Infosys Sustainable growth with attractive valuation April 24, 2012 Prabhudas Lilladher Pvt. Ltd. and/or its associates (the 'Firm') does and/or seeks to do business with companies covered in its research reports. As a result investors should be aware that the Firm may have a conflict of interest that could affect the objectivity of the report. Investors should consider this report as only a single factor in making their investment decision. Please refer to important disclosures and disclaimers at the end of the report Company Update Shashi Bhusan [email protected]+91-22-66322300 Pratik Shah [email protected]+91-22-66322256 Rating BUY Price Rs2,311 Target Price Rs2,940 Implied Upside 27.2% Sensex 17,097 Nifty 5,201 (Prices as on April 23, 2012) Trading data Market Cap. (Rs bn) 1,377.0 Shares o/s (m) 572.0 3M Avg. Daily value (Rs m) 4032.8 Major shareholders Promoters 16.04% Foreign 36.66% Domestic Inst. 10.71% Public & Other 36.59% Stock Performance (%) 1M 6M 12M Absolute (19.6) (15.1) (20.6) Relative (18.0) (17.0) (7.8) How we differ from Consensus EPS (Rs) PL Cons. % Diff. 2013 167.5 181.1 ‐7.5 2014 191.4 212.8 ‐10.1 Price Performance (RIC: INFY.BO, BB: INFO IN) Source: Bloomberg 0 500 1,000 1,500 2,000 2,500 3,000 3,500 Apr-11 Jun-11 Aug-11 Oct-11 Dec-11 Feb-12 Apr-12 (Rs) The knee-jerk reaction to Q4FY12 results pushed the Infosys stock to trough valuations. We believe that the current market price is factoring in most of the negative sentiments; however, it is not accounting for positives. Our “BUY” rating is based on five pillars. Weak Q4FY12 ‐ Not entirely company specific problem: Infosys’ management commentary for Q4FY12 was not entirely a company-specific problem. The cautious behaviour of client has pushed project ramp-ups across the vendors. Results from IBM and HCL Tech resonate well with Infosys’ commentary. Strong client addition – Not captured in performance: Infosys added highest number of clients among the peers over the last four quarters. However, the quarterly performance didn’t add-up to the same. We expect ramp-up of projects from the client win to result in a positive surprise. Moreover, anaemic guidance for seasonally strong Q1 has further raised doubts about back-ended growth. But, 1-2pp beat due to project ramp-up could give further upside risk to consensus expectation. Ramp ‐ down likely to be bottoming out in H1FY13: Top client’s ramp-down which troubled Infosys through H2FY11 are bottoming out. The consistent underperformance from top clients is reaching a nadir. We expect ramp-down to spill over in H1FY13. We are factoring 2% negative impact due to the same. Consensus expectation not factoring margin levers: Post Q4FY12 results consensus expectation came spiralling down by 3-4%. Moreover, consensus is factoring in margin dip despite multiple margin levers. We expect consensus upgrade post Q1FY13 results. Inexpensive valuation, retain “BUY”: Infosys is currently trading at 12.1x FY14 earnings estimates, one of the lowest valuations that the company has witnessed since Lehman crisis. We are still not able to envisage a scenario similar to that. Moreover, the delay in project ramp-up will only create projects along the sidelines, which would start once there is more clarity on macro- uncertainty. We reiterate “BUY” with a target price of Rs2,940. Key financials (Y/e March) 2011 2012 2013E 2014E Revenues (Rs m) 275,010 337,340 386,420 433,711 Growth (%) 20.9 22.7 14.5 12.2 EBITDA (Rs m) 89,640 107,160 124,780 139,119 PAT (Rs m) 68,230 83,160 95,821 109,463 EPS (Rs) 119.3 145.4 167.5 191.4 Growth (%) 8.9 21.9 15.2 14.2 Net DPS (Rs) 26.5 31.5 37.9 44.9 Profitability & Valuation 2011 2012 2013E 2014E EBITDA margin (%) 32.6 31.8 32.3 32.1 RoE (%) 27.1 27.4 25.8 24.3 RoCE (%) 26.9 27.2 25.7 24.2 EV / sales (x) 4.2 3.3 2.7 2.3 EV / EBITDA (x) 12.9 10.4 8.5 7.1 PE (x) 19.4 15.9 13.8 12.1 P / BV (x) 4.8 4.0 3.2 2.7 Net dividend yield (%) 1.1 1.4 1.6 1.9 Source: Company Data; PL Research
12
Embed
Infosys - Business Standardsmartinvestor.business-standard.com/BSCMS/PDF/info_240412.pdf · Infosys Sustainable growth with attractive valuation April 24, 2012 Prabhudas Lilladher
This document is posted to help you gain knowledge. Please leave a comment to let me know what you think about it! Share it to your friends and learn new things together.
