Infosys guidance shock may hit stock despite numbers bounce

Infosys released its quarterly results, showing good revenue growth and stable operating margins. However, the management reduced the annual revenue guidance due to competitive pressures. The company secured a significant $2 billion deal, boosting its total contract value to $5.2 billion. Despite positive performance from some sectors, weaknesses in others contributed to the cautious outlook. The market response led to a rise in the stock price, affecting valuation metrics.

ET Intelligence Group: The second quarter revenue and profit numbers of Infosys were more or less in line with analysts expectations. However, evaluating the quarterly performance of the country's second largest IT vendor may not be that easy since the cautious management commentary barely reflects the optimism exuded by the improving top line, resilient margin performance and strong deal momentum.

Despite winning a mega deal during the quarter, it reduced the revenue guidance band for the full year, citing increasing competitive intensity and persistent weakness in some of the business verticals.

The stock has gained 16% on the bourses over the past two weeks, helped by steady performance from peers in the September quarter and the absence of any major bad news for the sector. The company declared the quarterly performance after the market hours on Friday. While the numbers are encouraging, the management commentary and a multi-year low projection for annual top line growth may affect the market sentiment in the short term.

Infosys recorded second best sequential revenue growth for the September quarter in reported as well as constant currency terms following HCL Technologies, the third largest software exporter. That helped in maintaining its lead over Tata Consultancy Services (TCS), the largest among them and Wipro, the fourth largest, in terms of trailing 12-month (TTM) growth. Moreover, it bagged a mega transformation deal worth $2 billion, taking the total contract value (TCV) to $5.2 billion for the quarter, the highest since the September 2023 quarter when its TCV reached $7.7 billion.

The operating margin (Ebit margin) at 21% remained in the guided band of 20-22% and stayed flat year-on-year while showing a tad 10 basis point weakness sequentially. A large order win and steady top line and margin performance should have typically resulted in an upward revision in the revenue guidance. On the contrary, the company cut the FY27 guidance to 1-2% growth from the previous guidance of 1.5-3% growth. This was well below the expectations of analysts who had anticipated a more benign cut in the guidance.

Among verticals, financial services, energy and utilities, and communications, which together contribute over half to the revenue, reported 2-7% year-on-year growth while manufacturing, retail, and Hi Tech, which form one-third of the revenue, reported weakness.

The sharp jump in the stock price recently has raised the P/E multiple to 15.2 from around 13 two weeks ago though it remains well below the five-year average multiple of over 21. Given the expectations of a weaker top line trajectory for the remainder of the year, the valuation may remain under pressure in the short term.