There's no stopping the Indian equity markets right now, it appears. Last week, stocks further extended their winning streak and the benchmark
BSE Sensex gained nearly 500 points or 4.2% in five trading sessions ending May 8.
The rally continues to be broadbased as in the previous few weeks. In the past five trading sessions, the Nifty jumped 4.2%, the Nifty Junior went up by 5.2% while the BSE Midcap and BSE Small cap
indices continue to outperform the benchmarks.
Obviously, the sentiment is extremely positive on Dalal Street right now. While the bulls are rearing to go, opportunities are shrinking for retail investors with each passing day. Value is evaporating fast. If in early March, most frontline stocks were dirt cheap by historical measures, a majority of them are currently over-valued.
This puts retail investors in a tight spot, especially those looking to use the economic downturn to build an equity portfolio for retirement. ET Intelligence Group looks through the fog at the historical valuations of Nifty-50 stocks and gauge the sustainability of the current rally.
On Dalal Street, the fair value of a stock is typically measured by three variables: dividend yield (in percentage), price-to-book value (P/BV) ratio and price-to-earnings multiple (P/E ratio). Everything being equal, a stock with higher dividend yields and a lower price-to-book ratio is preferable. Similarly, a long-term investor would prefer a company with a lower price-to-earning multiple. The absolute value of the parameter doesn't matter much though. The key is to compare the current valuations with historical averages.
We have used the three ratios to run a value check on 50 stocks that comprise the NSE Nifty index. For historical averages, we have taken the median value of parameters in the past 36 quarters beginning January-March 2001. This way, we capture both the bear phase (during 2001-03) when stocks were dirt cheap as well as the subsequent Bull Run when valuations scaled new highs. We have omitted Nifty stocks for which the comparable data was not available for a long-enough period, and were left with 41 stocks.
In our framework, 33 out of 41 stocks look expensive. These account for nearly 75% of the combined market capitalisation of all 50 Nifty companies. That's not a recipe for a sustainable rally unless you are a trader and like to play the momentum game. (The data on all 41 companies is available on www.etintelligence.com)
Many of the stocks are now more expensive than their valuations in financial year 2002-03, the previous economic downturn. Take BHEL, for Buy Or Sell instance. Right now, it is trading at nearly 29 times its net profit in the past 12 months, an over 40% premium to its long-term average P/E multiple.
The stock is now priced seven times the book value (of its assets), which is more than twice the historical average of 3.2. An investment of Rs 10,000 in the stock will currently earn you a dividend of Rs 90. In the December 2002 quarter, the same investment would have yielded a dividend of Rs 230. At the other end of the valuation spectrum is Tata Steel.
With a dividend yield of around 5.5%, the stock looks inviting at its current price. The euphoria, however, dies down soon enough, when you consider that the stock offered a better yield in 2002-03. Moreover, in 2003, the company had no Corus to worry about. With a higher risk, investors deserve a lower, not higher valuation.
There's nothing wrong in higher valuations per se. What matters is the corresponding growth in earnings. For instance, a price-earning multiple of 22 is fine for NTPC as long as the company can grow its earnings at 22-25 % per annum on a sustainable basis.
But this is difficult, given its historical performance and nature of the industry. In the past 15 years, the company's net profit has grown at a compounded annual rate of 15%, which is close to its historical average P/E multiple of around 17.
The analogy applies to most leading stocks right now. In a majority of cases, valuations are running ahead of fundamentals. Given the state of the economy and the demand conditions at home and overseas, it will be an uphill task for India Inc to meet market expectations in the forthcoming quarters. And everyone knows what happens to stock prices when companies fail to meet the Street's expectations. So to those of you who have missed the bus, it's advisable to stay out for the moment. The current momentum may take the market to a new high, but the reversal could be equally sharp.
THEY are believed to carry hidden treasure on Dalal Street. While investors call them the low-lying unpolished gems of the stock market, brokers say there are big bucks to be made if you can identify these stocks early. No prizes for guessing this, we are talking about deep value stocks which can do wonders to one's portfolio when market re-assesses them.
According to analysts, a deep value stock can be defined as something which is low priced in relation to the margin of safety the stock provides, to limit losses when a mistake is made. Lets get some insight into how to identify these stocks, what should be your ideal portfolio allocation and reasons behind their low valuations in the market.
