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Edited Transcript of TCS.NSE earnings conference call or presentation 10-Oct-19 1:30pm GMT

Q2 2020 Tata Consultancy Services Ltd Earnings Call

Mumbai Oct 12, 2019 (Thomson StreetEvents) -- Edited Transcript of Tata Consultancy Services Ltd earnings conference call or presentation Thursday, October 10, 2019 at 1:30:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Kedar Shirali

Tata Consultancy Services Limited - Head of Global IR

* Milind Lakkad

Tata Consultancy Services Limited - Executive VP & Global Head of HR

* N. Ganapathy Subramaniam

Tata Consultancy Services Limited - COO & Executive Director

* Rajesh Gopinathan

Tata Consultancy Services Limited - CEO, MD & Executive Director

* Venkataraman Ramakrishnan

Tata Consultancy Services Limited - CFO

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Conference Call Participants

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* Apurva Prasad

HDFC Securities Limited, Research Division - Research Analyst

* Ashwin Mehta

IDFC Securities Limited, Research Division - Director

* Diviya Nagarajan

UBS Investment Bank, Research Division - Executive Director and Research Analyst

* Girish Pai

Nirmal Bang Securities Pvt. Ltd., Research Division - Head of Research

* Manik Taneja

Emkay Global Financial Services Ltd., Research Division - Research Analyst

* Nitin Padmanabhan

Investec Bank plc, Research Division - Analyst

* Sandeep Shah

CIMB Research - VP

* Sandip Kumar Agarwal

Edelweiss Securities Ltd., Research Division - VP

* Shashi Bhusan

Axis Capital Limited, Research Division - Executive Director of IT and Telecom

* Vibhor Singhal

PhillipCapital (India) Pvt. Ltd., Research Division - VP & Lead Analyst of Infrastructure and IT Services

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Presentation

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Operator [1]

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Ladies and gentlemen, good day and welcome to the TCS earnings conference call. (Operator Instructions) Please note that this conference is being recorded.

I now hand the conference over to Mr. Kedar Shirali. Thank you. And over to you, sir.

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Kedar Shirali, Tata Consultancy Services Limited - Head of Global IR [2]

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Thank you, Karuna. Good evening, and welcome, everyone. Thank you for joining us today to discuss TCS' financial results for the second quarter of fiscal year 2020 ending September 30, 2019. This call is being webcast through our website, and an archive, including the transcript, will be available on the site for the duration of this quarter. The financial statements, quarterly fact sheet and press releases are all also available on the website.

Our leadership team is present on this call today to discuss our results. We have with us today Mr. Rajesh Gopinathan, Chief Executive Officer and Managing Director.

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Rajesh Gopinathan, Tata Consultancy Services Limited - CEO, MD & Executive Director [3]

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Hi. Good evening.

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Kedar Shirali, Tata Consultancy Services Limited - Head of Global IR [4]

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Mr. N. G. Subramaniam, Chief Operating Officer.

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N. Ganapathy Subramaniam, Tata Consultancy Services Limited - COO & Executive Director [5]

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Good evening to all of you.

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Kedar Shirali, Tata Consultancy Services Limited - Head of Global IR [6]

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Mr. V. Ramakrishnan, Chief Financial Officer.

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Venkataraman Ramakrishnan, Tata Consultancy Services Limited - CFO [7]

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Hello, everyone.

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Kedar Shirali, Tata Consultancy Services Limited - Head of Global IR [8]

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And Mr. Milind Lakkad, Global Head, Human Resources.

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Milind Lakkad, Tata Consultancy Services Limited - Executive VP & Global Head of HR [9]

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Hi, everyone.

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Kedar Shirali, Tata Consultancy Services Limited - Head of Global IR [10]

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Rajesh and Ramki will give a brief overview of the company's performance followed by a Q&A session. As you are aware, we don't provide specific revenue or earnings guidance. And anything said on this call which reflects our outlook for the future or which could be construed as a forward-looking statement must be reviewed in conjunction with the risks that the company faces. We have outlined these risks in the second slide of the quarterly fact sheet available on our website and e-mailed out to those who've subscribed to our mailing list.

With that, I would like to hand the call over to Rajesh.

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Rajesh Gopinathan, Tata Consultancy Services Limited - CEO, MD & Executive Director [11]

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Thank you, Kedar, and good evening, once again, to all of you. It's been a volatile quarter, but we have had a steady growth in Q2, growing 8.4% year-on-year in constant currency terms and 5.8% in rupee terms and in dollar terms as the cross-currency variations kicked in. Our operating margin was 24%, reflecting our continued investment in our people, and our net margin was at 20.6%.

Ramki will go over the headline numbers and financial and segmental performance, and I will later follow on and talk a bit more about the demand trends that we're seeing. Over to you, Ramki.

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Venkataraman Ramakrishnan, Tata Consultancy Services Limited - CFO [12]

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Thank you, Rajesh. Let me go through the headline numbers. In the second quarter of FY '20, our revenues grew 8.4% year-on-year in a constant currency basis. Reported revenue in INR was INR 389.77 billion, which is a Y-on-Y growth of 5.8%. In USD terms, revenue was $5.517 billion, which is a Y-on-Y growth of 5.8% again.

Let me go over the -- how the different segments have performed during the quarter. As a reminder, all the growth numbers are year-on-year and in constant currency terms. In BFSI, the insurance subvertical continues to grow well. However, there was continued volatility, particularly in Europe, mitigated to some extent by new business ramping up during the quarter. So overall growth in BFSI was 8%.

In Retail, at a sectoral level, customers continued to invest strongly in new technology initiatives, but we were surprised by the continued weakness in pockets, which brought down the overall growth to 4.8% in Retail.

Growth was led by Life Sciences & Healthcare, which grew 16%, driven by our strong presence in the drug development value chain of large pharma companies. We had good growth in Communications & Media, which grew 11.8%, driven by increasing investments in product innovation, particularly in 5G and IoT solutions.

Other verticals continued to grow well. Manufacturing grew 7.8%, while Technology & Services grew 5.6%. Revenue from digital engagements made up 33.2% of our revenues in Q2, a growth of 27.9%. Geography-wise, U.K. and Europe continued to outperform, growing 13.3% and 16%, respectively. North America decelerated further, growing 5.3%, while Asia Pacific grew 6.5%. Emerging markets largely underperformed, with India growing 7.7%, Middle East and Africa growing 7.3% and Latin America growing 7.3%.

