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INFOTECH ENTERPRISES
Pricing increases to aid margin improvement
Strong revenue growth continues, but margins dip
Infotech Enterprises’ (Infotech) Q3FY11 results were in line with estimates. The
company reported strong sequential revenue growth of 10% in USD terms,
clocking revenue of USD 70 mn. In INR terms, revenues, at INR 3.14 bn, rose
6.2% Q-o-Q, driven by project ramp-ups of a few non top 10 customers. EBITDA
margins, at 15.1%, declined 40bps primarily led by adverse foreign exchange
(120bps) impact. Net profit, at INR 368 mn (up 11.7% Q-o-Q) was impacted by
loss in IASI (associate company).
Pricing hikes secured, margin improvement to follow
The company was facing pricing pressure in new business. However, it has
managed to get pricing hikes of around 2-5% from its top three customers
starting January 2011. With almost one-third of the business coming from these
clients, higher pricing will result in an 100bps gain immediately at the EBITDA
level. Further, with margin levers such as utilization, productivity improvement,
and offshore-onsite mix change we believe margins in excess of 17% will be a
reality in the next two-three quarters. Also, Wellsco and Daxcon (acquired
companies) are currently operating at 3% and 6% OPM, respectively, which
have significant improvement opportunities by offshore shift.
Revenue growth profile becoming more broad based
Recent acquisitions and new deal wins have led to revenue growth being largely
contributed by non top-10 customers, leading to dependency on top-10
customers reducing to 56%. Also, with healthy growth outlook from heavy
engineering, hi-tech verticals in addition to aerospace and railroad, growth in
FY12 is likely to be broad based.
Outlook and valuations: Better times ahead; maintain ‘BUY’
Until now, rising employee and acquisition related costs were pressurising
margins in the absence of pricing improvement. This has also led to the stock
underperforming the BSE IT index by 6% in the past six months. We expect this
scenario to change with pricing hikes from top customers and the strong revenue
trajectory continuing. We have maintained our EPS of INR 15.8 and INR 19.7 for
FY12E and FY13E, respectively. At INR 172, the stock is trading at P/E of 10.9x
and 8.7x on our FY12E and FY13E earnings, respectively. The company has INR
3.8 bn of cash and equivalents. We maintain ‘BUY’ recommendation and
‘Sector Outperformer’ rating on the stock.
Key highlights
• Revenue, at INR 3.14 bn, rose 6.2% Q-o-Q and 31.3% Y-o-Y, driven by strong Q-o-
Q volume growth of 5.2% in EMI and 14.1% (7.6% due to Wellsco + 6.5% organic)
in network & content engineering (N&CE) verticals. In USD terms, revenue for the
quarter was at USD 69.9 mn, up 10.1% Q-o-Q and 36.3% Y-o-Y.
With strong growth in the organic business coupled with inorganic initiatives,
Infotech has managed to scale revenues to USD 70 mn at 7% CQGR since Q1FY10.
• EBITDA, at INR 457 mn, jumped 3.9% Q-o-Q. EBITDA margins, at 15.1%, declined
40bps on account of currency appreciation and continued high attrition.
• Net profit, at INR 368 mn, rose 11.7% Q-o-Q. Net margin for the quarter stood at
11.7% against 11.2% in Q2FY11. Higher other income and lower tax rate aided net
profit performance.
• Segmental performance: The EMI segment grew 3.2% Q-o-Q and N&CE by
13.3%, in INR terms.
Volume led growth in EMI: Growth in EMI during the current quarter was led
by volume growth of 5.2% which came on the back of 13.0% in the previous
quarter.
Momentum continues in N&CE: The segment reported a strong sequential
growth on the back of strong volume growth of 14.1% (7.6% Wellsco + 6.5%
Organic).
• Beyond Top 10 clients drive growth: Top 5 and 10 clients reported sequential
growth of 1.4% and 1.7%, respectively. However, revenues from clients beyond top
10 grew 12.6% over the previous quarter. Over the past three quarters, acquisition
and ramp up of new deal wins has led to this client segment growing ahead of top
clients
Client comments: The company added 15 new clients in the quarter—7 in N&CE and
8 in EMI. It also renewed a long-term contract (3 years) with its largest client in
N&CE, Tom Tom, with price increases starting January 2011.
Further, Infotech also signed a long-term agreement with a rail signaling company in
UK to provide signaling and inter-locking services. Among other wins, the company
was selected by CATERPILLAR EDCI to support its ongoing and new product
development activities.
• Geographical split: North America’s (N.A.) share in revenue increased for the fourth
consecutive quarter and now stands at 55.8%. N.A. and Europe grew 7.7% and
1.9%, respectively, in INR terms, whereas Asia/Australia grew 17.2% over Q2FY11.
• Employee metrics: Net employee addition stood at 261 during the quarter. EMI
made net addition of 353 employees, while the headcount declined by 176 in N&CE.
• Utilisation for N&CE and EMI segments was at 81% (75% in Q2) and 75% (73% in
Q2), respectively. Management has indicated that it intends to take the utlisation
levels to 85% and 80% in N&CE and EMI, respectively.
• Capex for the quarter was at INR 59 mn vis-a-vis INR 304 mn in Q2FY11. The target
capex for the full year is INR 700 mn-750 mn.
• Current cash and equivalents in hand stands at INR ~3.8 bn, i.e., INR 34/share as at
December 2010 end.
Company Description
Infotech is a 8,324 plus employee software services company with competencies in: (a)
GIS services (catering to utility, transportation, and government segments); (b)
engineering design services (for engineering, manufacturing, and industrial products
verticals); and (c) software services (to clients in data and technology services,
engineering design, and IT services. The company’s past twelve month revenues stood
at INR 11.0bn (USD 250 mn).
Investment Theme
Outsourcing of engineering services is expected to reach USD 38-50 bn by FY20E
compared with USD 2 bn now, as per a Nasscom-Booz Allen Hamilton study. As one of
the leading offshore engineering services firms for the manufacturing industry, Infotech
is poised to grab the increasing opportunities. The company has strong domain
knowledge and complete solution capability in the GIS segment along with healthy
pipeline of deals. The company’s skills in the areas of mapping and designing across
diverse segments and in a variety of end-user IT environments give it an edge. We
expect Infotech’s net profits (ex-forex) to grow at a CAGR of 16% each over FY10-12E.
Key Risks
Significant appreciation of INR against USD, EUR, and GBP.
Inadequate availability of skilled manpower.
Sustained slowdown in engineering services spending
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