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Wipro: Maintaining the growth trend - Views on News from Equitymaster
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Wipro: Maintaining the growth trend
Oct 18, 2006

Performance summary
Wipro has announced its consolidated financial results for the second quarter and half-year ended September 2006. For 2QFY07, the company has reported impressive sequential growth in its topline, powered by the strong performance of the global IT services business, as well as better performances of the India & Asia-Pacific IT services business, which, it must be noted, is seasonal in nature (1QFY07 being the traditionally weak quarter). However, due mainly to the salary revisions carried out this quarter, margins saw a contraction on a sequential basis. Despite the lower margins, considerably higher other income and a lower effective tax rate have led to strong double-digit sequential growth in net profits for the quarter. For the half-year, the performance has been excellent, in terms of topline growth, margin maintenance as well as net profit growth.

Financial performance (Consolidated): A snapshot)
(Rs m) 1QFY07 2QFY07 Change 1HFY06 1HFY07 Change
Net Sales 31,456 35,576 13.1% 47,659 67,032 40.7%
Expenditure 23,857 27,293 14.4% 36,327 51,151 40.8%
Operating profit (EBDIT) 7,599 8,283 9.0% 11,332 15,882 40.1%
Operating profit margin (%) 24.2% 23.3%   23.8% 23.7%  
Other income 477 694 45.3% 537 1,171 118.0%
Interest 2 34 1276.2% 9 36 300.7%
Depreciation 895 983 9.9% 1,479 1,877 27.0%
Profit before tax 7,179 7,960 10.9% 10,382 15,139 45.8%
Tax 1,041 1,050 0.9% 1,459 2,091 43.3%
Minority interest - -   1 1  
Equity in earnings of affiliates 65 92   139 157  
Profit after tax/(loss) 6,204 7,002 12.9% 9,060 13,205 45.7%
Net profit margin (%) 19.7% 19.7%   19.0% 19.7%  
No. of shares (m) 1,441.2 1,445.6   710.6 1,443.4  
Diluted earnings per share (Rs)*         17.2  
P/E ratio (x)*         33.6  
* On a trailing 12-month basis.

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 (77% of consolidated revenues). Within the global IT services and products business, the company derives revenues from R&D services (33% of global IT services revenues), enterprise business (59%) and BPO services (8%). The company provides BPO services through its subsidiary, Wipro BPO Services. Over the period FY01 to FY06, Wipro’s consolidated revenues and profits have growth at compounded rates of 28% and 25% respectively.

What has driven performance in 2QFY07?
Growth across-the-board: During 2QFY07, Wipro recorded a strong 13.1% QoQ growth in its net revenues. This was a result of strong growth in all the major business segments of the company. The major global IT services business grew at a sequential pace of 11.0% QoQ, with pure IT services growing at 7.8% QoQ, BPO at an impressive 9.6% QoQ and the company’s acquisitions at 142.1% QoQ. Of course, the acquisition growth was also a result of Wipro having acquired 3 companies in 1QFY07, the results of which were fully integrated this quarter, viz. Enabler, Saraware Oy and Quantech Global Services LLC.

In the global IT services business, onsite revenues powered ahead during the quarter by 10.8% QoQ, while offshore revenues grew by a much slower 4.3% QoQ. The company saw onsite volumes grow at a strong 8.2% QoQ, while offshore volumes saw a relatively muted 3.7% QoQ growth. The onsite component of revenues increased due to a number of engagements commencing this quarter, which necessitated a higher onsite presence. Wipro witnessed some pricing pressure this quarter, with offshore billing rates seeing a 1.1% QoQ fall. However, onsite billing rates witnessed a 0.7% QoQ rise. The balance growth can be attributed to a higher realised rupee rate for the quarter (Rs 46.20 against Rs 45.44 in 1QFY07).

Wipro added 54 new clients during the quarter, including 18 in the Technology business, 35 in the Enterprise business and 1 in the BPO business. The total number of active clients now stands at 593 in IT services (433 at the end of 2QFY06) and 33 in BPO (28 at the end of 2QFY06). The company added a net of 5,328 people in IT services in 2QFY07 (including 605 people from the completed acquisitions during the quarter), taking the total number of employees to 45,824 in this business. On the BPO side, the company again reduced its headcount this quarter by 584, continuing from the 148 people reduction the previous quarter, taking the total employee base to 15,355. Thus, the total headcount in the company’s IT and BPO business now stands at 61,179.