SLEEPING GIANTS
They are like any other stock traded on the exchange, but there is no hypothetical understanding of them. A section of traders on the Bombay Stock Exchange even call these stocks as 'sleeping giants'.
There are two ways in which you can identify a deep value stock.
First, what Benjamin Graham recommends for the defensive investors in his 1949 classic - that the stock price should not be more than 15 times its average earnings per share over the past three years and the overall PE of the portfolio should not be more than 13. Or
Second, the stock should be trading below its 10-year median PE. The other things to be kept in mind is to stick with companies that have a long history of consistent profit growth and steady dividend payouts and the fact that not every cheap stock would turn out to be a bargain. He believes that PSU banks like Oriental Bank of Commerce, which is trading at a PE of 5.6 with book value of Rs 240 for FY09, is a perfect example of a deep value stock. "In a growing economy like India, banks should do well as the GDP expands," he reasons.
These stocks generally remain neglected by the stock markets. The best (or you may call it worst) part is that people know it's a great story but still they don't want to touch it. If one saw the real estate boom in India five years back and bought into Unitech, his portfolio returns would have multiplied phenomenally.
As far as portfolio allocations are concerned, analysts feel that an investor could invest 80% in growth stocks and 20% in value stocks (after keeping some cash balance or investments in fixed income instruments). In case of a pure deep value investor, that typically 80% the investment of investible funds should be in these stocks and 20% of the funds should be kept aside for fixed income instruments or cash balance. "However, a hybrid investor should follow a strategy in between the two. The basic principle followed is the Pareto's principle - the 80/20 rule.
SOW TO REAP
Though opinions differ on an ideal investment horizon, most analysts agree that it should not be less than a year and which could extend up to three to five years to reap big dividends. The first thing an investor needs to do is to ask himself whether he is a speculator or an investor. "If he is a speculator, then there is no chance for him to stay in these stocks. If he is an investor, a time period of three to five years is what makes sense. However, if the stock does not give the required return even after holding for three years, there is something more than one 's own understanding about the stock. In such a scenario, you could sell the stock and move to something else. However, if there are compelling reasons, you could continue holding the stock.
On why these stocks have ridiculously low valuations the market sometimes tends to overlook an industry. And usually these stocks are not popular with brokers. Apart from that, analysts explain that there could be reasons such as high transaction impact costs (small caps can have transaction impact costs as high as 30-50% ) and fear of uncertain events or adverse macro environment conditions such as rise in oil and interest rates, government policies, etc. You must also understand that fear always resides in the near term. And that's why there is lower visibility of the future even though the broad picture remains intact in these cases.
UNPOLISHED GEMS
Here are some deep value stocks which experts feel have great potential
ONGC - The stock is in a sector which is very strategic in nature, has a history of good profitability and dividends and trading at ridiculous valuations.
MAHINDRA & MAHINDRA AND MARUTI - The industry is in a growth phase in India as opposed to a saturation phase in the western world - trading at a PE of around 10 for FY09
LIC HOUSING FINANCE - A company growing at 25-30% available at a PE of 7x for FY09 and EPS of Rs 55. Book value of the company in FY09 would be Rs 260 and ROE would be 20% (Assuming no dilution)
BIRLA CORPORATION AND INDIA CEMENTS - Trading at single digit price multiples for FY09. Overall infrastructure spending is close to $500bn in the 12th five year plan and that we are nowhere close to capacities that exist in China
HDIL - It is trading at a considerable discount. The infrastructure sector has strong revenue visibility, and growth opportunity in the target markets with possible value unlocking opportunity.
SBI - The stock is trading at single digit multiple for FY10E. Apart from holding largest land bank holdings, it has an x-factor too - human resource valuation
Published in The Hindu - Sunday Magazine on May 17, 2009
A back of the envelope technique to spot gems during the current downturn
It is that time of the year when the CXO daddy’s and mommy’s prepare for their annual exam…ironically at a time when the kids are enjoying the holidays. Yup! I am of course talking about the annual earnings season for the Apr08 – Mar 09 financial year. CEOs and CFOs sincerely do their homework and probably even a dress rehearsal or two – first for putting on a good show at the board meeting, second for the dreaded 5 minute interview on CNBC. That’s understandable; the CNBC guys can be brutal in their grading! But for all practical purposes, their analysis is useless - especially for investors (it makes good mid-day entertainment though). The two key metrics, which they use for the scorecard– namely ‘sales growth’ and ‘profit growth’ offers a very shortsighted view and perhaps even a wrong one. The worst part is comparing the above metrics to analysts’ ‘target’ for the year. These are companies for god’s sake, not racehorses.