Transcript
Infosys Sustainable growth with attractive valuation
April 24, 2012
Prabhudas Lilladher Pvt. Ltd. and/or its associates (the 'Firm') does and/or seeks to do business with companies covered in its research reports. As a result investors should be aware that the Firm may have a conflict of interest that could affect the objectivity of the report. Investors should consider this report as only a single factor in making their investment decision.
Please refer to important disclosures and disclaimers at the end of the report
The knee-jerk reaction to Q4FY12 results pushed the Infosys stock to trough valuations. We believe that the current market price is factoring in most of the negative sentiments; however, it is not accounting for positives. Our “BUY” rating is based on five pillars.
Weak Q4FY12 ‐ Not entirely company specific problem: Infosys’ management commentary for Q4FY12 was not entirely a company-specific problem. The cautious behaviour of client has pushed project ramp-ups across the vendors. Results from IBM and HCL Tech resonate well with Infosys’ commentary.
Strong client addition – Not captured in performance: Infosys added highest number of clients among the peers over the last four quarters. However, the quarterly performance didn’t add-up to the same. We expect ramp-up of projects from the client win to result in a positive surprise. Moreover, anaemic guidance for seasonally strong Q1 has further raised doubts about back-ended growth. But, 1-2pp beat due to project ramp-up could give further upside risk to consensus expectation.
Ramp ‐ down likely to be bottoming out in H1FY13: Top client’s ramp-down which troubled Infosys through H2FY11 are bottoming out. The consistent underperformance from top clients is reaching a nadir. We expect ramp-down to spill over in H1FY13. We are factoring 2% negative impact due to the same.
Consensus expectation not factoring margin levers: Post Q4FY12 results consensus expectation came spiralling down by 3-4%. Moreover, consensus is factoring in margin dip despite multiple margin levers. We expect consensus upgrade post Q1FY13 results.
Inexpensive valuation, retain “BUY”: Infosys is currently trading at 12.1x FY14 earnings estimates, one of the lowest valuations that the company has witnessed since Lehman crisis. We are still not able to envisage a scenario similar to that. Moreover, the delay in project ramp-up will only create projects along the sidelines, which would start once there is more clarity on macro-uncertainty. We reiterate “BUY” with a target price of Rs2,940.
Key financials (Y/e March) 2011 2012 2013E 2014E
Revenues (Rs m) 275,010 337,340 386,420 433,711
Growth (%) 20.9 22.7 14.5 12.2
EBITDA (Rs m) 89,640 107,160 124,780 139,119
PAT (Rs m) 68,230 83,160 95,821 109,463
EPS (Rs) 119.3 145.4 167.5 191.4
Growth (%) 8.9 21.9 15.2 14.2
Net DPS (Rs) 26.5 31.5 37.9 44.9
Profitability & Valuation 2011 2012 2013E 2014E
EBITDA margin (%) 32.6 31.8 32.3 32.1
RoE (%) 27.1 27.4 25.8 24.3
RoCE (%) 26.9 27.2 25.7 24.2
EV / sales (x) 4.2 3.3 2.7 2.3
EV / EBITDA (x) 12.9 10.4 8.5 7.1
PE (x) 19.4 15.9 13.8 12.1
P / BV (x) 4.8 4.0 3.2 2.7
Net dividend yield (%) 1.1 1.4 1.6 1.9
Source: Company Data; PL Research
April 24, 2012 2
Infosys
Q4FY12 weakness – not entirely a company‐specific problem
The recent results from technology majors like IBM, Intel, SAP and EMC clearly indicated that the problem cited by Infosys’ management is not specific to the company. The commentary from the management of global technology majors are at unison to Infosys’ citation. The reasons cited by tech‐giants were different from each other, but the underlying weak demand was evident in the result.
