Forex Exposure in Indian IT companies
Content
ANALYSIS BEYOND CONSENSUS
…THE NEW ABC OF RESEARCH
TCS vs Infosys | Annual Report Analysis
A comparison of FY13 annual reports of Infosys and TCS presents varying trends on various critical metrics between the two IT behemoths. While Infosys follows a stable and conservative hedging policy (only forwards), TCS’ hedging policy is varied (forwards + options). Hedges, as a proportion of revenue, is lower for Infosys vis‐à‐vis TCS, which is likely to favour the former in an INR depreciating scenario. Infosys ranks better on disclosure parameters, translation of earnings into cash, margin stability, whereas TCS ranks better in terms of earnings growth, tax efficiency and dividend payout. While Infosys’ cash surplus is primarily in fixed deposits/mutual funds, TCS’ cash surplus also represents non convertible debentures (NCD) and inter‐corporate deposits (ICD), resulting in higher yields.
Key Highlights
Derivatives and hedges The two companies follow different hedging proportions and strategies. We believe Infosys has a stable and consistent hedging strategy vis‐à‐vis TCS; the latter has a varied policy for hedging its currency risk. TCS has mix usage of options and forward contracts as hedging instruments, while Infosys has only foreign currency forward contracts. Higher coverage in FY12 led to higher derivative losses for TCS; part of losses was recognised in hedging reserves. TCS recognises portion of gains/losses on derivative contracts in reserves, being designated as effective cash flow hedges, and balance in P&L. Infosys booked all gains/losses in P&L as all the hedges were considered ineffective.
Quality of accounting policy disclosures Quality of Infosys’ accounting policy disclosures was observed to be better. The company provides exhaustive disclosures in the annual report related to revenue recognition, post‐sales support costs and warranties. TCS did not specifically provide disclosures on the above items. Translation of earnings into cash Conversion ratio of earnings into cash flow was consistently higher for Infosys compared to TCS. Cash conversion ratio dipped in FY11 for both the companies, however Infosys recovered quickly vis‐à‐vis TCS. Average collection period was consistently lower for the former versus TCS.
Manoj Bahety, CFA
+91 22 6623 3362 [email protected]
Sandeep Gupta
+91 22 4063 5474 [email protected]
Analysis beyond Consensus (ABC) is our initiative to provide a differentiated perspective to our clients on various non‐routine and intricate issues. This unit of research works independent of the sector/stock research team and views expressed in this report may vary with that of respective sector/stock analyst.
Edelweiss research is also available on www.edelresearch.com, 1 Bloomberg EDEL <GO>, Thomson First Call, Reuters and Factset.
July 8, 2013 Edelweiss Securities Limited
Annual Report Analysis
Cumulative cash generation and disposal TCS paid out higher amount of cash on acquisitions and paying dividends to shareholders compared to Infosys during the past five years. Cash held as a percentage of net worth is significantly higher for Infosys vis‐à‐vis TCS. Investment yields TCS generated better yields on average cash and investments for three years since FY11, especially in FY13, due to investments in high yielding corporate debentures issued by parent company Tata Sons and its subsidiaries (12% of surplus cash is invested in NCDs issued by group companies).
Score card (Based on our assessment) Parameters Derivatives and hedging
Disclosure quality Earnings translation into cash flow Cash flow growth and utilisation Revenue and PAT growth Revenue & PAT per employee PAT & EBITDA margins Dividend payout RoE composition Investment yield Effective tax rate
TCS
Infosys
Remarks Stable derivative coverage and consistent hedging policy by Infosys Detailed policy disclosures by Infosys Consistently higher conversion ratio Higher spends on acquisitions, paying dividend and lower cash held on books by TCS Higher growth YoY compared to Infosys Consistently high per employee metrics for Infosys Higher margins maintained by Infosys TCS paid higher dividends in five years except in FY11 Consistently higher for TCS in 5 years Higher for TCS due to high yielding investments Lower tax rate maintained for past four years
Source: Company annual report, Edelweiss research
Hedging proportion and strategy
Hedging coverage as percentage of average revenue is higher for TCS compared to Infosys. However, the proportion has been varying in case of TCS, whereas for Infosys it has been stable and consistent (between 10% and 15%) over the past five years.
Varying hedging proportion and strategy observed between the two companies. Infosys has a stable and consistent hedging strategy vis‐à‐vis TCS.
Hedging cover as % of average revenue
55.0 45.4 35.8 66.0 59.8 53.6 47.4 41.2 35.0
26.2 16.6 7.0
FY09 TCS (%)
FY10
FY11 INFY (%)
FY12
FY13 USD/INR
(USD/INR)
(%)
Source: Company annual report, Bloomberg, Edelweiss research
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TCS Vs Infosys
Derivative instruments used for hedging firm commitments/ forecast sales transactions. TCS enters into contracts ranging from 1 day to 8 years and has a mix of both foreign exchange forward contracts and foreign currency options contracts. The proportion has been varying year on year. Due to options contract, the company will benefit from favourable exchange rates movements. Infosys enters into contracts maturing between 1 and 12 months. Outstanding exposure as at March 31, 2013, and past three years’ data reveals that use of options has been discontinued and hedging strategy is to use only foreign exchange forward contracts. Absence of options contracts results in lower hedging cost; however, it limits the company’s ability to benefit from favourable exchange rates movements.
Forwards and Options mix
TCS 100% 80% 60% 40% 20% 0% FY09 FY10 FY11 FY12 FY13
Forwards and Options mix
Infosys 100% 80% 60% 40% 20%
Forwards ‐ Cash flow hedges routed through reserves Options ‐ Cash flow hedges routed through reserves Forwards and Options ‐ Routed through P&L
0%
FY09
FY10 Forwards
FY11
FY12 Options
FY13
Source: Company annual report, Edelweiss research
Accounting of derivative gains/ losses
TCS posted higher amount of derivative losses in FY12 compared to Infosys on account of higher derivative cover. Infosys, due to low derivative coverage, posted lower losses in FY12 and booked a gain in FY13 on derivative contracts.
