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Wipro FY07: First impression - Views on News from Equitymaster

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Wipro FY07: First impression

Apr 20, 2007

Performance summary
In line with its peers, Wipro, India’s third largest software services exporter, has announced strong results for the fourth quarter and full year ended March 2007. For FY07, revenues and net profits have grown by 42% YoY apiece, very much in line with what we had estimated. The company’s strong topline performance during the fiscal has been led by its global IT services business, which grew by 38% YoY. Operating margins have shrunk by 110 basis points (1.1%), chiefly owing to rise in employee costs (as percentage of sales). For 4QFY07, topline and bottomline has grown by 9% QoQ and 12% QoQ. The board has recommended a final dividend of Re 1 per share (dividend yield of 0.2%).

Financial performance (Consolidated): A snapshot
(Rs m) 3QFY07 4QFY07 Change FY06 FY07 Change
Net Sales 39,726 43,223 8.8% 106,030 149,982 41.5%
Expenditure 30,900 33,804 9.4% 80,655 115,854 43.6%
Operating profit (EBDIT) 8,827 9,420 6.7% 25,375 34,128 34.5%
Operating profit margin (%) 22.2% 21.8%   23.9% 22.8%  
Other income 825 967 17.2% 1,536 2,963 92.9%
Interest 48 40 -18.2% 35 124 254.3%
Depreciation 1,011 1,091 8.0% 3,097 3,979 28.5%
Profit before tax 8,593 9,256 7.7% 23,779 32,988 38.7%
Tax 1,031 746 -27.7% 3,391 3,868 14.1%
Minority interest (4) (2)   1 (6)  
Equity in earnings of affiliates 89 49 -45.4% 288 295 2.4%
Profit after tax/(loss) 7,654 8,561 11.8% 20,675 29,421 42.3%
Net profit margin (%) 19.3% 19.8%   19.5% 19.6%  
No. of shares (m)         1,459.0  
Diluted earnings per share (Rs)         20.2  
P/E ratio (x)         28.7  

About the company
Wipro is India’s third largest software services exporter and also has interests in the hardware and consumer care and lighting businesses. However, the largest contribution to its revenues comes from the global IT services and products division (74% of consolidated revenues). Within the global IT services and products business, the company derives revenues from R&D services (30% of global IT services revenues), enterprise business (61%) and BPO services (9%). The company provides BPO services through its subsidiary, Wipro BPO Services. Over the period FY02 to FY07, Wipro’s consolidated revenues and profits grew at compounded rates of 34% and 27% respectively.

What has driven performance in FY07?
Global IT services lead the pack: Wipro’s strong performance on the topline front was aided by robust sales growth for all its business segments. However, the global IT services division yet again stole the show with a 38% YoY growth in FY07. Within this segment, the fastest growth was recorded by Wipro’s acquired entities, which grew revenues by almost 9 times. The largest sub segment of the IT services business, i.e., Enterprise services recorded a growth of 47% YoY during the fiscal. The company’s R&D business (30% of global IT services) grew at 21%, thus indicating continued momentum in global technology R&D offshoring. Wipro’s BPO business (9% of global IT services) grew by 23% YoY during the fiscal.

Segmental performance analysis
  Revenue breakup Operating margins
(Rs m) FY06 FY07 Change FY06 FY07
Global IT services 80,660 110,945 37.5% 25.0% 24.0%
IT Services 72,531 96,543 33.1% 26.0% 25.0%
Acquisitions 502 5,011 898.2% 9.0% 4.0%
BPO Services 7,627 9,391 23.1% 14.0% 23.0%
Wipro Infotech 17,048 24,835 45.7% 9.0% 9.0%
Consumer Care & Lighting 6,008 8,182 36.2% 13.0% 12.0%
Others 3,323 7,130 114.6% NA NA

As for the other business segments of Wipro Infotech (India & Asia-Pacific IT services) and consumer care & lighting (CC&L), while the former grew at 46% YoY, the latter recorded a strong 36% YoY growth. On the clientele front, Wipro added 44 clients to its IT services business during 4QFY07. On the manpower front, Wipro added a net of 14,076 people during FY07 (12,699 in IT services and 1,377 in BPO).

Wage inflation impact on margins: Wipro recorded a 100% basis points (1.1%) reduction in its operating margins during FY07. This was led by pressure on profitability of both its organic and inorganic IT services business. Pressure on margins for these businesses was on account of rise in employee costs, which (as percentage of sales) increased from 41.4% in FY06 to 41.6% in FY07. As a matter of fact, Wipro gave a 3% to 4% salary hike to its onsite employees in 4QFY07, the effect of which is probably seen in the rise in employee costs for the fiscal. The company, however, got some leverage benefits from the sales and marketing costs, which declined from 6.6% of sales in FY06 to 6.4% in FY07.

As regards operating margins for specific businesses, it was the organic Global IT services’ performance, which impacted the company’s consolidated profitability during FY07. This business reported a 1% operating margin contraction to 25% (26% in FY06). The company’s acquisitions also reported margin contraction, with their consolidated (all acquired entities) operating margins contracting to 4% in FY07, from 9% in FY06. Wipro Infotech and consumer care and lighting businesses saw stable margins during the fiscal.

Other income props bottomline: Despite the contraction in operating margins during FY07, Wipro’s net margins recorded a marginal 10 basis points expansion, mainly owing to higher other income. The strong 93% YoY growth in other income during FY07 was a result of a substantial rise in dividend and interest income (72% of other income). The company has a huge cash balance (cash and liquid investments) to the tune of Rs 53 bn (US$ 1.2 bn), which has earned it such high dividend and interest incomes. The bottomline growth of 42% YoY during FY07 was also propped up by a decline in effective tax rate (11.7% in FY07 against 14.3% in FY06).

What to expect?
At the current price of Rs 587, the stock is trading at a price to earnings multiple of 18.1 times our estimated FY09 earnings. Wipro’s management has indicated of a strong pipeline of large projects for this fiscal. Also, despite the wage inflation and rupee appreciation, it also expects margins to be stable during the fiscal, mainly aided by improved profitability of its acquired entities as also rising billing rates and increasing contribution from high-end services. We shall update this analysis post the management conference call, which is scheduled for today afternoon.

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