marketing expense to grab market share Wipro accelerated its Sales & Marketing expense to one of the highest level in the company s history. However, over the last 5 quarters the company has decelerated the investment in the same. Moreover, the management stated a more stable Sales & Marketing expense over the next few quarters with no further acceleration. As the competitive intensity increases, we see this as one of the risk for addressing the growth opportunity. Exhibit 9: S&M getting stagnated Management sees no reasons accelerate S&M (as % of sales) EBITDA Margin (as % revs) 7.2% 7.0% 6.8% 6.6% 6.4% 6.2% 6.0% 5.8% 25.0% 24.0% 23.0% 22.0% 21.0% 20.0% Q1FY13 Q2FY13 Q3FY13 Q4FY13 Q1FY14 Q2FY14 Q3FY14 Q4FY14 Q1FY15 Q2FY15 Despite decelerating S&M expense operating margin declined due to increase in G&A expense. Mr. TK Kurien said in Q2FY15 conference call we will remain focused on getting the growth trajectory to where we think we should be and therefore one would invest where one needs to in terms of ramping up resources or investing in S&M and therefore I would not like to comment as to where the trajectory would be. It would be transitory up or down with a medium term focus of taking it up. Exhibit 10: Steady increase in SDE and G&A expense 7.4% 6.8% 6.2% 5.6% S&M (as % of sales) G&A (as % of sales) SDE (as % of sales) (RHS) 71.0% 69.5% 68.0% 66.5% 5.0% 65.0% Q1FY13 Q2FY13 Q3FY13 Q4FY13 Q1FY14 Q2FY14 Q3FY14 Q4FY14 Q1FY15 Q2FY15 (SDE = Software Development Expense) December 12,

6 Cross currency Wipro may be the worst affected among the peers Strength in dollar is likely to result in cross currency headwinds, which may in turn impact reported dollar revenues of Indian IT companies. However, the headwinds are unlikely to impact constant currency growth. Currencies such as the Great Britain Pound (GBP), Euro and Australian dollar (AUD) have depreciated 5 7% in the December quarter so far. IT majors have a 30 35% exposure to GBP, Euro and AUD. Wipro has highest non dollar revenue exposure among peers. In Q3FY15, all the major currencies in the world (Euro, Pound, Australian Dollar, Canadian Dollar) have depreciated against dollar. Hence, Wipro will have maximum impact due to cross currency headwind. Moreover, rupee has held strong against dollar and other currencies. Hence, rupee appreciation against these currencies would result in margin impact as well for Wipro during the quarter. Exhibit 11: USD appreciated against all the major currencies in the world A case for strong cross currency headwind USD INR GBP USD EUR USD AUD USD GBP INR CAD USD INR USD to to * QoQ Currency movement 1.6% 5.1% 5.7% 7.1% 3.4% 3.8% 1.8% Source: Bloomberg, PL Research *Extrapolated exchange of the last date Exhibit 12: Wipro The worst affected among peers Infosys Impact TCS Impact Wipro Impact USD Revenues GBP Revenues % % % EUR Revenues % % % AUD Revenues % % % CAD Revenues 0.00% % 0.00% Other Revenue % % % Negative Impact due to x currency depreciation % % % Source: Bloomberg, PL Research December 12,

7 Valuation and Recommendation: Retaining Accumulate with revised target price of Rs 620 We see the headwinds for revenue growth and operating margin to restrict any upside in the near term. We roll our model forward for FY17. We retain our Accumulate rating with Target Price of Rs 620. Exhibit 13: Trading in line with their 5 year 1 yr forward PER Yr Forward PER Average PER Dec 08 Dec 09 Dec 10 Dec 11 Dec 12 Dec 13 Dec 14 Source: Company Data, Bloomberg, PL Research December 12,

