MphasiS BFL: Optimistic guidance

Low December base has come in handy for MphasiS

MphasiS BFL reported a 6.9 per cent sequential growth in revenues and an 18 per cent jump in operating profit last quarter, much better than the 24 per cent drop in operating profit reported in the previous quarter.

Much of the increase in operating profit was on account of the low base in December, and the operating margin of 12.9 per cent reported in the March quarter was, in fact, lower than the margin for the entire year.

The BPO business, which has been driving the company's growth, reported a marginal drop in revenues sequentially. While one client delayed a ramp up in business, another cut down its business with Mphasis. This resulted in a massive 400 basis points fall in gross margins of the BPO division.

Interestingly, the IT services division (which has been languishing lately) made up. Revenues of this division rose 11.5 per cent sequentially, part of which is attributed to revenues of two companies Mphasis acquired last quarter.

Excluding this, the growth would be in single digits. Operating margin of the IT services business rose 170 basis points. For the whole year, Mphasis's revenues grew 31.9 per cent, but profit before tax grew by just 7.1 per cent, because of a drop in margins and forex losses.

The highlight of the company's results announcement was the guidance of a 25 per cent growth in revenues and a 30 per cent growth in earnings for FY06. Post-tax earnings in FY05 were boosted because of tax credits worth Rs 15 crore.

Similar credits have not been factored in for FY06, which means that pre-tax earnings would have to grow by around 50 per cent for the guidance to be achieved.

The company expects savings on SG&A expenses this fiscal, but earnings growth expectations of around 50 per cent seems rather optimistic.

The markets, however, lapped up the guidance and the company's 1:1 bonus announcement, resulting in a 7.5 per cent gain for the stock. Mphasis trades at around 12 times estimated FY06 earnings, at the lower end of the valuation band for mid-cap IT companies.

Industrial production decelerates

The Index of Industrial Production's 4.9 per cent increase for February is the lowest rate of growth notched up in FY 05.

The monthly growth rates are as follows: April"" 8.9 per cent; May""-6.8 per cent, June""-7.3 per cent, July""8.5 per cent, August""-8.6 per cent, September""-9.8 per cent, October""-10.6 per cent, November""-8.1 per cent, December""-7.5 per cent and February 4.9 per cent. Notice that the February growth rate is well below the average.

Earlier, the infrastructure index had shown a decline of 0.6 per cent in February, warning of the deceleration in the broader industrial index. The mining and electricity sectors have dragged down the index by posting negative growth rates, but even manufacturing growth has been affected, falling to 6.2 per cent from 9.3 per cent in January.

The February data for telecoms and autos had also shown a slowdown. Coupled with the poor showing in the infrastructure sector, growth has been hit during the month.

The data suggests that January's manufacturing growth was a blip, and that infrastructural and capacity constraints, together with the base effect, are catching up.

The long-awaited push to industry by the growth of investment demand also doesn't seem to be strong enough to impact the overall industrial production numbers.

The markets' expectations

Now that the earnings season is here again, which sectors are expected to show strong Q4 results and which ones could disappoint ? One way of answering that question is to look at the stock market.

Theory says that the market should discount the earnings in the run-up to the quarterly results. So which sectors does the market think will do well?

Which sectors does it think will disappoint? To answer that question, we looked at stock prices on April 11 and a month earlier, vis-a-vis the Sensex, and check whether they underperformed or outperformed the Sensex.

A look at the adjoining table shows that the bourses expect relatively lacklustre March quarterly numbers from a number of sectors "" automobile, auto ancilliaries, banking, pharma and power stocks.

But then, specific factors that affect individual stocks often offset the broad sectoral trend. For instance, sentiment for ICICI Bank has been helped by its recent ADS issue.

The auto and auto-ancillary sector have seen waning investor interest due to higher input prices. However, Bajaj Auto has managed to buck this trend as its sales growth has outperformed the industry average.

Surprisingly, PSU oil stocks have fared better than expected. Oil marketing companies have been facing mounting subsidy losses""-as a result, the BPCL scrip has languished. But the IOC stock has bucked the trend due to expectations of an improved performance from its petrochemicals division.

Of course, higher crude prices have helped ONGC outperform. As a matter of fact, ONGC's performance has been crucial in propping up the Sensex.

Meanwhile, the pharma sector continues to be a bitter pill for investors due to sluggish domestic sales and pricing pressures in the key US generic market. However, Dr Reddy's recent strategy to lower R&D costs via its agreement with ICICI Venture has helped it to outperform.

The market has been broadly neutral to the IT sector. Recent strength in the dollar has helped to minimise earlier worries relating to net realisations for Indian IT companies. Telecom stock like Bharti have, however, been weak. Slower growth in subscription numbers could be the reason.

Amidst the weakness in the broader market, defensive sectors like textile, fertilisers and hotels have outperformed. Signs of an improved operating environment for these sectors going forward, has helped ensure strong investor interest.

With contributions from Mobis Philipose and Amriteshwar Mathur