IBM: The growth momentum of Global Services and Software sales have slowed sharply in Q1CY12 (JFM-12) results for IBM. Moreover, North America and Europe (-2.6% YoY, 1% @cc) also moderated in terms of momentum. According to IBM’s management “…Europe on balance looks stable, with growth from UK, Germany, Spain, and weakness in France and Italy…“. IBM’s backlog declined 2% YoY (-1% YoY @cc) and ended the quarter at US$139bn. Outsourcing backlog was also down 4% YoY.
Exhibit 1: IBM (YoY Growth): Momentum slowing down significantly
-20%
-10%
0%
10%
20%
Q1C
Y09
Q2C
Y09
Q3C
Y09
Q4C
Y09
Q1C
Y10
Q2C
Y10
Q3C
Y10
Q4C
Y10
Q1C
Y11
Q2C
Y11
Q3C
Y11
Q4C
Y11
Q1C
Y12
North America Europe Global Services Software
Source: Company Data, PL Research
Intel: Intel reported Q1CY12 results better than expected, with revenue at US$12.91bn (Cons.: US$12.84bn, Guidance: US$12.3-13.3bn). Despite the reduced level of inventory as cited by the management, the guidance for the next quarter at US$13.1-14.1bn (Cons.:$13.5bn) was largely in-line with the consensus. According to Stacy Smith (CFO), “…guidance for Q2 just include end demand…it's anticipation of a good Q4, where you have lots of catalysts in the marketplace that we think are driving a reasonable amount of excitement for how sales could go at the end of this year…”
SAP: SAP reported Q1CY12 license/SSRS/total revenue at €637m/ €2.63bn/ €3.36bn against the consensus at €693m/ €2.66m/ €3.40bn with a growth of 4%/ 10%/ 10.5% YoY, respectively. The weaker-than-expected performance was attributed to issues in North America, and some European markets (incl. UK and France) are off to a weaker start.
April 24, 2012 3
Infosys
EMC: EMC reported results touch below analyst expectation. According Mr. Joe Tucci (CEO) “In Q1, we saw IT spending in our business unfold pretty much as we expected and predicted. Overall IT spending growth was fairly good in the Americas and APJ. In Europe, I believe that overall IT spending growth was at best flat. …looking at Q1 year over year IT spending growth from a vertical industry point of view, we saw some softness in the banking sector; average growth in retail, manufacturing, telecom and information technology verticals; good growth in insurance, government, healthcare, education and media.”
Microsoft: Microsoft managed to buck the trend by delivering better-than-expected numbers. The better-than-expected performance on Servers & Tools and Enterprise Sales of PC, gave a ray of hope that it’s not all dried out in terms of tech investment.
Expectation running low – scope of outperformance high
The consensus downgraded the expectation for FY13 and FY14, post result, by 3-5%. Currently, the consensus expectation has been moderated to 12% growth for EPS for FY13 despite 8-10% volume growth guidance.
Sales (Rs m) 397,245 453,168 384,844 431,265 -3.1% -4.8%
EBITDA (Rs m) 125,507 139,414 121,260 132,944 -3.4% -4.6%
Margin 31.6% 30.8% 31.5% 30.8% ‐9 bps 6 bps
EPS (Rs) 169.1 191.0 163.0 181.1 -3.6% -5.2%
Source: Bloomberg, PL Research
Despite flip-flop at revenue guidance, Infosys’ ability to guide for EPS has only improved. The beat post FY08 crisis has been more consistent and magnified.
Exhibit 3: EPS Guidance outperformance – More consistent post crisis
The consensus is factoring in flattish margin for the company in FY13 despite having multiple margin tailwinds like lowest utilization, limited impact of wage inflation and currency depreciation.
Exhibit 4: Utilization (excl. trainees): 5‐7pp lower than peers
73.0%
81.0%
77.0%
79.0%
70%
74%
78%
82%
Infosys TCS Wipro HCL Tech
Source: Company Data, PL Research, TCS & Wipro: PLe
Exhibit 5: Utilization (incl. trainees): To withstand attrition pressure
67.2%
73.0%72.5% 72.2%
66%
68%
70%
72%
74%
Infosys TCS Wipro HCL Tech
Source: Company Data, PL Research, TCS & Wipro: PLe
Subdued wage hike can only aid to margin
The wage-hike for FY13 has been deferred. However, the company has handed over promotions to ~16k professionals (10% of total workforce) and wage hike related to that. We are not ruling out wage hike completely during the year. Nevertheless, the wage hike for the sector is expected to be in low-to-mid single digit (2-5%). We are factoring in impact of wage hike as 100bps in our model.
