TCS hit an unexpected patch of softness; we will need to remain agile: Rajesh Gopinath
- Emphasis is on coping with slowdown, employee addition.
- Dividend is the most tax efficient way of returning money to shareholders now.
- Fundamentally, we do not see a problem
Everyone has captured TCS performance for the quarter gone by as weak. On one side, there is a visible slowdown and the other side there is a visible uptick in order book and employee addition. What does it all mean?
Rajesh Gopinathan: Both should be looked at and there is no taking away from the fact that it is a moderate quarter that came in lower than what we had originally expected, even at the start of the quarter. There is a slowdown but the employee addition is also a reality because a) it is a longer cycle plan; b)we have always been saying that we are going to be rationalising our entire talent pyramid as we build out scale in this whole digital space. So, it is along those lines.
It is also supported by the visibility that we have in the medium and long term. Many of the deals that we have signed are fairly long term in nature and so we have a very strong base demand case. The volatility is a reality that we need to live with and it has taken us by a bit of surprise and we will do some amount of tweaking, but building out on the talent capability, we have restructured our training capacity.
We have inducted 30,000 freshers into the bottom of the pool. We have done this across the world. We have brought in 400 new campus hires, freshers from US, 100 from Europe and brought them into India for a three-month internship programme. These are all very structural investments. These are very important for what we see to be unfolding in terms of the demand environment.
When we met in April 2019, the consensus view on the street and the body language of the management had indicated that this could be a double digit growth year for TCS. If I look at what you have declared in H1 and assuming that H2 would be slow, a double digit growth for TCS may be a tall order?
Rajesh Gopinathan: Absolutely, double digit is going to be challenging but I know that the market is a bit taken aback. It is a challenging task but we keep the same focus. There are multiple elements of structural strength. Industry segments are mostly doing well. Life sciences continues to have more than 15%, growth telecom has come back to a double digit growth, manufacturing is nicely improving quarter on quarter. The year-on-year growth rates are improving and deals that we have and currently executing will continue that momentum, leaving aside completely unknown things.
So, multiple industries are on the double-digit growth track. We need to get back into the retail and BFSI side and see how to build out on that side of it. We are not taking our eye off getting back there but this is where we are and we need to take fresh guard and that is what you are going to do.
Management always talks about years and decades but markets they always focus on quarters, months while traders focus on days. Let us focus on quarters. When Rajesh said that the quarter gone by slowed down, what went wrong? What are the chances that the comeback may not happen in this quarter or the next quarter? That will mean two more quarters of FY20 getting washed out. What are the chances that it may happen?
N Ganapathy Subramaniam: Retail was a bit of a surprise for us. This quarter, thought that we are on a good track. We faced a little softness, more than what we originally thought of. The number of deals that we had in retail, especially involving some of the product deals which are fundamental to the transformation of that industry, are all held back this quarter.
In banking and financial services (BFSI), we called out that there is some softness in the areas of capital markets and some of the large banks were a little bit concerned about the delays in Brexit and were rethinking how they should be doing things.
But fundamentally, we do not see a problem. If we look at our customer banks -- whether it is a $1-million client, a $5-million client or $100-million client, all of them have been growing.We have had almost three clients in the $100-million plus pack and we are enjoying a great relationship with our customers.
The opportunities are there. Digital continues to grow, order books are at about $6.3 billion, an all-time high. This is the best in the last six quarters. Digital order books also continue to grow. Digital is going to give us the resilience, but BFSI is the one to watch out for. There again, the large global banks are the ones which are worried about Brexit. They all counted in their own business plans that Brexit would have been done and dusted, industries would go up, their revenues will uptick, things like that. But that has taken a relook on their front which means that they are revaluating their own spends, their own business models and operating models, which is a short term aberration in my opinion. In our industry, we also look at near term, which is about one to two quarters.
You feel that you are nearing the end of the soft patch and it is not going to be a long winter for the BFSI and retail verticals?
N Ganapathy Subramaniam: We certainly hope so. Even in the order book, $2.2 billion worth of orders came from banking financial services and in the last six-seven quarters, our order book or total contract value versus our revenue at about 1:1.2, have been consistently doing that or above. We believe we are bottoming out, but we don’t know how the BFSI is hostage to the macroeconomic indicators.
So what will come back first -- margins or top line?