The first flaw with the CNBC view, something that my regular readers would have guessed by now, is that mere earnings (net profit) growth is not an indicator of stellar performance by a company. Even a totally dormant savings or fixed deposit account will produce steadily rising interest earnings each year because of compounding. The appropriate measure of managerial performance would be ‘return on capital’. The second flaw is the short-term approach, which severely penalizes even companies with a long track record of high return on capital, just because of one bad year (sometimes a bad quarter is sufficient). The combination of the two flaws results in share prices of good companies falling below their intrinsic value sometimes.
That’s great! I say. Let’s buy shares of great companies at cheap prices. Long live the stupidity and irrationality of herds (I find it hard to understand how economists actually assume that all humans are ‘rational’).
Nobody is going to let you buy shares of a ‘star’ company, right after its best innings, for cheap. Just wait for one bad year when the earnings or the growth falls below expectations (mostly for no fault of the company per se) and the same stock would virtually be available for a song.
What most people don’t understand is that good companies (i.e > 20% return on capital track record) have deep ‘moats’ to survive temporary slumps caused by external factors and can emerge back in shape. Buy their shares cheap, when there is a dip in performance and you can earn above average returns.
The Recipe In my previous article, I had discussed about the ‘cheapness indicator’ for companies with high return on capital track record. Here is the formula again for reference (to be used only for companies with > 20% average return on capital):
Ensure ‘Enterprise value’ paid at time of acquiring shares < Total capital of company * (1+ average return on capital % over previous 5-10 years)^5
Many readers had asked for a step-by-step guide to use this formula, along with an example. So I have tried to provide a breakdown of the methodology along with an experiment to figure out if the stock of a leading paint company- ‘Kansai Nerolac’ (formerly ‘Goodlass Nerolac’) is worth acquiring.
Step 1: Download Annual reports of the company for the last 5 years (this is usually available on the company website). Go to the ‘Consolidated’ Balance Sheet and Profit & Loss account (usually available in the section titled ‘Consolidated statements’ - towards the end of the Annual report). A warning for those using third party sources such as Moneycontrol -the figures reported there are for ‘Standalone Company’ and hence not appropriate. Step 2: Calculate Return on capital for the company over last 5 years and take an average (You can refer my article dated Apr 12th, 2009 for the return-on-capital formula). Is the average greater than 20%? If yes, proceed. Kansai Nerolac: The average return on capital from financial year 2005 to 2009 is 23%. Step 3: Calculate the total capital of the company at end of previous financial year (from consolidated balance sheet). Is debt capital divided by total capital < 25%? If yes, proceed. This is a check to filter out risky companies with extremely high leverage. Kansai Nerolac: The consolidated total capital of company, as on Mar 08 (since balance sheet for financial year 2009 is not yet released) is 737.5 crores (Equity capital = 612.7 cr, Debt capital = 124.8 cr). Debt capital/ Total capital = 17% Step 4: Compute Total capital of company * (1+ average return on capital % over previous 5-10 years)^5 Kansai Nerolac: 737.5 *(1+ 23%)^5 = 737.5 * 2.8 = 2065 crores Step 5: Calculate the market capitalization of the company (i.e share price multiplied by total number of shares). You could use moneycontrol for this, but again I really don’t trust those guys. So if you are a paranoid like me, you can calculate this too on your own. Don’t fail to add the value of unlisted preference shares if there are any (needless to say, you can look this up from the Balance Sheet under Equity capital section) Kansai Nerolac: Market capitalization (based on Monday’s closing share price of Rs 468) is Rs 1261 crores and the company has no preference shares outstanding. Step 6: Compute Enterprise value = Market capitalization + value of preference shares if any + Debt capital Kansai Nerolac : Enterprise value = 1261 cr + 124.8 cr = 1385.8 crores (significantly less than the 5 year breakeven value of 2065 crores and hence fulfills our ‘cheapness indicator’)
The fact that the ‘Enterprise Value’ of Kansai Nerolac is at a 33 % discount to the benchmark on the right hand side of the ‘cheapness indicator’ formula, gives us a comfortable ‘margin of safety’ to acquire the stock. Typically, companies with share prices that obey our formula are also cheap in terms of price to earnings ratio (P/E). For example, Kansai Nerolac has a P/E ratio of 12, which is extremely low and attractive.
