Mark To Market: TCS better hedged than Infosys

Mark To Market: TCS better hedged than Infosys
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First Published: Wed, Jul 18 2007. 12 30 AM IST
Updated: Wed, Jul 18 2007. 12 30 AM IST
Tata Consultancy Services Ltd easily beat consensus profit estimates for the June quarter, leading to a 2% rise in its share price. TCS shares had marginally underperformed those of Infosys Technologies Ltd in the past month (see chart), which gave the impression that its results may be relatively inferior. But TCS has done better than Infosys on most counts. Not only was its revenue growth higher in dollar terms, but it was also able to manage rising costs and the appreciating rupee better. TCS’ operating profit fell 8.9% quarter-on-quarter, lower than Infosys’ 10.6% decline.
The appreciation in the rupee reduced operating margin by 258 basis points (bps), but gains from its hedge positions offset 80% of those losses. Infosys’ margins were hit by 350 bps because of the rupee and only about half of those losses were offset by hedging gains.
The only area TCS has fallen short is financial income—that’s no surprise, its cash and cash equivalents are less than one-fifth of Infy’s cash hoard of over Rs6,400 crore. Devoid of the huge financial income that propped up Infy’s net profit, TCS reported a 1.4% sequential drop in adjusted net profit to Rs1,156 crore. Infy had managed a 0.7% increase in its bottom line.
On a year-on-year basis, however, TCS’ adjusted net profit grew 34%, higher than Infy’s 29.5% growth. Analysts believe TCS’ outperformance in terms of net profit growth will continue. That’s because TCS gets less affected by an appreciating rupee, since its revenue stream is more diversified than that of Infosys.
Besides, it gets a higher proportion of work done onsite, which again leads to a lower impact when the local currency moves adversely. Over and above this, TCS had outstanding hedge positions worth $2.5 billion (Rs10,100 crore) as on 30 June, much higher than Infosys’ hedges of under $1 billion. TCS would do much better than Infosys if the rupee were to appreciate further. On the other hand, if the rupee depreciates, losses won’t be too high since over 80% of the hedged positions are taken through options.
These factors will work to TCS’ advantage in FY08 since the rupee has appreciated by over 10% on a year-on-year basis. Besides, volumes are growing at impressive rates and TCS has been better at winning large orders and mining existing clients. TCS’ June quarter results confirmed that most of the above assumptions are playing out as expected. As a result, its valuation discount to Infy has narrowed to 7% currently, from 8.5% pre-results. But while TCS seems set to grow at a faster pace this fiscal, this doesn’t seem to be reason enough for it to enjoy the same or better valuations than Infosys, which has grown at higher rates in the past five years.
If, as reported, Yipes Holdings Inc. is expected to have $100 million of revenues this fiscal and, if its revenues are growing by 40% annually, then its revenues in FY07 should be around $70 million. That puts the purchase price of the Ethernet company at around 4.2 times revenues.
That seems a good price, considering that Ethernet services have been growing by 30% in the US and the acquisition is another step in Reliance Communications Ltd’s global ambitions.
Yipes has turned around in recent years and become cash flow positive in the fourth quarter of last year.
The company has focused on the gigantic data needs of financial firms and institutions, its latest deal being with the London Stock Exchange (LSE) to provide access to LSE’s information system via Yipes FinancialConnect, the first Ethernet-based financial Extranet for electronic trading.
Moreover, the company points out that Yipes Ethernet services will be overlaid on FLAG Telecom’s global next generation network, enabling FLAG to create significantly more value from its network assets.
Analysts estimate the deal should add around Rs10-15 to the Reliance Communications share. But far more important for the stock has been the factoring in of gains from unlocking value in the company’s tower infrastructure business and from its future listing of FLAG Telecom. The patch-up with Qualcomm, which will enable the telecom operator to roll out new products and technology on its CDMA platform and the falling price of handsets have also helped the stock overcome the uncertainty over spectrum allocation. It is these factors that have led to the Reliance Communications stock doing better than rival Bharti Airtel Ltd’s in recent months.
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First Published: Wed, Jul 18 2007. 12 30 AM IST
More Topics: TCS | Infosys | Money Matters | Global Markets |