Exhibit 6: Wage hike for this year is going to be lowest in the recent years
FY09‐10* FY10‐11 FY11‐12
Wage HikeOffshore:~8%,
Onsite: 2% Offshore:~14%,
Onsite: 2-3% Offshore:10-12%,
Onsite: 2-3%
Impact ~200bps ~180bps ~300bps
Source: Company Data, PL Research, *wage hike in Q3FY10
Attrition unlikely to shoot‐up like FY10
Deferred wage hike, sudden spike in volumes and weak bench-strength in FY10 resulted in sudden surge in attrition. However, benign growth, stronger trainees’ pipeline and stretch margin levers are unlikely to push for the musical chair game of talent. We see limited scope of higher attrition in FY13.
April 24, 2012 5
Infosys
Exhibit 7: Attrition (Annualized): Unlikely to have déjà‐vu experience in FY13
7%
12%
17%
22%
27%
Q2F
Y07
Q3F
Y07
Q4F
Y07
Q1F
Y08
Q2F
Y08
Q3F
Y08
Q4F
Y08
Q1F
Y09
Q2F
Y09
Q3F
Y09
Q4F
Y09
Q1F
Y10
Q2F
Y10
Q3F
Y10
Q4F
Y10
Q1F
Y11
Q2F
Y11
Q3F
Y11
Q4F
Y11
Q1F
Y12
Q2F
Y12
Q3F
Y12
Q4F
Y12
Infosys TCS Wipro HCL Tech
Source: Company Data, PL Research
Exhibit 8: QoQ volume momentum in H2FY10 taken everyone by surprise
-4%
2%
8%
14%
Q1F
Y09
Q2F
Y09
Q3F
Y09
Q4F
Y09
Q1F
Y10
Q2F
Y10
Q3F
Y10
Q4F
Y10
Q1F
Y11
Q2F
Y11
Q3F
Y11
Q4F
Y11
Q1F
Y12
Q2F
Y12
Q3F
Y12
Q4F
Y12
Infosys TCS Wipro HCL Tech
Source: Company Data, PL Research
Exhibit 9: Utilization (incl. Trainees): Preparedness of the companies are relatively better than what it was post
67.3%
73.6%
78.2%
76.0%
68.8%
77.2%
80.7%
76.4%
69.3%
74.3%
79.3%
76.2%
67.2%
73.0% 72.5% 72.2%
65%
69%
73%
77%
81%
Infosys TCS Wipro HCL Tech
Q2FY10 Q3FY10 Q4FY10 Q4FY12*
Source: Company Data, PL Research, * PLe: Wipro and TCS
April 24, 2012 6
Infosys
Ramp‐down bottoming–out in Q1FY13
Infosys’ trouble with top 20 clients is very evident in their quarterly performance and had a bearing on their guidance misses over the last 5-6 quarters. Top clients for Infosys have consistently underperformed the overall revenue growth over last 8 quarters. Top clients, despite change from BT to BAML, have consistently underperformed overall growth. Moreover, few insurance clients are still in the process of ramping-down. However, we expect Q1FY13 to have a pinnacle of the ramp-down impact.
Exhibit 10: Few BFSI clients in Top 10 brackets may not have bottomed out in Q4FY12
-9%
-1%
7%
15%Q
2FY1
0
Q3F
Y10
Q4F
Y10
Q1F
Y11
Q2F
Y11
Q3F
Y11
Q4F
Y11
Q1F
Y12
Q2F
Y12
Q3F
Y12
Q4F
Y12
Revenue Growth Top Client 2-5 Clients 6-10 Clients
Source: Company Data, PL Research
The company has witnessed ~$500m (~7% of revenue) ramp-down over the last six quarters from top 10 clients. Despite such a sharp ramp-down by some of the top clients, Infosys managed to grow their volumes by ~10.8% YoY for FY12. However, Tier-1 peers have delivered high-teen growth.
