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Tata Consultancy Services Ltd’s (TCS) investors have been jittery, amid worries on demand outlook. Sadly, the September quarter (Q2FY23) results announced on Monday evening have done little to change that. Shares of the information technology (IT) services company were down 1.6% on Tuesday, though revenue growth and margin broadly surpassed expectations. Sequentially, TCS’ constant currency revenues grew by 4% and Ebit (earnings before interest and tax) margin rose 90 basis points (bps) to 24%.

Why are investors edgy? TCS’ Q2 results had some soft spots such as moderate hiring and satisfactory but not particularly exciting deal wins. Management commentary has suggested that signs of slowdown are emerging. These factors are said to have kept investors nervous about what lies ahead, especially against the backdrop of a deteriorating global macro environment.

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“Deal wins did not replicate the strength at Accenture, headcount addition was weakest in last nine quarters at 1.6% quarter-on-quarter (q-o-q), and outlook suggests impending uncertainty," said analysts at Ambit Capital in a report on 11 October. The broking firm said TCS’ Q2 growth was ahead of expectation, but not enough to change conviction on growth moderation.

TCS’ deal wins in Q2 were worth $8.1 billion, up 6.6% year-on-year. TCS did not report any mega deals during the quarter and small and mid-sized deals contributed heavily to total deal wins.

In a post-earnings call, the TCS management told analysts that the demand environment remains robust, but also that there is an increasing sense of caution among clients. The good part is that this is yet to reflect in the deal pipeline. The management has cautioned about softness, particularly in long duration deals.

The level of headwinds being flagged in the business by the TCS management has increased, said analysts at Investec Securities. TCS had called out headwinds from the mortgage-related business in BFSI in Q1FY23. “TCS is now calling out potential headwinds from P&C insurance, discretionary retailers, and Europe," said the Investec report dated 11 October.

Attrition measured on the last 12-month basis remained high at 21.5%. The management expects this to moderate to the sub-20% level over the next four quarters. Net headcount addition in Q2 stood at 9,840. “Slowdown in hiring is along expected lines and in line with our expectations of a demand slowdown in FY2024E," said analysts at Kotak Institutional Equities. The company is likely reining in hiring to prepare for a more moderate demand environment going forward, while flexing the utilization lever to improve margins, said the Kotak report.

In Q2, TCS’ revenue was aided by broad-based growth across all verticals and geographies. Ebit margin got a boost from operational efficiencies, an improving employee pyramid, and rupee’s depreciation against the US dollar. The TCS management told analysts that it has seen price increases in some segments, which should buoy margin in the second half of the fiscal year. TCS aims to exit FY23 with an Ebit margin at 25%.

Taking Tuesday’s losses into account, shares of TCS have fallen by 18% so far in FY23. However, there is no respite on valuations. “Broad-based growth underperformance versus Infosys/Accenture over 12-13 quarters, higher than peer group exposure to BFSI/retail and Europe, where we are cautious and valuations at 26.1x 1-year forward P/E (25% premium to pre-covid three-year average) keep us cautious," said Ambit’s analysts.

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