Wednesday, July 11, 2012

TCS - Sell / Short - on deteriorating Earnings quality

TCS - Sell / Short - on deteriorating Earnings quality

Cmp/LTP 1258
Market cap Rs 246,414 crores or USD $ 44 Billion.
This post is based on theme of  ""Revenue is vanity ,margin is sanity & cash is reality".
 Event -TCS - Tata Consultancy Services - India `s largest IT Services company will post Q1 FY13 results on 12 -July 2012.
Objective is this post is comment on deteriorating earnings quality of TCS. In fact worst in past 8 years.
Summary - based on past 2007 /06 valuation peaks and price reaction, TCS could see a 20%-30% correction. i.e 1000 target. ( 200 DMA of 1160 - (8%)  lower from here would be first logical target)
Approach - used Consolidated Financial details - P&L and Cash flows from Annual reports. ( also wanted to add a technical angle alongwith TCS comparison with Cognizant CTSH and recent divergence i.e CTSH has corrected but TCS hasnt. But will update this perspective later)
Please refer the table given below and the related comments 

a    Row 3 - ratio of reported P&L Profit to Operating cash flow OCF or CFO is at highest level in past 8 years                               
   Row 8 - ratio of Operating cash flow OCF or CFO to total Revenue is lowest in past 8 years                 c    Row 4 &5 - growth in Net Income / PAT has always been in double digits but CFO growth fell to 2nd lowest ever - single digit in FY12. E.g in FY12 reported PAT was +15% but CFO growth was just +6%. This was on top of a negative growth in CFO in the prior year of (-11%) . ( In fact,I had done a quick calculation vs Infosys and from what I recollect -despite of being ~35% smaller vs TCS on revenue basis,INFOSYS has a much :- +40% higher CFO. Might write on this comparison in detail in another post)                               
   "Row 9 &10 -  valuation ratios based on only PE would undervalue it. Valuation based in P/CFO is already at 35x i.e its already in `07/06 highs.
      Row 7- We can see that from peak valuation ratios of P/CFO >35x in `07, next two years saw back to back returns of (-34%) for 2 straight years. i.e overall correction of (-43%) in next two years. We SEEM to be at SAME levels in 2012."
Disclosure  -I`m short TCS. Might add to more short positions or square off based on stops.
Table below ( click to zoom)

1 comment:

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