Our portfolio of products and platforms performed well in Q2. Ignio, our cognitive automation software, had 10 new wins and 8 go-lives that is increasingly viewed as a critical component of any core transformation to build in greater resilience and self-healing capability to the technology stack and thereby reduce business risk from outages. Ignio's channel partner program is progressing well with 4 new partners on-boarded this quarter.

TCS BaNCS, our flagship product suite in the financial services domain, has become the preferred digital core for financial institutions looking to harness the power of digital technologies, to accelerate their product innovation and enhance the customer experience. We had 6 new wins and 6 go-lives in Q2 covering core banking, payments, insurance, securities trading and corporate actions processing.

Our Quartz Blockchain Solution continues to gain traction. One of the more exciting engagements in Q2 was of the Swiss bank to build a platform that will enable trading of crypto currencies alongside wallet management services.

In the Retail space, we had 1 win each for Optumera, OmniStore and supply AI. In Life Sciences, our Advanced Drug Development platform, which is a comprehensive suite of cloud-based platforms for drug development, had 2 new wins. Additionally, our Connected Clinical Trials platform won the 2019 European Innovation Award from Clinical Research News. Lastly, our HOBS PaaS platform for communication service providers had 3 new wins and 2 go-lives.

Coming to our client metrics. We continued to reflect the ever-increasing levels of trust we are able to engender and how we are getting ever more embedded into their businesses. Quarter after quarter, you see customers moving up the revenue buckets as we expand our engagement to cover newer stakeholders within their organizations and participate in newer areas of their spend.

In Q2, we added 3 more clients in the $100 million-plus band, bringing the total to 47; 3 more clients again in the $50 million-plus band, bringing the total to 101; 12 clients in the $20 million band, bringing the total to 225; 33 clients in the $10 million band, bringing the total up to 398; 41 clients in the $5 million band, bringing the total to 554; and 33 clients in the $1 million-plus band, taking the total to 1,032.

Let me go over the other financials. We have been focused on demand capture and on building up capacity to fulfill the strong order book that we have won over the last couple of quarters. Our operating margin of 24% in Q2 reflects these investments. Net income margin was 20.6%. Effective tax rate for the quarter was 23.5%. Our DSO was 66 days in dollar terms.

Net cash flow from operations was INR 86.86 billion, which is 108% of our net income. Free cash flow was INR 79.48 billion. Invested funds as at September 30 stood at INR 546.39 billion. We remain committed to returning most of our free cash flow to shareholders. This quarter, the board has recommended an interim dividend of INR 5 per share and a special dividend of INR 40 per share, amounting to over INR 22,000 crores being returned to shareholders so far.

On the people front, as I mentioned earlier, we have been building capacity and gearing up for growth. Our net addition in Q2 was 14,097 employees, which is the highest-ever employee -- number of employees that we have on-boarded in a quarter. Our total head count now stands at 450,738. It's a young, vibrant and diverse workforce with representation of 146 nationalities and women making up 36.3% of the base.

Our investments in organic talent development continued to help us build up unmatched scale and depth in new technologies. As of September 30, we have trained over 322,000 employees in emerging technologies and over 391,000 employees on Agile methodologies. We continue to enjoy the lowest attrition rate in the sector globally. LTM attrition in IT services in Q2 was at 11.6%.

I now turn it over to Rajesh for the demand drivers and trends.

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Rajesh Gopinathan, Tata Consultancy Services Limited - CEO, MD & Executive Director [13]

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Thank you, Ramki. I'll take a few minutes to walk through and give some color on the nature of demand that we're seeing.

Let me start by reiterating that despite the negative news flow and resultant volatility, the structural aspects of demand for our services are very much in place and customer spending has not slowed down. We held our customer summits in the United States and Europe last month. And while there's some amount of caution about the economy and geopolitical development, it was immensely energizing to interact with our customers and discover that their transformation initiatives are pretty much on track, and this is reflected in deal closures also, particularly in areas like core transformation, it continues to be quite strong.

Our order book in Q2 was $6.4 billion, the largest that we have signed in the last 6 quarters. And very encouragingly, North America accounted for $3.4 billion of that. The BFSI order book has also been very strong, growing from last quarter, and it was $2.2 billion, while Retail was at $830 million.

So let me give some more color on that. I've spoken in the past about how our participation and our customer growth and transformation initiatives is embedding us deeply into our customers' business. In my view, nothing new is more core than product innovation, and that's the area where we are seeing significant traction across multiple industries.

Actually, in many industries this is not new. For example, we have been providing product engineering services at scale to leading software vendors and Hi-Tech equipment vendors for many years. Likewise, we have been providing engineering R&D services as a separate service offering to leading OEMs, including GM and other auto majors for the last many years.

What is happening today is that this trend is very visible in many more industries and our services are being viewed through a strategic lens. Many customers see plugging into the TCS innovation ecosystem as a means to strategically scale up their own innovation initiatives and to significantly raise the probability of success and therefore gaining competitive differentiation and strengthening future sustainabilities.

Let me give you a couple of examples in that. For example, in the auto sector, embedded software, AI and connectedness have blurred the device between IT and core engineering services. With our scale and depth in advanced engineering services and in emerging digital technologies, we have been big beneficiaries of the convergence and are partnering with leading OEMs across the world in designing new models for specific markets and building intelligence into their next-generation vehicles. Last month, we entered into a strategic partnership with General Motors to support their global vehicles program with engineering design services in areas like vehicle exterior styling, interior design, battery and motor drives, electrification controls, advanced simulations, validations for multiple vehicles, platforms, et cetera.

We are also working with multiple telcos in their product innovation efforts as they launch new products around 5G, fiber and intelligent network. We are helping out in areas like building an elastic network provisioning systems through our network design and radio densification.

On the business side, one of the big challenges for telco is to justify the 5G investments for their clients, and it has been the absence of a compelling enterprise use case for 5G usage beyond just the speed paradigm.

