it services_oct 2008

Table of Contents

These reports were compiled using a product of Thomson Financial. www.thomson.com/financial

1

Rpt. 14022042 IT SERVICES - BAILED OUT 3 - 40

15-Oct-2008 JM FINANCIAL INST SEC. PVT. LTD.

- NAGARAJAN, DIVIYA, ET AL

Rpt. 13998469 IT - TESTING TIMES NOW BEGINNING TO TEST DISTRESSED VALUATIONS 41 - 47

08-Oct-2008 EDELWEISS SECURITIES LIMITED

- GEORGE, VIJU, ET AL

Rpt. 13999511 IT - OUT OF CONTROL 48 - 54

06-Oct-2008 IIFL

- DANGE, ANIRUDDHA, ET AL

Rpt. 13978906 INDIAN IT SERVICES - ASSESSING THE SLOWDOWN IMPACT: STOCK 55 - 81

02-Oct-2008 JPMORGAN

- SINGLA, MANOJ, ET AL

Rpt. 13966114 INDIAN IT SERVICES - SMALL CAP CONVERSATIONS: FADING OPTIMISM 82 - 119

29-Sep-2008 CREDIT SUISSE - NORTH AMERICA

- SINGH, BHUVNESH, ET AL

Rpt. 13952295 IT SECTOR - DERATING INEVITABLE ! 120 - 127

26-Sep-2008 ENAM SECURITIES PVT.

- ROHIRA, PRIYA, ET AL

Rpt. 13939697 INDIA IT SERVICES SECTOR - THE STRAW THAT BROKE THE CAMEL'S 128 - 155

24-Sep-2008 CREDIT SUISSE - NORTH AMERICA

- SINGH, BHUVNESH, ET AL

Rpt. 13845975 INDIAN IT ENABLED SERVICES - AUGUST 2008 156 - 170

01-Aug-2008 CYGNUS ATLANTIC LIMITED

- ANON

Rpt. 13473604 INDIA IT SERVICES & SOFTWARE - VALUATIONS MAY HAVE BOTTOMED 171 - 202

12-May-2008 BNP PARIBAS SECURITIES (ASIA)

- ELESWARAPU, ABHIRAM, ET AL

Rpt. 13233682 IT SERVICES - TIME TO SHOP? 203 - 242

07-Mar-2008 S.S. KANTILAL ISHWARLAL SECURITIES PVT. LTD.

- DUVVURI, GANESH, ET AL

Table of Contents

These reports were compiled using a product of Thomson Financial. www.thomson.com/financial

2

Rpt. 13171782 IT SERVICES - TAKING A FRESH STANCE 243 - 315

22-Feb-2008 ABN AMRO BANK

- KAPOOR, PANKAJ, ET AL

Rpt. 12996385 INDIAN IT SERVICES - EXPECT STEADY 3Q BUT LIMITED MACRO 316 - 325

04-Jan-2008 DEUTSCHE SECURITIES ASIA LTD.

- MATHRANI, AJAY, ET AL

Rpt. 12890109 INDIAN IT SERVICES - TROUGH VALUATIONS - ATTRACTIVE RISK- 326 - 355

26-Nov-2007 DEUTSCHE SECURITIES ASIA LTD.

- MATHRANI, AJAY, ET AL

15 October 2008 Page 1JM Financial Institutional Securities Private Limited

15 October 2008

Diviya Nagarajan

[email protected]

(91 22) 6646 0020

Subhashini Gurumurthy

[email protected]

(91 22) 6646 0021

IT Services

Bailed Out

JM Financial Institutional Securities Private LimitedPlease see important disclosure at the end of this presentation

3


Contents

Indian IT caught in BFSI tempest 3

Stocks give up all gains as panic spreads… 4

…while MNCs seem to have help up better 5

Risk of widespread consolidation diminishes with bailout in the US 6

Governments in Europe have also risen to the occasion 7

Bailouts critical to revenue protection in Europe 8

Slower growth would be preferable to widespread consolidation 9

Vendors to acquiring banks will be better placed 10

Revenue loss is likely to be limited to discretionary exposure… 11

…players with higher discretionary exposure are at greater risk 12

Slower Fortune 500 growth will impact IT budgets in CY2009 13

Offshoring benefits are undisputable in tight IT budgets… 14

…but consolidation/nationalization could delay offshoring… 15

… and vendors are likely to sacrifice price for volumes 16

FY11 likely to reap the benefits of offshore shift 17

Rupee could offset some of the near term negatives 18

Maintain Buy on Infosys, TCS 19

Infosys 20

TCS 23

Wipro 26

Satyam 29

HCL Tech 32

4


Indian IT caught in BFSI tempest

35.4% 39.8%62.5%

51.0% 56.1% 60.4% 54.4%

82.8%32.5%

45.3%

27.4%29.4%

30.7% 20.4% 30.3%

16.1%32.1%

14.9% 10.1% 19.6% 13.2% 19.2% 15.3%1.1%

IBM Accenture Infosy s TCS Wipro Saty am HCL Tech Cognizant

North America Western Europe RoW

Source: Gartner.

Indian IT Services Providers (ISPs) draw the bulk of their revenue from the US and Western Europe.

High exposure to the BFSI sector in both regions has left ISPs vulnerable to the ongoing global financial crisis

Amongst ISPs, Cognizant remains the most vulnerable, while TCS and Infosys also have large exposures.

IBM and Accenture have remained relatively immune to the downturn due to more diversified geographic as well as vertical exposures.

Indian IT Services Providers (ISPs) draw the bulk of their revenue from the US and Western Europe.

High exposure to the BFSI sector in both regions has left ISPs vulnerable to the ongoing global financial crisis

Amongst ISPs, Cognizant remains the most vulnerable, while TCS and Infosys also have large exposures.

IBM and Accenture have remained relatively immune to the downturn due to more diversified geographic as well as vertical exposures.

30.9%21.9%

39.0% 43.6%

24.2% 23.0% 16.4%

49.4%

9.0%10.7%

12.0% 7.0%

12.2% 15.5%36.9%

3.9%10.0% 19.5%

15.0% 18.2%34.1%

13.3%

7.0% 5.0%8.3%13.5%

13.0% 6.0%12.3%

3.5%

6.3% 9.0%

41.8% 34.4%21.0% 25.2%

17.2%

44.7%33.5% 32.8%


BFSI Manufacturing Telecom Retail Others

30.3%19.5%

28.0%41.7%

21.9% 23.0%39.7%

50.4%

8.9%15.3%

7.9%

8.4%

7.5%17.0%

9.8%3.9%

10.4% 11.0%

32.0%15.8%

36.2% 10.8%

34.1%

4.8%8.0% 12.4%

3.9% 6.3% 10.7%

3.7%

7.7%

8.8%

42.4% 41.7%28.2% 27.8% 23.7%

45.6%

8.6%

32.1%


BFSI Manufacturing Telecom Retail OthersNorth America

Western Europe

5


Stocks give up all gains as panic spreads…

Source: Bloomberg data

After outperforming market indices by 24.4% in Apr- Jun 08, Top Indian IT stocks gave up all gains following the implosion of large banks across the globe.

Concerns on over the near term outlook, precipitated by the global banking crisis, was the primary reason for the sharp correction.

While we have seen concerted action by various central banks to control the situation, stocks have underperformed the Sensex by 16.3% QTD.

After outperforming market indices by 24.4% in Apr- Jun 08, Top Indian IT stocks gave up all gains following the implosion of large banks across the globe.

Concerns on over the near term outlook, precipitated by the global banking crisis, was the primary reason for the sharp correction.

While we have seen concerted action by various central banks to control the situation, stocks have underperformed the Sensex by 16.3% QTD.

40

60

80

100

120

140

160

Apr-08 May-08 Jun-08 Jul-08 Aug-08 Sep-08 Oct-08

Sensex Infosys TCS Wipro

40

60

80

100

120

140

160


Sensex Satyam HCL Tech

6


…while MNCs seem to have held up better

MNC vendors such as IBM and Accenture have reacted less sharply, losing only 14.4% YTD versus 29% for Cognizant over the same period.

MNC vendors have held up better due to lower percentage exposure to BFSI and higher maintenance revenue exposure.

Unlike Indian vendors, who still primarily partake of growth in IT budgets, MNC vendors are well established within existing IT bases. This causes a typical lag in impact due to budget cuts for these vendors.

In our view, there is still downside left for MNC IT stocks, while Indian IT vendors are close to trough valuations.

MNC vendors such as IBM and Accenture have reacted less sharply, losing only 14.4% YTD versus 29% for Cognizant over the same period.

MNC vendors have held up better due to lower percentage exposure to BFSI and higher maintenance revenue exposure.

Unlike Indian vendors, who still primarily partake of growth in IT budgets, MNC vendors are well established within existing IT bases. This causes a typical lag in impact due to budget cuts for these vendors.

In our view, there is still downside left for MNC IT stocks, while Indian IT vendors are close to trough valuations.

50

60

70

80

90

100

110

120

130

140


Accenture NASDAQ CompositeCognizant IBM

Source: Bloomberg data

7


Risk of widespread consolidation diminishes with bailout in the US

Company Years in operation Current StatusBear Stearns 85 Acquired by JP Morgan ChaseLehman 158 Filed for bankruptcy. Auctioned to Barclays and NomuraMerrill Lynch 94 Acquired by Bank of AmericaMorgan Stanley 73 In talks to sell up to 20% stake to Mitsubishi UFJ, to convert into a bankGoldman Sachs 139 US$5 bn infused by Warren Buffet, to convert into a bankAIG 89 Bailed out by the US treasuryWashington Mutual 119 Deposits acquired by JP Morgan ChaseWachovia 129* To be acquired by Citigroup/Wells Fargo

US Initial Jobless Claims are close to 2001 levels

0.25

0.35

0.45

0.55

Mar-9

9

Sep-

99

Mar-0

0

Sep-

00

Mar-0

1

Sep-

01

Mar-0

2

Sep-

02

Mar-0

3

Sep-

03

Mar-0

4

Sep-

04

Mar-0

5

Sep-

05

Mar-0

6

Sep-

06

Mar-0

7

Sep-

07

Mar-0

8

Sep-

08

Thou

sand

s

The BFSI crisis has led to long-established firms being consolidated, nationalized or wound up.

The BFSI crisis has led to long-established firms being consolidated, nationalized or wound up.

Source: Company data, Bloomberg. *Wachovia Corporation

The BFSI crisis has also begun to impact jobs in the US, indicating weakness in the real economy.

The BFSI crisis has also begun to impact jobs in the US, indicating weakness in the real economy.

Credit Spreads North America (IBOXUG58 Index)Maturity date- 20- June-2012

0.0

50.0

100.0

150.0

200.0

250.0

Mar-07 Jun-07 Aug-07 Nov-07 Feb-08 Apr-08 Jul-08 Oct-08

Widening credit spreads reflect the tight liquidity due to loss of confidence, a situation that central banks have hastened to remedy.

Widening credit spreads reflect the tight liquidity due to loss of confidence, a situation that central banks have hastened to remedy.

The US$700 bn bail out, which includes US$250 bn injection into 9 large US banks and Fed guarantee on Interbank liability, should address the core issue of toxic debt, capital adequacy and crisis of confidence, and reduce the risk of widespread consolidation in the US.

The US$700 bn bail out, which includes US$250 bn injection into 9 large US banks and Fed guarantee on Interbank liability, should address the core issue of toxic debt, capital adequacy and crisis of confidence, and reduce the risk of widespread consolidation in the US.

8


Governments in Europe have also risen to the occasion

Credit Spreads Europe (ITRXEB58 Index )Maturity date-20- Dec-2012

0.0

40.0

80.0

120.0

160.0

200.0

Sep-07

Oct-07

Nov -07

Jan-08

Feb-08

Mar-08

Apr-08

May -08

Jun-08

Jul-08

Sep-08

Oct-08

Bail outs of Irish banks, Hypo, Bradford & Bingley, Fortis, Dexia and Glitnir had heightened fears in Europe due to liquidity and capitalization issues – credit spreads widened in Europe as well.

Bail outs of Irish banks, Hypo, Bradford & Bingley, Fortis, Dexia and Glitnir had heightened fears in Europe due to liquidity and capitalization issues – credit spreads widened in Europe as well.

Source: Bloomberg data, JM Financial

Various governments in Europe have taken remedial action, announcing large rescue packages to ailing banks.Other governments such as Australia, New Zealand, Indonesia and Japan have also announced support.Concerted central bank and government action should reduce the risk of a systemic collapse in the banking system.

Various governments in Europe have taken remedial action, announcing large rescue packages to ailing banks.Other governments such as Australia, New Zealand, Indonesia and Japan have also announced support.Concerted central bank and government action should reduce the risk of a systemic collapse in the banking system.

Country Actions

UK£37 bn bail out through w hich it w ill assume majority stake in RBS and HBOS.

Germany€80 bn in fresh capital and €400 bn in loan guarantees

France

€320 bn to guarantee bank financing and another €40 bn for a gov ernment bank financing v ehicle to infuse capital to distressed banks

Sw itzerland

Sw iss National Bank to meet all bids from commercial banks at a fix ed interest rate, in a joint mov e w ith the US Federal Reserv e, the European Central Bank and the Bank of England

Source: JM Financial

9


Bailouts are crucial to revenue protection in Europe

Europe growth contribution

41.2%

30.6%

32.7%

32.2%

19.2%

31.2%

33.1%

27.8%

32.7%

23.5%

TCS

Infosy s

Wipro

HCL Tech

Saty am

FY07 FY08

North America growth contribution

46.9%

60.0%

61.9%

42.2%

57.9%

52.4%

58.4%

50.4%

49.8%

48.6%

TCS

Infosy s

Wipro

HCL Tech

Saty am

FY07 FY08

Source: Company data, TPI

Europe has contributed significantly to growth for Indian vendors.Deal flows from Europe have increased sharply in 1HCY08.The success of the rescue packages in Europe will therefore be crucial to IT vendors over the next few quarters.

Europe has contributed significantly to growth for Indian vendors.Deal flows from Europe have increased sharply in 1HCY08.The success of the rescue packages in Europe will therefore be crucial to IT vendors over the next few quarters.

Europe - Deal flow

105

14.4

139

114

20.1

183

126

31.8

253

Contracts (Nos)

TCV (US$ bn)

ACV (US$ mn)

1H06 1H07 1H08

10


Slower growth would be preferable to widespread consolidation

We expect critical IT systems of target banks to be retained post consolidation given the widespread use of legacy applications for core operations and databases.Large IT vendors with sufficient penetration into target banks are likely to be retained in such a case. Offshore capabilities will also add weight to target bank vendors’ retention.Top 5 ISPs have reasonable penetration with their Top BFSI clients, which we believe will help them retain revenue in the event of consolidation exercises.

We expect critical IT systems of target banks to be retained post consolidation given the widespread use of legacy applications for core operations and databases.Large IT vendors with sufficient penetration into target banks are likely to be retained in such a case. Offshore capabilities will also add weight to target bank vendors’ retention.Top 5 ISPs have reasonable penetration with their Top BFSI clients, which we believe will help them retain revenue in the event of consolidation exercises.

Source: industry data, JM Financial

Consolidation

Scenario 3:

Most IT systems of target bank are cut

Scenario 2:

Critical systems of target bank are retained

Scenario 1:

Parallel IT systems are retained for years

Low-moderate budget cuts

Moderate-high budget cuts

High-very high budget cuts

Most target bank vendors could stay

2-3 large target bank vendors

could stay

Target bank vendor retention unlikely

Slower growth - Most likely scenario

Widespread consolidation – Less likely due to bail outs

Unlikely, given current BFSI crisis

11


Vendors to acquiring banks will be better placed

TCS has maximum exposure to both acquired and acquiring entities. To that extent, we expect client relationships to be retained. Citi and JP Morgan could become much bigger, if TCS plays its cards right.

Infosys remains better positioned in terms of having lower exposure to failed banks. Larger exposure to Goldman Sachs and BoA could throw up better opportunities post consolidation.

Satyam seems the weakest positioned given its higher exposure to acquired banks and lower exposure to acquiring entities.

Cognizant, JP Morgan’s largest offshore vendor could benefit greatly from the latter’s appetite for acquisitions.

TCS has maximum exposure to both acquired and acquiring entities. To that extent, we expect client relationships to be retained. Citi and JP Morgan could become much bigger, if TCS plays its cards right.

Infosys remains better positioned in terms of having lower exposure to failed banks. Larger exposure to Goldman Sachs and BoA could throw up better opportunities post consolidation.

Satyam seems the weakest positioned given its higher exposure to acquired banks and lower exposure to acquiring entities.

Cognizant, JP Morgan’s largest offshore vendor could benefit greatly from the latter’s appetite for acquisitions.

Source: industry data, JM Financial

Company Target Acquirer ImpactLehman Brothers Barclay s, Nomura -Merrill Ly nch Bank of America --Morgan Stanley Mitsubishi UFJ (21% stake) --AIG US treasury -Bear Stearns JP Morgan Chase +++Washington Mutual JP Morgan Chase +++Wachov ia Citigroup/Wells Fargo +Goldman Sachs US$5 bn infused by Warren Buffet ++Washington Mutual JP Morgan Chase (deposits) --Wachov ia Citigroup/Wells Fargo -Lehman Brothers Barclay s, Nomura +Merrill Ly nch Bank of America ++Lehman Brothers Barclay s, Nomura --Goldman Sachs US$5 bn infused by Warren Buffet +Bear Stearns JP Morgan Chase -Merrill Ly nch Bank of America --AIG US treasury -Wachov ia Citigroup/Wells Fargo +

HCL Tech HBOS Lly ods TSB --Bear Stearns JP Morgan Chase ++Washington Mutual JP Morgan Chase ++Wachov ia Citigroup/Wells Fargo -

Saty am

Cognizant

TCS

Infosy s

Wipro

12


Revenue loss is likely to be limited to discretionary exposure…

Infosys Service Type BFSI Telecom Manufacturing Retail OtherNorth America Discretionary 11.2% 4.3% 3.5% 3.7% 6.1%

Non discretionary 13.1% 5.0% 4.0% 4.4% 7.1%Western Europe Discretionary 3.7% 4.2% 1.0% 0.5% 3.7%

Non discretionary 4.0% 4.6% 1.1% 0.6% 4.0%RoW Discretionary 2.0% 0.7% 0.6% 0.6% 1.1%

Non discretionary 2.0% 0.7% 0.6% 0.7% 1.1%Revenue at risk 43.9%

TCS Service Type BFSI Telecom Manufacturing Retail OtherNorth America Discretionary 13.1% 5.5% 2.1% 1.8% 7.6%




Infosys has higher exposure to non discretionary spending (53.1%), which would help stabilize revenue

BFSI discretionary exposure is lower at 16.9%, which would help arrest revenue decline from troubled banking clients

Infosys has higher exposure to non discretionary spending (53.1%), which would help stabilize revenue

BFSI discretionary exposure is lower at 16.9%, which would help arrest revenue decline from troubled banking clients

Revenue at risk includes Consulting, Development & Integration. All percentages correspond to IT Services revenue in CY2007

Source: Gartner

HCL Tech Service Type BFSI Telecom Manufacturing Retail OtherNorth America Discretionary 4.6% 2.0% 10.4% 1.8% 9.5%



Non discretionary 4.5% 0.4% 1.7% 1.1% 3.2%Revenue at risk 40.6% 38.9% 26.1%

Lowest discretionary exposure at 43.4% could help sustain revenue base

We are more worried about loss of revenue from clients such as HBOS

Lowest discretionary exposure at 43.4% could help sustain revenue base

We are more worried about loss of revenue from clients such as HBOS

Higher exposure to discretionary spending (60.4%), but 19.6% RoW exposure could act as ballast

Greater exposure to banks like Citi and JP Morgan would help safeguard against steep cuts in clients such as Merrill Lynch

Higher exposure to discretionary spending (60.4%), but 19.6% RoW exposure could act as ballast

Greater exposure to banks like Citi and JP Morgan would help safeguard against steep cuts in clients such as Merrill Lynch

13


… players with high discretionary exposure are at greater risk

Satyam Service Type BFSI Telecom Manufacturing Retail OtherNorth America Discretionary 10.0% 5.8% 6.8% 1.5% 19.4%




Cognizant Service Type BFSI Telecom Manufacturing Retail OtherNorth America Discretionary 23.3% 2.3% 1.8% 4.2% 15.5%




Highest discretionary exposure at 71.7%

BFSI discretionary exposure at 16.3% even though BFSI exposure is lower at 23.2%

US exposure also high at 60.4%

Highest discretionary exposure at 71.7%

BFSI discretionary exposure at 16.3% even though BFSI exposure is lower at 23.2%

US exposure also high at 60.4%

Highest US discretionary exposure at 47.2%

BSFI presence is also high at 49.6%

Negligible presence in RoW offers little comfort against the current crisis

Highest US discretionary exposure at 47.2%

BSFI presence is also high at 49.6%

Negligible presence in RoW offers little comfort against the current crisis

Revenue at risk includes Consulting, Development & Integration. All percentages correspond to IT Services revenue in CY2007Source: Gartner

Wipro Service Type BFSI Telecom Manufacturing Retail OtherNorth America Discretionary 8.0% 11.2% 4.0% 4.1% 5.7%




High US discretionary exposure at 32.9% leaves the company vulnerable to cuts despite lower BFSI exposure

Higher Telecom exposure (33.8%) could add to near term woes

RoW presence (13.2%) would offer relief

High US discretionary exposure at 32.9% leaves the company vulnerable to cuts despite lower BFSI exposure

Higher Telecom exposure (33.8%) could add to near term woes

RoW presence (13.2%) would offer relief

14


Slower Fortune 500 growth will impact IT budgets in CY2009

US F500 Revenue growth (% YoY)

-10.0%

-5.0%

0.0%

5.0%

10.0%

15.0%

20.0%

25.0%

CY20

00

CY20

01

CY20

02

CY20

03

CY20

04

CY20

05

CY20

06

CY20

07

CY20

08E

Telecom Manufacturing Retail

Europe F500 Revenue growth (% YoY)

-20.0%

-10.0%

0.0%

10.0%

20.0%

30.0%

CY20

00

CY20

01

CY20

02

CY20

03

CY20

04

CY20

05

CY20

06

CY20

07

CY20

08E

BFSI Telecom Manufacturing Retail

Source: Bloomberg data, Gartner

-2.0%

0.0%

2.0%

4.0%

6.0%

8.0%

10.0%

12.0%

CY2000 CY2001 CY2002 CY2003 CY2004 CY2005 CY2006 CY2007-5.0%

0.0%

5.0%

10.0%

15.0%

20.0%

IT budget (YoY %) Outsourcing budget (YoY %)Fortune 500 revenue growth (YoY % )

Consensus estimates already factor in decline in Fortune 500 growth in CY2009E.IT budgets move with a lag to Fortune 500 revenue and profitability growth.With Fortune 500 revenue and profitability under obvious pressure over the last few quarters, we expect cuts in IT budgets in CY09 even as CY08 budgets remained positive.

Consensus estimates already factor in decline in Fortune 500 growth in CY2009E.IT budgets move with a lag to Fortune 500 revenue and profitability growth.With Fortune 500 revenue and profitability under obvious pressure over the last few quarters, we expect cuts in IT budgets in CY09 even as CY08 budgets remained positive.

15


Offshoring benefits are undisputable in tight IT budgets…

Indian IT services have reacted faster than overall IT budgets given the higher exposure to discretionary revenue, as evidenced in recent quarters.We remain convinced about the intrinsic strengths of offshore vendors, which we believe will lead to a faster recovery as clients aggressively cut budgets, forcing work offshore.Only a handful of MNCs have respectable offshore capabilities – we view IBM, Accenture and HP-EDS (if integrated well) as the prime opponents for ISPsTail-end vendors in the US (53%) and Europe (50%) with little offshore presence will lose more market share to ISPs.

Indian IT services have reacted faster than overall IT budgets given the higher exposure to discretionary revenue, as evidenced in recent quarters.We remain convinced about the intrinsic strengths of offshore vendors, which we believe will lead to a faster recovery as clients aggressively cut budgets, forcing work offshore.Only a handful of MNCs have respectable offshore capabilities – we view IBM, Accenture and HP-EDS (if integrated well) as the prime opponents for ISPsTail-end vendors in the US (53%) and Europe (50%) with little offshore presence will lose more market share to ISPs.

Source: Bloomberg, Gartner data

0.0%

10.0%

20.0%

30.0%

40.0%

50.0%

60.0%

CY2000 CY2001 CY2002 CY2003 CY2004 CY2005 CY2006 CY2007

-5.0%

0.0%

5.0%

10.0%

15.0%

20.0%

Indian IT serv ices (YoY %) IT budget (YoY %) Fortune 500 rev enue grow th (YoY %)

0.0%

10.0%

20.0%

30.0%

40.0%

50.0%

60.0%

CY2000 CY2001 CY2002 CY2003 CY2004 CY2005 CY2006 CY2007

-2.0%

0.0%

2.0%

4.0%

6.0%

8.0%

10.0%

12.0%

Indian IT serv ices (YoY % ) Fortune 500 profitability (% ) IT budget (YoY % )

16


… but consolidation/nationalization could delay offshoring…

BFSI IT budgets are likely to be severely stressed – the threat of with budget obsolescence increases with consolidation and balance sheet shrinkage in the BFSI sector.Real economy is also slowing down (refer Slide 6) due to the impact of the credit crisis on capex and working capital cycles, in turn impacting IT budgets.We anticipate sharp cuts in IT budgets for CY2009 versus currentestimates of flat budgets.

BFSI IT budgets are likely to be severely stressed – the threat of with budget obsolescence increases with consolidation and balance sheet shrinkage in the BFSI sector.Real economy is also slowing down (refer Slide 6) due to the impact of the credit crisis on capex and working capital cycles, in turn impacting IT budgets.We anticipate sharp cuts in IT budgets for CY2009 versus currentestimates of flat budgets.

Verticals Discretionary Non-discretionaryBFSI -50% +10 to15%Telecom -15 to -25% +20%Manufacturing -20 to -25% +20%Retail -25 to -30% +20%Others -10% +20%

FY10 - Growth assumptions

Source: JM Financial. * Year ended Jun 2010.

FY10E - Dollar revenue (%)

Worst case - Systemic collapse

Base case - Govt bail out

Best case - Contagion contained

Infosy s -8.5% -2.6% 5.8%TCS -8.2% -0.4% 4.2%Wipro -7.7% -0.7% 4.0%Saty am -9.9% -3.6% 3.7%HCL Tech* -1.3% 5.6% 9.2%

While we expect offshore to offer significant value proposition in such a scenario, vendor consolidation is likely before work moves offshore. We expect this to delay revival. Nationalization of banks and greater government control could also impede offshoring in ahigh job loss scenario. Therefore, we have remained conservativeon our estimates for FY10. We have factored in 35-50% cut in the discretionary revenue in BFSI (US and Europe) and 15-25% in other verticals. We expect non-discretionary revenue to grow 10% in BFSI (US and Europe) and 20% in other verticals. We now estimate EPS decline of -8%to -1% in FY10E, largely in line with our estimate for dollar revenue decline. We will revisit our estimates once clarity emerges on the demand environment.

While we expect offshore to offer significant value proposition in such a scenario, vendor consolidation is likely before work moves offshore. We expect this to delay revival. Nationalization of banks and greater government control could also impede offshoring in ahigh job loss scenario. Therefore, we have remained conservativeon our estimates for FY10. We have factored in 35-50% cut in the discretionary revenue in BFSI (US and Europe) and 15-25% in other verticals. We expect non-discretionary revenue to grow 10% in BFSI (US and Europe) and 20% in other verticals. We now estimate EPS decline of -8%to -1% in FY10E, largely in line with our estimate for dollar revenue decline. We will revisit our estimates once clarity emerges on the demand environment.


17


… and vendors are likely to sacrifice price for volumes

Bench Size (Nos)

19,113

17,424

11,943

11,406

6,715

25,086

23,538

17,705

14,282

5,599

TCS

Infosy s

HCL Tech*

Wipro

Saty am

Jun-07 Jun-08

Source: Company data, JM Financial

Large benches in the face of shrinking IT budgets could leave vendors clamoring for volumeTCS and Infosys, who have stuck to a no downsizing policy so far, will find it more difficult to contain costs.

Large benches in the face of shrinking IT budgets could leave vendors clamoring for volumeTCS and Infosys, who have stuck to a no downsizing policy so far, will find it more difficult to contain costs.

Rising costs in the absence of volume could leave vulnerable to price cuts.We expect CIOs to fully exploit vendor anxiety. Acquirers such as JP Morgan, Citi and BoA could command better pricing.

Rising costs in the absence of volume could leave vulnerable to price cuts.We expect CIOs to fully exploit vendor anxiety. Acquirers such as JP Morgan, Citi and BoA could command better pricing.

Voume Growth (%) 1QFY08 2QFY08 3QFY08 4QFY08 1QFY09Infosys 6.8 7.3 5.1 7.8 1.7TCS 7.6 8.2 5.3 4.8 1.3Wipro* 7.4 7.7 6.4 5.6 2.2Satyam 8.1 9.1 9.4 8.8 3.0HCL Tech 6.5 9.0 7.3 5.3 4.0Source: Company data, JM Financial. *Excluding India/ME/IFOX

18


FY11 likely to reap the benefits of offshore shift

We believe that signs of revival can be expected earliest by 2H CY10, wherein strong offshore momentum is likely to be witnessed.

We have factored stronger dollar revenue (15-20%) growth in FY11E, EPS growth is expected to be higher at 19-27%.

We believe that signs of revival can be expected earliest by 2H CY10, wherein strong offshore momentum is likely to be witnessed.

We have factored stronger dollar revenue (15-20%) growth in FY11E, EPS growth is expected to be higher at 19-27%.

Source: JM Financial, Note: * EPS after ESOP charges

Source: JM Financial, Note: * EPS after ESOP charges

The government has currently extended the tax exemption available to software companies under the STPI scheme by one year to March 31, 2010

We do not rule out further extension given the current slowdown in the IT sector.

The government has currently extended the tax exemption available to software companies under the STPI scheme by one year to March 31, 2010

We do not rule out further extension given the current slowdown in the IT sector.

EPS growth (%) FY09E FY10E FY11EInfosy s 23.3 -3.6 15.5TCS 10.3 -5.4 20.0Wipro 12.6 -1.1 17.7Saty am 26.4 -8.3 14.6HCL Tech * 26.7 -5.6 21.0

FY11E EPS grow th (%)

EPS CAGR FY08-11E (%)

FY11E EPS grow th (%)

EPS CAGR FY08-11E (%)

Infosy s 19.1 12.3 15.5 11.2TCS 26.8 9.8 20.0 7.8Wipro 22.7 11.0 17.7 9.5Saty am 23.1 12.0 14.6 9.9HCL Tech * 27.2 15.7 21.0 13.1

STPI extension Full Tax

19


Rupee could offset some of the near term negatives

38

40

42

44

46

48

50

1-Ja

n-08

1-Fe

b-08

1-M

ar-0

8

1-Ap

r-08

1-M

ay-0

8

1-Ju

n-08

1-Ju

l-08

1-Au

g-08

1-Se

p-08

1-Oc

t-08

Rupee is down 27% YTD against the USD

Source: Interbank rates from Oanda.com

The rupee has depreciated by 27% YTD against the USD.

Cross currency movements have eased; the rupee is down 10.9% and 16.1% YTD against the GBP and Euro respectively.

Our estimates factor average Re/USD rates of 43.5 in FY10E, implying 16.0% appreciation from current levels by March 2010.

Any depreciation in the rupee over current levels could impact EPS estimates positively in FY10E.

The rupee has depreciated by 27% YTD against the USD.

Cross currency movements have eased; the rupee is down 10.9% and 16.1% YTD against the GBP and Euro respectively.

Our estimates factor average Re/USD rates of 43.5 in FY10E, implying 16.0% appreciation from current levels by March 2010.

Any depreciation in the rupee over current levels could impact EPS estimates positively in FY10E.

70

75

80

85

90

1-Ja

n-08

1-Fe

b-08

1-M

ar-0

8

1-Ap

r-08

1-M

ay-0

8

1-Ju

n-08

1-Ju

l-08

1-Au

g-08

1-Se

p-08

1-Oc

t-08

50

55

60

65

70GBP Euro

Rupee has weakened YTD against the GBP/Euro


FY10EBase case EPS (Rs)

USD/INR @ 43.5

Change in EPS (%) 10%

depreciation

Change in EPS (%) 10%

appreciationInfosy s 96.9 9.5 -4.2TCS 53.5 9.3 -7.2Wipro 24.8 5.5 -4.6Saty am 29.2 9.8 -11.3HCL Tech 18.5 7.0 -5.4

20


Maintain Buy on Infosys, TCS

We expect ongoing economic chaos to keep demand concerns high and weigh on IT Services performance over the near term. Therefore, we have been cautious in our estimates over FY09E-FY10E.

That said, we remain convinced on the long term prospects of Indian offshore vendors given the low penetration levels and expected supply crunch in key markets (Refer our report ‘Still in Infancy” dated 25 Jan 2008).

We believe that the current crisis could offer opportunity for select vendors with strong client relationships and broad based service portfolio to emerge in positions of greater strength.

We pick Infosys and TCS as our top bets in the sector given the strength of the services portfolio and exposure to what we believe could be crucial clients over the next 5 years (see our discussion on slide 10). Maintain Buy.

We are initiating coverage on HCL Tech – a strong infrastructure presence and well diversified portfolio could place the company on a better footing post the downturn. However, near term concerns on Axon integration and lower client stickiness leaves us more comfortable with a Hold recommendation.

Source: JM Financial; Note: Margins for Wipro indicate EBIT

Valuation Summary Infosys TCS Wipro Satyam HCL TechRecommendation Buy Buy Hold Hold HoldRevenues FY10E (Rs mn) 199,321 266,765 268,767 106,108 94,918EBITDA margin FY10E (%) 30.2 22.4 15.0 19.2 19.7Net Profit margin (%) 27.9 19.6 13.6 18.8 13.1PE FY10E (x) 14.4 11.1 11.8 9.9 8.9EV / EBITDA FY10E (x) 10.7 8.4 9.4 5.9 4.7EV / Sales FY10E (x) 3.2 1.9 1.4 1.1 0.9EPS CAGR (FY08-10E) (%) 9.1 2.2 5.6 7.6 9.4

21


Infosys (Mkt. Cap. US$16.6 bn) Buy (Target Price: Rs1,515)

25.023.4 Others19.119.2 ADR Trust6.58.4 MFs/FIs/Banks

32.832.5 FIIs16.516.5Promoters

2Q FY082QFY 09Shareholding Pattern (%)

Infosys’ well diversified services portfolio offers a strong hedge against the backdrop of the current economic turmoil.We believe that relative stability in Top 20 clients and higher levels of non discretionary exposure (53.1%) offer lower vulnerability to budget cuts. Strong brand equity and execution excellence will be key assets that help retain existing clients as well as add new clients looking for the offshore edge.Better pricing discipline, wider employee pyramid (~60% with <3yr experience) and a flexible compensation structure (30% of offshore costs) are likely to help the company brace for margin pressures over the next few quarters.Lower geographical diversification, especially in emerging markets, remains the key negative.The stock trades at 13.9x FY09E and 14.4x FY10E EPS estimates. While demand concerns are likely to remain over the near term, we believe that the risk reward at the current price is favourable. Maintain Buy with a target price of Rs1,515 (Oct 09), reduced from Rs2,081. Our DCF based target price implies a) WACC of 13%, (b) perpetuity growth rate of 3.0%, and c) 11.2% EPS CAGR over FY08-FY11E.

Infosys’ well diversified services portfolio offers a strong hedge against the backdrop of the current economic turmoil.We believe that relative stability in Top 20 clients and higher levels of non discretionary exposure (53.1%) offer lower vulnerability to budget cuts. Strong brand equity and execution excellence will be key assets that help retain existing clients as well as add new clients looking for the offshore edge.Better pricing discipline, wider employee pyramid (~60% with <3yr experience) and a flexible compensation structure (30% of offshore costs) are likely to help the company brace for margin pressures over the next few quarters.Lower geographical diversification, especially in emerging markets, remains the key negative.The stock trades at 13.9x FY09E and 14.4x FY10E EPS estimates. While demand concerns are likely to remain over the near term, we believe that the risk reward at the current price is favourable. Maintain Buy with a target price of Rs1,515 (Oct 09), reduced from Rs2,081. Our DCF based target price implies a) WACC of 13%, (b) perpetuity growth rate of 3.0%, and c) 11.2% EPS CAGR over FY08-FY11E.

10.1 4.3 6.7 Relative

(27.6)(9.5)(11.3)Absolute

12M3M1M

(%)Price Performance

10.7 10.0 13.5 16.4 EV/EBITDA (x)3.6 4.4 5.7 7.0 Price/Book Value (x)

14.4 13.9 17.1 20.4 PE (x)27.3 35.9 37.2 42.3 ROE (%)33.1 41.7 42.7 46.4 ROCE (%)(3.6)23.3 18.9 53.5 EPS Growth (%)96.9 100.5 81.5 68.5 EPS (Rs)

55,518 57,233 45,380 37,250 Adjusted Net Profit30.2 32.3 31.4 31.6 EBITDA (%)

60,113 67,931 52,380 43,910 EBITDA(5.2)26.0 20.1 45.9 Sales growth (%)

199,321 210,347 166,920 138,930 Net SalesFY10EFY09EFY08FY07Y/E March

(Rs mn)Financial Summary

Source: Company data, Bloomberg data, JM Financial

10,000

12,000

14,000

16,000

18,000

20,000

22,000

Oct-07 Dec-07 Feb-08 Apr-08 Jun-08 Aug-08 Oct-081,000

1,200

1,400

1,600

1,800

2,000

2,200Sensex Infosys

22


15.5-3.623.318.953.524.1Growth (%)

111.996.9100.581.568.544.6EPS (Rs)

573573573572572276Diluted share capital (mn)

28.827.927.427.927.825.8Margin (%)

64,14655,51857,54346,59038,56024,583Adjusted net profit

00-310-1,210-1,200228Extraord. (income)/expense/Min. Int.

16,03611,7769,5908,0605,1103,132Taxes

80,18267,29466,82453,44042,47027,943Pre tax profit

000000Interest (income)/expense (net)

80,18267,29466,82453,44042,47027,943EBIT

7,8066,9767,1165,9805,1404,371Depreciation & amortisation

16,77714,1576,0087,0403,7001,396Other non-operational income

18.5-11.529.719.342.028.1Growth (%)

31.930.232.331.431.632.5EBITDA (%)

71,21260,11367,93152,38043,91030,918EBITDA

000000Other operational income

11.9-5.226.020.145.932.1Growth (%)

223,042199,321210,347166,920138,93095,216Net sales

FY11EFY10EFY09EFY08EFY07FY06Y/E March

Profit & Loss statement (Rs mn)

273,700224,512182,461137,950112,59070,340Application of funds

000000Others (net)

188,569156,574130,04789,46074,63040,530Net current assets

31,78224,79619,99425,7309,96016,140Provisions and others

22,94719,82818,39816,18011,5407,320Current liabilities

54,72944,62438,39141,91021,50023,460Current liabilities & provisions

33,62228,83026,98027,71012,51012,970Loans & advances

1,1901,1901,1901,190920650Other current assets

161,609130,06199,47369,50058,34034,290Cash & bank balance

46,87741,11740,79532,97024,36016,080Sundry debtors

000000Inventories

243,297201,198168,438131,37096,13063,990Current assets

000000Deferred tax assets/(liability)

15,5007,50007202507,550Investments

10,00010,00010,00013,2409,6505,710CWIP

59,63250,43842,41434,53028,06016,550Net block

41,75833,95226,97619,86018,36013,280Less: Depreciation/amortisation

101,39084,39069,39054,39046,42029,830Fixed assets

000000Intangible assets

273,700224,512182,461137,950112,59070,340Sources of funds

000040680Minority Interest

273,700224,512182,461137,950112,55069,660Networth

270,835221,647179,598135,090109,69068,280Reserves & surplus

2,8652,8652,8642,8602,8601,380Share capital


Balance Sheet (Rs mn)

Infosys (Buy) Target Price: Rs1,515


23


161,609130,06199,47369,50058,34034,290Closing cash balance130,06199,47369,50058,34034,29015,756Opening cash balance

31,54730,58929,97211,16024,05018,534Net inc/dec in cash (a+b+c)-14,273-13,379-17,425-7,770-3,1602,430Financial cash flow ( c )

000000Others000000Inc/dec in loans

-14,325-13,553-17,858-8,350-15,320-4,030Dividends paid + dividend tax5217443358012,1606,460Inc/(dec) in capital

-8,223-8,343-5,032-22,310-8,060-4,230Cash flow from inv. (b)000000Others

-17,000-15,000-11,760-14,940-14,900-10,890Capex8,7776,6576,728-7,3706,8406,660(Inc)/dec in investments

54,04452,31052,42941,24035,27020,334Net cash from operations (a)-16,777-14,157-5,698-63,7508001,236Others-1,1323,974-6,53252,420-9,230-9,856(Inc)/dec in working capital7,8066,9767,1165,9805,1404,371Depreciation/amortisation

64,14655,51857,54346,59038,56024,583Net profitFY11EFY10EFY09EFY08EFY07FY06Y/E March

Cash Flow statement (Rs mn)

353530302524Creditor days

000000Inventory days

727564635362Debtor days

Turnover ratios (no.)

2.73.23.24.25.27.7EV/Sales

8.510.710.013.516.423.9EV/EBITDA

2.93.64.45.77.022.1PBV

12.514.413.917.120.431.3PER

Valuation ratios (x)

000000Debt-equity ratio (x)

25.827.335.937.242.340.3ROE (%)

32.233.141.742.746.445.2ROCE (%)


Key Ratios

31.930.232.3EBITDA margin (%)

41.943.744.9USD/INR assumption

-0.3-2.6-2.3Realization growth (% YoY)

17.00.114.8Voulme growth (% YoY)

16.6-2.612.2Dollar revenue growth (% YoY)

FY11EFY10EFY09EY/E March

Assumptions

3.0Terminal growth rate (%)

13.0WACC (%)

14.0Expected market rate of return (Rm)

0.8Beta (x)

9.0Risk free rate of return (Rf)

DCF Assumptions

Company specific risk include Infosys’ fairly large exposure to the BFSI segment. However, its exposure to failed institutions is relatively less. Industry specific risks include deterioration in the demand environment, pricing pressure and higher than expected appreciation in the rupee.

Company specific risk include Infosys’ fairly large exposure to the BFSI segment. However, its exposure to failed institutions is relatively less. Industry specific risks include deterioration in the demand environment, pricing pressure and higher than expected appreciation in the rupee.

Infosys (Buy) Target Price: Rs1,515


Change in assumptions FY09E FY110E FY09E FY110ERevenue (US$ mn) 4,688 4,564 5,163 6,564 Revenue growth (% ) 12.2 -2.6 23.7 27.1 Revenue (Rs mn) 210,347 199,321 214,852 265,536 Revenue growth (% ) 26.0 -5.2 28.7 23.6 EPS (Rs) 100.5 96.9 102.1 115.9 EPS growth (% ) 23.3 -3.6 25.4 13.5 Target price 1,515 2,081

New estimates Old estimates

24


6.66.1Others5.66.4 MFs/FIs/Banks7.711.2 FIIs

80.176.4 Promoters1Q FY081QFY 09

Shareholding Pattern (%)

We believe that TCS’ industry leading presence in multiple verticals and service lines will play to its advantage with clients who are likely to return to offshoring with greater volumes in order to gain greater efficiencies. Wider geographical presence both in terms of delivery and marketing would also hold TCS in good stead with customers who demand more near shore/on shore services.While TCS has higher exposure to failed/acquired financial institutions, which could impact near term growth, it also has exposure to maximum number of acquiring entities (see Slide10 ) such as JP Morgan, Citigroup and Bank of America.As evidenced in the recent acquisition of Citigroup Global Solutions, we expect TCS to be quick to strengthen ties with acquiring banks to capitalize on

these relationships over the medium-to-long term. Our primary concerns are lower pricing discipline and higher exposure to discretionary spending.The stock trades at 10.5x FY09E and 11.1x FY10E EPS estimates.Maintain Buy with a target price of Rs758 (Oct 09), reduced from Rs1,183. Our DCF based target price implies a) WACC of 13.2%,(b) perpetuity growth

rate of 3.0%, and c) 7.8% EPS CAGR over FY08-FY11E.

We believe that TCS’ industry leading presence in multiple verticals and service lines will play to its advantage with clients who are likely to return to offshoring with greater volumes in order to gain greater efficiencies. Wider geographical presence both in terms of delivery and marketing would also hold TCS in good stead with customers who demand more near shore/on shore services.While TCS has higher exposure to failed/acquired financial institutions, which could impact near term growth, it also has exposure to maximum number of acquiring entities (see Slide10 ) such as JP Morgan, Citigroup and Bank of America.As evidenced in the recent acquisition of Citigroup Global Solutions, we expect TCS to be quick to strengthen ties with acquiring banks to capitalize on

these relationships over the medium-to-long term. Our primary concerns are lower pricing discipline and higher exposure to discretionary spending.The stock trades at 10.5x FY09E and 11.1x FY10E EPS estimates.Maintain Buy with a target price of Rs758 (Oct 09), reduced from Rs1,183. Our DCF based target price implies a) WACC of 13.2%,(b) perpetuity growth

rate of 3.0%, and c) 7.8% EPS CAGR over FY08-FY11E.

(7.2)(7.2)(11.9)Relative

(44.8)(21.0)(22.3)Absolute

12M3M1M


8.47.89.311.1EV/EBITDA (x)2.93.64.76.5Price/Book value (x)

11.110.511.514.2PE (x)28.538.046.354.5ROE (%)32.542.149.858.8ROCE (%)-5.410.323.139.6EPS growth (%)53.556.651.341.7EPS (Rs)

52,396 55,361 50,191 40,786 Adjusted net profit22.424.726.027.2EBITDA (%)

59,871 68,071 59,397 50,742 EBITDA -3.120.422.740.6Sales growth (%)

266,765 275,363 228,614 186,334 Net salesFY10EFY09EFY08FY07Y/E March


TCS (Mkt. Cap. US$12.1 bn) Buy (Target Price: Rs758)


10,000

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18,000

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22,000

Oct-07 Dec-07 Feb-08 Apr-08 Jun-08 Aug-08 Oct-08500

600

700

800

900

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1,100

1,200Sensex TCS

25


20.0-5.410.323.139.621.2Growth (%)

64.353.556.651.341.729.8EPS (Rs)


20.619.720.122.122.221.9Margin (%)


000293530-243Extraordinary (income)/expense (net)

15,8689,7018,9867,4946,5684,984Taxes

79,33862,58564,76158,10147,72634,459Pre tax profit


79,33862,58564,76158,10147,72634,459EBIT

6,4185,7685,3925,7464,2962,806Depreciation & amortisation

10,3448,4812,0824,4501,280257Other non-operational income

26.0-12.014.617.137.129.8Growth (%)

24.722.424.726.027.227.9EBITDA (%)

75,41259,87168,07159,39750,74237,008EBITDA

-581-488-414-416-373-264Other operational income

14.6-3.120.422.740.636.3Growth (%)

305,616266,765275,363228,614186,334132,550Net sales



255,695210,930173,702133,97599,29262,908Application of funds000000Others (net)

126,29198,33573,05352,12043,62626,882Net current assets50,79543,43041,86233,65524,65717,485Provisions and others10,2969,8009,2037,3956,1975,233Current liabilities61,09053,23051,06541,05030,85422,719Current liabilities & provisions

000000Loans & advances46,75537,28936,07128,91519,09812,845Other current assets67,68046,55422,75110,35212,2913,965Cash & bank balance72,94667,72165,29653,90343,09032,790Sundry debtors

000000Inventories187,381151,565124,11893,17074,48049,600Current assets

29,51629,28928,07625,16520,09213,868Other Long Term Assets40,00035,00035,00026,47512,6617,086Investments

2,5012,5013,0018,2507,1402,703CWIP57,38845,80534,57321,96515,77412,369Net block32,27625,85820,09114,6999,8958,370Less: Depreciation/amortisation89,66471,66454,66436,66425,66920,739Fixed assets

000000Intangible assets255,694210,929173,701133,97499,29162,908Sources of funds

6,8347,1537,4897,0986,6262,415Loans 3,4022,8142,3202,3002,1211,564Minority Interest

245,457200,963163,892124,57690,54458,929Networth244,479199,984162,914123,59789,56658,439Reserves & surplus

979979979979979489Share capitalFY11EFY10EFY09EFY08EFY07FY06Y/E March


TCS (Buy) Target Price: Rs758


26


67,68046,55422,75210,35212,2913,965Closing cash balance46,55422,75210,35212,2913,9652,778Opening cash balance21,12623,80312,399-1,9398,3261,187Net inc/dec in cash (a+b+c)

-18,714-15,662-14,376-14,202-6,761-9,083Financial cash flow ( c )000000Others

-318-3363917183,949-1,193Inc/dec in loans-18,395-15,326-14,766-14,953-10,922-7,960Dividends paid + dividend tax

0003321171Inc/(dec) in capital-22,999-16,500-21,276-27,445-19,711-14,585Cash flow from inv. (b)

000000Others -18,000-16,500-12,751-13,908-14,055-12,511Capex-4,9990-8,525-13,537-5,655-2,074(Inc)/dec in investments62,83855,96548,05139,70834,79824,855Net cash from operations (a)

1,779-1,384-2,576-2,9873,733-64Others-8,248-815-10,126-13,242-14,016-7,098(Inc)/dec in working capital6,4185,7685,3925,7464,2962,806Depreciation/amortisation







1.61.91.92.43.04.3EV/Sales

6.38.47.89.311.115.4EV/EBITDA

2.42.93.64.76.59.9PBV

9.211.110.511.514.219.8PER


0.00.00.00.10.10.0Debt-equity ratio (x)

27.928.538.046.354.562.1ROE (%)

34.032.542.149.858.869.9ROCE (%)


Key Ratios



-0.8-3.1-4.7Realization growth (% YoY)

19.10.214.6Volume growth (% YoY)



Assumptions


13.2WACC (%)


0.8Beta (x)


DCF Assumptions

Company specific risk include TCS’ large exposure to the BFSI segment and higher exposure to failed institutions. Industry specific risks include deterioration in the demand environment, pricing pressure and higher than expected appreciation in the rupee.