Both TCS and Infosys have adopted ‘AS‐30 – Financial Instruments: Recognition and measurement’. Consequently, TCS records MTM gains/ losses directly in reserves for all effective hedges designated as cash flow hedges. Infosys routes all gains/ losses through P&L because the disclosure in the company’s financial statements states that currently hedges taken by the group are ineffective and hence resultant gains/ losses consequent to fair valuation are recorded directly in the profit and loss account.
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Annual Report Analysis
Derivative gains/ losses reported in financial statements and notes to accounts by TCS and Infosys
Derivative Gains/ (Losses)
TCS 9.0 5.0
Derivative Gains/ (Losses)
4.0 1.6
Infosys
(INR bn)
(3.0) (7.0)
(INR bn)
FY09 FY10 FY11 FY12 FY13
1.0
(0.8) (3.2) (5.6) (8.0)
(11.0)
FY09
FY10
FY11
FY12
FY13
Derivative Gain/ (Loss) recorded in P&L Derivative Gain/ (Loss) recorded in Reserves
Derivative Gain/ (Loss) recorded in P&L
Source: Company annual report, Edelweiss research *(FY09 and FY10 figures for Infosys are based on standalone financials as consolidated numbers are not available)
Comparison of accounting policy disclosures
Quality of Infosys’ accounting policy disclosures was observed to be better than TCS.
Accounting policies Accounting policies Revenue recognition
Observations Infosys has provided fairly detailed policy disclosure for revenue recognition. The accounting policy for revenue recognition includes specific mention on volume discounts and pricing incentives to customers, estimates involved in assessing the amounts and basis of allocation to the underlying revenue transactions. TCS revenue recognition policy is very broad in nature and lacks specific disclosures on volume discounts, incentives and extent of estimates involved in recognising these costs. ‐ Details of amount involved was not separately disclosed by both the companies. Infosys separately discloses its policy for recognition of post‐sales support costs and warranties provisions. It estimates such costs on basis of historical experience and estimates are reviewed annually for any material changes. ‐ FY 13 Provision for post sales client support and warranties stood at INR0.8bn (FY12 INR0.6bn) ‐ Cumulative provision for post ‐sales client support and warranties was at INR2.13bn (FY12 ‐ INR1.33bn) TCS does not provide any such specific disclosures regarding warranties/ sales support costs. ‐ No specific details available on costs incurred.
Post sales client support and warranties
Source: Company annual report, Edelweiss research
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TCS Vs Infosys
Earnings to cash conversion
Conversion ratio of earnings to operating cash flow pans out consistently better for Infosys than TCS.
A) Translation of adjusted EPS to operating cash flow per share.
Cash flows analysis
TCS Particulars FY09 FY10 FY11 Net cash from operating activities 54.1 74.1 66.4 Interest expenses paid (0.3) (0.2) (0.3) Net cash from operating activities post interest 53.8 73.9 66.1 Operating cash flow per share (OCFPS) 27.5 37.8 33.8 EPS (Reported) 26.8 35.7 46.3 Other income per share (2.2) 1.4 3.1 Adj EPS (Ex‐Other Income) 29.0 34.3 43.2 Adj EPS (Excl other income) Represented by OCFPS(%) 94.7 110.1 78.2 FY12 69.8 (0.2) 69.6 35.5 53.1 2.2 50.9 69.8 FY13 116.2 (0.5) 115.7 59.1 71.0 6.0 65.0 91.0 Infosys FY09 FY10 FY11 53.3 61.9 47.5 ‐ ‐ ‐ 53.3 61.9 47.5 93.0 108.4 83.2 104.6 109.0 119.7 16.0 16.6 21.2 88.6 92.4 98.5 104.9 117.2 84.5
(INR bn)
FY12 63.1 ‐ 63.1 110.4 145.8 33.3 112.5 98.1 FY13 73.7 ‐ 73.7 129.1 165.0 41.4 123.6 104.4
Source: Company annual report, Edelweiss research
Earnings to cash conversion ratio (%)
130.0 114.0 98.0
(%)
% of Adj. EPS (Excl. Other income)
TCS Infy FY09 94.7 104.9 FY10 110.1 117.2 FY11 78.2 84.5 FY12 69.8 98.1 FY13 91.0 104.4
82.0 66.0 50.0 FY09 FY10 TCS FY11 FY12 Infy FY13
Source: Company annual report, Edelweiss research
Infosys’ ratio has been consistently higher in the past five years, whereas TCS’ conversion ratio deteriorated, especially FY11 onwards, primarily due to increase in trade and other receivables. TCS also has exposure to government sector/ vertical which was one of the drivers of incremental growth in 2012.
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Annual Report Analysis
Average collection period 89
80 71 61 52 43 FY09 FY10 TCS FY11 FY12 Infy FY13
Receivable days
TCS Infy FY09 73 59 FY10 69 58 FY11 69 54 FY12 74 57 FY13 74 59
(Days)
Source: Company annual report, Edelweiss research
Receivables collection days continued to be higher for TCS. B) Cumulative cash flow generation and utilisation analysis over past 5 years (FY09‐13) Sources of cash Net operating cash flow generation has been lower for Infosys on cumulative basis in the past five years compared to TCS. Relative proportion of dividend, interest and other income is also significantly larger for the former than the latter. Sources of cash generation from 2009 to 2013
TCS Investment Income 5%
Investment Income 19%
Infosys
Net Operating Cash flows 95%
Utilisation
Net Operating Cash flows 81%
Source: Company annual report, Edelweiss research
Both the companies invested nearly equal amounts in fixed capital. TCS has a larger percentage of dividend payment compared to Infosys. Cash held on books as percentage of total cash generated continues to be significantly large for Infosys. In terms of spending on acquisitions, TCS spent more than Infosys in the past five years. TCS has also larger percentage of funds invested in fixed deposits and short/ long term investments vis‐à‐vis Infosys.