Many of the telcos are now partnering us to help create new business-centric solution that leverage our domain knowledge and depth in digital technologies and use this to create use cases that can increase enterprise demand for the 5G offerings.

Interestingly, our cross-industry presence and domain depth is helping us carry over innovative solutions built for one industry into a completely different industry for a totally different use case. For example, our HOBS cloud platform, which was used by many telcos as the core platform to streamline their business and technology operations, has come in with a very robust configuration management capabilities to address the needs of our telco customers.

As it turned out, these are precisely the capabilities that one of the largest aircraft engine manufacturers in the world was looking for to help them actively monitor and manage product configurations of their engines in the field using IoT. Similarly, the HOBS cloud platform is actually getting used in many areas where subscription management is becoming a core business requirement and that is becoming like a horizontal capability across multiple industries.

In Life Sciences domain, our Advanced Drug Development platform has deeply embedded us into the drug development value chain of large pharma companies. TCS has partnered with a large North American pharmaceutical company to introduce passive adherence tracking technology into clinical trials, thereby increasing the probability of completion of the trial and therefore reducing the time of field trials.

TCS Connected Clinical Trials platform will use smart inhalers to ensure that patients participating in the trials take the right dose at the right time, thereby transforming the adherence tracking process and ensuring greater reliability in the test results.

TCS has also partnered with a global biopharmaceutical company to significantly transform the long and oddest pharmaceutical technology transfer process. Our digital transfer solution will streamline recipe development and transfer and increase the visibility and collaboration across the tech transfer process. It is expected to improve manufacturing efficiency by 40% and reduce paperwork by 30%.

So if you were to step back a bit, many of these things actually feed into what we have been speaking of earlier. Our Business 4.0 framework that we have spoken extensively in the past leveraging ecosystems has been one of the core business levers that we said characterized the business transformation of digital champions. In many ways, partnering with TCS itself is a form of leveraging an ecosystem. But more importantly, more and more industries are realizing that to be able to give a holistic value proposition to their customers, they need to cut across horizontal boundaries.

Let me give you an example. For example, an airline may get a vacation per destination which used to be the primary product that an airline offers. But once the person steps out of the airplane, the interaction ends and the rest of the vacation experience is out of the airline's scope. The customer per se is not looking at purely travel for travel sake. The customer is going for a holiday. And therefore, by anchoring or participating in an ecosystem that includes hotels and resorts, ground transport operators, local tour operators, the airline can curate a more complete experience and provide a vacation versus just air transport.

This is not new and airlines has been trying to do this for a long period of time. What is new is that digital technologies are now making collaboration across multiple industry participants a lot more dynamic and reality that can be exploited. But it requires companies to switch from a product mindset to a more customer-focused mindset and to switch from a firm-centric approach to a value-centric approach. And TCS' presence, both from a technology capability perspective as well as our presence at the intersection of industry, positions us very well to help enterprises work their ecosystem strategies and collaboration across multiple industries. And this collective innovation initiatives getting curated by TCS as an anchor is a core part of how we are helping customers in these transformation journeys and hence resulting in much more complex solution setups.

So for now let me conclude by saying that we are participating very well in the here-and-now demand and our order book and deal pipeline is very well distributed across verticals and geographies. This gives us confidence from a medium to long-term perspective.

With that, we want to open the line for questions, and we...

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Questions and Answers

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Operator [1]

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(Operator Instructions) The first question is from the line of Sandip Agarwal from Edelweiss.

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Sandip Kumar Agarwal, Edelweiss Securities Ltd., Research Division - VP [2]

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Just 2 questions, 1 on the digital side. This quarter, we saw that digital growth has come off from a higher range to lower. Is it primarily driven by Retail -- weakness in Retail? And secondly, is the weakness in Retail a broad-based industry phenomena or you are seeing some pockets of weakness? How it is?

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Rajesh Gopinathan, Tata Consultancy Services Limited - CEO, MD & Executive Director [3]

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Digital definitely does get impacted by Retail. Retail has been a big adopter of digital. But I wouldn't ascribe more than that to it. Digital weakness is broad-based. It's coming both across most markets, and we are seeing some amount of slowdown on order decision-making, so -- which is what caught us by surprise. Especially in some of more innovation-led, product-led kind of deal structures, we've seen some amount of delays. So we'll have to wait and see how this plays out and also the holiday season that is coming up will be a crucial determinant of where retail confidence is. So the next few months will be critical for the industry as we -- from a more longer-term perspective of at least the medium-term perspective.

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Sandip Kumar Agarwal, Edelweiss Securities Ltd., Research Division - VP [4]

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One more -- if I can squeeze one more question, just wanted to know that in BFSI you have seen a decent growth of 8%, although it is maybe slightly below the company average or the overall growth, but is it also a little broad-based? Or you think that it is also some client-specific pockets of weakness?

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Rajesh Gopinathan, Tata Consultancy Services Limited - CEO, MD & Executive Director [5]

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BFSI is broad-based. We had -- it is similar to what we have spoken earlier. It is just the strengthening of that trend. We have spoken that large banks in Europe and capital markets in U.S. are where the primary weakness is coming from, and that does not change. Across both Europe, U.K. and Wall Street, there is -- the weakness trend is there. But there is significant strength, especially in insurance and then in regional banks and smaller banks in North America. So in those segments, the -- our demand flow and participation continues strong. So in BFSI, there is no change in trend or no new things that are emerging. It is just the strengthening of the trends that we saw earlier.

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Operator [6]

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The next question is from the line of Nitin Padmanabhan from Investec.

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Nitin Padmanabhan, Investec Bank plc, Research Division - Analyst [7]

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Just a follow-up on the earlier ones. On BFSI, specifically on BFS, do you think from a headwind standpoint from the capital markets and European banks, those headwinds are stronger going forward? Or those are largely going to dissipate or is it already over? So that's on BFS.

And the second question was on Retail. Retail typically what we've seen in the past is, you have typical strength before the holiday season and then there is weakness in Q3. Do you see that trend changing? And the second bit there was, within Retail, I think, for the past 2 quarters there's been -- we have been negatively surprised ourselves. So what do you -- to your mind is driving this trend of negative surprises?

