Need stability on management side of Infy biz: Moshe Katri

Commenting on IT major’s dismal performance in the June-September quarter, Moshe Katri, MD, Cowen & Co, New York said it was yet another light quarter in terms of revenues, margins and guidance reset.

“I do not know exactly which inning we are at right now. But it seems that there is more to go in terms of turmoil, especially at a time when there are more competitive challenges for the company in the industry,” he said.

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Below is the verbatim transcript of the interview

Q: The street seems to be quite disappointed with the lowering of the dollar guidance and the kind of margin performance Infosys has turned in. Are you disappointed?

A: It was a disappointing, another light quarter in terms of revenues, margins and guidance reset. What is interesting are a couple of things that did happen throughout the quarter; we did hear from numerous senior managers from Infosys that the company is seeing signs of stabilization. The company that hosts a number of sell side conference calls during the quarter, this is a signal the company is sending out. On top of that, you would have had a pretty nice recovery on the stock, I am not surprised that the stock is down 8 per cent. The stock trading roughly about 15 times earnings is not cheap. Also, there was an announcement that Balakrishnan is being reassigned and you still do not get a feeling that the turmoil at Infosys is over.

I do not know exactly which inning we are at right now. But it seems that there is more to go in terms of turmoil, especially at a time where there are more competitive challenges for the company in the industry.

If you look at the numbers specifically, they are not bad. We have seen a decent sequential uptick in Europe and in North America and the new client wins. I think there were 39 wins last quarter with maybe 50-51, the numbers are fine, but they are not great.

It will be interesting to see what the management says about guidance. A lot of people are assuming that the guidance here is not organic. We need to get some more details on that, and maybe, we will have to listen to what Balakrishnan has to say.

Q: Infosys has announced wage hikes after a long time but the current quarter’s EBIT margins are down 170 bps quarter-on-quarter (QoQ). That has come as a surprise for a lot of analysts, are you surprised at the margin worsening?

A: In the past quarter, a lot of people looked at margins and price realization numbers and they thought that the reason why they were down had to be predominantly with the pricing pressure.

What we found is that there is a very significant correlation between margins and pricing, and what drives revenue growth.

In our view, European revenue growth or European revenues will generate much better margins compared to North America based revenues. This is what drove discrepancies in price realization last quarter.

I am assuming you will also see the same thing this quarter as well. Probably, I am assuming Europe grew faster than North America; that is the case that may explain why margins were down. But again, your question is very valid, what we probably need to get some more data points on what drove margins lower.

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Q: What takeaway do you have for the sector and the stock? Is it one of those instances where you continue to say that this is an Infosys specific problem, that stock now widens its valuation gap with TCS again or do you say that this has ramifications the kind of sluggishness and volumes has sector wide ramifications, and therefore, one should become cautious about the entire Indian IT space?

A: In an analyst meet this morning in the Europe, Accenture sounded cautiously confident on their outlook in terms of demand for what we call IT services. So, I am assuming that the market will continue to view what Infosys is going through was an Infosys-specific issue. Suddenly like Infosys, Wipro is also going through the similar issues; both companies are going through very disruptive restructuring process, management changes at a time that is really tough, in general, to be able to compete effectively in this market.

Both companies continue to suffer because of some of these very disruptive processes or changes. TCS and Cognizant are doing relatively well, Accenture is doing well too. In response to your question, on one hand, I think the market will continue to see what Infosys and Wipro are going through. But on the flip side of it, what you have seen in the entire six-twelve months, the convergence in P/E multiples, which is something we haven’t seen in the past, where P/E multiples of some of the tier I IT companies that are based in India are traded almost in line with the P/E multiples of the legacy players namely Accenture, IBM and Capegemini.

A lot of it has to do with the fact that the legacy players are doing well in this difficult environment.

Fundamentally, as I said, this is more a company specific issue but unfortunately, we do feel that in case of Infosys, under execution will continue to change the group’s P/E multiples in general.

Q: How long do you think will it take for Infosys to repair the problems that it seems to have got into? As every quarter passes by, we hope that maybe we will get closer to a recovery, we will get some signals that volume momentum is picking up but the street gets disappointed. What is your best case of how long it will take to fix the problem?

A: The first thing that needs to get done is we need to get some stability on the senior management team side of the business. I think that will be extremely important.

I do not think this company will go away and I do not know exactly how long this will take. As I said, if you look at the numbers, I do not think they are horrible numbers, but again, relative to expectations, numbers do not look that great.

We need to get some stability on the management team side of the business. This is something that will happen over time. We probably also need the environment to get a little bit better just to be able to get over with some of the uncertainty issues that is impacting IT spending.

I do not have a specific time horizon, I do not think anybody does. But you have to start on the management team side of the business. We started with Mohan Pai resigning; the best signal to see if something will happen out of interest is to look for whether the company is reporting numbers on time or not.

Same thing happened when Mohan Pai resigned, they took their time and haven’t reported numbers on time. We need to get over some of these issues and we need stability; stability is going to be important here.