It is a watershed year for the company in several respects. But more so as the new CEO now has to grapple with the task of re-engineering its skills, and in doing so by realigning its offerings more closely to the business priorities of its clientele, and to take on the emerging competition.
A watershed year
The year 2012 marks a watershed in the history of Infosys Ltd. Its chief mentor Mr N.R. Narayana Murthy has finally cut the umbilical cord that has bound the company to his coattails from inception in 1981. The corner office that he occupied has a new incumbent -the battle hardened veteran banker Kundapur V Kamath. The latter in his burning desire to retire in a blaze of glory from his long serving job as the CEO of ICICI Bank almost ran the venerable institution up the wall in the process towards the end of his tenure. It appears that Infosys is also at a point of inflexion. And we will now have to wait and see what Kamath has up his sleeve to revive its wavering brand equity and bring about an upward re-rating of its sentimental price earnings ratio. This is not an easy task given its business portfolio of still primarily generating software for third parties, the heightened competition, and the fact that the vast bulk of its succour still accrues from North America and Western Europe - and Europe is in turmoil leaving all concerned flummoxed. India centric revenues are still pitiful - a mere 2.3% in the overall context.
Halo down a tad
It would appear from media reports that this bellwether stock of well over the past decade has sung its swan song - at least for some time to come. And the task of nurturing the company's fallen halo has ironically enough fallen in the lap of the last of the founding sons - S. D. Shibulal. The CEO set the ball rolling by announcing rather matter of factly that there will be no emolument increments in the current year for one. Making a public pronouncement on a matter of such import, calls for more than some spunk, as the company boasted employee strength of almost 1.25 lakh at year end. Employees play a dual role in IT companies in the sense that they constitute both the fixed assets and the current assets of the company. Infosys on its part shelled out some Rs 155 bn during the accounting year for their services. On a rough basis this outflow would work out to an average per employee remuneration of Rs 1.2 m per year! This is the largest single item of expenditure for the company, and by a mile at that. By deferring the increment the company is of course banking on the past goodwill of the promoters in sharing the wealth that it has created with its employees (Is it not ironical that IT software primarily aims to reduce the dependence of human labour in the functioning of enterprises, but its creation requires a surfeit of human hands?) . And, by performance results which are not on keel with the prognostications of analysts on the other. This is further compounded by quarterly management projections of the conservative kind. Infosys however has a history of giving muted outlooks, as the management invariably prefers to err on the side of caution in its public pronouncements of import. And, like in the West, India too has become a slave of the utterings and the crystal gazing 'infallibility' of the analyst fraternity. This is the unfortunate reality of life whether you like it or not.
All weather stock no more
How times change too! Till not too long ago IT stocks were elevated to the medium of all weather stocks, and the IT industry constituted one of the three legs comprising the ICE triumvirate which ruled the markets (the other two being communications and entertainment). All the three counters have now been relegated to the background as the old manufacturing sector has regained its rightful place of honour on the podium. The all weather stocks now stand renamed as fair weather friends.
A finely tuned ship sailing on the high seas
But more to the point, what does the latest annual report of Infosys have to foretell if any. For one it has a rock solid balance sheet - with figures that are difficult to emulate. Consider some of the more telling figures. It has a paid up equity of Rs 2.8 bn, gargantuan reserves and surplus of Rs 298 bn, NIL borrowings, a net fixed asset base of Rs 40 bn which drummed up revenues of Rs 313 bn for the year ended March 2012, trade debtors of Rs 54 bn accounting for 63 days revenues, cash balances of Rs 180 bn, gross current assets of Rs 295 bn and net current assets of Rs 235 bn. The current assets are bloated due to the humungous cash reserves. There are not many corporates in the Indian firmament that can drum up such a delectable frosted cake. It also boasts the most enviable cash flow statement that any corporate can boast of - a surfeit of cash generated from operations. This in turn led to a cash surplus of Rs 43 bn at year end. It also has investments valued at Rs 10 bn in group companies. They comprise among others, nine subsidiaries and not including four step-down subsidiaries (subsidiaries of subsidiaries). The dividend returns from these investments are close to zilch but that obviously was not the objective in promoting the siblings in the first place. These companies collectively clocked a turnover of Rs 42 bn and registered a pre-tax profit of Rs 6 bn. Of this lot, only three companies - Infosys Technologies Australia, Infosys BPO, and Infosys Technologies China amount to anything.
