Angel Broking has maintained buy recommendation on Infosys Technologies with a 12-month target price of Rs 2,220, revised downwards by nearly 5%.

Performance Highlights

Q4FY2007 :

For Infosys, Q1FY2008 was a virtual repeat of Q4FY2007 in terms of the company witnessing strong volume growth and an up-tick in pricing on the positive side, but with a strong Rupee on the negative side. Topline for the quarter was flat, recording a rise of just Rs 10 million to Rs37.73 billion. This was the case, even as volumes grew at an impressive 7.0% qoq (6.3% qoq onsite, 7.2% qoq offshore) and blended billing rates rose by 1.0% qoq (1.4% qoq onsite, 1.0% qoq offshore). Consequently, revenues in Dollar terms (IT Services) grew at an impressive 8.1% qoq. The Rupee appreciation impacted Topline adversely by Rs 2.87 billion. Assuming there was no impact, Topline growth in Rupee terms would have been 7.6% qoq. On a yoy basis, Rupee revenues witnessed a 25.1% growth.

Rupee movements, salary hikes and visa costs hammer Margins:

During Q1FY2008, Infosys recorded a significant 300bp fall in EBITDA Margins. An appreciating Rupee, as also salary hikes and higher visa costs combined impacted this variable. Employee costs, as a percentage of sales, rose to 54.4% (51.0% in Q4FY2007), while Overseas travel expenses rose to 4.7% of sales (3.9% in Q4FY2007). Thus, Development expenses rose to 57.5% of sales (53.6% in Q4FY2007). Scale benefits through lower SG&A costs provided some relief, reducing to 13.7% of sales this quarter, including employee costs (14.7% in Q4FY2007).

Other Income rockets up, enabling marginal growth in Bottomline:

Infosys recorded a marginal 0.8% qoq rise in its Bottomline this quarter, to Rs 10.28 billion (excluding extraordinary items) despite the EBITDA Margin contraction. This was mainly on account of significantly higher other income (up 112.6% qoq). Forex gains amounted to Rs 680 million (Rs 50 million loss in Q4FY2007).

Robust trend in volume growth, pricing continues

During Q1FY2008, Infosys recorded impressive volume growth of 7.0% qoq, including 6.3% qoq onsite and 7.2% qoq offshore volume growth. On a yoy basis, onsite volumes witnessed a 30.2% growth, while offshore volumes grew by 33.3% yoy. This signifies continuing strength in the business environment for offshoring. Dollar revenues (IT Services) witnessed an impressive 8.1% qoq growth (7.8% qoq onsite, 8.4% qoq offshore), while yoy, the growth was an outstanding 39.6% (38.9% yoy onsite, 40.4% yoy offshore), indicating no let-up whatsoever in core business volumes.

Adds gross 7,004 employees in Q1, to add 26,000 in FY2008, attrition at 13.7%

Infosys added a gross of over 7,000 employees during the quarter, while on a net basis, the figure was 3,730. The company plans to add a gross 26,000 employees for the fiscal, including over 10,000 employees in Q2FY2008. The attrition rate for Infosys, on a trailing 12-month (TTM) basis, stood at 13.7%, the same level as in Q4FY2007.

Raises forex hedges to USD 925 million

Infosys has increased its forex hedges to USD 925 million from USD 470 million at the end of FY2007 on account of the strong appreciation seen in the Rupee. This was necessary, given the pressure on realisations that the company has seen in recent times due to currency fluctuations.

Hikes offshore salaries by 12-15%, onsite salaries by 6%

As has been customary for Infosys in Q1 of each fiscal year, the company raised salaries by 12-15% for its offshore staff and by 6% for its onsite staff. This was one of the factors that pressurised EBITDA Margins in the quarter, with employee costs as a percentage of sales increasing to 54.4% (51.0% last quarter). Visa expenses (Overseas travel expenses) also increased to 4.7% of sales, vis-à-vis 3.9% in Q4FY2007.

Client data continues to impress

Infosys’ client mining abilities continue to impress. The number of clients in the USD 1 million-plus revenue basket now stands at 285 (275 in Q4FY2007, 221 in Q1FY2008). As many as eight clients now give the company annual revenues in excess of USD 80 million compared to just four at the end of FY2007 and three at the end of Q1FY2007. This is a clear indication that Infosys’ impressive client mining continues and the steady expansion of its service lines is helping it successfully get a greater share of its clients’ IT budgets. The company added a gross of 35 clients during the quarter and its active client base now stands at 509.

Outlook and Valuation

Infosys under-performed our Topline estimates for Q1FY2008 by 2.1%, while on the Bottomline front, there has been an out-performance to the tune of 1.3% (excluding extraordinary items). On the EBITDA Margin front, the company’s margins were in line with our estimates at 28.7%. We believe that the business momentum for offshoring remains strong. Major operating metrics such as strong volume growth, upward billing rate trends and expansion of service lines have continued to play out this quarter as well. This is also borne out by the fact that Infosys has raised its Dollar revenue guidance for FY2008 by around 1%, even as the Rupee guidance has been revised downwards. Thus, even as this quarter has been difficult for Infosys (the second successive quarter when the company has missed its guidance) and is likely to be so for the other top-tier software companies as well, over the longer term, we believe that the story remains intact. We expect Infosys to record a 26.1% CAGR growth in Topline over FY2007-09E, while Bottomline is expected to record a 19.4% CAGR growth in the mentioned period. EBITDA Margins, on the other hand, are expected to steadily decline over the period to hit 29.0% vis-à-vis 31.6% in FY2007. We have downgraded our Topline projections for FY2008 and FY2009 by a significant 10.2% and 8.6% respectively, on account of a lower Rupee rate taken for our forward numbers (Rs40.50 for FY2008, Rs39.80 for FY2009). The EPS has been downgraded by 5.0% for FY2008 and by 7.4% for FY2009. On the EBITDA Margin front as well, our revised margin picture factors in 100-150bp decline from our original estimates. At the CMP of Rs 1,930, the stock trades at 20.0x FY2009E EPS. We maintain our Buy recommendation on the stock with a 12-month Target Price of Rs 2,220, revised downwards by nearly 5%.