Company specific risk include TCS’ large exposure to the BFSI segment and higher exposure to failed institutions. Industry specific risks include deterioration in the demand environment, pricing pressure and higher than expected appreciation in the rupee.

TCS (Buy) Target Price: Rs758


Change in assumptions FY09E FY110E FY09E FY110ERevenue (US$ mn) 6,206 6,179 6,114 7,814 Revenue growth (% ) 8.9 -0.4 17.9 27.8 Revenue (Rs mn) 275,363 266,765 278,665 346,149 Revenue growth (% ) 20.4 -3.1 21.9 24.2 EPS (Rs) 56.6 53.5 58.4 71.2 EPS growth (% ) 10.3 -5.4 13.8 21.9 Target price 758 1,183


27


11.911.2 Others1.61.6 ADR Trust1.81.7 MFs/FIs/Banks5.26.2 FIIs

79.679.4 Promoters2Q FY082QFY 09

Shareholding Pattern (%)

Wipro is currently restructuring its erstwhile ‘sweet spot’ – the product engineering business (25% of revenue in FY08) due to continued sluggishness in the Telecom Equipment segment. We expect the recent senior management exits to add to the company’s woes in an uncertain macro environment.While Wipro has a well diversified portfolio, higher discretionary exposure to the US (33%of revenue) and lower exposure to banks of strength in the current scenario could pose problems to revenue retention.Reasonable exposure to emerging markets (Wipro - 13.2%, Infosys - 10%, TCS- 19.6%) and 14% exposure to non IT business would help report steadier revenue.The stock trades at 11.7x FY09E and 11.8x FY10E EPS estimates.Maintain Hold with a target price of Rs318 (Oct 09), reduced from Rs379. Our DCF based target price implies a) WACC of 13.1%, (b) perpetuity growth rate of 3.0%, and c) 9.5% EPS CAGR over FY08-FY11E.

Wipro is currently restructuring its erstwhile ‘sweet spot’ – the product engineering business (25% of revenue in FY08) due to continued sluggishness in the Telecom Equipment segment. We expect the recent senior management exits to add to the company’s woes in an uncertain macro environment.While Wipro has a well diversified portfolio, higher discretionary exposure to the US (33%of revenue) and lower exposure to banks of strength in the current scenario could pose problems to revenue retention.Reasonable exposure to emerging markets (Wipro - 13.2%, Infosys - 10%, TCS- 19.6%) and 14% exposure to non IT business would help report steadier revenue.The stock trades at 11.7x FY09E and 11.8x FY10E EPS estimates.Maintain Hold with a target price of Rs318 (Oct 09), reduced from Rs379. Our DCF based target price implies a) WACC of 13.1%, (b) perpetuity growth rate of 3.0%, and c) 9.5% EPS CAGR over FY08-FY11E.

(3.0)(8.9)(9.5)Relative

(40.7)(22.8)(27.4)Absolute

12M3M1M


9.4 9.2 11.4 12.5 EV/EBITDA (x)2.5 2.9 3.3 4.2 Price/Book Value (x)

11.8 11.7 13.1 14.8 PE (x)22.8 26.5 28.1 32.4 ROE (%)24.1 27.3 29.3 36.0 ROCE (%)(1.1)12.6 12.7 12.7 EPS Growth (%)24.8 25.0 22.2 19.7 EPS (Rs)

36,424 36,627 32,472 29,186 Adjusted Net Profit15.0 16.4 17.2 20.0 EBIT (%)

40,423 41,729 33,945 29,885 EBIT5.6 28.9 32.1 40.8 Sales growth (%)



Wipro (Mkt. Cap. US$8.9 bn) Hold (Target Price: Rs318)


10,000

12,000

14,000

16,000

18,000

20,000

22,000


200

300

400

500

600Sensex Wipro

28


17.7-1.112.612.738.825.8Growth (%)

29.224.825.022.219.714.2EPS (Rs)

1,4821,4701,4621,4621,4591,426Diluted share capital (mn)

13.913.614.416.419.519.1Margin (%)


491417366233318287Minority interest/Income from equity investees

00007390Extraordinary (income)/expense (net)

9,3796,1065,6523,8734,4233,265Taxes

52,10442,11241,91436,11232,55123,248Pre tax profit


16.815.716.518.321.821.9Margin (%)

52,10442,11241,91436,11232,55123,248EBIT


15.45.628.932.140.830.4Growth (%)

310,111268,767254,487197,428149,431106,108Net sales



214,838186,330162,862144,704102,02978,884Application of funds000000Others (net)

64,33351,83341,40734,93824,10119,933Net current assets88,73673,76271,91065,51334,53719,670Provisions and others19,56416,12014,80713,08210,2024,146Current liabilities

108,30189,88286,71778,59544,73923,816Current liabilities & provisions000000Loans & advances

43,92936,70027,80428,18316,95712,233Other current assets57,42042,14540,49239,27019,6508,858Cash & bank balance61,24554,30351,73138,90828,08320,593Sundry debtors10,0408,5668,0977,1724,1502,065Inventories

172,634141,714128,124113,53368,84043,748Current assets000000Other Long Term Assets

29,93522,93520,09818,50836,01832,839Investments000000CWIP

120,569111,563101,35791,25841,91026,113Net block47,92038,92631,13223,75218,23814,263Less: Depreciation/amortisation

114,57496,57478,57463,57444,77932,041Fixed assets53,91553,91553,91551,43615,3698,335Intangible assets

214,838186,330162,862144,704102,02978,884Sources of funds13,92414,65715,42815,223560120Loans

13213213211400Minority Interest200,782171,542147,302129,367101,46878,764Networth197,819168,602144,378126,44498,55075,913Reserves & surplus

2,9632,9402,9242,9232,9182,852Share capitalFY11EFY10EFY09EFY08EFY07FY06Y/E March


Wipro (Hold) Target Price: Rs318


29


57,42042,14540,49239,23219,6508,857Closing cash balance42,14440,49239,27012,4128,8575,670Opening cash balance15,2751,6531,22226,82010,7933,187Net inc/dec in cash (a+b+c)

-12,166-13,032-10,62930,9341,993305Financial cash flow ( c )000000Others

-733-77120535,5891,972-464Inc/dec in loans-13,637-13,713-12,158-5,404-8,873-3,998Dividends paid + dividend tax

2,2041,4531,3237498,8944,767Inc/(dec) in capital-25,000-20,837-19,069-28,382-21,377-17,299Cash flow from inv. (b)

0000014Others -18,000-18,000-17,479-46,983-19,043-10,150Capex-7,000-2,837-1,59018,601-2,334-7,163(Inc)/dec in investments52,44135,52130,92024,26830,17720,181Net cash from operations (a)

-22-1,041-1,320-2,6635,793-1,958Others9,246139-4,387-5,541-4,0631,869(Inc)/dec in working capital







1.21.41.52.02.53.6EV/Sales

7.29.49.211.412.517.6EV/EBITDA

2.12.52.93.34.25.4PBV

10.011.811.713.114.820.5PER


0.10.10.10.10.00.0Debt-equity ratio (x)

23.222.826.528.132.429.9ROE (%)

26.024.127.329.336.034.0ROCE (%)


Key Ratios

16.115.016.4EBIT margin (%)


-1.2-3.30.0Realization growth (% YoY)

14.4-0.812.5Volume growth (% YoY)



Assumptions


13.1WACC (%)


0.8Beta (x)


DCF AssumptionsCompany specific risk include top management churn in uncertain demand environment, continued sluggishness in Telecom OEM segments and an unfavourable currency hedging. Industry specific risks include deterioration in the demand environment, pricing pressure and higher than expected appreciation in the rupee.

Company specific risk include top management churn in uncertain demand environment, continued sluggishness in Telecom OEM segments and an unfavourable currency hedging. Industry specific risks include deterioration in the demand environment, pricing pressure and higher than expected appreciation in the rupee.

Wipro (Hold) Target Price: Rs318


Change in assumptions FY09E FY110E FY09E FY110ERevenue (US$ mn) 4,277 4,249 4,480 5,524 Revenue growth (% ) 17.5 -0.7 23.1 23.3 Revenue (Rs mn) 254,487 268,767 253,031 308,571 Revenue growth (% ) 28.9 5.6 28.2 21.9 EPS (Rs) 25.0 24.8 25.3 29.2 EPS growth (% ) 12.6 -1.1 13.6 15.5 Target price 318 379


30


11.89.9Others19.519.4ADR Trust12.114.4MFs/FIs/Banks47.947.7FIIs8.88.6 Promoters

1Q FY081Q FY09Shareholding Pattern (%)

Highest exposure to discretionary spending (71.7%) due to a business mix skewed towards ERP and ADM is expected to weigh on growth over the near term. Higher exposure to acquired banks and lower exposure to acquiring entities (refer Slide 10) also indicate lower probability of client retention.Guidance misses in 2 successive quarters (4Q FY08 and 1Q FY09) offer little reassurance on the company’s ability to meet FY09 guidance in the current environment. Exposure to Lehman (est. 1% of revenue) could impact an already fragile guidance. We expect cut in FY09 guidance to 18-20% from current levels of 24-26%.Lower margin resilience (due to 45% exposure to high cost ERP) will add to margin pressures over the next few quarters as pricing begins to decline.The stock trades at 9.1x FY09E and 9.9x FY10E EPS estimates. Maintain Hold with a target price of Rs305 (Oct 09), reduced from Rs414. Our DCF based target price implies a) WACC of 13.4%, (b) perpetuity growth rate of 3.0%, and c) 9.9% EPS CAGR over FY08-FY11E.

Highest exposure to discretionary spending (71.7%) due to a business mix skewed towards ERP and ADM is expected to weigh on growth over the near term. Higher exposure to acquired banks and lower exposure to acquiring entities (refer Slide 10) also indicate lower probability of client retention.Guidance misses in 2 successive quarters (4Q FY08 and 1Q FY09) offer little reassurance on the company’s ability to meet FY09 guidance in the current environment. Exposure to Lehman (est. 1% of revenue) could impact an already fragile guidance. We expect cut in FY09 guidance to 18-20% from current levels of 24-26%.Lower margin resilience (due to 45% exposure to high cost ERP) will add to margin pressures over the next few quarters as pricing begins to decline.The stock trades at 9.1x FY09E and 9.9x FY10E EPS estimates. Maintain Hold with a target price of Rs305 (Oct 09), reduced from Rs414. Our DCF based target price implies a) WACC of 13.4%, (b) perpetuity growth rate of 3.0%, and c) 9.9% EPS CAGR over FY08-FY11E.

2.9 (13.6)(3.5)Relative

(34.7)(27.4)(21.5)Absolute

12M3M1M


5.9 5.5 8.2 10.1 EV/EBITDA (x)1.8 2.1 2.7 3.3 Price/Book Value (x)9.9 9.1 11.5 13.5 PE (x)

19.7 26.2 26.0 27.9 ROE (%)23.1 29.6 29.0 30.3 ROCE (%)(8.3)26.4 17.6 41.8 EPS Growth (%)29.2 31.9 25.2 21.5 EPS (Rs)

19,977 21,569 16,876 14,044 Adjusted Net Profit19.2 22.1 21.7 23.7 EBITDA (%)

20,413 24,643 18,346 15,375 EBITDA(5.0)31.8 30.7 35.3 Sales growth (%)



Satyam (Mkt. Cap. US$4.0 bn) Hold (Target Price: Rs305)


10,000

12,000

14,000

16,000

18,000

20,000

22,000

Oct-07 Jan-08 Apr-08 Jul-08 Oct-08100

200

300

400

500

600Sensex Satyam

31


14.6-8.326.417.641.8Growth (%)

33.529.231.925.221.5EPS (Rs)


19.518.819.319.921.7Margin (%)

23,07319,97721,56916,87614,044Adjusted net profit

00000Extraordinary (income)/expense (net)

5,7683,2522,9512,3041,520Taxes

28,84123,22924,52019,18015,564Pre tax profit


29,04823,41524,76319,38115,723EBIT

2,2442,0161,9921,6361,484Depreciation & amortisation


23.3-17.234.319.331.9Growth (%)

21.319.222.121.723.7EBITDA (%)

25,16120,41324,64318,34615,375EBITDA

00000Other operational income

11.3-5.031.830.735.3Growth (%)

118,127106,108111,69784,73564,851Net sales

FY11EFY10EFY09EFY08EFY07Y/E March


132,783112,41394,03874,55959,005Application of funds00000Others (net)

113,45295,06878,56060,89350,345Net current assets15,90212,61011,9977,9195,772Provisions and others

8,6478,1827,5166,5614,174Current liabilities24,55020,79219,51314,4809,947Current liabilities & provisions

5,7245,6174,5703,9192,296Loans & advances4,0543,5082,8612,726649Other current assets

93,51274,13159,87445,02439,914Cash & bank balance34,71132,60530,76923,70317,432Sundry debtors

00000Inventories138,001115,86098,07375,37260,292Current assets

3,3993,1682,285872437Deferred tax assets/(liability)00000Investments

2,0002,0003,0004,6103,017CWIP13,93212,17710,1938,1855,207Net block17,66915,42513,40911,4179,848Less: Depreciation/amortisation31,60227,60223,60219,60215,054Fixed assets

00000Intangible assets132,783112,41394,03874,55959,005Sources of funds

1,8581,9552,0582,1671,479Loans00000Minority Interest

130,925110,45891,98072,39257,526Networth129,548109,09190,62771,05156,192Reserves & surplus

1,3771,3661,3531,3411,334Share capital



Satyam (Hold) Target Price: Rs305


32


93,51274,13159,87445,02439,914Closing cash balance74,13159,87445,02439,91431,117Opening cash balance19,38314,25714,8505,1108,797Net inc/dec in cash (a+b+c)-2,510-1,974-1,694-2,368702Financial cash flow ( c )

10000Others-98-103-108681452Inc/dec in loans

-4,272-4,242-3,661-2,934-2,766Dividends paid + dividend tax1,8592,3712,076-1153,016Inc/(dec) in capital2,1322,018-278-5,387-1,959Cash flow from inv. (b)

10000Others -4,000-3,000-2,391-6,018-4,089Capex6,1315,0182,1126312,130(Inc)/dec in investments

19,76114,21316,82212,86410,054Net cash from operations (a)-6,155-5,715-3,2831,097175Others

599-2,065-3,456-6,744-5,649(Inc)/dec in working capital2,2442,0161,9921,6361,484Depreciation/amortisation

23,07319,97721,56916,87614,044Net profitFY11EFY10EFY09EFY08EFY07Y/E March



00000Inventory days



0.91.11.21.82.4EV/Sales

4.05.95.58.210.1EV/EBITDA

1.51.82.12.73.3PBV

8.69.99.111.513.5PER


0.00.00.00.00.0Debt-equity ratio (x)

19.119.726.226.027.9ROE (%)

24.223.129.629.030.3ROCE (%)


Key Ratios



-0.9-3.12.0Realization growth (% YoY)

16.2-1.216.9Volume growth (% YoY)



Assumptions


13.4WACC (%)


0.9Beta (x)


DCF Assumptions

Company specific risk include high exposures to discretionary spending and ERP. Industry specific risks include deterioration in the demand environment, pricing pressure and higher than expected appreciation in the rupee.

Company specific risk include high exposures to discretionary spending and ERP. Industry specific risks include deterioration in the demand environment, pricing pressure and higher than expected appreciation in the rupee.

Satyam (Hold) Target Price: Rs305


Change in assumptions FY09E FY110E FY09E FY110ERevenue (US$ mn) 2,530 2,438 2,653 3,171 Revenue growth (% ) 19.1 -3.6 25.1 19.5 Revenue (Rs mn) 111,697 106,108 110,020 127,626 Revenue growth (% ) 31.8 -5.0 29.8 16.0 EPS (Rs) 31.9 29.2 31.8 34.5 EPS growth (% ) 26.4 -8.3 26.0 8.5 Target price 305 414


33


HCL Tech has a well diversified services portfolio, with the lowest discretionary exposure at 43.4% of revenue, mainly due to its high exposure to Remote Infrastructure Management (RIM) (15.1% of revenues). While we believe that HCL Tech’s leadership in RIM will be a long term growth engine, we expect clients to shy away from offshoring mission critical systems in the current scenario. High client concentration in BFSI (27.3% of revenues; management has highlighted ramp down from a large client to the extent of US$10-11 mn per quarter and flat growth from another) will also hamper growth over the near term.HCL Tech had hedges of US$1.4 bn (as on June 2008) and if rupee stays at current levels we could see forex losses of up to US$50 mn in FY09E. We have factored in rupee depreciation of 2.2% for the rest of FY09 and appreciation of 4% in FY10. With Infosys refraining from a higher bid for Axon, HCL Tech is likely to emerge as the potential acquirer. While Axon would boost HCL Tech’s currently weaker presence in Enterprise Applications, we believe it could take at least 2-3 years for synergies to be accretive given the current scenario. Integration risk also remains a concern.We believe that HCL Tech is a player to keep an eye on – a strong infrastructure presence and well diversified portfolio could place the company on a better footing post the downturn. However, near term concerns on Axon integration and lower client stickiness leaves us more comfortable with a Hold recommendation. The stock trades at 8.4x FY09E and 8.9x FY10E EPS estimates. The stock offers a dividend yield of 7%.Recommend Hold with a target price of Rs192 (Oct 09). Our DCF based target price implies a) WACC of 14%, (b) perpetuity growth rate of 3.0%, and c) 13.1% EPS CAGR over FY08-FY11E.

HCL Tech has a well diversified services portfolio, with the lowest discretionary exposure at 43.4% of revenue, mainly due to its high exposure to Remote Infrastructure Management (RIM) (15.1% of revenues). While we believe that HCL Tech’s leadership in RIM will be a long term growth engine, we expect clients to shy away from offshoring mission critical systems in the current scenario. High client concentration in BFSI (27.3% of revenues; management has highlighted ramp down from a large client to the extent of US$10-11 mn per quarter and flat growth from another) will also hamper growth over the near term.HCL Tech had hedges of US$1.4 bn (as on June 2008) and if rupee stays at current levels we could see forex losses of up to US$50 mn in FY09E. We have factored in rupee depreciation of 2.2% for the rest of FY09 and appreciation of 4% in FY10. With Infosys refraining from a higher bid for Axon, HCL Tech is likely to emerge as the potential acquirer. While Axon would boost HCL Tech’s currently weaker presence in Enterprise Applications, we believe it could take at least 2-3 years for synergies to be accretive given the current scenario. Integration risk also remains a concern.We believe that HCL Tech is a player to keep an eye on – a strong infrastructure presence and well diversified portfolio could place the company on a better footing post the downturn. However, near term concerns on Axon integration and lower client stickiness leaves us more comfortable with a Hold recommendation. The stock trades at 8.4x FY09E and 8.9x FY10E EPS estimates. The stock offers a dividend yield of 7%.Recommend Hold with a target price of Rs192 (Oct 09). Our DCF based target price implies a) WACC of 14%, (b) perpetuity growth rate of 3.0%, and c) 13.1% EPS CAGR over FY08-FY11E.

HCL Tech (Mkt. Cap. US$2.3 bn) Hold (Target Price: Rs192)

34


8.9 9.4 Others9.35.4 MFs/FIs/Banks

14.317.7 FIIs67.667.5 Promoters

1Q FY081Q FY09Shareholding Pattern (%)

(9.6)(8.3)(5.1)Relative

(47.2)(22.2)(23.1)Absolute

12M3M1M


22.925.622.029.9ROE (%)8.98.410.78.7PE (x)1.92.02.12.2Price/Book value (x)4.74.65.26.7EV/EBITDA (x)

26.929.124.533.2ROCE (%)-5.626.7-18.372.8EPS (after ESOP charges) growth (%)18.519.515.418.9EPS (after ESOP charges) (Rs)-6.322.3-17.270.8EPS (before ESOP charges) growth (%)19.420.716.920.4EPS (before ESOP charges) (Rs)

12,455 13,114 10,271 12,543 Adjusted net profit (after ESOP charges)13,069 13,862 11,248 13,549 Adjusted net profit (before ESOP charges)

19.7 21.1 22.2 22.2 EBITDA (%)18,715 19,711 16,941 13,370 EBITDA

1.522.426.637.5Sales growth (%)94,918 93,516 76,396 60,336 Net sales

FY10EFY09EFY08FY07Y/E June(Rs mn)Financial Summary

HCL Tech (Hold) Target Price: Rs192


10,000

12,000

14,000

16,000

18,000

20,000

22,000


200

300

400

500Sensex HCL Tech

35



FY09E FY10E FY09E FY10E FY09E FY10ERevenue (Rs mn) 93,516 94,918 104,764 116,539 12.0% 22.8%EBIT (Rs mn) 15,904 14,684 17,624 17,867 10.8% 21.7%EBIT margin (%) 17.0 15.5 16.8 15.3 -0.2% -0.1%PAT (Rs mn) 13,114 12,455 13311 12824 1.5% 3.0%PAT margin (%) 14.0 13.1 12.7 11.0 -1.3% -2.1%EPS (Rs) 19.5 18.5 19.8 19.0 1.5% 3.0%

HCL Tech HCL Tech with Axon Impact

HCL Tech put in a counter bid for Axon at GBP 441.1 mn valuing the company at 650 pence per share which is 8.3% higher than Infosys’s bid of 650 pence. We believe that HCL Tech needs this acquisition given its lower presence in the package implementation space (10.8% of revenues vs 24 % for Infosys, 26% for TCS, 45% for Satyam) we remain concerned about integration issues.HCL Tech has had experience with European acquisitions/deals (Deutsche, BT, Skandia) and has absorbed close to 2,000 employees till date, integrating Axon’s 1,300 employees many of whom are high-end domain consultants remains a concern. Valuations (2.15x CY07 sales and 21.8x CY07 profits) look expensive in comparison to Tier I Indian vendors. Further, the real benefits of the acquisition would from the downstream revenues through Axon, which is under threat in the current macro environment, which we believe will offer little opportunity for growth to high discretionary services such as package implementation.

HCL Tech put in a counter bid for Axon at GBP 441.1 mn valuing the company at 650 pence per share which is 8.3% higher than Infosys’s bid of 650 pence. We believe that HCL Tech needs this acquisition given its lower presence in the package implementation space (10.8% of revenues vs 24 % for Infosys, 26% for TCS, 45% for Satyam) we remain concerned about integration issues.HCL Tech has had experience with European acquisitions/deals (Deutsche, BT, Skandia) and has absorbed close to 2,000 employees till date, integrating Axon’s 1,300 employees many of whom are high-end domain consultants remains a concern. Valuations (2.15x CY07 sales and 21.8x CY07 profits) look expensive in comparison to Tier I Indian vendors. Further, the real benefits of the acquisition would from the downstream revenues through Axon, which is under threat in the current macro environment, which we believe will offer little opportunity for growth to high discretionary services such as package implementation.

HCL Tech services mix (FY08)

US57.4%

Asia Pacific13.5%

Europe29.1%

HCL Tech services mix (FY08)

ERP11.4%

ADM36.3%

Engineering Serv ices24.8%

IMS15.1%

BPO12.5%

Source:Bloomberg data, JM Financial


36


706699692683683Diluted share capital (mn)13.713.114.013.420.8Margin (%)

15,19712,45513,11410,27112,543Adjusted net profit (after ESOP charges)

23.019.420.716.920.4EPS (before ESOP charges) (Rs)18.6-6.322.3-17.270.8Growth (%) 22.318.519.515.418.9EPS (after ESOP charges) (Rs)21.0-5.626.7-18.372.8Growth (%)

4256147499771,006ESOP charges14.113.814.814.722.5Margin (%)

15,62213,07013,86211,24813,549Adjusted net profit (before ESOP charges)00000Extraordinary (income)/expense (net)

-69-45-281955Minority interest0000-9Share of Income from Eq.

3,8882,3691,9281,2721,485Taxes19,44115,39415,76312,53915,098Pre tax profit

00000Interest (income)/expense (net)19,44115,39415,76312,53915,098EBIT

4,4784,0313,8073,0322,531Depreciation & amortisation909709-141-1,3704,259Other non-operational income22.9-5.116.426.737.4Growth (%)20.819.721.122.222.2EBITDA (%)

23,00918,71519,71116,94113,370EBITDA00000Other operational income

16.71.522.426.637.5Growth (%)110,76294,91893,51676,39660,336Net salesFY11EFY10EFY09EFY08EFY07Y/E June


61,95458,07056,25152,23450,295Application of funds6,7775,4075,2245,0642,349Others (net)2,1835,7607,6423,2419,900Net current assets

23,94618,84715,95213,49711,709Provisions and others19,41916,12815,05014,7561,373Current liabilities43,36534,97531,00228,25213,082Current liabilities & provisions

00000Loans & advances12,16711,09310,7388,7137,117Other current assets

6,9165,1284,5713,8403,587Cash & bank balance26,46624,51523,33418,94012,278Sundry debtors

00000Inventories45,54840,73538,64431,49322,982Current assets

287229185148130Deferred tax assets/(liability)23,12019,11018,10520,87919,360Investments

00000CWIP20,00117,97915,51013,31710,495Net block

-25,148-20,671-16,639-12,832-9,800Less: Depreciation/amortization45,14938,64932,14926,14920,295Fixed assets

9,5859,5859,5859,5858,061Intangible assets61,95458,07056,25152,23450,295Sources of funds

-51182957145Minority Interest62,00558,05256,22152,17750,150Networth60,64456,70254,87950,84648,823Reserves & surplus

1,3611,3501,3421,3311,327Share capital

FY11EFY10EFY09EFY08EFY07Y/E June




37


6,9165,1274,5713,8403,587Closing cash balance5,1284,5713,8403,5732,359Opening cash balance1,7885567312681,228Net inc/dec in cash (a+b+c)

-10,102-10,108-8,606-6,374-3,813Financial cash flow ( c )-69-11-28-386-95Others

00000Inc/dec in loans-10,346-9,820-9,329-6,366-6,068Dividends paid + dividend tax

313-2787503782,350Inc/(dec) in capital-10,971-6,980-3,528-7,239-6,100Cash flow from inv. (b)

-471520-307-1,6485Others -6,500-6,500-6,000-5,558-3,979Capex-4,000-1,0002,779-32-2,125(Inc)/dec in investments22,86117,64412,86514,37510,884Net cash from operations (a)

-17,691-14,980-10,726-10,441-7,128Others208-501-6,1621,713-4,331(Inc)/dec in working capital

25,14820,67116,63912,8329,800Depreciation/amortisation15,19712,45513,11410,27112,543Net profit

FY11EFY10EFY09EFY08EFY07Y/E JuneCash Flow statement (Rs mn)


00000Inventory days



0.70.91.01.11.5EV/Sales

3.64.74.65.26.7EV/EBITDA

1.81.92.02.12.2PBV

7.48.98.410.78.7PER*


00000Debt-equity ratio (x)

26.022.925.622.029.9ROE (%)

32.426.929.124.533.2ROCE (%)

FY11EFY10EFY09EFY08EFY07Y/E June

Key Ratios



0.9-2.8-3.2Realization growth** (% YoY)

19.85.19.2Volume growth** (% YoY)

20.55.69.1Dollar revenue growth (% YoY)

FY11EFY10EFY09EY/E June

Assumptions


13.6WACC (%)


0.9Beta (x)


DCF AssumptionsCompany specific risk include high exposures to banks under crisis – for instance, HBOS, which has been taken over by Lloyds. Weaker presence in core software services and BPO restructuring could add to near term troubles. Industry specific risks include deterioration in the demand environment, pricing pressure and higher than expected appreciation in the rupee.

Company specific risk include high exposures to banks under crisis – for instance, HBOS, which has been taken over by Lloyds. Weaker presence in core software services and BPO restructuring could add to near term troubles. Industry specific risks include deterioration in the demand environment, pricing pressure and higher than expected appreciation in the rupee.

Source: Company data, JM Financial. * After ESOP charges.**Software services


38


Notes

39


JM Financial Institutional Securities Private LimitedMember, Bombay Stock Exchange Limited and National Stock Exchange of India LimitedBandbox House, 1st Floor, 254-D Dr Annie Besant Road, Worli, Mumbai 400 025Tel: +9122 6646 0000 • Dealers: +91 22 2497 5601/05 • Fax: +91 22 2498 5666 • Email: [email protected]

Other DisclosuresThis research report has been prepared by JM Financial Institutional Securities Private Limited (JM Financial Institutional Securities) to provide information about the company(ies) and sector(s), if any, covered in the report and may be distributed by it and/or its affiliated companies solely for the purpose of information of the select recipient of this report. This report and/or any part thereof, may not be duplicated in any form and/or reproduced or redistributed without the prior written consent of JM Financial Institutional Securities. This report has been prepared independently of the companies covered herein. JM Financial Institutional Securities and/or its affiliated entities are a multi-service, integrated investment banking, investment management and brokerage group. JM Financial Institutional Securities and/or its affiliated company(ies) might have lead managed or co-managed a public offering for the company(ies) covered herein in the preceding twelve months and might have received compensation for the same during this period for the services in respect of public offerings, corporate finance, investment banking, mergers & acquisitions or other advisory services in a specific transaction. JM Financial Institutional Securities and/or its affiliated company(ies) may receivecompensation from the company(ies) mentioned in this report within a period of three to six months' time following the date of publication of this research report for rendering any of the above services. Research analysts and Sales Persons of JM Financial Institutional Securities may provide important inputs into the investment banking activities of its affiliated company(ies) or any other firm or company associated with it.

While reasonable care has been taken in the preparation of this report, it does not purport to be a complete description of the securities, markets or developments referred to herein, and JM Financial Institutional Securities does not warrant its accuracy or completeness. JM Financial Institutional Securities may not be in any way responsible for any loss or damage that may arise to any person from any inadvertent error in the information contained in this report. This report is provided for information only and is not intended to be and must not alone be taken as the basis for an investment decision. The investment discussed or views expressed herein may not be suitable for all investors. The user assumes the entire risk of any use made of this information. The information contained herein may be changed without notice and JM Financial Institutional Securities reserves the right to make modifications and alterations to this statement as they may deem fit from time to time.

JM Financial Institutional Securities and its affiliated company(ies), their directors and employees may; (a) from time to time, have a long or short position in, and buy or sell the securities of the company(ies) mentioned herein or (b) be engaged in any other transaction involving such securities and earn brokerage or other compensation or act as a market maker in the financial instruments of the company(ies) discussed herein or act as an advisor or lender/borrower to such company(ies) or may have other potential conflict of interests with respect to any recommendation and other related information and opinions.

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Analyst(s) holding in the Stock: (Nil)

40

“We are in a more uncertain environment.” “The months July and August largely tracked expectations but activity and revenues in September (particularly in the second half of September) have ebbed/slowed down.” “Our major clients have not given us indications of their spending with us as they are still coming to terms with their situation.” “The budget cycle normally begins towards the end of the calendar year but we are yet to tentatively hear from our clients. We are likely to see this being postponed to the next calendar as we have seen in CY08.” “Pricing is stable for now though we are not seeing increases as before.” “Europe is showing signs of slowing down as well.” This is likely to be broadly the tone of management commentary at the time of their July-September 2008 (or more generally Q2FY09) results call.

Visibility being hard to predict is biggest hangover on stocks

Stock prices currently reflect the concern of an uncertain FY10 given the escalation of the global financial crisis. We currently are modeling revenues of Indian tier-1 companies to grow at 13-15% in USD terms and EPS at 8-12% in INR terms in FY10E. This takes cognizance of incremental pricing pressures and volume pressures that are setting in.

There are three factors that investors must pay attention to:

Specific leading indicators of slowdown in tech spending in evidence: Slowdown in new licence software product sales (ERP) may translate into downstream impact on service providers (Indian IT companies) in two-three quarters’ time as Indian IT companies get about 30-35% of their revenues from package implementation from new license implementation. Impact on sector: Negative.

Constant currency reporting to make real increases clear: We have

reported in our October 7 report, “When pricing becomes a mirage” that stripped of exchange rate fluctuations of other currencies versus the USD, the real pricing (or realisation) increase for Indian IT companies was likely to have been only 60-65% of reported pricing increase. Likewise, while this has helped USD denominated revenue growth during the period of USD depreciation during FY06-08, it has now become a drag on USD denominated growth with the USD now appreciating against other currencies. Impact on sector: Mildly positive as it helps the investor better discern real growth.

• Valuations beginning to get seriously interesting for longer-horizon value

investors: The current market cap of three of the large 5 is almost completely explained and accounted for by perpetual growth of 5% only with no phase of abnormal growth. For Wipro and Infosys the proportion (of market cap) of above 5% (i.e., above steady-state) growth is still about 20%. Impact on sector: Positive as long-term investors potentially begin to evince strong interest in a sector that enjoys predictable cash flows (in other words, not volatile cash flows).

Viju George

+91-22-4040 7414

[email protected]

Kunal Sangoi

+91-22-6623 3370

[email protected]

Nikhil Chakrapani

+91-22-6623 3480

[email protected]

India Equity Research | IT Result Preview

IT Testing times now beginning to test distressed valuations October 8, 2008

Edelweiss Research is also available on Bloomberg EDEL <GO>, Thomson First Call, Reuters and Factset. Edelweiss Securities Limited

1

41

IT

Edelweiss Securities Limited

2

“We are in a more uncertain environment.” “The months July and August largely tracked expectations but activity and revenues in September (particularly in the second half of September) have ebbed/slowed down.” “Our clients have not given us indications of their spending with us as they are still coming to terms with their situation.” “The budget cycle normally begins towards the end of the calendar year but we are yet to tentatively hear from our clients. We are likely to see this being postponed to the next calendar as we have seen in CY08.” “Pricing is stable for now though we are not seeing increases as before.” “Europe is showing signs of slowing down as well.” This is likely to be broadly the tone of management commentary at the time of their July-September 2008 (or more generally Q2FY09) results call.

Q2FY09 results to be in line with lower end of quarterly expectations/guidance

As we await results from Indian technology companies, there are mounting concerns on visibility and outlook given the crisis extending across geographies and domains. While Q2FY09 results and the attendant management commentaries are not likely to comfort investors, we do not believe that there are likely to be negative surprises not factored in current stock prices. Companies that provide annual guidance (Infosys and Satyam) may or may not hold on to their revenue growth guidance for FY09 (in USD terms), but as long as the scale-back is within 3-4% (Infosys at 15-17% USD revenue growth versus the earlier 19-21% and Satyam at 22-24% versus the earlier 24-26%), we would not be too concerned given expectations currently impounded in stocks. We note at least about 1.5-2% in this 3-4% is attributable to the strengthening of the USD against other currencies. In essence, we are not likely to hear anything that will set a material direction for stocks, either up or down.

Visibility being hard to predict is biggest hangover on stocks

Stock prices currently reflect the concern of an uncertain FY10 given the escalation of the global financial crisis. We currently are modeling revenues of Indian tier-1 companies to grow at 13-15% in USD terms and EPS at 8-12% in INR terms in FY10E. This takes cognizance of incremental pricing pressures and volume pressures that are setting in. There are three factors that investors must pay attention to:

Specific leading indicators of slowdown in tech spending in evidence: In the previous month, Dell stated that it was experiencing "further softening" in global demand. SAP’s profit warning on October 7 should be seen in a serious light. SAP announced on October 7 that sales had slowed down in the last two weeks of September and that, as a result, it may not meet its previous revenue expectations. This is important because a good portion of incremental growth of Indian IT companies over the past four-six quarters accrued from package implementation. Slowdown in new license sales may translate into downstream impact on service providers (Indian IT companies) in two-three quarters’ time as Indian IT companies get about 30-35% of their revenues from package implementation from new license implementation. This may explain why Satyam’s stock fell on October 7 as it has maximum exposure to the package implementation space (44% of revenues) and is most vulnerable. Impact on sector: Negative.

42

IT


3

Constant currency reporting to make real increases clear: We have reported in our October 7 report, “When pricing becomes a mirage” that stripped of exchange rate fluctuations of other currencies versus the USD, the real pricing (or realisation) increase for Indian IT companies was likely to have been only 60-65% of reported pricing increase over FY07 and FY08. Likewise, while this has helped USD denominated revenue growth during the period of USD depreciation during FY06-08, it has now become a drag on USD denominated growth with the USD now appreciating against other currencies (notably, GBP, EUR and Australian Dollar). We expect Infosys to report its revenues and pricing on a constant currency basis, which makes it possible to see revenue growth in real terms removing the currency impact. In this context, we expect Infosys to explain how currency fluctuations versus the USD impacted overall USD revenue growth. Impact on sector: Mildly positive as it helps the investor better discern real growth.

Valuations beginning to get seriously interesting for longer-horizon value

investors: Chart 1 shows the expectations embedded in the big-5 Indian IT of above 5% growth over FY09E EPS. From the chart it is evident that current market cap of three of the large 5 is completely explained and accounted for by perpetual growth of 5% only with no phase of abnormal growth. For Wipro and Infosys the proportion (of market cap) of above 5% (i.e., above steady-state) growth is still about 20%. Impact on sector: Positive as long-term investors can potentially begin to evince interest in a sector that enjoys predictable cash flows (in other words, cash flows that are not volatile).

We study the methodology further below:

HCLT, Satyam and Tata Consultancy Services (TCS) are trading at ex-growth value (steady state growth of 5%), compelling value in our view for a long-horizon investor willing to tolerate turmoil through FY09 and possibly through FY10 as well. In fact, Satyam’s current market cap is lower than that implied by steady-state growth (5%) value by almost 10%. Chart 1: Satyam, HCLT, and TCS are currently at or below perpetual or no-abnormal growth value

89%

82%

80%

61%

67%

19%

17%

26%

18%

15%

-8%

1%

-5%

21%

18%

Satyam

HCLT

TCS

Infosys

Wipro

No growth value (FY09 assumed to perpetuity)

Nominal growth 5% (ROCE) premium

Value attributable to above 5% growth

Source: Edelweiss research

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4

Key assumptions and definitions:

Cost of equity or CoE is 13.5% for Infosys and Satyam.

Cost of equity is 14% for TCS, Wipro and HCLT, taken slightly higher for relatively low liquidity.

No growth value = capitalised EPS of FY09 (EPS/CoE).

Nominal growth value (value of 5% growth over no value) = FCFF09/(CoE – 5%), - No growth value.

Or Value of 5% growth = EPS09*(1-5%/Steady-state ROCE)/( CoE – 5%) – No growth value. This derives from the steady-state formula (EPScurrent* (1-g/steady-state ROCE)/ (CoE – g). (Steady-state ROCE is taken as 25% for Infosys and TCS, 20% for the others)

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5

Q209 Q109

Q-o-Q growth

% Q208

Y-o-Y growth

% Remarks and key things to watch out for TCS Revenues 67,904 64,110 5.9 56,398 20.4 - Gross hiring likely to be revised downwards; Commentary on key troubled

BFSI clients key for investor comfort;EBITDA 16,456 15,317 7.4 14,820 11.0 - Earlier expectation that products could do better in Q2FY09 than Q1FY09 is

likely to be belied;Margin (%) 24.2 23.9 26.3 - Confirmation on whether salary increases on account of promotion were

effected in Q2FY09 needed to put speculation to rest .

Net profits 13,488 12,437 8.5 12,469 8.2

Infosys Revenues 53,831 48,540 10.9 41,060 31.1 - Likely USD guidance downgrade for the year

EBITDA 17,313 14,790 17.1 12,840 34.8 - Hiring and campus offer trends would give better benchmark for rest of the year and peek into FY10.

Margin 32.2 30.5 31.3 -

Net profits 14,048 13,020 7.9 11,000 27.7

Wipro Revenues 63,514 59,623 6.5 47,281 34.3 - Modest outperformance on revenues vis-à-vis guidance, forex-losses likely to be significant given large forward covers

EBITDA 12,502 12,120 3.2 9,400 33.0 - Guidance for IT-revenues Q3FY09 could be higher (~4% in USD terms)

Margin 19.7 20.3 19.9 - With focus on utilization, employee addition could be subdued in this quarter as well (following on from net negative hiring in Q1 in IT-Services)

Net profits 8,934 8,139 9.8 8,122 10.0

Satyam Revenues 28,909 26,208 10.3 20,317 42.3 - Could bring USD guidance down by 1-2% points to 22-24%, largely in the stock;

EBITDA 6,758 6,323 6.9 4,027 67.8 -

Margin 23.4 24.1 19.8

Net profits 5,734 5,477 4.7 4,091 40.2

HCL Tech Revenues 22,841 21,688 5.3 17,092 33.6 - Should set the tone for FY09 performance as HCLT finshes its first quarter

EBITDA 5,025 5,084 (1.2) 3,639 38.1 - BPO performance and synergies of recent acqusiitons should start emanating

Margin 22.0 23.4 21.3 - Rupee depreciation benefit may be available this quarter as near term hedges were cancelled in last quarter and effective hedges of only about USD 300mn for MTM loss)

Net profits 2,610 1,179 121.4 2,856 (8.6)

Patni Revenues 8,059 7,673 5.0 6,747 19.4 - Expect flattish revenues (Q-o-Q)

EBITDA 1,169 979 19.3 1,111 5.2 - May see some recovery in margins with rupee aid, net profits are likely to see a Q-o-Q decline of ~20% on MTM losses

Margin 14.5 12.8 16.5 - Watch out for attrition; People addition

Net profits 586 1,224 (52.1) 1,033 (43.3) - Buy back likely to lift EPS

- Top 10 accounts organic growth is a key metric to be seenMphasiS Revenues 8,383 7,422 13.0 6,017 39.3 - IT services volumes to continue decent growth, while BPO revenues may be

under pressure

EBITDA 1,479 1,247 18.7 1,079 37.1 - Watch out for comments on HP-EDS merger impact, especially on the EDS channel work

Margin 17.6 16.8 17.9 - EBITDA margins expected at ~17%; to improve, going forward, as rupee id i hi iNet profits 847 790 7.2 663 27.7 - People addition trends to indicate traction for CY09

Hexaware Revenues 2,901 2,845 2.0 2,546 13.9 - Rupee depreciation to aid revenue growth and operating margins

EBITDA 362 177 105.0 304 19.2 - USD 196 mn forex position may have significantimpact on other income due to MTM loss

Margin 12.5 6.2 11.9 - Demand outlook and order book might be weakening further

Net profits 38 95 (60.3) 269 (86.0) - The hedge positions are threat to companies profitability this year if rupee continues to be above INR 45/USD

Rolta Revenues 3,433 3,211 6.9 2,210 55.3 - MTM of FCCB once again to impact the profits. Expect INR 540mn loss

EBITDA 1,156 1,122 3.0 840 37.6 - Oil & gas and defence verticals remain relatively insulated from macro concerns, currently

Margin 33.7 34.9 38.0 - Salary increases to impact the operating margins, expect 120bps impact on EBITDA margin

Net profits 301 508 (40.7) 538 (44.0)

Volume growth for the quarter key to understand current business situation; impact on Q2FY09 revenues (USD) on account of cross-currency less of a concern

healthy outlook for package implementation places Satyam relatively well vis-à-vis peers

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6

Q109 Q408 Q-o-Q growth

%

Q108 Y-o-Y growth

%

Remarks and key things to watch out for

Mastek Revenues 2,521 2,448 3.0 2,042 23.5 - Expect company falling short of lower end of PAT guidance

EBITDA 441 487 (9.4) 296 49.2 - Ramp down of NHS contract more widespread compared to earlier expected by Dec 08

Margin 17.5 19.9 14.5 - SOA Elixir gaining traction

Net profits 350 386 (9.3) 251 39.2

Infotech Revenues 2,161 2,006 7.7 1,611 34.1 - GIS growth to pick-up; Engg. to continue its hi-growth traction

EBITDA 405 369 9.8 293 38.1 - OPM likely to increase with rupee benefit flowing throughMargin 18.7 18.4 18.2 - Cancellation of Euro contracts to partly reduce hedging loss. Receivable and

other current assets to mitigate hedging MTM loss.

Net profits 279 246 13.6 253 10.5 - Top clients re-inforce their working relations with new engagements

Sasken Revenues 1,653 1,681 (1.7) 1,432 15.4 - Services business volumes to remain muted. Growth outlook remains bleak (we expect 17% growth for FY09)

EBITDA 327 366 (10.7) 235 39.4 - Rupee depreciation to benefit upto the EBITDA level, however PAT to be impacte due to MTM of hedges.

Margin 19.8 21.8 16.4 - Products outlook expected to improvise

Net profits 123 137 (10.3) 73 67.9 - Share buy-back to positively impact EPS going forward

Geometric Revenues 1,489 1,404 6.0 1,225 21.5 - Volumes to be under pressure, part rupee benefit to flow through

EBITDA 195 145 34.6 144 35.4 - Operating margins to improve with stricter cost curtailment

Margin 13.1 10.3 11.7 - Products to gain tractionNet profits 84 162 (48.0) 91 (7.1)

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7

lue attributable to above 5% = Residual market cap = Current market cap – no growth value – value

of 5% growth.

Naresh Kothari Co-Head Institutional Equities [email protected] +91 22 2286 4246

Vikas Khemani Co-Head Institutional Equities [email protected] +91 22 2286 4206

Shriram Iyer Head Research [email protected] +91 22 2286 4256

Coverage group(s) of stocks by primary analyst(s): Information Technology Geometric, HCL Tech, Hexaware, Infosys, Infotech, Mastek, Mphasis, Patni, Rolta, Sasken, Satyam, TCS, Take Solutions and Wipro

Recent Research

Rating Interpretation

Buy appreciate more than 20% over a 12-month period

Accumulate appreciate up to 20% over a 12-month period

Reduce depreciate up to 10% over a 12-month period

Sell depreciate more than 10% over a 12-month period

07-Oct-08 IT When pricing becomes a mirage; Sector Update 29-Sep-08 IT Accenture defies the environment with continued traction; Sector Update 25-Sep-08 IT Global woes spreading like wildfire; Sector Update 17-Sep-08 IT From the frying pan into the fire; Sector Update

Distribution of Ratings / Market Cap

Edelweiss Research Coverage Universe

Rating Distribution* 94 59 14 8 187

* 10 stocks under review / 1 rating withheld

Market Cap (INR) 75 65 47

This document has been prepared by Edelweiss Securities Limited (Edelweiss). Edelweiss, its holding company and associate companies are a full service, integrated investment banking, portfolio management and brokerage group. Our research analysts and sales persons provide important input into our investment banking activities. This document does not constitute an offer or solicitation for the purchase or sale of any financial instrument or as an official confirmation of any transaction. The information contained herein is from publicly available data or other sources believed to be reliable, but we do not represent that it is accurate or complete and it should not be relied on as such. Edelweiss or any of its affiliates/ group companies shall not be in any way responsible for any loss or damage that may arise to any person from any inadvertent error in the information contained in this report. This document is provided for assistance only and is not intended to be and must not alone be taken as the basis for an investment decision. The user assumes the entire risk of any use made of this information. Each recipient of this document should make such investigation as it deems necessary to arrive at an independent evaluation of an investment in the securities of companies referred to in this document (including the merits and risks involved), and should consult his own advisors to determine the merits and risks of such investment. The investment discussed or views expressed may not be suitable for all investors. We and our affiliates, group companies, officers, directors, and employees may: (a) from time to time, have long or short positions in, and buy or sell the securities thereof, of company (ies) mentioned herein or (b) be engaged in any other transaction involving such securities and earn brokerage or other compensation or act as advisor or lender/borrower to such company (ies) or have other potential conflict of interest with respect to any recommendation and related information and opinions. This information is strictly confidential and is being furnished to you solely for your information. This information should not be reproduced or redistributed or passed on directly or indirectly in any form to any other person or published, copied, in whole or in part, for any purpose. This report is not directed or intended for distribution to, or use by, any person or entity who is a citizen or resident of or located in any locality, state, country or other jurisdiction, where such distribution, publication, availability or use would be contrary to law, regulation or which would subject Edelweiss and affiliates/ group companies to any registration or licensing requirements within such jurisdiction. The distribution of this document in certain jurisdictions may be restricted by law, and persons in whose possession this document comes, should inform themselves about and observe, any such restrictions. The information given in this document is as of the date of this report and there can be no assurance that future results or events will be consistent with this information. This information is subject to change without any prior notice. Edelweiss reserves the right to make modifications and alterations to this statement as may be required from time to time. However, Edelweiss is under no obligation to update or keep the information current. Nevertheless, Edelweiss is committed to providing independent and transparent recommendation to its client and would be happy to provide any information in response to specific client queries. Neither Edelweiss nor any of its affiliates, group companies, directors, employees, agents or representatives shall be liable for any damages whether direct, indirect, special or consequential including lost revenue or lost profits that may arise from or in connection with the use of the information. Past performance is not necessarily a guide to future performance. The disclosures of interest statements incorporated in this document are provided solely to enhance the transparency and should not be treated as endorsement of the views expressed in the report. Edelweiss Securities Limited generally prohibits its analysts, persons reporting to analysts and their family members from maintaining a financial interest in the securities or derivatives of any companies that the analysts cover. The analyst for this report certifies that all of the views expressed in this report accurately reflect his or her personal views about the subject company or companies and its or their securities, and no part of his or her compensation was, is or will be, directly or indirectly related to specific recommendations or views expressed in this report.