The same company’s share price at its peak last year touched Rs 900, but now it is going for half the value. Why is the company trading so cheap? The only reason I can find is that they have reported a 20% drop in profits. This is a clear example of the shortsightedness caused due to herd mentality of investors and analysts who are oblivious to the fact that Nerolac is a 80 year old company and the 2nd largest paint manufacturer in India with a 20% + average return on capital over the last 15 years. If you dig a little deeper, you’ll notice that the company derives half its revenues from home paints and half from industrial and auto sector – unfortunately both the sectors are experiencing a cyclical slowdown. But does it mean that the company will go bust in the next few years (reading from the share price) – something that it has not managed to succumb to over the last eighty odd years? Happy value hunting!
Stripped off the figures of speech, what we're trying to say is that India Inc-and the entire global corporate landscape for that matter-has been brought back, rudely, to terra firma. Bravado, courtesy of hype, valuations and projections, have made way for sobriety. That's change at its worst-quick and unpleasant. As consumers and investors go into their shells, economies slow down and stockmarkets find new lows, CEOs are realising that the honeymoon with the myths of the new economy is well and truly over. If Information was considered god yesterday, well, today Assets are once again vying for that lofty perch. Services might have been the new mantra in the Internet Age, but don't underestimate the power of Products. And Revenues and Profits (or rather losses) do, after all exist, along with Market Capitalisation.
Hang on, did we say market capitalisation? Well, sure enough, there's plenty that's gone out the window, but as long as providing value to shareholders remains the buzzword for companies, marketcap will continue to be considered the holy grail. After all, that's the most visible, and simple, reflection of how well a company is treating the people who've bought into it. And that's why our BT 500 assumes plenty of significance, arguably even more relevance, in such bearish times. For fads may come and go, markets may spurt or tank, but the shareholder is there to stay-and to be rewarded. Nobody cares about how respected a company is, if it doesn't respect its minority stakeholders.
THEN AND NOW
Top 10 Old Economy Companies Market Capitalisation (Rs crore)
Company
Average 2000-01
On Sep.20, 01
HLL
49,525.0
46,224
Reliance Ind
36,633.3
25,353
Reliance Petro
24,058.4
13,784
ITC
18,872.3
15,765
Ranbaxy
7,491.1
7,419
HDFC
6,084.3
7,721
HDFC Bank
5,860.0
6,153
Hindalco
5,752.4
4,172
Cipla
5,500.5
7,100
Nirma
5,436.1
2,358
Top 10 New Economy Companies Market Capitalisation (Rs crore)
Company
Average 2000-01
On Sep.20, 01
Wipro
61,714.0
21,910
Infosys
46,915.6
16,285
HCL Tech
17,019.1
4,643
Zee
16,536.0
4,042
Satyam
13,079.1
3,951
HFCL
8,855.7
246
NIIT
6,374.7
365
Sterlite
4,425.6
593
Global Tele
4,411.0
386
HSS
3,852.1
689
''At Reliance, maximising shareholder value and returns is central to all our decisions and strategies. It is our endeavour to consistently maximise overall shareholder value through profitable operations and efficient deployment of capital for superior returns,'' points out Anil Ambani, Managing Director, Reliance Industries. The Ambanis should know: Reliance Industries and Reliance Petroleum occupy fourth and fifth slot respectively in the BT 500. That's not exactly a surprise, considering that the stock of Reliance Industries has appreciated 111 per cent in three years, 157 per cent in five years, and 192 per cent in 10.
