Jan 13, 2017 12:43 PM IST | Source: CNBC-TV18

Margins, financial services biz big positives from Infosys: Pro

Girish Pai, head of research at Nirmal Bang Institutional Equities said that the guidance revision is a definite positive in the short-term. However, he is more worried for medium and long-term growth on both structural and cyclical parameters.

Infosys reported a 2.8 percent profit growth sequentially at Rs 3,708 crore while its revenue fell 0.2 percent to Rs 17,273 crore in the third quarter of FY17. Dollar revenue for the company declined 1.4 percent to USD 2,531 crore compared to previous quarter.

Infosys has revised its full year revenue guidance to 8.4-8.8 percent from 8-9 percent in constant currency.

Girish Pai, Head of Research at Nirmal Bang Institutional Equities, said that the guidance revision is a definite positive in the short-term. However, he is more worried for medium and long-term growth on both structural and cyclical parameters.

Margins, too, will be a big worry, he said, adding that changes in the H1B visa hike could lead to 100-350 basis points margin cut for the IT companies.

The company’s operating margin in Q3 exceeded expectations at 25.1 percent, up 0.2 percent. Net margin expanded 0.6 percent to 21.5 percent on sequential basis.

Moshe Katri, MD of Wedbush Securities said that margins and performance in the financial services are the big positives from Infosys.

Infosys tightening its guidance for the ongoing fiscal was on expected lines. Moshe is neutral on the company.

Below is the verbatim transcript of Girish Pai and Moshe Katri's interview to Sonia Shenoy & Anuj Singhal on CNBC-TV18.

Anuj: Your thoughts on the first numbers from Infosys and more importantly the guidance?

Pai: The numbers have been definitely better than what I was anticipating. Obviously, the topline is probably a tad below consensus expectations, but definitely above my numbers. Raising the guidance is definitely a big positive at least in the very short-term, but I am more worried from a medium-term to longer term perspective. I have been cautious on this sector for a couple of years now.

My worry has been both structural and cyclical and I think the big worry going into the next couple of years is going to be on margins. This quarter, they have delivered better than expected margins, in fact there has been a margin improvement quarter-on-quarter which was not expected by the street and by me. So, we will watch out for that.

The key thing to watch out on the margin front is H1B visa related, salary hike that is gone come through. If the legislation that is there in the US Congress goes through, I think there could be anywhere between 100-300 basis points kind of cut coming through for the company under our coverage amongst the top 6 companies or so.

Sonia: Come in on couple of these internals what stands out for you and how would you read into it as a whole?

Pai: The financial services vertical declining was expected because we had Royal Bank of Scotland (RBS) contract ramping down. Also they had indicated that beyond RBS there were couple of other clients which would face issues in the second half of FY17. That is broadly playing out. The dollar, since you have corrected the dollar revenue guidance that is the kind of believable number. Quarter four, what is estimated seems to be probably inline with what most of people on street were anticipating.

Anuj: Your thoughts on Infosys' numbers, guidance and the market reaction?

Katri: It supposed to be a muted quarter across the board, not huge surprises. They tightened the range, which was expected, on top of that revenues were a bit soft. The two big surprises were margins and financial services that did better than the rest of the business in constant currency and this is despite the Royal Bank of Scotland (RBS) loss. This is the only vertical that in constant currency was up sequentially and that goes back to what TCS had to say this morning about the financial services vertical.

So net-net, not a huge surprise, some of these names rallied into the print and they are sitting here, waiting to get a better feel with what management have to say about the outlook, the budget, directionally where we are going to go into FY18 or calendar year 2017, if you will.

Latha: What will you anticipate from the United States for both these stocks? Would you worry about margins getting trimmed because of higher visa charges or hire more talent locally or do you think that will be countered by deregulation of banks and therefore more business from them?

Katri: You are talking about a bunch of different things, you have the pending regulation, we are talking about H1B visa regulations, the border tax bill - that's another thing that people talk about and also what happens in the budget especially on the financial services vertical side of the business.

Our survey that was released recently, suggested that we will see an uptick in spending in financial services in calendar year 2017 and this is the first time we are seeing any sort of uptick in this vertical about three years. So that will be a positive and that goes back to TCS' commentary about spending by banks.

Our belief about the pending regulation, there will be something going on with the new administration, but we are assuming that you will see visa application fees continue to grow up, you will probably continue to see the minimum wage for H1B visa employees going up as well, net-net we continue to believe that these are all trends or matrix that will be absorbed and manageable for the space.

Sonia: There is a wildcard with N Chandra moving out and new people at the helm of TCS. How do you see all of this play out and do you think the premium that TCS enjoys over Infosys could be eroded over the near term?

Katri: I think it is all about topline growth and if TCS delivers this year, I am talking about FY18, the way I see it, IT services as a sector has extremely negative sentiment, valuations are relatively very reasonable, they are kind of depressed on relative basis and if we are going to see an uptick in spending in financial services this year. I think it's going to do well this year.

Sonia: What would you prefer between Infosys and TCS?

Katri: We do not cover TCS. We have a neutral rating on Infosys. We recently upgraded our rating on the companies that have the largest financial services exposure and that include Cognizant Technology Solutions.

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