Satyam: Big is bountiful

Large deals likely to help Satyam offset margin pressure through robust business growth

Domestic software majors have been targeting large outsourcing deals over the past few quarters. TCS, Infosys, Wipro and Satyam have bagged big-ticket deals in the recent past from global majors such as ABN Amro, General Motors and Nissan.

On Thursday, another large deal from Qantas was won jointly by TCS ($90 million) and Satyam ($71 million), which is to be executed over seven years.

The Satyam management said this deal would be evenly spread over the period, so Qantas, which is a new client, would bring $10 million a year. At the end of Q2 FY07, the company had 32 clients with annualised billing of over $10 million.

In the quarter, Satyam's consolidated top line grew 11 per cent q-o-q, ahead of its guidance. However, its operating profit margin declined 240 basis points q-o-q to 23.24 per cent as employee costs rose 18.91 per cent owing to a wage hike.

The top line growth was driven mainly by 9.5 per cent increase in volume, while the rise in billing rate was marginal. Satyam has indicated that it will be able to effect 3-5 per cent rise in billing rates when contracts come up for re-negotiations, while new contracts are being billed at higher rates.

Satyam had high attrition rates in the past, but in Q2, there was some respite as attrition fell to 18.27 per cent from 19.62 per cent in the June 2006 quarter, as the company improved compensation.

Satyam has already revised its guidance upwards in the first two quarters. Margins are expected to remain under pressure, but the business growth will compensate. It has also raised its headcount by adding over 4,000 employees in Q2, taking the total to 31,659.

Satyam expects revenues to grow about 35 per cent and EPS 36 per cent this financial year. It should benefit from higher billing rates in FY08.

The Satyam stock has been an under-performer over the past two months, gaining just 7 per cent, while Infosys is up 19 per cent. At its current price, the scrip trades at a reasonable 21 times estimated FY07 earnings and about 17 times estimated FY08 earnings.

IDFC: Big gains

Companies in the financial sector are joining forces to provide larger loans, and also gain from each partner's respective expertise. On Wednesday, IDFC, Bank of India (BoI) and Union Bank of India announced a three-way alliance to finance infrastructure projects.

In September, Oriental Bank of Commerce, Corporation Bank and Indian Bank had announced their plans to combine forces in more areas besides lending.

IDFC seems likely to benefit more from this alliance as its loan book could see higher growth than the other two banks, which anyway have a large advances portfolio.

But BoI and Union Bank will also benefit from IDFC's expertise in infrastructure projects. While the stocks of the former two banks declined marginally, the IDFC stock went up 4.8 per cent on Thursday.

The IDFC-BoI-Union Bank combine targets loans of Rs 11,500 crore by the end of FY07, which will go up to Rs 45,000 crore next year.

As specialised infrastructure lender IDFC's loan book will grow "� higher volumes are likely to improve its profitability, even if its net interest margin declines marginally. As a consortium, the three lenders can provide larger loans, which may not be possible for IDFC to do all alone.

Though the exact break-up of business among the three players is not clear, IDFC's loan book could grow faster than the analysts' earlier estimate of 35-40 per cent growth for FY07. IDFC can raise both equity and debt if required to grow its business.

IDFC will be one of the major beneficiaries of the ongoing infrastructure boom in the country. The stock trades at 3 times and 2.6 times estimated book value for FY07 and FY08 respectively, without considering the impact of this alliance.

GAIL: Subsidy burden

GAIL's performance in the September 2006 quarter has been adversely affected by a rising subsidy burden, coupled with a reduction in the volume of natural gas transmission owing to floods in western India during August.

As a result, the company's operating profit plunged 36.9 per cent y-o-y to Rs 589.1 crore in Q2 FY07, compared with 7 per cent growth in its income (including internal consumption) to Rs 4358.3 crore. Operating profit margin of the company also fell 940 basis points y-o-y to 13.5 per cent last quarter.

Meanwhile, in its natural gas division, gas transmission declined 8.7 per cent y-o-y to 70.1 msmd in Q2 FY07 because of floods. As a result, segment profit of the natural gas business slumped 35.4 per cent y-o-y to Rs 329.48 crore in Q2.

Also, in its LPG and liquid hydrocarbons division, the segment loss was at Rs 54.5 crore in the September quarter against a segment profit of Rs 128.18 crore a year earlier.

This was mainly owing to its subsidy sharing burden for oil marketing companies surging 152.1 per cent y-o-y to Rs 421 crore in the quarter.

However, GAIL was able to partially offset the pressure on margins, with a rise of 24 per cent y-o-y in polymer prices in its petrochemicals division. The uncertainty regarding the subsidy burden has resulted in the GAIL stock trading at just 9 times its estimated FY07 earnings.

With contributions from Priya Kansara and Amriteshwar Mathur