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Infosys: Up the value chain

Apr 9, 2002

The numbers Infosys will declare for the fiscal 02, will more than anything enhance the management’s credibility. The company marginally surpassing the guidance given on the 11th of April 2001 puts the management’s ability to understand the business environment in very good light. Infosys for fiscal 02 had expected a growth of about 35% in topline and 27% in net profits. According to our estimates, growth in revenues and net profits is expected to be inline with the guidance given by the company. The most remarkable thing is that the guidance provided by the management was so conservative that inspite of loss in business due to the tragic Sep 11 events, the company has managed to meet its guidance.

(Rs m) 3QFY02 4QFY02E Change FY01 FY02E Change
Sales 6,608 6,600 -0.1% 19,006 25,835 35.9%
Other Income 149 150 0.5% 594 581 -2.2%
Expenditure 3,934 3,912 -0.5% 11,357 15,478 36.3%
Operating Profit (EBDIT) 2,675 2,688 0.5% 7,648 10,357 35.4%
Operating Profit Margin (%) 40.5% 40.7%   40.2% 40.1%  
Interest - -   - -  
Depreciation 413 415 0.4% 1,129 1,573 39.4%
Profit before Tax 2,410 2,423 0.5% 7,113 9,364 31.6%
Tax 350 370 5.7% 727 1,335 83.6%
Provision and contingencies -     (98)    
Profit after Tax/(Loss) 2,060 2,053 -0.4% 6,288 8,029 27.7%
Net profit margin (%) 31.2% 31.1%   33.1% 31.1%  
Diluted number of shares 66.1 66.1   66.1 66.1  
Diluted Earnings per share* 124.7 124.2   95.1 121.5  
P/E (x)   29.2     29.9  
*(annualised)            

The year was a very tough one for the software industry. The growth in revenues primarily stemmed from growth in volumes, rather than improved realisations. The tough market conditions saw competition intensify among software companies and this in turn caused a significant downward pressure on billing rates. Also, in wake of the tough business environment, the volumes grew at a far subdued pace as compared to the past. The largest cost component for Infosys is employee costs and the company by reworking its compensation structure into a variable nature managed to keep a strict control on costs. This has been a general trend with all software companies. According to Infosys, the company managed to improve operating margins by 3.2% due to cost cutting measures.

QoQ Growth 1QFY02 2QFY02 3QFY02
Volume 10.9% 2.6% 3.4%
Price (Billing rates) -2.8% 2.6% -3.2%

The year began with mostly maintenance related work being outsourced to the Indian software companies. Infosys too saw strong growth in revenues from the area. For 9mFY02, maintenance (28% of total revenues) saw a 55% growth. The freeze on new projects was evident from the fact that revenues from development grew by a mere 0.3% for nine months in FY02. Consequently, the share of this revenue stream declined from 42% in 9mFY01 to 32% in 9mFY02. The services that grew included package implementation and engineering services. Consulting that has been Infosys’ focus area recorded a sober 18% growth in 9mFY02. The IT consulting business has been the exclusive domain of the IT services and consulting companies in the west. So far Indian software companies have been working at the lower end of the value chain. However, the top rung Indian software companies hope to put an end to this western supremacy.

A significant achievement made by the company is 95% growth in product sales. During the fiscal, many banks adopted Finacle, Infosys’ banking product. In 4QFY02, Infosys added ABN Amro and First Bank of Nigeria (largest bank in West Africa) to its client list.

Infosys appointed two companies, Telesis Technologies and Software Technology Group (STG) International, as service partners for its flagship product ‘Finacle’. These companies will deliver training and implementation services to Infosys' customers for Finacle. Companies in general can hope to achieve this feat after a considerable amount of stability comes into their products. There is hardly any software company in India that has comprehensive products, which can be independently implemented. Till date, large companies like SAP, Ariba, Siebel had products which Indian companies (including Infosys) used to implement. Infy is graduating up the value chain by creating successful products.

Particulars FY01 FY02E
  1Q 2Q 3Q 4Q FY01 1Q 2Q 3Q 4QE FY02E
OPM (excl. Other Inc.) 38.7% 39.5% 40.5% 41.1% 40.2% 39.3% 39.8% 40.5% 40.7% 40.1%
Tax / PBT 10.2% 10.3% 9.8% 10.7% 10.2% 13.0% 14.1% 14.5% 15.3% 14.3%
NPM 34.1% 34.5% 31.0% 32.3% 33.1% 31.0% 29.8% 31.2% 31.1% 31.1%
Cash FDEPS (Rs) 20.8 26.7 31.8 32.9 112.2 34.0 34.9 37.4 37.3 145.3
FDEPS (Rs) 18.2 23.1 26.9 27.2 95.1 29.5 28.9 31.2 31.1 121.5

For the quarter ended December 2001, a project from The National Health Services (NHS) UK, gave Infosys an entry into the healthcare sector. The healthcare sector has one of the lowest IT penetration and consequently, has very strong growth potential. NHS 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.

At the current market price of Rs 3,628 Infosys is trading at a P/E of 30x its FY02E estimated earnings. While unpleasant surprises are unlikely with the numbers for 4QFY02, the management’s outlook will set the markets mood towards the software sector. With the initial signs of recovery in the US, it is unlikely that the growth expectations will be lower than the figure for FY02.


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