Source: Company Data, PL Research, TCS & Wipro – Ple, HCLT – Taken March year end
Clients like BT is now creating trouble for IT vendors who won at the cost of Infosys.
April 24, 2012 7
Infosys
Strong client addition still not captured in performance
We are cognizant of the fact that ramp-down from key Financial Services and Insurance clients have yielded negative surprise in the quarter. We are factoring 1‐2% negative impact because of spill‐over of those ramp‐downs in Q1FY13. However, a seasonally strong quarter would be accompanied by project ramp-ups offsetting much of those.
Q1 – Seasonally strong quarter has always sprung a positive surprise
The weakest performance by Infosys in Q1 was in FY09 & FY10, when the company managed to grow only 1.1% and 0.1% QoQ, respectively. We expect current guidance of 0-1% for Q1FY13 is factoring in ramp-down impact of ~2%. We expect narrow beat in Q1FY13, however, mid-single digit growth for Q2FY13.
Exhibit 12: Narrowest beat was FY11 & FY12, weakest performance was FY09 & FY10
11.7%11.4%
7.9%
10.6%
4.6%
11.3%
7.5%
1.1%
0.1%
4.8% 4.3%6.0%
10.0%
5.6%6.6%
3.3%
5.0%
2.7%
1.0%
4.6%
1.8% 1.2%
0%
4%
8%
12%
Q1F
Y02
Q1F
Y03
Q1F
Y04
Q1F
Y05
Q1F
Y06
Q1F
Y07
Q1F
Y08
Q1F
Y09
Q1F
Y10
Q1F
Y11
Q1F
Y12
QoQ Growth Outperformance (mid-range)
Source: Company Data, PL Research
Strong client addition still not captured in growth
Client addition and net new client addition has been really strong compared to its peers. We do understand that most of these clients are added towards the smaller buckets. The management cited two reasons for delayed ramp-up for the company
Macro uncertainty and weaker-than-expected performance of clients (revenue) are resulting in delay of these project ramp-up
Delay in regulatory deadline has pushed-out the urgency further in FY13 for some these clients to abide by the new framework
However, strong client win definitely does not put the strategy of the company at question. We believe the company’s ability to win new client still remains among the best in the industry.
April 24, 2012 8
Infosys
Exhibit 13: Strong client addition compared to peers
45
35
44
66
49
40 39
5752 52
30
40
50
60
70
Infosys TCS Wipro HCL Tech
Q2FY12 Q3FY12 Q4FY12
Source: Company Data, PL Research
Exhibit 14: Net client addition is even better among peers
19 20
-7
1318
-7
23
36
29
0
-10
0
10
20
30
40
Infosys TCS Wipro HCL Tech
Q2FY12 Q3FY12 Q4FY12
Source: Company Data, PL Research
How we differ from the consensus
We still believe that consensus is not factoring in the possibility of strong margin performance despite weaker volume performance. We are factoring in 10% volume growth, 4% impact due to currency, 5% increase in utilization, -0.5% impact due to S&M investment and -2% impacts because of realization
Exhibit 15: Water‐fall impact on EPS of FY13 due to various factors
145.30
145.30
159.83
170.80
180.99
167.40
167.40
14.53
10.97
13.59 -3.40 -13.59
140
150
160
170
180
190
FY12 Volume Currency Utilization & Pyramid
S&M Inv. Realization FY13
Source: Company Data, PL Research
Exhibit 16: Consensus is more bearish on margin
Consensus PLe Variance
FY13 FY14 FY13 FY14 FY13 FY14
Sales (Rs m) 384,844 431,265 386,420 433,711 0.4% 0.6%
EBITDA (Rs m) 121,260 132,944 124,780 139,119 2.9% 4.6%
Margin (%) 31.5% 30.8% 32.3% 32.1% 78 bps 125 bps
EPS (Rs) 163.0 181.1 167.7 190.0 2.9% 4.9%
Source: Company Data, Bloomberg, PL Research
April 24, 2012 9
Infosys
Best cash conversion among peers
Infosys’ ability to generate cash remains best among the peers. The bigger question, however, remains about the cash usage. The company’s strategy of conservative stance in M&A can be analyzed in conjunction with the success of other M&A in the industry.