Indeed, that's why corporations in the top rung of the BT 500 are embracing shareholder value like never before. Take the case of Hindustan Lever (No. 2 on the BT 500), which is chasing growth in a market that's stagnant. ''It's not just growth, but sustained, profitable growth that Lever is pursuing. That's our key priority, along with efficient use of capital, which together will ensure that we deliver value to our shareholders,'' explains Manvinder Singh Banga, Chairman, Hindustan Lever.
Scan the BT 500 list, and your first reaction is bound to be: ''Oh, it contains the usual suspects.'' True enough, as the ranking is based on the average market capitalisation for fiscal 2000-2001. But for the slight shuffle at the top-it's Wipro at pole position this time round, although it's marketcap is down by half from 1999-2000 levels-there's not much to differentiate the BT 500 from the previous year's list.
What's more, the TMT (technology, media, telecom) sector still dominates, with six of the Top 10 being such companies. We're now just about half-way through the current fiscal, and the past six months have witnessed a carnage on the markets, and to a fair extent make a mockery of our list. Over this period, technology stocks have been beaten down by as much as 95 per cent.
No 1: WIPRO Average Marketcap 2000-2001: 61,714 Rs crore Recent events in the US could disrupt Wipro's activities in the short- and medium-term, but chairman Azim Premji is convinced about the long-term value proposition of his company-which is based on technical competency, quality processes, and the advantage of offshore development.
The it stocks that are down by 70 per cent are the luckier ones. Consider: as per our rankings, Wipro's marketcap stands at close to Rs 62,000 crore (remember this is the average for the whole of last year). That figure, as of September 17, was down to a little over Rs 25,000 crore. Infosys, doesn't fare much better, its market cap crashing from just under Rs 47,000 crore to Rs 17,350 crore.
The non-it companies haven't got burned, although they're down too, with Reliance Industries slipping from Rs 36,600 crore to Rs 27,500 crore, ITC (No. 6) inching down from Rs 18,800 crore to 15,200 crore, and Hindustan Lever losing 20 per cent of its marketcap in that period.
Then, there are those stocks that make you rub your eyes in disbelief and wonder how did they ever get to the top of the BT 500-or alternatively, how did they manage to hit rock bottom so fast. Consider Zee Telefilms which, at No. 8, came in with a marketcap of Rs 16,500 crore. These days, that figure is barely over Rs 3,000 crore. But the real shocker is HFCL (No. 10), which is plumbing the depths at a little over Rs 200 crore from last year's average high of-hold your breath-Rs 8,855 crore.
That's the flip side of the endeavour toward value creation: stock prices that were totally out of whack with fundamentals. And in that quest for valuations, every trick (many of them out of the book) was resorted to. But that's history. Now that the dust has settled, the good news for most of these companies is that things can't get any worse.
As Manoj Tirodkar, Chairman & CEO of Global Tele-systems (No. 22), which has seen its marketcap eroded from Rs 4,400 crore to Rs 330 crore, says: ''My stock price can't go to -5. This is the best time to rework my strategy with a long-term perspective in mind.''
To be sure, when at rock-bottom, there's only way to go: up. And companies of all hues, right from the so-called old economy ones (wonder why that phrase isn't used too much these days?) to the infotech giants, have a job on their hands: to grow even as recessionary conditions ravage the economy. And for the pretenders, it's sheer survival that's at stake.
CAN THE OLD STRIKE BACK?
No 2. HINDUSTAN LEVER
Average Marketcap 2000-2001: 49,524.9
Rs crore It's not just growth, but sustained, profitable growth that Hindustan Lever Limited is pursuing, explains Chairman, Manvinder Singh Banga. ''That, along with the efficient use of capital will ensure that we deliver shareholder value.''
The challenge is two-fold: one, slash costs in a bid to ensure growth even if markets are flat; and two, foray into sunrise areas that will broadbase the company's opportunity for growth over the longer term. Says Sanjay Jain, Partner, Accenture, " Most companies have sharpened the focus on the top line. One would think companies would look to reduce costs. But a lot of companies have been focusing on their sales and marketing to drive top line growth."
Reliance Industries, for instance, has been able to counter a sluggish global petrochem industry-it notched up a 4 per cent growth in sales and 14 per cent in profits in the first quarter of this year-thanks to higher capacity-utilisation rates, productivity improvements, and cost-reduction exercises. ''Also, our continued focus on speciality grades results in premium pricing, and contributes to higher margins, thereby insulating us from the commodity downcycle to an extent,'' explains Ambani.
