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Infosys: Look beyond the quarter

Jul 12, 2007

Infosys declared its 1QFY08 results yesterday. The results were relatively muted and the markets instantly started reacting to it - the stock closed yesterday’s session 4% down. The management had its analyst conference call yesterday afternoon, highlighting key inputs for the quarter’s performance and its view for the future. In this article, we analyse the results in greater detail through the pointers that we have received from the management conference call. Operating margin – Pressure points

Wage and visa costs: The first and foremost thing, which one would have seen in yesterday’s result announcement was the decline in operating margins by 3% (300 basis points). The graph below shows the break up of this decline in the operating margins. Two of the components that have had a negative impact on the margins – wages and visa costs – are really a first quarter phenomena and do not impact margins at the same rate in the subsequent quarters. As a matter of fact, the negative impact of these two costs on Infosys’ margins was lesser in 1QFY08 compared to 1QFY07, when these costs had adversely impacted operating margins by 3.3% (2.5% in 1QFY08) and 1.3% (1% in 1QFY08) respectively. That quarter, Infosys’ margins contracted by 2.2%, mainly led by rise in these costs on a QoQ basis. After recording margins of 29.5% in 1QFY07, the company closed the fiscal with margins of 31.7% in 4QFY07.

Rupee appreciation: As for the rupee appreciation, it definitely has been the Achilles’ heel for Infosys’ operating margins during 1QFY08. By appreciating 7% against the US dollar as also nearly 4% against other major currencies like the Euro and Pound, the rupee negatively impacted Infosys’ topline and operating margins during the quarter. As per the management, the impact of rupee appreciation on the topline was around Rs 2.9 bn in 1QFY08. As such, if the rupee were to be stable against the US dollar during the quarter, the company would have grown its topline by around 8% QoQ against the flat growth that it actually recorded.

Utilisation levels: Infosys utilisation rate in 1QFY08 stood at 70.5%. The utilisation rate, which the company expects to maintain in the rest of FY08, is in the range of high seventies to low eighties. This is one area where Infosys is working aggressively and going forward we expect this to be a major margin driver. Even if we assume a 1% increase in utilisation every quarter, which is quite possible, it will have a 0.6% positive impact on the company’s operating margins.

Financial performance of subsidiaries: Infosys’ two subsidiaries – Infosys Consulting and Infosys China, which made a loss of Rs 1,100 m and Rs 300 m in FY07, made nominal losses of Rs 30 m and Rs 40 m respectively in 1QFY08. In terms of profitability, the Australian subsidiary’s margins remained stable at 16% but the consulting and Chinese subsidiaries recorded improved performance in the quarter. The consulting division’s turning profitable will be a big positive and the management expects it to be major revenue generator in future.

Performance of subsidiaries FY07 1QFY08
  Revenue Net profit/(loss) Margins Revenue Net profit/(loss) Margins
Infosys BPO 6,620 1,510 22.8% 2,000 360 18.0%
Infosys Australia 4,450 710 16.0% 1,440 230 16.0%
Infosys Consulting 2,130 (1,100) -51.6% 520 (30) -5.8%
Infosys China 600 (300) -50.0% 150 (40) -26.7%
Total 13,800 820   4,110 520  

Continuing further, Infosys has recently concluded 3 large deals each in the range of US$ 50 m to US$ 100 m. These deals have not been factored in their FY08 guidance. As a result, the volume growth and pricing growth estimates remain relatively conservative. The company has been able to negotiate these deals at fairly decent billing rates. Moreover, new clients are coming with an average increase of 3% to 4% in billing rates and old contracts are being re-negotiated at 2% to 3% higher billing rates.


Prima facie it may look like a subdued quarter considering the standards, which Infosys has set for itself. However, there are some favourable factors (like three large deals not factored in the guidance, subsidiaries making profits, higher effective yields on huge pile of cash balance and forex hedge offsetting the impact of rupee appreciation) that would further increase the confidence of long-term investors in the stock. Having said that, we maintain our FY08 estimates for the company as also our positive rating on the stock.

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