We remain less confident about the success of large M&A; however, ‘string‐of‐pearls’ strategy may work well for Infosys. The smaller acquisition like McCammish and Portland have added competencies but failed to make any material difference to EPS. We believe that Infosys needs to eye for more opportunities of similar size in order to boost their performance.
Exhibit 17: FCF/EBITDA: lesser volatility and better than peer performance
0%
25%
50%
75%
100%
Q1F
Y07
Q2F
Y07
Q3F
Y07
Q4F
Y07
Q1F
Y08
Q2F
Y08
Q3F
Y08
Q4F
Y08
Q1F
Y09
Q2F
Y09
Q3F
Y09
Q4F
Y09
Q1F
Y10
Q2F
Y10
Q3F
Y10
Q4F
Y10
Q1F
Y11
Q2F
Y11
Q3F
Y11
Q4F
Y11
Q1F
Y12
Q2F
Y12
Q3F
Y12
Q4F
Y12
Infosys TCS Wipro
Source: Company Data, PL Research
Exhibit 18: Op. Cashflows/EBITDA: Cash conversion never in question
20%
40%
60%
80%
100%
120%
Q1F
Y07
Q2F
Y07
Q3F
Y07
Q4F
Y07
Q1F
Y08
Q2F
Y08
Q3F
Y08
Q4F
Y08
Q1F
Y09
Q2F
Y09
Q3F
Y09
Q4F
Y09
Q1F
Y10
Q2F
Y10
Q3F
Y10
Q4F
Y10
Q1F
Y11
Q2F
Y11
Q3F
Y11
Q4F
Y11
Q1F
Y12
Q2F
Y12
Q3F
Y12
Q4F
Y12
Infosys TCS Wipro
Source: Company Data, PL Research
April 24, 2012 10
Infosys
Inexpensive valuation – Make compulsive case for a BUY
Infosys is currently trading at the cheapest valuation since Lehman crisis. Infosys is not an expensive technology stock on a relative basis. The shares are trading at a 13x FY14e earnings estimates, a 10-20% discount to Wipro and TCS. Given that we think it has 14% earnings CAGR and sustainable growth prospects, we do not believe this discount is warranted. Infosys now has traded at a discount to TCS for sustainable period, which is going to see margin pressure in the near term and discount with Wipro, whose recovery is already in the price.
3rd Floor, Sadhana House, 570, P. B. Marg, Worli, Mumbai-400 018, India
Tel: (91 22) 6632 2222 Fax: (91 22) 6632 2209
Rating Distribution of Research Coverage
19.6%
55.4%
23.6%
1.4%0%
10%
20%
30%
40%
50%
60%
BUY Accumulate Reduce Sell
% of Total Coverage
PL’s Recommendation Nomenclature
BUY : Over 15% Outperformance to Sensex over 12-months Accumulate : Outperformance to Sensex over 12-months
Reduce : Underperformance to Sensex over 12-months Sell : Over 15% underperformance to Sensex over 12-months
Trading Buy : Over 10% absolute upside in 1-month Trading Sell : Over 10% absolute decline in 1-month
Not Rated (NR) : No specific call on the stock Under Review (UR) : Rating likely to change shortly
This document has been prepared by the Research Division of Prabhudas Lilladher Pvt. Ltd. Mumbai, India (PL) and is meant for use by the recipient only as
information and is not for circulation. This document is not to be reported or copied or made available to others without prior permission of PL. It should not be
considered or taken as an offer to sell or a solicitation to buy or sell any security.
The information contained in this report has been obtained from sources that are considered to be reliable. However, PL has not independently verified the accuracy
or completeness of the same. Neither PL nor any of its affiliates, its directors or its employees accept any responsibility of whatsoever nature for the information,
statements and opinion given, made available or expressed herein or for any omission therein.
Recipients of this report should be aware that past performance is not necessarily a guide to future performance and value of investments can go down as well. The
suitability or otherwise of any investments will depend upon the recipient's particular circumstances and, in case of doubt, advice should be sought from an
independent expert/advisor.
Either PL or its affiliates or its directors or its employees or its representatives or its clients or their relatives may have position(s), make market, act as principal or
engage in transactions of securities of companies referred to in this report and they may have used the research material prior to publication.
We may from time to time solicit or perform investment banking or other services for any company mentioned in this document.