Rajesh Gopinathan: It is difficult to say. Think about it this way, take a cricket analogy; you went in for lunch with a good score, came out, the ball is reverse swinging a bit and so we need to reset it and adjust and rebuild our net. But I am quite confident on both sides. There is demand visibility. I would not characterise this quarter as one where something went wrong. This is about something that slowed down faster than we had anticipated.
On the margins side, the build out is structural and that will continue. It is not something that will immediately yield results but we are very confident about where we are so over the course of the last two years, we have onboarded almost 60,000 freshers; attrition remains under control. We have significantly revamped our entire training infrastructure to be able to completely reuse it. We will do some moderation on hiring on the lateral side on the experienced hiring going forward. So, there will be some amount of practical adjustments. It is something that we are in for a slightly longer term.
When digital was less than 15% of your total revenue, your margins were where they are right now. After that your order book has increased; after that you have managed to increase your digital business and you have had a little bit of currency advantage because of the weakness in rupee. Yet margins have gone to a multi-year low. If you go below that, you would be going below the earlier guidance band?
Rajesh Gopinathan: Remember, just four quarters back, we were back in our target band. Since then, the exchange environment has been very volatile. So, while the rupee looks to have depreciated against the dollar slightly, it has significantly appreciated against everything else. Even if we look at our year on year numbers, both the rupee and dollar are 3% points lower than our CC terms. That shows the kind of volatility that is going on. There has been only very negative impact on margins from the currency side of it. On top of it, investments have been going on. It is not on;y investments in digital, it is also investments moving into transformational deals. We have spoken about the business 4.0 framework and that is building out very nicely. We have been investing into what you call the whole digital marketing and TCS interactive side of it.
A lot of domain capabilities that we spoke about monetising into the product side, is still at an early stage. In our annual report we shared multiple cases of the kind of work that we are doing. These are all ground-breaking work for the company and positions its very nicely. The investment is going into building new businesses and new capabilities and new streams of revenue, which are much more complex and defensible.
The word from the top management is that, TCS is going through a patch of softness and that patch of soft business or revenue is nearing its end, it is not like it is a prolonged winter.
Rajesh Gopinathan: I do not know whether it is nearing its end or not, there is definitely a patch unexpected patch of softness.
Quarter two, quarter three, can you give a sense there?
Rajesh Gopinathan: Q3 is always a weak quarter. As we go into this Q3, we see let us say the budget income through and we get better visibility from customers. At the start of next year, we will be able to share but our experience this year and a few years back has been that the world is quite dynamic. Even if the customers go in with certain expectations, midway to end of the year things change. We will need to remain agile and adapt to it.
Are there any deal cancellations? Are you getting a sense that clients are scaling back? Is there a challenge which could surface up in coming quarters?
N Ganapathy Subramaniam: No, we are not seeing any deal cancelations and just last month, we had a fantastic gathering of our customers. Top managements from more than 250 to 300 of our top customers came in. They are a bit cautious about the economic situation and the Brexit type of issues but barring that, they are not holding back on any deals especially the transmission ones. They continue to invest in and continue to go after cloud, blockchain, payment transformations. Leveraging the ecosystems and harnessing abundance in the business 4.0 framework is something that they are hooked on to it
They are building their ecosystems and then leveraging some of the partner network that we have built using our co-innovation network. I do not see any deal cancelations or lag in momentum in terms of their transformation spent. Yes, they remain a bit cautious in terms of what they are likely to do right now. Overall, digital is there to stay, transformation is there and they will continue to focus on getting their growth back and getting their global business model and operating model cleaned up.
When you took over as CEO, you announced a buyback. You said, “l have got one more arrow in my quiver and I am using buyback.” After this budget, the buyback option is not a tax efficient option. How would you continue to reward your shareholders?
Rajesh Gopinathan: The net economic value has to be optimised. Today the choices we have made in the past and the choices we made in currently are all a reflection of where the jurisdictional environment is. So we are committed to a stable capital allocation policy which is to return 80 to 100% of a free cash flow to our shareholders. The means of doing it will always keep getting tweaked as the regulations around it get changed. Today, dividend is the most tax efficient way of returning money to shareholders and I think that is the decision to drive it. If we see the board looking at both efficiency as well as multi-stakeholder considerations, if there is a balance to be made, we will do so accordingly.
So there is no plan to increase cash levels disproportionately higher? The free cash flow would be down.
Rajesh Gopinathan: No, what we have announced in this dividend is approximately similar to what we returned last year through the buyback scheme. So the payout will continue at that kind of a range.