Even though my Home town is Bangalore city which is IT hub of india. (Likewise Mumbai is financial hub of india)
As a Investor & Shareholders, well I have not been a big fan of IT companies in India whether it’s about short term or investing in their stocks for long term. The recent run up in stock prices of TCS, HCL Tech, Tech Mahindra and other IT staffing companies has only increased my worries to invest my clients funds in IT Companies as they are being perceived as technology companies and getting valuations accordingly.
Let Say for Example “Tata Consultancy Services” is a Leading player in Indian IT space.
TCS is now valued at around $90 billion in market value and is trading at a PE of 21 times FY-16 EPS. If one believes that TCS is an innovative technology company like Apple, Oracle or Google then the valuations are justified but what PE would you apply to an employment agency who has just grown at the rate of growth in number of employees in the company. With employee billing arbitrage gradually getting narrowed due to very high wage inflation in India and less than 2% wage inflation in western world the margins will gradually decrease over next 10 years on this business model.
In FY-14 TCS had over 3,00,000 (3 lacs) employees and reported a revenue of $13.44 billion. To grow it’s revenue at the rate of 15% for next 5 years it has increase it’s employee base to 6,00,000 (6 lacs) by FY-19. Managing attrition, productivity, quality and very high fixed wage costs will be a huge challenge for the company. Any downturn in business from western world would severely hurt the company’s financials and profits.
| Financial Year* | No. of Employees* | Revenue ($ million)* | Rev per employee ($) |
| FY-05 | 45714 | 2240 | 49000 |
| FY-06 | 66480 | 2970 | 44700 |
| FY-07 | 89419 | 4300 | 48000 |
| FY-08 | 111407 | 5700 | 51000 |
| FY-09 | 143761 | 6000 | 41700 |
| FY-10 | 160429 | 6340 | 39500 |
| FY-11 | 198614 | 8200 | 41200 |
| FY-12 | 238583 | 10200 | 42700 |
| FY-13 | 276196 | 11600 | 42000 |
| FY-14 | 300464 | 13440 | 44700 |
*TCS employee and revenue data taken from TCS official website
As can be seen from the line chart below, the revenue per employee has been largely constant with slight negative bias which clearly suggest that the company is growing on the back of increase in staffing to it’s clients. Also it can be easily calculated from the data above, the employee growth at TCS from FY-05 to FY-14 had been 557 % while it’s revenue growth had been 500 % (less than the growth in no. of employees).
TCS is a very well managed company but largely mispriced by the market as most of the people believe they are technology company. TCS, Wipro, HCL Tech, Cognizant, Tech Mahindra all are largely staffing companies and deserve forward PE multiple of less than 15 unless they can show significant non-liner growth in revenues on the back of innovation.
Note: Investors friendly companies dependents on technology for its growth not Human Resources.
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About the author:
Vikram Mg is Chief Investment Adviser for High Net-Worth Individuals (HNI’s), Angel Investors & Venture capitalist at Vikrammg.com. He helps technology companies & Financial Companies enhance their performance in terms of Revenue Maximization & Creating More value to its Customers. His ambition is to build a portfolio of successful companies from scratch and become a rupee billionaire (Networth- 100 cr+) by 2040. – click here for complete details
Vikram Mg 