Also dealing with sluggish markets is FMCG major, Hindustan Lever. The strategy of focusing on 30 power brands is showing positive results: for instance, in the first half of the current year (January-June), the power brands-which account for 100 per cent of Lever's profits, registered a growth rate of 4.8 per cent, as against just a 1.5 per cent total sales growth. ''We're getting good results, and are on the right track,'' says Banga.
Amalgamations and divestitures are also part of the Lever game plan, with International Best Foods and Lakme Lever being merged into the company, and the animal feeds business being sold off.
Meantime, ITC too is using the merger route-by integrating with sister company ITC Bhadrachalam-to boost value. ''We are committed to being the No. 1 player in every category we are in the domestic market,'' says chairman Yogi Deveshwar. Adds K. Vaidyanath, Finance Director: ''Not only will the net profit of Bhadrachalam strengthen our bottomline, but there will be substantial tax benefits as well, given the accumulated losses of Bhadrachalam in the mid-nineties.''
No 3. INFOSYS TECHNOLOGIES Average Marketcap 2000-2001: 46,915.5 Rs crore Acquiring companies that can give Infosys Technologies competencies in new areas is part of the strategy adopted by Managing Director Nandan Nilekani to enhance shareholder value. ''We're also cutting discretionary spending,'' he adds.
Reliance for its part has trained its sights on the disinvestments process, evincing interest in IBP and VSNL. But the buzzword here too is value. ''Reliance's decisions to build or buy assets and businesses will depend on the available value propositions,'' says Ambani.
But the most exciting buzz emanating from these companies is related to the new ventures they have on their plate. After announcing its investment of a whopping Rs 25,000 crore in the infocom business (voice, data, and value-added services), Reliance is now, perhaps inevitably, blueprinting its next big foray: into biotech. Lever's Banga points out that his company has identified ''four-five'' new businesses, as part of its ''Project Millennium'' exercise; and last fortnight, he was preparing to take one of his new forays-into confectionery, under the brand Max-national, after testing the product in Tamil Nadu.
The Lakme beauty salons venture too is on song. As of today, Lever has some 25 salons, which will go up to 200 in two years. And ITC is hedging its flagship tobacco business by spreading its wings. As Sanjive Keshava, Chief Executive of the Lifestyle Retailing Business Division, points out: ''We are aggressively growing this business by setting up a network of 100 stores across the country over the next two years.'' The intention is to position Wills Sport and Wills Lifestyle as premium Indian brands.
NO 4. RELIANCE INDUSTRIES Average Marketcap 2000-2001: 36,633.2 Rs crore NO 5. RELIANCE PETROLEUM Average Marketcap 2000-2001: 24,058.4 Rs crore
The strategies of both companies, says Managing Director Anil Ambani (right, along with Vice Chairman & Managing Director Mukesh Ambani) are tailored to maximise shareholder returns. That explains why the RIL share has appreciated 111 per cent in three years and 157 per cent in five years.
If there's one sector that's least touched by the bearish conditions prevailing, it's pharmaceuticals. And that's why we can expect much more in future rankings from this year's toppers-Ranbaxy (No. 11), Cipla (No. 16) and Dr Reddy's (No. 24)-all of which are heavily focused on research and the global markets. Ranbaxy CEO D.S. Brar, for instance, wants to touch revenues of $1 billion by 2004 by making Ranbaxy a ''truly global company''.
That's not going to be the easiest of tasks for this Rs 1,746 crore company, given that growth in the domestic market is sluggish, and that Ranbaxy has to take on the multinationals when it comes to drug discovery. However, Brar, who hopes to end the current year with sales of $600 million (Rs 2,880 crore), says he's well on course. Much of that expected growth will have to come from the US market, which accounts for 47 per cent of the global pharma pie. Currently, the US contributes only 16 per cent to Ranbaxy's revenues. In the short term, that may prove beneficial to the company, considering the uncertainty in that part of the world.
In that light, Ranbaxy's strategy to focus on other world markets like Brazil, China, Germany and the UK, and to strike supply agreements with companies in Portugal, France, Belgium, Spain, and Germany makes even more sense today.
