The Hindu Business Line : Wipro: Pare exposures

At the current market price, investors may consider cutting exposures in the Wipro stock. The valuation of the software services sector continues to remain in a state of churn and may take at least one more quarter to reach a steady state.

In the first quarter of 2003-04, Wipro Technologies, the Global IT Services and Products division accounted for 77 per of the revenues of the diversified Wipro and 87 per cent of its profit before interest and tax (PBIT). Announcing the earnings performance, the Wipro management has indicated that future growth will continue to be volume-led and pricing pressures will dog the sector, though its intensity may be somewhat muted.

After witnessing nearly seven successive quarters of decline in operating margins, Wipro has finally indicated that its margins may perk up in the second quarter ended September 30, 2003, subject to the rupee appreciation.

For the first time, the company presented the consolidated financial performance of Wipro Technologies (including Wipro HealthSciences) with IT enabled services (or Wipro Spectramind). In the latest quarter, the consolidated revenues of Wipro Technologies stood at Rs 913.8 crore and the performance of this quarter was not strictly comparable on a sequential (quarter-on-quarter) basis. On a consolidated basis, it has projected revenues of $210 million in the second quarter of 2003-04, up from $188 million projected for the first quarter.

Clearly, Wipro Technologies faces the pressure of managing three key challenges:

Arresting margin declines: In 2003-04 first quarter, Wipro Technologies recorded a sharp 2.4 per cent decline in PBIT margins on a sequential basis and 8.7 per cent on a year-on-year basis. The PBIT margin at the end of this quarter stood at 22.2 per cent, a pale reflection compared to the 34.3 per cent recorded at the end of December 31, 2001. In the latest quarter, the margins dipped on account of pricing pressure (both offshore and onsite) and higher sales, general and administrative costs offset to some extent by higher manpower utilisation. The management expects to register a slight improvement in PBIT margins in the second quarter by enhancing the offshore contribution, improving manpower utilisation and engaging in prudent cost management.

Pricing pressure: Wipro Technologies witnessed 1.4 per cent decline in offshore price realisation and 2.6 per cent in onsite realisation in 2003-04 first quarter. Mercifully, this decline was not as severe on a sequential basis, but the management has conceded that neither has the pricing pressure disappeared altogether. It has indicated that renegotiation of contracts has not stopped, though it has not been as bad as in the past.

The pricing pressure will continue to exercise its influence on realisations at least in the second quarter of this financial year. Having stepped up its sales and marketing spend over the last four quarters, Wipro Technologies aims to concentrate on volume-led growth in the coming quarters. And to mitigate pricing pressures, it also plans to enhance the contribution of the Technology R&D business (say, from telecom equipment manufacturers or engineering), which has looked up in recent times.

Up the chain through acquisitions: The contribution from the acquisitions portfolio of Wipro presents a mixed picture. The global energy and utilities practice of American Management Systems Inc., which was integrated with Wipro Technologies in 2002-03 fourth quarter, has already turned in profits in the first quarter of 2003-04. In the fourth quarter, Wipro Technologies' performance included a loss of Rs 7.3 crore incurred by AMS Inc.

This has been replaced in the latest quarter by another acquisition of Nervewire Inc, operating in the financial services domain. Rechristened Wipro Nervewire, this acquisition completed in May 2003 contributed to loss before interest and tax of Rs 10.5 crore in Wipro's books on revenues of Rs 11.9 crore.

Since the client ramp-ups have been slower in the financial services domain, Wipro's management has indicated that this acquisition may take longer to turn into profits.

Though these acquisitions have helped Wipro Technologies move up the software value chain, they have also exposed it to integration and financial risks. Wipro's return on capital employed has dropped sharply on account of these acquisitions, Unless the operating profit margin start staging an appreciable improvement, these acquisitions may impact the future cash flows of the company.

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