8 Income Statement (Rs m) Net Revenue 434, , , ,231 Raw Material Expenses 295, , , ,935 Gross Profit 138, , , ,296 Employee Cost Other Expenses 41,680 45,045 50,095 55,222 EBITDA 97, , , ,074 Depr. & Amortization 11,106 12,766 13,191 14,479 Net Interest Other Income 17,903 20,065 24,180 25,522 Profit before Tax 103, , , ,117 Total Tax 22,601 25,131 27,806 30,617 Profit after Tax 81,297 84,134 93, ,500 Ex Od items / Min. Int Adj. PAT 80,859 83,934 92, ,300 Avg. Shares O/S (m) 2, , , ,466.0 EPS (Rs.) Cash Flow Abstract (Rs m) C/F from Operations 67, , , ,447 C/F from Investing (2,774) (14,185) (15,726) (17,497) C/F from Financing (35,041) (22,093) (22,093) (22,093) Inc. / Dec. in Cash 30,080 72,124 64,495 72,857 Opening Cash 84, , , ,820 Closing Cash 114, , , ,676 FCFF 47,727 94,217 86,588 94,950 FCFE 57,782 94,217 86,588 94,950 Key Financial Metrics Growth Revenue (%) EBITDA (%) PAT (%) EPS (%) Profitability EBITDA Margin (%) PAT Margin (%) RoCE (%) RoE (%) Balance Sheet Net Debt : Equity (0.3) (0.4) (0.5) (0.6) Net Wrkng Cap. (days) (6) Valuation PER (x) P / B (x) EV / EBITDA (x) EV / Sales (x) Earnings Quality Eff. Tax Rate Other Inc / PBT Eff. Depr. Rate (%) FCFE / PAT Balance Sheet Abstract (Rs m) Shareholder's Funds 343, , , ,344 Total Debt 10,909 10,909 10,909 10,909 Other Liabilities 11,440 11,440 11,440 11,440 Total Liabilities 365, , , ,693 Net Fixed Assets 51,449 52,868 55,403 58,421 Goodwill 65,358 65,358 65,358 65,358 Investments 60,843 60,843 60,843 60,843 Net Current Assets 147, , , ,773 Cash & Equivalents 114, , , ,676 Other Current Assets 170, , , ,768 Current Liabilities 136, , , ,672 Other Assets 40,299 40,299 40,299 40,299 Total Assets 365, , , ,693 Quarterly Financials (Rs m) Y/e March Q3FY14 Q4FY14 Q1FY15 Q2FY15 Net Revenue 112, , , ,838 EBITDA 25,923 28,180 25,507 24,814 % of revenue Depr. & Amortization 3,109 2,880 2,834 3,075 Net Interest Other Income 4,416 4,469 5,337 6,432 Profit before Tax 27,230 29,769 28,010 28,171 Total Tax 6,060 6,536 5,942 6,199 Profit after Tax 21,045 23,107 21,920 21,837 Adj. PAT 21,045 23,107 21,920 21,837 Key Operating Metrics IT Svcs Revs ($ mn) 744, , , ,816 Pricing (US$ / Hr) Currency (USDINR) Sw. Devp. Cost (% of Sales) SG&A (% of Sales) Revenue (US$ m) 7,118 7,726 8,736 9,802 EBITDA Margin Expansion/(Erosion) (bps) (79.4) (59.8) (3.7) Tax Rate (%) December 12,

9 Prabhudas Lilladher Pvt. Ltd. 3rd Floor, Sadhana House, 570, P. B. Marg, Worli, Mumbai , India Tel: (91 22) Fax: (91 22) Rating Distribution of Research Coverage % of Total Coverage 60% 50% 40% 30% 20% 10% 0% 49.5% 32.7% 16.8% 0.9% BUY Accumulate Reduce Sell PL s Recommendation Nomenclature BUY : Over 15% Outperformance to Sensex over 12 months Accumulate : Outperformance to Sensex over 12 months Reduce : Underperformance to Sensex over 12 months Sell : Over 15% underperformance to Sensex over 12 months Trading Buy : Over 10% absolute upside in 1 month Trading Sell : Over 10% absolute decline in 1 month Not Rated (NR) : No specific call on the stock Under Review (UR) : Rating likely to change shortly Prabhudas Lilladher Pvt. Ltd or its research analysts or its associates or his relatives (i) might have any financial interest in the subject company (ii) might have actual/beneficial ownership of one per cent or more securities of the subject company at the end of the month immediately preceding the date of publication of the research report and (iii) might have any material conflict of interest at the time of publication of the research report Prabhudas Lilladher Pvt. Ltd or its associates might have (i) received compensation from the subject company in the past twelve months (ii) managed or co managed public offering of securities for the subject company in the past twelve months or mandated by the subject company for any other assignment in the past twelve months (iii) received any compensation for investment banking or merchant banking or brokerage services from the subject company in the past twelve months (v) received any compensation for products or services other than investment banking or merchant banking or brokerage services from the subject company in the past twelve months (vi) received any compensation or other benefits from the subject company or third party in connection with the research report. Prabhudas Lilladher Pvt. Ltd encourages independence in research report preparation and strives to minimize conflict in preparation of research report. Prabhudas Lilladher Pvt. Ltd or its analysts did not receive any compensation or other benefits from the subject Company or third party in connection with the preparation of the research report. Prabhudas Lilladher Pvt. Ltd or its Research Analysts might have any material conflict of interest at the time of publication of this report. It is confirmed that Mr. Shashi Bhusan, Research Analyst of this report has not received any compensation from the companies mentioned in the report in the preceding twelve months Compensation of our Research Analysts is not based on any specific merchant banking, investment banking or brokerage service transactions. The Research analysts for this report certifies that all of the views expressed in this report accurately reflect his or her personal views about the subject company or companies and its or their securities, and no part of his or her compensation was, is or will be, directly or indirectly related to specific recommendations or views expressed in this report. The research analyst has not served as an officer, director or employee of the subject company. Prabhudas Lilladher Pvt. Ltd or its research analysts have not engaged in market making activity for the subject company. Our sales people, traders, and other professionals or affiliates may provide oral or written market commentary or trading strategies to our clients that reflect opinions that are contrary to the opinions expressed herein, and our proprietary trading and investing businesses may make investment decisions that are inconsistent with the recommendations expressed herein. In reviewing these materials, you should be aware that any or all o the foregoing, among other things, may give rise to real or potential conflicts of interest. Prabhudas Lilladher Pvt. Ltd and its associates, their directors and employees may (a) from time to time, have a long or short position in, and buy or sell the securities of the subject company or (b) be engaged in any other transaction involving such securities and earn brokerage or other compensation or act as a market maker in the financial instruments of the subject company or act as an advisor or lender/borrower to the subject company or may have any other potential conflict of interests with respect to any recommendation and other related information and opinions. December 12,