Copyright 2007 Edelweiss Research (Edelweiss Securities Ltd). All rights reserved

> 50bn Between 10bn and 50 bn < 10bn

Date Company Title Price (INR) Recos

Rating Expected to

Buy Accumulate Reduce Sell Total

Edelweiss Securities Limited, 14th Floor, Express Towers, Nariman Point, Mumbai – 400 021, Board: (91-22) 2286 4400, Email: [email protected]

47

History of currency-related headwinds for US$ guidance:

-8%-6%-4%-2%0%2%4%6%8%

1Q 2Q 3Q 4Q 1Q 2Q 3Q 4Q 1Q 2Q 3Q 4Q 1Q 2Q 3Q 4Q 1Q 2Q 3Q 4Q 1Q 2Q 3Q 4Q 1Q 2Q 3Q 4Q 1Q 2Q 3Q 4Q 1Q 2Q 3Q

2000 2001 2002 2003 2004 2005 2006 2007 2008

vs GBP vs Euro

Average appreciation/depreciation of US$

Source: IIFL Research

2Q has been among the best outperforming quarters for Infosys

2.8%2.9%

0.2%

1.5%

4.3%4.3%

3.3%

0.1%

2.2%

3.9%

0.6%

0.0%

0.9%

0%

1%

2%

3%

4%

5%

1Q 2Q 3Q 4Q 1Q 2Q 3Q 4Q 1Q 2Q 3Q 4Q 1Q

2006 2007 2008 2009

Guidance (US$ revenue) outperformance by Infosys


Aniruddha Dange [email protected] (91 22) 6620 6640

Sandeep Muthangi [email protected] (91 22) 6620 6646

IT Services Out of control 6 October 2008

Excessive pessimism going into the results season—fears of IT companies missing their US$ revenue guidance on account of the US$’s appreciation against GBP/Euro and clients’ bankruptcies/sales hitting vendors’ business—imply that negative surprises are unlikely in the QE September 2008 results. We expect Infosys and Satyam to raise their yearly rupee EPS guidance by ~5% on the back of a stronger US$. On the other hand US$ revenue guidance will likely be revised downwards by 2ppt+ (this, in our view, is in the price). We also believe that business rampdowns from affected clients (Lehman, Merrill, AIG, Washington Mutual, etc) were minimal in QE September 2008, and would intensify during 4Q. On the rupee front, the 4.9% depreciation against the US$ in 2QFY09 is the highest in a decade and could add 150bps to EBITDA margins. Limited negative surprises in 2Q revenues: As the financial crisis worsened only towards the fag end of the quarter, we do not think it had a material impact on IT companies’ 2QFY09 performance. Even from Lehman, which filed for Chapter 11 bankruptcy, only a small amount of receivables for TCS, Wipro and Satyam would be uncollectible (after the cure amount from Barclays). That said, we expect managements’ commentary to be very negative; also, recruitment is likely to be low during the quarter. 3Q guidance unlikely to disappoint; client rampdowns to intensify during 4Q: Our conversations with management of Indian vendors indicate that rampdowns from affected clients haven’t started so far. Given their preliminary focus on larger integration issues and initial ‘indecision’, we expect loss of business to intensify only from 4QFY09 onwards. For FY10, we reckon BFSI business would decrease by 10% YoY. Rampdowns from certain accounts could be severe (AIG for TCS, Washington Mutual for Infosys, etc). For 2Q, we expect the best performance from Infosys: During 1QFY09, the rupee’s depreciation (vs US$) was the highest in a decade. This is likely to have prompted some firms to enter into hedging contracts during July, that seem hasty only in hindsight. We reckon TCS had frontloaded its quarterly hedging purchases towards July. These being non-cash flow hedges, we estimate the net P&L impact due to forex gains/losses to be –Rs1500m (vs –Rs746m in 1Q). We expect Infosys to report ~15% QoQ EBITDA growth in 2QFY09, driven by margin recovery from one-time visa expenses in 1Q and expansion due to the rupee’s depreciation.

IIFL’s estimates for QE September 2008 QoQ Revenue (Rs m) Revenue (US$) EBITDA EBITDA margin PATInfosys 9.7% 5.3% 15.5% 160 bps 7.6%Infosys guidance 8.6% 6.1% 5.5%Satyam 8.8% 4.4% 2.4% -142 bps 1.5%Satyam guidance 5.7% 4.5% -4.7%Wipro - Consolidated IT services 8.8% 3.5% 1.9% -152 bpsWipro - Consolidated IT services guidance 2.1%Wipro 9.8% 0.0% 2.2% -138 bps 2.8%TCS 7.0% 2.7% 8.8% 41 bps 2.9%TCS - International business 7.7% 3.4%HCL Tech 7.5% 5.5% 1.8% -123 bps 157.2%Source: IIFL Research

48

2

Unhitch Ltd - BUY.

[email protected]

IT Services

Figure 1: Result previews

Infosys

• US$ has appreciated by ~4% against GBP and euro during 2QFY09, creating a headwind of ~1.15ppt for US$ revenue guidance. As a result, we expect Infosys to just about meet the low end of its guidance.

• Strong margin expansion, driven by absence of visa costs and a depreciating rupee.

• Forward premiums on derivative contracts have decreased during 2QFY09. As a result, we expect MTM losses due to derivative hedges to be no greater than in 1QFY09.

Wipro

• Given Wipro’s extensive hedges (US$2.6bn), we don’t expect the company to be a beneficiary of a depreciating rupee.

• Among frontliners, Wipro has the lowest guidance requirement for 2QFY09—2% QoQ. We expect its revenue outperformance (vs guidance) to be the highest (~150bps vs 0% for Infosys and Satyam).

• Offshore salary hikes during the quarter would affect margins negatively.

TCS

• Rampdowns from three financial-services clients and one insurance client had affected revenue growth during 1QFY09 (-0.2% US$ QoQ). During 2QFY09, TCS arrested the revenue decline from three of these clients. However, business from one client would decline further. As such, we expect QoQ revenue growth to remain modest.

• TCS did not delay recruitments during 2QFY09 in any major way. As such, the increase in staff costs would outpace revenue growth and nullify almost all of the benefits of a depreciating rupee. We expect the company to report marginal EBITDA margin improvement (QoQ) for 2QFY09.

• We understand that management had front-loaded quarterly hedge purchases towards July. As a material rupee depreciation happened during September (7% MoM), the MTM losses on those contracts could be material. We are assuming a net forex loss of Rs1500m, as opposed to Rs746m in 1QFY09.

Satyam

• Satyam had onsite and offshore salary hikes in 2QFY09. As such, we expect it to report a ~140bps decline in EBITDA margins, despite currency benefits.

• Despite the headwind of US$’s appreciation against GBP and euro, we expect Satyam to meet the top end of its US$ guidance.

HCL Tech

• A large portion of salary hikes would come through in the quarter for HCL Tech. We expect an EBITDA margin decline of 150bps, despite the rupee’s depreciation.

• In the previous quarter, when HCL Tech unwound US$540m of forward cover, it did not unwind a respective portion of US$-GBP hedge. As US$ has appreciated by ~11% (EOP) against the GBP during the quarter, we expect forex gains on this leg.

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3

Unhitch Ltd - BUY.

[email protected]

IT Services

Patni

• 2Q is one of the seasonally strong quarters for Patni. Also, its exposure to the already-affected banks/mortgage firms is low. We expect it to meet its quarterly guidance (~0% US$ QoQ).

• Strong EBITDA growth. Given the ~150bps margin boost due to a depreciating INR and its low EBITDA margins, we expect ~20% QoQ EBITDA growth.

• PAT growth would be affected by forex losses and lower other income. Double indexation benefits during 2QCY08 boosted treasury-related income (40% of PBT was treasury-related income in 2QCY08). As a result, we estimate a 15% QoQ decline in PAT.

Infotech enterprises

• We expect strong US$ revenue growth of ~7% QoQ during 1QFY09. Management expects 2HFY09 to remain strong, driven by ramp-ups and upward price revisions from a key client.

• A relatively small portion of derivative contracts expired during 2QFY09. As such, we expect MTM losses to be low. Should the currency remain at these levels (INR/US$ of 47), the company would have to recognise relatively higher MTM losses during 3QFY09 (~Rs80m).

3i Infotech

• To achieve the yearly rupee guidance of Rs170bn, 3i needs a 2Q-4QFY09 CQGR of only 1.1%. Given the heavy INR depreciation and strong cross-selling-driven organic growth, we expect 3i to beat its yearly guidance.

• Ex-Regulus, non-US/Western Europe markets account for 55% of its revenues. As such it is relatively better placed to weather the crisis in US and to an extent, Europe. Our conversations with the management indicate that as most of the products in Europe cater to Wealth Management products, even it hasn’t witnessed any slowdown

Hexaware • 2QCY08 for Hexaware was affected by a spate of one-offs including write-offs associated with product development

expenses/US$ 1.5m provisioning for a contract/recruitment expenses related to senior management etc. In addition, a depreciating rupee should expand EBITDA margins by ~450bps.

Mindtree

• We reckon AIG is among the top 5 clients of Mindtree. In 2QFY09, management expects minimal impact due to AIG related slowdown. Also, management doesn’t expect the revenues to decline going forward as Mindtree’s work encompasses primarily domestic insurance business of AIG.

• Driven by strong margin expansion related to the rupee’s depreciation, we expect strong EBITDA growth for Mindtree .

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4

Unhitch Ltd - BUY.

[email protected]

IT Services

Figure 2: IIFL estimates for QE September 2008 Revenue

(Rs m)QoQ Revenue

(US$ m)QoQ EBITDA

(Rs m)QoQ EBITDA

marginsQoQ PAT (Rs m) QoQ

Infosys 53,268 9.7% 1,216 5.3% 17,081 15.5% 32.1% 160 bps 14,009 7.6% TCS 68,591 7.0% 1,566 2.7% 16,663 8.8% 24.3% 41 bps 12,801 2.9% Wipro - Consolidated IT services 47,918 8.8% 1,104 3.5% 10,782 1.9% 22.5% -152 bps Wipro 65,801 9.8% 12,120 2.2% 18.4% -138 bps 9,332 2.8% Satyam 28,527 8.8% 651 4.4% 6,477 2.4% 22.7% -142 bps 5,561 1.5% HCL Tech* 23,307 7.5% 532 5.6% 5,178 1.8% 22.2% -123 bps 3,629 157.2% Infotech enterprises 2,254 12.4% 51 7.0% 437 18.5% 19.4% 101 bps 293 19.3% Tech Mahindra 12,169 9.0% 278 3.7% 2,981 3.9% 24.5% -120 bps 2,662 2.9% 3i Infotech 6,125 30.7% 1,133 24.2% 18.5% -97 bps 721 22.7% KPIT Cummins 1,891 8.9% 44 3.3% 301 18.6% 15.9% 131 bps 169 31.2% Mindtree*2 2,469 11.1% 57 5.7% 543 17.3% 22.0% 116 bps 194 -249.3% Hexaware 3,044 7.0% 70 1.8% 329 86.0% 10.8% 459 bps 236 148.5% Patni*3 8,621 10.0% 184 0.5% 1,345 20.6% 15.6% 137 bps 888 -14.4% Source: IIFL Research * - 4QFY08’s realised Rs/US$ rate is43 vs Average of 41.7 – 1QFY09’s average Rs/US$ rate is assumed to be 43.8; *2 – Mindtree’s 1QFY08 numbers are standalone. As such, QoQ performance is not strictly comparable. 2QFY09 numbers are excluding Aztecsoft *3 – INR numbers translated on the basis of Q/e rate Figure 3: Key BFSI clients (indicative list) Indian IT vendors Clients HCL Tech HBOS, Deutsche Bank, Washington Mutual Infosys Fidelity, ABN Amro, Amex, Bank of America, Citibank, CSFB, Deutsche bank,

Goldman Sachs, JP Morgan, UBS, Wachovia, Washington Mutual Satyam Bear Stearns, Citibank, CSFB, Lehman brothers, Merrill Lynch TCS ABN Amro, Amex, Bank of America, Citibank, Goldman Sachs, JP Morgan,

Lehman brothers, Lloyds TSB, Morgan Stanley, AIG Wipro CSFB, Deutsche bank, Lehman brothers, Merrill Lynch, Morgan Stanley, UBSSource: IIFL Research Color Index: Bankrupt/Nationalised clients, Acquired clients, Integration opportunities Figure 4: Recent quarterly exchange rate movements Avg. exchange rate 2QFY08 3QFY08 4QFY08 1QFY09 2QFY09vs US$ 1.8% 2.6% -0.9% -4.4% -4.9%vs GBP 0.0% 1.5% 2.4% -4.1% -0.8%vs Euro -0.2% -2.6% -4.3% -8.2% -1.0%Source: IIFL Research

Figure 5: During FY05, at time when US$ guidance was under pressure due to its appreciation against the GBP and Euro, Infosys had outperformed its top-end of guidance by 3-6%

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5

Unhitch Ltd - BUY.

[email protected]

IT Services

Figure 6: 2Q has been among the best outperforming quarters for Infosys

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Figure 8: We expect Infosys and Satyam to benefit the most due to the depreciation in INR

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Unhitch Ltd - BUY.

[email protected]

IT Services

Figure 10: Hiring has taken a back seat in FY09

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Complicated currency: While companies should be obvious beneficiaries of the rupee’s depreciation, the movement of the INR/USD was skewed during the quarter. The exchange rate remained at Rs/US$-42.8 and Rs/US$-43 in July and August, but the rupee had dropped sharply, to 47, by the end of September.

This provided both opportunities and risks for Indian IT vendors. Buoyed by a decade-high depreciation of rupee during 1QFY08, managements of many firms felt the July exchange rate levels were extraordinarily cheap. As such, those that had frontloaded and in some cases overhedged during July and August would not realise the full gains of the rupee’s depreciation. Their hedging contracts translate into material downside risk to our earnings estimates. Figure 11: Announced result dates Firm Result date Infosys 10-Oct-08 Satyam 17-Oct-08 Mindtree 20-Oct-08 Source: IIFL Research

Figure 12: Valuation summaryCo. Price

(Rs)M cap

(US$ m) 3m avg vol (US$ mn)

Employees (1QFY09)

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FY10ii EPS (Rs)

FY09ii PE FY10ii PE FY09 Mcap/Rev.

FY08-11ii EPS CAGR

Rec. Target price (Rs)

TCS 670 15,248 16.2 116,308 64.9 64.3 10.3 10.4 2.9 10.3% REDUCE 704 Infosys 1,445 19,267 60.3 94,379 106.8 111.9 13.5 12.9 5.0 14.8% REDUCE 1,398 Wipro 350 11,896 7.7 95,675 28.1 27.8 12.5 12.6 2.6 10.6% REDUCE 331 Satyam 320 4,976 21.8 51,643 34.6 34.8 9.3 9.2 2.5 15.0% ADD 326 HCL Tech* 208 3,255 4.6 50,741 25.3 24.3 8.2 8.6 1.8 16.2% REDUCE 228 Source: IIFL Research; *FY ends in June

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7

Unhitch Ltd - BUY.

[email protected]

IT Services

Key to our recommendation structure BUY - Absolute - Stock expected to give a positive return of over 20% over a 1-year horizon. SELL - Absolute - Stock expected to fall by more than 10% over a 1-year horizon. In addition, Add and Reduce recommendations are based on expected returns relative to a hurdle rate. Investment horizon for Add and Reduce recommendations is up to a year. We assume the current hurdle rate at 10%, this being the average return on a debt instrument available for investment. Add - Stock expected to give a return of 0-10% over the hurdle rate, ie a positive return of 10%+. Reduce - Stock expected to return less than the hurdle rate, ie return of less than 10%. Published in 2008. © India Infoline Ltd 2008 This report is for the personal information of the authorised recipient and is not for public distribution. This should not be reproduced or redistributed to any other person or in any form. This report is for the general information of the clients of IIFL, a division of India Infoline, and should not be construed as an offer or solicitation of an offer to buy/sell any securities. We have exercised due diligence in checking the correctness and authenticity of the information contained herein, so far as it relates to current and historical information, but do not guarantee its accuracy or completeness. The opinions expressed are our current opinions as of the date appearing in the material and may be subject to change from time to time without notice. India Infoline or any persons connected with it do not accept any liability arising from the use of this document. The recipients of this material should rely on their own judgment and take their own professional advice before acting on this information. India Infoline or any of its connected persons including its directors or subsidiaries or associates or employees shall not be in any way responsible for any loss or damage that may arise to any person from any inadvertent error in the information contained, views and opinions expressed in this publication. India Infoline and/or its affiliate companies may deal in the securities mentioned herein as a broker or for any other transaction as a Market Maker, Investment Advisor, etc. to the issuer company or its connected persons. India Infoline generally prohibits its analysts from having financial interest in the securities of any of the companies that the analysts cover.

54

Asia Pacific Equity Research 02 October 2008

Indian IT Services

Assessing the slowdown impact: Stock price fall more than captures weakening demand environment

India eBusiness/IT Services

Manoj Singla, CFAAC

(91-22) 6639-3017/(44-20) 7325-1191 [email protected]

J.P. Morgan India Private Limited

Bhavin Shah (852) 2800-8538 [email protected]

J.P. Morgan Securities (Asia Pacific) Limited

Nishit Jasani (91-22) 6639-3008 [email protected]

J.P. Morgan India Private Limited

See page 23 for analyst certification and important disclosures, including non-US analyst disclosures. J.P. Morgan does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that the firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision. Customers of J.P. Morgan in the United States can receive independent, third-party research on the company or companies covered in this report, at no cost to them, where such research is available. Customers can access this independent research at www.morganmarkets.com or can call 1-800-477-0406 toll free to request a copy of this research.

Absolute and relative share price performance

Absolute performance YTD Sensex -36% Infosys -18% TCS -38% Wipro -34% Satyam -29% HCL Tech -38% Relative performance YTD Infosys 18% TCS -2% Wipro 2% Satyam 7% HCL Tech -2%

Source: Datastream

Indian IT stocks have corrected sharply in the last two weeks given global financial turmoil. We believe the key issue today is uncertainty of demand environment and achievable growth in 2009E/FY10E – in this report we have done detailed US Corporate profit/IT Spend analysis and incorporated lessons from the last slowdown. In conclusion, we forecast conservative 15%+ US$ revenue growth for large Indian IT players in 2009E/FY10E leading to 14-18% EPS growth (with risks to the upside). With valuations at historical troughs (FY10E P/E of 8-12x), we advise buying at current levels. On a stock-specific basis, we prefer Satyam, Infosys and TCS, in that order. We are downgrading Wipro to Neutral.

• Global IT spending outlook has worsened following recent financial events. J.P. Morgan economists have decreased US GDP forecast to 1.6%/0.6% growth in CY08E/CY09E. Looking at corporate profits and IT spending trends over the last two decades, we find: 1) IT Spending has been very rational post tech bust in 2002, hence negative impact on IT Spends might be cushioned in this downturn; 2) US Corporate profit performance has been quite resilient in last downturns; 3) IBM services business has been more defensive than hardware in last slowdowns.

• While weaker IT spending does lead to headwinds, we believe the structural offshore trend remains intact, with customers pushing more work offshore in a downturn due to cost advantage. Akin to last downturn, we expect market share gains for offshore to accelerate in the downturn, leading to 10%/14% growth in Indian IT exports in 2009E/2010E. With large companies gaining market share, this implies 15%/17% US$ revenue growth in FY10E/FY11E. We reiterate that these are conservative assumptions (we expect corporate profit decline in 2010E as well) and Indian IT growth could accelerate to 20%+ in FY11E if the economic situation improves.

• Cutting our estimates and target P/Es across the board to factor in a lower IT spending scenario; downgrading Wipro. Our estimate cuts are cushioned by rupee/US$ depreciation (we now estimate Rs44/US$), leading to FY10E EPS cuts in the 3-11% range. We now assume 1-year trailing/forward P/Es of just 14-17x/12-15x to set price targets with significant potential upside once sentiment for the sector improves.

Valuation for Indian IT Large caps Price Mkt Cap EPS P/E EPS CAGR Price tgt (Rs) June-09E P/E Poten. Upside (Rs) (US$Mn) FY08E FY09E FY10E FY11E FY09E FY10E FY08E-10E June-09 Trailing Forward (%)

Infosys 1,449 17,794 78.6 100.4 116.6 128.8 14.4 12.4 21.8 1,825 17.2 15.5 26% TCS 672 14,098 51.3 57.6 67.7 75.0 11.7 9.9 14.9 850 14.0 12.3 27% Wipro 349 10,954 22.4 26.7 31.1 34.7 13.1 11.2 18.0 400 14.0 12.5 15% Satyam 319 4,606 25.2 33.7 38.3 42.8 9.5 8.3 23.2 475 13.7 12.1 49%

Source: Bloomberg, J.P. Morgan estimates. Note: Pricing as of 01 Oct 08.

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Manoj Singla, CFA (91-22) 6639-3017/(44-20) 7325-1191 [email protected]

Financial turmoil in US spilling over to economy and global economic growth J.P. Morgan US economic forecasts reduced Our US economists have cut GDP forecasts for 4Q08 and 1Q09, and they now expect GDP to contract after stagnating in 3Q08. They have lowered the current quarter GDP forecast to 0% (from 0.5%), in part due to the damage caused by financial distress in September. The forecast for the coming two quarters has now been lowered so that GDP contracts at a -0.5% pace.

Moreover, J.P. Morgan US economists expect business cutbacks to intensify. Investment spending, which has continued to expand thus far, is expected to contract at close to an 8% annualized pace in the coming two quarters. Payroll losses are expected to average at double the pace in the first 8 months of this year.

With poor payroll data and slowing investment spend, we expect corporate profits and hence IT spend to be impacted in 1HCY09. We believe that as a result, while the IT offshore spend could slow to ~10% in FY10, it should pick up as companies offshore an increasing portion of their IT services.

Figure 1: US real GDP forecast to decline over the next 3 quarters

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Figure 2: US housing market continues to decline

Source: US BEA

The financial turmoil in the US has increased over the last 15 days or so since the Lehman bankruptcy filing. Several financial institutions have been bailed out by governments globally or have been acquired by other players

With the credit crunch continuing, the US economy is slowing down sharply, as indicated by increasing job losses. Further, the US trouble has spilled over to other global economies, especially Europe

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Figure 3: US Unemployment statistics

Source: US BEA

Europe forecasts also cut recently The Euro area economy is now expected to experience mild recession, with GDP growth declining by 1% in 2H08. ECB easing is expected to start in December, with the policy rate falling to 2.75% by the end of next year, from 4% currently. The forecast implicitly assumes some easing of financial stress. But this remains the biggest uncertainty, and we believe downside risks to growth still prevail.

Table 1: Euro area forecast revisions


IT spending analysis in downturns US Corporate profits – how much more downside? We have maintained that US corporate profits drive technology spending directly or indirectly. Hence, it is important to look at the corporate profit scenario to get a broad outlook for technology spending. If we look at the last slowdowns (1991-1993 and 2001-2003), we note that US corporate profits actually grew in 1991-9393 by 9% and declined just 10% from the peak in 2001-2003.

As of now, US corporate profits started declining in 3Q07, fell 2% Y/Y in 2H2007 and then 4% in 1H2008. Our economists forecast an 8% overall decline in 2008E after a 2% decline in 2007. While it is difficult to forecast profit for 2009E, we believe continuing economic weakness could mean a further decline in the ~10-15% range.

J.P. Morgan European economic forecasts have also been reduced recently.

There has been a lot of negative chatter about the possible impact of economic downturn and financial turmoil on Indian IT companies. We look at the history of technology spending over the last 10-15 years and at the last slowdown (2001-2003) to ascertain the possible impact on Indian IT in this downturn

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Figure 4: US corporate profits – annual growth rates

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Figure 5: US corporate profits – quarterly growth rate

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IT spend/profits – IT spending is below normal levels IT spend/corporate profits had reached an unprecedented level of 57% in 2000. This corrected sharply in 2001-2004 to 35%. We believe the technology bust was led by a lot of careful introspection on technology spends, and incremental investments have since been more prudent. In fact, the IT spend/corporate profit ratio was down to 32% in 2007. If we look at the “long-term” history since 1990 (IT was not a major item before that), the average IT Spend/Corporate profit ratio before the tech boom of 1999-2000 was around 42%. Given increasing technology intensity, we think that a good base level for current times should be around 40%.

As a result, we expect IT Spend as a percent of profits to actually expand in the current downturn. We list our reasons for this view below:

1. As corporate profits are cut, we expect cuts in technology spend as well. However, quite a lot of recent IT investments have been more strategic and would likely still need to be made if companies want to sustain a competitive advantage and grow business. As a result, we maintain that it would be difficult and impractical to cut IT Spends as sharply as corporate profits fall. We note that this would then mean that IT spends would not also increase at the same rate as corporate profits in the next upturn.

We expect IT Spend as a percent of profits to expand in the current downturn given rational spending over last few years

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2. A lot of new integration work should arise from the ongoing restructurings and mergers in the financial industry over the next 9-12 months.

3. IT Spending is now a core part of everyday functioning, and hence a certain level of IT Spending has to be done. We think that this everyday IT function constitutes more than 50% of today's IT budgets.

We already saw IT Spend/Corporate profits increase in 1H2008 to 34.7%, and we forecast a level of 37% for 2009/2010.

US IT spend – How much can it fall? In the last downturn (2001-2003), US IT spend fell 15% from 2000 to 2002 and started to recover in 2003. We find this interesting given that the last slowdown was essentially driven by a technology sector bust. Looking at the years prior to tech boom 1990-1998, IT we calculate that IT spend grew at a CAGR of 9.4%.

In 1H2008, US IT spend has actually grown by 7% Y/Y, indicating that IT spending decisions are still being made. While a sharp slowdown in the economy should almost inevitably lead to some slowdown in technology spending, we believe IT spending has not been “excessive” in the last few years, and hence we would expect any IT spending decline to lag a fall in corporate profits (opposite to the trend during the 2001-2003 downturn).

With a 15% fall in corporate profits assumed for 2009, we believe IT spend could fall by ~10%. We are also forecasting a further drop in profits and IT spend in 2010E, though this is more indicative and assumes that the US economy would take quite some time to recover.

Figure 6: US IT spends (US$B) and growth

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Lessons from IBM – performance over last two decades IBM is one of the largest technology companies globally based on revenues, and it is the largest player in global services as well. Here we take a look at IBM’s performance over the last two decades to see its performance though upturns, downturns and "normal" times, as we believe this could give us a good proxy for technology spending performance over time.

We believe IT spend could fall by ~10% in 2009E, followed by another 5% in 2010E

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1. In the last 16 years, IBM has seen negative revenue growth in five years, 1992-93, 2001-02, and 2005. In all cases, the negative growth was driven primarily by hardware, with software and services showing much better performance throughout.

2. IBM Services has never seen a decline in revenues in 16 years. While this could partly be driven by acquisitions, we believe it is a good indicator of the much greater stability of IT Services through upturns and downturns than has been the case with hardware and software.

3. IBM growth has almost always exceeded technology spending growth (adjusting for acquisitions), indicating that top-tier players gain market share in continuously.

Figure 7: IBM revenues - historical

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Accenture – limited data Given its more recent listing, we only have data for Accenture from 2001. The key highlights are:

1. Consulting business was hit in the last downturn as it is more discretionary-led. While this could happen in the current downturn as well, consulting contributes only ~5% of Indian IT companies.

2. Outsourcing business for Accenture has grown sharply in the last six to seven years, partially driven by a focus on the part of the company to grow this business, and by a sharp increase in outsourcing globally. This, in our view, is a good indication of customers using outsourcing to pass over technology management to vendors, and we expect the trend to continue despite a slowdown.

Figure 9: Accenture revenue and revenue growth

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Indian IT – Pessimistic base case of 10%+ growth in 2009E/FY10E Indian IT market share and revenue growth from US Indian IT companies have consistently increased their market share in global IT spends. Looking at Indian-IT-US-export-revenues/US IT spend, we find that Indian IT companies’ market share moved from 0.4% in 1998 to 4.7% in 1999. As a result, revenues from the US have grown at a CAGR of 35% from 1998-2007.

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Market share gains accelerate due to downturns In terms of market share gains, Indian IT companies gained market share by ~0.25% in the 1999-2001 period. However, slowdown led to increased focus on offshoring, and now Indian IT has been gaining market share by ~0.5-0.7% every year in the 2002-2007 period. We believe the current slowdown will further accelerate this market share gain trend, due to the following:

1. Downturns force customers to cut costs, thus leading them to look more closely at Indian IT companies/offshore to cut those costs.

2. Indian IT companies have increased the portfolio of their service offerings over the past few years, allowing them to serve larger a proportion of IT budgets of customers.

3. Indian IT companies have grown bigger, allowing them to bid for larger deals and thereby increasing the addressable market for Indian IT.

4. Indian IT companies have increased domain expertise in several industries.

In a nutshell, the addressable market for Indian IT continues to increase, and their relative positioning becomes more attractive over time. As a result, we expect market share gain to accelerate in the current downturn to the ~1.1-1.2% range.

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Figure 11: Indian IT US revenues market share of US IT spend

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IT Spending in other markets Unfortunately there is no reliable data source on IT Spending in markets other than the US. However, we do know that Indian IT companies have been focusing a lot on Europe/Australia/Middle East/Asia Pacific in the last three to four years, and that they have been gaining significant share in these markets. For lack of data, we have assumed growth in these markets to be in line with growth in the US for Indian IT. We would highlight, however, that we believe this is a conservative assumption.

Figure 12: Indian IT revenues from US offshore

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Indian IT sector revenues to grow at least 10% in 2009E Combining our forecasts for US IT spending growth, Indian IT market share and growth in other markets, we end up with an estimate of 10%/14% growth in Indian IT export revenues in CY2009E/CY2010E. We believe these estimates are on the conservative side given that our assumption of US corporate profit performance is below consensus and our assumption of Indian IT growth in non-US markets is lower than expected.

Indian IT has seen market share gains accelerate in past downturns

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Figure 13: Indian IT export market size and growth (year-end: March)

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Large Indian IT companies – Market share gains to lead to 15%+ revenue growth Market share gain to continue Large Indian IT companies have always gained market share in the last decade due to movement of customers to larger vendors, better quality management, broader portfolio of offerings and better execution. We think this trend will continue in the current downturn. We forecast market share of the top four Indian IT companies to increase from 39% in FY08 to 41% in FY10E.

Figure 14: Revenues and market share of Top 4 Indian IT companies

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We expect 15%+ revenue growth As a result, we expect these top four companies to grow at 15% US$ revenue growth in 2009E/FY10E, which should slightly accelerate in 2010E/FY11E.

Table 2: Revenue of Top Four Indian IT companies FY02 FY03 FY04 FY05 FY06 FY07 FY08 FY09E FY10E FY11E Revenue (US$Mn) Infosys 545 754 1,063 1,592 2,152 3,089 4,176 4,969 5,648 6,518 TCS 916 1,139 1,557 2,170 3,001 4,128 5,703 6,390 7,292 8,464 Wipro Global IT 469 587 943 1,354 1,815 2,459 3,647 4,370 4,983 5,829 Satyam 363 418 558 786 1,082 1,440 2,119 2,678 3,112 3,732 Revenue growth (%) Infosys 31.7 38.3 41.0 49.9 35.1 43.6 35.2 19.0 13.7 15.4 TCS 37.0 24.3 36.6 39.4 38.3 37.5 38.1 12.0 14.1 16.1 Wipro Global IT 21.6 25.1 60.8 43.5 34.1 35.5 48.3 19.8 14.1 17.0 Satyam 36.0 15.1 33.5 40.8 37.7 33.0 47.2 26.4 16.2 19.9 Source: Company reports and J.P. Morgan estimates.

What happened in the last slowdown? Large Indian IT companies showed robust performance in the last downturn. However, their base has become larger and therefore it might be difficult to see revenue growth at the same pace as last time. We are building this assumption into our forecasts.

Table 3: Top Four Indian IT companies’ revenues during the last slowdown Revenues in Rs M FY2001 FY2002 FY2003 FY2004 Infosys 18,978 26,001 36,480 48,544 TCS 30,567 43,706 55,179 71,227 Wipro Global IT 17,670 22,365 28,305 43,465 Satyam 12,200 17,319 20,237 25,605 Total 79,415 109,392 140,201 188,841 Revenue Growth (%) Infosys 115.0 37.0 40.3 33.1 TCS 43.0 26.2 29.1 Wipro Global IT 73.1 26.6 26.6 53.6 Satyam 81.2 42.0 16.8 26.5 Total 37.7 28.2 34.7

Source: Company reports and J.P. Morgan estimates.

The margin question – significant levers to absorb pricing declines in FY10E Indian IT companies saw pricing pressure in the 2001-2003 downturn that led to margin declines. As a result, EBIT and EPS growth lagged revenue growth. Concerns have been raised about a similar compression in the current downturn. We believe there are two facets of the margin issue:

1. Customers under stress could ask for price declines. This is a likely scenario, in our view, and it is important to see how much cushion Indian companies have to absorb margins.

2. Competition could cut prices and therefore require Indian IT players to cut prices. We think this scenario is highly unlikely.

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Overall, we believe Indian IT companies can largely sustain margins given a buffer for FY10E. Continued pressures would, however, lead to a downward bias to our estimates for FY11.

Customer pressures Pricing declines It is conceivable that customers would ask for pricing declines in the weak economic environment. In the last economic downturn, prices fell sharply for most Indian IT players. However, we believe that extent of pricing declines could be lower than last time as:

1. Indian IT companies had lot of work being done with dot-com companies/start-ups at very high price points in the last downturn. Most of these business were closed, hurting average prices. This is not the case now.

2. A number of large customers are willing to offset pricing declines with higher volumes and higher offshore volumes. In many cases, this is done by converting T&M contracts to fixed price contracts. While this does pass on execution risk to vendors, it helps Indian IT companies maintain margins despite a lower price point.

Ways to offset price decline We believe Indian IT companies have several levers to offset price declines.

1. Utilization for Indian IT companies is significantly below peak levels achieved in 2001-2003.

2. Recent rupee depreciation should help significantly in creating a margin cushion for FY10E. We are assuming Rs44/US$ in our forecasts.

3. A good portion of current salaries (~10-20%) are variable, and reducing these in the downturn could lead to cost cutting of 200-400bp.

We believe Indian IT companies could get strong tailwinds through these measures -- even to the extent of 800bp -- that could absorb most of the pricing pressures.

Table 4: Infosys – Possible margin leverage FY02 FY04 Margin impact (bps) FY08 Possible in FY10E Margin impact (bps)

Rupee/US$ 47.69 45.76 ~160-200 bps negative 40.00 44.00 ~400 bps positive Utilization 70.1 72.5 ~120-150 bps positive 69.4 73-75% possible 200 bps+ positive Salaries Not variable so limited leverage 200-400 bps positive Total margin impact ~40-50 bps negative ~800+ bps positive Source: Company reports and J.P. Morgan estimates.

We do not believe undercutting by global players is a trend There have been several reports that Accenture and IBM are undercutting Indian IT companies to gain business, but we believe this is largely incorrect and is based on just a few data points:

1. We believe that in most cases, Accenture and IBM continue to bid at prices similar to or higher than Indian IT companies. Further, Accenture, and, we have found, more so IBM, have in the past tried to bid on larger outsourcing deals and have not broken out their offshoring pricing separately.

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2. Accenture/IBM strategy or competitive positioning has generally been based on higher domain expertise and/or broader service portfolio rather than on lower prices. In many cases, they have been able to win several deals at higher price points because of their domain expertise and/or boardroom access, a feature that Indian IT companies are trying to emulate.

3. Further, there may be one to two strategic accounts and/or deals where Accenture/IBM might want to retain an account and hence may bid at a lower price, but we have not observed this as a trend as per our conversations with industry participants.

Long-term margin and ROIC - comparison to Accenture There have been several queries regarding long-term margin sustenance for Indian IT companies, but we think it is more appropriate to look at ROIC in the business. We note that Accenture is still making ROIC of 67%, compared to Infosys/TCS/Satyam at 49%/50%/48% in FY08. We believe this is an indication of the low capital intensity of the IT Services model and the fact that IT Services businesses have been able to sustain high ROICs even in the medium term. Our long-term assumptions for ROIC for Indian IT companies are at ~30-36%.

Table 5: Indian IT companies’ FY08 ROIC and DCF assumptions

FY08A Long-term

assumptions in DCF Accenture (Yr End Aug) EBIT Margin (%) 13% IC turns (x) 7.3 ROIC (%) 67% Infosys EBIT Margin (%) 28% 25% IC turns (x) 1.8 2.0 ROIC (%) 49% 36% TCS EBIT Margin (%) 23% 25% IC turns (x) 2.1 2.0 ROIC (%) 50% 35% Wipro EBIT Margin (%) 17% 21% IC turns (x) 2.0 2.1 ROIC (%) 39% 32% Satyam EBIT Margin (%) 20% 20% IC turns (x) 2.2 2.2 ROIC (%) 48% 31%


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Estimate cuts across the board for weaker economic scenario We are cutting our estimates to factor in the lower technology spending scenario. However, rupee depreciation leads to the impact being lower than in US$ estimates by 5%.

Table 6: Infosys: Earnings estimate changes Rs in millions, year-end Mar

New Old Change (%) FY09E FY10E FY11E FY09E FY10E FY11E FY09E FY10E FY11E Sales 217,543 248,494 286,807 217,196 266,800 319,640 0.2 (6.9) (10.3) Gross profit 89,661 101,948 116,440 89,981 109,797 129,392 (0.4) (7.1) (10.0) Gross Margin (%) 41.2 41.0 40.6 41.4 41.2 40.5 EBIT 60,731 69,945 80,518 61,687 75,787 90,031 (1.5) (7.7) (10.6) EBIT Margin (%) 27.9 28.1 28.1 28.4 28.4 28.2 EBITDA 68,198 79,317 92,265 68,851 84,733 101,244 (0.9) (6.4) (8.9) EBITDA Margin (%) 31.3 31.9 32.2 31.7 31.8 31.7 PBT 66,874 80,309 93,257 68,150 84,594 101,002 (1.9) (5.1) (7.7) Tax 9,455 13,652 19,584 9,647 13,535 20,200 Net profit 57,419 66,656 73,673 58,504 71,059 80,802 (1.9) (6.2) (8.8) Net margin (%) 26.4 26.8 25.7 26.9 26.6 25.3 EPS (Rs) 100.4 116.6 128.8 102.3 124.3 141.3 (1.9) (6.2) (8.8)

Source: Company data, J.P. Morgan estimates.

Table 7: TCS: Earnings estimate changes Rs in millions, year-end Mar

New Old Change (%) FY09E FY10E FY11E FY09E FY10E FY11E FY09E FY10E FY11E Revenue 279,619 320,836 372,427 280,428 347,048 426,457 (0.3) (7.6) (12.7) Gross Profit 120,111 138,155 161,443 120,713 150,987 183,921 (0.5) (8.5) (12.2) EBIT 64,923 74,630 86,958 65,378 81,577 98,630 (0.7) (8.5) (11.8) EBITDA 68,200 78,944 92,252 68,656 85,892 103,924 (0.7) (8.1) (11.2) Pre Tax Profit 66,203 78,863 93,375 66,500 84,278 102,689 (0.4) (6.4) (9.1) Net Profit 56,372 66,255 73,382 57,146 71,674 81,767 (1.4) (7.6) (10.3) EPS (Rs) 57.6 67.7 75.0 58.4 73.2 83.6 (1.4) (7.6) (10.3) Margins (%) Gross margin 43.0 43.1 43.3 43.0 43.5 43.1 EBIT margin 23.2 23.3 23.3 23.3 23.5 23.1 EBITDA margin 24.4 24.6 24.8 24.5 24.7 24.4 Net margin 20.2 20.7 19.7 20.4 20.7 19.2


Table 8: Wipro Estimate changes Rs in millions, year-end Mar New Old Change (%) FY09E FY10E FY11E FY09E FY10E FY11E FY09E FY10E FY11E Revenue 253,675 291,894 337,020 257,767 317,779 387,716 -1.6 -8.1 -13.1 Gross Profit 77,559 86,116 99,102 76,165 93,854 111,901 1.8 -8.2 -11.4 EBIT 44,341 49,960 57,761 45,016 56,002 66,385 -1.5 -10.8 -13.0 EBITDA 50,730 57,562 67,133 51,978 64,717 77,348 -2.4 -11.1 -13.2 Pre Tax Profit 44,887 53,829 62,813 46,435 59,546 71,459 -3.3 -9.6 -12.1 Net Profit 39,040 45,510 50,701 40,618 51,032 57,772 -3.9 -10.8 -12.2 EPS (Rs) 26.7 31.1 34.7 27.8 34.9 39.5 -3.9 -10.9 -12.3 Margins (%) Gross Margin 30.6 29.5 29.4 29.5 29.5 28.9 1.0 0.0 0.5 Operating Margin 17.5 17.1 17.1 17.5 17.6 17.1 0.0 -0.5 0.0 EBITDA Margin 20.0 19.7 19.9 20.2 20.4 19.9 -0.2 -0.6 0.0 Net Margin 15.4 15.6 15.0 15.8 16.1 14.9 -0.4 -0.5 0.1 Source: Company data, J.P. Morgan estimates.

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Table 9: Satyam Estimate changes Rs in millions, year-end March New Old Change (%) FY09E FY10E FY11E FY09E FY10E FY11E FY09E FY10E FY11E Revenue 116,581 136,937 164,207 113,904 139,862 173,113 2.3 (2.1) (5.1) Gross Profit 43,680 48,566 57,094 42,247 49,950 60,196 3.4 (2.8) (5.2) EBIT 24,607 27,169 32,232 23,460 28,142 34,039 4.9 (3.5) (5.3) EBITDA 26,606 29,436 34,729 25,459 30,447 36,652 4.5 (3.3) (5.2) Pre Tax Profit 26,359 30,416 36,340 25,719 31,379 38,125 2.5 (3.1) (4.7) Tax 3,605 4,422 7,311 3,510 4,556 7,668 Net Profit 22,754 25,995 29,029 22,209 26,822 30,457 2.5 (3.1) (4.7) EPS (Rs) 33.7 38.3 42.8 32.9 39.5 44.9 2.5 (3.1) (4.7) Margins (%) Gross Margin 37.5 35.5 34.8 37.1 35.7 34.8 EBIT Margin 21.1 19.8 19.6 20.6 20.1 19.7 EBITDA Margin 22.8 21.5 21.1 22.4 21.8 21.2 Net margin 19.5 19.0 17.7 19.5 19.2 17.6 Source: Company data, J.P. Morgan estimates.

Setting new Jun-09 price targets - 25%+ upside potential for most names, downgrading Wipro to Neutral With the cut in our earnings estimates, we are cutting our price targets by 23-30% due to lower P/Es used in setting our price targets. With lower growth and weak market sentiment, we are using 12-15x forward P/E multiples to set our price targets. Our new price targets still represent a potential 25%+ share price return over the coming 9-10 months, however, thus leading to our positive view.

In terms of relative preference, Satyam appears to have the maximum upside potential, followed by TCS and Infosys. However, near-term upside on TCS is likely to be capped by continued negative news flow on the financial sector globally. With the smallest upside potential relative to the group at 15%, we downgrade Wipro from Overweight to Neutral.

Table 10: Setting our new price targets

Current price (Rs) Jun-09 target price Potential

Upside (%) June-09E

EPS Jun-09E DCF

fair price Premium

used (Rs) 1 yr trailing 1 yr fwd (Rs) (%) Infosys 1,449 1,825 26% 106.4 117.8 1,300 40% TCS 672 850 27% 60.8 69.0 780 15% Wipro 349 400 15% 28.5 31.9 385 4% Satyam 319 475 49% 34.7 39.3 390 22% Source: Bloomberg, J.P. Morgan estimates.

Table 11: FCF for Four Top Indian IT companies Current price Net cash per share (Rs) Net cash as % of Mkt cap FCF per share FCF yield (Rs) 1QFY09A FY09E FY10E FY09E FY10E

Infosys 1,449 132 9% 74 96 5.1 6.6 TCS 672 5 1% 46 51 6.8 7.6 Wipro Global IT 349 10 3% 32 28 9.0 8.1 Satyam 319 69 22% 25 32 8.0 10.2 Source: Bloomberg, J.P. Morgan estimates.

DCF valuation We are also revising down our DCF-based fair values due to lower growth assumptions in the near term.

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Infosys: Our new June-09 price target of Rs1825 is based on 1-year trailing P/E of 17x and 1-year forward P/E of 15.5x. Our new DCF-based fair value is Rs1300/share. We are estimating 10-year revenue growth of 15% for FY08-18E, with long-term EBIT margin assumption of 25% and long-term ROIC of 36%. Our WACC assumption is 15%.

TCS: Our new June-09 price target of Rs850 is based on 1-year trailing P/E of 14x and 1-year forward P/E of 12x. Our new DCF-based fair value is Rs780/share. We are estimating 10-year revenue growth of 14% for FY08-18E, with long-term EBIT margin assumption of 25% and long-term ROIC of 35%. Our WACC assumption is 15%.

Wipro: Our new June-09 price target of Rs400 is based on 1-year trailing P/E of 14x and 1-year forward P/E of 12.5x. We are cutting our DCF-based fair value to Rs385/share. We are estimating 10-year revenue growth of 14% for FY08-18E, with long-term EBIT margin assumption of 21% and long-term ROIC of 32%. Our WACC assumption is 15%.

Satyam: Our new June-09 price target of Rs475 is based on 1-year trailing P/E of 13.7x and 1-year forward P/E of 12x. Our new DCF-based fair value is Rs390/share. We are estimating 10-year revenue growth of 14% for FY08-18E, with long-term EBIT margin assumption of 20% and long-term ROIC of 31%. Our WACC assumption is 15.6%.

Risks to our target prices for these companies are: a sharp slowdown in the macro technology spending environment, and rupee appreciation against the US$.

Table 12: Infosys P&L – US GAAP translated into Indian rupees Rs in millions, year-end Mar

Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 FY05 FY06 FY07 FY08 FY09E FY10E FY11E 2008 2008 2008 2008 2009 2009 2009 2009 Revenues 37,737 41,058 42,710 45,402 48,506 54,762 56,275 58,001 71,202 95,214 138,943 166,906 217,543 248,494 286,807 Gross profit 14,597 17,298 17,907 18,985 19,249 23,151 23,307 23,954 30,781 40,168 59,050 68,787 89,661 101,948 116,440 EBIT 9,323 11,301 12,273 13,065 12,944 15,993 15,641 16,152 20,471 26,550 38,326 45,963 60,731 69,945 80,518 EBITDA 10,763 12,741 13,803 14,635 14,634 17,901 17,514 18,148 23,339 30,921 43,466 51,943 68,198 79,317 92,265 PBT 11,852 12,833 13,849 14,457 14,116 17,142 17,428 18,188 21,540 27,896 42,089 52,991 66,874 80,309 93,257 PAT 10,177 10,904 11,682 12,147 12,575 14,571 14,814 15,460 18,319 24,564 36,885 44,910 57,419 66,656 73,673 EPS (Rs) 17.8 19.1 20.4 21.2 22.0 25.5 25.9 27.0 34.1 44.9 65.9 78.6 100.4 116.6 128.8 Margins (%) Gross Margin 38.7 42.1 41.9 41.8 39.7 42.3 41.4 41.3 43.2 42.2 42.5 41.2 41.2 41.0 40.6 Operating Margin 24.7 27.5 28.7 28.8 26.7 29.2 27.8 27.8 28.8 27.9 27.6 27.5 27.9 28.1 28.1 EBITDA Margin 28.5 31.0 32.3 32.2 30.2 32.7 31.1 31.3 32.8 32.5 31.3 31.1 31.3 31.9 32.2 Net Margin 27.0 26.6 27.4 26.8 25.9 26.6 26.3 26.7 25.7 25.8 26.5 26.9 26.4 26.8 25.7 Sequential growth (%) Sales 0.0 8.8 4.0 6.3 6.8 12.9 2.8 3.1 46.7 33.7 45.9 20.1 30.3 14.2 15.4 Gross profit -8.9 18.5 3.5 6.0 1.4 20.3 0.7 2.8 46.4 30.5 47.0 16.5 30.3 13.7 14.2 EBIT -10.1 21.2 8.6 6.5 -0.9 23.6 -2.2 3.3 52.3 29.7 44.4 19.9 32.1 15.2 15.1 EBITDA -9.0 18.4 8.3 6.0 0.0 22.3 -2.2 3.6 47.6 32.5 40.6 19.5 31.3 16.3 16.3 PAT 1.4 7.1 7.1 4.0 3.5 15.9 1.7 4.4 46.8 34.1 50.2 21.8 27.9 16.1 10.5 EPS 1.4 7.1 7.1 3.9 3.5 15.9 1.7 4.4 45.0 31.8 46.8 19.3 27.8 16.1 10.5


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Table 13: TCS P&L Rs in millions, year-end Mar

2008 2009E FY05 FY06 FY07 FY08 FY09E FY10E FY11E 1Q 2Q 3Q 4Q 1Q 2QE 3QE 4QE Revenue 52,028 56,398 59,241 60,947 64,107 70,227 71,516 73,769 97,272 132,454 186,334 228,614 279,619 320,836 372,427 Gross Profit 22,951 25,293 26,878 27,298 26,960 30,253 30,931 31,968 44,036 60,839 83,626 102,419 120,111 138,155 161,443 EBIT 11,999 13,439 14,313 13,899 14,147 16,207 16,985 17,583 25,908 34,137 46,446 53,651 64,923 74,630 86,958 EBITDA 12,855 14,392 15,292 14,962 14,867 16,993 17,837 18,503 27,020 36,068 49,267 57,501 68,200 78,944 92,252 Pre Tax Profit 13,516 14,544 15,361 14,681 14,479 15,984 17,455 18,284 26,665 34,327 48,389 58,101 66,203 78,863 93,375 Net Profit 11,855 12,469 13,308 12,559 12,437 13,570 14,828 15,537 22,539 28,831 41,315 50,191 56,372 66,255 73,382 EPS (Rs) 12.1 12.7 13.6 12.8 12.7 13.9 15.2 15.9 23.5 29.7 42.2 51.3 57.6 67.7 75.0 Margins (%) Gross Margin 44.1 44.8 45.4 44.8 42.1 43.1 43.2 43.3 45.3 45.9 44.9 44.8 43.0 43.1 43.3 Operating Margin 23.1 23.8 24.2 22.8 22.1 23.1 23.7 23.8 26.6 25.8 24.9 23.5 23.2 23.3 23.3 EBITDA Margin 24.7 25.5 25.8 24.5 23.2 24.2 24.9 25.1 27.8 27.2 26.4 25.2 24.4 24.6 24.8 Net Margin 22.8 22.1 22.5 20.6 19.4 19.3 20.7 21.1 23.2 21.8 22.2 22.0 20.2 20.7 19.7 Sequential Growth (%) Revenue 1.1 8.4 5.0 2.9 5.2 9.5 1.8 3.1 36.6 36.2 40.7 22.7 22.3 14.7 16.1 Gross Profit (1.6) 10.2 6.3 1.6 (1.2) 12.2 2.2 3.4 34.7 38.2 37.5 22.5 17.3 15.0 16.9 EBIT (8.9) 12.0 6.5 (2.9) 1.8 14.6 4.8 3.5 43.1 31.8 36.1 15.5 21.0 15.0 16.5 EBITDA (9.1) 12.0 6.2 (2.2) (0.6) 14.3 5.0 3.7 42.7 33.5 36.6 16.7 18.6 15.8 16.9 Net Profit 1.1 5.2 6.7 (5.6) (1.0) 9.1 9.3 4.8 39.8 27.9 43.3 21.5 12.3 17.5 10.8 EPS 1.1 5.2 6.7 (5.6) (1.0) 9.1 9.3 4.8 39.2 26.4 42.1 21.5 12.3 17.5 10.8 Source: Company data, J.P. Morgan estimates.