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TCS Vs Infosys
Cash utilisation as percentage of cash generation from 2009 to 2013 Net cash TCS surplus/ (deficit) Capex 14% Net debt 21% repaid Net cash 1% surplus/ Acquisition (deficit) 6% NCDs and 41% ICDs 12% Purchase of minority interest 1%
Dividend 45%
Infosys
Capex 19%
Acquisition 4%
Dividend 36%
Source: Company annual report, Edelweiss research
TCS ‐ YoY cash generation and utilisation—FY09 to FY13
Sources
Operating profit Les s : Interes t Les s : Ta xes Add: Inves tment Income Cash profits Worki ng ca pi ta l cha nges Cash profits after working cap Equi ty Total
(INR bn)
Total Application FY09
11.0 24.4 ‐ 16.1 0.8 0.3 (0.1) 3.4 55.8
FY09
64.3 0.4 12.1 2.1 53.9 1.9 55.8 0.0
FY10
88.3 0.2 19.1 1.1 70.2 4.8 75.0 0.1
FY11
110.7 0.3 22.6 4.1 91.9 (21.9) 70.0 0.0
FY12
145.0 0.2 40.7 4.3 108.4 (34.6) 73.8 0.1
FY13
FY10
10.3 (0.3) ‐ 19.7 13.9 4.0 (0.1) 27.4 75.0
FY11
18.1 (0.3) ‐ 46.1 0.4 0.2 (0.1) 5.6 70.0
FY12
19.9 ‐ 2.3 39.1 3.8 0.3 0.0 8.5 73.9
FY13
26.3 1.6 ‐ 57.4 27.4 (0.8) 0.2 11.6 123.7
Total
85.6 25.5 2.3 178.3 46.3 4.1 (0.0) 56.5 398.5
Ca pex Acqui s i ti ons Purcha s e of mi nori ty i nt. Di vi dend NCDs a nd ICDs Net debt repa i d Mi s cel l a neous Net ca s h a nd i nves tments (FDs , Mutua l funds ) 55.8 75.0 70.0 73.9 123.7 398.5 Total
182.0 590.4 0.5 1.5 48.2 142.7 8.1 19.6 141.4 465.8 (17.7) (67.5) 123.7 398.3 ‐ 0.2
Source: Company annual report, Edelweiss research
TCS’ cash flow posted 17% CAGR over past five years
Infosys ‐ YoY cash generation and utilisation—FY09 to FY13
Sources
Operating profit Les s : Interes t Les s : Ta xes Add: Inves tment Income Cash profits Worki ng ca pi ta l cha nges Cash profits after working cap Equi ty Total
(INR bn)
Application FY09 FY10
6.7 1.7 15.7 ‐ 47.4
FY09
66.9 ‐ 9.0 10.6 68.4 (4.6) 63.8 0.6 64.5
FY10
80.1 ‐ 17.5 8.7 71.3 (0.6) 70.8 0.9 71.6
FY11
90.3 ‐ 28.5 11.5 73.3 (14.3) 59.0 0.2 59.2
FY12
108.4 ‐ 31.2 18.1 95.4 (14.2) 81.2 0.1 81.3
FY13
118.5 ‐ 32.9 19.7 105.3 (11.8) 93.4 0.0 93.4
Total
464.2 ‐ 119.1 68.6 413.6 (45.5) 368.2 1.8 370.0
FY11
13.1 0.0 36.6 ‐ 9.5
FY12
15.3 2.0 23.3 ‐ 40.7
FY13
20.9 11.6 31.2 0.9 28.9
Total
69.2 15.5 131.8 0.9 152.6
Ca pex 13.3 Acqui s i ti ons 0.2 Di vi dend 24.9 Net debt repa i d ‐ Net ca s h a nd i nves tments 26.1 (FDs , Mutua l funds )
Total
64.5
71.6
59.2
81.3
93.4
370.0
Source: Company annual report, Edelweiss research
Infosys’ cash flow posted 8% CAGR over past five years.
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Annual Report Analysis
PBT growth versus cash flow growth
Growth in cash flow from operations versus PBT has been unstable for TCS, except for FY10 when it was almost equal. For Infosys, cash flow growth has been in line with PBT growth, except for FY11 when it was negative due to significant increase in receivables and taxes paid.
PBT and Cash flow growth
80.0 60.0 40.0 TCS
PBT and Cash flow growth
42.0 28.0 14.0 Infosys
(%)
20.0 0.0 (20.0) FY09 FY10 FY11 FY12 FY13
(%)
0.0 (14.0) (28.0)
FY09
FY10
FY11
FY12
FY13
PBT (% growth YOY) Cash flow from operations (% growth YOY)
PBT (% growth YOY) Cash flow from operations (% growth YOY)
Source: Company annual report, Edelweiss research
PAT and EBITDA margins
Despite TCS’ better revenue growth in FY13 vis‐à‐vis Infosys, the latter’s profit margin continued to be better. Infosys’ EBITDA margin has been higher than TCS except in FY13 where it is almost equal for both the companies. EBITDA margin 42.0
PAT margin 29.5
27.0 24.5
38.0 34.0
(%)
(%)
22.0 19.5 17.0
30.0 26.0 22.0
FY09 TCS
FY10
FY11
FY12 INFY
FY13
FY09
FY10 TCS
FY11
FY12 INFY
FY13
Source: Company annual report, Edelweiss research
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TCS Vs Infosys
Revenue and PAT per employee
Revenue per employee and PAT per employee continues to be higher for Infosys vis‐à‐vis TCS. PAT per employee
Revenue per employee
0.70 0.60 0.50
(INR mn)
3.0 2.4
(INR mn)
0.40 0.30 0.20
1.8 1.2 0.6
0.10 0.00
0.0
FY11 TCS FY12 INFY FY13
FY11 TCS
FY12 INFY
FY13
Source: Company annual report, Edelweiss research
Dividend payout ratio
Dividend payout has been higher for TCS in past five years, except for FY11, compared to Infosys. FY11 increase in dividend for Infosys is on account of special dividend on completion of 30 years.
