The stock of Punj Lloyd Ltd has seen a massacre of sorts, having lost a third of its value in slightly more than a month. Part of the reason lies in its results for the last quarter. Although net revenues for the consolidated entity increased by a respectable 48% compared with the year-ago period, the increase in interest, depreciation, exceptional items and tax was lower at 33%, indicating a sharp fall in margins. In fact, after taking into account the higher “other income” during the last quarter, operating profit margin was down to 4.9%, compared with 5.8% in the year-ago period.
That was way below analyst expectations, the nasty surprise being losses booked on legacy orders of the company’s Singapore subsidiary, Sembawang Engineers and Constructors Pte Ltd. Without these losses, operating margins would have been much higher, at 8.1%. In fact, for the stand-alone company, operating margins have actually improved to 8.5%, from 7.4% a year ago. In addition, to be fair to the management, they had indicated that in a particular quarter, if the proportion of legacy orders was higher than the proportion of new orders, then margins would be affected. They had said that margins at Sembawang would move “from the traditional levels of 1-1.5% when we did the acquisition, to levels above 7-8% once all the legacy orders are completed and that migration may take a period of 18 months or 24 months.”
At the same time, the Sembawang acquisition has paid off handsomely in terms of moving up the value chain, higher ticket sizes and new orders. To illustrate, Sembawang’s order backlog was Rs4,243 crore at end-June, compared with Rs6,239 crore now. The order backlog for Punj Lloyd’s other operations (excluding Sembawang) fell from Rs10,982 crore to Rs9,774 crore over the same period. Analysts say that’s a concern given that margins are lower on the Sembawang orders. They’re also worried whether the other legacy projects that Sembawang still has could result in similar losses in the next few quarters. However, given the continuing momentum in new orders, the bulging order book, the improving outlook on margins as the legacy projects get over, there’s no reason why the stock should not outperform over the longer term.
Analysts have been touting Punj Lloyd as the next Larsen and Toubro Ltd, which is the reason it quotes at a premium to its less fancied cousins in the infrastructure space. But those higher valuations come at a price—it doesn’t leave any room for disappointment.
Patni buy-back: good use of cash
Patni Computer Systems Ltd is finally putting its huge cash hoard to good use. It is returning it to shareholders through a buy-back issue. While some shareholders will be bought out, others will gain from the reduction in capital (6.3% based on the current share price) and the commensurate increase in return ratios and earnings per share. At the close of Patni’s financial year ended December 2007, the company had cash worth Rs1,300 crore, or 35% of its market cap of Rs3,760 crore. But less than one-fifth of the company’s cash is being used for the buyback.
Unless the firm improves its financial performance considerably and finds reasonable ways to deploy its excess cash, it would be better to return much of the balance cash. Nonetheless, the buyback is a good start.
Results for the quarter and year ended December 2007 are nothing to write home about. Revenues were flat in rupee terms (up 3%, to be precise), while operating profit fell by 11.7% in the 12-month period until December. For the quarter, sales fell about 1% and operating profit declined by as much as 28% year-over-year, because of a 600 basis points drop in margins. Most information technology (IT) companies have taken a hit owing to the double whammy of a rising rupee and higher wage costs, but none of the large companies have reported a drop in profit. Patni, of course, went through a phase of uncertainty regarding the sale of its promoters’ stake last year, which could have hindered operational performance.
In any case, market expectations weren’t too high. The only reason the stock has outperformed peers in the past two weeks (it as risen 28%, while the CNX IT index rose 6%) is because of expectations of a buyback.
But even after the recent rally, Patni shares trade at just six times trailing earnings after adjusting for the cash on the company’s books. One way to improve valuations would be to return more cash to shareholders.
Capital goods driving growth
According to the advance estimates for gross domestic product (GDP) during fiscal 2008, as much as 55.2% of the incremental GDP during the year is estimated to be on account of gross fixed capital formation, compared with 45.5% of the incremental GDP in fiscal 2007. In other words, of every extra rupee spent, as much as 55 paise was on capital goods. Private final consumption expenditure accounted for 43.9% of every extra rupee spent during fiscal 2008, compared with 45.8% last fiscal. Growth in both exports, as well as imports, was much lower in fiscal 2008 than in the previous year, but imports slowed down more. As a result, external trade is expected to contribute a negative 3.2% of incremental GDP in fiscal 2008, compared with a negative 18.2% last fiscal. Very clearly, capital expenditure has been the main driver of growth.
Incidentally, errors and omissions in the data, under the head “discrepancies,” accounted for a negative 9.6% of incremental GDP in fiscal 2008, compared with a positive 19.6% in fiscal 2007.
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