Vishal Sikka needs to work on Infy's structural challenges: Sandeep Muthangi, IIFL Institutional Equities

Sandeep Muthangi: What you said is right. Infy\'s result will be a bit lower than its peers during the quarter and there is not something additional that happened in the last quarter. Although the focus there will be on Infy\'s strategy, numbers are important and weakness in this quarter will definitely show that Vishal Sikka will have a tougher challenge ahead.

Infosys over the past few years had a few issues with growth and part of the reasons for Infosys\' poor growth has been structural. Infosys has a very low exposure in areas like infrastructure, services, etc and part of the problem of Infosys\' growth is essentially a structural challenge with diversification. I expect him to make some moves on that. Then the other thing is with client mining. So if you compare and do an analysis of the past four-five years of the number of large $100 million odd clients that Infosys has had at one point of time, it turns out that they have actually had more $100 million accounts than TCS. These are a few measures that I expect them to say in their strategy.

Also, we have got some subtle hints around building a portfolio, forex platforms, and IT-led kind of solutions. So these will be the three key areas to watch out for in terms of how the company will catch up with the peers and then build differentiators like your products and platforms.

This is all on the revenue growth part. But this whole margin story going ahead is also equally important because over the past one year, that has been the area we have heard some of the strongest commentary from Infosys, like they are going to relook at the cost, they are structurally shifting a few things from the US to India, etc. So there were a lot of margin levers, but now if they have to invest back into growth, then the commentary on margins will be equally important. So I will be watching out for both the stuff.

ET Now: You expect Sikka to put more emphasis on increased win rates and market share in bread and butter offerings or could it essentially be a much different Infosys interaction this time around?

Sandeep Muthangi: Actually I think it will be the latter. It will be a much different Infosys interaction this time around because there are two angles as you have clearly highlighted. Both are important. One is what are they going to do with their bread and butter offerings and which is where I was mentioning that getting back on the bread and butter offerings is essentially a two-pronged strategy. Second, how do they increase service line diversification and how do they mine their large accounts because this is where we have seen a notable gap between Infosys and its peers. So they will have that commentary, which will be kind of a carry on for whatever they were saying. But, on the other hand, they also will do a completely different thing about what they are going to do on the products and platforms front, which is where I was mentioning that we have got some subtle hints.

But frankly in Indian IT, we are yet to see anybody who is clearly going to outline a strategy on this whole products and platforms strength and that is essentially a play around what the company is going to do in products and platforms. So on that angle, we could hear something that may not give us much sense into what the near term and the medium-term growth will be, but somewhere the company is headed directionally.

ET Now: So, what is going to make you turn positive on Infy? Do you expect any hint on cash utilisation?

Sandeep Muthangi: Three things actually. One is clarity on the strategy, etc, which is important. The second thing is basically how they are going to get back on the bread and butter thing where even when they outline the strategy, we have to wait for the execution to come through and the street has given them the benefit of doubt that they will be reasonably successful in whatever they do. The third angle is essentially to do with valuations, and valuations are reasonable.

The other thing that you mentioned is cash utilisation. Now, this is not just to do with Infosys, but something to do with the entire IT industry globally. Look at Accenture or Cognizant. Their cash payout is pretty significant. Accenture pays out almost all of its $3 billion of cash that it generates every year in terms of share re-purchases, etc. We are yet to see a clear strategy from Indian IT regarding the cash utilisation and now going forward these companies are already generating about $2-2.5 billion share and this is only going to increase ever year. Though they have said acquisitions are one possible need, it is unlikely that all the cash will be utilised in acquisitions. So some company has to take the lead in defining out a clear strategy for cash paybacks. Cash paybacks have been increasing. It will not be fair if I say that they have not been giving out the cash. TCS, for instance, has been around 50 per cent for quite some time now, but still it is not as optimal as it should be.

ET Now: A lot of people have been recommending HCL Tech and TCS in the large cap space as opposed to Infy despite the valuation gap that exists between TCS and Infosys. What would you be doing if all the three companies report a good set of numbers and what would be your top recommendation then?

Sandeep Muthangi: Yes, my approach for the sector has always been growth at a reasonable price and I see HCL Tech and Tech Mahindra growing among the best in the industry. They are the cheapest companies in the space. So I continue to be most positive on Tech M and HCL Tech in the large cap space. TCS has been a phenomenal story. They have done something that the other Indian IT vendors are yet to do, which is building a machine kind of delivery model and they will continue to grow the fastest. But if you look back and see what is the implied growth the current valuations are implying, it is very-very sharp. TCS\' valuations are back to those that we have seen during the 2007 days when growth was much better. So for the next five years, if you do an implied calculation, the growth rate estimate is well north of 20 per cent. I do not think that is something what the company can realistically deliver. So though one can be in love with the TCS delivery model, valuations are getting expensive with TCS. So between InfosysBSE -0.13 % and Wipro, I prefer Wipro again primarily because of the cheaper valuations.

ET Now: And Tech Mahindra, do you expect a re-rating to come through?

Sandeep Muthangi: Tech Mahindra is primarily around an earnings compounding story. Tech Mahindra in my view is the only company among the top five, which has a good margin lever also. It is right now up 20 per cent margins. Yes, the company is at 25 to 30 and there are near-term headwinds in terms of their margins because of the investment they are trying to do with newer services, etc, but we have seen similar things happening with IT companies. We have seen HCL Tech going up from 15 per cent margins to 25 per cent margins, when the investments really pay off. So, as Tech Mahindra is a good margin lever, so the earnings growth should be quite strong.

ET Now: There is a lot that happens over a three-year period, but if I were to ask you to look at the midcap space that you cover and think about one name that you will be comfortable telling an investor who is asking you for a three-year or five-year IT mid-sized story, which one would it be?

Sandeep Muthangi: Again in that framework of growth at a reasonable price, Cyient is my top pick in the midcap space. Though I like Cyient, MindTree and Persistent, Cyient is the cheapest on valuations and that is why I like Cyient the most.

ET Now: I do not know if you cover these two names at all or look at these two names, but two mid-sized companies - NIIT Tech as well as KPIT -- had a bit of disappointment in the quarter gone by and a lot of institutional investors suggest that if they slip again, there will be further selling that could come in. Do you look at these two companies at all?

Sandeep Muthangi: I do not look at NIIT Tech, but I do look at KPIT. KPIT has been having issues with the way they have built the business. They have a huge exposure to ERP, SAP Oracle, etc. They have been going through a bit of tough phase, but again they won some deals and we have to wait and see for the execution to come through. So till they deliver the results, valuations are cheap. Valuations are cheaper there in all the companies that we have spoken about, but till they deliver, I do not think one should take a leap of faith.
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Source: The Economic Times
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