Table 14: Wipro P&L Rs in millions, year-end Mar 2008 2009E 1Q 2Q 3Q 4Q 1QE 2QE 3QE 4QE 2006 2007 2008 2009E 2010E 2011E Revenue 41,832 47,281 52,361 55,954 59,622 62,997 64,091 66,965 106,107 149,431 197,428 253,675 291,894 337,020 Gross Profit 12,736 14,272 15,241 16,348 18,347 19,809 19,436 19,966 34,460 47,265 58,597 77,559 86,116 99,102 EBIT 7,171 8,345 8,922 9,666 9,938 11,789 11,253 11,360 22,163 30,069 34,104 44,341 49,960 57,761 EBITDA 8,330 9,887 10,010 11,201 11,498 13,361 12,866 13,006 25,233 33,984 39,428 50,730 57,562 67,133 Net Other Income 991 743 455 78 -165 -55 41 726 1,276 2,706 2,267 546 3,869 5,052 Pre Tax Profit 8,162 9,088 9,377 9,744 9,773 11,734 11,294 12,086 23,439 32,775 36,371 44,887 53,829 62,813 Tax 839 865 1,074 1,095 1,436 1,397 1,364 1,603 3,265 3,723 3,873 5,799 8,271 12,064 Net Profit 7,104 8,121 8,260 8,755 8,139 10,326 9,918 10,471 20,461 29,331 32,631 39,040 45,510 50,701 EPS (Rs) 4.9 5.6 5.7 6.0 5.6 7.1 6.8 7.2 14.4 20.4 22.4 26.7 31.1 34.7 Margins (%) Gross Margin 30.4 30.2 29.1 29.2 30.8 31.4 30.3 29.8 32.5 31.6 29.7 30.6 29.5 29.4 Operating Margin 17.1 17.6 17.0 17.3 16.7 18.7 17.6 17.0 20.9 20.1 17.3 17.5 17.1 17.1 EBITDA Margin 19.9 20.9 19.1 20.0 19.3 21.2 20.1 19.4 23.8 22.7 20.0 20.0 19.7 19.9 Net Margin 17.0 17.2 15.8 15.6 13.7 16.4 15.5 15.6 19.3 19.6 16.5 15.4 15.6 15.0 Sequential Growth (%) Revenue (3.5) 13.0 10.7 6.9 6.6 5.7 1.7 4.5 30.4 40.8 32.1 28.5 15.1 15.5 Gross Profit (5.9) 12.1 6.8 7.3 12.2 8.0 (1.9) 2.7 25.3 37.2 24.0 32.4 11.0 15.1 EBIT (13.6) 16.4 6.9 8.3 2.8 18.6 (4.5) 0.9 22.6 35.7 13.4 30.0 12.7 15.6 EBITDA (11.1) 18.7 1.2 11.9 2.7 16.2 (3.7) 1.1 23.3 34.7 16.0 28.7 13.5 16.6 Net Profit (17.5) 14.3 1.7 6.0 (7.0) 26.9 (3.9) 5.6 28.1 43.4 11.2 19.6 16.6 11.4 EPS (17.5) 14.3 1.6 5.9 (7.1) 26.9 (3.9) 5.6 26.6 41.0 9.8 19.5 16.6 11.4


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Table 15: Satyam P&L Rs in millions, year-end March

FY09 FY10E 1Q 2QE 3QE 4QE 1QE 2QE 3QE 4QE 2006 2007 2008 2009E 2010E 2011E Revenue 18,302 20,317 21,956 24,160 26,208 29,286 30,091 30,996 47,926 64,851 84,735 116,581 136,937 164,207 Gross Profit 6,851 6,892 7,719 9,019 10,327 11,259 11,005 11,090 18,489 24,764 30,481 43,680 48,566 57,094 EBIT 3,716 3,636 4,289 5,071 5,856 6,476 6,093 6,183 10,289 13,893 16,712 24,607 27,169 32,232 EBITDA 4,103 4,027 4,712 5,507 6,323 6,955 6,606 6,722 11,662 15,377 18,348 26,606 29,436 34,729 Pre Tax Profit 4,315 4,700 4,913 5,255 6,130 6,615 6,749 6,865 11,401 15,566 19,183 26,359 30,416 36,340 Tax 532 609 576 587 653 966 985 1,001 1,509 1,520 2,304 3,605 4,422 7,311 Net Profit 3,783 4,091 4,336 4,669 5,477 5,649 5,764 5,864 9,892 14,046 16,879 22,754 25,995 29,029 EPS (Rs) 5.7 6.1 6.5 7.0 8.1 8.4 8.5 8.6 15.2 21.3 25.2 33.7 38.3 42.8 Margins (%) Gross Margin 37.4 33.9 35.2 37.3 39.4 38.4 36.6 35.8 38.6 38.2 36.0 37.5 35.5 34.8 Operating Margin 20.3 17.9 19.5 21.0 22.3 22.1 20.2 19.9 21.5 21.4 19.7 21.1 19.8 19.6 EBITDA Margin 22.4 19.8 21.5 22.8 24.1 23.7 22.0 21.7 24.3 23.7 21.7 22.8 21.5 21.1 Net Margin 20.7 20.1 19.8 19.3 20.9 19.3 19.2 18.9 20.5 21.7 19.9 19.5 19.0 17.7 Seql Growth (%) Revenue 2.9 11.0 8.1 10.0 8.5 11.7 2.8 3.0 36.1 35.3 30.7 37.6 17.5 19.9 Gross Profit 2.7 0.6 12.0 16.8 14.5 9.0 (2.3) 0.8 33.9 33.9 23.1 43.3 11.2 17.6 EBIT (0.9) (2.1) 17.9 18.2 15.5 10.6 (5.9) 1.5 36.3 35.0 20.3 47.2 10.4 18.6 EBITDA 0.0 (1.8) 17.0 16.9 14.8 10.0 (5.0) 1.8 34.3 31.9 19.3 45.0 10.6 18.0 Net Profit (3.9) 8.1 6.0 7.7 17.3 3.1 2.0 1.7 38.0 43.1 20.2 34.8 14.2 11.7 EPS (3.9) 8.0 5.8 7.5 17.0 2.8 1.7 1.4 36.0 40.3 18.2 33.5 13.7 11.7


Valuations – Stocks close to historical troughs Figure 15: Infosys: One-year trailing P/E

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Jan-00 Jan-01 Jan-02 Jan-03 Jan-04 Jan-05 Jan-06 Jan-07 Jan-08

INFOSYS TECHNOLOGIES 16x 21x 26x 31x 36 Source: Company data, Datastream, J.P. Morgan estimates.

Infosys is trading at 13x one-year forward P/E and 16x one-year trailing P/E. This is close to its historical trough of 13x forward P/E

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Figure 16: Infosys: One-year forward P/E

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INFOSYS TECHNOLOGIES 13x 18x 23x 28x 33

Source: Company data, Datastream, J.P. Morgan estimates.

Figure 17: TCS: One-year trailing P/E

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1450

Jan-05 Jul-05 Jan-06 Jul-06 Jan-07 Jul-07 Jan-08 Jul-08

TATA CONSULTANCY SVS. 10x 14x 18x 22x 26x Source: Company data, Datastream, J.P. Morgan estimates.

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Figure 18: TCS: One-year forward P/E

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Sep-04 Mar-05 Sep-05 Mar-06 Sep-06 Mar-07 Sep-07 Mar-08 Sep-08

TATA CONSULTANCY SVS. 10x 14x 18x 22x 26x


Figure 19: Wipro: One-year trailing P/E

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WIPRO 13x 18x 23x 28x 33x Source: Company data, Datastream, J.P. Morgan estimates.

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Figure 20: Wipro: One-year forward P/E

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WIPRO 11x 16x 21x 26x 31x Source: Company data, Datastream, J.P. Morgan estimates.

Figure 21: Satyam: One-year trailing P/E

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SATYAM COMPUTER SERVICES 10x 13x 16x 19x 22x


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Figure 22: Satyam: One-year forward P/E

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SATYAM COMPUTER SERVICES 8x 11x 14x 17x 20x

Source: Company data, Datastream, J.P. Morgan estimate

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Analyst Certification: The research analyst(s) denoted by an “AC” on the cover of this report certifies (or, where multiple research analysts are primarily responsible for this report, the research analyst denoted by an “AC” on the cover or within the document individually certifies, with respect to each security or issuer that the research analyst covers in this research) that: (1) all of the views expressed in this report accurately reflect his or her personal views about any and all of the subject securities or issuers; and (2) no part of any of the research analyst’s compensation was, is, or will be directly or indirectly related to the specific recommendations or views expressed by the research analyst(s) in this report.

Important Disclosures

• Client of the Firm: Infosys Technologies is or was in the past 12 months a client of JPMSI; during the past 12 months, JPMSI provided to the company non-investment banking securities-related service and non-securities-related services. Satyam Computers is or was in the past 12 months a client of JPMSI. Tata Consultancy Services is or was in the past 12 months a client of JPMSI; during the past 12 months, JPMSI provided to the company non-investment banking securities-related service and non-securities-related services. Wipro Ltd. is or was in the past 12 months a client of JPMSI; during the past 12 months, JPMSI provided to the company non-investment banking securities-related service and non-securities-related services.

• Investment Banking (next 3 months): JPMSI or its affiliates expect to receive, or intend to seek, compensation for investment banking services in the next three months from Infosys Technologies, Satyam Computers.

• Non-Investment Banking Compensation: JPMSI has received compensation in the past 12 months for products or services other than investment banking from Infosys Technologies, Tata Consultancy Services, Wipro Ltd.. An affiliate of JPMSI has received compensation in the past 12 months for products or services other than investment banking from Wipro Ltd..

0

475

950

1,425

1,900

2,375

2,850

3,325

3,800

Price(Rs)

Sep05

Dec05

Mar06

Jun06

Sep06

Dec06

Mar07

Jun07

Sep07

Dec07

Mar08

Jun08

Sep08

Infosys Technologies (INFY.BO) Price Chart

N Rs3,400 OW Rs2,375 OW Rs2,400 N Rs1,900OW Rs1,850

N Rs2,900 OW Rs2,075 OW Rs2,600 N Rs2,150OW Rs1,875

OW Rs2,950OW Rs3,650 OW Rs2,650 OW Rs2,275N Rs1,875 OW Rs2,350

Source: Reuters and J.P. Morgan; price data adjusted for stock splits and dividends.This chart shows J.P. Morgan's continuing coverage of this stock; the current analyst may or may not have covered itover the entire period.J.P. Morgan ratings: OW = Overweight, N = Neutral, UW = Underweight.

Date Rating Share Price (Rs)

Price Target (Rs)

11-Oct-05 OW 1311.22 2950.00 01-Mar-06 N 1414.30 2900.00 14-Apr-06 N 1510.40 3400.00 17-Apr-06 OW 1615.15 3650.00 13-Jul-06 OW 1693.22 2075.00 11-Oct-06 OW 1906.00 2375.00 12-Jan-07 OW 2183.00 2650.00 16-Apr-07 OW 2128.30 2600.00 12-Jul-07 OW 1929.70 2400.00 10-Sep-07 OW 1871.50 2275.00 12-Oct-07 N 1976.00 2150.00 18-Dec-07 N 1621.95 1900.00 14-Jan-08 N 1580.10 1875.00 23-Jan-08 OW 1377.55 1875.00 15-Apr-08 OW 1422.45 1850.00 29-May-08 OW 1912.65 2350.00

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0

106

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424

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848

Price(Rs)

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Sep06

Dec06

Mar07

Jun07

Sep07

Dec07

Mar08

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Sep08

Satyam Computers (SATY.BO) Price Chart

OW Rs800 OW Rs575 OW Rs540 OW Rs600

OW Rs775 OW Rs525 OW Rs575 OW Rs485 OW Rs650

OW Rs650 OW Rs925 OW Rs462.5 OW Rs600 OW Rs550 OW Rs500



Price Target (Rs)

20-Oct-05 OW 278.72 650.00 30-Dec-05 OW 365.70 775.00 20-Jan-06 OW 374.12 800.00 21-Apr-06 OW 435.78 925.00 10-Oct-06 OW 406.15 462.50 23-Oct-06 OW 425.00 525.00 21-Jan-07 OW 472.35 575.00 22-Apr-07 OW 476.20 600.00 23-Jul-07 OW 491.65 575.00 10-Sep-07 OW 442.25 540.00 24-Oct-07 OW 461.75 550.00 18-Dec-07 OW 405.90 485.00 22-Apr-08 OW 458.95 500.00 29-May-08 OW 514.40 650.00 21-Jul-08 OW 367.10 600.00

0

278

556

834

1,112

1,390

1,668

1,946

2,224

Price(Rs)

Sep05

Dec05

Mar06

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Sep06

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Mar07

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Sep07

Dec07

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Tata Consultancy Services (TCS.BO) Price Chart

OW Rs975 OW Rs1,150 OW Rs1,650 OW Rs1,325 OW Rs1,125

OW Rs950 OW Rs1,125 OW Rs1,600 OW Rs1,450OW Rs1,175 OW Rs1,275

OW Rs875OW Rs1,075 OW Rs1,325 OW Rs1,475 OW Rs1,225 OW Rs1,400



Price Target (Rs)

12-Oct-05 OW 733.95 875.00 26-Dec-05 OW 831.38 950.00 12-Jan-06 OW 835.82 975.00 17-Apr-06 OW 951.80 1075.00 19-Jul-06 OW 920.88 1125.00 08-Aug-06 OW 936.00 1150.00 16-Oct-06 OW 1104.75 1325.00 15-Jan-07 OW 1327.90 1600.00 21-Feb-07 OW 1297.20 1650.00 16-Jul-07 OW 1127.90 1475.00 10-Sep-07 OW 1046.95 1450.00 15-Oct-07 OW 1063.10 1325.00 20-Dec-07 OW 1021.35 1225.00 16-Jan-08 OW 938.25 1175.00 21-Apr-08 OW 1000.90 1125.00 29-May-08 OW 1009.70 1400.00 17-Jul-08 OW 727.35 1275.00

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25



0

139

278

417

556

695

834

973

1,112

Price(Rs)

Sep05

Dec05

Mar06

Jun06

Sep06

Dec06

Mar07

Jun07

Sep07

Dec07

Mar08

Jun08

Sep08

Wipro Ltd. (WIPR.BO) Price Chart

OW Rs700 N Rs525 OW Rs500

OW Rs600 OW Rs750 OW Rs575 OW Rs510

OW Rs500 OW Rs650 OW Rs600 N Rs510 OW Rs625



Price Target (Rs)

18-Jan-06 OW 449.25 500.00 19-Apr-06 OW 570.15 600.00 18-Oct-06 OW 574.70 650.00 17-Jan-07 OW 636.85 750.00 23-Apr-07 OW 570.80 700.00 22-Jul-07 OW 507.80 600.00 10-Sep-07 OW 466.95 575.00 17-Dec-07 N 484.60 525.00 21-Jan-08 N 439.80 510.00 23-Jan-08 OW 428.85 510.00 18-Apr-08 OW 459.20 500.00 29-May-08 OW 506.15 625.00

Explanation of Equity Research Ratings and Analyst(s) Coverage Universe: J.P. Morgan uses the following rating system: Overweight [Over the next six to twelve months, we expect this stock will outperform the average total return of the stocks in the analyst’s (or the analyst’s team’s) coverage universe.] Neutral [Over the next six to twelve months, we expect this stock will perform in line with the average total return of the stocks in the analyst’s (or the analyst’s team’s) coverage universe.] Underweight [Over the next six to twelve months, we expect this stock will underperform the average total return of the stocks in the analyst’s (or the analyst’s team’s) coverage universe.] The analyst or analyst’s team’s coverage universe is the sector and/or country shown on the cover of each publication. See below for the specific stocks in the certifying analyst(s) coverage universe.

Coverage Universe: Manoj Singla, CFA: Atos Origin (ATOS.PA), Autonomy (AUTN.L), Aveva (AVV.L), Capgemini (CAPP.PA), Dassault Systèmes (DAST.PA), HCL Infosystems (HCLI.BO), HCL-Technologies (HCLT.BO), Hexaware Technologies Ltd (HEXT.BO), Indra (IDR.MC), Infosys Technologies (INFY.BO), Logica (LOG.L), MindTree Consulting Ltd. (MINT.BO), Mphasis Ltd (MBFL.BO), Oracle Financial Services Software (ORCL.BO), Patni Computer (PTNI.BO), Playtech (PTEC.L), Polaris Software (POLS.BO), SAP (SAPG.DE), Sage Group (SGE.L), Satyam Computers (SATY.BO), Software AG (SOWG.DE), Tata Consultancy Services (TCS.BO), Tech Mahindra Ltd. (TEML.BO), Temenos (TEMN.S), TietoEnator (TIE1V.HE), Ubisoft (UBIP.PA), Wipro Ltd. (WIPR.BO), Wirecard (WDIG.DE)

J.P. Morgan Equity Research Ratings Distribution, as of September 30, 2008

Overweight (buy)

Neutral (hold)

Underweight (sell)

JPM Global Equity Research Coverage 42% 44% 15% IB clients* 53% 51% 43% JPMSI Equity Research Coverage 40% 48% 12% IB clients* 76% 70% 59%

*Percentage of investment banking clients in each rating category. For purposes only of NASD/NYSE ratings distribution rules, our Overweight rating falls into a buy rating category; our Neutral rating falls into a hold rating category; and our Underweight rating falls into a sell rating category.

Valuation and Risks: Please see the most recent company-specific research report for an analysis of valuation methodology and risks on any securities recommended herein. Research is available at http://www.morganmarkets.com , or you can contact the analyst named on the front of this note or your J.P. Morgan representative.

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Analysts’ Compensation: The equity research analysts responsible for the preparation of this report receive compensation based upon various factors, including the quality and accuracy of research, client feedback, competitive factors, and overall firm revenues, which include revenues from, among other business units, Institutional Equities and Investment Banking.

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81

DISCLOSURE APPENDIX CONTAINS ANALYST CERTIFICATIONS AND THE STATUS OF NON-US ANALYSTS. U.S. Disclosure: Credit Suisse does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that the Firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision. Customers of Credit Suisse in the United States can receive independent, third party research on the company or companies covered in this report, at no cost to them, where such research is available. Customers can access this independent research at www.credit-suisse.com/ir or call 1 877 291 2683 or email [email protected] to request a copy of this research.

29 September 2008 Asia Pacific/India Equity Research

Software & Services (IT Services) / UNDERWEIGHT

Indian IT Services SECTOR REVIEW

Small-cap conversations: fading optimism ■ Interviews with 20 small-cap Indian IT firms shows more acceptance of

reality. While they still hold a stronger 2H thesis, the statements have disclaimers. Moreover, the firms are more open to admitting lower-than-expected hiring, pricing pressures, contract delays and possible revenue misses. With possible earnings downgrades, we believe sector performance will stay lacklustre.

■ While companies are holding to their thesis of a stronger 2H, a few (Hexaware, Geometric, KPIT Cummins, Sasken and Subex) now agree with a weaker macro environment. We note QoQ growth expectations are still 5% plus for the rest of the year and could be stressed.

■ Rupee depreciation of 8% over the quarter could continue helping margin performance. While firms are also talking about levers, such as SG&A and utilisation, their implied margin benefit seems negligible at best. On the other hand, pricing increasingly has a negative overtone.

■ With less expensive target valuations and slowing organic growth, a few companies are aggressively looking at acquisitions to drive growth. We believe this could add to future execution risk.

Figure 1: 12M trailing valuations Cur price Mkt cap Trailing 12M (x) Company Ticker (Rs) (US$ mn) P/E EV/EBITDA EV/Sales 3i III IN 75 211 5.0 5.9 1.4 Aztecsoft AZTEC IN 45 44 73.7 5.0 0.7 Firstsource FSOL IN 32 294 36.8 10.5 1.7 Geometric GEO IN 46 62 7.8 5.9 0.6 Hexaware HEXW IN 30 93 5.5 1.2 0.1 Infotech INFTC IN 210 237 11.4 6.5 1.2 KPIT Cummins KPIT IN 39 65 5.8 3.4 0.5 Mastek MAST IN 315 182 6.8 6.0 1.1 Mphasis MPHL IN 187 839 13.8 12.9 1.4 NIIT Tech NITEC IN 93 118 4.0 3.1 0.6 Nucleus NCS IN 118 82 6.2 2.9 0.2 Patni PATNI IN 184 551 6.6 7.5 1.1 Polaris POL IN 69 146 7.9 3.9 0.5 Prithvi PRIS IN 86 33 2.4 2.0 0.2 Rolta RLTA IN 264 915 18.5 12.0 4.4 Sasken SACT IN 128 79 7.9 3.6 0.6 Sonata SSOF IN 22 49 3.6 1.3 0.1 Subex SUBX IN 78 58 -1.7 -24.4 2.4 WNS (US$) WNS US 10 434 21.8 17.0 0.7 Zensar ICIM IN 115 59 3.7 2.6 0.4

Source: Bloomberg, Company data

Research Analysts

Bhuvnesh Singh 65 6212 3006

[email protected]

Sunil Tirumalai 9122 6777 3714

[email protected]

Vikramaditya Narendra 91 22 6777 3943

[email protected]

Asia Technology Research Analyst Team

Ernest Fong (Head of Technology Research)

Keng Hock Lim (Asia Technology Strategy)

Randy Abrams (Regional Foundries, Taiwan testing & Packaging)

Jessica Chang (Taiwan IC Design)

YS Chang (Korea Technology)

Pauline Chen (Taiwan Hardware)

Darryl Cheng (Solar and Networking)

Robert Cheng (Regional Hardware)

Kwee Hong Ching (Singapore Technology)

MS Hwang (Korea Technology)

Vivian Jang (Taiwan Display, Regional Handsets)

Felix Rusli (Taiwan Display, Regional Handsets)

Bhuvnesh Singh (IT Services)

John Sung (Korea Technology)

Research assistants

Sanghoon Kim Jill Su

Sunil Tirumalai Tony Wu

Jimmy Huang

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29 September 2008

Indian IT Services 2

Focus charts and table Figure 2: Full-year revenue growth guidance (US$ based) Figure 3: QoQ growth implied in guidance

24.0%21% 19-21%

30-35%

24-26%24-29%25-28%25-29%

27-31%25-35%

7-9%

32%

5%

10%

15%

20%

25%

30%

35%

Mas

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Sask

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Guidance a quarter ago Current guidance

38%32%

5.3%2.8-5.5%4.0-5.2%

5-6.6%5.2-7.3%

8%7-9.1%5.9-10.5%

10.3-11.6%

2%

4%

6%

8%

10%

12%

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4.6-5.9%

5-12%

Figure 4: Comments on demand environment (showing deterioration over last 2-4 months) Company 2-4 months ago Now

3i Good growth across geographies and business lines US/UK not seeing any significant growth in orderbooks

Geometric Expect 2H FY3/09E to be strong Expect weakness to continue for 1-2 quarters more

Hexaware Expect strong growth in 2H CY08E Revised guidance implies no improvement in 2H CY08E

Patni Quite a few projects lined up at the customers’ end, but decisions are not being made on them.

A lot of new services are getting classified as ‘discretionary’ compared to one year back. Decision making still slow

Prithvi Confident of 40-45% growth for the next few years Expecting around 35-40% YoY growth

Sasken Guiding to 25-29% YoY revenue growth for FY3/09E Guidance retained, but contingent upon large deals

Sonata ISV customers are in a state of caution on overall economy Few project ramp-downs, which are now replaced

Subex Confident of achieving revenue growth guidance of 38% Guidance retained, but wary of risks of longer business cycles

WNS Breadth of services should overcome issues in travel vertical Expecting pressure points to show up in travel vertical.

Zensar Seeing strong growth across geographies Seeing a weakness in Europe

Figure 5: Companies with high hedge exposure could be affected by a quarter of rupee depreciation

-4 0 %

0 %

4 0 %

8 0 %

1 2 0 %

A z te c s o ft N I IT T e c h

H e x aw a re

G e o m e tr ic P a tn i S a s k e n P o la r is In fote c h

F irs ts o u rc e

K P IT M p h a s is N u c le u s M a s te k S o n a ta S u b e x

H e d g e / L T M s a le s (H e d g e s -re c e iv a b le s )/ L T M s a le s

Figure 6: Indian IT services valuation summary Price Mkt cap TP P/E (x) EV/EBITDA (x) EV/sales (x)

Ticker (Rs) (US$ mn) Rat. (Rs) FY08 FY09E FY10E FY08 FY09E FY10E FY08 FY09E FY10E

Tata Consult. TCS.BO 676 14,211 U 750 13.2 11.4 10.2 11.1 9.3 8.0 2.9 2.4 2.0 Infosys Tech. INFY.BO 1,447 17,680 N 1,800 17.8 14.5 13.0 14.1 11.0 9.3 4.4 3.5 2.9 Wipro WIPR.BO 344 10,719 U 360 15.5 13.2 11.5 12.3 10.0 8.9 2.5 1.9 1.6 Satyam Comp. SATY.BO 322 4,530 U 340 12.8 10.1 9.3 9.2 6.9 6.4 2.0 1.5 1.3 HCL Tech. HCLT.BO 213 3,043 U 190 12.6 9.5 9.0 7.2 6.1 5.6 1.6 1.3 1.1

Oracle Financial ORCL.BO 795 1,421 U 800 16.0 14.6 14.1 12.2 12.0 10.2 2.4 2.1 1.7

MindTree MINT.BO 381 320 U 310 14.3 15.4 9.9 10.8 7.0 6.3 1.9 1.4 1.2 TechMahindra TEML.BO 625 1,627 U 610 9.8 8.5 8.2 9.1 7.1 6.6 2.0 1.6 1.4

Source: Company data, Credit Suisse estimates

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29 September 2008


Small-cap conversations We are back with our quarterly round of interviews with small to mid-cap Indian IT company managements. We find a greater acceptance of slowdown by the companies with 1) greater worries about the demand environment, 2) a cautious tone on formal guidance and 3) lower hiring plans. The margin position still remains robust due to rupee depreciation; however, some companies are talking about pricing pressure.

We believe that the macro environment will continue to worsen and hence have no positive ratings on the sector. Amongst large caps, we believe that Wipro, followed by Satyam, TCS and then Infosys could have the highest risk. For small cap companies, we believe that even FY3/09E numbers remain at risk. Thus, the less expensive valuations of small-cap companies are hiding greater earnings risks.

Companies more cautious about demand The formal guidance of companies implies strong 5% plus QoQ growth for the rest of the year. However, the qualitative/anecdotal comments of managements paint a more worrying picture.

For instance, 3i, Subex, Infotech, WNS and Zensar, who had maintained a positive outlook on demand over the past two to three quarters, are now indicating pockets of concern in demand. The optimism on 2H strength is now missing from Hexaware and Geometric managements’ comments. We are also hearing about early signs of demand weakness in Europe from Geometric and Zensar. Guidance by Sasken, KPIT Cummins and Subex is now dependent on a few factors.

The weakening outlook on the demand environment is also reflected in comments on hiring plans, with Hexaware, Polaris and Mphasis softening theirs for the year.

Currency helping margins The margin outlooks of companies have either remained unchanged over the past quarter, or reduced slightly. Currency is an obvious positive factor this quarter, but companies are also proactively working on other levers, such as SG&A and utilisation.

Firstsource, NIIT Tech, Rolta and Mastek retain their optimism on margin improvement during the year. On the other hand, 3i is now indicating a far greater fall in margins on the back of acquisitions. Hexaware and Mphasis, who were hoping for slight margin improvements, are now indicating flat margins as more realistic scenarios.

There is a mixed outlook on pricing. While Firstsource, Infotech, Mastek and Sonata indicate a stable pricing environment, Geometric, Mphasis and Sasken are seeing downward pressure on pricing.

Time for acquisitions With global equity valuations taking a beating in recent months, we discussed with companies their inorganic growth plans. Geometric, Mphasis, Patni, Sonata and Zensar, who were not keen on inorganic growth earlier, are now interested. While Patni is looking for targets in India (to grow in size), Zensar is on the lookout for a target in Germany. Geometric, Infotech and Mphasis are looking for specific verticals/skill sets.

We also found that a search for new growth avenues is among the top focus areas for small-cap company managements. Companies are trying to grow by entering new geographies (Geometric, Prithvi), new services lines (Zensar, Geometric) or by greater client mining (Sonata, NIIT Tech and Mphasis).

We find a greater acceptance of a slowdown by the companies

While guidance implies 5% plus QoQ growth, qualitative/anecdotal comments paint a more worrying picture

Margin outlooks of companies have either remained unchanged over the past quarter, or reduced slightly

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29 September 2008


Sector valuation Figure 7: Global IT valuation summary EPS growth EV/EBITDA

CMP Mt cap TP (US$) P/E (x) (x) EV/sales (x)

Company name Ticker (l. c.) (US$ mn) Rating (l.c.) 2007 2008 2007 2008 2007 2008 2007 2008

Indian IT Services

Infosys INFY.BO 1,447 17,816 N 1,800 36 15 17.8 14.5 16.9 14.1 8.1 5.3

Wipro Ltd. WIPR.BO 344 10,809 U 360 22 10 15.5 13.2 14.5 12.3 7.9 3.3

TCS TCS.BO 676 14,094 U 750 37 8 13.2 11.4 13.0 11.1 7.0 3.5

Satyam Computer SATY.BO 322 4,661 U 340 33 18 12.8 10.1 10.9 9.2 5.6 2.6

HCL Technologies HCLT.BO 213 3,060 U 190 -11 24 12.6 9.5 8.7 7.2 5.2 1.9

Oracle Financial OFSS IN 795 1,430 U 800 21 3 16.0 14.6 12.9 12.2 8.8 2.8

Tech Mahindra Limited TEML.BO 625 1,635 U 610 40 9 9.8 8.5 10.2 9.1 6.0 2.6

Mindtree Ltd MINT.BO 381 253 U 310 11 -13 14.3 15.4 12.4 10.8 5.7 2.3

Offshore IT Services

Cognizant CTSH 24.7 7,212 O 44 49 25 21.5 17.2 15.2 11.7 3.1 2.4

Syntel SYNT 25.3 1,047 N 35 28 19 16.7 14.0 12.1 8.8 2.7 2.1

Infosys ADR INFY 33.6 19,124 36 15 16.6 14.4 13.0 10.8 4.1 3.4

Wipro ADR WIT 10.3 14,861 22 10 18.4 16.8 31.7 25.4 11.3 8.0

Satyam ADR SAY 17.8 5,837 33 18 14.1 12.0 24.4 17.8 8.4 6.0

Offshore BPO

WNS WNS.N 10.6 447 O 23 -10 -56 18.1 40.8 8.4 8.2 1.2 0.8

ExlService. EXLS 8.8 257 N 15 44 -21 10.4 13.3 5.3 4.8 0.8 0.7

Genpact G 11.0 2,410 O 20 0 91 40.1 21.0 12.0 9.7 2.6 2.0

European IT Services

Atos Origin ATOS.PA 32 3,320 U 33 32 16 14.5 12.5 5.3 5.1 0.5 0.5

Capgemini CAPP.PA 35 7,374 O 49 29 21 13.4 11.1 5.1 4.6 0.5 0.5

Computacenter CCC.L 109 321 O 200 36 -13 5.5 6.3 2.9 2.9 0.1 0.1

Misys MSY.L 128 1,189 N 190 -14 5 9.5 9.0 6.4 6.4 1.2 1.2

Indra IDR.MC 17 4,162 O 19 27 27 19.3 15.2 11.0 10.1 1.4 1.3

Logica LOG.L 116 3,117 U 90 -2 2 10.6 10.4 8.5 8.0 0.7 0.7

Tietoenator TIE1V.HE 11 1,160 N 16 -123 -230 -17.6 13.6 7.8 4.7 0.5 0.5

US IT Services

Accenture Ltd. ACN 39.6 32,289 O 48 34 9 14.9 13.7 9.3 8.7 1.4 1.3

Affiliated Computer Services Inc. ACS 52.2 5,100 O 61 13 10 14.8 13.5 6.0 5.6 1.0 1.0

Computer Sciences Corp. CSC 42.2 6,467 N 50 -1 9 10.9 10.0 3.6 3.3 0.5 0.5

Electronic Data Systems EDS 25.0 13,279 N 25 74 -5 16.4 17.2 4.9 4.7 0.6 0.6

US BPO

Fidelity National Information Services FIS 19.7 3,838 N 21 -38 26 16.0 12.7 10.4 9.2 2.7 2.3

Fiserv, Inc. FISV 49.8 8,210 O 62 58 5 15.8 15.0 9.3 9.3 3.3 2.7

Global Payments, Inc. GPN 46.0 3,717 N 42 13 16 23.3 20.1 12.9 9.7 2.9 2.2

Jack Henry & Associates JKHY 20.7 1,827 N 19 3 6 17.8 16.8 7.9 7.7 2.3 2.1

Total System Services TSS 17.5 3,437 N 24 14 11 14.5 13.1 6.5 6.1 2.3 2.1

Note: 2007 column corresponds to YE Mar-08 for Indian companies

Source: Bloomberg, Company data, Credit Suisse estimates

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29 September 2008


Companies more cautious about demand Formal guidance by companies implies strong 5% plus QoQ growth for the rest of the year. However, the qualitative/anecdotal comments of managements paint a more worrying picture.

For instance, 3i, Subex, Infotech, WNS and Zensar, who had maintained a positive outlook on demand over the past two to three quarters, are now indicating demand pressure points in specific areas. Optimism on 2H strength is now missing from Hexaware and Geometric’s management comments. We are also hearing about early signs of demand weakness in Europe from Geometric and Zensar. Guidance for Sasken, KPIT Cummins and Subex is now dependent on a few factors.

The weakening outlook on demand environment also reflecting comments on hiring plans, with Hexaware, Polaris and Mphasis softening theirs for the year.

Formal guidance implies strong QoQ growth, but … We produce below the full-year US dollar-based revenue growth guidance of companies issued after the Jun-08 quarter and the implied QoQ growth for the rest of the year. We note guidance of most companies implies 5% plus QoQ growth in coming quarters.

Figure 8: Full-year revenue growth guidance (US$-based)

24.0%21% 19-21%

30-35%

24-26%24-29%25-28%25-29%

27-31%25-35%

7-9%

32%

5%

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15%

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25%

30%

35%

Mas

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38%32%


Companies who had all along maintained a positive stance are now indicating pockets of demand pressure

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29 September 2008


Figure 9: QoQ growth implied in guidance

5.3%2.8-5.5%4.0-5.2%

5-6.6%5.2-7.3%

8%7-9.1%5.9-10.5%

10.3-11.6%

2%

4%

6%

8%

10%

12%M

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4.6-5.9%

5-12%


… comments are increasingly worrying However, this optimism in formal guidance is missing in management comments. In particular, we find:

■ 3i Infotech, Infotech Enterprises, Subex, WNS and Zensar, who had all along been positive in their demand outlook, are now indicating demand pressure points.

■ Hexaware and Geometric, who earlier had expected a strong 2H, now indicate weakness in demand continuing for some more quarters.

■ Geometric and Zensar are, for the first time, indicating early signs of weakness in Europe.

■ Sasken’s guidance is now contingent upon large deals in NEMS business and the company is, for the first time, showing caution in the handset business.

■ KPIT Cummins and Subex guidance now has cautious disclaimers.

Nine out of 11 companies guiding to 5% plus QoQ growth

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29 September 2008


Figure 10: Comments on demand environment (showing a deterioration over the past 2-4 months) Company 2-4 months ago Now

3i Good growth across geographies and business lines US/UK not seeing any significant growth in orderbooks

Aztecsoft Seeing weakening demand from small and mid-sized clients Some ISVs rethinking their product Few ISVs asking to shift work from offshore to onsite

Firstsource No appreciable improvement in demand expected in 3-6 months

Extent of delays in contract closures has been higher than earlier anticipated. Customers preferring to start off contracts on a smaller scale

Projects in the US are getting stuck in the final approval stage Early signs of a slowdown in Europe in the form of delayed decision cycles

Geometric

Expect 2H FY3/09E to be strong Expect weakness to continue for 1-2 quarters more before positive signals start coming

Expect strong growth in 2H CY08E Revised guidance implies no improvement in 2H CY08E Hexaware

No pressure points felt yet on travel vertical Delayed decision making is spreading out from BFSI customers to even travel customers in North America

Infotech Expecting strong, uniform growth throughout FY3/09E 1Q FY3/09E had some factors impacting growth. However, 2Q onwards growth should be strong

Lot of uncertainty in demand environment. Anything could happen by year-end

While customers are keen on spending on IT, they are undecided on whether to spend now or defer to later months

KPIT Cummins

FY3/09E revenue guidance is comfortable The profit guidance is difficult to achieve

NIIT Tech ROOM solutions product to be launched in Sep-08 quarter ROOM solutions launch delayed further by a quarter

Nucleus Seeing delays in conclusions of order negotiations Delays in closure of contracts continue Added to this, there are now multiple rounds of talks for each contract with clients.

Patni Sales people are aware of quite a few projects lined up at the customers’ end, but decisions are not being made on those


Prithvi Confident of 40-45% growth for the next few years Expecting around 35-40% YoY growth from US (>95% sales) this year

Guiding to 25-29% YoY revenue growth for FY3/09E Guidance is retained, but is now contingent upon winning a few large deals in the NEMS space Any disappointment could result in actual growth coming in at 17-20%

Sasken

Handset business seeing healthy demand environment. No concerns here

All the top-five handset customers are seeing a slowdown in sales and hence are cautious on this segment

Customers in travel vertical would be comfortable with oil at US$105, but not at oil at US$125 plus

Customers in travel vertical continue to be under pressure, despite oil prices easing. They are concerned about impact on consumer spending due to inflation

Sonata

In the ISV domain, customers are in a state of caution on overall economy

Saw a couple of project ramp-downs in the ISV vertical, which are now replaced

Subex Confident of achieving revenue growth guidance of 38% Confident of achieving revenue growth guidance of 38%, but wary of risks arising out of longer business cycles

WNS While there will be a volume impact on the travel vertical, WNS’s breadth of services should help overcome the issue

Expect pressure points to show up in travel vertical going by recent rise in ticket cancellations, refunds etc. This has led to greater conservatism on revised guidance

Zensar Seeing strong growth across geographies Seeing a weakness in Europe, which is getting compensated by newer geographies


At the same time, we find Mastek, Mphasis, Polaris and Subex retaining their optimism on the demand environment:

■ Mastek is benefiting from a slower ramp-down in NHS contracts

■ Mphasis and Polaris have been seeing momentum in new project closures over the past two months

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Figure 11: Comments on demand environment (showing improvement over the past 2-4 months) Company 2-4 months ago Now

Mastek NHS revenues to reduce to zero by Dec-08 NHS ramp-down slower than earlier expected and could extend by a year

There is an improvement in project closures, but not yet a turnaround

Starting end-June, quite a few new deals are getting closed indicating a slight improvement in the demand environment

Mphasis

Growth would be back-ended in FY3/09E September 2008 quarter is crucial. December quarter unlikely to see any fresh decisions being taken

Polaris Demand environment improved slightly over the past few months, with offshore product companies, such as Polaris, benefiting

Since August, the traction on project closures has been healthy


Demand concerns trickling down to hiring The pessimism in the demand environment is also visible in specific comments with regard to hiring, such as:

■ Hexaware has postponed 2008 campus joining dates to 2009E. It has also frozen lateral recruitments, even for replacing attrition

■ Polaris has shifted to a “just-in-time/on-demand” hiring strategy to tackle uncertainty in the demand environment

■ A quarter ago, Mphasis management guided to 7,000-8,000 hires for FY3/08E. Now the guidance has been moved to the lower end of this range

Hexaware and Mphasis have reduced hiring targets, Polaris moving to just-in-time hiring

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29 September 2008


Currency helping margins The margin outlooks of companies have either been retained as of a quarter ago, or worsened. While currency is an obvious margin positive this quarter, over the longer term, companies also expect margin benefits from higher utilisation and SG&A leverage.

Figure 12: Margin outlook (bp improvement over the past year)

-300

-200

-100

0

100

200

Geometric Firstsource

Infotech MastekNIIT Tech Rolta Hexaware

Mphasis Sasken 3i

2-4 months ago Now

Flat Flat Flat

Stable/improving outlook on margins Deteriorating outlook on marginsbps


Figure 13: Comments on margins (stable/improving over last 2-4 months) Company 2-4 months ago Now

Firstsource Expecting 150-200 bp margin improvement over FY3/08 Expecting 150-200 bp margin improvement over FY3/08

Geometric Expecting margin improvement on SG&A leverage Expecting 150-200 bp margin improvement during the year

Infotech Expecting flat margins to be maintained Expecting flat margins to be maintained

Mastek Expecting 100-150 bp improvement in FY6/09E Expecting 100-150 bp improvement in FY6/09E

NIIT Tech Expecting 50-150 bp margin improvement Expecting a 50-150 bp margin improvement

Polaris Expecting margins to improve with rising share of products business

Expecting margins to improve with rising share of products business

Rolta Expecting flat to 100 bp improvement in margins for FY6/09E Expecting flat to 100 bp improvement in margins for FY6/09E


We found 3i now talking of a significant margin drop on the back of recent acquisitions, while Hexaware and Mphasis expect flat margins vs a slight improvement a quarter ago.

Figure 14: Comments on margins (deteriorating over the last 2-4 months) Company 2-4 months ago Now

3i Margins could reduce slightly due to an increasing share of the transaction processing business

Expecting 200-250 bp margin drop in FY3/09E due to acquisitions

Hexaware Hoping for significant margin improvement in coming quarters Expecting flat margins for 2008E

Mphasis Expecting improving margin trend in FY3/09E Hoping to maintain or slightly improve margins in FY3/09E

Nucleus Better utilisation should help maintain margins Difficult to match last year’s margins

Sasken Confident of 20-21% margins for FY3/09E Expecting 19-20% margins in FY3/09E


Wage shock

Both Sasken and Infotech experienced a negative surprise concerning wage hikes. While each had guided to 10% wage hikes for FY3/09E, when we had spoken to them a quarter ago, market pressures have forced the companies to issue 14-15% wage hikes.

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Pricing outlook stable to negative The companies we spoke to indicated a stable to downward pricing trend. In particular, we found:

■ Polaris can get price increases outside the US, which was not the case a quarter ago

■ Firstsource, Infotech, Mastek and Sonata have indicated stable pricing

■ Geometric, Mphasis and Sasken are seeing downward pressure on pricing from their clients

Figure 15: Comments on pricing Company 2-4 months ago Now

Stable/improving comments since last conversation

Firstsource Fairly stable pricing with no pressure to reduce Not facing any pricing pressure from customers. At the same time, getting price increases is also not easy

Infotech Getting 3-4% increases on renegotiations Expect a 4% pricing improvement

Mastek No pricing pressure from customers No pricing pressure from customers

Polaris Unable to ask for price increases when customers face problems

Pricing is stable in the US and increasing elsewhere

Sonata Environment is not conducive to asking for price increases Environment is not conducive to asking for price increases

Worsening comments since last conversation

Geometric There is pricing pressure in the auto segment GM recently renegotiated a lower pricing in the engineering business

KPIT Cummins Does not want to comment on what will happen in 2-3 quarters as the market is in a flux

Not expecting high price increases of the level seen last year

Mphasis Difficult to ask for pricing improvement from customers Pricing pressure from customers, and some instances of volume discounts being demanded

Sasken No significant pricing pressure in the semiconductor segment Semi-conductors (25% of sales) could see price erosion for top customers


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Time for acquisitions With global equity valuations taking a beating in recent months, we asked companies whether they are now keen on growth through acquisitions. Geometric, Mphasis, Patni, Sonata and Zensar, who had not been keen on inorganic growth earlier, are now interested. While Patni is looking for targets in India (to grow in size), Zensar is on the lookout for a target in Germany. Geometric, Infotech and Mphasis are looking for specific verticals/skill sets.

Figure 16: Comments on inorganic growth Company Comments on acquisitions

Keen on acquisitions

Geometric An acquisition in electronics space is top priority

Infotech Recently announced an acquisition in the hi-tech space. Keen on more.

Mphasis Looking for an acquisition in engineering business, of around US$50-100 mn in size

NIIT Tech Very much on the lookout for acquisitions, but within vertical focus

Patni Very keen on acquiring smaller Indian companies in order grow in scale and cross the US$1 bn revenue mark

Prithvi Nearing closure on 3-4 acquisitions

Sonata Done with TUI integration and now ready for other acquisitions. Valuations are very attractive

Zensar Looking out for an acquisition in Germany, in order to get a foothold in the country

Not so keen on acquisitions

3i Will be looking at fewer and larger acquisitions where payments are through shares

Mastek No acquisitions for the next six months at least – need to digest the recent acquisitions

Rolta Most major acquisitions are done. There can be a few small acquisitions in the GIS space

Subex Not keen on acquisitions currently, and would wait for 2-3 more quarters


On the other hand, 3i, Mastek, Rolta and Subex would like to digest their recent acquisitions before venturing out for further inorganic growth.

Finding newer avenues for growth We discussed the top areas of focus of respective senior managements currently. We found managements spending a lot of time trying to look for newer avenues to sustain growth in light of a challenging demand environment. In particular, we found:

■ Firstsource management focusing on new deals and India opportunities

■ Geometric and Prithvi managements focusing on expanding geographically

■ Zensar and Geometric are giving high importance to new vertical/services

Sonata, NIIT Tech and Mphasis managements give high importance to mining existing clients. We found profitability a top concern for Polaris, Mphasis and Geometric managements.

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Figure 17: Top focus areas of management Top focus

areas #1 #2 #3

Firstsource Driving sales through new deals Integration of MedAssist The domestic India business which is growing faster than company

Geometric Greater focus on increasing Europe revenue Making an acquisition in the electronics space

Improving profitability in auto engineering business.

Mphasis EDS partnership Technology and domain expertise Employee pyramid and utilisation.

NIIT tech Mining existing clients New customer acquisitions .

Nucleus Upgrading the product business Increasing scalability by working as a team across the organisation

Process and quality initiatives

Polaris Absolute profit growth (including staying away from contracts with lower profitability)

Revenue growth Service delivery

Prithvi Entry into new geographies Building out the 2nd and 3rd lines of management

Sonata Mining existing clients Verticalising the business from the current horizontal structure

Acquisitions

Zensar Retail vertical Insurance vertical Infrastructure management


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Company section Figure 18: Share price performance Curr. price Absolute share price performance in US$ terms (%) 52-week (Rs)

Company Ticker (Rs) 1 week 1 month 3 month 6 month 12 month YTD high Low

3i III IN 75 -18.0 -37.9 -33.5 -32.5 -54.8 -56.3 160 70 Aztecsoft AZTEC IN 45 -5.8 -23.3 -39.9 -20.4 -29.3 -43.3 102 41 Firstsource FSOL IN 32 -16.2 -32.2 -14.4 -22.1 -62.7 -64.6 90 29 Geometric GEO IN 46 -9.2 -20.5 0.4 -7.9 -52.4 -50.2 99 38 Hexaware HEXW IN 30 -15.4 -40.4 -50.5 -58.2 -79.5 -70.1 135 29 Infotech INFTC IN 210 -6.8 -4.1 -10.9 -19.3 -20.2 -33.1 335 171 KPIT Cummins KPIT IN 39 -16.5 -33.5 -38.6 -50.2 -68.0 -71.2 143 37 Mastek MAST IN 315 -2.9 -17.5 -27.4 -12.9 -11.7 -20.8 419 220 Mphasis MPHL IN 187 -15.8 -23.8 -24.9 -10.7 -44.2 -48.6 321 150 NIIT Tech NITEC IN 93 -0.7 -18.9 -28.7 -6.2 -72.1 -60.5 409 85 Nucleus NCS IN 118 -13.9 -31.8 -44.9 -38.5 -63.3 -67.7 416 115 Patni PATNI IN 184 -9.3 -22.9 -25.5 -23.0 -66.3 -53.0 506 170 Polaris POL IN 69 -13.5 -34.9 -21.1 -27.3 -52.0 -53.7 141 62 Prithvi PRIS IN 86 -9.4 -37.5 -39.6 -46.2 -68.9 -71.6 352 83 Rolta RLTA IN 264 -11.7 -19.6 -6.0 -3.5 -9.7 -26.1 396 200 Sasken SACT IN 128 -1.3 -16.2 -18.3 8.7 -66.7 -67.1 392 76 Sonata SSOF IN 22 -11.4 -29.2 -32.9 -42.6 -62.6 -67.3 65 19 Subex SUBX IN 78 -9.3 -20.7 -25.8 -55.1 -82.3 -76.4 450 68 WNS (US$) WNS US 10 -6.9 -22.8 -39.7 -36.5 -36.8 -37.4 25 10 Zensar ICIM IN 115 -9.2 -17.9 -9.1 4.1 -42.2 -39.6 220 77

Source: Bloomberg

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3i Infotech ■ 3i currently has a high net debt to equity ratio of 2.3x, assuming FCCBs do not

convert. However, 3i management is confident that outstanding foreign currency convertible bonds (FCCB) will convert given the growth momentum and the expected upturn in markets. We note that conversion price of FCCBs is Rs115-166, compared to the current share price of Rs85.

