Why Infosys hiked its growth guidance for FY21

While Infosys has increased the margin guidance for FY21 by 100 bps to 24-24.5 per cent, analysts believe there will pressure on near-term margins as discretionary cuts - promotions and travel, headcount addition, record utilisation, and wage hikes start to reflect on costs.

Infosys not only beat Street estimates comfortably across parameters in the December quarter, it was ahead of industry leader, Tata Consultancy Services (TCS), in some respects.

The constant currency growth of 5.3 per cent was led by financial services, deal wins in the earlier quarters, and digital services.

This was 90-basis point (bp) higher than its larger peer.

While top-line growth was strong, the key takeaway in the quarter has been large deal wins, which hit record levels for the second consecutive quarter.

After $3.15-billion large deals in the first quarter, the company reported deal wins of $7.1 billion, half of which are estimated to have come from Daimler Group.

With net new deals at $8 billion (annual revenue at about $13 billion) in 2020-21 (FY21) so far, there is growth visibility for the next three quarters.

Given the deal momentum and pipeline, it is not surprising the company has hiked its growth guidance for FY21 from 2-3 per cent earlier to 4.5-5 per cent.

Its margin performance, too, was better than expectations, led by strong top-line growth and cost optimisation efforts.

While profitability was 350 bps higher year-on-year to 25.4 per cent, it was flat on a sequential basis.

Analysts point out that execution was better by TCS, as it managed to squeeze in 40-bp gains in margins on a sequential basis to 26.6 per cent.

The gains for TCS came despite wage hikes taken in the quarter; for Infosys, the hikes are being taken in the current quarter.

While Infosys has increased the margin guidance for FY21 by 100 bps to 24-24.5 per cent, analysts believe there will pressure on near-term margins as discretionary cuts (promotions and travel), headcount addition, record utilisation, and wage hikes start to reflect on costs.

Analysts believe full-year margins in the coming year would be in the 23-24 per cent range, with third-quarter margins at near peak levels.

While there has been a rerating in the stock, with gains of 79 per cent over the past year, for it to sustain the gains, it will need to be consistent both on the deal wins and execution (revenue growth) fronts.

Though the price-to-earnings discount with TCS has come down to single digits, analysts believe the gap will remain, given the over 100-bp gap in margins and superior return ratios of the market leader.

Photograph: Vivek Prakash/Reuters