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Wipro Q2 – Little downside, but upside capped as well

We do not see stock outperformance as long as Wipro lags its peers in growth

October 16, 2019 / 11:53 AM IST
 
 
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Wipro delivered a decent quarter that came on the back of muted expectations. Revenue growth stood at the mid point of its stated guidance, margin was not disappointing and the management sounded positive on deal wins.

While weakness in certain verticals was highlighted as was the case with some of its peers, overall the outlook has not worsened, post the Q2 FY20 earnings report.

The sluggish performance so far has resulted in significant underperformance of the stock compared to the benchmark Nifty as well as the IT index. While the undemanding valuation at 14X FY21e earnings protects the downside and hence could be considered as a defensive strategy, we do not see outperformance as long as Wipro lags its peers in growth. We expect mid-single digit earnings growth in the next couple of years.


Key positives
Wipro reported IT services revenue of $2048.9 million – a sequential growth of 0.5 percent in reported currency and 1.1 percent in constant currency. The growth came in at the middle point of the company’s revenue guidance of 0-2 percent for the quarter.
wiproSource: Company

Growth in digital was strong at 7 percent quarter on quarter, and the share of digital stood at little under 40 percent of the total revenue.

In terms of verticals, consumer business, energy and utilities as well as healthcare reported good growth. While prevailing macro uncertainties do tend to impact consumer business, the management did not sound too pessimistic, unlike some of its peers.

Growth in the key market of the Americas (revenue share close to 60 per cent) was healthy.

The management highlighted that the order book position at the end of Q2 FY20 is better than the previous quarter as a lot of deals that got postponed from the first quarter got closed.

The better deal pipeline has given the management the confidence to guide for decent traction in revenue in the range of 0.8-2.8 per cent growth in Q3, which otherwise is a seasonally weak quarter. Wipro’s recent acquisition of US-based International TechneGroup Incorporated (ITI) would contribute 30 basis points to Q3 growth.

The company also reported a sequential decline in attrition rate to 17 percent.

Wipro added a large number of sales and support staff with an eye on accelerating the deal flow momentum.

Key negatives
The quarter saw sequential margin decline of 30 basis points to 18.1 percent. Absence of other income impacted margin negatively by 50 basis points and investments on creating a bench and salary hikes eroded margin to the tune of 100 basis points. This was offset by cost optimisation to the tune of 120 basis points.

Weakness was seen in banking, financial services and insurance vertical (BFSI) and the company alluded to slowdown in banking in Europe and capital markets in the US. It is carefully monitoring this vertical.

In fact, since the company’s top client is from BFSI and 50 per cent of top clients are from this vertical, the share of top client and big five clients in revenue has declined.

In terms of geographies, Europe and rest of the world de-grew during the quarter.

Key observations & outlook
With its inability to catch up with peers in terms of growth, Wipro has underperformed the benchmark Nifty as well as the BSE IT Index. However, the strategic clarity with respect to key drivers of growth like digital, cloud, engineering services and cyber security is in place. The company is adding people to accelerate growth. The Q2 result gives early indication of the strategy working.

However, the build-up of the momentum is happening at a time when global macro is turning hostile, thereby likely to impact spending across sectors. Moreover, some of the key verticals are already showing signs of stress. Hence, a runaway improvement from here on looks unlikely.
While we see limited downside, given the improved execution and undemanding valuation, we do not expect significant upside unless Wipro matches its peers in delivering similar growth.

For more research articles, visit our Moneycontrol Research page

Disclaimer: Moneycontrol Research analysts do not hold positions in the companies discussed here

Madhuchanda Dey
Madhuchanda Dey
first published: Oct 16, 2019 08:20 am

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