■ Strong order book growth (6% QoQ, 40% YoY) is being driven by banking, insurance verticals and transaction processing services in India, the Middle East and Asia-Pac. Order flow has been weak in the US and UK.

■ Management is confident of maintaining 30% YoY organic growth rates over the next few years, primarily driven by strong growth in India, the Middle East and APAC. Growth in the US/UK could be of the order of 10-12%.

■ FY3/09E net margins could fall to 12.5-13% (against 15% in FY08) on the back of low margins in acquired companies. Management expects improved margins in acquisitions to help increase FY3/10E margins by 50 bp.

High leverage and fund-raising ability Assuming no conversion FCCBs, 3i Infotech has a net debt to equity of 2.3x, leaving very little room for further leverage for acquisitions. However management explained that internally it feels the balance sheet is healthy. The FCCBs (totalling US$170 mn) have conversion dates that are two to four years away from now. Even with 25% EPS growth, management expects the FCCBs to convert comfortably.

Management would prefer to stay away from small acquisitions where cash payment would be required. Instead, 3i would prefer a few large acquisitions funded by equity.

Emerging markets driving growth in order book 3i's orderbook (executable in 12 months) increased 6% QoQ and 40% YoY for the quarter ending Jun-08 (excluding the Regulus acquisition). Management explained that the key drivers for order book growth were: 1) India, where transaction processing is giving good order inflow, 2) the Middle East, where good order growth is seen in banking and insurance clients, as well as 3i's own ERP products and 3) the Far East: strong orderbook growth in banking and insurance clients.

The US and UK (45-50% of the current revenue mix) are not seeing any significant growth in the orderbook, say management. It expects moderate 10-12% YoY growth in these geographies, owing to a weak economic outlook in these geographies. The growth is primarily from earlier acquired companies.

Over the longer term, management is confident of maintaining 30% revenue growth organically, primarily driven by Asia-Pacific and the Middle East.

Other notable points ■ Management expects to close FY3/09E with net margins of 12.5-13% (FY08 15%,

1Q09 12.5%), with recent acquisitions impacting margins negatively. Management expects around a 50 bp margin improvement in FY3/10E.

■ Though the financial integration of Regulus (the acquired US transaction processing company) is done, the integration of operations could take some five to six months more. Margin improvement would come primarily from cost savings rather than pricing improvement, explained the management. 3i expects around a Rs1 addition to consolidated EPS from the Regulus acquisition (FY3/08 EPS was Rs13.40).

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29 September 2008


Aztecsoft ■ Management explained that small and medium-sized independent software vendors

(ISV) could be rethinking their product strategy in light of a weak economy, and that is affecting Aztec’s revenue. Further, a few large ISVs are also asking for work to be shifted back onsite to speed up the product launch cycle.

■ Management expects consolidated numbers with MindTree (MINT.BO, Rs324.30, UNDERPERFORM, TP Rs310.00, MARKET WEIGHT) to be reported from the Sep-08 quarter onwards.

■ Aztec says it has been choosy in its smaller clients’ selection over the past six to nine months. While this was aimed at rationalising the client base, it could have affected FY3/10E growth rates negatively, said management.

Update on demand environment During the 1Q09E earnings call, management indicated that a few small and medium-sized customers were experiencing slowing demand. Management now explained that their small and medium ISVs could be rethinking their product strategies in light of weak economic conditions, thus impacting product development-related business for Aztec. At the same time, management also indicated that some ISVs (including a few in the top 10) were asking to shift some work from offshore to onsite, in order to quicken the go-to-market process.

Microsoft, a key client, is usually quiet on new business in the September quarter, due to its financial year closing. Hence, management expects some seasonal weakness in the current quarter from this account.

Update on MindTree integration MindTree's holding is around 79.9% in Aztec. Management explained that financials would be consolidated from August onwards i.e, from Sep-08 reported numbers. It will then apply for a merger in the April 2009E timeframe, after which Aztec will be delisted.

Management expects business integration to start slowly. Aztec is set to gain from MindTree’s larger scale, and the management’s targets for FY3/10E could easily increase just because of the acquisition (for example, if Aztec's standalone growth expectation for FY3/10E were 25%, then it could easily rise to 30% on the back of acquisition synergies).

Other notable points ■ Aztec says it has been choosy and careful on working with smaller clients, in order to

rationalise its client base. Management indicated that this is slightly impacting the build-up of pipeline, and has the potential to impact growth in FY3/10E.

■ Aztec had significant pricing improvement from nine of its top-10 customers all through FY3/08. Management expects these increases to start showing up in FY3/09E’s performance. Going forward, management does not expect any price increases due to the weak economic outlook.

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29 September 2008


Firstsource ■ Firstsource management indicated that delays in contract closures have been more

painful than expected. There is still visibility on closures, with customers opting for soft launches of contracts.

■ The company sees the Indian telecoms sector as a key growth area, and has Airtel and Vodafone as major clients.

■ Management still expects a 150-200 bp margin improvement in FY3/09E over FY3/08.

Delays in closures more than anticipated Management explained that the extent of delays in contract closures has been higher than earlier anticipated. But there is still visibility on closures. Customers are now starting off contracts on a smaller scale with the hope of ramping up later. For example, it could start with 150 people for a contract that in full capacity would require 500 seats. The demand environment visibility could be clearer by Sep-08, according to Firstsource management.

Management expects a stronger 2H FY3/09E, on an expected improvement in collections business, and also some seasonality.

Opportunity in Indian telecoms vertical India currently accounts for 7-8% of Firstsource’s revenue, primarily concentrated in the telecoms vertical. Management sees this as a key growth area for the company.

The company has Airtel and Vodafone as customers. For Airtel, the company provides inbound calls, welcome calls, DTH customer support (post launch) and managed services. Strong growth of customers and performance in terms of metrics such as the number of complaints per customer are key to growth in the sector. Key competitors within the Airtel account include Aegis (not listed), Mphasis and IBM (IBM, $115.36, NEUTRAL, TP $120.00). Competition for the Vodafone (VOD.L, 120.60p, NEUTRAL, TP 160.00p, OVERWEIGHT) account includes Aegis and Intelenet (not listed).

Still expects a 150-200 bp margin improvement Management continues to expect a 150-200 bp margin improvement over FY3/08. This implies close to a 200 bp improvement QoQ for the next three quarters.

The key drivers that management is banking on for the margin improvement include:

■ Productivity improvement – through greater output per employee and also lower support costs around the core work

■ SG&A leverage

■ Changes in processes in North America aimed at margin improvements

Other notable points ■ Firstsource is not facing any pricing pressure from customers. At the same time,

getting price increases is also not easy. In particular, commission rates in collections business (which is facing a slowdown) are not increasing.

■ The company has stepped up recruitment in the collections business on expectations of business improvement.

■ The key focus areas for management right now include: 1) driving sales through new deals, 2) integration of MedAssist and 3) the domestic India business which is growing faster than the overall company.

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Geometric ■ Management indicated that the demand environment in the US auto industry remains

subdued, with mixed signals – both negative (pricing reductions by GM) and positive (a large annuity contract awarded by Ford).

■ Though the European auto industry is exhibiting firm demand, there are early signs of a slowdown in the form of delayed decision cycles, said management. The slump in the US auto industry was preceded by such delayed decision making.

■ Management targets 10% EBIT margins by end of the year, from 6% in FY3/08 and 5.7% in Jun-08, primarily from greater offshoring and pricing improvements.

US remains subdued, signs of weakness in Europe Management explained that the situation for demand from the US auto industry has not changed much from earlier months. Despite GM (GM, $10.72, NEUTRAL [V], TP $7.00)and Ford (F, $4.86, NEUTRAL [V], TP $4.00) reporting high losses, it has not led to further impacts on project revenues for Geometric. GM also recently renegotiated a lower pricing in the engineering business (which negatively impacted Jun-08 margins). Customers have slowly started working on new projects, as these are required for timely product launches, but the pace is much lower than earlier. Management expects this trend to continue another one to two quarters before any positive signals start coming through.

In a significant development, Geometric recently won an annual application maintenance contract from Ford, the first of its kind for Geometric. Management is keen on pursuing this model in order to get stability and visibility on revenues.

At the same time, demand from European auto companies (such as Volvo (VOLVB SS, SKr63.25)) is holding up firmly. But even here, there have been delays in decision making, a phenomenon that preceded the slump in the US auto vertical. So these could be early signs of weakness in Europe geography as well, according to management.

Direct go-to-market strategy bearing fruit Around a year ago, Geometric launched an initiative to concentrate on direct marketing, rather than through partners, to increase visibility and margins. Management said that this initiative has been fairly successful. From 36% of software revenue last year, direct marketing now accounts for close to 64%. The annuity contract from Ford mentioned above is a result of this direct marketing, said management. This has also helped improve margins over the year, as the profit sharing with the partner no longer happens.

Other notable points ■ Apart from the drop in pricing from GM, the pricing environment has been broadly

benign, said the management. The company had a couple of clients giving price increases which would kick-in from Sep-08 quarter, though not enough to offset the drop in GM pricing.

■ From average of 6% EBIT margin in FY3/08 and 5.7% in Jun-08 quarter, management targets 10% margins by end of the year. The primary drivers would be greater offshoring in auto engineering space, better realisations, savings on lease rentals (with falling real estate prices in the US etc).

■ In the near term, the key focus areas for the management include: 1) a greater focus on increasing European revenue, 2) making an acquisition in the electronics space (a new area for the company, with competitors including KPIT Cummins and Wipro) and 3) improving profitability in the auto engineering business.

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29 September 2008


Hexaware ■ The reduction in full-year guidance was driven by weakness in two key client

accounts, as well as continued delays in decision cycles. This is now spreading to sectors outside of banking, financial services and insurance (BFSI) like travel.

■ The company has postponed 2008 campus joining dates to 2009E. It has also frozen lateral recruitments, even for replacing attrition. Thus management expects a further reduction in headcount of about 300 over the remaining two quarters, with the possibility of 2008 ending with around an 11% lower employee base than 2007.

■ The current cash-flow hedges (of around US$196 mn) would start maturing only after 2008, and hence the flow-through into P&L this year would be negligible.

Triggers for guidance reduction Management reduced CY08 guidance from 23-25% YoY growth to 7-9%, due to:

■ A couple of large clients’ in the BFSI space had slowed during the Jun-08 quarter, which led to reduced volumes for Hexaware. The work done for these clients was primarily application development, with the clients now significantly reducing the scale of development work.

■ Quarterly additions to orderbook have been slow due to delayed decision making on the part of the customers. For instance, four large deals in the range of US$50-100 mn have been stuck in the pipeline for close to six months. Delayed decision making is spreading out from BFSI customers to even travel customers in North America.

When we spoke to management in early June, there was an expectation (or hope) for strong growth in 2H08E. However, with the reduced guidance for 2008, management is building some of the revenue from 2008 to be pushed into 2009E.

Reorganisation of verticals Hexaware's new management is in the process of restructuring the vertical focus. The key changes include: 1) BFSI and capital markets/asset management, seen as two different verticals until now, will be considered as a single vertical, 2) the focus on the travel vertical will continue as before, 3) the “emerging verticals” will be broken into seperate vertical lines, and management hopes to give individual attention to the new verticals created.

Going slow on hiring Hexaware has seen a total reduction in headcount of 470 in the first two quarters of 2008 (7% of its initial employee base). The company has frozen recruitments, including replacement hiring to compensate for attrition. As a result, management expects another 300 cut in headcount by end of the year, purely on the back of regular attrition without replacement. However, management explained that the campus process for 2009E recruits is on track, with around 300 offers already made against a target of 600-650.

Other notable points: ■ Management expects margins for the rest of 2008E to remain at Jun-08 quarter levels

(7.8% EBIT excluding one-offs, and flat YoY).

■ The company has US$196 mn of effective cash flow hedges (no ineffective hedges). It says there would be negligible impact on P&L in the rest of 2008E from these hedges, with a material impact beginning only from 2009.

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29 September 2008


Infotech Enterprises ■ Management expects a strong rebound in Sep-08 quarter, due to a high number of

project milestones due to be crossed during the quarter. The full-year guidance implies 8-8.5% QoQ growth for 2Q, 3Q and 4Q FY09E (3.3% in US dollar terms in 1Q).

■ Volatility in fuel prices is not affecting demand from aviation customers, with the company having a very large order backlog and hence is not affected by one-off order cancellations for aircraft, says management.

Expect strong growth for 2Q FY3/09E, after weak 1Q Management explained that weak growth in 1Q FY09 was on expected lines, with no disappointments. Full-year revenue growth guidance of 30-35% implies 8-8.5% QoQ growth for the next three quarters.

Management indicated that key customers in the pipeline include Pratt & Whitney (not listed), Bombardier (BBD/B CN, C$6.39), Boeing (BA US, $57.31, OUTPERFORM, TP $87.00) and it is strong. Further, a number of project milestones will be crossed in 2Q, which should lead to strong revenue performance. The company is also seeing a lot of traction in India (Bharti Airtel (BRTI.BO, Rs810.40, OUTPERFORM, TP Rs950.00, MARKET WEIGHT)) and Australia.

Acquisition pipeline has lagged expectations Infotech Ent. raised around US$80 mn in FY3/08 aimed at acquisitions. However, management conceded there have been delays in finding the right target company. Infotech was close to acquiring a German firm in the auto and aviation engineering space (US$100 mn in size), but found issues in offshorability of the work done. Infotech recently announced the acquisition of Time To Market Inc. (not listed) in the hi-tech industry.

GIS city mapping in India – not that attractive after all Speaking on the Indian GIS-based mapping opportunity (currently US$50 mn worth of bids in place and a lot more in pipeline), management explained that the business model was not very attractive. The bids are on L1 auction model, with winners decided on the upfront payment offered in payment to the government. The competition is intense and margins could be quite low. One of the reasons for the acquisition of Geospatial Integra (not listed) by Infotech was to participate in these bids. Currently, the acquired entity is getting business from the Middle East, says management.

Other notable points ■ Management indicated that volatility in fuel prices is not having any impact on demand

from aviation vertical customers (primarily aircraft manufacturers). While there have been cancellations of orders for aircraft for Boeing/Airbus from a few US airlines, these have been replaced by robust demand from Middle-East based carriers.

■ BT (BT.L, 162.90p, UNDERPERFORM, TP 170.00p, OVERWEIGHT) is a key customer of Infotech Enterprises. This account is not showing any signs of reduction in budgets, said Infotech management.

■ While Infotech management had guided to a 10% offshore wage hike when we spoke to them a quarter ago, the eventual hike turned out to be around 14-15%. due to higher-than-expected wage hikes by the top-tier Indian IT companies.

■ Management expects margins to be maintained at 18-18.5% (EBITDA). There is a 4% pricing improvement built into this expectation.

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KPIT Cummins ■ Management is confident of revenue guidance for FY3/09E, but feels that profit

guidance could be a bit difficult. Customers have, in recent months, started talking about delaying work.

■ However, management is seeing positive signals from anchor customer Cummins.

■ While FY3/08 was an excellent pricing year for KPIT Cummins, FY3/09E price increases may not be as widespread as in FY3/08.

Revenue guidance comfortable, profit guidance a bit stretched Management explained that in the two months preceding the Jun-08 results announcement, a few customers expressed concerns about business. While the customers were keen on IT spending, they were undecided on whether to spend now or to defer it. KPIT Cummins’ management took a cautious tone on guidance after hearing such comments from customers. Management explained that there could be a scenario which may not favour the company.

Explaining further, management said that FY3/09E revenue guidance (23-26% YoY in rupee terms) is comfortable. However, profit guidance of 27-31% growth in rupee terms is more difficult to achieve. Management expects greater clarity in about two months’ time.

Growth in Cummins is comforting Management explained its anchor customer, Cummins, is growing at a healthy clip of 30% YoY, with the automotive section growing faster at 65%. Management pointed to positive comments from Cummins’ management about growth and business prospects.

KPIT Cummins is also seeing good growth in Europe, Japan and the rest of Asia-Pacific, due to the various partnerships/organisations that it has entered.

Pricing improvement may not be as good as last year In FY3/08, KPIT Cummins managed 5-10% price increases in contracts covering over 60% of revenue (the effect of which is yet to be fully captured). However, management is not expecting such a widespread increase in prices this year, though negotiations continue to happen. The company is not facing any pushback/pressure on pricing from customers.

Other notable points ■ The Cummins GBS deal is yet to reach break even, but may do so in another two

quarters. Currently, there are no clients outside of Cummins in this business.

■ Management is hoping for margin improvements on the back of: 1) increased productivity through a lower recruit-to-bill timeline, 2) a benign forex environment and 3) pricing effect

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Mastek ■ Under a renewed agreement with Capita Capita Group (CPI LN, 730.00p), Mastek is

moving from a licence fee + implementation structure to revenue-per-policy structure.

■ The ramp-down in NHS product development revenue (~US$35 mn in FY6/09) will be spread over two years, instead of an earlier expectation of a quick ramp-down in six months. This positive surprise is already built into FY6/09E guidance of 32% YoY growth, said management.

■ The company is not facing any delays in decision making among customers. The challenge, however, is in launching at least one Elixir project in the US which can act as a beach head for further sales in this geography.

Capita agreement changes/Elixir launch Mastek recently changed some of the contract terms of its agreement with Capita in the UK insurance space. From a license fee + implementation revenue structure for Elixir, the agreement is now moving to a revenue-per-policy arrangement. Management believes that this would allow Mastek to participate in the growth of customers through the revenue sharing structure. Management also cautions that this would imply greater risk sharing by Mastek in the customer's business model.

Speaking on the launch of new SoA-based Elixir platform, management explained that the first phase for client testing in one module would be done in the Sep-08 quarter, with subsequent launches of other modules in the following quarters. The process of migrating existing databases of customers to the new platform would take a lot of time, and hence the complete launch would take around 18 months to implement. Management indicated that there have been no setbacks in the launch plans.

NHS ramp-down slower than earlier expected Management was expecting the ramp-down in NHS product development revenue (~US$35 mn in FY6/08E) to happen over the next six months, resulting in zero revenue by Dec-08. But recent indications from the NHS are that the ramp-down could be much slower, i.e, spread over a 24-month period. This is a positive surprise which was not expected around a quarter ago, say management. Apart from the revenue upside, the development also allows Mastek more time for planning resource deployment with the ramping down of this contract. The benefits of a slower ramp are already reflected in guidance for 32% YoY growth in FY6/09E, say management.

Other notable points: ■ Mastek is undertaking a rebranding exercise with the help of an external consultant,

with a new logo. The aim is to provide a unified image of Mastek, since its string of recent acquisitions has resulted in many brands coming under the company's portfolio.

■ Management indicated that no more acquisitions would occur for another six months, as the recent acquisitions need to be absorbed fully.

■ Mastek is not facing any elongated decision cycles among customers. However, the challenge remains in getting a beach-head for Elixir in the US before the product can achieve scale there, say management.

■ The company is not seeing any pricing pressure from customers, said management.

■ Management maintains a margin outlook of a 100-150 bp improvement in FY6/09E.

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Mphasis ■ Management indicated a slight improvement in the demand environment starting at

the end of June, with a few new proposals being closed. However, the general sentiment remains subdued with delays in decision making.

■ Pricing pressure continues with stray instances of volume discounts being demanded. To counter this, Mphasis is focusing on innovative solutions to reduce total costs to customers, without having to resort to price drops.

■ The hiring target for FY3/09E has been softened slightly from Apr-08, as the company would like to increase utilisation rates.

Demand environment looking up Mphasis management said that though delays in decision making on the part of customers continue, there have been no cancellations happening. Recently (starting the end of June), quite a few new deals are getting closed, indicating a slight improvement in the demand environment.

Management feels that the Sep-08 quarter is very important from a demand perspective, as the December quarter will not see any fresh decisions being taken.

While growth in Europe has been weak recently, management said this was due to challenges in the region in terms of regulations, language etc, rather than any demand problems. Like other Indian IT vendors, Europe remains a key focus area for Mphasis.

However, pricing pressure is sustained During its 1Q FY3/09E earnings call, management had indicated pricing pressure from customers, and some instances of volume discounts being demanded. The situation has not changed much now, says management. Such pricing pressure is natural in a recessionary situation, it added.

To counter this pressure, the company is trying to come up with innovative solutions that help customers reduce total spending on IT services, without actually giving away pricing. Management explained that a lot of top Indian vendors were trying such a strategy to remain strong in the business.

Other notable points ■ Management hopes to maintain or slightly improve margins in FY3/09E. The key risks

to margins, apart from rupee volatility, include wages (the company follows a staggered salary cycle), real estate costs going into 2009E and pricing pressures.

■ In April 2008, management had guided to 7,000-8,000 gross hires for FY3/09E. Now management is talking of 7,000 hires, as it would like to improve utilisation.

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29 September 2008


NIIT Technologies ■ NIIT Tech has pushed back the launch of a new version of its Room Solutions’ product

by another quarter to December 2008. We note that sales have been slow in this business for over a year in anticipation of new product launches.

■ The management expects industry-level growth to return to the company in the December 2008 quarter. Over the longer term, management hopes to deliver growth rates in excess of 28%

■ Utilisation, non-linear revenues and SG&A leverage are the key margin levers that the company hopes to use to achieve a 50-150 bp margin improvement during FY3/09E.

ROOM Solutions launch delayed further by a quarter The management had earlier indicated to us that a soft launch of a new version of its ROOM Solutions product would happen in the September 2008 quarter. Now management has indicated that this is more likely to happen in the December 2008 quarter. It will be a fully-fledged launch, rather than a soft launch. We note that the company has been going slow on sales in ROOM Solutions products for more than a year now in anticipation of a launch of new products

Expect a 50-150 bp margin improvement The management expects various initiatives, such as improving utilisation, non-linear revenues and SG&A leverage, to help improve margins. NIIT Tech is aiming for 19-20% EBITDA margins versus 18.7% in FY3/08.

In terms of utilisation, management is looking for 78% utilisation this year as against 73-74% last year. The company is not looking to recruit in great numbers this year. In fact, the next hires could be lower than last year.

Management has indicated no downward pressure on pricing from customers.

Expect growth to pick up from December 2008 quarter NIIT Tech has been witnessing weak/negative growth for over five quarters now. Management explained growth rates would pick up to industry levels from the December 2008 quarter. This would be on the back of seasonal strength in the government business, new product sales in Room Solutions and higher value services on BPO.

Other notable points ■ During June 2008 quarter, NIIT Tech had an impact on margins due to transitioning

from a leased to an owned premise (with the resultant additional lease payment in transition). Management explained that the impact will continue into the September 2008 quarter to a smaller extent.

■ Of the US$226 mn of hedge contracts as of June 2008, management expects to settle around US$20 mn during the September 2008 quarter. The company is reducing its hedge cover from 24 months to 18 months.

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29 September 2008


Nucleus Software ■ Nucleus management indicated that demand remains challenging, with continued

delays in closures and increasing competition within reducing growth avenues.

■ Management explained that the current environment has forced a postponement of US entry for the company, which could prove negative in the longer term.

■ However, Nucelus is finding good traction in top accounts, with the ACOM contract expected to grow to a much larger size than earlier contracted.

■ Management feels it will be extremely difficult to match last year’s margins.

Demand environment remains challenging Nucleus management indicated continued delays in closure of contracts. Demand from Japan and South-East Asia has been weak for quite some time. Hence, the number of growth geographies for the company (and competition) is getting restricted, increasing the competitive intensity. Added to this, there are now multiple rounds of talks for each contract with clients.

Speaking on the impact of the weakening global economic situation, management explained that this is forcing a postponement of entry into the US, which is a long-term negative. Europe, which is a market for large orders, is seeing elongated business cycles. Management feels that Japanese companies’ IT budgets work independent of the rest of the global economy.

Nucleus has also been careful in avoiding projects which have low profitability. The company is aiming to achieve a larger scale of operation on profitable contracts.

Top customer accounts in good shape The ACOM contract has gone up in size from the earlier contracted Rs1.5 bn, and is also expected to run for at least a year longer than earlier expected. Management feels this gives enough time to find a replacement for such a large contract. Currently, the ACOM contract is running at US$4 mn per quarter, resulting in a large reduction in the orderbook, which is difficult to replace.

The GMAC implementation is going on in the UK right now, with another country set to begin shortly.

Difficult to match last year’s margins Management feels that it would be extremely difficult to match FY3/08 margins. The company recorded EBITDA margins of 17% in the June 2008 quarter after 25% margins in FY3/08.

The levers that management sees for margin improvement include utilisation and higher licence fees. Pricing may not be a lever as there is pressure on pricing (more from competition than customers), especially in the Middle-East.

Other notable points ■ The top areas of focus for the management currently include: 1) upgrading the product

business, 2) increasing scalability by working as a team across the organisation and 3) process and quality initiatives.

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Patni ■ Patni management indicated that growth remains under pressure as: 1) decision

cycles are getting elongated, 2) a lot more services are being classified as discretionary and 3) high US exposure is also hurting. The company expects a recovery in 2009E; however, clarity on that is only likely to emerge in another two to three months.

■ The company also expects deals with upfront payment to become more common going forward.

■ The company also indicated that the high penetration of offshore firms compared to 2001-02 could limit the benefits to offshore companies from economic slowdown.

The next two-to-three months are crucial Management indicated that the demand environment remains challenging, decision cycles have elongated and project closures are getting delayed. In 2001-02, customers were reducing budgets. However, the situation now is of indecision and cost deferment, which could lead to a spending freeze. Management also indicated that a lot of new services are getting classified as ‘discretionary’, compared to one year ago.

Management sees the next two to three months as very crucial to get a firm view of 2009E. Management would be surprised if the next year does not turn out to be strong.

Reasons for lower growth by Patni in 2007 Management also discussed a few reasons for its slower growth compared to peers:

■ High US exposure: the company indicated that high (75%) revenue exposure to the US could lead to a 5-7% lower growth, compared to top-tier vendors. The company plans to fast-track growth in Europe through organic and inorganic means to bridge this gap.

■ Client-specific issues: a few large accounts of Patni, including ABN Amro (ABN, $57.95) and AT&T (T, $30.44, NEUTRAL, TP $39.00) had sluggish growth in 2007.

Keen on acquisitions Patni management indicated that it would pursue an aggressive acquisition strategy. Key targets would be: 1) European companies, which could give a greater foothold into the continent, 2) Indian companies at good valuations, which could help scale up Patni’s revenue size to above US$1 bn quickly.

In both these cases, the company would look at targets, which are focussed on similar verticals as Patni.

Expect deals with upfront payment to become common Management does not buy into the argument that Indian IT services companies would benefit from an economic slowdown, as customers would look to offshore companies with an eye on cost cutting. Firstly, the penetration of offshoring in the global IT services market is much higher than the 2001-02 timeframe. Any incremental offshoring will have certain upfront costs before savings can be realised. With such a cost structure, deals with upfront cash payments from vendors could become more frequent.

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Polaris ■ Polaris management has indicated a pick up in deal momentum since August, after a

weak period in July. Management is confident of 5-7% QoQ revenue growth and 10% plus profit growth in September 2008 quarter (in US dollar terms).

■ Polaris has moved into a ‘just-in-time’ hiring strategy, and hopes to improve utilisation by 200 bp this year.

■ The company is getting good price increases from Singapore and Europe, but not so much from the US.

Business environment picking up in recent months Polaris management indicated that a few weeks around July were bad in terms of project closures. However, since August, the traction on project closures has been healthy. Though there are delays in decision making, closures are happening.

The company has been able to attract a substantial number of contracts, with greater mining within existing customers. Thus, management is comfortable with targetting 5-7% revenue growth and 10% plus profit growth for September 2008 quarter.

Hiring and utilisation Polaris has adopted a strategy of ‘Just-in-time hiring’, to tackle the scenario of delayed/uncertain contract closures. Management is also looking for on-demand sourcing for critical skill-sets.

Management is looking at improving utilisation by at least 200 bp (from the current 78%). Management feels that growth will not be compromised up to 80% utilisation. Growth will be challenged only beyond 85%.

Expect 10% profit growth for at least two quarters In addition to the utilisation lever mentioned above, management is working on a cost/pyramid rationalisation to improve margins. The company is also able to get good price increases in Singapore and Europe (no price increases in the US, but no reduction either). Polaris thus expects to deliver over 10% QoQ profits growth in each of the next two quarters.

Other notable points ■ Polaris is expected to book profits on the sale of a 20% stake in a JV with AIG, to the

tune of Rs140 mn in the September 2008 quarter. The 10% plus QoQ profit growth guidance excludes this item.

■ The top areas of focus for management currently include: 1) absolute profit growth (including staying away from contracts with lower profitability) and 2) revenue growth and 3) service delivery.

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Prithvi Information Solutions ■ Prithvi management indicated good traction in the US in the key verticals of telecom,

healthcare and technology. BFSI and retail remain sluggish.

■ India is emerging as a strong growth area for the company, with the company nearly doubling its revenue target since December 2007.

■ Prithvi is close to completing a few niche acquisitions.

Good traction in telecom, healthcare and technology Prithvi management indicated good traction in the US (>95% sales) in the telecom, healthcare and technology verticals. In the healthcare vertical, the company is seeing good traction in pharmacy benefit management services and data analytics. In the technology vertical, the company is seeing a lot of demand from companies, such as Apple, Microsoft and Oracle, who are spending a lot to implement SOA (service oriented architecture) and SaaS (software as a service) systems.

Prithvi is seeing sluggish demand in retail and BFSI verticals.

Prithvi is expecting around 35-40% YoY growth from the US this year (down from the 40-45% number given in June).

India – key growth area Though India accounts for less than 5% of sales for Prithvi currently, it is a key growth area according to management. Currently, the traction is primarily in the telecom vertical (both services engineering and products). In addition to the large BSNL contract already won (worth US$75 mn), Prithvi is bidding for three to four more contracts of a similar size. The company has revised its revenue target for India from US$25 mn (as of December 2007) to US$40-45 mn.

Nearing closure on a few acquisitions Prithvi management explained that quite a few acquisitions are in the pipeline for the company. One acquisition is almost nearing closure (size – around US$3-4 mn), while due diligence has just started on another acquisition. Two more targets have been identified. These targets are spread across the insurance, technology and healthcare verticals.

The criteria that the company looks for in acquisitions is whether they add value through capabilities, access to customer base and cultural fit.

Other notable points ■ Prithvi has a predominantly onsite business model, which the management sees as a

great opportunity for margin improvement. However, offshore momentum has been subdued in the last two to three quarters. Management explained that a few big offshore deals are in the pipeline and we could see a greater offshoring proportion in the next two-to-three quarters.

■ The top areas of focus for management include: 1) entry into new geographies and 2) building out the second and third lines of management.

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Rolta ■ After the recent acquisition of Whitemanheart Consulting (in the business intelligence

space), management explained that they would go slow on acquisitions for some time. Management expects improvement in margins of acquired companies (through cross selling and offshoring) resulting in a 0-100 bp increase in margins for FY6/09E.

■ Management clarified that material revenues related to the Indo-US nuclear deal would start flowing in only from 2011, due to procedural delays involved.

■ Management's hiring target is for 1,700 net hires, as against 921 in FY6/08.

Update on acquisition strategy Rolta recently acquired Whitmanheart consulting, which brought in business intelligence capabilities over and above the ERP capabilities brought in by the TUSC acquisition of the last quarter. The consideration is around US$8-10 mn. The acquired company has revenues of around US$8-10 mn and 11-12% EBITDA margins. Rolta management believes it now has a complete offering in the eICT space, encompassing GIS Engineering data collection, ERP and Business intelligence.

Giving an update on the TUSC acquisition, management indicated that Rolta-TUSC will be coming out with new solutions shortly, which will ensure complete integration of technology and delivery.

On future acquisitions, management indicated that most of the intended acquisitions on the eICT space are done. Going forward, there could be a few small acquisitions in the engineering space, and none on the GIS space.

Expect improvement in margins from acquired companies Management expects flat to 100 bp improvement in margins for FY6/09E, from the 22% level of FY6/08. The margins in FY6/08E were on a declining trend from 24.4% in 1Q to 21% in 4Q (excluding forex losses). Management expects improving margins from acquired companies, primarily from greater offshoring and greater cross selling, to help maintain overall margins.

Other notable points ■ Management's guidance for FY6/09E is for 38-40% YoY revenue growth, 41-43%

profits growth.

■ While the Indo-US nuclear deal is beneficial to the company, management explained that material revenues could start flowing in only from 2011 onwards, due to various procedural formalities involved.

■ Rolta plans to increase headcount by around 1,700 in FY6/09E, with around 1,200 of these expected to come from the in-house training academy. This compares with a total net addition of 921 during FY6/08.

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Sasken ■ Management is retaining its earlier FY09E guidance at 25-29%, but now it is

contingent upon winning a few large deals in the NEMS space. Any disappointment here could result in actual growth coming in the range of 17-20%.

■ These large deals involve an upfront payment by the vendor, which the company is not comfortable with. Management indicated an increase in the number of RFPs with such upfront payment in recent times.

■ Management is now turning cautious on the handset business as well, saying all the top five customers are seeing a slowdown in sales. They had indicated no such concerns a quarter ago.

■ Sasken gave a 15% offshore wage hikes, as against 10% indicated earlier, owing to attrition pressure and possibly below market salary levels earlier.

Change in stance on guidance Management had earlier indicated that FY3/09E services revenue growth would be 25-29% in US dollar terms. Management now indicates that this guidance is subject to winning at least one large deal in NEMS.

The company has seen a few project ramp downs in the NEMS space during the June 2008 quarter, and is seeing very little pipeline apart from a few large RFPs from top customers. If no large deals are won, management sees a risk to overall guidance (going down from 25-29% to 17-20%). Management also said that the likelihood of winning these deals is not high as: 1) some of these RFPs were floated a few quarters ago, and with elongated decision cycles, the visibility on closure is not clear, 2) most of the these RFPs are being managed by the purchasing managers within customers, rather than the R&D personnel. As a result, customers are expecting an upfront payment from vendors. Sasken management is yet to decide whether they want to pursue such deals.

Even in the handsets space (~40% of sales), the sentiment has turned slightly worse with all the top five handset vendors reporting slowing sales. Though there was no impact in the June 2008 quarter, management definitely expects an impact on revenues in the September 2008 quarter.

In the third major segment – semi-conductors (25% of sales) – management is now talking of price erosion for top customers like Texas Instruments.

However, product business performing nicely Management expects to break even on the EBITDA level for FY3/09E, excluding contributions from the royalty fee. In 1Q09, margins were at 23% excluding royalty, and management expects the margin target to be met quite comfortably.

While M-series and S-series products have been doing well for Sasken, the company has reduced investments on the E-series platform for a few quarters now. Elaborating on this, management said that the small team that is still working on the E-series is basically to support one customer who is expected to launch a satellite phone in about a year's time. Other than this, the company is still undecided as to the future prospects of this business.

Significantly higher wage hikes Sasken has changed the salary revision cycle from April to July, in order to better incorporate the fiscal year end performance into the increments. The company had earlier indicated that salary hikes would be around 10% this year, but eventually awarded 15% hikes. This was due to a sudden surge in attrition and possibly below market salary levels, explained the management.

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29 September 2008


Sonata ■ Sonata's customers in the travel vertical continue to face pressure, despite oil prices

easing. They are concerned about the impact on consumer spending due to inflation.

■ The company saw a couple of project ramp-downs in the ISV vertical, which are now replaced, said management. Demand is expected to remain stable.

■ Management expects margin improvement to continue on the back of favourable currency (especially the eEuro), volumes and productivity gains.

Demand environment stable on ISV vertical, anxiety remains in travel Management indicated that the easing off in oil prices has come as a relief for customers in the travel vertical. The bigger impact is due to the shrinking consumer dollar on account of inflation. This could lead to reduced volumes (for example a holiday being cut short from two weeks to one week). Although the bookings for the winter season have been good, the possibility of booking cancellations by consumers keep Sonata's customers anxious, explained management.

In case of ISV customers, there were some ramp-downs in projects in the June 2008 quarter. However, these have been more or less replaced now and the demand environment is stable, said the management.

Transition in TUI led to margin impact The integration of TUI is mostly complete, said the management. In the final stages of transitioning some of the onsite work offshore, the company was left with some excess resources. Since the company is not keen on reducing headcount, this excess capacity resulted in a fall in margins in the June 2008 quarter for TUI.

These were partly offset by increasing margins in the India domestic business, on the back of an increasing share in higher margin services like consulting.

Expect margins to improve Sonata showed an improvement in margins in June 2008 (both YoY and QoQ). Management expects margins to continue to improve on the back of:

■ Favourable currency (especially the euro)

■ Volume growth

■ Price increases that the Sonata has won from some long-standing customers

■ Productivity improvements

Explaining the pricing environment, management said that the environment is not conducive to ask for price increases currently. However, with long-standing customers, Sonata is able to drive innovative solutions, which have higher productivity, thus helping margins.

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29 September 2008


Subex ■ Management is confident of achieving revenue growth guidance of 38%, but warns of

risks arising out of longer business cycles.

■ Management does not see any risk to revenues from BT due to the nature of services involved. Subex is yet to recover some of the lost revenues in AT&T last year.

■ Management expects rising revenues upon fixed costs to help improve margins.

■ Management will not be aggressive on acquisitions for at least the next two-to-three quarters.

Guidance is reasonable but risks exist Subex management said that the FY3/09 revenue guidance of 38% YoY growth in US dollar terms looks reasonable. The company has sufficient pipeline and is maintaining a 33% conversion ratio.

However, risks do exist on the guidance. Business cycles are longer than earlier. This is more prominent in the US. Management is unable to comment on the time when this situation will end, but expects clarity by September-October.

Updates on AT&T and BT accounts Management explained that BT has distributed its budget among several vendors. Subex manages fraud management and interconnect services for BT. It is difficult for BT to replace Subex with another vendor for these services, feels the Subex management

While Subex continues to service and support AT&T, the revenues that were lost last year from this account are yet to come back on track.

Expect margin improvement on fixed costs Management explained that a cost reduction drive is nearly complete, with costs expected to remain more or less constant. Any increases in revenues would flow down directly to the bottom line, says the management. This would help margins to improve.

The pricing environment is stable, says the management.

Other notable points ■ Management says that long-term growth rates of 20-25% should be comfortable.

■ The company is not keen on acquisitions currently, and would wait for two-to-three more quarters.

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WNS ■ Management is expecting a lot of cost synergies from Aviva integration, including

increasing utilisation, seat density and leveraging facilities to service other clients etc.

■ In general, management feels the insurance vertical is very under-penetrated as far as BPO is concerned, and hopes to leverage the Aviva facilities to win more customers.

■ WNS management expects pressure points to show up in the travel vertical going by the recent rise in ticket cancellations, refunds etc. This has lead to greater conservatism on guidance, said management.

Update on Aviva integration WNS management sees a lot of opportunities in the Aviva operations takeover. The growth in revenues, headcount and skill-sets would be very significant for WNS. Some of the avenues for margin improvement include:

■ Aviva operated like a captive operation with little more luxuries than third party vendors like WNS. Thus, there are factors like higher sq ft area per employee that can be reduced to save operating/capital costs.

■ WNS has negotiated enough freedom to decide on which services to offer to which clients using these facilities. WNS aims to create a Centre of Excellence and service non-Aviva clients from there.

■ Aviva’s facilities are currently operating on a utilisation of 0.9, while WNS operates at 1.7. Thus, there is room on the upside for Aviva’s utilisation.

Commenting on the other insurance customers, management explained that this is a very under-penetrated market for BPO vendors. It is a very process-oriented industry with a lot of back-office functions making it conducive for outsourcing. Management said that there are at least half a dozen large US insurance companies who have not yet started outsourcing. Furthermore, apart from AIG there is not much exposure to the sub-prime issues in the sector.

Call 24x7 integration going well WNS’ integration with Call 24x7 is on track, said the management, with a slight drop in margins in the initial months. There are a number of common processes where efficiencies can be realised. Thus, management expects strong margin improvement once integration is completed.

Expect pressure in the travel industry going forward WNS did not see any concern from customers in the travel vertical in the June 2008 quarter. However, since then there has been an increase in exceptions – cancellations, refunds, etc. While this means good business for WNS in the short term, it is not a positive sign in the longer term. Looking into the future, WNS expects to see pressure building up in the travel industry. This has led to a greater conservatism in WNS latest guidance, explained management.

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Zensar ■ Zensar is seeing a weakness in Europe, which the management says is getting

compensated by newer geographies, such as Singapore, Australia, South Africa and the Middle-East.

■ Though tDigital is expected to break even this quarter and post revenues of US$28 mn for FY3/09E.

■ Retail and insurance verticals and infrastructure management are the key focus areas of the management currently.

Updates on Marks and Spencer (M&S) and other accounts Management explained that the current contract with M&S comes to an end in December 2008. This contract currently involving 160-180 employees. Zensar is bidding for a new contract with M&S.

Management commented on seeing a slight decline in sales in Europe. However, this is being compensated by good growth in newer territories, such as Singapore, Australia, South Africa and the Middle-East.

Strengths in ERP versus competitors Management explained that Zensars’s strength in the ERP services is in the manufacturing, retail and gaming verticals. Also, the company is gaining traction in Business Intelligence/Data Interpretation areas, while competitors like Satyam have not been able to do so. Zensar does retail solutions from Oracle, which is not done by Satyam, but done on a small scale by TCS. Zensar ERP is strong in the US (West and East coasts in that order), with only a small headway made in the UK.

Management explained that good licence sales by SAP/Oracle do not necessarily mean increased revenues for services companies like Zensar, as there is a dependency on which service provider would get the implementation work.

Hoping for Thought Digital break even this quarter Speaking on the progress of Thought Digital (TD) (an acquired US-based Oracle consulting company), Zensar management explained that recently two new offshore projects have been started in this subsidiary. Management expects TD to deliver US$28 mn in revenues this year (the revenue run rate at the time of acquisition was US$27 mn per year).

Management is expecting Thought Digital to break-even this quarter, and post 8-10% net margins post that.

Other notable points ■ The key focus areas for management currently are: 1) the retail vertical – where the

customers are facing a difficult business environment and Zensar is looking to help with end-to-end solutions, 2) the insurance vertical and 3) infrastructure management.

■ Zensar is looking out for an acquisition in Germany, in order to get a foothold in the country.

■ The company recently won a BPO deal from Kotak Mahindra bank in India. Zensar is aiming for a headcount of 1,500-2,000 people in BPO from the current 700.

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Companies Mentioned (Price as of 26 Sep 08) 3i Infotech (III IN, Rs75) Aztecsoft Ltd (AZTEC IN, Rs45) Bharti Airtel Ltd (BRTI.BO, Rs776.30, OUTPERFORM, TP Rs950.00, MARKET WEIGHT) Firstsource Solutions Ltd (FSOL IN, Rs32) Geometric Ltd (GEO IN, Rs46) HCL Technologies (HCLT.BO, Rs212.95, UNDERPERFORM, TP Rs190.00, MARKET WEIGHT) Hexaware Technologies (HEXT.BO, Rs30.35) Infosys Technologies Ltd. (INFY.BO, Rs1448.10, NEUTRAL, TP Rs1800.00, MARKET WEIGHT) Infotech Enterprises Ltd (INFTC IN, Rs210) International Business Machines (IBM, $119.42, NEUTRAL, TP $120.00) KPIT Cummins Infosystems Ltd (KPIT IN, Rs39) Mastek (MAST.BO, Rs320.60) Mindtree Ltd (MINT.BO, Rs309.95, UNDERPERFORM, TP Rs310.00, MARKET WEIGHT) Mphasis Ltd (MBFL.BO, Rs186.25) NIIT Technologies (NITEC IN, Rs93) Nucleus Software Solutions (NCS IN, Rs118) Oracle Corporation (ORCL, $20.62, NEUTRAL, TP $22.00) Patni Computers (PATNI IN, Rs184) Polaris Software (POLS.BO, Rs69.05) Prithvi Information Solutions (PRIS IN, Rs86) Rolta India Ltd (ROLT.BO, Rs263.55) Sasken Communication Technologies (SACT IN, Rs128) Satyam Computer (SATY.BO, Rs321.95, UNDERPERFORM, TP Rs340.00, MARKET WEIGHT) Sonata Software (SSOF IN, Rs22) Subex (SUBX IN, Rs78) Tata Consultancy Services (TCS.BO, Rs670.00, UNDERPERFORM, TP Rs750.00, MARKET WEIGHT) Tech Mahindra Limited (TEML.BO, Rs625.15, UNDERPERFORM [V], TP Rs610.00, MARKET WEIGHT) Vodafone Group (VOD.L, 126.00 p, NEUTRAL, TP 160.00 p, OVERWEIGHT) Wipro Ltd. (WIPR.BO, Rs343.75, UNDERPERFORM, TP Rs360.00, MARKET WEIGHT) WNS Global Services (WNS.N, $10.55, OUTPERFORM, TP $23.00) Zensar Technologies (ICIM IN, Rs115)

Disclosure Appendix

Important Global Disclosures I, Bhuvnesh Singh, certify that (1) the views expressed in this report accurately reflect my personal views about all of the subject companies and securities and (2) no part of my compensation was, is or will be directly or indirectly related to the specific recommendations or views expressed in this report.

See the Companies Mentioned section for full company names. 3-Year Price, Target Price and Rating Change History Chart for INFY.BO INFY.BO Closing

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Initiation/ Date (INR) (INR) Rating Assumption 12-Oct-05 1,341.95 1250 12-Jan-06 1,417.5 1400 18-Apr-06 1,667.65 1550 1-Jun-06 1,414.62 1750 O 13-Jul-06 1,680.25 1875 12-Oct-06 2,021.05 2300 26-Feb-07 2,217.1 2675 4-Jun-07 1,916.45 2300 14-Jan-08 1,530.2 1950 23-Jun-08 1,846.85 2150 14-Jul-08 1556 2050 24-Sep-08 1,529.5 1800 N

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Initiation/ Date (INR) (INR) Rating Assumption 13-Jan-06 825.525 875 3-Mar-06 857.15 N 19-Jul-06 879.05 900 17-Oct-06 1,113.9 1140 16-Jan-07 1,327.85 1200 26-Feb-07 1,282.8 1400 4-Jun-07 1,208.75 1275 17-Jan-08 922.65 1050 23-Jun-08 859.05 1100 25-Jun-08 877.75 O 7-Jul-08 850 1075 17-Jul-08 782 975 24-Sep-08 722.75 750 U

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See the Companies Mentioned section for full company names. Price Target: (12 months) for (INFY.BO) Method: Our target price of Rs1,800 for Infosys is based on discounted cash flow (DCF) method. We assume a 21% near-term growth rate, 16% medium-term growth and 3% terminal growth. We use a weighted average cost of capital (WACC) of 14.2% to arrive at our target price. Risks: Risks to our Rs1,800 target price for Infosys Technologies include: 1) a weaker economic environment in the US leading to slower IT services spending; 2) stronger competition by global vendors in the offshore arena; 3) large clients of the company shifting a greater proportion of their work to their in-house centres; 4) greater-than-expected wage inflation; and 5) adverse currency movements. Price Target: (12 months) for (SATY.BO) Method: Our target price of Rs340 for Satyam is based on discounted cash flow (DCF) method. We assume a 26% near-term growth rate, 14% medium-term growth and 3% terminal growth. We use a weighted average cost of capital (WACC) of 14.5% to arrive at our target price. Risks: Key risks to our target price for Satyam of Rs340 include strength in the US economy, which could lead to higher revenue growth. Also, the ability of the company to win large contracts could lead to longer-term strength in growth. The performance of its subsidiaries could remain improve faster, leading to earnings per share (EPS) coming above our estimates. Price Target: (12 months) for (TCS.BO) Method: Our target price of Rs750 for Tata Consultancy is based on a discounted cash flow (DCF) method. We assume 20% near term growth rate, 16% medium term growth and 3% terminal growth. We use a weighted average cost of capital (WACC) of 14.5% to arrive at our target price. Risks: Potential risks to our target price of Rs750 for Tata Consultancy include the integration of acquisitions, which could lead to revenue or margin slip-ups, and a slowdown in the US economy, which could lead to a slowdown in revenues. Price Target: (12 months) for (WIPR.BO) Method: Our target price of Rs360 for Wipro is based on discounted cash flow (DCF) method. We assume a 20% near-term growth rate, 15% medium-term growth and 3% terminal growth. We use a weighted average cost of capital (WACC) of 14.5% to arrive at our target price. Risks: Risks to our Rs360 target price for Wipro include: 1) a stronger economic environment in the US leading to stronger IT services spending, 2) weaker competition by global vendors in the offshore arena, 3) lower-than-expected wage inflation and 4) favourable currency movements.

