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Satyam: Betters guidance and expectations

Jan 21, 2002

Satyam has posted a sequential decline in net profits of 11% for 3QFY02. This is significantly lower compared to the company’s guidance of a 20% drop. On a YoY basis, Satyam’s net profits have risen by 36%. The topline has shown a healthy 2% sequential growth. This too is above the company’s guidance of about a 1% rise. On a YoY basis, the revenues have grown by 33%. As expected the margins have declined by 120 basis points sequentially. This is due to the intense pricing pressure the sector has been facing. Others like Wipro and Infosys have managed to maintain margins by cutting corners.

(Rs m)2QFY023QFY02Change
Sales 4,266 4,358 2.1%
Other Income 269 102 -61.9%
Expenditure 2,794 2,908 4.1%
Operating Profit (EBDIT) 1,472 1,450 -1.5%
Operating Profit Margin (%)34.5%33.3% 
Interest 7 5 -35.4%
Depreciation 293 306 4.6%
Profit before Tax 1,441 1,241 -13.9%
Tax 100 47-53.0%
Profit after Tax/(Loss) 1,341 1,194 -10.9%
Net profit margin (%)31.4%27.4% 
Diluted number of shares 314.5 314.5 
Diluted Earnings per share* 17.1 15.2  
P/E (x)   18.0  
*(annualised)   

As the results are above expectations the stock price is likely to see marginal improvement in valuations, as lot of positives have already been factored in the price. At the current market price of Rs 274, the stock is trading at a P/E multiple of 18x its 3QFY02 annualised earnings.

For 3QFY02, the consolidated results as per US GAAP indicate a net income of US$ 44 m (Rs 2,099 m) as compared to a loss of US$ 38 m (Rs 1,807 m) in 2QFY02. The loss in 2QFY02 was due to the write off in investments by Sify. Excluding the impact of the write off on Satyam’s financials, the company would have posted a net income figure of US$ 6 m (Rs 302 m). The net income figure of US$ 44 m for 3QFY02, according to US GAAP, includes a one-time gain on sale of stake in Sify (to Govt. of Singapore Investment Corporation in June 2000) and charge against put options for TRW. If these effects are excluded the net profit figure works out to be US$ 19 m (Rs 893 m).

RECONCILIATION BETWEEN INDIAN GAAP AND US GAAP
(Rs m)2QFY023QFY02Change
Net profit as per Indian GAAP 1,359 1,194 -12.1%
Deferred Stock Compensation charges (119) (148)24.3%
Amortization of Goodwill (52) (51)-1.4%
Loss of Subsidiaries & Joint Venture (3,056) (290)-90.5%
Gain on sale of stake in Sify - 1,687  
Charge off for put options in TRW - (279) 
Other accounting differences 61 (14)-123.1%
Total US GAAP Adjustments (3,166) 905 -128.6%
Net Income as per US GAAP (1,807) 2,099 -216.2%

The pricing pressure is more evident for onsite and domestic projects. While the billing rates for onsite projects declined by 3% (QoQ), the fall for domestic projects was much steeper at 11%. Onsite billing rates have declined 1% sequentially. Also, the company saw a marginal decline in utilization rates for all onsite, offshore and domestic projects. The contribution to revenues shifted marginally in favour of offshore revenues 48% as compared to 45% in 2QFY02. The contribution from fixed price contracts increased from 25% in 2QFY02 to 28% in 3QFY02.

The geographic break up of revenues did not change significantly. However, Europe showed a very strong sequential growth of 35%. This offset the loss in revenues from Japan and Rest of the world, which declined by 18% and 14% sequentially. The largest market (US) grew by 1%.

The maintenance service offering for Satyam showed a decline, while package implementation witnessed strong growth, as seen with other software companies. The numbers are a cause for concern because the major revenues stream of the company design & development and maintenance are showing weakness. This has been offset to some extent by growth in revenues from package implementation and engineering services. However, the contribution of these service offerings are relatively smaller and thus in the future may not be able to offset a sharper drop in revenues from the major revenue streams. Amongst the key verticals banking & finance along with engineering exhibited growth. However, insurance and manufacturing verticals showed a decline.

Service offerings2QFY023QFY02Change
Software design and development52.2%49.1%-5.9%
Software maintenance32.2%28.4%-11.8%
Packaged software implementation11.8%16.4%41.7%
Engineering design services3.5%5.9%49.4%

The company, however, has given a very positive guidance for 4QFY02. Satyam expects the topline to grow in the range of 1% to 4.4%. However, the net margins are expected to witness a sequential decline in the range of 10% to 18%. This is on the back of a sharp fall in operating margins, which are expected to decline even further. The numbers indicate that Satyam could be looking at a volume based growth strategy. To capture a larger share of the market the company is looking at the possibility of cutting billing rates further. The 4Q guidance translates to a growth of 41% in revenues for FY02, and a growth in net profits in the range of 47% to 52% (excluding extra ordinary income in FY01).

Given that the results are above expectations, the stock price is likely to see marginal improvement in valuations, as lot of positives have already been factored in the price. Moreover, the economic scenario in the company’s biggest markets continues to be uncertain. At the current market price of Rs 274, the stock is trading at a P/E multiple of 18x its 3QFY02 annualised earnings.

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