The Hindu Business Line : Satyam Computer: Buy

Investors with a one-year horizon may consider investing in the Satyam Computer Services stock at current price levels. They, however, need to temper their return expectations to 12-15 per cent. Strong participation in large deals, robust client addition, healthy growth expected from new service offerings such as infrastructure management and engineering services and improvement in billing rates is likely to fuel trading interest in the stock. Any acquisition moves by the company will be an additional kicker. The stock trades at a price earnings multiple of 22 times its projected 2006-07 per share earnings and 17 times likely 2007-08 earnings. Moreover, its price earnings multiple, at a 30 per cent discount to Infosys, may narrow over a period of time offering upside to the stock.

The return of vendor pricing power may be a theme that is likely to play out in favour of Satyam over the next year, after the company was dogged by the impact of salary inflation in the early part of 2006-07. The rate increases from existing and new offshoring client contracts are likely to average 2-4 per cent in 2007-08. This, along with increased offshore leverage and better control over selling, general and administrative expenses will help improve margins over the next year.

As a company that enjoys relatively lower billing rates vis-à-vis its frontline peers, billing rate increase may be higher on a relative basis. Every 1 per cent point rise in billing rate will contribute to a 0.7-0.8-percentage point increase in operating margins. This is likely to help Satyam comfortably neutralise the impact of salary inflation in 2007-08. In the third quarter of 2006-07, Satyam improved its operating profit margins by 2.05 percentage points on a sequential basis through operational efficiencies and reduced delivery costs. The principal risks to our recommendation are competitive intensity among multinational and Tier-1 Indian vendors, managing attrition, anti-outsourcing rhetoric and any sharp appreciation in the rupee.

Krishnan Thiagarajan

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