Pros and Cons of Investing in TCS

Investors in the stock of Tata Consultancy Services (TCS) have been disappointed with its price movement over the last 5 years.

After a big rally in 2020 and 2021, following the covid crash, the stock peaked at around Rs 4,000 back in January 2022.

Since then, the stock has struggled to make progress. After hitting a new all-time high close to Rs 4,600 in mid-2024, the stock has been on a downward trajectory. At Rs 3,500 today, the price is almost back to the levels last seen in January 2021.

This is not to say that the company has not rewarded its shareholders. TCS is one of the top dividend stocks in India. The company has paid a cumulative dividend of Rs 342 per share from FY20 to FY24.

The company also has a history of buying back its own shares.

So, investors have certainly benefited from management's generous policy of returning cash to them.

And the stock has also been one of the biggest wealth creators in the Indian stock market.

However, in terms of recent share price appreciation, the stock has been a dud, at least after 2021, as can be seen from this chart.

Now, long term investors have kept faith in the stock because of the strong fundamentals of the company, its dominant position in the Indian software sector, and of course, the management's competence, transparency, and friendliness to minority shareholders.

Also, as the jewel in the crown of the Tata group, TCS has an aura in the market that is impossible to ignore. It's one of the few stocks that has rewarded investors seeking both capital gains and dividends in equal measure over the long term.

It's rightly considered to be among the best stocks to own by most investors. Almost every fund manager and many retail investors have the stock in their portfolios.

In fact, it's safe to say that it's among the bluest of bluechips in the Indian stock market.

But does that mean investors should consider the stock now?

And what about existing investors in the stock? Should they consider buying more?

In this editorial, we will discuss the pros and cons of investing in the stock of TCS.

Read on...

Pros

#1 Solid Fundamentals

TCS has grown its revenue at a CAGR of 11.4%, 10.5%, and 13.6% over the last 10, 5, and 3 years, respectively. That's a commendable performance for such a large company.

It's net profit growth has been almost as good, growing at a CAGR of 9.1%, 7.9%, and 12.3%, over the last 10, 5, and 3 years, respectively.

But what sets it apart from the crowd is its excellent return ratios.

The company's return on equity (ROE) has averaged 38.7%, 43.4%, and 47% over the last 10, 5, and 3 years, respectively. Indeed, the company's ROE has been steadily increasing even though its already very high.

And TCS has achieved this with no debt on its balance sheet, a truly remarkable achievement.

Even better than the ROE is the return on capital employed (ROCE) which has averaged 51.8%, 58.9%, and 64% over the last 10, 5, and 3 years, respectively.

There isn't anything more an investor can ask from a large company, to be honest.

#2 Dominant Industry Position

The most important thing to understand about TCS is that its core IT services business is rock solid.

It has deeply established itself as the partner of choice for Fortune 500 companies around the world.

It offers a wide range of end-to-end software services. Developing business apps, creating and maintaining digital assets, managing huge databases, providing real time actionable business analysis...it's all done very efficiently.

The company has a worldwide reputation of taking on big IT projects and completing it to the satisfaction of customers.

In addition, the company actively takes on more and more of its clients' 'non-core' work and gets the job done properly and on time. This reduces costs and improves efficiency of its clients.

Thus, it's very difficult to replace TCS as a partner of choice.

#3 Future Ready Workforce

The large workforce at TCS does not sit idle. They are given training on various new technologies. They regularly participate in many skill upgradation plans.

TCS focuses on leveraging internal talent through upskilling and cross skilling. In FY24, 33% of job requirements were fulfilled through grooming internal talent.

The company has a well-oiled rapid training program if it were to foresee a skill shortage. The management proactively looks ahead at the needs of its clients in the future and trains its staff ahead of time. This is why the company has been able to pre-empt any technological disruption.

TCS also has an internal system of moving employees around if they want to. Staff can move to a different department if they think their current job will lead to a dead end. This helps to increase productivity and retain talent.

All these measures help to keep voluntary employee attrition consistently low, between 10-15%. It was 12.5% in FY24. In fact, the market considers 15% to be a high attrition rate for TCS. For other IT companies, a 20%+ attrition rate is considered normal.

Thus, TCS has the right talent available at the right time to win large projects from around the world, especially when there is a technological disruption.

This became very obvious during the AI boom. TCS was ready to deploy an internally trained AI-ready workforce at scale. Other IT companies had to pay high salaries to recruit talent from outside. Thus, TCS grabbed market share from its competitors and improved its relative position in the industry.

Cons

#1 Growth Challenges

As a large company TCS will find it difficult to maintain high growth rates of the past.

Also, margin expansion will become even harder.

TCS has reported a muted 6% growth in its net revenue for 9MFY25, due to uncertainties in the market and some weakness in its key business verticals.

Operating profit grew 6.9% during the first nine months with margins improving slightly from 26.2% in 9MFY24 to 26.4% in 9MFY25.

Going ahead, the management has guided that they expect H2FY25 to be better in terms of revenue and profitability. There are certain pockets of growth in sectors such as insurance, airlines, transportation, and manufacturing.

Currently, TCS is navigating challenges in the demand environment due to muted spending in the US market, which is expected to reverse in FY26.

The market expects the low growth phase to last into FY26. A recovery could happen during the year, but the timing cannot be predicted. This has resulted in the stagnant stock price.

#2 Trade Wars and Economic Growth

TCS is a very large company with operations in well over 100 countries. It's present in every large economy in the world.

As trade wars become a reality during the Trump administration, global trade is being disrupted. This impacts every major economy in various ways, that are often unpredictable.

Thus, in an uncertain economic scenario, large companies prefer to adopt a wait and watch policy when it comes to 'new' spending. Unfortunately for TCS, that new spending decides its revenue growth for the current year.

There isn't much that the company can do about this. This is more of a sectoral risk for investors, as opposed to a stock specific risk. Switching from TCS to another IT stock will not make the risk go away.

This is another reason why the stock has been under pressure recently.

About TCS

TCS is the flagship company of the Tata group. It is an IT services, consulting and business solutions organisation that has been partnering with many of the world's largest businesses.

The company is India's largest software services firm. It provides outsourcing, has a diverse client base and it geographically present across 6 continents.

The key business verticals for TCS are financial services, consumer business, life sciences and healthcare, manufacturing and technology and services.

The company serves to some of the biggest conglomerates in the world like Google, Amazon, Azure, Openstack, Adobe, Intel, Bosch, IBM, Apple, Oracle, Symantec, etc.

For more details, check out the TCS company fact sheet and quarterly results.

Happy investing.

Disclaimer: This article is for information purposes only. It is not a stock recommendation and should not be treated as such. Learn more about our recommendation services here...