WHAT'S IN STORE FOR INFOTECH?
No 6. ITC Average Marketcap 2000-2001: 18,872.3
Rs crore By merging group company ITC Bhadrachalam into the flagship, ITC, and by growing the lifestyle retailing business, which will have a network of 100 stores in two years, Chairman Yogi Chander Deveshwar is attempting to create value
The billion dollar question for the Indian software industry today of course is how much have the bombings of the World Trade Centre, and their fallout, further set the sector back by.
Nandan Nilekani, President, Managing Director & Chief Operating Officer, Infosys, says it's too early to comment on the business implications, and whether Infosys will be able to achieve a 35-40 per cent growth rate by the year-end. ''Our focus at the moment is on offering all support to affected employees and customers.'' Suresh Senapathy, CFO, Wipro, adds that while the short-term and medium-term impact can't be predicted, ''in the long term the value-proposition of India-based off-shore service providers is strong.''
The National Association of Software Services Companies (NASSCOM) has conceded that earnings for the second quarter, as well as growth for the entire year, will suffer in the wake of the terrorist attacks on the US. NASSCOM now feels that the software sector will now grow by 30 per cent (a worst-case scenario) as against the earlier projected 40 per cent.
Yet, a 30 per cent growth in such cataclysmic conditions should be considered excellent. But analysts wonder whether NASSCOM's optimism is fuelled by too much of octane. After all, with the US in retaliatory mode, the scenario can't get any better. Don't forget that the US accounts for 60 per cent of India's software exports. And take a look at individual companies.
No 7. HCL TECHNOLOGIES Average Marketcap 2000-2001: 17,019
Rs crore The strategy adopted by Chairman Shiv Nadar to keep HCL Technologies at the top of the heap includes focusing on higher-value businesses like technology development, entering into long-term relationships with clients, and providing a comprehensive repertoire of services
NIIT (No. 12 on the BT 500) has close to half of its revenues of Rs 1,237 crore coming from the US. It's not exactly been a smooth ride for this training and software company so far. Profits for the quarter ended June had dipped by 93 per cent-and that's why NIIT thought it prudent to issue a profit warning way back in March.
Also in the wars is Hughes Software (No 23)-60 per cent of whose revenues come from the US-which issued a profit warning last fortnight.
Hughes has lowered its profit growth forecast for the current year to 25-35 per cent as opposed to the earlier estimate of 60 per cent. ''Communication companies worldwide have continued to announce downsizing and lower revised business forecasts,'' says Arun Kumar, President & Managing Director, Hughes Software Systems. ''Decision-making has slowed down significantly with decisions being increasingly moved indefinitely to the future. The visibility on restoration of our customers' confidence and the sector's turnaround is unclear. All these factors have impacted our business in the last two months and caused us to present this new guidance.''
However bad the scenario, the IT majors aren't in a mood to go down. The growth strategies aren't novel, but cost-cutting, acquisitions, and moving up the value-chain are the clear favourites at India it Inc. Infosys, for instance, has slashed costs where IT hurts (the company) most: salaries.
No 8. ZEE TELEFILMS Average Marketcap 2000-2001: 16,536
Rs crore The company's flagship television chanel's ratings dropped and it came under a cloud over funds loaned to Ketan Parekh. Now, Chairman Subash Chandra is trying to regain lost ground by revamping programming and concentrating on his key strength on content and access.
''The largest element of cost for Infosys is salaries. This year, the salary hikes for employees has been moderated against the typical 25 per cent to 30 per cent annual hikes. We have given a hike of 15 per cent and out of that 15 per cent, 10.5 per cent, that is 70 per cent, is given based upon revenues,'' explains Nilekani.
Adds Narayan K. Seshadri, Country Head (Business Consulting), Arthur Andersen, "The smarter companies are cost conscious; they maintain flexible cost structures and have enough slack to cut in a downturn. That way, they don't throw the baby out with the bathwater".
Acquisitions too are high on the priority list. Nilekani adds that Infosys is looking at acquiring companies that can ''give competency in new and desired technology areas''. Then, NIIT has set aside $100 million (Rs 480 crore) for M&A, in a bid to achieve its audacious target of a turnover of Rs 10,000 crore by 2005.