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Rajesh Gopinathan, Tata Consultancy Services Limited - CEO, MD & Executive Director [8]

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BFSI -- being able to predict BFSI is beyond our capability. I mean we're calling it as we see it. But fact is that we are participating very strongly. 8% growth on a portfolio of $7 billion is no joke. So we are seeing very strong positive momentum. We're just talking about incrementally Q-on-Q variations, and we are very focused on participating in new opportunities. So our Retail order closure this quarter at $2.2 billion is all-time high. So I don't see any slackness in that space. It is just the trends are weaker than what it was 1 or 2 quarters back from a very high base. So that's the BFSI side. Incrementally where the industry is headed, actually, you guys are much better positioned to comment about it than we are. We are, as I've always said, kind of downstream players. So we get to see it later.

On the Retail side, what you said has been historically true. But if you look at it last few years, actually, Q3 has turned out to be a positive quarter. Last year, in fact, we had one of the -- our turnaround really came in Q3, and we had, if I remember correctly, about 11% year-on-year growth in Q3. So there is hope that this is not necessarily there. But like we have said at the beginning of last -- at the beginning of this quarter, we had hoped Q2 would be the strong quarter. That has not turned out. Deals have got delayed. Whether they will close in Q3 or not, we will have to wait and see. But we are strongly positioned and then we'll see how it turns out from our demand side as well as also from the industry perspective when the holiday season plays out.

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Nitin Padmanabhan, Investec Bank plc, Research Division - Analyst [9]

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Sure. One more if I may, just as a clarification of what you've already mentioned. Is -- so far the deal wins have been sort of pretty solid. And so weakness is driven by sort of delays in customers going ahead with ramp-ups? Or is it just the existing book of business that we've had with earlier clients that is sort of coming off? Is that how one should understand it?

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Rajesh Gopinathan, Tata Consultancy Services Limited - CEO, MD & Executive Director [10]

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Sorry. In (inaudible).

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Nitin Padmanabhan, Investec Bank plc, Research Division - Analyst [11]

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Yes. What I was suggesting was, we have had a very good deal closures overall, but it seems that the headwind is coming from the existing book. So 2 instances here: One is either despite the deal closures, the ramps are taking time and customers actually delaying the ramps; or two, the existing book of business is sort of there's some cuts there. So how should one sort of infer this on both counts, Retail and BSFI?

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Rajesh Gopinathan, Tata Consultancy Services Limited - CEO, MD & Executive Director [12]

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Started sharing the deal wins. We had always cautioned that the trend lines of it has to build up for the correlations to be established well. We have been typically in the range of about -- between 1% to 1.2% of revenues and...

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Venkataraman Ramakrishnan, Tata Consultancy Services Limited - CFO [13]

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1.2x.

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Rajesh Gopinathan, Tata Consultancy Services Limited - CEO, MD & Executive Director [14]

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Yes, 1x to 1.2x of quarterly -- or period-to-period revenues. So this needs to be seen in perspective. But if we step back and look at it, there are not discernible trends in terms of significant collapse of our existing book of business being replaced by new or any such thing. Obviously, there is, as we said, large client base, especially in BFSI and all, there is some weakness, which you have spoken about, and there is good participation in newer wins. But if you look at our client profile and client metrics, you will see steady growth in the number of customers across all revenue bands. So the number of $100 million customers is up by 3. So it is not that the existing book of business is collapsing and we are only adding at the bottom of it. We are seeing customer migration right across every band, which should address that aspect of it.

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Operator [15]

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The next question is from the line of Sandeep Shah from CGS-CIMB.

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Sandeep Shah, CIMB Research - VP [16]

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Just a follow-up on the order book. Rajesh, if I look at last 12 months, the book-to-bill ratio has been 1.12, which, at your size, it's really impressive. But just further to what been asked earlier, it's not actually translating into a revenue growth. So is it fair to say that the ACV, which is the annual contract value, the improvement has not been as good versus the TCV improvement which we are seeing as a whole?

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Rajesh Gopinathan, Tata Consultancy Services Limited - CEO, MD & Executive Director [17]

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Sandeep, in the last 6 quarters that we have reported, we have delivered double digit last year, and it was double digit last quarter also. So we have been translating that order book into real business and delivering on it. This quarter that it has dipped below, I don't think it is right to characterize that the order book is not converting. The order book is what is resulting in that industry-leading growth that you saw. We are now seeing a bit of headwind, which we have spoken about and which is strengthening. We'll wait and see how that turns around. And closure of this quarter is pretty much deals that were in the pipe and getting worked on through the past. So we'll see how it plays itself out.

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Sandeep Shah, CIMB Research - VP [18]

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Okay. Okay. But any different trends on ACV where tenure is actually being much higher or you believe no -- there is no major trend to call out on that side?

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Rajesh Gopinathan, Tata Consultancy Services Limited - CEO, MD & Executive Director [19]

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Actually, as I was mentioning in the interview, contract to market commentary, our experience has been that both deal sizes as well as tenure has actually been expanding and that is why our deal volumes have been increasing and we are signing more and more larger deals, so the -- which is counterintuitive to what the general commentary was. We are seeing -- and we have also said that probably it is because of our ability to stitch it across multiple service lines and our unique positioning in various industries, but we are seeing large deals and we are seeing deals where customers are ready to commit over a longer period of time because these are multiyear transformation programs that they are committing themselves to.

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Sandeep Shah, CIMB Research - VP [20]

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Okay. Fair enough. Just in terms of the growth across markets. So if you look at last few quarters, the incremental growth has been driven through U.K. and Europe. But looking at the macro headwind, where Brexit deadline is approaching, looking at Germany, the GDP growth rate is challenging. Rajesh, it gives you a slight concern that incremental growth which is being driven through Europe may not be the case going forward?

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Rajesh Gopinathan, Tata Consultancy Services Limited - CEO, MD & Executive Director [21]

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You are right. It definitely gives a concern. But Brexit has been with us for 3 years, and our participation in the U.K. market has been very good across these 3 years. We did more than 20% last year. And in the first half of this year, we have done almost 15% in Q1 and Q2 together. So our approach on this has always been the same.

