Infosys: Soothing numbers

Infosys lifts spirits of an otherwise sombre Street

Infosys delighted the Street with its June quarter numbers, lifting the spirits of investors who were otherwise expecting a nervous market in the aftermath of Mumbai's bomb blasts just a day before.

The results were well above expectations except perhaps on the margin front, where higher salaries and visa costs resulted in operating profit margin falling below 30 per cent to 29.48 per cent after several quarters.

But it was the revised guidance for the year""-it now hopes to grow its revenues by 40 per cent in FY07 to Rs 13,350-13,400 crore, on the base of Rs 9521 crore achieved in FY06""- that pushed the stock up a strong 7.5 per cent in Wednesday's trading.

The numbers build in some depreciation of the rupee, so the operational upgrade is not as big as is being perceived but an increase of even 3 to 4 per cent is good.

The revised targets do not factor in any large deals (over $50 million). Infosys should get its fair share of big contracts especially because a large number of contracts are due for renewal.

The guidance for the second quarter too was strong with revenues tipped to grow at Rs 3257-3280 crore, while the targeted EPS is between Rs 29.47 and Rs 29.78.

In the June 2006 quarter, top line growth at Rs 3,015 crore, was up nearly 15 per cent q-o-q, most of it coming from increased volumes. And that is a most encouraging trend.

The management says it is able to negotiate better billing rates of 3-4 per cent, for new clients as also while renegotiating contracts.

The outlook for business appears to be fairly good and even if there is a slowdown in the US and the overall spend on technology reduces, the management believes, offshoring will continue because companies will be under pressure to cut costs.

Higher salaries and visa costs ate into the margins for Q1 FY07.

Besides, the on-site component went up by 120 basis points to 50.5 per cent. However, rupee depreciation by about 3.6 per cent during the quarter and better pricing helped ease the pressure.

Though wage inflation will remain a problem-attrition in the quarter went up by 70 basis points to 11.9 per cent-Infosys should be able to manage its planned ramp-up.

Operating margins should remain stable in the current year, even as Infosys continues to invest in its newer businesses such as consulting and in its subsidiaries in Australia and China.

In fact, margins could even rebound to around 31 per cent if pricing environment remains stable. At Rs 3,386, the stock trades at around 27 times estimated FY07 earnings and around 21 times FY08 earnings.

Given that the company has been able to mine its existing clients better-it now has two clients billing $100 million plus""and also able to add clients, growth should not be an issue.

The stock has been a bit of an underperformer in the last couple of months, but a re-rating is now inevitable.

iGATE Global: Top line surge

If Infosys had a bumper quarter in June 2006, for iGATE Global Solutions, it was a mixed bag.

At the operating level, IGS's chequered performance continues. Consolidated operating profit declined 20 per cent q-o-q to Rs 12.89 crore and operating profit margin fell 250 basis points to 7.1 per cent in Q1 FY07.

Even in the March 2006 quarter, operating profit had fallen by 230 basis points q-o-q to 9.63 per cent. As a result, the stock declined 6.9 per cent to Rs 182 on Wednesday.

Overruns in some projects and salary hike "" 13 per cent in offshore wages and 2.5 per cent increase in onsite wages -led to the erosion in IGS's Q1 FY07 margins.

Besides, margins were also affected as some new projects were started in Q1. New projects typically have a higher component of onsite work which reduce margins. Also, some provisions and a payment of property tax reduced operating profit.

The positive side of IGS's results is a healthy 8.5 per cent top line growth, which is good even after removing a 2 per cent benefit owing to rupee depreciation.

This is one of the strongest growth for the company in the past few years, and the management continues to maintain that the order flow and visibility are strong for FY07.

Billing rates remained more or less stable, and the management indicated that there is little pressure to reduce prices.

Many of its top customers were acquired in the last few quarters, indicating that its iTOPS (integrated technology and operations) based strategy is working well. Going forward, the management's challenge is to translate the top line growth into better margins.