Monday, April 18, 2011

Repositioning Infosys

Infosys Technologies, the IT industry bellwether, is now going through the pangs of change, some self-inflicted and some caused by factors well beyond its own control. The question whether the company is on the cusp of a fundamental transformation has been repeatedly raised since Friday when the company announced its financial results for 2010-11.

The recent media conference called by the company was unprecedented in that the announcement of the financial results was completely overshadowed by the resignations of two of its long-serving board members — T.V. Mohandas Pai, Head, Human Resource Development and Education and Research; and company co-founder K. Dinesh, Head, Quality, Information Systems and the Communications Design Group. Indeed, the company's Chief Executive Officer and Managing Director S. Gopalakrishnan admitted that the company was going through a “generational change” at the top.

Margin under pressure

The Infosys stock declined almost 10 per cent on Friday, its biggest intra-day drop in almost two years. While much of the excitement and over-the-top speculation focussed on the reasons for the resignations of the two key professionals, much less attention has been directed at examining how the company has fared in the face of pressures that have been building up since 2008, after the global economic crisis hit the offshoring business.

The relentless pressure on the company's margins — a metric that measures the relative movement of revenues and costs — has been a major worry for Infosys, just as it has been for the rest of the industry in the last three years. In the January–March 2011 quarter, revenues grew by just over one per cent when compared with the previous quarter, even as Infosys' volume of business declined by 1.4 per cent.

Three reasons

Infosys' margins have been under pressure for at least three major reasons. The first reason arises from the fact that the company has traditionally been known to be choosy about its clients, not only in terms of the deal-sizes they offer but also in terms of the margins they offer to the company.

The virtual extinguishment of the scope for such deals, given the extremely uncertain nature of the global economic environment, means that Infosys' strategy has hurt it more than it would have otherwise.

In fact, Mr. Gopalakrishnan, in response to a pointed question on whether the company was “refocusing” itself and willing to be more of a “volume player” in the days ahead, ruled this out.

The second factor that has had an impact on margins is the relative increase in wage costs. K.D. Shibulal, Chief Operating Officer, Infosys, admitted that wage costs had increased by about 10-12 per cent because of the salary increases and recruitment. However, the fact that the company's utilisation of its work force has not increased significantly in the last quarter points to the risk that the increased wage costs may not translate into higher revenues. And, if that happens in the days ahead, margins may well be hit further. Mr. Gopalakrishnan says the company is betting on better days ahead and that Infosys would like to be ready to take advantage of opportunities as and when they come in the future. But sceptics see risks associated with this strategy.

The other major reason for the decline in margins arises from the currency fluctuations. The appreciation of the rupee has had a significant impact on the company's margins.

Infosys has announced that it is in the process of “restructuring” its business units in order to remain more focussed.

Whether this will result in the transformation of one of India's most respected IT companies will be watched with interest in the IT world.


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