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Wipro: Our post 1QFY06 view

Jul 22, 2005

Introduction to results
Wipro has reported its consolidated results for the first quarter ended June 2005. While consolidated revenues have declined on a sequential basis, revenues from the global IT services division have grown. Volume growth as well as billing rate improvements have been the major drivers of this growth. A higher than proportionate fall in total expenditure has enabled Wipro to post a marginal improvement in margins during the quarter. More than halving of the other income component, due entirely to losses on currency fluctuations, resulted in a sequential decline in net profit.

Financial performance (Consolidated): A snapshot
(Rs m) 4QFY05 1QFY06 Change
Sales 23,011 22,718 -1.3%
Expenditure 17,585 17,253 -1.9%
Operating profit (EBDIT) 5,427 5,465 0.7%
Operating profit margin (%) 23.6% 24.1%  
Other income 313 122 -61.0%
Interest 6 7 7.1%
Depreciation 715 727 1.7%
Profit before tax 5,019 4,853 -3.3%
Tax 715 628 -12.1%
Minority interest (16) (1)  
Equity in earnings of affiliates 42 56  
Profit after tax/(loss) 4,330 4,280 -1.2%
Net profit margin (%) 18.8% 18.8%  
No. of shares 709.2 709.6  
Diluted earnings per share* (Rs) 24.4 24.1  
P/E ratio (x)   29.4  
(* annualised)      

About the company
Wipro is India’s third largest software services exporter and also has interests in the hardware and consumer care and lighting (CC&L) businesses. However, the largest contribution to its revenues comes from the global IT services and products division (77% of consolidated revenues). Within the global IT services and products business, the company derives revenues from R&D services (32%), enterprise business (57%) and BPO services (11%). The company provides BPO services through its subsidiary, Wipro BPO Services.

What has driven performance in 1QFY06?
Global IT services enthuses, but overall flat:  Wipro’s Global IT services segment (77% of consolidated revenues in 1QFY06) continues to be the main growth driver for the company. During the quarter, revenues from the segment have grown sequentially by 5.5%, aided by a 6.1% increase in volumes billed as well as a 2.2% rise in offshore and 1.4% rise in onsite billing rates. However, it should be noted that the rupee appreciated by around 5% to 7% against the Euro and Pound during the quarter and as a result, this would have impacted revenue realisations to some extent.

The major growth driver for the IT services business has been the enterprise business, which grew by 7% QoQ and accounted for as much as 75% of the incremental sequential revenues of the business. Strong traction in this business follows the trend of Satyam, which also derives a significant part of its revenues from this business. Revenues of the BPO business accounted for 11% of the Global IT services revenues and have grown sequentially by 6% in 1QFY06. The management had indicated at the end of the previous quarter that it was seeing slowness on the R&D side, which formed 32% of revenues of the global IT services business in 1QFY06. This is borne out in the figures, which show that this business grew by just 2% QoQ.

However, overall revenues fell sequentially by 1%. This was entirely due to a big 30% QoQ drop in revenues from Wipro Infotech, the company’s India and Asia Pacific services and products business. On a YoY basis, this business grew by 25%. Consumer Care and Lighting (CC&L) reported a strong 11% sequential growth in revenues. Wipro added a net of 29 clients during the quarter.

Lower expenses help margins:  The company’s total expenditure fell at a faster than proportionate rate than sales, leading to a marginal 50 basis points expansion in margins. This was achieved, despite higher visa costs, rupee appreciation against the Euro and Pound and higher sales and marketing (S&M) expenses. S&M expenses as a percentage of sales rose from 11% in 4QFY05 to 12% during this quarter. Employee costs as a percentage of sales also recorded a rise, from 39% to 44%. However, expenses on account of raw materials, finished and process stocks were considerably lower during the quarter, accounting for the reduction in expenditure. These expenses reduced as a percentage of sales from 19% in 4QFY05 to 13% in 1QFY06.

On a PBIT basis, for 1QFY06, margins for the Global IT services business have fallen by 130 basis points to 24%, while those for Wipro Infotech have fallen by 210 basis points to little over 6%.

Wipro’s net addition to the employee base in the IT services business stood at 2,097, taking the total employment to 41,911. This was considerably lower than Infosys, which increased employees by 3,056 during the quarter. In the BPO segment, the headcount stood at 13,630.

Forex losses adversely impact net profit:  A massive reduction in other income, due entirely due to a Rs 117 m loss on account of exchange fluctuations, has resulted in net profit falling by 1% on a sequential basis. This has happened despite a fall in the effective tax rate, from 14% to 13%.

What to expect?
At the current price of Rs 709, the stock is trading at a price to earnings multiple of 20.6 times our estimated FY07 earnings. During the quarter under review, the company exceeded its guidance for the global IT services business, growing to over US$ 398 m as compared to the guidance of US$ 395 m. Wipro’s management expects revenues from the global IT services division to grow sequentially by 6% in 2QFY06 to US$ 422 m.

Despite a flat quarter for the company, it should be noted that the company’s global IT services business showed a decent sequential growth. We expect players such as Wipro to be among the foremost beneficiaries of the Indian offshoring story, simply based on its size, scalability advantages and execution capabilities. However, investors need to consider valuations of the stock, which have traditionally been higher on account of low floating stock.

  • We will update our research report on Wipro after a conference call with the management.

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