Riding out the notional

SMARTSHARE

One can only ascribe the initial reaction to Infosys' quarterly results as baffling. The company delivered numbers, which comfortably met its own guidances.

Its revenue growth was satisfactory at more than 7 per cent in terms of quarter-on-quarter. The profitability was good at around 7.5 per cent quarter-on-quarter.

In terms of the corresponding Q3 2003-04, the results were magnificent, with both revenues and net rising by approximately 50 per cent.

The forex-management was absolutely superb. In a period when the dollar dipped over 4 per cent versus the rupee, Infy managed to offset around three-fourth of the adverse impact on its bottomline by a combination of smart hedges and dollar expensing.

Despite the adverse forex movements, Infosys recorded a higher operating margin. And, if all goes as expected, it should record over 50 per cent growth in volumes and net profits in the full-year and that's no mean feat for a billion-dollar company.

Where is the rub? Infosys pared down its rupee-denominated guidance for the full-year by around Rs 50 crore on expected revenues of

Rs 7,000 crore-plus, which is a 45 per cent growth rate. It expects to reach or exceed its dollar-denominated revenue expectations, which have been revised upwards and it should also meet its profitability targets for the fiscal.

That little detail of rupee-denominated guidance being lowered by about 0.5 per cent is caused entirely by the currency twitch. Despite the qualifiers, it was magnified into a major disaster by market players. Some people simply saw the ticker saying "guidance revised downwards" and went into an orgy of selling. That crucified the speculative long-Infy players who cut their losses with a cascade of selling.

It was unfortunate that the market was in bearish mode anyway. Many bullish investors also decided to sell into the dip in the hopes of re-acquiring the stock at lower levels.

Others simply stayed out until the market settled. So the stock didn't find much support and dropped 3.3 per cent on Wednesday.

In operational terms, the company has clear strategies in place. It intends to keep expanding its consultancy arm, which has enough clout to charge perhaps three times as much per hour as most software service firms.

It is also pushing for an expansion of its Chinese subsidiary. In order to control the forex risk, Infosys will continue to take defensive hedges.

This should be more than enough to maintain Infy's status as top-dog in the sector. However there is a kernel of logic behind the market's blind panic. If the dollar does free-fall in 2005, Infosys will find it difficult to maintain both margins and volume-growth.

As the CFO explained, a drop from an average Q2 quarterly rate of Rs 45.91 to Rs 44.35 per dollar in Q3 meant a "notional" erosion of Rs 68 crore in Q3 rupee-denominated profits. Next quarter, a further drop to

Rs 43.27 is expected. That would mean a further notional erosion of Rs 119 crore in Q4. If the dollar continues this slide, at some point, the erosion will cease to be notional.