Dividend payout (%)
Infosys 60.0 48.0 36.0
(%)
24.0 12.0 0.0
FY09
FY10 TCS
FY11
FY12 INFY
FY13
Source: Company annual report, Edelweiss research
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Annual Report Analysis
ROE analyser
TCS continues to exhibit higher ROE as compared to Infosys; however latter has higher return on operating assets (RNOA) as revealed by ROE analyser below.
ROE comparison 51.0
45.0 39.0
(%)
33.0 27.0 21.0
FY09
FY10 TCS
FY11
FY12 INFY
FY13
Source: Company annual report, Edelweiss research
RoE analyser analysis profitability on the scale of operating and capital allocation efficiency (detailed concept explained in Annexure A). We have analysed TCS’ and Infosys’ profitability for FY13, results and key findings of which are given below:
TCS – ROE analyser Particulars A. Return on net operating assets (RNOA) OPATO (operating asset turnover) (x) NOPAT margin (%) B. Return from leverage (FLEV x spread) (%) FLEV (financial leverage) (x) NFI (net financing income) (%) Net financial spread (RNOA ‐NBC) (%) C. Return from other funding (%) ROE Derived (A+B+C) (%)
FY13 42.1 2.0 21.0 (5.2) (0.2) 12.5 29.6 0.3 37.1
* Net financing income is based on closing average figures (Refer Annexure A for details)
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TCS Vs Infosys
ROE tree ‐ TCS 45.0
‐4.9 36.0 27.0
(%)
0.3
18.0 9.0 0.0
42.0
37.4
RNOA
Return from leverage
Return from other funding
ROAE
Source: Company annual report, Edelweiss research
Infosys – ROE analyser Particulars A. Return on net operating assets (RNOA) OPATO (operating asset turnover) (x) NOPAT margin (%) B. Return from leverage (FLEV x spread) (%) FLEV (financial leverage) (x) NFI (net financing income) (%) Net financial spread (RNOA ‐NBC) (%) C. Return from other funding (%) ROE Derived (A+B+C) (%)
FY13 50.8 2.6 19.4 (25.1) (0.6) 7.4 43.5 ‐ 25.7
* Net financing income is based on closing average figures (Refer Annexure A for details)
ROE tree ‐ Infosys
Source: Company annual report, Edelweiss research
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Annual Report Analysis
Yield on investments
Infosys’ cash and investments as % of net worth is significantly high at 59% as compared to TCS’ 20%.
Further, TCS generated better returns on cash and investments compared to Infosys. The increase is FY13 seems to be primarily on account of investment in high yielding non‐ convertible debentures issued by parent company Tata Sons and its subsidiaries (interest ranging from 8.5% to 9.5%) and investment in other debentures and bonds.
Yields on average cash and investments
Infosys 16.0 12.8 9.6
(%)
6.4 3.2 0.0
FY09
FY10 TCS
FY11
FY12 INFY
FY13
Source: Company annual report, Edelweiss research
Effective tax rate
TCS’ effective tax rate has been consistently lower in past four years compared to Infosys.
Effective income tax rate(%)
Infosys 35.0 28.0 21.0
(%)
14.0 7.0 0.0
FY09
FY10 TCS
FY11
FY12 INFY
FY13
Source: Company annual report, Edelweiss research
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TCS Vs Infosys
Geographical revenue split
US and Europe contribute significantly to revenues of both TCS and Infosys. While revenue contribution from US has been flattish for TCS, US revenue growth dipped marginally in case of Infosys.
Revenue contribution (%)
100% 80% 60% TCS
Revenue contribution (%)
100% 80% 60% Infosys
(%)
(%)
40% 20% 0% 40% 20% 0% FY10 FY11 FY12 Europe India FY13 Others
FY09 Americas
FY09
FY10 Europe
FY11 India
FY12
FY13
North America
Rest of the World
Source: Company annual report, Edelweiss research
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Annual Report Analysis
ANNEXURES
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TCS Vs Infosys
Annexure A – ROE analyzer
ROE analyser analyses the profitability on the scale of operating efficiency and capital allocation efficiency. While operating efficiency is a measure of how efficiently the company is making use of operating assets, capital efficiency is the measure of balance sheet efficiency. The above analysis involves: 1. Dissection of profitability along two major drivers: a. Return from operating activities (RNOA: return on net operating assets). b. Return from financing activities (leveraging effect on ROE). ROE = Return from operating activities (RNOA) + Return from leverage Or ROE = Operating margin x Operating assets turnover + Leverage spread x Leverage multiplier Whereas: RNOA = NOPAT/Average operating assets Operating margin = NOPAT/Operating revenue Operating assets turnover = Operating revenue/Average operating assets Leverage spread = RNOA – Net borrowing cost Leverage multiplier = Average net financial obligation/Average common shareholders’ equity 2. Reformulation of balance sheet, wherein we have regrouped assets and liabilities into operating and financing categories (against traditional current and non‐current categorisation). 3. Reformulation of income statement, wherein we have regrouped income and expenses into operating and financing activities.
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Annual Report Analysis
Summary financials Edelweiss Securities Limited, Edelweiss House, off C.S.T. Road, Kalina, Mumbai – 400 098. Board: (91‐22) 4009 4400, Email: [email protected]
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TCS Vs Infosys
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Annual Report Analysis
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18 Edelweiss Securities Limited
…THE NEW ABC OF RESEARCH
TCS vs Infosys | Annual Report Analysis
A comparison of FY13 annual reports of Infosys and TCS presents varying trends on various critical metrics between the two IT behemoths. While Infosys follows a stable and conservative hedging policy (only forwards), TCS’ hedging policy is varied (forwards + options). Hedges, as a proportion of revenue, is lower for Infosys vis‐à‐vis TCS, which is likely to favour the former in an INR depreciating scenario. Infosys ranks better on disclosure parameters, translation of earnings into cash, margin stability, whereas TCS ranks better in terms of earnings growth, tax efficiency and dividend payout. While Infosys’ cash surplus is primarily in fixed deposits/mutual funds, TCS’ cash surplus also represents non convertible debentures (NCD) and inter‐corporate deposits (ICD), resulting in higher yields.
