Mid-caps outperform IT majors in profits, revenues

IT RESULTS: The real growth drivers during the quarter-ended September 2006 were second-tier software companies.

While the top four IT companies recorded a revenue and profit growth of 46-50 per cent, second-tier software firms outperformed them with an 88.6 per cent rise in net profit and a 50 per cent growth in revenue.

The second-tier software firms did better in the second quarter compared to first quarter while the top four had done marginally better in the first quarter than in the second quarter. The year-on-year (YoY) revenue of second-tier firms grew 49.4 per cent in second quarter compared to 34.34 per cent in the first quarter. The net profit rose 88.8 per cent compared to 54.28 per cent in the first quarter.

Operating margins for second-tier software firms were higher by 288 basis points YoY and 300 basis points quarter-on-quarter (Q/Q) at 20.87 per cent. The operating margins for the top four IT majors were lower by 59 basis points YoY and 39 basis points Q/Q at 27.73 per cent.

Second-tier software firms are doing well due to increased business from top clients and a good product mix. For instance, Tech Mahindra which posted a YoY growth of 282.6 per cent in net profit and 182.6 per cent in revenue says its top clients' contribution to revenue increased from 58 per cent to 64.

The Q/Q net profit of Tech Mahindra rose 34.25 per cent and revenue by 18.84 per cent. The operating margins were higher by 400 basis points year on year and 200 basis points Q/Q at 24.55 per cent.

HCL Technologies which reported a 50.24 per cent growth in YoY profit said there was no pressure on billing rates. The margins in infrastructure services were 17.6 per cent as against 17.4 per cent in the sequential quarter. For BPO services, the focus is on Indian operations to better margins.

Patni Computer Systems attributes its 137 per cent rise in YoY profits on sales growth of 35.6 per cent to new client acquisitions and efficient management of cost structure. i-flex Solutions reported a consolidated operating revenue growth of 43 per cent, aided by 48 per cent growth in the product business and 35 per cent growth in the IT services business. Its operating margins improved by 690 basis points to 22 per cent on the back of reduced cost of revenues and SG&A expenses as a percentage of sales.

However, growth in the current quarter (Q3) could be subdued. First, there are fewer number of working days in the third quarter ending December 2006, in case of both offshore and onsite work forces, due to the festive season. This could have a negative impact of 250-300 basis points on the volume growth on a sequential basis. Besides, the rupee has also appreciated considerably over the last one month and is likely to negatively affect the growth in the revenues instead of aiding the growth as witnessed in the past two quarters.