Wipro puts its cash to use, but will it pay off?
The fact that it’s willing to pay decent money and also take a hit on margins shows that it is prioritizing growth
Wipro Ltd’s $460 million purchase of US-based outsourcing firm HealthPlan Services Inc. didn’t impress investors. Wipro shares were flat after the announcement, moving more or less in tandem with the CNX IT index.
The lack of excitement is understandable. First, the company doesn’t have a great track record in integrating acquired companies. Wipro’s 2007 acquisition of Infocrossing Inc. for $600 million is a case in point. Analysts at JP Morgan said in a July 2013 note that it “delivered significantly below expectations” and that “Infocrossing has not consolidated Wipro’s then-leadership in infra-management—if anything, TCS/HCLT (Tata Consultancy Services Ltd/HCL Technologies Ltd) has taken over leadership in infra-management in the last two years.”
Second, the HealthPlan deal has been valued at two times revenue, which compares with a median valuation of 1.4 times sales in recent merger and acquisition (M&A) transactions in the sector, analysts at JM Financial Institutional Securities pointed out in a note to clients.
True, HealthPlan has been growing at a fast, annual growth rate of 38% in the past two years. But at the same time, its margins are lower than Wipro’s and the acquisition is expected to be earnings dilutive in the near-term. HealthPlan’s nature of business is such that the chances of reducing costs by sending work offshore are limited. Hence, the valuations are far from cheap from an earnings perspective.
Note that this is Wipro’s fourth acquisition in this fiscal. While the other three have been far smaller in size, this indicates the company’s intent to put its cash to use and grow inorganically. The fact that it’s willing to pay decent money and also take a hit on margins shows that it is prioritizing growth. Of course, it remains to be seen if the gamble will pay off.
One way to look at this is that the company’s low single-digit growth rates demand aggression and, hence, the pursuit of inorganic growth is welcome. But, lately, there’s not much that has gone in favour of the company. And so, it’s more likely that investors will raise questions about integration issues and adopt a wait-and-watch approach on the prospects of Wipro’s latest acquisitions.