While we are cognizant of the environment that we operate in, we are very focused on the individual opportunities, and we think that stressed environments provide unique opportunities, and it requires a more holistic full portfolio capability to be able to address it which we uniquely have. So we are quite -- and Europe has been weak for quite some time, and our European growth story has been very consistent over the last 5 years or more. So that is not to say that we are not concerned about what is going on, but what is happening around us we don't have control over. What we have control over is where we are focusing on.

Even in European BFSI, actually, we have had good participation. We've announced the -- a transformation deal that we did with OP Bank, and that's a one-of-a-kind, market-making kind of deal. Very, very complex and very unique transformation that we are attempting there. And similarly, we have concluded some in Central Europe where, again, significant transformation deal which will change the delivery model of a very large bank they have committed to it. So there are opportunities, and we're very focused on closing those off, which is showing through in the order book.

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Sandeep Shah, CIMB Research - VP [22]

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Okay. Okay. Okay. And just last 2 questions. Is it fair to say that most of the headwind on the Europe capital market maybe now bottoming out? Or you still believe that in the next couple of quarters we may have more headwinds to come? And the last on capital allocation. Now there is no difference treatment about the buyback as well as the dividend. With dividend, actually the process completion is much faster than the buyback. So is it fair to say that dividend may be a preferred route which TCS may want to opt in terms of the capital allocation going forward?

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Rajesh Gopinathan, Tata Consultancy Services Limited - CEO, MD & Executive Director [23]

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European capital markets as a segment is not a very large exposure area for us. So I don't think it's a very large segment currently in itself, but that's not the point. We are not very exposed to European capital markets. Large European banks, yes, and that's where our commentary comes from. So -- but I don't have any insight on European capital market participants. The question on dividend, let me -- the buyback or rather dividends are now economically -- the tax load on dividend is lower than buyback by a few percentage points. So there is definitely an economic rationale of doing it. But the specific mechanism, that is a decision for the board to decide considering both economics as well as multi-stakeholder alignment.

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Operator [24]

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The next question is from the line of Shashi Bhusan from Axis Capital.

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Shashi Bhusan, Axis Capital Limited, Research Division - Executive Director of IT and Telecom [25]

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Sir, do you think there is a heightened competitive intensity as peers are giving away their margin to win deals and this is also reflected in our financial performance, both in terms of revenue growth and margin?

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Rajesh Gopinathan, Tata Consultancy Services Limited - CEO, MD & Executive Director [26]

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Actually, if you go back many years, this question was pertinent and been asked every year, practically for the last 10 years. So nothing changes in that. Competitors will always be ready. The weaker competitor will always be ready to try and use price as a lever. And our ability to defend our margin will depend on our relative competitiveness. And our relative competitiveness continues to be very strong.

On the margin front, we have said that from a pure economics perspective, our salary structure and our business model presumes that there will be a certain depreciation on the currency to offset the inflation differential which is embedded into our salary hike decisions. We have been very disciplined about giving salary hikes and promotions and rewarding our employees on a consistent predictable way. The volatility that you see is really a reflection on a lot coming in from the currency market side of it, which is flowing through.

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Shashi Bhusan, Axis Capital Limited, Research Division - Executive Director of IT and Telecom [27]

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And how's the variable payout during the quarter, sir?

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Rajesh Gopinathan, Tata Consultancy Services Limited - CEO, MD & Executive Director [28]

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We have not tweaked the variable payout. Variable payout is -- the model is exactly the same. We will do full variable payout.

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Shashi Bhusan, Axis Capital Limited, Research Division - Executive Director of IT and Telecom [29]

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And do we have margin lever if the revenue momentum moderate or stay at the similar level apart from currency depreciation?

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Rajesh Gopinathan, Tata Consultancy Services Limited - CEO, MD & Executive Director [30]

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Margin levers are similar. We have spoken in the past that we were focused on demand capture. And while the growth rate was high, our focus was demand capture. And from -- as both we have had greater time as well as based on where the growth is, optimization levers will come into play.

Employee pyramid is a big part of that optimization play, and we've spoken about gearing ourselves up from a training perspective. First, we were focusing on our existing employees. Then we spoke to you about how we are transforming the incoming employee training experience and our approach towards evaluation of incoming training. And we spoke about acceleration of trainee joining and which we have executed. This first 2 quarters, we have brought on all 30,000 in.

So the rationalization of the employee pyramid is medium to long-term exercise that is steadily progressing. And we are in its early stages. It will continue to run. We had also spoken about bringing the BA cost under control, external consultant's cost under control. That is also an exercise that is steadily progressing. None of these are short-term exercises. These are structural exercises, which we are executing on, and all of them are -- will be margin accretive.

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Operator [31]

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The next question is from the line of Diviya Nagarajan from UBS.

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Diviya Nagarajan, UBS Investment Bank, Research Division - Executive Director and Research Analyst [32]

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Rajesh, I think as the year progresses, how should we think about the trajectory for growth? We have seen, in the last 6 months, the 12% number come down to about 8.5%. If the status quo persists, we're also fighting last year's high base effect. Could you give us a sense on the trajectory here for the rest of the year? That's question number one. Two, as a follow-up to what you just said, you -- could you explain what you mean by the pyramid rationalization, what kind of measures that would really engage?

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Rajesh Gopinathan, Tata Consultancy Services Limited - CEO, MD & Executive Director [33]

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Diviya, pragmatically speaking, to get to the same growth that we were at last year, we would need a very high number on H2. And right now H2 visibility is not very strong. So that's where we are. But having said that, we -- from a competitive perspective, I don't think we have any less competitive than what we were. So we will differentially participate in whatever opportunity exists and make sure that we capture it and stay ahead of the curve. But where the number will finally land up with, it is difficult to say today. The -- so growth, you'll have to make your own assumptions based on where that is.

Employee pyramid, see, if you look at our employee cost structure, so the very steady growth in our on-site contingent labor hiring component, which we are steadily trying to attack by increasing our entry-level hiring in various local geographies so that we can offset temporary lateral hires with more strategic entry-level hiring. That program is being executed, and it is, as I said, a medium to long-term program which will bear fruit.

Similarly, in the India side also, if you look at our trainee recruitment and on-boarding over the last 3, 4 years, you will see a very steady increase with significant ramp up last year and this year. So as we increase our trainee on-boarding and increase our digital training capacity to be able to satisfy demand requirements internally, we will be able to rationalize our pyramid further and fill out the employee pyramid base which we believe is right for correction.