See the Companies Mentioned section for full company names. The subject company (INFY.BO, SATY.BO, WIPR.BO) currently is, or was during the 12-month period preceding the date of distribution of this report, a client of Credit Suisse. Credit Suisse provided investment banking services to the subject company (INFY.BO, SATY.BO, WIPR.BO) within the past 12 months.

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119

ENAM Securities India Research

IT Sector SEC

TOR

UP

DA

TE

ENAM Research is available on Bloomberg (ENAM <Go>), Reuters.com and Firstcall.com 26 September 2008

BSE IT Sector index vs. BSE Sensex

6080

100120140160

Jul-07 Jan-08 Jul-08

BSE IT Sector indexSensex

Source: Bloomberg, ENAM Research

Relative Price Performance 1m 3m 12m Infosys (4) (11) (11) TCS (6) (11) (25) Wipro (11) (21) (16) Satyam (9) (22) (16) HCL Tech 2 (16) (19) Tech Mahindra (14) (13) (49) Patni (13) (16) (57) Infotech Ent 10 (1) (20) NIIT Tech (15) (27) (72) Hexaware (29) (39) (72) KPIT Cummins (25) (32) (62) Sasken (14) (21) (64)

Source: Bloomberg, ENAM Research

DERATING INEVITABLE ! 4 questions we asked ourselves in this review 1. How much of volume growth is at risk?: CY09 IT spends (esp

BFSI & Retail) would reduce drastically; Among service offerings, Indian IT industry is dependent on application development & maintenance and package implementation (PI), of which application development & PI are the very offerings most at risk in a slowdown.

2. How much of pricing is at risk?: Move to fixed-price contracts, volume discounts, large deals & commoditization of ADM. While INR has been sweetly depreciating currently, INR’s 12 month outlook may not be so happy for Indian IT vendors.

3. How contributory are inorganic initiatives?: Acquisitions have mainly been in newer businesses of lower margin & thus seem to be more of a cash-utilisation/ mkt-share-buying strategy, since even with these acquisitions, no Indian co. would reach a sizable % of IT spend of any of their top 10 clients where such aggregate offerings would lead to greater bargaining power in a reasonable time-period.

4. Is incremental RoE deteriorating?: Apart from the above points, increased wages and SG&A, and increasing high-cost near-shore centres would depress RoE.

We have analysed IT-spend patterns of top US/ Euro banks, done sensitivity analysis for other key verticals and detailed some of the above parameters .

Accordingly, we have derated P/Es for the entire sector without changing EPS forecasts at present, which we shall be reviewing shortly. Our INR forecast is at 42.6/ 41.2 for avg of FY09/ FY10 – rationale for such appreciation is provided; note that EPS increases 1.2% to 1.5% per 1% INR depreciation.

Financial summary CMP M.Cap RoE(%) P/E (x) EV/EBITDA (x) Earlier Revised % Rel. to

(Rs.) (USD bn) FY09E FY09E FY10E FY09E FY10E TP (Rs) TP (Rs) upside Sector

Infosys 1448 17.80 35 15 12 11 9 1,921 1,765 22 OP

TCS 676 14.22 40 12 10 8 7 914 823 22 OP

Wipro 344 10.80 25 14 11 11 8 403 363 6 U

Satyam 322 4.66 27 10 8 6 5 423 351 9 N

HCL Tech 213 3.06 27 10 8 6 5 254 224 5 U

Tech Mahindra 625 1.63 64 8 7 6 5 750 682 9 N

Patni 185 0.55 15 6 6 1 - 240 211 14 N

Source: Company, ENAM estimates, Note: All recommendations are relative to sector.

Analyst: Priya Rohira Email: [email protected] Tel: 9122 6754 7611

Atika Shah Email: [email protected]

Kshitij Shah Email: [email protected]

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IT Sector

SEPTEMBER 2008 ENAM Securities 2

Top 4 questions we asked ourselves before this derating 1. How much of volume growth is at risk? CY09 IT spend: The credit crisis is of a far higher magnitude v/s subprime crisis. While the subprime crisis in Aug 2007 delayed CY08 IT budgets to Q2CY08, the budgeting cycle for CY09 IT spend will be pushed beyond Q2CY09. Note that around 55-62% of the Indian IT exports are to the US.

The service offerings that may experience low or delayed spend are New Application Development, Consulting, Testing Services and Infrastructure Management Services.

Service offerings: an evaluation BFSI Retail Telecoms Manufacturing

Application Development ? O

Application Maintenance

BPO/BPM ? ?

Consulting ? ? ? O

Package Implementation

Infra. Management Services ? ?

Testing Services ? O

Products O ? ?

Source: ENAM Research, Must - , Opportunities - O, Question-mark - ?, Problem Area-

Volumes: The debacle in core verticals of BFSI/ Retail (~30-52% of revenues) has led to an uncertainty (refer page 6 for an analysis on Top US/Europe BFSI clients). With a contracting IT spend, Indian vendors with just ~4-5% market share are unlikely to grab a higher market share v/s key competitors (IBM, Accenture) which now have creditable Indian offshore centres. Thus, existing utilization rates may further decline, in turn impacting margins.

2. How much of pricing is at risk? Pricing: Indian vendors are increasingly moving to fixed-price models which link billing rates to usage metrics & buyers demanding more value for money spent on software services. This delinks revenue from net employee additions alone, thus increasing bench-risk and uncertainty.

Pricing is also at risk with Indian vendors increasingly targeting large deals to meet their 25%+ volume growth aspirations. Further, volume discounts from Top 25 clients may add to pricing risk.

Even in the core Application Development & Maintenance (ADM) segment (~60% of revenues), where Indian vendors corner a sizeable market share of ~35% (value) & ~50% (volume), bargaining power has reduced as ADM is getting increasingly commoditised. Additionally, MNC competition from IBM, Accenture and HP (with EDS acquisition) has become intense in ADM segment.

Thus, the implied 2-3% YoY increase in pricing expected in FY09 (from the uptrend observed in FY07 & FY08) now cannot be taken sacrosanct.

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IT Sector


Currency : We believe the INR depreciation is overdone as : we expect capital flows (FDI, PE et) to resume given India’s relative

growth & fundamentals US concerns to subside

Topline growth concerns, a double-edge sword Indian vendors have exposure to ~30-52% of revenues from the troublesome BFSI/ Retail verticals. This would not only impact volume growth & pricing, but could lead to higher bench and debt write-offs. For eg, a 2-3% exposure to a bust client can impact PAT by 4-5%. Thus, YoY growth rates have the potential to fall from ~20-25% to ~15-16%.

Companies: % exposure to verticals Q1FY09 BFSI Retail Others

Infosys 35 12 53

TCS 43 9 49

Wipro 25 16 59

Satyam 21 10 68

HCL Tech 27 9 64

Tech Mahindra - - 100

Patni 36 - 64

NIIT Tech 42 - 58

Hexaware 40 - 60

KPIT Cummins 6 - 94

Source: Company Data, ENAM Research

3. How contributory are inorganic initiatives? Indian vendors are unlikely to benefit from aggressive niche acquisitions as: a) past experience shows that returns take longer to materialize and may not

yield expected results eg Wipro, as observed below has seen a pressure on its RoCE post acquisitions

Wipro Global IT : Returns declining after acquisitions

8

10

12

14

16

18

Q1F

Y07

Q2F

Y07

Q3F

Y07

Q4F

Y07

Q1F

Y08

Q2F

Y08

Q3F

Y08

Q4F

Y08

Q1F

Y09

(%)

Source: Company data, Returns represents Operating Income / Capital employed

b) these niche acquisitions are low margin businesses, unlikely to increase RoE in the long term

122

IT Sector


c) the development leads to cash utilization but has not resulted in RoE improvement

d) acquisitions doesn’t lead to increase in material market share among Top 10 clients in the long run

4. Is incremental RoE deteriorating? The growth in cost of carrying out business > topline growth due to the following reasons (besides volume, price, acquisition, currency):

Wage inflation, increasing SG&A, investment in low-margin near-shore development centres and recruitment of locals will all lead to less operating leverage even when demand scenario turns favourable.

Companies: P/Es to decline as “ RoE – WACC” declines

0

10

20

30

40

50

FY03

FY04

FY05

FY06

FY07

FY08

FY09

FY10

(%)

RoE WACC

0

20

40

60

80

100

120

FY04

FY05

FY06

FY07

FY08

FY09

FY10

(%)

RoE WACC

05

101520253035

FY03

FY04

FY05

FY06

FY07

FY08

FY09

FY10

(%)

RoE WACC

0

5

10

15

20

25

30

FY03

FY04

FY05

FY06

FY07

FY08

FY09

FY10

(%)

RoE WACC

05

10152025303540

FY03

FY04

FY05

FY06

FY07

FY08

FY09

FY10

(%)

RoE WACC

0

20

40

60

80

100FY

03

FY04

FY05

FY06

FY07

FY08

FY09

FY10

(%)

RoE WACC

Source: Company data, ENAM Securities

Infosys TCS Wipro

Satyam HCLT TECHM

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IT Sector


Short-term Outlook Q2FY09 results to dominate near-term outlook: trend downwards Q2FY09 result season would highlight the likely gravity of the problem.

Implied QoQ growth in FY09 at risk: Consensus estimates imply a 4-8% QoQ growth in Q2/ Q3/ Q4 (Top 4 vendors) in FY09. These estimates could decline post Q2FY09 results in USD terms. The amount of capital raised worldwide by banks/ financial institutions

increased from USD 55bn in Q2CY08 to USD 370bn in Q3CY08 (Q1CY08 – USD 172bn). Thus, the performance of the BFSI vertical could disappoint. Given the above mentioned developments the expectation of a >5%

QoQ volume growth may meet with disappointment. To attain a consolidated topline growth of 6% to 10% in Q2FY09, non-BFSI/ Retail verticals would have to grow at a high rate of ~6% to 15% QoQ

Cross-currency movements would curtail the upside from INR depreciation in Q2FY09 which has been a saviour till date

We believe that recruitments may go as planned, but the employee additions need not lead to topline growth. The key indicator to focus on would be billed hours.

Sensitivity analysis : Implied growth rate for non-BFSI verticals Revenues - Q1FY09 Q2-FY09 QoQ gwth

BFSI/

Retail Others Total

BFSI

/Retail Others Total

BFSI


BFSI


(Rs mn) Assumed Implied Req. Assumed Implied Req. Assumed Implied Req.

Infosys 22,668 25,872 48,540 3% 8.6% 6% 4% 11.5% 8% 5% 14.4% 10%

TCS 31,321 29,974 61,295 3% 9.1% 6% 4% 12.2% 8% 5% 15.2% 10%

Wipro 20,916 29,974 50,890 3% 8.1% 6% 4% 10.8% 8% 5% 13.5% 10%

Satyam 8,046 17,223 25,269 3% 7.4% 6% 4% 9.9% 8% 5% 12.3% 10%

HCL Tech 7,808 13,880 21,688 3% 7.7% 6% 4% 10.3% 8% 5% 12.8% 10%

Tech Mahindra - 11,164 11,164 3% 6.0% 6% 4% 8.0% 8% 5% 10.0% 10%

Patni 2,829 5,008 7,837 3% 7.7% 6% 4% 10.3% 8% 5% 12.8% 10%

Infotech Ent - 2,006 2,006 3% 6.0% 6% 4% 8.0% 8% 5% 10.0% 10%

Hexaware 1,141 1,704 2,845 3% 8.0% 6% 4% 10.7% 8% 5% 13.3% 10%

KPIT 104 1,633 1,737 3% 6.2% 6% 4% 8.3% 8% 5% 10.3% 10%

Sasken - 1,681 1,681 3% 6.0% 6% 4% 8.0% 8% 5% 10.0% 10%

NIIT Tech 1,032 1,426 2,458 3% 8.2% 6% 4% 10.9% 8% 5% 13.6% 10%

Source: Company data, ENAM Research

124

IT Sector


APPENDIX: TOP US/ EUROPEAN BANKS We undertook the analysis of technology spend by some key 10-15 US and European banks for the past 6 quarters, some of which are clients of the Indian vendors. Our key findings: Aggregate H2CY08 IT spend can be lower than H1CY07 IT spend for these

banks The CY08 IT spend will be equal to that of CY07 only if the spend grew by

~7.6% YoY Certain banks lowered their IT spend in Q2CY08 v/s Q1CY08

Analysis : Tech spend by key US / Europe banks

US Europe

4,000

4,500

5,000

5,500

6,000

Mar

-07

Jun-

07

Sep-

07

Dec

-07

Mar

-08

Jun-

08

(USD mn)

0

2

4

6

8

10(%)

Absolute IT Spend IT Spend as % of NII

1,800

1,900

2,000

2,100

2,200

2,300

Mar

-07

Jun-

07

Sep-

07

Dec

-07

Mar

-08

Jun-

08

(USD mn)

0

2

4

6

8(%)

Absolute IT Spend IT Spend as a % of NII

IT spend in H2CY08 may be lower than H1Only at >7% spend YoY in CY08 would H2 be better than H1 Hence market expectations could be disappointed


11.2 9.5 9.9 10.6 11.4

11.610.3

0

5

10

15

20

25

30

CY07A CY08A -2% 0% 3% 7%

(USD bn)

H1 H2

Est. H2CY08 IT spend in US

4.3 3.8 4.0 4.3 4.6

4.23.9

0

3

6

9

12

CY07A CY08A -2% 0% 3% 7%

(USD bn)

H1 H2

Est. H2CY08 IT spend in Europe

Expected YoY IT Spend Expected YoY IT Spend

US Europe

4,000

4,500

5,000

5,500

6,000

Mar

-07

Jun-

07

Sep-

07

Dec

-07

Mar

-08

Jun-

08

(USD mn)

0

2

4

6

8

10(%)

Absolute IT Spend IT Spend as % of NII

1,800

1,900

2,000

2,100

2,200

2,300

Mar

-07

Jun-

07

Sep-

07

Dec

-07

Mar

-08

Jun-

08

(USD mn)

0

2

4

6

8(%)

Absolute IT Spend IT Spend as a % of NII



11.2 9.5 9.9 10.6 11.4

11.610.3

0

5

10

15

20

25

30

CY07A CY08A -2% 0% 3% 7%

(USD bn)

H1 H2

Est. H2CY08 IT spend in US

4.3 3.8 4.0 4.3 4.6

4.23.9

0

3

6

9

12

CY07A CY08A -2% 0% 3% 7%

(USD bn)

H1 H2

Est. H2CY08 IT spend in Europe

Expected YoY IT Spend Expected YoY IT Spend

Source: SEC filings for various companies Note : Revenues = Net Interest Income

IT Spend is only from Consolidated Statement of Income. Excludes Balance Sheet Items

IT Spend = Equipment / Telecommunications / Technology/Data Processing / Communication & supplies

125

IT Sector


Sample Case Study

100

92

99

92

OriginalTarget

PricingDecline

INRSensitivity

Revisedtarget P/E

PricingVol.YoY grwth1 USD/INRTarget P/E

Flat25%40.519100

-1%17%43.01992

-1%17%46.01999

-1%17%46.01792

8% Vol

1% Pricing

Re@46Target P/e 17

PricingVol.YoY grwth1 USD/INRTarget P/EMkt Price

100

92

99

92

OriginalTarget

PricingDecline

INRSensitivity

Revisedtarget P/E

PricingVol.YoY grwth1 USD/INRTarget P/E

Flat25%40.519100

-1%17%43.01992

-1%17%46.01999

-1%17%46.01792

8% Vol

1% Pricing

Re@46Target P/e 17

PricingVol.YoY grwth1 USD/INRTarget P/EMkt Price

Sources: ENAM Research

126

IT Sector


ENAM Securities Pvt Ltd. 109-112, Dalamal Tower, Free Press Journal Marg, Nariman Point, Mumbai - 400 021, India.

Tel:- Board +91-22 6754 7500; Dealing +91-22 2280 0167 Fax:- Research +91-22 6754 7579; Dealing +91-22 6754 7575

CONFLICT OF INTEREST DISCLOSURE STATEMENT We, at ENAM, are committed to providing the most honest and transparen2t advice to our clients. However, given the nature of the capital markets, from time to time we are faced with situations that could give rise to potential conflict of interest. In order to provide complete transparency to our clients, before we make any recommendations, we are committed to making a disclosure of our interest and any potential conflict IN ADVANCE so that the interests of our clients are safe- guarded at all times. In light of this policy, we have instituted what we believe to be the most comprehensive disclosure policy among leading investment banks/brokerages in the world so that our clients may make an informed judgment about our recommendations. The following disclosures are intended to keep you informed before you make any decision- in addition, we will be happy to provide information in response to specific queries that our clients may seek from us.

Disclosure of interest statement (As of 15 September 2008) TCS Infosys Wipro Satyam TECHM HCLT Patni Hexaware NIIT Tech KPIT Sasken Infotech 1. Analyst ownership of the stock No No No No No No No No No No No No 2. Firm ownership of the stock No No No No No No No No No No No No 3. Directors ownership of the stock Yes Yes No Yes No No No No Yes Yes Yes No 4. Investment Banking mandate No No No No No No No No No No No No 5. Broking relationship No No No No No No No No No No No No

We are committed to providing completely independent and transparent recommendations to help our clients reach a better decision.

This document is provided for assistance only and is not intended to be and must not alone be taken as the basis for an investment decision. Nothing in this document should be construed as investment or financial advice, and nothing in this document should be construed as an advice to buy or sell or solicitation to buy or sell the securities of companies referred to in this document. The intent of this document is not in recommendary nature

Each recipient of this document should make such investigations as it deems necessary to arrive at an independent evaluation of an investment in the securities of companies referred to in this document (including the merits and risks involved), and should consult its own advisors to determine the merits and risks of such an investment. The investment discussed or views expressed may not be suitable for all investors

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The Disclosures of Interest Statement incorporated in this document is provided solely to enhance the transparency and should not be treated as endorsement of the views expressed in the report. This information is subject to change without any prior notice. The Company reserves the right to make modifications and alternations to this statement as may be required from time to time without any prior approval

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127

DISCLOSURE APPENDIX CONTAINS ANALYST CERTIFICATIONS AND THE STATUS OF NON-US ANALYSTS. FOR OTHER IMPORTANT DISCLOSURES, visit www.credit-suisse.com/ researchdisclosures or call +1 (877) 291-2683. U.S. Disclosure: Credit Suisse does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that the Firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision. Customers of Credit Suisse in the United States can receive independent, third party research on the company or companies covered in this report, at no cost to them, where such research is available. Customers can access this independent research at www.credit-suisse.com/ir or call 1 877 291 2683 or email [email protected] to request a copy of this research.


Software & Services (IT Services) / MARKET WEIGHT

India IT Services Sector SECTOR REVIEW

The straw that broke the camel's back ■ We believe that a majority of Indian IT companies are likely to miss

their FY3/09E revenue guidance (USD-based). While currency movements could be one reason, the key reason for the miss could be a weakening macro environment and hence a reducing buffer for Indian IT companies to make their full-year numbers. We thus reduce our estimates for all companies under our coverage, taking Infosys’s and Satyam’s numbers down to the low end of management guidance, with further downside risk to our numbers. We also downgrade TCS and Mindtree to UNDERPERFORM, and Infosys to NEUTRAL, and now have no positive rating in the sector.

■ With significant dislocations in the financial markets over the past few months, the impact should percolate down to the main street. Our US economists believe that the recovery will be more U-shaped and do not anticipate the aggregate economy reaching a satisfactory performance until 2H09. We believe that this should lead to an elongated period of slowdown for Indian IT companies.

■ Weak and deteriorating revenue growth for customers, pressure on billing rates and elongated decision cycles are already impacting Indian IT companies. Company management teams are accepting weak visibility and slashing their hiring forecasts. On the other hand, guidance still points to a second half optimism that may disappoint.

■ While companies are able to pull forward some growth, a prolonged slowdown would negatively impact numbers. For IT services companies, we are reducing our EPS estimates for FY3/09 by 0-7% and for FY3/10 by 4-7%. We believe that if the economy worsens further, our numbers could face more downward pressure. We are reducing our ratings on TCS and Mindtree to UNDERPERFORM and Infosys to NEUTRAL.

Figure 1: Summary changes and valuations Cur Mkt Target

price cap Rating price % P/E (x) EV/EBITDA (x) EV/sales (x)

Company Ticker Rs US$ mn Old New Old New upside FY08 FY09 FY10 FY08 FY09 FY10 FY08 FY09 FY10

Infosys Technologies INFY.BO 1,566 18,992 O N 2050 1,800 14.9 19.3 15.7 14.0 15.4 12.0 10.1 4.8 3.8 3.1

Tata Consultancy TCS.BO 749 15,616 O U 975 750 0.0 14.6 12.6 11.2 12.3 10.3 8.9 3.2 2.6 2.2

Wipro WIPR.BO 392 12,098 U U 400 360 -8.1 17.6 15.0 13.1 14.1 11.4 10.1 2.8 2.2 1.9

Satyam Computer SATY.BO 384 5,351 U U 425 340 -11.4 15.2 12.0 11.1 11.3 8.5 7.9 2.5 1.9 1.6

HCL Technologies HCLT.BO 234 3,321 U U 235 190 -18.9 13.9 10.5 9.9 8.1 6.9 6.3 1.8 1.4 1.2

MindTree MINT.BO 381 318 O U 450 310 -18.5 14.3 15.4 9.9 10.8 7.0 6.3 1.9 1.4 1.2

Tech Mahindra TEML.BO 658 1,699 U U 725 610 -7.3 10.4 8.9 8.6 9.6 7.4 6.9 2.1 1.7 1.5

Oracle Financial IFLX.NS 928 1,701 U U 1450 800 -13.8% 18.7 17.0 16.5 14.6 14.3 12.2 2.9 2.5 2.1


Research Analysts

Bhuvnesh Singh 65 6212 3006

[email protected]

Sunil Tirumalai 9122 6777 3714

[email protected]

Vikramaditya Narendra 91 22 6777 3943

[email protected]

128

24 September 2008

India IT Services Sector 2

Focus charts Figure 2: Companies are still implying strong QoQ growth

in their guidance

Figure 3: Number of companies showing

increase/decrease in headcount

5.3%2.8-5.5%4.0-5.2%

5-6.6%5.2-7.3%

8%7-9.1%5.9-10.5%

10.3-11.6%

2%

4%

6%

8%

10%

12%

Mas

tek

Hexa

ware

Info

tech

Sask

en

Zens

ar

KPIT

Azte

c

Cogn

izant

Info

sys

Saty

am

Min

dTre

e

4.6-5.9%

5-12%

0

5

10

15

20

Jun-03 Dec-03 Jun-04 Dec-04 Jun-05 Dec-05 Jun-06 Dec-06 Jun-07 Dec-07 Jun-08

-10%

0%

10%

20%

30%

40%

Increase in headcount Decrease in headcount % companies with decrease in headcount

Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates

Figure 4: US GDP has two further quarters of slowdown Figure 5: European GDP forecasts continue to come

down

0.9%

3.3%

1.7%

0.2%

1.5%1.7%

2.1%2.3%

0.0%

0.5%

1.0%

1.5%

2.0%

2.5%

3.0%

3.5%

Mar-08 Jun-08 Sep-08 Dec-08 Mar-09 Jun-09 Sep-09 Dec-09

1.81.5

1.3

1.8

1.31.5 1.5

1.00.8

NA 0

1

2

3

12M ago 9M ago 6M ago 3M ago Current

2008 2009

% yoy

Source: Credit Suisse estimates Source: Company data, Credit Suisse estimates

Figure 6: Easing wage inflation for IT professionals in the

US implies lower pricing power for Indian companies

Figure 7: Infosys – guidance has never been back ended

-2

0

2

4

6

8

1 0

S e p -9 7 S e p -9 9 S e p -0 1 S e p -0 3 S e p -0 5 S e p -0 7

%

-5%

0%

5%

10%

15%

20%

FY02 FY03 FY04 FY05 FY06 FY07 FY08

Actual qoq growth in 1H Guidance implied qoq growth in 2H


129

24 September 2008


The straw that broke the camel’s back We believe that more than half of the 11 Indian IT companies that provide full-year revenue guidance run the risk of missing their numbers (in US dollars) this year. While Indian IT companies usually keep a significant buffer while guiding to full-year numbers, significant macro dislocations could lead to lower-than-expected revenues. Furthermore, FY3/10 could face the full impact of the slowdown and hence could see even lower revenue growth and stronger margin pressures.

We are thus reducing our earnings estimates for all IT companies under our coverage, with risks to the downside. Our new estimates are now at the lower end of guidance for Infosys and Satyam and below guidance for Mindtree. We are downgrading TCS and Mindtree to UNDERPERFORM and Infosys to NEUTRAL. Among the large caps, we believe that HCL Tech provides the highest downside, followed by Wipro and Satyam, and then TCS.

Global environment has significantly worsened With significant dislocations in the financial markets over the past few months, the impact should percolate down to the main street. Our US economists believe that the recovery would be more U-shaped and do not anticipate the aggregate economy reaching a satisfactory performance until the second half of 2009, at the earliest. Our global strategy team also believes that there could be 15% further downside to US earnings and 25% downside to European earnings, if we assume this to be a normal cycle.

We believe that the first reaction of customers to this slowdown would be to reduce all IT spending, including spending on offshore outsourcing. This should lead to an elongated period of slowdown for Indian IT companies.

Indicators for Indian IT are flashing red Indicators on demand are showing clear pressure – customers are facing pressure on revenues and this is leading to elongated decision cycles; there is pressure on billing rates and Indian IT companies are slashing their hiring forecasts. Despite this, companies’ formal guidance is implying a second half revival, which could fail to materialise.

Weakness in the euro and the UK pound (relative to the US dollar) is also putting pressure on estimates. While in a normal year, companies could have easily absorbed this impact due to their conservative guidance, the current macro environment has not left them with enough leeway, in our view. This could result in a revenue guidance miss (in US dollar terms) by the majority of the 11 Indian IT companies that provide full-year guidance.

Reducing estimates across the board Of the 11 Indian IT companies that give full-year guidance, nine are implying strong 5%+ QoQ growth for the remaining quarters of the year. On the other hand, historically companies have given more front-loaded guidance. We believe that the confession season has started and guidance could be tested going forward.

We are reducing our FY3/09 EPS estimates for companies by 0-15% and FY3/10 EPS estimates by 4-25%. Our new numbers are now closer to the lower end of guidance for Infosys and Satyam. A further weakening in the macro environment could lead to more downside to our numbers. We also reduce our target prices across the board and downgrade TCS and Mindtree to UNDERPERFORM and Infosys to NEUTRAL.

Currency remains a big risk to our thesis. If the rupee depreciates further, companies could have some leeway in their EPS numbers. However, we believe that the market will closely focus on the revenue (US dollar terms) and volume growth of the companies that are not impacted by currency.

We are reducing our earnings estimates for all IT companies under our coverage

Currency remains a big risk to our thesis

130

24 September 2008


Sector valuation Figure 8: Global IT valuation summary CMP TP EPS growth

loc. Mkt cap loc. (US$) (%) P/E EV/EBITDA EV/sales

Company name Ticker cur US$ mn Rating cur 2007 2008 2007 2008 2007 2008 2007 2008

Indian IT Services

Infosys INFY.BO 1,566 20,389 N 1,800 36 15 19.3 15.7 18.4 15.4 8.8 5.8

Wipro Ltd WIPR.BO 392 13,214 U 360 22 10 17.6 15.0 16.5 14.1 9.0 3.7

TCS TCS.BO 749 16,489 U 750 37 8 14.6 12.6 14.4 12.3 7.7 3.9

Satyam Computer SATY.BO 384 5,080 U 340 33 18 15.2 12.0 13.5 11.3 7.0 3.2

HCL Technologies HCLT.BO 234 3,394 U 190 -11 24 13.9 10.5 9.7 8.1 5.8 2.2

Oracle Financial IFLX.BO 928 1,711 U 800 21 3 18.7 17.0 15.4 14.6 10.5 3.3

Tech Mahindra TEML.BO 658 1,662 U 610 40 9 10.4 8.9 10.7 9.6 6.3 2.7

Mindtree Ltd MINT.BO 381 287 U 310 11 -13 14.3 15.4 12.4 10.8 5.7 2.3

Offshore IT Services

Cognizant CTSH 25.3 7,378 O 44 49 25 22.0 17.6 15.6 12.0 3.2 2.4

Syntel SYNT 26.5 1,094 N 35 28 19 17.4 14.7 12.7 9.3 2.8 2.2

Infosys ADR INFY 36.4 20,711 36 17 17.9 15.3 14.2 11.7 4.5 3.7

Wipro ADR WIT 11.4 16,587 22 10 20.6 18.8 35.5 28.4 12.7 8.9

Satyam ADR SAY 18.2 5,958 33 18 14.4 12.2 24.8 18.1 8.6 6.1

Offshore BPO

WNS WNS.N 11.0 464 O 23 -10 -56 18.8 42.4 8.8 8.6 1.3 0.9

ExlService. EXLS 8.9 260 N 15 44 -21 10.5 13.4 5.4 4.9 0.8 0.7

Genpact G 11.8 2,574 O 20 0 91 42.9 22.4 13.0 10.5 2.8 2.2

European IT services

Atos Origin ATOS.PA 31 3,308 U 33 32 17 14.4 12.3 5.3 5.0 0.5 0.5

Capgemini CAPP.PA 35 7,642 O 49 29 22 13.9 11.3 5.4 4.7 0.5 0.5

Computacenter CCC.L 120 356 O 200 36 -13 6.1 6.9 3.1 3.2 0.1 0.1

Misys MSY.L 133 1,245 N 190 -14 5 9.9 9.4 6.7 6.7 1.2 1.2

Indra IDR.MC 17 4,084 O 19 27 28 18.9 14.8 10.8 9.8 1.4 1.2

Logica LOG.L 123 3,331 U 90 -2 2 11.3 11.1 9.0 8.3 0.7 0.7

Tietoenator TIE1V.HE 11 1,220 N 16 -123 -231 -18.5 14.1 8.2 4.8 0.6 0.5

US IT services

Accenture Ltd ACN 37.1 30,265 O 48 34 9 14.1 12.9 7.8 7.1 1.1 1.0

Affiliated Computer Services Inc. ACS 51.1 4,996 O 61 13 10 14.5 13.2 5.9 5.6 1.0 1.0

Computer Sciences Corp. CSC 41.7 6,394 N 50 -1 9 10.7 9.8 3.5 3.3 0.5 0.5

Electronic Data Systems EDS 25.0 13,279 N 25 74 -5 16.4 17.2 4.9 4.7 0.6 0.6

US BPO

Fidelity National Information Services FIS 19.0 3,702 N 21 -38 26 15.5 12.3 10.2 9.1 2.7 2.3

Fiserv, Inc. FISV 50.1 8,260 O 62 58 5 15.9 15.1 9.3 9.3 3.3 2.7

Global Payments, Inc. GPN 46.5 3,755 N 42 13 16 23.5 20.4 13.0 9.8 3.0 2.2

Jack Henry & Associates JKHY 20.6 1,819 N 19 3 6 17.7 16.7 7.8 7.6 2.3 2.1

Total System Services TSS 17.7 3,477 N 24 14 11 14.7 13.3 6.6 6.1 2.3 2.2

Note: 2007 column corresponds to YE Mar-08 for Indian companies


131

24 September 2008


Global environment has worsened significantly The dislocations in financial markets have had their impact on the broader economy too. Our US economist are now predicting a U-shaped recovery, with the bottom still couple of quarters away, while our European team has also cut GDP forecasts aggressively.

The first-cut impact for Indian IT companies would come due to their high exposure to financial services customers that are facing significant corporate action. Furthermore, our US strategists believe that de-leveraging of financials could lead to around US$5 tn in assets being sold (17% of US and Europe GDP). Thus, we should also brace for the second-level impact, which should come from other parts of the economy slowing down. We have already seen profit warnings from companies across sectors such as telecoms (Vodafone), electronics (Dell, Sony), retail (Wall Mart, Marks and Spencer) and autos (Daimler, BMW). This is a significant negative for the entire sector.

Weakening economic indicators/expectations We see a steady downward trend in GDP growth forecasts for the US and Europe for 2008 and 2009 (more so for the latter year). Furthermore, growth is expected to worsen over the next couple of quarters, with a recovery expected only from mid-2009.

Figure 9: Credit Suisse US GDP growth forecasts (% YoY) Figure 10: Credit Suisse Europe GDP growth estimates

movement

0.9%

3.3%

1.7%

0.2%

1.5%1.7%

2.1%2.3%

0.0%

0.5%

1.0%

1.5%

2.0%

2.5%

3.0%

3.5%

Mar-08 Jun-08 Sep-08 Dec-08 Mar-09 Jun-09 Sep-09 Dec-09

1.81.5

1.3

1.8

1.31.5 1.5

1.00.8

NA 0

1

2

3

12M ago 9M ago 6M ago 3M ago Current

2008 2009

% yoy


The US consumer confidence and PMI indices are at multi-year lows, indicating an already weakened economic situation in the US.

Figure 11: US Consumer Confidence Index Figure 12: US Purchasing Manager’s Index

50

60

70

80

90

100

110

120

93 95 97 99 01 03 05 07

35

40

45

50

55

60

65

Dec-98 Dec-99 Dec-00 Dec-01 Dec-02 Dec-03 Dec-04 Dec-05 Dec-06 Dec-07

-5%

0%

5%

10%

15%

20%

25%

30%

US PMI Infy qoq growth

Source: Bloomberg Source: Bloomberg

Dislocations in financial markets have had an impact on the broader economy

132

24 September 2008


Figure 13: US unemployment rate (quarter average) Figure 14: YoY growth in Europe retail sales is weak

3.0%

3.5%

4.0%

4.5%

5.0%

5.5%

6.0%

6.5%

Mar-00 Mar-01 Mar-02 Mar-03 Mar-04 Mar-05 Mar-06 Mar-07 Mar-08

-4-3-2-101234

Jan-06 Apr-06 Jul-06 Oct-06 Jan-07 Apr-07 Jul-07 Oct-07 Jan-08 Apr-08 Jul-08

Source: BLS, Credit Suisse estimates Source: Eurostat, Credit Suisse estimates

Economic indicators from Europe, such as falling retail sales volumes, give evidence of the weakness not being restricted to the US alone.

Significant change in the BFSI landscape in recent months (and weeks) Over the past few months, global financial institutions have written off more than US$500 bn. Starting with Northern Rock in the UK and Bear Stearns in the US, other institutions like Lehman (declared bankruptcy), Fannie Mae and Freddie Mac (nationalised), Merrill Lynch (merged with Bank of America), AIG (US$85 bn government loan with an 80% stake given to the government), IndyMac, HBOS and a few others have undergone significant corporate restructuring.

Figure 15: Proportion of revenues from BFSI vertical Figure 16: Worldwide write-offs due to the credit crisis

43%35%

27% 25%21%

0%

20%

40%

60%

TCS Infosys HCL Tech Wipro Satyam

55 52

44

2723 21

16

0

10

20

30

40

50

60

Citigroup MerrillLynch

UBS HSBC Wachovia Bank ofAmerica

MorganStanley

$ bn

Source: Company data, Credit Suisse estimates Source: Bloomberg, Credit Suisse estimates

In this context, high revenue exposure of Indian IT companies to banking and financial services becomes a big concern.

This should impact the real economy Our global equity strategist, Andrew Garthwaite, notes that the de-leveraging of the US and global bank balance sheets has hardly occurred. If banks’ leverage were to return to average levels, some US$5 tn of assets need to be sold (this equates to 17% of the GDP in Europe and the US). For details please refer to Global Equity Strategy: Asset Allocation – From bear market to range bound market, an update, published on 22 September 2008. This is one key reason for the weak and deteriorating economic forecasts by our economists.

Over the past few months, global financial institutions have written off more than US$500 bn

133

24 September 2008


Figure 17: If banks’ leverage were to return to average levels, some US$5 tn of assets

would need to be sold European and US banks

Tangible assets/tangible equity

Current (x) 33.5

10-yr average (x) 27.6

Total assets

Current (US$ tn) 31

If leverage falls to average levels (US$ tn) 26

Required asset reduction (US$ tn) 5

US and Europe GDP (US$ tn) 31

Required asset reduction (%) of GDP 17

Source: Credit Suisse estimates

We are already witnessing some of the initial impact on sectors such as telecoms, technology, retail, auto and logistics. Thus, Indian IT companies could face pressure from customers across industries, and not only in financial services.

Figure 18: Recent profit warnings issued across industries Company Comment

Vodafone Scaled down FY3/08 revenue guidance citing slowing economic growth

Dell Warned of weakness in global end-consumer demand in the US, UK, Western Europe and China

Sony Issued a profit warning, reducing FY3/09 profit estimates by 17%

Wal-Mart Warned of a weaker second half as consumers felt the pinch of a slowing economy

Marks & Spencer Issued a profit warning citing deepening consumer downturn

Daimler Cut full year profit guidance by 8% due to weakening economic conditions

FedEx Issued a profit warning due to continuing impact of fuel prices and a weak economy BMW Issued a profit warning citing a drop in US sales and rising costs of raw materials


The fact that the real economy is also facing the heat can be seen from consensus estimates on S&P500 12-month forward EPS growth, which is trending on the same path it did in the beginning of 2001.

Figure 19: S&P500 12-month forward EPS growth estimates

-20%

-10%

0%

10%

20%

30%

Jan-01 Jan-02 Jan-03 Jan-04 Jan-05 Jan-06 Jan-07 Jan-08

Source: Datastream, Credit Suisse estimates

134

24 September 2008


Indicators for Indian IT are flashing red With an overall weak macro environment, it is no surprise that key indicators for Indian IT companies are also pointing to a slowdown. We note that customers of Indian IT companies are facing a significant revenue slowdown. This is resulting into a weak and declining IT budgets, elongated decision cycle and billing rate cuts.

Companies are also facing pressure, due to currency, as the euro and GBP have significantly weakened against the USD. In a normal year, companies could have easily absorbed this impact because of the significant buffer between their guidance and more realistically achievable numbers. However, given the significant macro pressures, we believe that companies are not left with enough leeway to absorb these pressures. This could result in revenue guidance misses (in USD terms) by the majority of the 11 Indian IT companies that provide full-year guidance.

Our proprietary indicators do not paint a rosy picture A quick look at our proprietary indicators of Indian IT services, gives the following inferences:

■ Consensus estimates for revenue growth of large customers of Indian IT services are building in moderation. We see this as a leading indicator of the prospects for Indian IT.

■ Consensus is building in a sharp weakening in the YoY growth rates for the five large global IT services companies. We see this as a proxy for expectations on the overall global IT services market.

■ Small-cap Indian IT companies, due to their weaker offshore models, should exhibit a higher sensitivity to the macro environment, and could act as a good leading indicator. We find a sharp deceleration in growth rates of smaller Indian IT companies

Figure 20: Growth estimates for customers of Indian IT

being reduced steadily

Figure 21: YoY revenue growth rate of customers vs

Infosys revenue growth rate

0%

4%

8%

12%

16%

Mar-07 Jun-07 Sep-07 Dec-07 Mar-08 Jun-08 Sep-08 Dec-08 Mar-09 Jun-09

Actuals/estimates now estimates 12M ago

estimates 6M ago estimates 3M ago

-10%

-5%

0%

5%

10%

15%

Mar-02 Dec-02 Sep-03 Jun-04 Mar-05 Dec-05 Sep-06 Jun-07 Mar-08 Dec-08 Sep-09

15%

25%

35%

45%

55%

Customer Growth (LHS) Infosys Growth (RHS)

Growth rates peak in Mar

Growth rates peak in Dec

Pick-up post 2001


Figure 22: YoY revenue grth rate for 5 large IT companies Figure 23: YoY revenue growth rates (USD-based)

-5%

0%

5%

10%

15%

20%

25%

30%

Sep-97 Mar-99 Sep-00 Mar-02 Sep-03 Mar-05 Sep-06 Mar-08 Sep-09

0%

30%

60%

90%

120%

150%

180%

Five large Global IT services companies (LHS) Infosys growth (RHS)

0%

10%

20%

30%

40%

50%

60%

Dec-01 Dec-02 Dec-03 Dec-04 Dec-05 Dec-06 Dec-07Large cos. Others


With an overall weak macro environment, it is no surprise that key indicators for Indian IT companies are also pointing to a slowdown

135

24 September 2008


Other macroeconomic indicators like GDP growth, domestic demand, industrial production and investments in equipment and software point to a reducing trend in growth rates.

Figure 24: US GDP growth vs Infosys revenues growth Figure 25: US investments in equipment & software vs

Infosys revenue growth

-2%

0%

2%

4%

6%

8%

10%


-5%

0%

5%

10%

15%

20%

25%

30%

US GDP growth (qoq annualised) Infosys revenues growth (QoQ)

-20%

-10%

0%

10%

20%

30%


-5%

0%

5%

10%

15%

20%

25%

30%

Equipment and software investments (qoq annualised) Infosys revenues growth (QoQ)


Figure 26: US domestic demand vs Infosys revenue

growth rate

Figure 27: US industrial production vs Infosys revenue

growth rate

-2%

0%

2%

4%

6%

8%

Mar-01 Mar-02 Mar-03 Mar-04 Mar-05 Mar-06 Mar-07 Mar-08

-5%

0%

5%

10%

15%

20%

Domestic demand (qoq annualised) Infosys revenues growth (QoQ)

-8%-6%-4%-2%0%2%4%6%8%


-5%

0%

5%

10%

15%

20%

25%

30%

Industrial production (yoy) Infosys revenues growth (QoQ)


Waning pricing power? The US and the UK IT services job markets are witnessing a fall in wages, after a prolonged period of wage inflation.

Figure 28: YoY wage inflation for IT services

professionals in the US

Figure 29: UK IT services contract market hourly billing

rates (£/hour)

-2

0

2

4

6

8

10

Sep-97 Sep-99 Sep-01 Sep-03 Sep-05 Sep-07

%

Source: BLS, Credit Suisse estimates Source: jobstats.co.uk, Credit Suisse estimates

Weakening wage inflation in the US and the UK reduces the pricing power of Indian IT vendors, in our view. We already saw slight softness in pricing in the June 2008 quarter.

136

24 September 2008


Comments on demand outlook turning more cautious We have been speaking to small/mid-cap Indian IT companies regularly, and we have noticed a steady deterioration in management sentiment over the past few months.

Figure 30: Comments on the demand environment (showing deterioration over the past 2-4 months) Company 2-4 months ago Now

3i Good growth across geographies and business lines US/UK not seeing any significant growth in order book

Geometric Expect 2H FY3/09 to be strong Expect weakness to continue for 1-2 quarters more

Hexaware Expect strong growth in 2H CY08 Revised guidance implies no improvement in 2H CY08

Patni Quite a few projects lined up at the customers’ end, but decisions are not being made on those.


Prithvi Confident of 40-45% growth for the next few years Expecting around 35-40% YoY growth

Sasken Guiding to 25-29% YoY revenue growth for FY3/09 Guidance retained, but contingent upon large deals in the NEMS space.

Sonata ISV customers are in a state of caution on overall economy Couple of project ramp downs in the ISV vertical, which are now replaced

Subex Confident of achieving revenue growth guidance of 38% Guidance retained, but wary of risks arising out of longer business cycles

WNS WNS's breadth of services should help to overcome issues in the travel vertical

Expect pressure points to show up in travel vertical. This has lead to greater conservatism on revised guidance

Zensar Seeing strong growth across geographies Seeing a weakness in Europe

Source: Company data

Hiring numbers point to cautious management stance

While hiring is not necessarily a lead indicator for demand, it definitely is an indicator of management visibility of demand. We note that most companies have become cautious on hiring with 30% of the companies in our sample reducing their headcount QoQ in June 2008 quarter.

■ TCS management recently indicated that their full year hiring could be only 24,000 instead of their earlier guidance of 30,000-35,000. We note that TCS had frozen lateral hiring a few weeks ago.

■ Infosys is also going slow on lateral hiring with management indicating that they are thinning out their middle layer. The company is also visiting fewer campuses this year compared to previous years.

■ Wipro reduced headcount in global IT services in the previous quarter.

■ Hexaware has postponed 2008 campus joining dates to 2009. It has also frozen lateral recruitments, even for replacing attrition.

■ Polaris has shifted to a ‘just-in-time/on-demand’ hiring strategy to tackle the uncertainty in the demand environment.

■ A quarter ago Mphasis management had guided to 7,000-8,000 hires for FY3/08. Now the guidance has moved to the lower end of the above range.

While hiring is not necessarily a leading indicator for demand, it definitely is an indicator of management’s visibility of demand

137

24 September 2008


Figure 31: No. of companies showing increase/decrease in headcount

0

5

10

15

20

Jun-03 Dec-03 Jun-04 Dec-04 Jun-05 Dec-05 Jun-06 Dec-06 Jun-07 Dec-07 Jun-08

-10%

0%

10%

20%

30%

40%

Increase in headcount Decrease in headcount % companies with decrease in headcount


Cross-currency exposures As if the concerns on demand and pricing are not enough, Indian IT services companies will have to contend with cross-currency movements during the September 2008 quarter. The USD has appreciated 10% QTD against both the euro and the pound. This could put further stress on the USD-based revenues of the company.

Figure 32: Sharp appreciation of the US dollar against

euro ... (USD:EUR)

Figure 33: ... and the GB pound (USD:GBP)

0.80

1.00

1.20

1.40

1.60

Jan-02 Jan-03 Jan-04 Jan-05 Jan-06 Jan-07 Jan-08

1.30

1.50

1.70

1.90

2.10

Jan-02 Jan-03 Jan-04 Jan-05 Jan-06 Jan-07 Jan-08

Source: Bloomberg, Credit Suisse estimates Source: Bloomberg, Credit Suisse estimates

Figure 34: Proportion of revenues from North America and Europe

63%

51%60% 60% 57%

22%

61%

27% 30% 27%21%

29%

72%

24%

0%

20%

40%

60%

80%

Infosys TCS Wipro Satyam HCL Tech Techmahindra

MindTree

North America Europe


The USD has appreciated 10% QTD against both the euro and the pound

138

24 September 2008


Reducing estimates across the board With an increasingly weak macro environment, we believe that guidance by Indian IT companies would be stressed. Of the 11 companies that give full-year guidance, three lowered their revenue outlook (USD terms) after the June quarter. However, full-year guidance by companies still implies 5%+ QoQ growth for nine companies for the remaining quarters in the year. This is at variance with historical guidance trends. We believe that more confessions will come over next two quarters and expect the majority of companies to miss revenue guidance (USD terms) for the year.

We have now reduced our numbers significantly – we have taken Infosys and Satyam down to the lower end of their guidance. While cutting in FY3/09 has been more limited, we have made strong reductions to our FY3/10 and FY3/11 estimates. We remain cautious and believe that a further worsening of the macro environment could lead to more downward revisions to numbers.

We are now downgrading our remaining OUTPERFORM ideas – our ratings on TCS and MindTree become UNDERPERFORM, while our rating on Infosys becomes NEUTRAL. Our DCF-based target prices go down by 10-30%.

Currency remains a big risk to our thesis. If the rupee depreciates further, companies could have some leeway in their EPS numbers. However, we believe the market will focus closely on the revenue growth (USD terms) and volume growth of the companies that are not impacted by currency.

Could companies meet guidance? We note that of the 11 Indian IT companies that provide full-year guidance, three reduced their USD-based revenue guidance after the June 2008 quarter. However, the guidance still remains highly back-ended, with nine companies expecting more than 5% QoQ growth for the remaining quarters of the year.

Figure 35: Full-year revenue guidance (USD-based) Figure 36: QoQ growth implied in guidance

24.0%21% 19-21%

30-35%

24-26%24-29%25-28%25-29%

27-31%25-35%

7-9%

32%

5%

10%

15%

20%

25%

30%

35%

Mas

tek

Cog

niza

nt

Info

tech

KPIT

Sask

en

Azte

c

Min

dTre

e

Saty

am

Zens

ar

Info

sys

Hex

awar

e


38%32%

5.3%2.8-5.5%4.0-5.2%

5-6.6%5.2-7.3%

8%7-9.1%5.9-10.5%

10.3-11.6%

2%

4%

6%

8%

10%

12%

Mas

tek

Hex

awar

e

Info

tech

Sask

en

Zens

ar

KPIT

Azte

c

Cog

niza

nt

Info

sys

Saty

am

Min

dTre

e

4.6-5.9%

5-12%


Compared to previous years, we note that companies have usually provided a more cautious guidance for second half compared to first half performance.

Figure 37: Infosys: 1H performance vs 2H guidance Figure 38: Satyam: 1H performance vs 2H guidance

-5%

0%

5%

10%

15%

20%


Actual qoq growth in 1H Guidance implied qoq growth in 2H

-5%

0%

5%

10%

15%


Actual qoq growth in 1H Guidance implied qoq growth in 2H Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates

With an increasingly weak macro environment, we believe that guidance by Indian IT companies will be stressed

Currency remains a big risk to our thesis

139

24 September 2008


Reducing estimates across the board In the backdrop of the weak macro environment, we reduce our revenue estimates for the companies under coverage by 0-2% for FY3/09, 0-5% for FY3/10 and by up to 7% for FY3/11. Correspondingly, our EPS estimates go down by 0-7%, 4-7% and 6-12% for the three years, respectively.

