Infosys Q4FY10 results confirm the fact that the company continues to comfortably exceed its guidance on a routine basis. The current quarter was no different with revenue growth of 5.2% in US dollar terms (vis-?-vis 4.5% expectation) primarily driven by volumes, despite a pricing decline of 70bps (constant currency). The EBITDA margin decline of 1.5% was, however, higher than expected due to currency headwinds and the salary hike impact. While net profits in reported terms were in line with expectations, they included a Rs 480 million of gain from sale of shares of OnMobile Systems, excluding which net profits were flat Q-o-Q (2.6% below estimates).
Nevertheless, client additions (47) have been among the strongest in recent quarters and the company has mined clients well. The client mining data suggests impressive migration of clients towards more than US $50 million range (four new). The company has among the best client mining skills with more farmers than hunters, and this is likely showing up in the metrics as clients become more liberal on budget utilisation. Further, last year the company also added ~200 sales personnel to increase new account opening and better account mining, which is also seeing traction.
Edelweiss observes that demand continues to be strong with Europe making a comeback. Clearly, what is emerging is that the rebound in volumes is not restricted to only the BFSI space, but manufacturing and retail verticals are also firming up. Infosys did validate our view that clients are now spending not only on cost takeouts, but are also investing in business focusing on revenue strategies. Also, the Europe geography made a strong comeback with 12% Q-o-Q growth (constant currency), with an optimistic management outlook on prospects in Continental Europe.
The higher employee intake (30,000) and the aggressive salary hikes (14% offshore) were the result of increased attrition and correction in mid-level salaries (planned increase of 13-17%). Also, for the past three quarters Infosys has been hiring more laterals within the overall mix. Infosys stated that it will hire 30,000 for FY11E to enable it to take advantage of opportunities arising in FY11. However, we would like to highlight that gross hiring, per se, is not the best indicator of business traction since it depends on: (a) attrition to counter which firms hire additionally; and (b) current utilisation levels (firms with peak utilisation levels need to hire versus those with slackness). Though we see attrition as the key reason for higher gross addition in Q4, we believe it is unlikely to have any material impact. To counter attrition, the management has also announced aggressive wage hikes of 14% offshore and 2-3% onsite.
Edelweiss says the revenue growth guidance of 16-18% in US dollar terms for FY11 is encouraging, though the EPS guidance at Rs 107-111 is too conservative. Although the company factors in pressure on margins due to the exchange rate and higher tax, it expects the EPS to be gradually upgraded through FY11. It perceives utilisation (currently – 69%) and output-based revenues as margin aiding levers.
Edelweiss says the valuations price in the upside to the guidance and maintains a ?Hold? recommendation on the stock. It says while business recovery remains strong across major verticals and geographies, it continues to see the appreciating rupee as the primary concern for the sector. Its EPS estimates at Rs 122 for 2010-11 and Rs 142 for 2011-12 remain unchanged. Edelweiss sees valuations at a P/E multiple of 23x 2010-11 (estimated) and 20x 2011-12 (estimated), capturing in much of the expected upsides to guidance. On a relative return basis, the stock is rated ?Sector Underperformer?.
