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Infosys: Inching towards recovery? - Views on News from Equitymaster

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Infosys: Inching towards recovery?
Oct 9, 2009

Performance summary
  • Net sales grow by 2% QoQ in 2QFY10 on back of increase in volumes.
  • Operating margins expand marginally by 0.5% QoQ though impacted to an extent due to foreign exchange volatility.
  • Net profits grow by 1% QoQ. Growth slower than that in sales owing to decline in other income.
  • Declares an interim dividend of Rs 10 per share.
  • Adds 1,550 employees (net) and 35 new clients during the quarter.
  • FY10 EPS guidance stands at around Rs 100 per share, up around 4% from the guidance given in July 2009.


Consolidated financial snapshot
(Rs m) 1QFY10  2QFY10  Change 1HFY09  1HFY10  Change
Sales 54,720 55,850 2.1% 102,720 110,570 7.6%
Expenditure 36,040 36,520 1.3% 69,990 72,560 3.7%
Operating profit (EBDITA) 18,680 19,330 3.5% 32,730 38,010 16.1%
Operating profit margin (%) 34.1% 34.6% 0.47% 31.9% 34.4%  
Other income 2,690 2,360 -12.3% 1,830 5,050 176.0%
Depreciation 2,220 2,320 4.5% 3,460 4,540 31.2%
Profit before tax 19,150 19,370 1.1% 31,100 38,520 23.9%
Tax 3,880 3,970 2.3% 3,750 7,850 109.3%
Profit after tax/(loss) 15,270 15,400 0.9% 27,350 30,670 12.1%
Net profit margin (%) 27.9% 27.6%   26.6% 27.7%  
No.of shares (m)       556.9 573.3  
Diluted earnings per share (Rs)*         110.2  
P/E ratio (x)*         20.1  
* On a trailing 12-months basis

What has driven performance in 2QFY10?
  • Infosys recorded a topline growth of 2% QoQ during 2QFY10. This was mainly aided by higher volumes mainly at its offshore projects (volumes grew 3% QoQ) and easing of pressure on billing rates. The revenues from top-10 customers increased by 6% QoQ during 2QFY10. Infosys added 35 new clients during the quarter thus taking the total number of active clients to 586.

  • Based on service lines, Infosys has recorded the strongest performance in the 'infrastructure management' service, followed by 'system integration. These segments improved as the demand for transformational services increased after a lot of mergers and acquisitions taking place among businesses mainly in the banking and finance domain. The infrastructure management service registered 21% QoQ growth in revenue during the quarter, while accounting for 8% of the company's consolidated revenue. However the performance remained weak for the application development and maintenance segment, which contributes over 40% to Infosys' topline. This segment registered a dip of around 2% QoQ. Consulting and package implementation services also showed muted performance.

  • Based on geographies, Infosys registered a 4% QoQ growth in sales from North America, its major market which contributed about 65% of the overall revenues. The performance in Europe remained poor as economic conditions in the region still remain weak. A lot of traction came from the Indian market, which grew by 36% QoQ during 2QFY10, indicating the company's focus in India which presently contributes only 1% of its sales. Based on verticals, Infosys witnessed the strongest performance in 'banking and financial services' followed by 'retail' and 'utilities'. However the performance of the 'manufacturing' and 'telecom' verticals remained weak.

    Revenue break-up
    In Rs m 1QFY10 2QFY10 Change
    On basis of service offerings      
    Application development and maintenance 23,256 22,787 -2.0%
    Application development 10,561 10,109 -4.3%
    Application maintenance 12,695 12,678 -0.1%
    Business Process Management 3,338 3,463 3.7%
    Consulting Services and Package Implementation 13,352 13,292 -0.4%
    Infrastructure Management 3,612 4,356 20.6%
    Product Engineering Services 1,313 1,285 -2.2%
    System Integration 2,079 2,457 18.2%
    Testing Services 3,393 3,463 2.1%
    Others 2,189 2,457 12.3%
    Total services 52,586 53,560 1.9%
    Product revenues 2,134 2,290 7.3%
    Total revenues 54,720 55,850 2.1%
    On basis of client geography      
    North America 35,404 36,805 4%
    Europe 13,516 12,957 -4%
    India 492 670 36%
    Rest of the world 5,308 5,417 2%
    On basis of industry vertical      
    Insurance, Banking and Financial services 18,058 18,710 3.6%
    Manufacturing 11,218 10,779 -3.9%
    Retail 7,223 7,875 9.0%
    Telecom 9,248 9,048 -2.2%
    Utilities 3,119 3,295 5.6%
    Transportation & Logistics 1,259 1,285 2.1%
    Services 2,681 2,793 4.1%
    Others 1,915 2,066 7.9%
    Source: Company

  • Infosys added a net of 1,548 employees during the quarter. Its total headcount stood at 105,453 employees at the end of September 2009, with 97,594 being software professionals and the remaining in sales and support functions. The utilisation (excluding trainees) improved from 70.9% in 1QFY10 to 73.2% in 2QFY10.

  • Infosys' operating margins expanded by 0.5% QoQ during 2QFY10. Despite increase in volumes, the margins remained nearly flat due to increase in sales and marketing as well as training expenses. Foreign exchange volatility also impacted the margins. However, higher utilisation levels, greater share of offshore revenues, and improvement in employee productivity had a positive impact on the margins.

  • Infosys reported a 1% QoQ growth in its net profits during 2QFY10. Performance here was impacted by 13% QoQ decline in other income and higher tax outgo and depreciation charges.

What to expect?
At the current price of Rs 2,179, the stock is trading at a multiple of 18.4 times our estimated FY12 earnings. As Infosys bettered its performance during second quarter, its management during the conference call has indicated that the business environment has improved as it is seeing some easing of pressure on billing rates coupled with a slight revival in clients' interest towards strategic IT initiatives.

With the strategy to enhance Infosys' strengths during the downturn, research and development (R&D), intellectual-property (IP) based solutions and innovating new delivery models remain the focus areas for the company. With an increase in compensation cost due to wage hike and lateral and onsite hiring, the operating margins are expected to decline in the rest of the fiscal (we have assumed margins of 30% for FY10, much lower than 34.4% that the company has earned during the first half of the fiscal). The company which has been a little sluggish on inorganic plans in recent past is looking out for strategic alliances particularly in non-English speaking countries like France, Germany and Japan and in service capabilities like BPO and platform-based solutions. It is also targeting channels for faster entry into industry verticals like healthcare and government. Apart from the US, the company plans to concentrate on the new markets in Mexico, Brazil, China and India.

Though being cautiously optimistic about the stabilisation of IT budgets going forward, Infosys' management has reiterated its confidence on the company's ability of emerging stronger after the economic slowdown. However, it remains cautious about the currency environment which is expected to be volatile going forward. We had recommended a ‘Buy’ on the stock in April this year. Though it has already crossed our target price of Rs 2,360 as we had recommended in April 2009, we would have to revise our estimates for the company upwards. At the current levels, we have a ‘Hold’ view on the stock.

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