Among the companies, our largest EPS downgrades are for Oracle Financial, which should see a slowdown in product sales. For IT services companies, we have more faith in larger companies like Infosys, TCS and Wipro, where we are only 5% below consensus for FY3/10. For companies with a slightly weaker model – Satyam, HCL Tech and Mindtree – we choose to peg our numbers 8-9% below consensus. For Tech Mahindra and Oracle Financial, we are 14-15% below consensus FY3/10 EPS forecasts.

Figure 39: Changes to revenue estimates Old estimate Revised estimate % change

(Rp mn) FY09 FY10 FY11 FY09 FY10 FY11 FY09 FY10 FY11

Infosys Technologies (US$ mn) 5,106 6,309 7,653 4,993 5,973 7,108 -2.2 -5.3 -7.1 Tata Consultancy 285,439 348,669 412,434 278,083 332,732 396,022 -2.6 -4.6 -4.0 Wipro 253,469 307,771 371,330 252,728 300,485 357,443 -0.3 -2.4 -3.7 Satyam Computer 111,941 132,461 156,498 111,106 127,655 147,986 -0.7 -3.6 -5.4 HCL Technologies (US$ mn) 2,235 2,628 3,092 2,214 2,534 2,911 -0.9 -3.6 -5.9 Mindtree 9,518 11,096 12,922 9,518 11,025 12,793 0.0 -0.6 -1.0 Tech Mahindra 47,586 55,219 65,798 47,105 52,715 61,975 -1.0 -4.5 -5.8 Oracle Financial 30,588 36,857 43,929 27,232 32,790 39,009 -11.0 -11.0 -11.2


Figure 40: Changes to EPS estimates Old estimate Revised estimate % change


Infosys Technologies (US$) 2.4 2.7 3.1 2.3 2.6 2.9 -1.4 -4.6 -6.9

Tata Consultancy 61.2 71.6 79.7 59.3 66.6 74.6 -3.1 -6.9 -6.4

Wipro 27.9 31.6 34.3 26.1 29.9 32.0 -6.8 -5.1 -6.8

Satyam Computer 32.2 36.8 39.6 31.8 34.6 37.3 -1.2 -6.0 -5.9

HCL Technologies (US$) 0.55 0.59 0.64 0.52 0.55 0.56 -5.3 -6.8 -11.6

Mindtree 24.7 40.1 44.6 24.7 38.4 40.5 0.0 -4.2 -9.0

Tech Mahindra 75.3 79.4 85.1 73.7 76.3 80.2 -1.0 -4.5 -5.8

Oracle Financial 63.7 77.4 86.7 54.4 56.2 61.9 -14.5 -27.4 -28.6


Figure 41: Comparison with consensus: EPS estimates CS estimate Consensus estimate % diff.


Infosys Technologies 100.0 111.5 123.4 102.0 117.9 133.4 -1.9 -5.4 -7.5

Tata Consultancy 59.3 66.6 74.6 59.8 69.8 78.7 -0.8 -4.6 -5.2

Wipro 26.1 29.9 32.0 26.7 31.3 34.8 -2.4 -4.4 -8.0

Satyam Computer 31.8 34.6 37.3 32.5 37.7 40.8 -1.9 -8.2 -8.7

HCL Technologies 22.1 23.7 24.1 22.5 26.0 26.8 -2.0 -8.9 -10.2

Mindtree 24.7 38.4 40.5 32.2 41.9 48.4 -23.3 -8.2 -16.3

Tech Mahindra 73.7 76.3 80.2 75.7 89.6 94.7 -2.6 -14.8 -15.3

Oracle Financial 54.4 56.2 61.9 61.2 65.6 87.59 -11.1 -14.3 -29.4

Source: Bloomberg, Credit Suisse estimates

140

24 September 2008


Figure 42: CS estimates vs guidance Guidance CS estimate % diff.

Infosys Upper Upper vs upper vs lower

Revenues (US$ mn) 5,050 4,970 4,993 -1.1 0.5

EPS (Rs) 101 99 100 -1.1 0.6

Satyam

Revenues (US$ mn) 2,656 2,614 2,592 -2.4 -0.8

EPS (Rs) 32.4 31.8 31.8 -1.6 0.0


Downgrading TCS and MindTree to UNDERPERFORM, and Infosys to NEUTRAL We now downgrade our rating for TCS and MindTree to UNDERPERFORM from Outperform. We also downgrade our rating for Infosys to NEUTRAL from Outperform. We have reduced our DCF-based target prices as shown in the table below.

Figure 43: Summary changes and valuations Cur. Target

Price Mkt cap Rating price % P/E EV/EBITDA EV/Sales

Company Ticker Rs US$ mn Old New Old New upside FY08 FY09 FY10 FY08 FY09 FY10 FY08 FY09 FY10

Infosys Technologies INFY.BO 1,566 18,992 O N 2050 1,800 14.9 19.3 15.7 14.0 15.4 12.0 10.1 4.8 3.8 3.1

Tata Consultancy TCS.BO 749 15,616 O U 975 750 0.0 14.6 12.6 11.2 12.3 10.3 8.9 3.2 2.6 2.2

Wipro WIPR.BO 392 12,098 U U 400 360 -8.1 17.6 15.0 13.1 14.1 11.4 10.1 2.8 2.2 1.9

Satyam Computer SATY.BO 384 5,351 U U 425 340 -11.4 15.2 12.0 11.1 11.3 8.5 7.9 2.5 1.9 1.6

HCL Technologies HCLT.BO 234 3,321 U U 235 190 -18.9 13.9 10.5 9.9 8.1 6.9 6.3 1.8 1.4 1.2

Mindtree MINT.BO 381 318 O U 450 310 -18.5 14.3 15.4 9.9 10.8 7.0 6.3 1.9 1.4 1.2

Tech Mahindra TEML.BO 658 1,699 U U 725 610 -7.3 10.4 8.9 8.6 9.6 7.4 6.9 2.1 1.7 1.5

Oracle Financial IFLX.NS 928 1,701 U U 1450 800 -13.8 18.7 17.0 16.5 14.6 14.3 12.2 2.9 2.5 2.1


Figure 44: P/E ratios implied in our target prices Implied P/E

Rs TP FY3/09 FY3/10

Infosys Technologies 1,800 18.0 16.1

Tata Consultancy 750 12.7 11.3

Wipro 360 13.8 12.0

Satyam Computer 340 10.7 9.8

HCL Technologies 190 8.6 8.0

Mindtree 310 12.6 8.1

Tech Mahindra 610 8.3 8.0

Oracle Financial 800 14.7 14.2


141

24 September 2008


Figure 45: Infosys: 12M forward P/E based on consensus

estimates

Figure 46: TCS: 12M forward P/E based on consensus

estimates

13

16

19

22

25

28

31

34

37

Apr-01 Apr-02 Apr-03 Apr-04 Apr-05 Apr-06 Apr-07 Apr-08

11

13

15

17

19

21

23

25

27

Aug-04 Feb-05 Aug-05 Feb-06 Aug-06 Feb-07 Aug-07 Feb-08 Aug-08

Source: Datastream, Bloomberg, Company data, Credit Suisse

estimates


estimates

Figure 47: Wipro: 12M forward P/E based on consensus

estimates

Figure 48: Satyam: 12M forward P/E based on consensus

estimates

12

15

18

21

24

27

30

33

36

39

Jun-02 Mar-03 Dec-03 Sep-04 Jun-05 Mar-06 Dec-06 Sep-07 Jun-08

68

101214161820222426

Apr-01 Apr-02 Apr-03 Apr-04 Apr-05 Apr-06 Apr-07 Apr-08


estimates


estimates

142

24 September 2008


Appendix I: Key financial data Figure 49: Infosys: summary financials Year-end 31 Mar (US$ mn) FY06A FY07A FY08A FY09E FY10E FY11E

Income statement

Net sales 2,152 3,089 4,176 4,993 5,973 7,108

Gross profit 908 1,313 1,721 2,034 2,374 2,739

Gross margins (%) 42.2 42.5 41.2 40.7 39.7 38.5

EBIT 600 852 1,151 1,383 1,587 1,804

EBIT margins (%) 27.9 27.6 27.6 27.7 26.6 25.4

Depreciation 99 119 157 191 266 331

EBITDA 699 975 1,315 1,576 1,853 2,136

EBITDA margins (%) 32.5 31.6 31.5 31.6 31.0 30.0

Total non-oper. income 31 84 175 157 192 256

Pre-tax income 630 936 1,326 1,540 1,780 2,060

Income tax exp/(gains) 71 106 171 209 302 425

Net income 555 828 1,155 1,332 1,478 1,635

EPS (US$) 1.02 1.49 2.03 2.34 2.59 2.87

Balance sheet

Total current assets 1,509 2,100 3,132 3,312 4,279 5,354

Cash and short-term investments 1,059 1,409 2,076 2,058 3,006 3,841

Receivables and other current assets 450 691 1,056 1,255 1,272 1,513

Net fixed assets 491 738 1,022 1,201 1,335 1,484

Gross fixed assets 688 962 1,381 1,764 2,164 2,644

Less : depreciation 326 445 602 793 1,059 1,390

Capital work in progress 129 221 243 230 230 230

Other assets 66 235 338 364 432 514

Total assets 2,066 3,073 4,492 4,877 6,046 7,351

Total current liabilities 209 357 571 714 848 1,009

Total other LT liabilities 5 1 11 11 11 11

Total equity 1,837 2,715 3,910 4,153 5,187 6,332

Minority interest 15 - - - - -

Total liabilities 2,066 3,073 4,492 4,877 6,046 7,351

Cash flow statement

Net income 555 828 1155 1332 1478 1635

Add : Depreciation 99 119 157 191 266 331

Total Gross cash flows 654 947 1312 1523 1744 1967

Change in working capital (44) (93) (151) (56) 117 (80)

Cash flow from operation 610 854 1161 1466 1861 1886

Change in LT investments-share of profit 0 0 0 0 0 0

Change in fixed asset (238) (366) (441) (370) (400) (480)

Change in other asset (24) (169) (103) (26) (69) (82)

Cash flow from investing (262) (535) (544) (396) (469) (562)

Equity Dividend (320) (143) (464) (399) (443) (491)

Change in debt and liabilities (6) (19) 10 0 0 0

Change in equity 349 193 504 (689) 0 0

Cash flow from financing 23 31 50 (1089) (443) (491)

Change in cash 371 350 667 (18) 949 834


143

24 September 2008


Figure 50: TCS: summary financials Year-end 31 Mar (Rs mn) FY06A FY07A FY08A FY09E FY10E FY10E

Income statement

Net sales 132,454 186,334 228,614 278,083 332,732 396,022

Gross profit 61,000 83,325 102,420 120,705 140,720 162,043

Gross margins (%) 46.1 44.7 44.8 43.4 42.3 40.9

EBIT 34,061 46,458 53,651 64,373 73,119 84,215

EBIT margins (%) 25.7 24.9 23.5 23.1 22.0 21.3

Depreciation 2,843 4,296 5,746 6,589 8,914 10,226

EBITDA 36,904 50,754 59,397 70,961 82,033 94,441

EBITDA margins (%) 27.9 27.2 26.0 25.5 24.7 23.8

Total non-oper. income 355 1,943 4,450 2,617 4,795 8,493

Pre-tax income 34,416 48,401 58,101 66,989 77,914 92,709

Income tax exp/(gains) 5,000 6,701 7,494 8,545 12,167 18,966

Net income 29,416 41,700 50,607 58,444 65,748 73,742

Net income after extra-ordinaries and minorities 29,156 41,327 50,194 58,029 65,270 73,193

EPS (Rs) 29.79 42.23 51.29 59.27 66.60 74.61

Balance sheet



Receivables and other current assets 45,635 62,587 84,976 106,350 126,568 150,277

Net fixed assets 15,072 22,913 30,214 35,409 36,496 36,270

Gross fixed assets 25,797 37,934 50,981 62,765 71,265 81,265

Less : depreciation 10,726 15,022 20,767 27,356 36,270 46,495

Capital work in progress - - - - 1,500 1,500

Other assets 13,680 21,258 23,773 28,456 28,456 28,456

Associates and long term investments 7,274 12,711 26,503 31,448 31,448 31,448

Total assets 85,626 130,589 175,818 234,193 290,995 351,987

Total current liabilities 23,706 32,207 42,154 61,119 72,738 86,363

Total LT liabilities 1,949 6,599 7,544 8,158 8,158 8,158

Total equity 58,408 89,661 123,820 162,596 207,779 255,145

Minority interest 1,564 2,121 2,300 2,320 2,320 2,320


Cash flow statement

Net income 29,156 41,327 50,194 58,029 65,270 73,193

Add : Depreciation 2,843 4,296 5,746 6,589 8,914 10,226

Total Gross cash flows 31,998 45,623 55,939 64,618 74,184 83,419

Change in working capital (8,995) (8,450) (12,443) (2,409) (8,599) (10,084)

Cash flow from operation 23,004 37,173 43,497 62,209 65,585 73,335

Change in LT investments-share of profit (3,077) (5,437) (13,792) (4,945) - -

Change in fixed asset (7,045) (12,138) (13,047) (11,784) (10,000) (10,000)

Change in other asset (10,531) (7,578) (2,515) (4,683) - -

Cash flow from investing (20,652) (25,152) (29,354) (21,412) (10,000) (10,000)

Equity Dividend (7,532) (12,959) (16,043) (20,652) (20,087) (25,827)

Change in debt and liabilities 1,706 5,207 1,124 634 - -

Change in equity 4,807 2,885 9 1,400 0 (0)

Cash flow from financing (1,019) (4,867) (14,910) (18,619) (20,087) (25,827)

Change in cash 1,332 7,154 (767) 22,178 35,498 37,508


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24 September 2008


Figure 51: Wipro: summary financials Year-end 31 Mar (Rs mn) FY06 FY07 FY08 FY09E FY10E FY11E

Income statement

Net sales 106,107 149,431 197,428 252,728 300,485 357,443

Gross profit 34,461 47,231 58,597 74,824 85,188 98,038

Gross margins (%) 32.5 31.6 29.7 29.6 28.4 27.4

EBIT 21,972 29,869 33,711 42,123 46,114 51,199

EBIT margins (%) 20.7 20.0 17.1 16.7 15.3 14.3

Depreciation 3,101 3,978 6,066 6,962 9,373 11,053

EBITDA 25,073 33,847 39,777 49,085 55,487 62,252

EBITDA margins (%) 23.6 22.7 20.1 19.4 18.5 17.4

Total non-oper. income 1,276 2,667 2,167 2,092 4,913 5,729

Pre-tax income 23,248 32,536 35,878 43,044 50,719 56,682


Net income 20,270 29,170 32,238 37,853 43,540 46,524

EPS (Rs) 14.41 20.44 22.23 26.05 29.93 31.97

Balance sheet




Net fixed assets 17,777 26,541 39,822 47,858 52,485 55,433



Capital work in progress 6,249 6,249 6,249 6,249 6,249 6,249

Other assets 9,609 16,863 53,438 57,399 57,399 57,399

Associates & other LT investments 1,043 1,599 1,698 243 243 243

Total assets 100,266 146,102 223,299 235,792 276,410 320,241


Total other LT liabilities 395 1,252 2,759 7,993 7,993 7,993

Total equity 78,764 101,468 129,367 156,433 185,209 214,015

Minority interest - - 114 132 132 132


Cash flow statement

Net income 20,270 29,170 32,238 37,853 43,540 46,524

Add : Depreciation 3,101 3,978 6,066 6,962 9,373 11,053


Change in working capital (3,864) (4,397) (9,884) (4,693) 15,839 (3,005)

Cash flow from operation 19,508 28,752 28,420 40,122 68,751 54,571

Change in LT investments-share of profit (274) (556) (99) 1,455 - -


Change in other asset (2,640) (7,254) (36,575) (3,961) - -


Equity Dividend (8,129) (16,382) (5,133) (12,305) (14,766) (17,719)

Change in debt and liabilities 410 3,904 41,081 (31,940) - -

Change in equity 9,893 2,268 8 (1) 0 0

Cash flow from financing 1,642 (2,562) 36,856 (42,709) (14,764) (17,717)

Change in cash 10,558 5,637 9,255 (20,092) 39,987 22,854


145

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Figure 52: Satyam: summary financials Year-end 31 Mar (Rs mn) FY06A FY07A FY08A FY09E FY10E FY11E

Income statement

Net sales 47,926 64,851 84,735 111,106 127,655 147,986

Gross profit 29,437 40,086 54,254 69,504 81,697 94,929

Gross margins (%) 61.42 61.81 64.03 62.56 64.00 64.15

EBIT 10,289 13,893 16,712 22,400 23,935 26,929

EBIT margins (%) 21.47 21.42 19.72 20.16 18.75 18.20

Depreciation 1,373 1,484 1,636 2,017 2,460 2,870

EBITDA 11,662 15,377 18,348 24,417 26,395 29,799

EBITDA margins (%) 24.33 23.71 21.65 21.98 20.68 20.14

Total non-oper. income 1,168 1,833 2,671 2,213 3,620 4,482

Pre-tax income 11,401 15,566 19,182 24,384 27,325 31,181


Net income 9,808 14,045 16,879 21,537 23,605 25,405

EPS 15.2 21.5 25.2 31.8 34.6 37.3

Balance sheet




Net fixed assets 5,573 8,223 12,794 17,149 19,689 21,819



Capital work in progress 803 3,017 4,610 5,582 5,582 5,582

Other assets 46 437 872 914 914 914

Total assets 51,371 68,951 89,038 106,185 127,415 149,993


Total other LT liabilities 1,027 1,479 2,167 2,157 2,157 2,157

Total equity 43,173 57,526 72,392 91,001 110,318 130,363

Minority interest 42 - - - - -


Cash flow statement

Net income 9808 14,045 16,879 21,537 23,605 25,405

Add : Depreciation 1373 1,484 1,636 2,017 2,460 2,870

Total Gross cash flows 11181 15,529 18,515 23,554 26,065 28,275

Change in working capital (2963) (2,925) (5,438) (4,603) (3,006) (3,981)

Cash flow from operation 8218 12,604 13,077 18,951 23,060 24,294

Change in LT investments-share of profit 1131 - - - - -

Change in fixed asset (3818) (4,135) (6,207) (6,371) (5,000) (5,000)

Change in other asset 17 (391) (435) (43) - -

Cash flow from investing (2669) (4,526) (6,642) (6,414) (5,000) (5,000)

Equity dividend (2603) (2,700) (2,742) (3,431) (4,288) (5,361)

Change in debt and liabilities 971 410 688 (10) - -

Change in equity reserves + new capital raised 7217 3,008 729 503 0 0

Cash flow from financing 5585 719 (1,325) (2,938) (4,288) (5,361)

Change in cash 11133 8,797 5,110 9,599 13,771 13,933


146

24 September 2008


Figure 53: HCL Tech: summary financials Year-end 30 Jun ($ mn) FY06A FY07A FY08A FY09E FY10E FY11E

Income statement

Net sales 979 1,390 1,879 2,214 2,534 2,911

Gross profit 320 466 650 734 817 923

Gross margins (%) 32.7 33.5 34.6 33.2 32.2 31.7

EBIT 174 250 341 371 396 426

EBIT margins (%) 17.8 18.0 18.2 16.8 15.6 14.6

Depreciation 45 58 75 87 100 115

EBITDA 219 308 416 458 496 541

EBITDA margins (%) 22.4 22.2 22.1 20.7 19.6 18.6

Total non-oper. income 13 102 (29) 21 25 42

Pre-tax income 187 352 312 392 421 468

Income tax exp/(gains) 14 35 32 42 51 87

Net income 172 315 280 352 372 384

EPS ($) 0.27 0.47 0.42 0.52 0.55 0.56

Balance sheet

Total current assets 699 1,037 1,215 1,397 1,605 1,830

Cash and short-term investments 409 561 572 580 674 755

Receivables and other current assets 291 476 643 818 931 1,075

Net fixed assets 372 456 532 545 545 530

Gross fixed assets 542 683 835 935 1,035 1,135

Less : depreciation 170 228 303 390 490 605

Capital work in progress - - - - - -

Other assets 22 58 118 118 118 118

Total assets 1,096 1,553 1,867 2,075 2,296 2,519

Total current liabilities 195 286 515 527 539 551

Total LT liabilities 18 32 139 139 139 139

Total equity 881 1,231 1,212 1,409 1,618 1,830

Total liabilities and equity 1,096 1,553 1,867 2,075 2,296 2,519

Cash flow statement

Net income 172 315 280 352 372 384

Add : Depreciation 45 58 75 87 100 115

Total Gross cash flows 217 373 355 439 472 499

Change in working capital (25) (94) 62 (163) (102) (132)

Cash flow from operation 193 280 416 276 371 367

Change in LT investments-share of profit 18 - - (13) (13) (14)

Change in fixed asset (72) (142) (151) (100) (100) (100)

Change in other asset (6) (36) (60) - - -

Cash flow from investing (61) (177) (212) (113) (113) (114)

Change in debt and liabilities (20) 15 105 (0) (0) (0)

Change in equity (161) 35 (298) (156) (163) (171)

Cash flow from financing (181) 50 (194) (156) (164) (172)

Change in cash (49) 152 11 8 94 81


147

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Figure 54: Tech Mahindra: summary financials Year-end 31 Mar (Rs mn) FY06A FY07A FY08A FY09E FY10E FY11E

Income statement

Net sales 12,426 29,290 37,661 47,105 52,715 61,975

Gross profit 4,632 11,238 13,011 16,526 18,163 20,838

Gross margins 37.3% 38.4% 34.5% 35.1% 34.5% 33.6%

EBIT 2,280 6,850 7,462 9,485 10,256 11,232

EBIT margins 18.3% 23.4% 19.8% 20.1% 19.5% 18.1%

Depreciation 398 516 796 1,157 1,160 1,363

EBITDA 2,678 7,366 8,258 10,642 11,416 12,596

EBITDA margins 21.6% 25.1% 21.9% 22.6% 21.7% 20.3%

Total non-oper. income 341 15 1,029 652 889 1,422

Pre-tax income 2,621 6,865 8,491 10,137 11,145 12,654

Income tax exp/(gains) 267 741 748 1,069 1,453 2,153

Extraordinary gains/ (losses) - (4,911) (4,401) - - -

Net income 2,354 1,213 3,342 9,068 9,692 10,501

EPS (Rs) 20.98 50.96 63.47 73.74 76.33 80.18

Balance sheet


Cash and short-term investments 760 631 976 8,301 14,318 21,687


Net fixed assets 2,898 4,421 5,996 8,739 11,980 14,216



Capital work in progress 198 579 1,640 1,640 1,640 1,640

Other assets 1,617 1,053 693 693 693 693

Total assets 10,092 15,869 22,251 31,507 42,298 55,063


Total other LT liabilities - 133 300 - - -

Total equity 6,154 9,185 12,572 21,638 31,330 41,832

Total liabilities & equity 10,092 15,620 21,840 31,507 42,298 55,063

Cash flow statement

Net income 2,354 1,213 3,347 9,066 9,692 10,501

Add : Depreciation 398 516 796 1,157 1,160 1,363


Change in working capital (331) (2,449) (1,989) 1,413 (435) (896)

Cash flow from operation 2,421 (720) 2,154 11,636 10,417 10,969

Change in LT investments-share of profit (392) 526 346 - - -


Change in other asset 22 38 14 - - -


Change in debt and liabilities 0 249 162 (411) - -

Change in equity (1,061) 1,818 40 (0) (0) -

Cash flow from financing (1,061) 2,066 202 (411) (0) -

Change in cash (525) (129) 345 7,325 6,017 7,369


148

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Figure 55: MindTree: summary financials Year-end 31 Mar (Rs mn) FY07A FY08A FY09E FY10E FY11E

Income statement

Net sales 5,904 7,338 9,518 11,025 12,793

Gross profit 2,150 2,311 3,230 3,637 4,109

Gross margins (%) 36.4 31.5 33.9 33.0 32.1

EBIT 852 909 1,507 1,598 1,742

EBIT margins (%) 14.4 12.4 15.8 14.5 13.6

Depreciation 244 349 441 551 640

EBITDA 1,096 1,258 1,947 2,149 2,382

EBITDA margins (%) 18.6 17.1 20.5 19.5 18.6

Total non-oper. income 44 219 (442) 123 194

Pre-tax income 896 1,127 1,065 1,720 1,936

Income tax exp/(gains) (5) 85 133 270 397

Net income 901 1,042 932 1,450 1,539

EPS (Rs) 27.10 26.70 24.69 38.41 40.55

Balance sheet

Total current assets 4,910 4,916 5,399 6,376 7,978

Cash and short-term investments 2,909 2,201 1,714 2,154 3,043

Receivables and other current assets 2,002 2,714 3,685 4,222 4,935

Net fixed assets 699 2,590 2,742 2,931 3,031

Gross fixed assets 1,368 3,474 4,027 4,767 5,507

Less : depreciation 800 1,118 1,519 2,070 2,709

Capital work in progress 132 233 234 234 234

Other assets 46 90 104 104 104

Total assets 5,656 7,595 8,246 9,411 11,114

Total current liabilities 1,038 1,338 1,677 1,921 2,246

Total LT liabilities 264 917 400 - -

Total equity 4,355 5,340 6,169 7,490 8,868

Total liabilities & equity 5,656 7,595 8,246 9,411 11,114

Cash flow statement

Net income 901 1,042 932 1,450 1,539

Add : Depreciation 244 349 441 551 640

Total Gross cash flows 1,145 1,391 1,373 2,001 2,179

Change in working capital (123) (412) (632) (293) (389)

Cash flow from operation 1,022 979 741 1,708 1,790

Change in fixed asset (555) (2,240) (593) (740) (740)

Change in other asset (46) (43) (15) - -

Cash flow from investing (602) (2,283) (608) (740) (739)

Change in debt and liabilities (478) 653 (517) (400) -

Change in equity 2,245 32 0 (0) (0)

Cash flow from financing 1,767 685 (517) (400) (0)

Change in cash 2,188 (619) (383) 568 1,051


149

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Figure 56: Oracle Financial: summary financials Year-end 31 Mar (Rs mn) FY06 FY07 FY08 FY09 FY10 FY11

Income statement

Net sales 14,823 20,609 23,802 27,232 32,790 39,009

Gross profit 6,569 8,890 10,056 11,485 13,661 16,132

Gross margins (%) 44.3 43.1 42.2 42.2 41.7 41.4

EBIT 2,802 3,771 3,966 4,065 4,723 5,438

EBIT margins (%) 18.9 18.3 16.7 14.9 14.4 13.9

Depreciation 460 653 706 713 890 1,090

EBITDA 3,262 4,425 4,672 4,778 5,613 6,528

EBITDA margins (%) 22.0 21.5 19.6 17.5 17.1 16.7

Total non-oper. income 285 360 640 1,141 935 1,207

Pre-tax income 3,086 4,131 4,606 5,206 5,658 6,645

Income tax exp/(gains) 560 416 442 579 837 1,279

Net income 2,629 3,723 4,156 4,601 4,810 5,354

EPS (Rs) 33.19 46.15 49.64 54.43 56.24 61.87

Balance sheet




Net fixed assets 3,159 8,941 9,827 10,834 11,644 12,354



Capital work in progress 582 1,346 1,314 1,429 1,429 1,429

Other assets 123 201 285 253 253 253

Total assets 17,798 29,354 33,922 40,273 46,273 53,272


Total LT liabilities 2 2 5 4 4 4

Total equity 13,797 24,020 27,771 32,680 37,490 42,844

Total liabilities& equity 17,798 29,354 33,922 40,273 46,273 53,272

Cash flow statement

Net income 2,629 3,723 4,156 4,601 4,810 5,354

Add : Depreciation 460 653 717 733 924 1,117


Change in working capital (1,880) (4,035) (1,010) (1,610) 1,530 (653)

Cash flow from operation 1,210 340 3,864 3,724 7,264 5,817

Change in LT investments 14 (7) (7) 20 (34) (27)


Change in other asset 1,495 (71) (89) (8) - -

Cash flow from investing (826) (6,513) (1,688) (1,708) (1,734) (1,827)

Change in debt and liabilities (22) 0 9 0 - -

Change in equity (124) 6,501 (406) 309 0 (0)

Cash flow from financing (146) 6,501 (396) 309 0 (0)

Change in cash 238 328 1,780 2,325 5,530 3,991


150

24 September 2008


Appendix II: DCF assumptions Figure 57: DCF assumptions for Infosys Mar 09 Mar 10 Mar 11 FY3/11-FY3/25 Terminal

Sales growth (%) 19.6 19.6 19.0 16.4 3.0

NOPAT margin (%) 24.7 22.8 20.8 17.8 15.0

Year-end net WC turns 4.8 5.9 5.9 5.5 5.5

Year-end fixed asset turns 4.2 4.5 4.8 5.0 5.0

Year-end total other asset turns 13.7 13.8 13.8 12.5 12.5


Figure 58: DCF assumptions for TCS Mar 09 Mar 10 Mar 11 FY3/11-FY3/25 Terminal

Sales growth (%) 21.6 19.7 19.0 12.9 3.0

NOPAT margin (%) 20.6 19.0 17.4 14.4 12.5





Figure 59: DCF assumptions for Wipro Mar 09 Mar 10 Mar 11 FY3/11-FY3/25 Terminal

Sales growth (%) 28.0 18.9 18.0 14.0 3.0

NOPAT margin (%) 14.6 13.4 13.5 13.0 12.5





Figure 60: DCF assumptions for Satyam Mar 09 Mar 10 Mar 11 FY3/11-FY3/25 Terminal

Sales growth (%) 31.1 14.9 15.9 11.1 3.0

NOPAT margin (%) 18.1 16.6 15.2 13.6 12.5





Figure 61: DCF assumptions for HCL Jun 09 Jun 10 Jun 11 FY6/11-FY6/25 Terminal

Sales growth (%) 17.8 14.5 14.0 11.7 3.0

NOPAT margin (%) 15.2 14.0 12.0 10.1 8.5





151

24 September 2008


Figure 62: DCF assumptions for Tech Mahindra Mar 09 Mar 10 Mar 11 FY3/11-FY3/25 Terminal

Sales growth (%) 25.1 11.9 17.6 11.7 3.0

NOPAT margin (%) 18.3 17.3 15.4 12.3 10.0





Figure 63: DCF assumptions for MindTree Mar 09 Mar 10 Mar 11 FY3/11-FY3/25 Terminal

Sales growth (%) 29.7 15.8 16.0 13.9 3.0 NOPAT margin (%) 12.9 12.4 11.0 11.8 10.0 Year-end net WC turns 3.22 3.24 3.22 3.25 3.25 Year-end fixed asset turns 3.47 3.76 4.22 3.50 3.50 Year-end total other asset turns 91.11 105.55 122.47 200.00 200.00


Figure 64: DCF assumptions for Oracle Financial Mar 09 Mar 10 Mar 11 FY3/11-FY3/25 Terminal

Sales growth (%) 14.4 20.4 19.0 14.9 3.0 NOPAT margin (%) 14.4 13.0 11.9 10.5 10.0 Year-end net WC turns 2.09 2.72 2.93 3.38 3.50 Year-end fixed asset turns 2.51 2.82 3.16 4.00 4.00 Year-end total other asset turns 107.62 129.58 154.16 150.00 150.00


Companies Mentioned (Price as of 23 Sep 08) 3i Infotech (III IN, NOT RATED) American International Group Inc. (AIG, $4.72, NEUTRAL, TP $3.00) Bank of America Corp. (BAC, $34.15, NEUTRAL, TP $24.00) Citi (C, $20.01, NEUTRAL [V], TP $22.00) Daimler (DAIGn.DE, Eu39.06, OUTPERFORM, TP Eu52.00, UNDERWEIGHT) Dell Inc. (DELL, $16.57, OUTPERFORM, TP $30.00) Fannie Mae (FNM, $.74, UNDERPERFORM [V], TP $1.00) FedEx Corporation (FDX, $85.68, NOT RATED) Geomteric Ltd (GEO IN, NOT RATED) HBOS (HBOS.L, 209.00 p, UNDERPERFORM [V], TP 330.00 p, MARKET WEIGHT) HCL Technologies (HCLT.BO, Rs231.85, UNDERPERFORM, TP Rs190, MARKET WEIGHT) Hexaware Technologies (HEXT.BO, Rs34.20, NOT RATED) HSBC Holdings (0005.HK, HK$123.40, NEUTRAL, TP HK$140.00) Infosys Technologies Ltd. (INFY.BO, Rs1629.10, NEUTRAL, TP Rs1800, MARKET WEIGHT) Lehman Brothers (LEH, $3.65, RESTRICTED [V]) Marks & Spencer (MKS.L, 237.50 p, UNDERPERFORM, TP 210.00 p, UNDERWEIGHT) Merrill Lynch (MER, $28.05, NEUTRAL [V], TP $30.00) Mindtree Ltd (MINT.BO, Rs333.70, UNDERPERFORM, TP Rs310, MARKET WEIGHT) Morgan Stanley (MS, $27.09, OUTPERFORM, TP $45.00) Oracle Financial Services (ORCL.BO, Rs933.75, UNDERPERFORM [V], TP Rs800, MARKET WEIGHT) Patni Computer (PATNI IN, NOT RATED) Prithvi InfoSolutions (PRIS IN, NOT RATED) Sasken Communication Technologies (SACT IN, NOT RATED) Satyam Computer (SATY.BO, Rs352.75, UNDERPERFORM, TP Rs340, MARKET WEIGHT) Sonata Software (SSOF IN, NOT RATED) Sony Corporation (SNE, $32.29, NOT RATED) Subex (SUBX IN, NOT RATED) Tata Consultancy Services (TCS.BO, Rs766.00, UNDERPERFORM, TP Rs750, MARKET WEIGHT)

152

24 September 2008


Tech Mahindra Limited (TEML.BO, Rs656.60, UNDERPERFORM [V], TP Rs610, MARKET WEIGHT) UBS AG (UBS.N, NOT RATED) Vodafone Group (VOD.L, 127.95 p, NEUTRAL, TP 160.00 p, OVERWEIGHT) Wachovia (WB, $14.81, NEUTRAL [V], TP $14.00) Wal-Mart Stores, Inc. (WMT, $58.89, OUTPERFORM, TP $63.00) Wipro Ltd. (WIPR.BO, Rs414.35, UNDERPERFORM, TP Rs360.00, MARKET WEIGHT) WNS Global Services (WNS.N, $10.96, OUTPERFORM, TP $23.00) Zensar Technologies (ICIM IN, NOT RATED) BMW (BMWG.F, Eu 29.78, UNDERPERFORM, TP Eu 22.00, UNDERWEIGHT) Freddie Mac (FRE, $.66, UNDERPERFORM [V], TP $1.00) HBOS (HBOS.L, 209.00p, UNDERPERFORM [V], TP 330.00p, MARKET WEIGHT) IndyMac Bancorp, Inc. (IMB, $1.04, NOT RATED) Mphasis Ltd (MBFL.BO, Rs205.25, NOT RATED) Polaris Software (POLS.BO, Rs74.75, NOT RATED) Sony (6758, ¥3,520, OUTPERFORM, TP ¥6,900, UNDERWEIGHT) For other companies mentioned, please refer to Figure 8 in the report.

Disclosure Appendix Important Global Disclosures Bhuvnesh Singh, Sunil Tirumalai & Vikramaditya Narendra each certify, with respect to the companies or securities that he or she analyzes, that (1) the views expressed in this report accurately reflect his or her personal views about all of the subject companies and securities and (2) no part of his or her compensation was, is or will be directly or indirectly related to the specific recommendations or views expressed in this report. The analyst(s) responsible for preparing this research report received compensation that is based upon various factors including Credit Suisse's total revenues, a portion of which are generated by Credit Suisse's investment banking activities. Analysts’ stock ratings are defined as follows***: Outperform (O): The stock’s total return is expected to exceed the industry average* by at least 10-15% (or more, depending on perceived risk) over the next 12 months. Neutral (N): The stock’s total return is expected to be in line with the industry average* (range of ±10%) over the next 12 months. Underperform (U)**: The stock’s total return is expected to underperform the industry average* by 10-15% or more over the next 12 months.

*The industry average refers to the average total return of the relevant country or regional index (except with respect to Europe, where stock ratings are relative to the analyst’s industry coverage universe). **In an effort to achieve a more balanced distribution of stock ratings, the Firm has requested that analysts maintain at least 15% of their rated coverage universe as Underperform. This guideline is subject to change depending on several factors, including general market conditions. ***For Australian and New Zealand stocks a 7.5% threshold replaces the 10% level in all three rating definitions, with a required equity return overlay applied.

Restricted (R): In certain circumstances, Credit Suisse policy and/or applicable law and regulations preclude certain types of communications, including an investment recommendation, during the course of Credit Suisse's engagement in an investment banking transaction and in certain other circumstances. Volatility Indicator [V]: A stock is defined as volatile if the stock price has moved up or down by 20% or more in a month in at least 8 of the past 24 months or the analyst expects significant volatility going forward.

Analysts’ coverage universe weightings are distinct from analysts’ stock ratings and are based on the expected performance of an analyst’s coverage universe* versus the relevant broad market benchmark**: Overweight: Industry expected to outperform the relevant broad market benchmark over the next 12 months. Market Weight: Industry expected to perform in-line with the relevant broad market benchmark over the next 12 months. Underweight: Industry expected to underperform the relevant broad market benchmark over the next 12 months. *An analyst’s coverage universe consists of all companies covered by the analyst within the relevant sector. **The broad market benchmark is based on the expected return of the local market index (e.g., the S&P 500 in the U.S.) over the next 12 months. Credit Suisse’s distribution of stock ratings (and banking clients) is:

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155

461

August 2008

QUARTERLY PERFORMANCE ANALYSIS OF COMPANIES

(April-June 2008)

INDIAN IT ENABLED SERVICES

Cygnus Business Consulting & Research Pvt. Ltd. 4th & 5th Floors, Astral Heights, Road No. 1, Banjara Hills, Hyderabad-500034, India

Tel: +91-40-23430203-05, Fax: +91-40-23430201, E-mail: [email protected] Website: www.cygnusindia.com

Disclaimer: All information contained in this report has been obtained from sources believed to be accurate by Cygnus Business Consulting & Research Pvt. Ltd. (Cygnus). While reasonable care has been taken in its preparation, Cygnus makes no representation or warranty, express or implied, as to the accuracy, timeliness or completeness of any such information. The information contained herein may be changed without notice. All information should be considered solely as statements of opinion and Cygnus will not be liable for any loss incurred by users from any use of the publication or contents

156

QPAC-Indian IT Enabled Services-April-June 2008

© Cygnus Business Consulting & Research Pvt. Ltd. 2008 462

EXECUTIVE SUMMARY.....................................................................................................463

INDUSTRY ANALYSIS ........................................................................................................464

OUTLOOK FOR THE SECTOR .........................................................................................467

INTER-FIRM COMPARISON..............................................................................................468

STOCK SCAN .......................................................................................................................470

COMPANY ANALYSIS ........................................................................................................471

1. GTL Ltd .........................................................................................................................471

2. Infotech Enterprises........................................................................................................472

3. Mphasis...........................................................................................................................473

4. Mastek.............................................................................................................................474

5. Rolta India ......................................................................................................................475

CONTENTS

157



EXECUTIVE SUMMARY India’s economic growth has slipped to around 9% in 2007-08, from 9.6% in 2006-07. The dip in growth has further deepened the fears of a possible global recession and rising inflation, and its overall impact on the Indian economy. According to the official figures, industrial output growth has slipped to 8.6% in 2007-08, as compared with 11.6% in 2006-07. The agriculture and allied sector has grown a tad faster at 4.5% during 2007-08. The services sector is marginally upped, registering a growth of 10.7% in 2007-08, as compared to 10.6% in 2006-07. India’s economic growth is expected to grow at 7.9% in 2008-09. The services sector is one of the most significant sectors of the Indian economy, contributing nearly 55% to the GDP in 2007–08. The sector continues to be the key driver of economic activities, holding a share of more than 44% of GDP. The contribution of the IT industry to the country’s economy is increasing. The industry’s contribution to the nation’s GDP had gone up to 5.4% in 2006-07 as against 4.8% in 2005-06. The Indian ITES-BPO segment continues to chart strong year-on-year growth, witnessing high levels of activity both onshore and offshore. During AMJ08, the industry is expected to register 25% growth in its top line to reach Rs10,201.57m compared with the same period of the previous year. During AMJ08, ITES industry’s operating profit is expected to increase to Rs2,206.16m from Rs1,903.37m and OPM to 21.63% in the AMJ08 quarter. Net profit registered 28% growth to reach Rs1,295.72m from Rs1,016.02m and NPM increased to 12.70% from 12.48%. The industry is moving up the value chain from voice-based processes to non-voice based processes. The domestic market is likely to grow slower due to delays in product market reforms. For AMJ08, it is estimated that Mphasis would register 40% growth in its top-line to reach Rs4,995.83m from Rs3,568.45m in AMJ07. GTL registered 36% growth in its top-line due to sustained growth in its existing accounts and noticeable improvements in revenues. All the expenses are expected to rise as a percentage of net sales, except staff cost, depreciation and interest. For the quarter ended June 2008, Rolta is expected to lead the industry with highest OPM (51.7%) and NPM of 33.7% due to lower level of staff cost and other expenditure as compared with other players in the industry. The year 2009 promises to bring in newer growth opportunities for the Indian IT industry. The export-driven Indian IT/ITES industry, which has been dominated by application development and maintenance (ADM), voice-based BPO services and BFSI vertical, will see new and niche areas scaling up rapidly. With the slowdown in the US economy, a strong rupee and questions over extension of the STP scheme looming large, 2009 is a crucial year for the Indian BPO industry. The Indian ITES industry accounted for about 37% of the total IT software and Services exports in India in 2008. Nevertheless, the government's forward looking policy is driving the growth of IT/ITES enabled services in India. The ITES sector is expected to grow faster than the earlier projections given, the increased interest in offshoring by global companies.

158



ITES industry revenue-AMJ 08

5000

7000

9000

11000

13000

AMJ 07 AMJ 08

Rs m

20

26

32

38

%

Revenue (LHS) Growth (RHS)

Operating profit of the ITES industry-AMJ 08

1600

1800

2000

2200

2400

AMJ 07 AMJ 08

Rs m

20

22

24

26

28

%

Operating profit(LHS)

OPM (RHS)

Net profit of the ITES industry-AMJ 08

800

1000

1200

1400

1600

AMJ 07 AMJ 08

Rs m

11

12

13

14

%

Net profit (LHS)NPM (RHS)

Source: BSE India; Cygnus Research

INDUSTRY ANALYSIS Indian BPO sector on a growing trajectory The Indian ITES-BPO segment continues to chart strong year-on-year growth, witnessing high levels of activity both onshore as well as offshore. Similar to ITSS sector, the ITES sector is also experiencing good growth particularly for Global Consulting Practice that is actively engaged by customers for IT optimisation and overall IT strategy and governance. The overall attrition rate for the ITES sector reached 20.5%, which is prominent in the BPO sector. The BPO sector is expected to grow at an accelerated pace in 2008-09 period. The BPO industry is moving into KPO to raise profits. The current hot spots in KPO industry are engineering and design, basic data search, integration and management and biotech and pharma. This evolution of the market to the KPO will drive trends that will ensure very high-value services in off-shoring. These opportunities in the KPO will help the Indian market climb the global value and knowledge chain. Indian companies currently export software services and products to 112 countries around the world and 69% of the total IT exports revenue from USA. 185 of the fortune 500 companies outsource these software requirements to India. Some of the emerging markets for IT exports include Japan, Singapore, Australia, Latin America, and Eastern Europe. The industry is moving up the value chain from voice-based processes to non-voice based processes. Note: The Industry aggregate consists of the following: GTL Ltd, Mastek, Infotech Enterprises, Rolta India, Mphasis, Cambridge Solutions, Silver line Technologies, and Tricom India. During AMJ08, ITES industry’s operating profit is expected to increase to Rs2,206.16m from Rs1,903.37m and OPM to 21.63% from 23.39%. Net profit is expected to reach Rs1,295.72m and NPM is expected to increase to 12.70% from 12.48%.

Industry Aggregate (Rs m) Particulars AMJ08 Net Sales 10201.57 Change 25%EBITDA 2206.16 Change 16%Depreciation 589.74 Interest 137.83Other Income 38.99PBT 1517.58Tax 221.86Effective Tax Rate 15%Reported PAT 1295.72Change 28%Ind Market Cap 188115.50Source: Cygnus Research

159



Cost Structure

Rising salary levels remain the biggest concern of the ITES and BPO industry, followed by the rising rupee and skilled human power shortage. For AMJ08, staff costs are expected to reach 21.45% of net sales. Other expenses rose to 46.66% of net sales in AMJ08 from 43.73% in AMJ07. Tax expenses are expected to increase to 2.17% of net sales in AMJ08 from 1.78% in AMJ07. IT/ITES Exports As per the NASSCOM, McKinsey Research, the IT/ITES exports for 2009, is expected to be over US$47 billion and the exports are further expected to rise to US$60 billion by 2010. The Indian ITES industry accounted for over 36% of the total IT software and services export market in India in 2008. Industry Trends Indian BPOs take the lead in M&A action BPO entities have been at the front position of large mergers and acquisitions (M&A) in the Indian IT space as compared to IT services firms. Some of the recent M&A deals have been Infosys and Philips BPO, Blackstone and Intelenet, while at the same time there are reports about Citigroup and Aviva looking at exiting their captive of BPO operations in India. With scale being key to acquiring larger, and more prestigious contracts, relatively smaller service providers are now actively looking for opportunities to be acquired by larger firms or to form partnerships. Mphasis’ agreement with EDS is a good example of the trend; the agreement extends EDS’ reach in India while giving Mphasis access to clients companies in India. This predominance of BPOs in the M&A action has got lot to do with the growth potential in the segment. For the quarter ended June 30, 2008, IT/ITES led the way in number of deals, comprising seven deals in terms of private equity investment in India, totaling worth of US$27.5m. Indian KPOs enter M&A market India has a large pool of knowledge workers in various sectors ranging from pharmacy, medicine, law, biotechnology, education & training, engineering, analytics, design & animation, research & development, paralegal content and even intelligence services. India's knowledge process back-office (KPOs) firms are venturing overseas for acquisitions as they scale-up, struggle for talent, try to beat a rising rupee and face competition from big software firms. India as a major KPO player in the world has inherent advantages because of its intellectual and Internet resource. The resulting economic success of the BPO industry has

IT-ITES Exports

0 20 40 60 80 100

FY09*

FY10*

FY11*

FY12*

US$bn

Source: NASSCOM McKinsey Research; Cygnus Research; *Estimated

Cost Structure Qtr ended AMJ07 vs AMJ08

0

10

20

30

40

50

Staff cost Administrative Marketing Other Depreciation Interest Tax

% o

f N

et

sale

s

AMJ 2007

AMJ 2008


160



taken many firms to their advanced knowledge work to offshore destinations. The Indian KPO sector has immense opportunities for the SMEs. Indian IT firms heading towards overseas Indian IT firms have acquired a two-pronged approach. First, they are heading offshore -- from Malaysia to Mexico - to maintain their cost effectiveness as vendors. Second, they are now looking at business opportunities in Europe, Africa and Asia Pacific as a hedge against a prospective US slowdown. Companies such as Tata Consultancy, Infosys, Wipro and Satyam are stepping up acquisitions and opening more facilities closer to US and European clients in a reversal of the trend that made Bangalore or Gurgaon the back offices of the world's largest companies. Salary rise characterises the Indian IT/ITES sector Executives in the information technology and ITES sector took home average salary increase of 15.4% and 14.1% respectively in 2007, in comparison to real estate professionals. In 2008, IT and ITES professionals took home an increase of 14.6% and 14% against 25% hike of real estate employees. In 2008, average salaries went up by 15.2%. Industry in line to establish a global footprint Most Indian IT companies are spreading their services delivery infrastructure within India by moving into Tier-II and Tier-III cities to maintain their cost-effectiveness and to deal with competition from countries such as Taiwan and Vietnam. They are making inroads into China and setting up near shore centres in Eastern Europe, Latin America and Canada. They have adopted unconventional business models to gain market share and establish a global footprint and a global brand presence. Adding new service lines and targeting high potential verticals As the offshoring models becomes more mainstream, Indian IT/ITES companies are expected to penetrate new service lines such as Packaged Software Support and Installation; IT consulting; Network infrastructure management; Systems integration; IS outsourcing; IT Training and Education; Hardware support and Installation; and Network consulting and integration. Indian companies are focused primarily on three key verticals (Financial Services, Telecom and Manufacturing) that account for nearly 45% of the industry's revenues at present. Indian companies are now focusing on aggressively targeting under penetrated verticals for the next wave of growth. Verticals like Retail, Telecom Service Providers and Healthcare are likely to offer the next wave of opportunities for the industry. Lack of sufficient infrastructure The demand for infrastructure and indirect resources poses a key challenge for the IT-ITES sector. The incremental infrastructure required to support the projected growth is unlikely to be absorbed into the existing city centres in Tier I and Tier II cities, which are already witnessing signs of strain. Consequently, companies are expanding into Tier III and Tier IV cities for enhancing business and social infrastructure. Consequently, decentralised growth of the IT-ITES sector will require a coordinated, large-scale urban planning exercise. The IT-ITES sectors will likely to employ additional 2.5m professionals (export sectors alone) by FY12. In addition to basic utilities and physical infrastructure, growth in the sector will also generate significant demand for world-class business and social infrastructure. Service providers to push total outsourcing solution Maturing relationship with clients and broaden portfolio of outsourcing services at service providers is expected to create a consolidated sourcing approach among buying organisations (clients). Service providers will push total outsourcing solution such as application, infrastructure and BPO services. Large enterprises will get incremental benefits from outsourcing to single service providers. This will also helps in understanding client business to add value. Regulations Centre may retain tax sop only for BPOs The Central Government is likely to extend the Software Technology Parks of India (STPI) scheme beyond 2009, only to Indian ITES/BPO firms. A proposal to this effect has been included in the 11th Five-Year Plan document, which will be put up for approval of the National Development Council. The

161



STPI scheme is most important for smaller companies and BPOs, both of which have been mostly affected by the appreciating rupee. These companies also cannot afford to shift to special economic zones. NASSCOM seeks STPI extension for IT firms During the quarter, IT industry body NASSCOM said that multinational and domestic IT firms have started making more investments outside India and asked for a 10-year extension of tax concessions under the STPI scheme to reverse the trend. Under the STPI scheme, firms get tax holiday on profit from exports. The scheme ends by March 2009. The rapid appreciation of 15% in rupee value had a big impact particularly on SME sector and BPOs, while big IT companies were able to hedge correctly. OUTLOOK FOR THE SECTOR The year 2009, promises to bring in newer growth opportunities, potentially billion dollars for the Indian IT industry. The export-driven Indian IT/ITES industry — which has been dominated by application development and maintenance (ADM), voice-based BPO services and BFSI vertical — could see new and niche areas scaling up rapidly.

