Titan company rating: Buy | Duty hike unlikely to hit prospects Government of India (GoI) has raised the basic customs duty on jewellery imports to 12.5% (from 7.5%), effective 30 June, 2022. Through this move, it intends to curtail gold imports ($6 bn in May ‘22) amid a worsening current account deficit (CAD), a factor contributing to the depreciation in rupee to record low levels. Clearly a negative event: 1) This results in a higher gold price and may push consumers to postpone their jewellery purchases. 2) In two previous instances of custom duty hikes (August 2013, July 2019), Titan saw demand weakness for a quarter or two. 3) If a high import duty regime persists for a long time, it could result in increased smuggling and cause price distortions in the market, which is especially unfavourable for organised segment companies such as Titan. 2) We expect Q1 to be solid and Q2 is a studded jewellery promotion quarter; Q3 and Q4 should benefit from a big wedding season. 3) Titan has sufficient resources, including use of recycled gold (a third of its total gold consumption) through attractive gold exchange schemes and quantity-led discounts to mitigate any impact on demand in key seasons. 4) Since custom duty paid is largely unhedged, the increase will result in one-off inventory gains, which Titan can still use to create demand. We expect c27% jewellery sales growth in FY23e, which should serve as key catalyst for stock. We see a compelling compounding construct for Titan: 1) Titan’s share price is down 28% from its 22 March, 2022 peak amid a market sell-off. We think its valuation is quite appealing and offers attractive risk-reward. 2) Titan has structural momentum to gain market share and aims to grow jewellery revenue at a 5-year CAGR of c20%. 3) During this 5-year period, we see significant scale from three additional businesses: a) Taneira (ethnic wear) targeted at Rs 10-bn revenue (which we think is conservative), b) CaratLane, for which revenue is already close to Rs 18 bn on a run-rate basis, and still growing in excess of 50% each year, c) significant growth in the eye care business as well. 4) Jewellery growth momentum and rise of these three businesses, in our view, will prevent any material multiple compression. Hence, we maintain our Buy rating and TP of Rs 3,000.
Services miss estimates; Software better than expected: Services business grew 0.6% q-o-q cc and missed HCLT’s Q3FY23 guidance, mainly due to a 3.8% q-o-q cc decline in the ER&D segment. Growth in the IT&BS segment moderated slightly to 1.6% q-o-qcc but was in line with estimates. BFSI and Life Sciences were the key growth drivers, while communications were the drag among verticals. Growth was led by the Americas region, while Europe and ROW posted declines.
Decline in bookings reflects delays in decision-making: HCLT won 10 large deals in services and three large deals in Software with net-new deal TCV of $2.1bn, down 8% y-o-y. Deal wins were driven by the services portfolio, were centered on cost optimisation and vendor consolidation and came mainly from BFSI, manufacturing and Life Sciences verticals. Management highlighted a ramp-down in discretionary spending in Hitech and communications verticals but pointed to a strong deal pipeline.
FY24 guidance in line with expectations: HCLT has guided for 6-8% y-o-y growth for overall business and 6.5-8.5% y-o-y cc growth in services segment and 18-19% margins in FY24—all in line with our assumptions. We maintain our FY24-25 cc revenue growth and margin estimates and expect HCLT to deliver 6.5% cc revenue growth and 18.4% margins in FY24. However, we lower our earnings forecasts by 2% to factor the higher tax rate indicated by the management.
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Raise PT: HCLT has fared better in Q4, particularly in North America and BFSI, unlike its peers. However, rising demand uncertainty as a US recession nears remains a concern. HCLT’s stock at CMP trades at 17x PE and offers a 5% yield, which in our view should limit downsides and derating. Hence, we raise our target PE to 17x (16x earlier) and raise our PT to Rs 1,125, offering 8% potential upside.