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Diviya Nagarajan, UBS Investment Bank, Research Division - Executive Director and Research Analyst [34]

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If I look at your margin performance this quarter, there seems to have been essentially what is a revenue cost mismatch. Typically, what kind of a time frame are we looking at for those mismatches to kind of get realigned to a more equilibrium kind of a status?

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Rajesh Gopinathan, Tata Consultancy Services Limited - CEO, MD & Executive Director [35]

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The program that we are executing will -- is a multiyear program. So those kind of things will take 2 to 4 quarters for that kind of mismatch to be realigned. We have on-boarded more. And Ramki also mentioned in the interview that we are geared for growth and the growth that did not materialize. We have some amount of -- we can -- the next 2 quarters -- we have on-boarded the trainees that we wanted. Next 2 quarters, we can be a bit more rational about -- or more strategic about who we want to hire or how much we want to hire laterally during the next 2 quarters. So some amount of levers exists, but the large trainee additions are more longer term.

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Diviya Nagarajan, UBS Investment Bank, Research Division - Executive Director and Research Analyst [36]

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Sorry, sir, if I may just slip in one more. I think people have asked this question in different ways, but I think we were hoping that the exposure of digital going up gives the model a little bit more resilience to this kind of a slowdown. But essentially what seems to be happening is that even that digital spend is coming under pressure because of the backlog factors. So therefore, that assumption is incorrect. Is that a fair statement to make?

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Rajesh Gopinathan, Tata Consultancy Services Limited - CEO, MD & Executive Director [37]

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See, volatility impacts everything, and volatility impacts transformation programs first. The importance of digital is, it gives us greater staying power and greater relevance to our customers over a longer period of time. So volatility impacts everything. Weakness impacts legacy much more than digital. So if the volatility translates into large-scale weakness, our digital portfolio will give us a lot more resilience than our more legacy portfolio.

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Operator [38]

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The next question is from the line of Apurva Prasad from HDFC Securities.

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Apurva Prasad, HDFC Securities Limited, Research Division - Research Analyst [39]

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So on the Retail and CPG and the Regional Markets segment...

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Operator [40]

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Excuse me. This is the operator. Mr. Prasad, may we request you to speak closer to the phone, please.

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Apurva Prasad, HDFC Securities Limited, Research Division - Research Analyst [41]

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Am I audible now?

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Operator [42]

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Now sir, yes.

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Apurva Prasad, HDFC Securities Limited, Research Division - Research Analyst [43]

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So on the retail and CPG and the Regional Markets segment, while it seems to have turned incrementally negative, any pockets that are really causing that? I mean -- and any near-term outlook in terms of trends that can probably sustain or change? So BA deals getting pushed out or deals moving towards more higher duration or the slow ramp up, so what would you attribute that to? And maybe the near-term outlook in these 2 pockets which have incrementally turned negative?

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Rajesh Gopinathan, Tata Consultancy Services Limited - CEO, MD & Executive Director [44]

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Retail, as I said, we were ourselves, compared to our commentary at the beginning of the quarter, surprised by some of the deals that didn't close, especially around a few products that we were expecting and which we were strongly positioned in. Those deals have got pushed out. So that is what, from a commentary perspective, where the surprise came from. Incrementally negative, both U.K. and U.S. Retail, have significantly turned negative, and it has kind of weakened further, and that's why this current -- this coming holiday season is going to be an important data point to see how this industry reacts.

The Regional Markets, that line contains 2 parts: the Regional Market and the Others. Among the Regional Markets, actually, they're volatile by nature, but there is a synchronized slowdown. So India is down, Japan is down, Middle East is down and APAC is also weak. So that's -- to some extent, that is one of the reasons why we clubbed them into that bulk. So -- but it's volatile, all of them have turned negative.

Will anything change in these markets soon? I don't know. The reason for weakness in all of these markets are fairly well known. So we'll have to see how those underlying demand drivers in those markets change here. The other half of the Regional Markets & Others is a much more positive story, which is our products and platforms story. The products led by both ignio as well as by our financial products business has had, again, a very good quarter. Ignio has had 10 wins, and it continues to grow very strongly.

Financial products also, the banking -- BaNCS product line has also had a very strong growth with good client addition. And on the platform side, the U.K. part of our platforms business is doing very well, growing strongly. Our transformation programs, we've had some very good go-lives. Last weekend one of our -- of one of the large programs that we had announced, we've took live big transformation on what's called the [Silas] platform, and this is something that people have struggled with for the last 10, 12 years. Multiple attempts have been made and people have failed at it. Whereas we were able to take it live seamlessly with a million policies cutting over last weekend. We have another big drop coming up.

So the U.K. one continues to grow very well, which is our more mature part of the platform business. The U.S. platform business, the revenue profile is flat, which is in the nature of it because we have got 1 customer, but that transformation program is also going well is -- and on schedule. We have a big launch there or a big milestone in January next year, and we are well on target for that. So the platform product side is doing very well. The Regional Markets side is reflecting the volatility that you see in these markets.

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Apurva Prasad, HDFC Securities Limited, Research Division - Research Analyst [45]

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And also on the digital portfolio piece, so I'm trying to reconcile the fact that we're participating more with clients. At the same time...

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Rajesh Gopinathan, Tata Consultancy Services Limited - CEO, MD & Executive Director [46]

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Could you speak up a bit?

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Apurva Prasad, HDFC Securities Limited, Research Division - Research Analyst [47]

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Yes. Am I audible now?

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Rajesh Gopinathan, Tata Consultancy Services Limited - CEO, MD & Executive Director [48]

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Yes.

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Apurva Prasad, HDFC Securities Limited, Research Division - Research Analyst [49]

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Yes, Rajesh. So I was talking about the digital portfolio piece. So I'm trying to reconcile the fact that there seems to be more broad-based weakness there, which is what you mentioned, and if I reconcile this with the fact that we are participating or not a lot more with clients...

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Rajesh Gopinathan, Tata Consultancy Services Limited - CEO, MD & Executive Director [50]

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Yes. I think that was a mistake when -- I meant Retail when I said digital in the answer to the first question, I think. I don't -- digital is not a broad-based weakness. I said Retail is the broad-based. I said it wrong at that time.

