Infosys is declaring its results for 3QFY02 on January 10 and you can be sure that the markets will watch very keenly. But more importantly, the management’s outlook will be the key driver for sentiment towards the technology sector going forward. The technology stocks have run up in the past few months on hopes of a turnaround. However, the markets have run on very early signs and are now waiting for an affirmation. Infosys’ numbers could provide them with that.
Infosys had given a very conservative guidance in the range of –1.6% to 0.9% sequential growth in revenues for 3QFY02. The bottomline growth has been forecasted by the company to be in the range of –5% to 1.6%. This translates to a YoY growth of 22% in topline and the growth in net profits is 23% (including a write off of Rs 131 m in 3QFY02). However, there is a strong possibility that the company, as it often does, will beat its own earnings guidance. In an optimistic case, we expect the topline to grow by 4% and the net profit figure to jump by 4.6% sequentially.
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The key number to watch would be the movement of the operating margins. Billing rates are under pressure due to weak market conditions. In 2QFY02, the company had managed a 5.2% growth of which 2.6% came from volume growth and 2.6% came from realisation improvement. The growth in 3QFY02 is likely to be led by growth in volumes and we expect the billing rates to remain flat.
During the quarter, Infosys bagged projects from verticals like BFSI and manufacturing. But the most notable was the project that gave Infy an entry into the healthcare sector. The health care sector has one of the lowest penetrations of information technology and consequently, has very strong growth potential. An early move into the vertical would give Infy a start ahead of others. The National Health Services (NHS) UK has employed Infosys on a consulting assignment to enable its general practitioners and hospitals to access patient records electronically through a pioneering initiative called ERDIP (Electronic Record Data Implementation Programme). Infosys will provide services like technical coordination, data migration, system integration and system design. Other project wins included a contract from Sun America, a financial services company, to transform the company’s legacy Policy Administration System to a new web-based thin client J2EE compliant architecture.
Finacle, Infosys’s banking product, saw new clients being added. The list included Cosmos Cooperative Bank. The contribution of product sales to revenues is very small (about 2%). In the future the company can offset declining margins in the services business (when it happens) by focusing on product sales.
An alliance with TIBCO to provide system integration services for TIBCO's entire product line has broadened Infy’s service offerings. The alliance also involves the development and support of essential enterprise application integration adapters. As part of this alliance, Infosys will establish an EAI competency center dedicated to building and supporting up to 100 application adapters. These adapters are necessary for the complete total business integration of legacy, ERP, CRM, and database systems including SAP, Siebel, PeopleSoft and Oracle. This alliance could significantly contribute to Infy’s topline as package implementation and EAI services are witnessing a strong growth in demand and many times go hand in hand.
At the current market price of Rs 4,707 the stock is trading at a P/E multiple of 38x its FY02 estimated earning. Base on our profit growth assumptions the stock is trading at a PEG multiple of 0.9x. Therefore, the stock could continue to see some upside. Also, the results will have a significant impact on the company’s valuations as the company might increase its earnings guidance.
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During the quarter Infosys also got acclaims for its quality of services provided. Infosys was originally chosen from a group of three vendors Van Dorn Demag to simply convert paper drawings to Pro/engineer models. Upon successful completion of that project, Van Dorn Demag gave Infosys the opportunity to design a vertical injection-molding machine, a crucial design venture that Infosys finished on schedule. Van Dorn Demag subsequently recognized the value that its new technology partner added, and moved to include Infosys in all of its design and development projects. This is a classic example of how the company has managed to succeed by moving up the value chain.
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