India shining on global exchanges

Investors are seeing more value in Indian IT-ITES companies. Why is it so?

Indian IT-ITES companies are currently pipping their global counterparts to the post in market capitalisation. Infosys Technologies ranks number one with TCS coming second and Wipro taking the third place.

Accenture ranks fourth, followed by Electronic Data Systems (EDS). Cognizant Solutions ranks sixth, Amdocs, seventh, Computer Sciences, eight and Cap Gemini is ranked ninth. Satyam Computer occupies the 10th position.

The four Indian software majors, with a combined annual revenue of $10.57 billion, aggregated a market capitalisation of $73.44 billion. They are among the world's top 10 software companies by market capitalisation.

Compared to this, five US-based software companies and Cap Gemini together have a market capitalisation of $65.01 billion as against their combined annual revenue of $66.98 billion.

Why do investors see more value in Indian software companies? For one, Indian firms are growing faster than their global peers in terms of net earnings.

The revenue and net earnings of all four frontline Indian software firms have more than doubled over the last three years while global software companies are registering an annual growth of around five to six per cent.

Morgan Stanley research reports on the global software valuations show a revenue growth rate of around 35 per cent for the Indian software firms while global peers are likely to grow at the rate of around six per cent over the next two years.

The estimates for net earnings for Indian companies is pegged around 25-30 per cent while global IT majors would witness an estimated earnings growth rate of around 15-20 per cent.

Infosys' net earnings are estimated to grow at two years compound annual growth rate of (CAGR) of 33 per cent while TCS earnings is expected to grow at 31 per cent. Wipro and Satyam Computers earnings growth rate of 26 per cent each will be ahead of Accenture (11 per cent), Amdocs (15 per cent) and Computer Sciences (17 per cent) in earnings growth in next two years. Cap Gemini, EDS and Cognizant Solutions which have low earnings base would outperform their peer with earnings CAGR of over 50 per cent.

Infosys' guidance for fiscal 2007indicates a revenue growth rate of 25.2- 27.3 per cent over fiscal 2006 and its EPS is expected grow at 21.4-23.4 per cent. Satyam Computer expects a revenue growth rate of around 29.2-31.2 per cent while its EPS is expected to grow by 27.5- 29.5 per cent. Wipro and TCS have not provided their guidance for fiscal 2007.

Among US software firms, Accenture has predicted its fiscal 2007 revenue growth rate at 9-12 per cent and its EPS to grow by 11.3-11.5 per cent. Amdocs expects its fiscal 2007 revenue growth of 16.5-20.5 per cent and EPS growth of 27.2-33.3 per cent.

Cognizant Solutions' revenue for the year ended December 2006 is expected to grow 55.2 per cent and EPS, 38 per cent. EDS revenue for year ended December 2006 expected to be up by 4.2 per cent and EPS by 45 per cent.

But will a potential US slowdown impact the earnings and value of the Indian IT services sector? J M Morgan Stanley analysts see no such indicators. They reason that new customer-wins are strong, existing customers are ramping up, and management teams appear to have high visibility.

However, what if the US slows significantly going forward? Analysts opine that this sector can be resilient to an extent, but there will be an impact nevertheless.

The larger scale of the companies, a more diverse revenue base, and widespread acceptance of offshore outsourcing now may be mitigating factors relative to the 2001 slowdown.

Earnings growth expectations are less lofty and valuations relative to the Sensex are lower than those at the time of the 2001 slowdown. Analysts say if there were to be a significant slowdown on the other hand, the stocks may decline in absolute terms, but relative performance may not be at significant risk.