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Apurva Prasad, HDFC Securities Limited, Research Division - Research Analyst [51]

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Sure. So on the deceleration of digital, which was clocking a much higher number, should we look at this number as more of a new normal and more in sync with some of the large peers at which they are operating?

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Rajesh Gopinathan, Tata Consultancy Services Limited - CEO, MD & Executive Director [52]

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I don't know. At least, you need 2 points to drive a trend.

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Operator [53]

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The next question is from the line of Vibhor Singhal from PhillipCapital.

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Vibhor Singhal, PhillipCapital (India) Pvt. Ltd., Research Division - VP & Lead Analyst of Infrastructure and IT Services [54]

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Sir, my question was on the manufacturing side. So in manufacturing, we've heard a lot of commentary from a couple of players and ISG as well about weakness in probably the European markets in -- especially in the auto markets. So are we seeing any trend on that? Because we seem to be doing really well in Europe over the past many quarters. So any kind of a impact that we are seeing either in terms of cost -- in terms of current numbers or maybe in terms of inquiry from clients, specifically from the manufacturing segment in Europe?

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Rajesh Gopinathan, Tata Consultancy Services Limited - CEO, MD & Executive Director [55]

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Europe manufacturing has been weak, but we have been participating differentially very, very strongly there. So if you look at the deal that we had announced in the first place or the work that we do for Piaggio, these are all very, very nonstandard and market-making kind of deals that we have done, and those relationships are going very strong and doing well. But European auto, Europe manufacturing in general continues to be weak. And earlier also, we have said that manufacturing strength in North America is strong and participation is also very good. And our recent announcement with General Motors is a further reaffirmation of our strength in that space and the trust that our customers are placing on us.

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Vibhor Singhal, PhillipCapital (India) Pvt. Ltd., Research Division - VP & Lead Analyst of Infrastructure and IT Services [56]

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So do you basically feel that this overall broad slowdown in European auto markets would catch up with us also at some point of time in the next few quarters and lead us to a slowdown in the European growth that we are reporting? Or do you believe we are well kind of placed and differentiated enough to be able to withstand that kind of a broad-based weakness?

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Rajesh Gopinathan, Tata Consultancy Services Limited - CEO, MD & Executive Director [57]

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We are not particularly overdependent on European manufacturing. So it will have some impact, but it's not a big dependency.

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Vibhor Singhal, PhillipCapital (India) Pvt. Ltd., Research Division - VP & Lead Analyst of Infrastructure and IT Services [58]

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Sure. Sir, lastly, my question on the margin front. We've been maintained that our aspirational range is, of course, 26% to 28%, but I think we're kind of far from it for the last multiple quarters. So do you actually see a possible road map for us to -- I know you mentioned about those long-term pyramid rationalization that you're looking at. So is that target still kind of valid in terms of where we are? Or do you believe there's probably a reset required for the target that we're looking at?

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Rajesh Gopinathan, Tata Consultancy Services Limited - CEO, MD & Executive Director [59]

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The target is still valid, but we will need some helpful wins from the currency side. So combination of execution and some helpful currency definitely can get us back. And remember, that it is just 4 quarters back that we were at 26.5%. So it is not -- it's not out of the range or nothing has significantly distinct. It is about staying focused. And before we got to 26.5%, there was still skepticism. Executed on it, growth trajectory was right. The economics of the currency side of it was right. All came together, we were in the band. Right now both of those are in the opposite direction. So we'll -- we believe structurally it is possible. And when we will get there, how we will get there, that we have to keep on tweaking as and where we are.

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Vibhor Singhal, PhillipCapital (India) Pvt. Ltd., Research Division - VP & Lead Analyst of Infrastructure and IT Services [60]

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Sure, sir. Lastly, sir, did we provide the margin band for this quarter as to -- margin bridge for this quarter as to how the margins fell in terms of the Y-on-Y impact?

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Rajesh Gopinathan, Tata Consultancy Services Limited - CEO, MD & Executive Director [61]

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The breakup.

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Vibhor Singhal, PhillipCapital (India) Pvt. Ltd., Research Division - VP & Lead Analyst of Infrastructure and IT Services [62]

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Yes, sir. The breakup of the...

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Rajesh Gopinathan, Tata Consultancy Services Limited - CEO, MD & Executive Director [63]

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See, there's not much of currency impact Q-on-Q per se. And for the full year, you can see it in the difference. It's about 8.5% of CC growth and 5.5% of dollar growth and INR growth. So you can work it out yourself. It's that same range.

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Vibhor Singhal, PhillipCapital (India) Pvt. Ltd., Research Division - VP & Lead Analyst of Infrastructure and IT Services [64]

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But on Q-on-Q, I believe, last quarter we would have the visa cost impact and everything. So in this quarter that was kind of undone by some exceptional in the SG&A? Or was it just because of lower growth that we were expecting?

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Rajesh Gopinathan, Tata Consultancy Services Limited - CEO, MD & Executive Director [65]

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That you see it on the employee cost per se.

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Vibhor Singhal, PhillipCapital (India) Pvt. Ltd., Research Division - VP & Lead Analyst of Infrastructure and IT Services [66]

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Yes, sir. Of course. Sure.

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Venkataraman Ramakrishnan, Tata Consultancy Services Limited - CFO [67]

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Ramki here. Of course, as mentioned -- as you mentioned that the lower growth is definitely one factor. The second is also that we've added people both last quarter and this quarter, significant addition, almost the -- among the highest in any previous quarters. And so those investments, the conversion is yet to happen. So that is reflected in the margins despite a lot of optimization in many of the other line items. So this reduced growth is clearly the factor.

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Operator [68]

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The next question is from the line of Girish Pai from Nirmal Bang.

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Girish Pai, Nirmal Bang Securities Pvt. Ltd., Research Division - Head of Research [69]

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I just had a couple of questions on the margin front. In response to your question at the press conference, you mentioned that you would make some practical adjustments to push up margins in the second half, while you did mention about the structural changes you're making. What exactly do you mean by practical adjustments? Could you -- where do you have these levers?

