The third quarter of FY12 was interesting and unique for the
Indian IT companies as the rupee hit a record low of 54.30 against
the dollar on December 15, 2011. Given that every 1 percent change
in rupee has a 40-50 basis points (bps) impact on the IT
companies’ profitability, media and analysts closely watched
the earnings season with an eagle’s eye on the implications
of currency volatility. At the same time, the macro economic
uncertainties continued to haunt the industry as a result of which
most companies projected a tepid guidance.
According to a report from Kotak Institutional Securities, for
the third quarter ended December 2011, the tier-I Indian IT
services players grew at 3.7-4.5 percent in constant currency terms
in a seasonally weak period. Margins expanded, aided by a weak
rupee. However,
Infosys’ weak guidance and TCS’ weak commentary on
discretionary spending dampened sentiment even as strong lateral
hiring trends and deal pipeline gave comfort on achieving/exceeding
the Street’s lowered expectations. Even mid-sized companies
reported strong performance with MindTree, KPIT and Polaris growing
3.1-6 percent quarter on quarter (q-o-q) in constant
currency.
The report states that currency benefits helped tier-I firms
expand margins by 60-265 bps q-o-q. The pricing improved q-o-q for
Infosys and TCS. In terms of the growth metrics, verticals like
BFSI, manufacturing and retail showed good growth across players.
In terms of geography, strong revenue growth in Europe came as a
positive surprise amid the ongoing concerns of the eurozone crisis
affecting IT spends.
Cautioning the market against the eurozone crisis, SD Shibulal,
CEO of Infosys told media persons during the company’s Q3
results that one quarter’s numbers are not good enough to
indicate a trend. “You need to look at a secular trend that
will take little more time. You need to watch European growth over
the next few quarters.”
Karthik Ananth, Director-Zinnov justifies the growth in Europe
asserting that the eurozone crisis does not mean it’s the end
of business there. He tells InformationWeek that Indian IT services
companies are still managing to get good business out there because
of two main reasons. First, most large companies in Europe, except
the BFSI vertical which is more localized, have majority of their
revenues coming in from geographies outside the region which
includes India and other emerging economies. So, they are largely
immune to any crisis in the region. Second, the 70 percent of the
non-discretionary spending still remains unaffected and that has
been off-shored to Indian IT service providers in the recent
past.
The guidance for the coming quarter remained lukewarm across the
industry. IT bellwether Infosys revised its dollar revenue growth
guidance for fiscal ending March 31, 2012 down to 16.4 percent from
17-19 percent indicating flat revenue growth of 0-0.2 percent for
Q4 FY12 which clearly disappointed the Street.
Wipro guided a 1-3 percent growth in Q4 FY12 better than
cross-town rival Infosys. The country’s largest software
exporter TCS does not give guidance numbers for the future
quarters.
SHIELDING AGAINST
VOLATILITY
As a strategy to contain the impact of rupee volatility, most
companies have adopted strategic hedging policies. As an attempt to
de-risk their profits from vast fluctuations in different
currencies, IT companies, like other exporters, hedge their
cash-flows. Simply put, they lock in the exchange rate for their
receivables in order to have a better visibility of revenues and
profits. According to reports, TCS, Infosys, Cognizant, Wipro and
HCL Technologies have together hedged close to USD 5 billion mostly
at around Rs 45-49 to a dollar, which also prevents them from
expecting a windfall
gain.
Infosys’ operating margins for the quarter went up by 3
percent while its hedging position stood at USD 847 million at the
end of the quarter. “We continue with our hedging position
for the next 2 quarters at any point of time. We are not going
beyond that because we believe in a volatile environment,
it’s better to take a short-term view than a long-time view
and it helped us all along, so we are not changing the strategy on
hedging,” Infosys CFO V Balakrishnan said during their
company’s Q3
results.
Wipro’s operating margins could not benefit much from a
depreciating rupee due to a higher hedging position that stood at
USD 1.8 billion for the quarter. Wipro has reported an improvement
of 80 basis points in its operating margins to 20.8 percent as
compared to 10 percent sequentially.
According to a TCS spokesperson, the company’s hedging
policy has two parts to it. “First, we have a 100 percent
hedging on the receivables so that the balance sheet is protected
against the rupee. As far as the second part or the revenue hedging
is concerned, TCS has discontinued its long-term hedging strategy
and adopted a more short-term policy of hedging for two
quarters,” the spokesperson told InformationWeek over a
telephonic interview. The company currently has total hedges of USD
1.7 billion out of which its hedged position for Q4 is USD 1.3
billion.
In the mid-tier segment, MindTree posted a forex loss of Rs 25
crore this quarter as against a forex gain of Rs 17 crore in Q2.
Its peer NIIT Technologies has hedge coverage for the next two
quarters similar to that of Infosys. “We have a firm hedge
policy and do not have any speculative hedge. We incurred a hedge
loss of USD 85 million for Q3 and a net gain of USD 335 million due
to the hedges,” says Pratibha Advani, CFO of NIIT
Technologies.
Despite the margin gains due to rupee volatility, the industry
is unanimous that the gain is only short term. “Any kind of
instability in the market is not good for business. The problem may
arise when customers start demanding the benefit of such gains and
negotiate on the pricing,” adds
Advani.
Fitch Ratings, global rating and research agency, also affirms
that the depreciating Indian rupee, which lost around 15 percent of
its value against the US dollar during January-December 2011, is
likely to provide some relief to the margins over the short-term as
about 60 percent of Indian IT export contracts are USD-denominated.
However, over the medium-term, some of the advantage may erode due
to the increasing
competition.
Overall, Q3 has certainly been a quarter with the sunny side up
as companies reported good numbers in dollar terms and even better
numbers in rupee terms on the back of a depreciating rupee.
Evidently, the rupee depreciation in the October-December quarter
has not equally benefitted all companies as it depends upon their
individual hedging policies and ability to manage their finances.
The tier I firms showed strong growth in Europe despite the
sovereign debt crisis as they focused on tapping the
non-discretionary budget required to keep the ‘lights
on’. The industry is likely to meet Nasscom’s forecast
of 16-18 percent growth for the current
fiscal.
Going forward, the revenue growth for most IT companies may show
some decline in the coming fiscal as clients are cutting back or
postponing discretionary spending amid the macro-economic concerns.
Fitch Ratings however indicate that despite an expected moderation
in revenue growth in 2012 from 2011 levels, the outlook for the
Indian IT services sector is stable on the back of its strong
liquidity position. Most analysts have pegged the industry to grow
in broad-ranged double digits in FY13 indicating some uncertainty
but assuring not all is gloomy outside the window.