Key Highlights
Derivatives and hedges The two companies follow different hedging proportions and strategies. We believe Infosys has a stable and consistent hedging strategy vis‐à‐vis TCS; the latter has a varied policy for hedging its currency risk. TCS has mix usage of options and forward contracts as hedging instruments, while Infosys has only foreign currency forward contracts. Higher coverage in FY12 led to higher derivative losses for TCS; part of losses was recognised in hedging reserves. TCS recognises portion of gains/losses on derivative contracts in reserves, being designated as effective cash flow hedges, and balance in P&L. Infosys booked all gains/losses in P&L as all the hedges were considered ineffective.
Quality of accounting policy disclosures Quality of Infosys’ accounting policy disclosures was observed to be better. The company provides exhaustive disclosures in the annual report related to revenue recognition, post‐sales support costs and warranties. TCS did not specifically provide disclosures on the above items. Translation of earnings into cash Conversion ratio of earnings into cash flow was consistently higher for Infosys compared to TCS. Cash conversion ratio dipped in FY11 for both the companies, however Infosys recovered quickly vis‐à‐vis TCS. Average collection period was consistently lower for the former versus TCS.
Manoj Bahety, CFA
+91 22 6623 3362 [email protected]
Sandeep Gupta
+91 22 4063 5474 [email protected]
Analysis beyond Consensus (ABC) is our initiative to provide a differentiated perspective to our clients on various non‐routine and intricate issues. This unit of research works independent of the sector/stock research team and views expressed in this report may vary with that of respective sector/stock analyst.
Edelweiss research is also available on www.edelresearch.com, 1 Bloomberg EDEL <GO>, Thomson First Call, Reuters and Factset.
July 8, 2013 Edelweiss Securities Limited
Annual Report Analysis
Cumulative cash generation and disposal TCS paid out higher amount of cash on acquisitions and paying dividends to shareholders compared to Infosys during the past five years. Cash held as a percentage of net worth is significantly higher for Infosys vis‐à‐vis TCS. Investment yields TCS generated better yields on average cash and investments for three years since FY11, especially in FY13, due to investments in high yielding corporate debentures issued by parent company Tata Sons and its subsidiaries (12% of surplus cash is invested in NCDs issued by group companies).
Score card (Based on our assessment) Parameters Derivatives and hedging
Disclosure quality Earnings translation into cash flow Cash flow growth and utilisation Revenue and PAT growth Revenue & PAT per employee PAT & EBITDA margins Dividend payout RoE composition Investment yield Effective tax rate
TCS
Infosys
Remarks Stable derivative coverage and consistent hedging policy by Infosys Detailed policy disclosures by Infosys Consistently higher conversion ratio Higher spends on acquisitions, paying dividend and lower cash held on books by TCS Higher growth YoY compared to Infosys Consistently high per employee metrics for Infosys Higher margins maintained by Infosys TCS paid higher dividends in five years except in FY11 Consistently higher for TCS in 5 years Higher for TCS due to high yielding investments Lower tax rate maintained for past four years
Source: Company annual report, Edelweiss research
Hedging proportion and strategy
Hedging coverage as percentage of average revenue is higher for TCS compared to Infosys. However, the proportion has been varying in case of TCS, whereas for Infosys it has been stable and consistent (between 10% and 15%) over the past five years.
Varying hedging proportion and strategy observed between the two companies. Infosys has a stable and consistent hedging strategy vis‐à‐vis TCS.
Hedging cover as % of average revenue
55.0 45.4 35.8 66.0 59.8 53.6 47.4 41.2 35.0
26.2 16.6 7.0
FY09 TCS (%)
FY10
FY11 INFY (%)
FY12
FY13 USD/INR
(USD/INR)
(%)
Source: Company annual report, Bloomberg, Edelweiss research
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TCS Vs Infosys
Derivative instruments used for hedging firm commitments/ forecast sales transactions. TCS enters into contracts ranging from 1 day to 8 years and has a mix of both foreign exchange forward contracts and foreign currency options contracts. The proportion has been varying year on year. Due to options contract, the company will benefit from favourable exchange rates movements. Infosys enters into contracts maturing between 1 and 12 months. Outstanding exposure as at March 31, 2013, and past three years’ data reveals that use of options has been discontinued and hedging strategy is to use only foreign exchange forward contracts. Absence of options contracts results in lower hedging cost; however, it limits the company’s ability to benefit from favourable exchange rates movements.
Forwards and Options mix
TCS 100% 80% 60% 40% 20% 0% FY09 FY10 FY11 FY12 FY13
Forwards and Options mix
Infosys 100% 80% 60% 40% 20%
Forwards ‐ Cash flow hedges routed through reserves Options ‐ Cash flow hedges routed through reserves Forwards and Options ‐ Routed through P&L
0%
FY09
FY10 Forwards
FY11
FY12 Options
FY13
Source: Company annual report, Edelweiss research
Accounting of derivative gains/ losses
TCS posted higher amount of derivative losses in FY12 compared to Infosys on account of higher derivative cover. Infosys, due to low derivative coverage, posted lower losses in FY12 and booked a gain in FY13 on derivative contracts.
Both TCS and Infosys have adopted ‘AS‐30 – Financial Instruments: Recognition and measurement’. Consequently, TCS records MTM gains/ losses directly in reserves for all effective hedges designated as cash flow hedges. Infosys routes all gains/ losses through P&L because the disclosure in the company’s financial statements states that currently hedges taken by the group are ineffective and hence resultant gains/ losses consequent to fair valuation are recorded directly in the profit and loss account.
