INFOSYS GROUP: High Tide

For Infosys, the debate over the status of an IT business in
the BPO space crystallized into a definite realization. And it was not about
call centers-the synergy was in genuine business transactions as it married
technology and process, operations and re-engineering. Progeon Ltd was thus
incorporated in 2002, with a focus on transaction processing. It's now a
golden goose with revenues of Rs191 crore in FY 2004-05, an increase of 145%
over the last year.

It was a great year for Infosys. It finished off FY 2004-05
with one of the highest operating margins in the industry-maintaining it at
33%. Sequential revenues and sustainable earnings growth for the fourth quarter
fell short of expectations at 6% and 3.3% respectively. But propelled by
double-digit earnings in the other three quarters, income rocketed to 7,130
crore, a revenue and earnings growth of 47%. As on March 31, its price earnings
ratio (P/E), which historically had a lower valuation than that of Wipro, was 36
times as compared to 35.4 times of its rival.

Various segments of the business mix showed all-round growth:
a business volume growth of 49% for the second straight year in software
services, matched equally impressive upswing in products-revenues here grew
57.4% as compared to 19.4% in FY 2003-04. Couple this with fast growing new
services like remote infrastructure management, and you have a vehicle primed
for the $2 bn sprint in FY 2005-06.

Software services exports have gone up from Rs 4,787 crore to
Rs 6,996 crore in the last fiscal year, with 136 new clients. Revenues from
clients who also contributed to Infy's revenues during the prior fiscal
remains strong at 95%, up from 93% in FY 2003-04. Stabilization of billing
rates, to an extent, also helped the business scale. Infosys also cashed in on
the strong offshoring wave in the second half of the year-the onsite-offshore
mix shifted by 7 points.

Spreading the Risk

Infosys wants to make sure that no single vertical or horizontal becomes a very
large part of its business. And for that matter, even its over-exposure to a
single client or geography, to expose it to greater risk. Financial services,
being the most open vertical for doing business, naturally contribute a large
share, about Rs 2,467 crore. But the vertical's contribution to the revenues
has actually come down by 2%. On the other hand, contribution of the telecom
vertical was up to 19% from 17%. North America contributed 65% in the last
fiscal, down from 71% in FY 2003-04. Strong growth was seen in Europe; its
contribution towards Infy revenues was up from 19% to 22% during the period.
Similar derisking trends were seen in the client side with the top 10 client
contribution to revenues down from 36% in 2003-04 to 33.6%.

The Spinoffs

Successful take off of Infosys Consulting, full integration of the Australian
venture, and launch of the China operations were the other highlights. Infosys
Consulting, which was set up in FY 2003-04, generated revenues of Rs 21 crore
with a net loss of Rs 33 crore. It aims to evolve as a next generation IT
services consulting firm and has NR Narayana Murthy,
S Gopalakrishnan and SD Shibulal, members of the Board of Infosys, as its
directors. Infosys Australia, which is expected to break-even in FY 2005-06,
generated revenues of Rs 303.2 crore and Infosys China Rs 8.2 crore. Progeon
added five new clients to register a net profit of Rs 30.6 crore. Its total
customer count is now up to 19 and the employee strength stood at 3,966.

Fear Factors

The $2 bn vehicle can crash if revenues and profitability are hit-and there is
a new demon that can do it. Apart from the usual suspects-pricing from the
customer and wage pressures-Infy now has the rupee-dollar exchange rate to
watch out for. But it had little effect on the operating results, as a 2%
increase is not a very difficult thing to manage and it was hedged efficiently.
India's advantage, which lies in the purchasing power parity in the sense that
India's currency is worth five times what its nominal worth is, can get
negated if the rupee is to appreciate further.

The other two issues are minor concerns because pricing has
become stable, with an upward bias for the company. "It has come to an
equilibrium point where clients are happy to pay and we are happy to charge.
That's the good news," says member of the Board and CFO TV Mohandas Pai.
Wage pressure, the company says, is also tapering off. The overall offshore
wages went up by 13% and around 22% of the offshore wages remained variable,
linked to revenues, operating margins and individual performance. "At the
fresher level, there is no wage pressure; India graduates about 325 thousand
engineers," adds Pai. "At the middle level, there is some pressure and
that is because the industry is growing at 30%. Here, the pressure could be 15%
to 20%. But in certain areas, like application maintenance and apps development,
for example, the wage pressure is tapering off."

Infy publicly is committed to 28-30% growth in dollar terms,
but to maintain earnings and growth margins in FY 2005-06, it will have to offer
a combination of higher value services and scale. "We need to continue our
strategy on differentiation," says Nandan Nilekani. "We have to ensure
that we contain costs and bring efficiencies. Otherwise, costs will rise faster
than prices. We also need to ensure that we attract the best and the
brightest." However, acting on the last is indeed a tedious process: Last
year, Infosys processed 1.4 mn job applications, conducted 47,467 interviews and
finally picked 14,981-around 1% of the applicants!

Goutam Das in Bangalore