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Rajesh Gopinathan, Tata Consultancy Services Limited - CEO, MD & Executive Director [70]

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I was saying that -- primarily on the hiring part of it that we have hired with a certain assumption, and we will see whether we can tweak our hiring to bring our utilization closer back in line. Those are the kind of tactical changes that we were referring to.

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Girish Pai, Nirmal Bang Securities Pvt. Ltd., Research Division - Head of Research [71]

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Okay. One other question on the margin front. I recall that last quarter, you didn't pay out the full variable part, I think, to some senior employees. Have they been paid out in this quarter? Or has it been pushed back into second half?

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Rajesh Gopinathan, Tata Consultancy Services Limited - CEO, MD & Executive Director [72]

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This quarter, we have done full variable payout.

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Girish Pai, Nirmal Bang Securities Pvt. Ltd., Research Division - Head of Research [73]

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Okay. Just one last question. Rajesh, you keep mentioning about this word participation. Are we referring to win rate here? Or are you saying that the addressing of the opportunity? What exactly do we need a participation?

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Rajesh Gopinathan, Tata Consultancy Services Limited - CEO, MD & Executive Director [74]

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Call it out, I talked about actually win rate because participation is no use. But on a more serious basis, the first step is being there in the competitive set and making sure that both we see -- we have deal visibility and deal participation. Second, from there comes the actual conversion and the win. I don't necessarily differentiate between the 2. For me, both are critical.

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Girish Pai, Nirmal Bang Securities Pvt. Ltd., Research Division - Head of Research [75]

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So can you quantify what participation rate currently vis-à-vis, say, a year back or 2 years back? And what have you done internally to improve that?

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Rajesh Gopinathan, Tata Consultancy Services Limited - CEO, MD & Executive Director [76]

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We can't quantify it, but qualitatively, we've been sharing a lot of color on that. We've spoken out in length about our digital capabilities about the Business 4.0 framework, about our cross CXO coverage and our ability to address diverse stakeholder suite and also our unique capability to stitch together transformation leads, which are incumbent upon the full service portfolio that we have as well as the domain capability that we have. So all of these aspects increase the coverage universe that we have and differentiated positioning that we have.

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Operator [77]

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The next question is from the line of Manik Taneja from Emkay Global.

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Manik Taneja, Emkay Global Financial Services Ltd., Research Division - Research Analyst [78]

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Rajesh, you mentioned that the visibility on H2 is not as great to certainly expect an uptake. But do you also see any possibility of extended furloughs in second half? And then I had another one on Europe. So your performance and commentary on Europe potentially has generally been positive through the last several quarters, while when you've been speaking of financial services from a recent performance perspective, you've spoken of some pressure with your European client base there. So could you just elaborate as to what verticals or what segments are you seeing growth in Europe?

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Rajesh Gopinathan, Tata Consultancy Services Limited - CEO, MD & Executive Director [79]

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Europe is not -- I don't think there's much of a vertical color beyond what we've already spoken about, banking and manufacturing and retail that we spoke about. Beyond that I don't think there's anything incremental to add. And Q3, I think -- typical trends of Q3, I don't see any respite from that. Whether it will be more than that, we'll have to wait and see, but typical Q3 fluctuations should be there.

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Operator [80]

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The next question is from the line of Ashwin Mehta from IDFC Securities.

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Ashwin Mehta, IDFC Securities Limited, Research Division - Director [81]

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I had one question in terms of your segmental margin. So if I look at your Retail, CPG or Others segmental margins, they seem to have gone down by more than 300 bps Y-o-Y, so is this sluggishness in Retail also coming with pricing pressure? Or is it just a mix issue that some of the digital engagements getting pushed out means the portfolio is kind of more skewed towards the legacy which is driving these margin declines?

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Rajesh Gopinathan, Tata Consultancy Services Limited - CEO, MD & Executive Director [82]

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Period-to-period functional volatility always exists, but nothing beyond that to talk about. Retail structurally has been under pressure, and you're seeing that reflected across both the revenue as well as the margin side.

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Ashwin Mehta, IDFC Securities Limited, Research Division - Director [83]

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Okay. Okay. And just one follow-up. In terms of -- in the cost of revenue line, the other costs have been rationalized by almost 40 bps this quarter. So just wanted to get a sense in terms of what are these costs and is it kind of sustainable going forward?

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Rajesh Gopinathan, Tata Consultancy Services Limited - CEO, MD & Executive Director [84]

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You need to look at that together around both cost and SG&A side. And when you put it together, there's not that much of a variation. It's lower on the cost side, but higher on the SG&A side. Many of them -- some of them reflect our consumer summit kind of events that I spoke about, which are annual events that happen and others can be -- so they are one-off in nature, that's why they are called others, but club the 2 together, it is better to consolidate as a single-line item than the accounting way of looking at it.

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Operator [85]

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Ladies and gentlemen, this was the last question for today. I now hand the conference over to the management for the closing comments. Over to you, sir.

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Rajesh Gopinathan, Tata Consultancy Services Limited - CEO, MD & Executive Director [86]

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Yes. Thank you, operator. And to sum up, despite continued volatility in the financial services and retail verticals, we had a steady growth of 8.4% with continued strength in U.K. and Europe. And importantly, while customers in affected pockets may be cutting spends, the structural aspects of demand for our services remains very strong and overall industry spending trends also remains robust.

Our order book in Q2 was $6.4 billion, the highest in the last 6 quarters, rather PCV in Q2 was $6.4 billion. And in North America and BFSI accounted for $3.4 billion and $2.2 billion, respectively.

So strong order closure and deal pipeline is an indicator of our growing traction within our consumer innovation strength. Our investments in research and innovation and our large portfolio of intellectual property is positioning us well to help customers scale up their innovation efforts.

We had the highest-ever net hiring in Q2, and our employee retention continues to be the best in industry. We have been gearing up for growth, and our operating margin reflects our continued investment in people and head count addition. Our Q2 margins reflect that, and we'll now want to focus on optimization with some help from currency and get back to a better level that we've been speaking about. So thank you all for joining us on this call today, and have a great evening ahead.

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Operator [87]

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Thank you, members of the management. Ladies and gentlemen, on behalf of TCS, that concludes this conference call. Thank you for joining us, and you may now disconnect your lines.