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Edelweiss Securities Limited
Annual Report Analysis
Derivative gains/ losses reported in financial statements and notes to accounts by TCS and Infosys
Derivative Gains/ (Losses)
TCS 9.0 5.0
Derivative Gains/ (Losses)
4.0 1.6
Infosys
(INR bn)
(3.0) (7.0)
(INR bn)
FY09 FY10 FY11 FY12 FY13
1.0
(0.8) (3.2) (5.6) (8.0)
(11.0)
FY09
FY10
FY11
FY12
FY13
Derivative Gain/ (Loss) recorded in P&L Derivative Gain/ (Loss) recorded in Reserves
Derivative Gain/ (Loss) recorded in P&L
Source: Company annual report, Edelweiss research *(FY09 and FY10 figures for Infosys are based on standalone financials as consolidated numbers are not available)
Comparison of accounting policy disclosures
Quality of Infosys’ accounting policy disclosures was observed to be better than TCS.
Accounting policies Accounting policies Revenue recognition
Observations Infosys has provided fairly detailed policy disclosure for revenue recognition. The accounting policy for revenue recognition includes specific mention on volume discounts and pricing incentives to customers, estimates involved in assessing the amounts and basis of allocation to the underlying revenue transactions. TCS revenue recognition policy is very broad in nature and lacks specific disclosures on volume discounts, incentives and extent of estimates involved in recognising these costs. ‐ Details of amount involved was not separately disclosed by both the companies. Infosys separately discloses its policy for recognition of post‐sales support costs and warranties provisions. It estimates such costs on basis of historical experience and estimates are reviewed annually for any material changes. ‐ FY 13 Provision for post sales client support and warranties stood at INR0.8bn (FY12 INR0.6bn) ‐ Cumulative provision for post ‐sales client support and warranties was at INR2.13bn (FY12 ‐ INR1.33bn) TCS does not provide any such specific disclosures regarding warranties/ sales support costs. ‐ No specific details available on costs incurred.
Post sales client support and warranties
Source: Company annual report, Edelweiss research
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TCS Vs Infosys
Earnings to cash conversion
Conversion ratio of earnings to operating cash flow pans out consistently better for Infosys than TCS.
A) Translation of adjusted EPS to operating cash flow per share.
Cash flows analysis
TCS Particulars FY09 FY10 FY11 Net cash from operating activities 54.1 74.1 66.4 Interest expenses paid (0.3) (0.2) (0.3) Net cash from operating activities post interest 53.8 73.9 66.1 Operating cash flow per share (OCFPS) 27.5 37.8 33.8 EPS (Reported) 26.8 35.7 46.3 Other income per share (2.2) 1.4 3.1 Adj EPS (Ex‐Other Income) 29.0 34.3 43.2 Adj EPS (Excl other income) Represented by OCFPS(%) 94.7 110.1 78.2 FY12 69.8 (0.2) 69.6 35.5 53.1 2.2 50.9 69.8 FY13 116.2 (0.5) 115.7 59.1 71.0 6.0 65.0 91.0 Infosys FY09 FY10 FY11 53.3 61.9 47.5 ‐ ‐ ‐ 53.3 61.9 47.5 93.0 108.4 83.2 104.6 109.0 119.7 16.0 16.6 21.2 88.6 92.4 98.5 104.9 117.2 84.5
(INR bn)
FY12 63.1 ‐ 63.1 110.4 145.8 33.3 112.5 98.1 FY13 73.7 ‐ 73.7 129.1 165.0 41.4 123.6 104.4
Source: Company annual report, Edelweiss research
Earnings to cash conversion ratio (%)
130.0 114.0 98.0
(%)
% of Adj. EPS (Excl. Other income)
TCS Infy FY09 94.7 104.9 FY10 110.1 117.2 FY11 78.2 84.5 FY12 69.8 98.1 FY13 91.0 104.4
82.0 66.0 50.0 FY09 FY10 TCS FY11 FY12 Infy FY13
Source: Company annual report, Edelweiss research
Infosys’ ratio has been consistently higher in the past five years, whereas TCS’ conversion ratio deteriorated, especially FY11 onwards, primarily due to increase in trade and other receivables. TCS also has exposure to government sector/ vertical which was one of the drivers of incremental growth in 2012.
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Edelweiss Securities Limited
Annual Report Analysis
Average collection period 89
80 71 61 52 43 FY09 FY10 TCS FY11 FY12 Infy FY13
Receivable days
TCS Infy FY09 73 59 FY10 69 58 FY11 69 54 FY12 74 57 FY13 74 59
(Days)
Source: Company annual report, Edelweiss research
Receivables collection days continued to be higher for TCS. B) Cumulative cash flow generation and utilisation analysis over past 5 years (FY09‐13) Sources of cash Net operating cash flow generation has been lower for Infosys on cumulative basis in the past five years compared to TCS. Relative proportion of dividend, interest and other income is also significantly larger for the former than the latter. Sources of cash generation from 2009 to 2013
TCS Investment Income 5%
Investment Income 19%
Infosys
Net Operating Cash flows 95%
Utilisation
Net Operating Cash flows 81%
Source: Company annual report, Edelweiss research
Both the companies invested nearly equal amounts in fixed capital. TCS has a larger percentage of dividend payment compared to Infosys. Cash held on books as percentage of total cash generated continues to be significantly large for Infosys. In terms of spending on acquisitions, TCS spent more than Infosys in the past five years. TCS has also larger percentage of funds invested in fixed deposits and short/ long term investments vis‐à‐vis Infosys.