It should be noted that the attrition rate (annualised) was at 18% during the quarter in the IT services business, while the quarterly attrition was at 30% in the BPO business. Undoubtedly, this is a factor of major concern for Wipro, and the company will need to take steps to curb this if it is to effectively compete against its Indian and MNC competitors. On a trailing 12-month basis, the attrition rate for Wipro’s IT services business stood at 15.9%, higher than both its larger top-tier peers, Infosys and TCS.

Segmental break-up: All-round growth!
  1QFY07 2QFY07 Change
  Rs m Rs m %
Global IT services 24,505 27,205 11.0%
IT Services 21,842 23,538 7.8%
Acquisitions 565 1,368 142.1%
BPO Services 2,098 2,299 9.6%
India & AsiaPac 4,564 5,426 18.9%
CC&L 1,768 2,025 14.5%
Others 804 1,098 36.6%
Eliminations (216) (292)  
Total 31,425 35,462 12.8%

The other segments of Wipro continue to show strong year-on-year growth. The India & AsiaPac business (Wipro Infotech) grew at 36% YoY, driven mainly by the services side of the business, which clocked a 46% YoY growth. It should be noted that Wipro’s strong focus on total outsourcing deals in the domestic market continues to win it clients, and this has been extended to the global IT services business as well, with the launch of Global Total Outsourcing Services (TOS). The company won 2 large deals through the TOS value proposition during the quarter. Wipro Consumer Care & Lighting (CC&L) powered ahead at a rate of 41% YoY.

Salary hikes adversely impact margins: In 2QFY07, Wipro saw an 88 basis points decline in its operating margins. This was due mainly to the 12% to 13% salary hike given by the company in September to a part of its employees in September. The management has indicated that the impact of this on margins was negative 150 basis points (1.5%). Going forward, Wipro will be effecting a similar hike in salaries in November for the employees who were not covered by the hike in September, and this is expected to negatively impact margins to the tune of 200 basis points (2%). However, the company has said that it expects higher utilisation and productivity improvements to offset the impact of this hike. The employee costs as a percentage of revenues increased to 42.7% this quarter (42.5% in 1QFY07). Selling and marketing (S&M) expenses saw some leverage, reducing to 6.2% of revenues, as compared to 6.6% in 1QFY07, while general and administrative (G&A) expenses, on the other hand, rose to 5.0% of revenues (4.6% in 1QFY07).

As regards PBIT margins for all the businesses, global IT services’ PBIT margins fell marginally by 20 basis points) to 25.9% (26.1% in 1QFY07). BPO margins however, expanded by 260 basis points (2.6%) on top of a 266 basis points increase in 1QFY07, partly due to higher utilisation and productivity improvements. The company continues to focus on changing the business mix, and is looking at offering end-to-end solutions in this space. Wipro Infotech, on the other hand, saw a 90 basis points margin expansion (QoQ), while Wipro CC&L saw a 100 basis points margin decline.

Higher other income, lower taxes power bottomline: Despite lower margins, considerably higher other income (up by 45.3% QoQ) and a lower effective tax rate led to net profits powering ahead at a sequential pace of 12.9%.

Performance in the recent past…
  3QFY06 4QFY06 1QFY07 2QFY07
Sales growth (%, QoQ) 10.9 11.1 2.4 13.1
EBITDA margins (%) 25.0 23.2 24.2 23.3
Profits growth (%, QoQ) 13.7 13.7 0.4 12.9

What to expect?
At the current price of Rs 578, the stock is trading at a price to earnings multiple of 22.4 times our estimated FY08 earnings. During the quarter under review, the company exceeded its guidance for the global IT services business, growing to US$ 589 m (including BPO) as compared to the guidance of US$ 577 m. Wipro’s management expects consolidated revenues from the global IT services and BPO divisions to grow sequentially by around 7.5% in 3QFY07 to hit US$ 633 m. The demand environment is buoyant, and this is clearly reflected in the guidance for the next quarter.

With the demand environment becoming stronger for offshoring, we expect the global IT services business to continue to deliver good performance, driven mainly by volume growth and a stable-to-positive pricing environment, aided by execution excellence and global delivery capabilities. The impressive traction seen by Wipro’s differentiated services like testing, technology infrastructure services and package implementation (all growing at YoY rates between 50% and 70%) is also expected to enable the company to garner a greater share of its clients’ wallets. Product engineering and R&D services, a major service line for Wipro, continues to witness strong growth. Being a top-tier software company, with size, scalability, management quality and execution strengths, we expect the company to continue to outperform the industry. Thus, we remain positive on Wipro from a long-term perspective.

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