And note: There's no scale back. ''We intend to surpass the Rs 10,000 crore turnover in the second half of this new decade,'' declares Rajendra S. Pawar, Chairman, NIIT. There are two ways of getting there. One, by growing at an organic compounded annual growth rate of 44 per cent, and relying on the rest of the growth from acquisitions. But if the takeovers don't materialise, NIIT will have to grow at a compounded growth rate of just 52 per cent annual. Sounds absurd, given the current recessionary conditions.
No 9. SATYAM COMPUTER SERVICES Average Marketcap 2000-2001: 13,079.1
Rs crore A Q4 results leak which led to a SEBI probe and a series of closures of its marketing offices in Asia-Pac and Europe have made things tough for CEO ramalinga raju. Still, Satyam's was one of the rare three stocks in the BT 500 list which maintained their ranks over FY 2000.
Perhaps the pressure for the Indian it sector to move up the value chain has never been higher. Says Ramalinga Raju, Chairman, Satyam Computer Services: ''We have adopted a two-pronged strategy to move up the value chain of the customer. One part of the strategy is customer centric and focussed more on building long term relationships and offering end-to-end it solutions. The second part of our strategy is inward looking and focuses on our organisation structure. Last year we completed the restructuring exercise where the business units were organised into verticals (business domains) and horizontals (technology). This allows us get closer to the customers, grow our expertise in each domain and provide more and more value-added services to the customer.'' And Infosys is relying on its consulting practice to enable it to move into high value services.
Wipro too has targeted the consulting space, but more on it and technology strategy than business consulting. And HCL Technologies (No. 7) is focusing on higher value-added businesses like technology development services (which already account for 50 per cent of revenues), and entering into long-term collaborative relationships with clients at its 35 client-dedicated offshore development facilities. ''HCL Technologies has defined an elaborate business strategy in order to retain its position at the top,'' says Shiv Nadar, Chairman, President & CEO, HCL Technologies.
SO WHAT HAPPENS IN CRASHLAND?
The it majors like Wipro, Infosys, Satyam and HCL can still hope for 30-35 per cent growth, but what happens to the second-rung and third-rung it companies? And what happens to yesterday's ''momentum'' stocks-the favourites of punters, who took them up to dizzying heights on the bourse, but who eventually had to let go and send them crashing down?
No 10. HFCL Average Marketcap 2000-2001: 8,855.6
Rs crore Yesterday's market darling HFCL, has abandoned its forays into areas like media and e-biz. Chairman Vinay Maloo is now focusing on core areas: telecom equipment and projects.
There's Zee Telefilms, for instance, which other than taking a hiding in the broadcasting arena, also came under a cloud for its lending to companies of tainted broker, Ketan Parekh. Then there's HFCL, whose grand ambitions of foraying into software, e-commerce and media have come to naught. Global Tele's Tirodkar is now readying for quarters of feeble growth.
For such companies, the objectives are two-fold. One, get back the trust of the investor, who has lost faith in the stock, because of their opaque policies. Two, get back to the businesses you know best. If the Reliances, Infosys and ITCs of the world are talking about acquisitions and new projects, the Zees, HFCLs and Globals have to think rationalisation.
Zee recently announced that it would halve the number of its subsidiaries to 10-12, and focus on its core strengths of content, access and broadcasting. HFCL Chairman Vinay Maloo too has abandoned his grandiose e-commerce and media plans, and says he will focus on telecom equipment and projects. Ditto with Global; Tirodkar says he's getting rid of seven to eight ''sub-businesses'', and he's even willing to take a hit of Rs 100 crore in this exercise (which however could be covered up in part if some new orders in the core businesses of software and enterprise network services do materialise).
"Success in reducing stock price volatility can deliver tremendous strategic benefits to companies." says Rajeev Gupta, Executive Vice President (M&As), DSP Merrill Lynch. Gupta goes on to list market communication and "deciphering the embedded assumptions of the market with regard to the future performance of the company," as the two things companies can do to achieve this.
Clearly, few CEOs would have expected for the business scenario to change so much, so fast. But then, as someone said, all things change, and we change with them. Time will tell if the companies that don't adapt fall by the wayside. Well, what's for sure is that many of them won't be able to hold on to their high rankings in the next few BT 500s.