6 Edelweiss Securities Limited
TCS Vs Infosys
Cash utilisation as percentage of cash generation from 2009 to 2013 Net cash TCS surplus/ (deficit) Capex 14% Net debt 21% repaid Net cash 1% surplus/ Acquisition (deficit) 6% NCDs and 41% ICDs 12% Purchase of minority interest 1%
Dividend 45%
Infosys
Capex 19%
Acquisition 4%
Dividend 36%
Source: Company annual report, Edelweiss research
TCS ‐ YoY cash generation and utilisation—FY09 to FY13
Sources
Operating profit Les s : Interes t Les s : Ta xes Add: Inves tment Income Cash profits Worki ng ca pi ta l cha nges Cash profits after working cap Equi ty Total
(INR bn)
Total Application FY09
11.0 24.4 ‐ 16.1 0.8 0.3 (0.1) 3.4 55.8
FY09
64.3 0.4 12.1 2.1 53.9 1.9 55.8 0.0
FY10
88.3 0.2 19.1 1.1 70.2 4.8 75.0 0.1
FY11
110.7 0.3 22.6 4.1 91.9 (21.9) 70.0 0.0
FY12
145.0 0.2 40.7 4.3 108.4 (34.6) 73.8 0.1
FY13
FY10
10.3 (0.3) ‐ 19.7 13.9 4.0 (0.1) 27.4 75.0
FY11
18.1 (0.3) ‐ 46.1 0.4 0.2 (0.1) 5.6 70.0
FY12
19.9 ‐ 2.3 39.1 3.8 0.3 0.0 8.5 73.9
FY13
26.3 1.6 ‐ 57.4 27.4 (0.8) 0.2 11.6 123.7
Total
85.6 25.5 2.3 178.3 46.3 4.1 (0.0) 56.5 398.5
Ca pex Acqui s i ti ons Purcha s e of mi nori ty i nt. Di vi dend NCDs a nd ICDs Net debt repa i d Mi s cel l a neous Net ca s h a nd i nves tments (FDs , Mutua l funds ) 55.8 75.0 70.0 73.9 123.7 398.5 Total
182.0 590.4 0.5 1.5 48.2 142.7 8.1 19.6 141.4 465.8 (17.7) (67.5) 123.7 398.3 ‐ 0.2
Source: Company annual report, Edelweiss research
TCS’ cash flow posted 17% CAGR over past five years
Infosys ‐ YoY cash generation and utilisation—FY09 to FY13
Sources
Operating profit Les s : Interes t Les s : Ta xes Add: Inves tment Income Cash profits Worki ng ca pi ta l cha nges Cash profits after working cap Equi ty Total
(INR bn)
Application FY09 FY10
6.7 1.7 15.7 ‐ 47.4
FY09
66.9 ‐ 9.0 10.6 68.4 (4.6) 63.8 0.6 64.5
FY10
80.1 ‐ 17.5 8.7 71.3 (0.6) 70.8 0.9 71.6
FY11
90.3 ‐ 28.5 11.5 73.3 (14.3) 59.0 0.2 59.2
FY12
108.4 ‐ 31.2 18.1 95.4 (14.2) 81.2 0.1 81.3
FY13
118.5 ‐ 32.9 19.7 105.3 (11.8) 93.4 0.0 93.4
Total
464.2 ‐ 119.1 68.6 413.6 (45.5) 368.2 1.8 370.0
FY11
13.1 0.0 36.6 ‐ 9.5
FY12
15.3 2.0 23.3 ‐ 40.7
FY13
20.9 11.6 31.2 0.9 28.9
Total
69.2 15.5 131.8 0.9 152.6
Ca pex 13.3 Acqui s i ti ons 0.2 Di vi dend 24.9 Net debt repa i d ‐ Net ca s h a nd i nves tments 26.1 (FDs , Mutua l funds )
Total
64.5
71.6
59.2
81.3
93.4
370.0
Source: Company annual report, Edelweiss research
Infosys’ cash flow posted 8% CAGR over past five years.
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Edelweiss Securities Limited
Annual Report Analysis
PBT growth versus cash flow growth
Growth in cash flow from operations versus PBT has been unstable for TCS, except for FY10 when it was almost equal. For Infosys, cash flow growth has been in line with PBT growth, except for FY11 when it was negative due to significant increase in receivables and taxes paid.
PBT and Cash flow growth
80.0 60.0 40.0 TCS
PBT and Cash flow growth
42.0 28.0 14.0 Infosys
(%)
20.0 0.0 (20.0) FY09 FY10 FY11 FY12 FY13
(%)
0.0 (14.0) (28.0)
FY09
FY10
FY11
FY12
FY13
PBT (% growth YOY) Cash flow from operations (% growth YOY)
PBT (% growth YOY) Cash flow from operations (% growth YOY)
Source: Company annual report, Edelweiss research
PAT and EBITDA margins
Despite TCS’ better revenue growth in FY13 vis‐à‐vis Infosys, the latter’s profit margin continued to be better. Infosys’ EBITDA margin has been higher than TCS except in FY13 where it is almost equal for both the companies. EBITDA margin 42.0
PAT margin 29.5
27.0 24.5
38.0 34.0
(%)
(%)
22.0 19.5 17.0
30.0 26.0 22.0
FY09 TCS
FY10
FY11
FY12 INFY
FY13
FY09
FY10 TCS
FY11
FY12 INFY
FY13
Source: Company annual report, Edelweiss research
8 Edelweiss Securities Limited
TCS Vs Infosys
Revenue and PAT per employee
Revenue per employee and PAT per employee continues to be higher for Infosys vis‐à‐vis TCS. PAT per employee
Revenue per employee
0.70 0.60 0.50
(INR mn)
3.0 2.4
(INR mn)
0.40 0.30 0.20
1.8 1.2 0.6
0.10 0.00
0.0
FY11 TCS FY12 INFY FY13
FY11 TCS
FY12 INFY
FY13
Source: Company annual report, Edelweiss research
Dividend payout ratio
Dividend payout has been higher for TCS in past five years, except for FY11, compared to Infosys. FY11 increase in dividend for Infosys is on account of special dividend on completion of 30 years.
