TDCX - TDCX: Rating Downgrade As I Expect Stock To Be Rangebound In The Near Term

2023-08-31 12:11:25 ET

Summary

• 2Q23 revenue grew by 5.5%, impacted by weak geographical expansion and higher agent headcount, leading to decreased EBITDA margins.
• TDCX's reduced FY23 revenue guidance, sales challenges in services like Omnichannel CX and digital marketing, delayed deals, and digital advertising pressure contribute to a cautious view.
• Changed rating from buy to hold for TDCX due to expected near-term rangebound stock performance, awaiting recovery in demand from major digital advertising clients.

Summary

TDCX ( TDCX ) offers a variety of digital services for improving customer satisfaction, such as content moderation, sales and digital marketing, and omnichannel CX solutions. TDCX also provides individualized digital customer experience solutions for managing intricate customer interactions. Readers may find my previous coverage via this link. My previous rating was a buy as I believed TDCX earnings growth would accelerate in the coming quarters and the business would ride the economic recovery wave in the coming years. I am revising my rating from buy to hold, as I expect TDCX's stock price to be rangebound in the near term until its results show that demand from its largest digital advertising clients is recovering.

Financials/Valuation

2Q23 results saw revenue grew 5.5% to USD$126.2 million, which could have been better at 11% if adjusted for FX. Weak geographical and service expansion and higher agent headcount impacted EBITDA margins, driving them down by 350 basis points compared to last year. However, core net profit saw USD$18 million, representing flattish growth compared to last year.

Previously, I did a long-term DCF model (in USD) to showcase the long-term upside potential, which I believe is still the case. However, the market seems to be focusing on the near term, which is the weak demand from TDCX's large digital advertising clients impacting growth. Based on my view of the business, TDCX is likely going to have a tough time in the near term. I expect growth to be in line with FY23 guidance given management's high visibility, and growth to be slower than FY22's rate in FY24 as businesses continue to stay cautious. To be conservative, I don’t expect margins to expand, and multiples will stay at this current level. With these assumptions, TDCX appears to be fairly valued in the near term.

Comments

TDCX reported relatively strong top-line performance on a constant currency basis in the quarter, but the company drastically reduced its FY23 revenue guidance to 2-4% annual constant from 3-8%. Seeing as how management had maintained that guide in the prior quarter, this is not what I had anticipated. Looking more closely at this quarter's results, I believe it is inevitable that I will have to lower my buy rating as more warning signs emerge. Consider Omnichannel CX solutions: while sales were up 8%, demand from digital ad agencies and media companies, as well as financial technology companies, remained as headwinds. Similarly, while sales of sales and digital marketing services were up 16% and good results were reported by key clients in 1H23, management noted that this has not yet translated into rapid growth for TDCX. Additionally, management remains silent on an estimated turnaround time. The final category to see a decline in revenue was Content, Trust, and Safety services, down 19% due to lower volumes from digital advertising space. It appears that digital advertising, an industry closely tied to the health of the economy, continues to show signs of weakness. As businesses are likely to be cautious until they see more signs that things are turning around, I believe that the growth of the TDCX recovery will lag behind the recovery of the economy. My thoughts are also in line with management as they commented that clients are delaying project implementations, and they continue to see pressure from the digital advertising sector

So, there is a few reasons behind this. The first one is, the deals we were hoping to close got delayed. So really the velocity of deals have been slower than anticipated.

We still have pressure from the digital advertising sector, which was not doing terribly well in the first half, but it's not going to do better in the second half. Source: 2Q23 earnings

Despite my cautious outlook in the near term—hence the downgrade to hold—I continue to have faith in TDCX's long-term prospects thanks to the company's significant exposure to rapidly expanding new-economy customers. In addition, management is confident in its competitive advantage in providing complex services as a hedge against the general AI trend.

Conclusion

I revised my previous buy rating to a hold as I expect the stock price to be rangebound for a while, waiting for recovery in demand from major digital advertising clients. TDCX reduced its FY23 revenue guidance, prompting caution. Sales of services like Omnichannel CX, digital marketing, and content saw challenges from sectors like digital advertising and finance. Management also noted delayed deals and digital advertising pressure.

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