Statistics don't lie
But more to the point, the company has furnished some basic statistics of its historical data. The turnover accelerated by 23.1% during 2011-2012. In the last five accounting years this is the second highest percentage increase in revenues that it has recorded. The highest percentage jump was recorded in 2008-09 - a rise of 29.5%. Equally significantly, the company recorded an operating margin of 32.2% in the latest year. (This operating profit for the year excludes other income, which is significant, and is before deducting depreciation, which is insignificant). The highest return in the five years past was recorded in 2009-10 when it clocked a margin of 34.8%. Other income (basically comprising interest income) is a big ticket item for Infosys and the bulk of the excess moolah is kept in risk free havens. For the matter of record other income at Rs 18.3 bn accounted for 16.5% of the pre-tax profit for the year, against a lower 13% or Rs 11.5 bn previously.
One may however add here that the annual report for the latest year is considerably slimmer than that of the preceding years. But that is basically because the company has deliberately chosen to report only the abridged statement of the full fledged accounts. The strength of the Infosys annual reports till its current decision to curtail the contents was the fact that it used to brim with figures of every hue - and which unintendedly confused all readers. Why the management has chosen the short cut route in the current year is not known. Or was this an attempt to cut down on administrative expenses? If so it makes to look for a very poorly thought out exercise. Not that the annual report is lacking in data though.
The company is faring well rupee wise
S D Shibulal, the CEO, in his letter to the shareholders admits tacitly that the company came up short in its dollar growth projections. Against an estimated revenue growth of 18-20% in dollar terms it could only make do with 15.8%. But what is left unsaid here is that simultaneously it has also exceeded rupee growth projections. For, on an estimated rupee growth of 15.4% to 17.3% the company actually grew 22.7%. But this ludicrous looking mismatch is also due to the depreciation of the rupee and its related consequences. So if the company has come up short in dollar terms, it also stands to reason that it has come up trumps in rupee terms. So what is this hungamma all about? And given the continued precipitous drop in the value of the rupee, the sensible guess here is that the rupee growth in the current year will exceed the rupee growth estimates by a mile and some more. And for the Indian shareholders it is the rupee figures that matter!
The CEO's take
The lengthy directors' report and the Management discussion and analysis consist of a heavy load of tech heavy mumbo jumbo of the company's activities which is totally unintelligible to the lay public. So there is no purpose looking for leads here. One wonders who the company has in mind when mailing out its only public offering of each year's working to its shareholders. Thus one has to go by the more sane verbiage content in the CEO's address to the shareholders.
Shibulal says - 'we had two choices for the road ahead. Continue to play the traditional outsourcing game by commoditising more of the existing business and concentrating on short term growth, or to redefine the industry with a new strategy that addresses the current challenges and enables the company to achieve superior growth in the medium to long term. The company has chosen the latter path - to enable it to balance high quality, industry leading growth, high revenue productivity and relatively superior margins'. Shibulal stops short of saying which garden path it is leading up to, but going to the extent of saying that its endeavour in building tomorrow's enterprise strategy continues to see good traction with its clients.
Our business model he adds 'was built on Predictability, Sustainability, Profitable and De-risking. However this predictability in recent quarters has been impacted by challenges in the global economy coupled with internal organisational changes'. The management he says 'is working harder than before to get back to delivering predictable performance'. For the present though it has predicted a weak performance going by analysts expectations. This has led to a substantial de-rating of its P/E multiple. How soon the predictability pendulum will swing in the other direction is the moot point.
Disclosure: I hold 938 shares in Infosys
This column Cool Hand Luke is written by Luke Verghese. Luke has been a business journalist, financial analyst and knowledge management head with a professional experience of more than 20 years. An avid watcher of the stock market, he has written extensively on stock market trends. His articles have featured in Business Standard, Financial Express and Fortune India amongst others. He has also been the Deputy Editor, Fortune India and the Financial Editor of The Business and Political Observer.