Dividend payout (%)
Infosys 60.0 48.0 36.0
(%)
24.0 12.0 0.0
FY09
FY10 TCS
FY11
FY12 INFY
FY13
Source: Company annual report, Edelweiss research
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Edelweiss Securities Limited
Annual Report Analysis
ROE analyser
TCS continues to exhibit higher ROE as compared to Infosys; however latter has higher return on operating assets (RNOA) as revealed by ROE analyser below.
ROE comparison 51.0
45.0 39.0
(%)
33.0 27.0 21.0
FY09
FY10 TCS
FY11
FY12 INFY
FY13
Source: Company annual report, Edelweiss research
RoE analyser analysis profitability on the scale of operating and capital allocation efficiency (detailed concept explained in Annexure A). We have analysed TCS’ and Infosys’ profitability for FY13, results and key findings of which are given below:
TCS – ROE analyser Particulars A. Return on net operating assets (RNOA) OPATO (operating asset turnover) (x) NOPAT margin (%) B. Return from leverage (FLEV x spread) (%) FLEV (financial leverage) (x) NFI (net financing income) (%) Net financial spread (RNOA ‐NBC) (%) C. Return from other funding (%) ROE Derived (A+B+C) (%)
FY13 42.1 2.0 21.0 (5.2) (0.2) 12.5 29.6 0.3 37.1
* Net financing income is based on closing average figures (Refer Annexure A for details)
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Edelweiss Securities Limited
TCS Vs Infosys
ROE tree ‐ TCS 45.0
‐4.9 36.0 27.0
(%)
0.3
18.0 9.0 0.0
42.0
37.4
RNOA
Return from leverage
Return from other funding
ROAE
Source: Company annual report, Edelweiss research
Infosys – ROE analyser Particulars A. Return on net operating assets (RNOA) OPATO (operating asset turnover) (x) NOPAT margin (%) B. Return from leverage (FLEV x spread) (%) FLEV (financial leverage) (x) NFI (net financing income) (%) Net financial spread (RNOA ‐NBC) (%) C. Return from other funding (%) ROE Derived (A+B+C) (%)
FY13 50.8 2.6 19.4 (25.1) (0.6) 7.4 43.5 ‐ 25.7
* Net financing income is based on closing average figures (Refer Annexure A for details)
ROE tree ‐ Infosys
Source: Company annual report, Edelweiss research
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Edelweiss Securities Limited
Annual Report Analysis
Yield on investments
Infosys’ cash and investments as % of net worth is significantly high at 59% as compared to TCS’ 20%.
Further, TCS generated better returns on cash and investments compared to Infosys. The increase is FY13 seems to be primarily on account of investment in high yielding non‐ convertible debentures issued by parent company Tata Sons and its subsidiaries (interest ranging from 8.5% to 9.5%) and investment in other debentures and bonds.
Yields on average cash and investments
Infosys 16.0 12.8 9.6
(%)
6.4 3.2 0.0
FY09
FY10 TCS
FY11
FY12 INFY
FY13
Source: Company annual report, Edelweiss research
Effective tax rate
TCS’ effective tax rate has been consistently lower in past four years compared to Infosys.
Effective income tax rate(%)
Infosys 35.0 28.0 21.0
(%)
14.0 7.0 0.0
FY09
FY10 TCS
FY11
FY12 INFY
FY13
Source: Company annual report, Edelweiss research
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Edelweiss Securities Limited
TCS Vs Infosys
Geographical revenue split
US and Europe contribute significantly to revenues of both TCS and Infosys. While revenue contribution from US has been flattish for TCS, US revenue growth dipped marginally in case of Infosys.
Revenue contribution (%)
100% 80% 60% TCS
Revenue contribution (%)
100% 80% 60% Infosys
(%)
(%)
40% 20% 0% 40% 20% 0% FY10 FY11 FY12 Europe India FY13 Others
FY09 Americas
FY09
FY10 Europe
FY11 India
FY12
FY13
North America
Rest of the World
Source: Company annual report, Edelweiss research
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Edelweiss Securities Limited
Annual Report Analysis
ANNEXURES
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Edelweiss Securities Limited
TCS Vs Infosys
Annexure A – ROE analyzer
ROE analyser analyses the profitability on the scale of operating efficiency and capital allocation efficiency. While operating efficiency is a measure of how efficiently the company is making use of operating assets, capital efficiency is the measure of balance sheet efficiency. The above analysis involves: 1. Dissection of profitability along two major drivers: a. Return from operating activities (RNOA: return on net operating assets). b. Return from financing activities (leveraging effect on ROE). ROE = Return from operating activities (RNOA) + Return from leverage Or ROE = Operating margin x Operating assets turnover + Leverage spread x Leverage multiplier Whereas: RNOA = NOPAT/Average operating assets Operating margin = NOPAT/Operating revenue Operating assets turnover = Operating revenue/Average operating assets Leverage spread = RNOA – Net borrowing cost Leverage multiplier = Average net financial obligation/Average common shareholders’ equity 2. Reformulation of balance sheet, wherein we have regrouped assets and liabilities into operating and financing categories (against traditional current and non‐current categorisation). 3. Reformulation of income statement, wherein we have regrouped income and expenses into operating and financing activities.
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Edelweiss Securities Limited
Annual Report Analysis
Summary financials Edelweiss Securities Limited, Edelweiss House, off C.S.T. Road, Kalina, Mumbai – 400 098. Board: (91‐22) 4009 4400, Email: [email protected]
Vikas Khemani Nischal Maheshwari Nirav Sheth Recent research Date Title Head Institutional Equities Co‐Head Institutional Equities & Head Research Head Sales [email protected] [email protected] [email protected] +91 22 2286 4206 +91 22 4063 5476 +91 22 4040 7499
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TCS Vs Infosys
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Annual Report Analysis
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