Infosys: Hold/Avoid fresh exposures now

Krishnan Thiagarajan

Recommendation: Hold/Avoid fresh exposures now

IN A challenging business environment in the US, Infosys Technologies has managed to exceed its own revenue and earnings guidance spelt out at the time of its earnings announcement for the year-ended March 31, 2001.

Compared to the total income projections of Rs 580-590 crore, the company achieved Rs 626.01 crore for the first quarter-ended June 30, 2001. It also exceeded the earnings per share guidance of Rs 27-28 per share by notching up Rs 28.72 for the first quarter.

It is interesting to note that compared to a 1.5-3 per cent rise in the projected total income, Infosys recorded a 9.43 per cent improvement for the first quarter. Similarly, compared to a flat 2 per cent growth in per share earnings, the company registered a 4.60 per cent rise.

However, it is far more significant to note that Infosys has reiterated that the economic environment in the US continues to be challenging and in the absence of any material change in the external environment, it proposed to maintain its revenue growth forecast for 2001-02 at 30 per cent. Infosys had earlier projected revenues of Rs 2,500-2,600 crore and per share earnings of Rs 118-121. Similarly, reiterating the tech slowdown, the company has also stated that its second quarter income will be Rs 625-640 crore and the per share earnings at the first quarter levels of Rs 28-29 per share.

The earnings performance for the first quarter exhibited the following trends:

* Billing rates: According to the earnings announcement, Infosys experienced pressure on its billing rates from both its existing and new customers for the first time, especially in new large-scale offshore initiatives, As part of its revenue growth, while volumes grew 10.9 per cent, there was a price decline of 2.8 per cent over the quarter ended March 31, 2001. The signals emerging from the earnings performance of American companies are not healthy and there are signs of the contagion spreading to Europe. If the technology slowdown continues to intensify, the pressure of billing rates may exacerbate and, in turn, that may have a significant impact on the operating profit margins.

* Client concentration: The first quarter earnings announcement does not show any visible dent in the client concentration levels, though it has perked up after declining marginally in 2000-01 fourth quarter. The revenues from the top five clients inched up to 27.4 per cent in this quarter from 26.4 per cent in the fourth. Similarly, the revenues from the top 10 clients inched up to 43.7 per cent in the first quarter compared to 43.4 per cent and 42.5 per cent in the fourth and third quarters of 2000-01.

Infosys, which added 37 clients in the fourth quarter, the highest in any quarter in 2000-01, witnessed a sharp decline in client addition to 26 clients in the first quarter. Though this is in line with the addition of 26-27 clients in the second and third quarter of 2000-01, it is a cause for concern, given the deteriorating business environment both in the US and Europe.

* Utilisation rates: In the first quarter, the utilisation rates of Infosys (excluding trainees) crawled up 0.2 per cent to 73.2 per cent. The company's utilisation rate has been coming down steadily, from 77.6 per cent in the third, 80.5 per cent in the second and 85.6 per cent in the first quarter of 2000-01.

Infosys has managed to keep the operating profit margins under control (at 39.27 per cent in 2001-02 first quarter vis-a-vis 41.13 per cent in the fourth quarter of 2000-01) by enhancing the utilisation rates (including trainees) to 69.5 per cent from 64.5 per cent in the fourth quarter. But this comfort level of higher utilisation rates may no longer be available in the second quarter as Infosys hired only 116 employees in the first quarter and may peg the headcount to a manageable level in the second, if the slowdown intensifies. If that happens, it is likely that Infosys' operating margins will come under strain.

* E-commerce contribution: In its effort to reduce risks, Infosys has been consistently bringing down its exposure to e-commerce engagements. In the first quarter, e-commerce accounted for 23 per cent of total revenues compared to 25.8 per cent in the fourth quarter. Besides start-ups and venture capital assisted accounted for 5 per cent of revenues compared to 7 per cent over the same period.

In the light of the continuing uncertain environment in the US and its strong linkage to billing/utilisation rates, it may be advisable to avoid fresh exposures in the Infosys stock. However, investors with an investment horizon of over a year may hold the stock for capital appreciation in the medium term.