Higher demand for sophisticated enterprises and consumer services will drive the growth. Even as vendors reach out to new geographies (beyond BRIC) for growth, India would continue to remain the centre of attraction. For the domestic IT/ITES sector, 2009 would also mark the beginning of the second growth phase characterised by the opportunities arising out of leveraging the IT infrastructure built up. The NASSCOM-McKinsey study, which has projected US$60 billion IT/ITES exports from India by 2010, will see the contribution of the BPO segment touch US$25 billion from the FY07 level of US$8.4 billion.

With the slowdown in the US economy, a strong rupee and questions over extension of the STP scheme looming large, 2009 will be a crucial year for the Indian BPO industry. Global clients will turn to new countries as inflation and employee turnover in Indian cities like Bangalore and Pune will frustrate them. Talent shortage will push them to Tier-II cities within India, and to Latin America, Eastern Europe and Asia. Canada, Brazil, Chile, Costa Rica and Mexico will be some of the new hot spots in providing sourcing solutions. The industry is strongly optimistic to achieve its aspired target of US$60 billion in exports by 2010.

162



INTER-FIRM COMPARISON Operational Performance Indian BPO growth story continues and India continues to be the global hub for outsourcing. Indian IT companies are moving up the value chain to grab the customers around the world. Mphasis leads the industry with 40% growth in sales

During AMJ08, all the expenses are expected to rise marginally as a percentage of net sales, except

depreciation and interest expenses. Staff cost is expected to reach 21.45% of net sales for AMJ08. Aministrative expenses and other

expenses are estimated to increase during AMJ08. For Mastek, staff costs, marketing and other expenses are expected to increase during AMJ08. For GTL, marketing and administrative expenses are expected to increase for AMJ08. For Rolta, tax expenses are expected to increase as a percentage of net sales for AMJ08 compared

with AMJ07. GTL Infotech Mastek Industry ’07 ’08 ’07 ’08 ’07 ’08 ’07 ’08 Staff 0.00 0.00 49.93 52.56 65.29 65.41 22.72 21.45Administrative 4.81 5.02 18.62 18.20 0.00 0.00 6.81 6.84Marketing 2.72 2.84 11.07 10.82 6.27 6.28 3.35 3.43Other 77.34 80.75 - - 15.71 15.74 43.73 46.66Depreciation 3.32 2.53 7.29 5.73 5.57 5.26 6.98 5.78Interest 1.94 1.48 0.19 0.15 0.03 0.02 1.63 1.35Tax 0.51 0.63 1.49 1.85 -0.27 0.73 1.78 2.17 Mphasis Rolta Industry ’07 ’08 ’07 ’08 ’07 ’08 Staff 0.00 0.00 16.73 16.01 22.72 21.45Administrative 6.30 6.17 - - 6.81 6.84Marketing 4.37 4.28 0.00 0.00 3.35 3.43Other 72.67 71.11 33.73 32.28 43.73 46.66Depreciation 0.00 0.00 16.55 14.68 6.98 5.78Interest -0.62 -0.18 0.00 0.00 1.63 1.35Tax 0.73 0.67 4.09 5.25 1.78 2.17

Revenue Performance in AMJ07 Vs AMJ08

0

1000

2000

3000

4000

5000

6000

GTL Infotech Mastek Mphasis Rolta

Rs i

n m

7

14

21

28

35

42

%

AMJ 07(LHS) AMJ 08(LHS) Growth (RHS)


163



Financial Performance Rolta leads in both OPM and NPM For the quarter ended June 2008, Rolta is expected to lead the industry with highest OPM of 51.7% and NPM of 33.7% due to lower level of staff cost and other expenditure compared with other players in the industry. For AMJ08, Infotech Enterprises’ OPM dipped to 18.4% from 20.4% in AMJ07 and NPM rose to 9.8% from 8.5% due to higher expenses.

Financial performance AMJ 07 vs AMJ 08

0

900

1800

2700

3600

4500

5400

AMJ 07 AMJ 08 AMJ 07 AMJ 08 AMJ 07 AMJ 08

GTL Infotech Mastek

Rs i

n m

0

5

10

15

20

25

%

Net sales(RHS)

NPM(LHS)

OPM(LHS)

Financial performance AMJ 07 vs AMJ 08

1000

2000

3000

4000

5000

6000

7000

8000

AMJ 07 AMJ 08 AMJ 07 AMJ 08

Rolta Mphasis

Rs i

n m

0

20

40

60

80

%

Net sales(RHS)

NPM(LHS)

OPM(LHS)


164



STOCK SCAN

BSE Sensex: The 30-share BSE Sensex witnessed a drop of 13.85% during AMJ08. The Sensex lost around 2,165.02 points and fell from 15,626.62 points on April 01, 2008 to 13,461.60 points on June 30, 2008. Uncertainty in global markets, soaring crude oil prices and high inflation created negative sentiments in the market. BSE IT: The BSE IT witnessed an increase of 13.54% during AMJ08, as major players performed well during the period with maximum number of deals. This led to rise in export revenues for the sector. Infotech: The company’s share price decreased by almost 20.14% to Rs235.05 as on June 30, 2008, from Rs263.15 on April 01, 2008, due to global meltdown of markets as well as investors’ week confidence. Mastek Ltd: Mastek share price jumped by 16.24% during the quarter to Rs364.05 as on June 30, 2008, from Rs313.20 on April 01, 2008, due to positive sentiments of its investors. Rolta: During the quarter under review, Rolta India Limited share price decreased by 5.40% due to the US sub-prime crisis and thereby markets experienced weak sentiments.

Stock Performance in AMJ08 Stock Change (%) P/E High Sensex -13.85 20.71BSE IT 13.54 -Infotech -20.14 28.17Mastek Ltd 16.24 21.98GTL -20.14 31.96Rolta -5.40 31.86Mphasis 10.21 42.49Source: BSE India; Cygnus Research

Relative Market Cap performance

75

85

95

105

115

125

1351-A

pr

6-A

pr

11-A

pr

16-A

pr

21-A

pr

26-A

pr

1-M

ay

6-M

ay

11-M

ay

16-M

ay

21-M

ay

26-M

ay

31-M

ay

5-J

un

10-J

un

15-J

un

20-J

un

25-J

un

30-J

un

BSE Sensex Infotech

Mastek ltd BSE IT

Relative Market Cap performance

75

90

105

120

135

1-A

pr

6-A

pr

11-A

pr

16-A

pr

21-A

pr

26-A

pr

1-M

ay

6-M

ay

11-M

ay

16-M

ay

21-M

ay

26-M

ay

31-M

ay

5-J

un

10-J

un

15-J

un

20-J

un

25-J

un

30-J

un

BSE Sensex GTL ltdMphasis Rolta indBSE IT


165



COMPANY ANALYSIS

1. GTL Ltd

GTL has over 450 customers and a major presence in the BFSI and ITES segments. GTL Ltd has planned to concentrate only on network service segment by hiving off or selling off its IT services business in 2007 - 08. As a part of this strategy, Orange Business Services, the business communications arm of France Telecom, acquired GTL’s IT service business in July 2007. The company intents to add capabilities across the entire spectrum of the Network Life Cycle of Telecom Operators and Technology Providers. For the financial years 2007 - 08 and 2008 - 09, the company is expected to post 74% and 35% growth respectively in terms of net sales. The company’s revenues are expected to grow due to increase in revenue generation from overseas operations as well as due to high margin businesses of Network Planning & Design, Professional Services and Operation & Maintenance.

Year End Net Sales (Rs m) PAT (Rs m) EPS (Rs) P/E ROE ROCE

March 08 (A) 14333.30 1066.10 11.27 22.26 12% 9% March 09 (E) 19384.58 1195.71 12.64 19.85 12% 11% March 10 (E) 25785.96 1290.49 13.64 18.39 11% 11%

(Rs m)

Quarter Industry

AggregateFull Year Ended

Y/E March AMJ07

(A) AMJ08

(E) JAS08

(E) AMJ08

(E) March 08

(A) March 09

(E) March 10

(E)

Net Sales 3362.60 4573.14 4895.64 10201.57 14333.30 19384.58 25785.96 Change 158% 36% 35% 25% 74% 35% 33%EBITDA 508.70 520.60 607.44 2206.16 2293.10 2502.34 2691.07 Change 490% 2% 8% 16% 136% 9% 8%Depreciation 111.50 115.74 124.03 589.74 458.80 476.23 494.43Interest 65.20 67.65 137.54 137.83 593.50 615.42 638.38Other Income -90.70 -36.28 -18.88 38.99 -121.60 -27.78 11.83PBT 241.30 300.93 327.00 1517.58 1119.20 1382.92 1570.10TAX 17.30 28.75 28.26 221.86 53.10 387.22 439.63Tax Rate 7% 10% 9% 15% 5% 28% 28%PAT 224.00 272.18 298.74 1295.72 1066.10 1195.71 1290.49 Change -47% 22% 20% 28% 25% 12% 8%Source: Cygnus Research Note: 1. All calculations are on the basis of trailing method 2. PBT and PAT are projected figures 3. EPS is projected on the basis of profit

166



2. Infotech Enterprises

Infotech Enterprises is a software services company with core competencies in the areas of Geospatial Data & Technology services, engineering design and IT services. For AMJ08, the company is expected to register 33% growth in net sales and 54% growth in PAT. In OND08, the company has inaugurated its first global delivery centre in Bangalore. While the existing customers emerged as key growth drivers, new customers look for larger engagements in the forthcoming financial. For 2007 - 08, the revenues rose due to good performance of GIS segment and net profit moved up due to rise in other income and higher profit from its associate company IASI. Delay in project start-up from its top client, Pratt & Whitney, led to lower volumes in the EMI segment. Revenues from the top clients is expected to increase over the coming years. For 2008 - 09, the company is expected to register 33% growth in sales from the previous year.



(Rs m)

Quarter Industry


Y/E March AMJ07

(A) AMJ08

(E) JAS08

(E) AMJ08

(E) March 08

(A) March 09

(E) March 10

(E) Net Sales 962.40 1279.99 1382.61 10201.57 962.40 1279.99 1382.61 Change 32% 33% 34% 25% 32% 33% 34%EBITDA 196.20 235.88 245.06 2206.16 196.20 235.88 245.06 Change 17% 20% 21% 16% 17% 20% 21%Depreciation 70.20 73.39 84.77 589.74 70.20 73.39 84.77Interest 1.80 1.98 7.01 137.83 1.80 1.98 7.01Other Income -28.30 -11.32 121.28 38.99 -28.30 -11.32 121.28PBT 95.90 149.19 274.56 1517.58 95.90 149.19 274.56TAX 14.30 23.68 45.50 221.86 14.30 23.68 45.50Tax Rate 15% 16% 17% 15% 15% 16% 17%PAT 81.60 125.51 229.06 1295.72 81.60 125.51 229.06 Change -37% 54% 26% 28% -37% 54% 26%Source: Cygnus Research Note: 1. All calculations are on the basis of trailing method 2. PBT and PAT are projected figures 3. EPS is projected on the basis of profit

167



3. Mphasis

Mphasis Ltd is the Indian unit of Electronic Data Systems (EDS) Corp and offers solutions to the world’s leading companies in selected industries, such as banking and financial services, logistics and technology based on a portfolio of world-class Apps, BPO and ITO capabilities. For AMJ08, it is expected that the company would register 40% growth to reach net sales of Rs4,995.83m. For 2008-09, the company is expected to register an increase of 38% in its revenues to reach a value of Rs23,591.19m. There are talks going on for the acquisition of Mphasis’ parent company, EDS by Hewlett-Packard, leading to rise in share price of the company.



(Rs m)

Quarter Industry


Y/E March AMJ07

(A) AMJ08

(E) JAS08

(E) AMJ08

(E) March 08

(A) March 09

(E) March 10

(E) Net Sales 3568.45 4995.83 5704.09 10201.57 17035.60 23591.19 32655.76 Change 219% 40% 38% 25% 142% 38% 38%EBITDA 594.27 921.20 872.47 2206.16 3156.70 4150.82 6159.48 Change 369% 55% 74% 16% 206% 31% 48%Depreciation 0.00 0.00 0.00 589.74 869.50 508.18 527.49Interest -22.09 -8.84 -3.87 137.83 -57.40 -21.67 -1.04Other Income -103.04 -41.22 2.44 38.99 -101.00 -6.15 32.04PBT 513.32 888.82 878.78 1517.58 2243.60 3658.16 5665.07TAX 25.92 33.70 14.61 221.86 1.35 0.63 0.55Tax Rate 5% 4% 2% 15% 0.06% 0.02% 0.01%PAT 487.40 855.13 864.17 1295.72 2207.70 3607.41 5595.71 Change 358% 75% 75% 28% 146% 63% 55%Source: Cygnus Research Note: 1. All calculations are on the basis of trailing method 2. PBT and PAT are projected figures 3. EPS is projected on the basis of profit

168



4. Mastek

Mastek’s revenue performance during JFM07 was driven by sustained growth in its existing accounts, while its earnings were driven by better margins. Mastek has been able to build upon the pipeline of opportunity that it has been creating, adding new customers and strengthening relationships with existing ones. The company added four new accounts during the OND07, three of them being in the Insurance vertical. Margins also expanded on the back of cost efficiencies made by the company. For AMJ08, the company registered 10% growth to reach net sales of Rs1,301.90m as compared to Rs1,185.70m in the corresponding quarter of previous year. For the JAS08 quarter, the company is expected to register 12% growth to reach net sales of Rs1,569.90m. Growth will be mainly driven by expansion of order book and opportunity pipeline.



(Rs m)

Quarter Industry


Y/E March AMJ07

(A) AMJ08

(E) JAS08

(E) AMJ08

(E) March 08

(A) March 09

(E) March 10

(E)

Net Sales 1185.70 1301.90 1569.90 10201.57 5546.40 6211.97 6957.40 Change 5% 10% 12% 25% 11% 12% 12%EBITDA 150.90 163.62 215.26 2206.16 984.72 1102.88 1235.23 Change -21% 8% 12% 16% 20% 12% 12%Depreciation 66.10 68.48 65.54 589.74 272.88 282.90 293.59Interest 0.30 0.31 1.35 137.83 4.31 4.48 4.65Other Income 15.70 17.58 60.93 38.99 127.48 142.78 159.92PBT 100.20 112.41 209.30 1517.58 835.01 958.29 1096.91TAX -3.20 9.49 21.98 221.86 240.18 297.11 348.70Tax Rate -3% 8% 11% 15% 29% 31% 32%PAT 103.40 102.92 187.32 1295.72 779.92 867.18 975.73 Change -34% 0% 11% 28% 52% 11% 13%Source: Cygnus Research Note: 1. All calculations are on the basis of trailing method 2. PBT and PAT are projected figures 3. EPS is projected on the basis of profit

169



5. Rolta India

Rolta is a leading provider and developer of Information Technology based Geospatial Information Systems (GIS), Engineering Design Services, Software Development, Advanced Security, Network Management, ERP Consulting and Deployment services worldwide. As India’s GDP is expected to grow at over 9%, it will require huge core infrastructure development that needs Geospatial Technology for AMJ08. The company is estimated to register 17% growth in its top-line in AMJ08 to reach a value of Rs1,998.91m from Rs1,708.47m from the corresponding period of previous year. In the AMJ08 quarter, the company has set-up a subsidiary in Australia as well as entered into a defence deal in India and ship design services for European shipyards.



(Rs m)

Quarter Industry


Y/E March AMJ07

(A) AMJ08

(E) JAS08

(E) AMJ08

(E) March 08

(A) March 09

(E) March 10

(E)

Net Sales 1708.47 1998.91 2256.39 10201.57 8313.68 9702.06 11254.39 Change 23% 17% 17% 25% 39% 17% 16%EBITDA 846.50 1033.50 1122.40 2206.16 342.06 383.11 429.08 Change 33% 22% 24% 16% 37% 24% 20%Depreciation 282.71 293.45 323.75 589.74 1271.72 1321.32 1373.05Interest 0.00 0.00 0.00 137.83 0.00 0.00 0.00Other Income 33.83 37.89 115.25 38.99 342.06 383.11 429.08PBT 597.62 777.94 913.90 1517.58 3129.58 4083.97 5068.96TAX 69.90 104.85 116.00 221.86 374.85 469.82 591.97Tax Rate 12% 13% 13% 15% 12% 12% 12%PAT 527.72 673.09 797.90 1295.72 2754.73 3614.15 4476.98 Change 49% 28% 30% 28% 51% 31% 24%Source: Cygnus Research Note: 1. All calculations are on the basis of trailing method 2. PBT and PAT are projected figures 3. EPS is projected on the basis of profit

170

Please see the important notice on the inside back cover.

India IT Services & Software Abhiram Eleswarapu (91 22) 6650 1684 Technology/Software & Service 12 May 2008

Overweight (Initiation)

S O W H A T ? T H E B N P P A R I B A S A N G L E

Sensitivity analysis shows slowdown concerns more than priced in.

We expect consensus momentum trend to reverse in 2HFY09 on improving commentary from the US.

Key Stock Picks BBG Share Target Upside/ Mkt ——— Rec P/E ———

Company code Rec price price (downside) cap 2008 2009E 2010E (INR) (INR) (%) (USD b) (x) (x) (x)Infosys INFO IN BUY 1,843.20 2,050.00 11.2 25.50 23.3 19.3 16.4Satyam SCS IN BUY 489.02 570.00 16.6 7.93 19.8 16.0 13.8TCS TCS IN HOLD 966.20 940.00 (2.7) 22.87 18.8 16.3 13.8Wipro WPRO IN HOLD 499.20 490.00 (1.8) 17.60 22.5 19.0 16.2Source: BNP Paribas estimates

We initiate coverage of India’s IT services and software sector with an OVERWEIGHT rating. We believe improving commentary from the US through the year will provide upside to conservative company guidance and improve valuation multiples. We contend that the long-term offshoring story remains largely intact. Our top picks are Infosys and Satyam.

Valuations may have bottomed out Initiate sector coverage with an OVERWEIGHT We initiate coverage of India’s IT services and software sector with an OVERWEIGHT rating, which implies that we expect sector fundamentals to improve over FY08. Minus an extreme adverse currency movement similar to that in FY08, we expect Indian outsourcing players to be able to match or exceed their FY08 revenue growth at relatively stable margins in FY09. Select stocks look attractive after sharp correction Our analysis suggests that IT stocks underperformed the BSE Sensex in FY08 mainly due to: 1) extreme currency movement; and 2) bullish Street estimates – both of which may not be the case in FY09. We expect the US slowdown to manifest itself in a relatively muted 1HFY09 for all Indian outsourcing companies and provide buying opportunities for investors. We believe that as the uncertainty surrounding the US slowdown clears, estimates and valuation multiples will expand. Our top picks are Infosys and Satyam, with 11-17% upside We believe that with industry-leading pricing and margins, Infosys is best-positioned to deal with any near-term slowdown and to capitalise on long-term opportunities. Satyam, on the other hand, has shown the best top-line growth over the past few quarters among its peers and has been reporting steadily improving operational metrics. Long-term demand/supply scenario remains healthy While the near term looks uncertain because of macro concerns about reduced IT spending in the US, the long-term-demand scenario remains healthy for Indian IT players. Also, despite predictions in some quarters for a tight labour supply, we believe that with “right-skilling,” companies can not only manage growth, but also reduce their wage bills. Cash on books will be used strategically Most Indian IT companies have healthy cash reserves on their balance sheets. We believe that large companies will look for strategic acquisitions (or conservatively raise dividends), while the smaller ones will likely prefer share buybacks to boost their stock prices.

Abhiram Eleswarapu (91 22) 6650 1684 BNP Paribas India Solutions Pvt Ltd [email protected] Avinash Singh (91 22) 6650 1685 BNP Paribas India Solutions Pvt Ltd [email protected] Coverage Universe Key Metrics

(INR m) FY06 FY07 FY08 Infosys Revenue 95,210 138,930 166,920 Period end employees 52,715 72,241 91,187 EBIT margin (%) 27.9 27.9 27.8 TCS Revenue 132,455 186,332 228,614 Period end employees 66,480 89,419 111,407 EBIT margin (%) 25.6 24.9 23.5 Wipro Revenue 106,107 149,431 197,428 Period end employees 53,742 67,818 82,122 EBIT margin (%) 20.7 20.0 17.1 Satyam Revenue 47,926 64,851 84,735 Period end employees 26,511 35,670 45,969 EBIT margin (%) 21.5 21.4 19.7

Sources: Company reports; BNP Paribas

BSE IT Index vs MSCI India

406080

100120140160180

Jan-07 Jun-07 Nov-07 Apr-08

BSE IT IndexMSCI India

Source: Bloomberg

171

A B H I R A M E L E S W A R A P U I N D I A I T S E R V I C E S & S O F T W A R E 1 2 M A Y 2 0 0 8

2 B N P P A R I B A S

Contents Initiate coverage with an OVERWEIGHT ...................................................................... 3

Our OVERWEIGHT rating on the sector implies that we expect improved fundamentals over FY08.

Addressing the US slowdown and currency concerns................................................... 9

FY09 consensus revenue estimates are factoring in either a severe slowdown in volume growth because of the US slowdown or currency knocking off more than any pricing gains the companies can get, or both

Infosys and Satyam are our top picks.......................................................................... 12

We favour Infosys for its industry-leading pricing and operating margin, and its track record of preserving both, while we expect Satyam to continue to expand ahead of peers

Long-term outsourcing story still intact ........................................................................ 13

Global tech spending remains healthy despite projections being trimmed slightly recently. Huge opportunity for the yet nascent Indian IT offshoring industry, which stands at 3.6% of the nearly USD1t global technology spending market

Is there enough labour to sustain growth?................................................................... 18

NASSCOM expects a potential shortage of 0.5m workers by 2010. IT companies have expanded their hiring of nonengineering graduates to counter this.

Rising wages = continued margin pressure................................................................. 22

Indian IT companies earn higher operating margins than their legacy peers due to lower wages and overhead. This advantage is unlikely to diminish in the foreseeable future as their service portfolios will remain skewed toward offshore work

Use of cash – acquisitions, buybacks, dividends......................................................... 27

We expect increased activity that involves prudent use of cash by Indian IT companies. This could come in the form of acquisitions, increased dividends and share buybacks.

Breaking down the variables – what to look for? ......................................................... 29

Please see India Research Team list on page 30.

172



W H Y L O O K A T I T S T O C K S N O W ?

Initiate coverage with an OVERWEIGHT We initiate coverage of the Indian IT services and software sector with an OVERWEIGHT rating, implying better fundamentals over FY08. Minus an adverse currency movement similar to that in FY08, we expect Indian outsourcing players to be able to match or exceed their FY08 revenue growth at relatively stable margins, despite concerns of a US slowdown. With investor expectations already toned down, we believe stock valuations of select companies are looking attractive at current levels for long-term investors.

Why IT stocks should not underperform again in FY09 We believe that an important starting point for our thesis is to find out why IT stocks fell through FY08 and why that (or any other similar effect) is not likely to repeat in FY09. Our analysis suggests that IT stocks underperformed the BSE Sensex in FY08 mainly due to: 1) extreme currency movement; and 2) bullish Street prior to the underperformance – both of which are not the case in FY09. The BSE IT index was down 24.2% between 2 April 2007 and 2 April 2008 vs the BSE Sensex, which was up 26.5% during the same period, a 50.7% underperformance for IT stocks.

Currency was the key variable for much of FY08 An unexpected 7.7% (end-of-period) appreciation in FY08 of the INR vs the USD decreased the realised exchange rates by about 12.3-12.7% y-y and knocked off 14-16% of the y-y revenue growth for the top four IT companies (by revenue and market cap). In fact, currency became the key variable driving the performance of IT stocks through much of FY08 (until negative sentiment related to the US slowdown took over). As Exhibit 3 shows, since January 2007, IT stock prices have moved in tandem with the INR/USD rate.

Exhibit 1: Revenue Growth (In INR And USD) Exhibit 2: Change In Realised FX Rate; Infosys Revenue Growth

20.124.3 22.8

30.735.1

38.1 37.9

46.3

15.0 13.8 15.2 15.6

05

101520253035404550

Infosys TCS(International

revenue)

Wipro (GlobalIT and

products)

Satyam

INR revenue FY08 growthUSD revenue FY08 growthDifference

(y-y %)

14.5

5.9

3.2

0.0

8.8

4.0

6.3

10.1

5.1

10.1

6.1

(1.2)

3.91.9 1.2 2.0

(0.9)

13.0

5.4

7.5 7.5

(4)(2)02468

10121416

2QFY07 4QFY07 2QFY08 4QFY08

INR revenue growthUSD revenue growthRealized FX rate change

(q-q %)

Sources: Company reports; BNP Paribas Sources: Company reports; BNP Paribas

The appreciating INR masked the operational performance of IT companies through FY08. For example, in 1QFY08, the currency movement entirely wiped out otherwise healthy revenue growth for Infosys

173



Exhibit 3: The BSE IT Index vs BSE Sensex And The USD/INR Exchange Rate

5060708090

100110120130140150

Jan-07 Mar-07 May-07 Jul-07 Aug-07 Oct-07 Dec-07 Feb-08 Apr-0838

39

40

41

42

43

44

45BSE SENSEX (LHS) BSE IT (LHS) USD/INR (RHS)

(index values rebased to 100) (USD/INR exchange rate)

Sources: Thomson Financial; BNP Paribas

With the INR-USD rate stabilising somewhat in recent months and all the top-tier Indian IT companies hedging the next few quarters of their future USD inflows, we expect currency to be less of a determinant in FY09. We conclude later in this section that because of hedging, currency will be an EPS-neutral feature in the near term, and at most a sentiment-affecting factor. The risk of the US slowdown affecting Indian IT companies in the near term, though, is real, but is priced into stock prices. Hence, we expect our OVERWEIGHT rating to play out over a 12-month period.

Currency also exposed bullish Street estimates The adverse currency movement not only shaved off top-line growth but, along with the possibility of a US slowdown, also triggered a deeper analysis of the fundamentals of Indian IT companies and the sustainability of long-term earnings.

Street estimates in January 2007 (the last peak for the shares) were based on a bull-case scenario that factored in IT companies continuing to increase revenue at long-term rates of close to 20% y-y with limited margin contraction. To us it appears that the estimates did not factor in an appreciating INR or possibly other near-term concerns such as an impending US slowdown and the expiry of tax holidays after FY09 (a recent proposal would extend these benefits to FY10). In addition, valuation multiples appear to have not adequately acknowledged longer- term issues such as revenue growth rates slowing as companies got bigger, the decreasing quality of a not unlimited labour pool, continued 15%+ offshore wage hikes and increasing competition from legacy players.

Our implied 10-year DCF analysis (on a WACC of ~13% with minor variations for different stocks and a terminal growth rate of 5%) using historical Street estimates on share prices as of January 2007 suggests that the prices were baking in close to 27-34% revenue growth rates until FY09 and about a 17-24% CAGR for the next eight years. In addition, stocks were pricing in limited FY07-09 margin declines (except for Satyam) and annual margin declines of 40-55bp (and almost none for Infosys) for the rest of the DCF horizon. These estimates, clearly aggressive, though granted it was hard to envisage multiple impending headwinds in a bull market, have since been toned down significantly, as we will discuss later in this section.

IT stocks have underperformed the BSE Sensex since January 2007, having moved with near-perfect correlation with the INR/USD exchange rate

Valuations at the last peak in January 2007 priced in bull-case projections that were prone to a correction. Currency provided the required trigger, while the US slowdown has sustained the negative sentiment

174



Exhibit 4: Projections Changes As Implied By DCF Valuation On Prices As Of January 2007

Share – Revenue growth CAGR – – EBIT margin change – — EPS growth CAGR —Year-end 31 Mar price FY07-09E FY09E-16E FY07-09E FY09E-16E FY07-09E FY09E-16E (INR) (%) (%) (bp) (bp) (%) (%)Infosys 2,244 33.9 19.7 (85) (39) 30.6 19.3TCS 1,279 33.2 16.9 (100) (107) 32.2 16.7Wipro 613 26.9 23.5 27 (313) 23.5 21.2Satyam 484 32.1 17.7 (125) (450) 29.1 14.3Note: Based on prices as of January 31, 2007 Sources: Thomson Financial; BNP Paribas

Since January 2007, shares of three of the top companies (excluding Satyam) have fallen more than 20% (and up to 35% until the recent recovery), primarily on earnings downgrades, which in turn reduced expected EPS growth rates. We also note that the estimate revisions were mainly for FY09 and FY10 rather than for FY08, meaning that the implied EPS growth rates reduced much more, thereby resulting in a severe drop in share prices.

Exhibit 5: Change In Stock Prices, Consensus Estimates And P/E Multiples Since January 31, 2007

Year-end 31 Mar ———— FY08E ———— ———— FY09E ———— ———— FY10E ————

% change in

stock price % change

in P/E% change

in EPS% change

in P/E% change

in EPS % change

in P/E % change

in EPSInfosys (21.9) (15.2) (7.8) (8.7) (14.4) 1.3 (15.5)TCS (28.1) (24.1) (5.3) (17.0) (13.4) (8.3) (20.7)Wipro (20.3) (10.0) (11.4) (7.0) (14.3) 2.0 (16.2)Satyam 2.1 3.7 (1.6) 6.3 (4.0) 8.6 (6.1)Note: Based on prices as of April 20, 2008 Sources: Thomson Financial; BNP Paribas

Stocks more attractive now on reduced multiples We re-did our implied DCF analysis on current share prices to see how investors have changed their long-term expectations for IT stocks. We note that most foreseeable near- and long-term risks seem to be priced in at the current valuations. In addition, the overall positive themes for the sector still hold good – sustained, albeit slower volume growth; healthy operational and margin metrics despite multiple headwinds; top-quality management; and the increasing acceptance of the long-term benefits of outsourcing. Outsourcing deals are becoming smaller (and hence falling within the reach of Indian players), and Indian companies are aggressively seeking to move up the value chain in their bid to improving pricing.

What’s changed in the implied DCF model? Revenue and margin projections are now considerably toned down Stocks are now pricing in far more palatable revenue and margin projections. Revenue estimates for FY08-10 have been brought down, most ostensibly due to the likely impact of a US slowdown and an appreciating currency. While the ~25% projected FY08-10 revenue CAGR is more or less in line with NASSCOM’s 21.3% industry growth expectation, the 14-16% EPS growth rate factors in a believable ~40bp annual margin drop (except for Wipro) to account for wage hikes and a hike in tax rates from 2010. The valuations begin to look decidedly attractive if we consider that current prices imply an FY11-18 revenue CAGR of ~15% and an EPS CAGR of 8-12%. This assumes a 70-90bp annual operating margin decline through the period. Given the modest assumptions built into current share prices, we believe that DCF valuations can support more aggressive projections.

Prices corrected due to the downward revision of FY09 and FY10 estimates, which in turn reduced expected EPS growth rates

Modest growth rates implied by current prices suggest DCF valuations can support more aggressive assumptions

175



Exhibit 6: Projections As Implied By A DCF Valuation On Prices As Of 2 May 2008

Share – Revenue growth CAGR – –— EBIT margin change –— —— EPS growth CAGR ——Year-end 31 Mar price FY09E-11E FY11E-18E FY09E-11E FY11E-18E FY09E-11E FY11E-18E (INR) (%) (%) (bp) (bp) (%) (%)Infosys 1,754 20.9 15.9 (78) (315) 15.7 13.8TCS 920 22.2 14.7 (156) (700) 16.4 8.6Wipro 489 24.3 18.4 (57) (420) 18.5 13.5Satyam 488 23.3 15.1 (90) (455) 17.7 10.6Note: Based on prices as of May 2, 2008 Sources: Thomson Financial; BNP Paribas estimates

Tax rates in Street models increased to ~20% from the current ~14% level It appears to us that in early 2007, investors might have expected the government-granted tax holidays to continue beyond the original March 2009 deadline (now proposed to be extended to March 2010). As it started becoming increasingly evident that this was unlikely, we believe that tax rates started getting priced into stocks. Even though EPS estimates as of January 2007 suggest that 2010 EPS estimates were factoring in increased tax rates, our DCF analysis suggests that either investors are unclear on whether the higher tax regime was here to stay, or that they were modeling higher revenue and margin assumptions than our implied DCF analysis suggests.

Valuation multiples reflecting long term 15-20% EPS CAGR We expect our top sector picks to return 11-17% over a 12-month period on a combination of P/E multiple expansion and earnings upgrades.

P/E multiples of Indian IT stocks have historically closely tracked estimated y-y EPS growth rates at an average one-year forward PEG of 0.8x between April 2004 and April 2008. This has coincided, however, with a period of relatively high y-y growth rates (about 50% y-y in two of those years for Infosys) compared with the near 20% in FY08. With y-y EPS growth rates now appearing to settle in the 15-20% level, it would be reasonable to expect stocks to trade close to a one-year forward PEG of 1.0x. This is justified by an inverse DCF analysis that we have earlier discussed. Also, we see upside to current Street FY09 and FY10 estimates for select stocks through FY09 and more clarity emerges on the impact of the US slowdown on Indian IT companies. This should also in turn increase the P/E multiples that track earnings growth.

Exhibit 7: Median FY1 P/E vs Median FY1 EPS Growth Exhibit 8: Median FY2 P/E vs Median FY2 EPS Growth

15

20

25

30

35

40

45

Oct-04 May-05 Dec-05 Jul-06 Feb-07 Sep-07 Apr-0815

20

25

30

35

40

45FY1 P/E (LHS) FY1 EPS (RHS)

(x) (y-y %)

1012141618202224262830


FY2 P/E (LHS) FY2 EPS (RHS)(x) (y-y %)

Charts show median figures for Infosys, TCS, Wipro and Satyam Sources: Thomson Financial; BNP Paribas


176



Exhibit 9: Median FY1 And Median FY2 P/E Movement Exhibit 10: Median FY1 PEG And Median FY2 PEG Movement

10

15

20

25

30

35


FY2 P/E FY1 P/E(x)

0.5

0.6

0.7

0.8

0.9

1.0

1.1


FY1 PEG FY2 PEGAverage FY1PEG Average FY2 PEG

(x)



Exhibit 11: One-Year Forward P/E Multiples Of Select IT Companies

15

20

25

30

35

40

Oct-04 Apr-05 Oct-05 Apr-06 Oct-06 Apr-07 Oct-07 Apr-08

Infosys TCS Wipro Satyam(x)

Sources: Thomson Financial; BNP Paribas

One-year forward PEG rather than P/E, a more appropriate valuation metric We disagree with the commonly made argument that IT stocks are now attractive because they are trading at their lowest absolute historical multiples in close to four years. We point out that the low P/Es are reflective of lower estimated EPS growth rates. For the same reason, the argument that stocks should trade at their average historical P/Es is also fallacious, in our view. We point out that stocks are attractive not because of their low absolute P/Es, but because at current P/Es are close to what existing EPS growth rate projections warrant and that we see an upside to current estimates over the next 12 months, at least for select stocks.

We point out that one-year forward PEG is a more meaningful valuation metric for Indian IT stocks because of the disparity in earnings growth rates of companies. A P/E multiple-based valuation tends to disregard for example, Satyam’s recent superior EPS growth rates.

IT stocks are trading at near four-year low P/Es. We point out, though, that the low current P/E multiples are because of lower expected EPS growth rates

177



Exhibit 12: Comparable Company Valuation

Indian IT Services Companies BBG Share Market —–— P/E —–— – EPS growth rate – - One-Year PEG -Company code price* cap FY09E FY10E FY09E FY10E FY09E FY10E (INR) (USD m) (x) (x) (%) (%) (x) (x)Infosys Technologies INFO IN 1,843 25,033 19.3 16.4 20.9 17.3 0.92 0.95Tata Consultancy Services TCS IN 966 22,204 16.3 13.8 15.6 18.0 1.04 0.77Wipro Ltd WPRO IN 499 17,600 19.1 16.2 18.3 17.6 1.04 0.92Satyam Computer Services SCS IN 489 8,063 16.0 13.8 24.0 15.8 0.67 0.87Median 17.7 15.0 19.6 17.5 0.98 0.90Mean 17.7 15.1 19.7 17.2 0.92 0.88* Price as of 7 May 2008 Sources: Thomson Financial; BNP Paribas estimates for Indian IT Companies

Look for PBT growth in FY11 to negate impact of increased taxes Starting in FY11, IT companies will pay increased tax rates of ~20% compared with the current ~11-13%. This means there will be a one-time drop in the EPS growth rate in FY11, thus making valuation on a P/E and PEG basis difficult. Given that there will be no significant change in the growth profile of the companies on an operational basis, we suggest that investors either consider growth in profit before taxes in FY11 or use EV/EBIT as valuation metrics. We are not suggesting that the increased tax in FY11 will itself be a one-time event, but rather that there will a one-time dip in EPS growth in FY11 because of increased taxes. From FY12, EPS growth will again become the right valuation metric to use.

We are modeling tax rates to not increase in FY10 from the current ~11-13% (FY08) to the more than 20% that the Street is modeling. This comes after the Indian finance minister’s recent proposal to extend software technology parks (STPI) tax benefits by an additional year to FY10.

Catalysts – improving commentary on the US We believe the catalysts for IT stocks will not be a single event, but will rather come in the form of improving commentary from the US coupled with good quarterly results, which should gradually improve stock sentiment. We expect the US slowdown could cause Indian IT companies to report relatively muted 1H revenue as outsourcers cut the discretionary component of their IT budgets, but anticipate a recovery in 2HFY09 as clients outsource more of their nondiscretionary IT spending in order to generate cost savings. As a result, we expect Infosys and Satyam (TCS and Wipro do not provide guidance) to progressively raise their guidance through the year as further clarity on client outsourcing spending emerges. Infosys has traditionally been conservative with its earnings outlook, and the current macro uncertainty could have only exacerbated the situation, in our view.

Based on our thesis of matching target P/E multiples with expected EPS growth rates, Infosys and Satyam are most attractive

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T O D A Y ’ S K E Y C O N C E R N S

Addressing the US slowdown and currency concerns Our sensitivity analysis shows that the impact of the US slowdown is more than priced into stocks. We also conclude that any movement in the currency will largely be EPS neutral because of hedging, but will affect stock sentiment.

US slowdown is reflected in current estimates An unexpected 7.7% (end-of-period) appreciation in FY08 of the INR vs the USD decreased the realised exchange rates for all the top Indian IT companies by close to 12.5% y-y and knocked off about 15% of the y-y services revenue growth in INR terms. In other words, minus the currency effect, Infosys for example, should have seen a 35.6% y-y FY08 services revenue rise, but ended up with 20.5% y-y. If we assume that the currency behaviour in FY08 was a “black swan” event, current FY09 consensus revenue growth projections of 22.9% y-y could prove conservative. Our analysis shows that Street estimates are factoring in either a severe volume slowdown from the 30% y-y growth that Infosys ended FY08 with, or that currency will play a key factor in FY09 again, or a combination of both. Even the most moderate combinations of likely Street assumptions for FY09 involve volume growth slowing to 24-26% y-y (attributable to the effect of a US slowdown) and the currency effect knocking off all pricing gains and more. Therefore while we acknowledge that the fears of a US slowdown and the currency appreciating are real, our analysis shows that it has been factored into current Street estimates.

Exhibit 13: Infosys Sensitivity Analysis Of Revenue Growth To Volume Growth And INR Pricing Gains

——————————————————— Volume growth ——————————————————— 18% 20% 22% 24% 26% 28% 30% 32% 34% 36%

(10.0%) 6.2 8.0 9.8 11.6 13.4 15.2 17.0 18.8 20.6 22.4High currency impact, no pricing gains (9.0%) 7.4 9.2 11.0 12.8 14.7 16.5 18.3 20.1 21.9 23.8

(8.0%) 8.6 10.4 12.2 14.1 15.9 17.8 19.6 21.4 23.3 25.1 (7.0%) 9.7 11.6 13.5 15.3 17.2 19.0 20.9 22.8 24.6 26.5 (6.0%) 10.9 12.8 14.7 16.6 18.4 20.3 22.2 24.1 26.0 27.8 (5.0%) 12.1 14.0 15.9 17.8 19.7 21.6 23.5 25.4 27.3 29.2 (4.0%) 13.3 15.2 17.1 19.0 21.0 22.9 24.8 26.7 28.6 30.6 (3.0%) 14.5 16.4 18.3 20.3 22.2 24.2 26.1 28.0 30.0 31.9 (2.0%) 15.6 17.6 19.6 21.5 23.5 25.4 27.4 29.4 31.3 33.3 (1.0%) 16.8 18.8 20.8 22.8 24.7 26.7 28.7 30.7 32.7 34.6 0.0% 18.0 20.0 22.0 24.0 26.0 28.0 30.0 32.0 34.0 36.0 1.0% 19.2 21.2 23.2 25.2 27.3 29.3 31.3 33.3 35.3 37.4 2.0% 20.4 22.4 24.4 26.5 28.5 30.6 32.6 34.6 36.7 38.7 3.0% 21.5 23.6 25.7 27.7 29.8 31.8 33.9 36.0 38.0 40.1 —

— C

urre

ncy-

wei

ghte

d pr

iced

gai

ns —

—

4.0% 22.7 24.8 26.9 29.0 31.0 33.1 35.2 37.3 39.4 41.45.0% 23.9 26.0 28.1 30.2 32.3 34.4 36.5 38.6 40.7 42.8No currency impact,

typical pricing gains 6.0% 25.1 27.2 29.3 31.4 33.6 35.7 37.8 39.9 42.0 44.2 FY08 services (IT and BPO) revenue growth in INR terms of 20.5% y-y FY08 services (IT and BPO) revenue growth in USD terms of 35.6% y-y (= INR revenue growth if there were no currency impact) Likely combinations of FY09 consensus estimate of 22.9% y-y revenue growth

Sources: Company reports; Thomson Financial; BNP Paribas estimates

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1 0 B N P P A R I B A S

Currency appreciation will at most be negative for sentiment An appreciating INR reduces the top line of Indian IT companies in INR terms and decreases operating margins. This is because while more than 90% of the revenue of the top four Indian companies is earned in foreign currencies, about 60-70% of the costs are in INR (foreign currency costs are mainly onsite salaries). IT companies contend that every 1% appreciation in the INR reduces the operating margin by 35-50bp. However, because companies hedge their net currency exposure, the losses at the EBIT level show up as other income gains and keep the net margin largely unchanged (assuming the entire exposure is hedged).

That said, we believe that an appreciating INR is negative for the overall sentiment for IT stocks as investors typically focus on the quality of earnings and prefer to see a lesser proportion of net income due to other income gains.

Exhibit 14: Other Income As A % Of Net Profit (FY08)

15.1

17.0

11.6

5.7

0

2

4

6

8

10

12

14

16

18

Infosys Satyam TCS Wipro

(%)

Note: includes any exchange gains recorded in revenue Sources: Company reports; BNP Paribas

Near term: Hedging should ensure EPS remains neutral to currency movement Given that the top four companies have hedged their net forex exposure for the next few quarters, any movement in the INR in either direction will affect the EBIT margin, but will be largely neutral to EPS in the near term. Because all of the hedges are in the form of plain vanilla forwards and options, even extreme movements in the INR will cause EPS to remain within a narrow band. At the same time, even if the INR depreciates (as has been the case over the past few months), there will not be any positive impact on EPS as companies have “hedged away” their gains.

Exhibit 15: Outstanding Hedging Positions And Accounting Treatment For Select IT Companies

O/S hedges

~Net qtrly FX inflow

Qtrs covered Accounting treatment Earnings impact

(USD b) (USD b) Infosys 0.76 ~0.8 1Satyam 1 ~0.35 3

All hedges mark-to-market (MTM) at period end, all gains/ losses included in other income below the EBIT line

Volatile other income and EPS, EBIT margins do not include any hedging gains/ losses

TCS 3 ~0.9 3Wipro 2.97 ~0.65 4.5

Cash flow hedging- effective hedges for quarter taken included in EBIT, remaining taken into OCI in balance sheet at MTM

Relatively smooth other income and EPS, EBIT margins include hedging gains/ losses

Note: Net quarterly foreign exchange inflow based on our estimates Sources: Company reports; BNP Paribas

FY09 consensus revenue estimates are factoring in either a severe slowdown in volume growth because of the US slowdown or currency knocking off more than any pricing gains the companies can get, or both

Increasing other income as a proportion of net profit could reduce the quality of earnings, which investors may view negatively even if EPS is protected by hedging

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Long term: EPS negative if currency keeps appreciating IT companies take new hedging positions each quarter to protect their future forex inflows. But if the INR has materially appreciated from when they took their previous positions, the new rates they will be able to negotiate will follow the direction of the new exchange rate. As a result, the new hedges will not be able to give them as much protection as their previous hedges. In addition, the existing, unexpired hedges are mark-to-market (MTM) at the end of each quarter, which has the same effect as entering into new hedges at a lower rate. Therefore, in the long run, EPS should be lower (despite hedging gains) than if the currency were to never appreciate at all.

It helps companies to hedge for several quarters of their future net forex inflows if the INR moves only north. This allows them to recognise more mark-to-market other income gains (for companies that follow MTM hedge accounting) than if they were to hedge only one quarter’s exposure at a time. The negative here though is that it is difficult to take such a clear long-term view on the currency and could be tantamount to speculation, which shareholders would want companies to refrain from. Also, in such a situation, if the INR were to start depreciating, the companies would have to book significant MTM losses.

Exhibit 16: Different Scenarios Of EPS Movement With Currency Appreciation And Hedging

Period 1 Period 2 Period 3 Period 4 Period 5 Period 6 Period 7 Period 8

EPS (without hedging)EPS (with hedging)EPS (currency does not change)

appreciating currency

appreciating currency

depreciatingcurrency

Note: The above analysis assumes steady revenue growth rate and operating margins impacted only by currency movements and MTM hedging policy Source: BNP Paribas estimates

If the INR appreciates for several periods, EPS despite hedging gains will be less than if the currency were to never appreciate at all

In the near term, however, EPS propped up by MTM hedging gains can be higher than if the currency never appreciated because companies hedge their exposure for several periods ahead, which could generate large other income gains

That said, if companies hedge for too many periods ahead, they could report big MTM losses if the INR depreciates in a particular period

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T O P S E C T O R P I C K S

Infosys and Satyam are our top picks Our stock selection is based on a 12-month view that maps our FY09 EPS growth-rate projection with current valuations to decide on the likely winners. We believe that current estimates and guidance are conservative and are heavily influenced by the likely near-term impact of a US slowdown, and should improve through the year.

Infosys – best-positioned to face any slowdown We favour Infosys for its industry-leading pricing and operating margin and its track record of preserving both. Infosys commands premium pricing over peers mainly because of its superior brand, thrust on higher value services and ability to walk away from lower pricing deals. Its healthy margins are a result of its strong training engine that allows it hire a higher proportion of low-cost campus graduates and stringent expense management. Infosys continues to systematically mine its top accounts and report a healthy deal pipeline, and is well-positioned to benefit in an otherwise compelling long-term environment for offshoring. Our target price on Infosys shares of INR2,050 (potential upside of 11.2%) is based on 21.4x our FY09 diluted EPS estimate of INR95.67 and in line with our FY09 EPS growth projection.

Satyam – solid recent results with improving metrics We expect Satyam to sustain its recent industry-leading revenue growth over peers. With larger peers reaching a critical size to the extent that adding employees to sustain their revenue growth will become increasingly difficult, Satyam is at an inflection point because of its smaller size, increasing focus on top accounts and large deals, its edge in package implementation beginning to bear fruit, and a recently kick-started inorganic strategy. In addition, the company’s operational metrics are improving – employee turnover is at an all-time low and has become better than peers, while utilisation rates and the offshore proportion of revenue are headed north. Our target price of INR570 (potential upside of 16.6%) is based on 18.6x our FY09 diluted EPS estimate of INR30.64 and is at a discount to our FY09 EPS growth projection to account for the company’s small size relative to peers and its historical valuation discount.

TCS – limited upside to our estimates We see limited upside to the shares from the current level. TCS is India’s largest IT services company with the most geographically diversified operations, strong emerging market focus and aggressive inorganic strategy. TCS’s large deal focus means that it will have to continue to make initial investments that could affect pricing as in 4QFY08. The company also has a high exposure to the “troubled” financial-services segment (~44% of revenue) and has also so far made the most alarming comments on the US slowdown. Our target price on TCS shares of INR940 (potential downside of 2.7%) is based on 15.9x our FY09 diluted EPS estimate of INR59.29 and is in line with our FY09 EPS growth projection.

Wipro – Positives and negatives cancel each other out We like Wipro for its diversified IT services portfolio, its early lead in high-growth emerging lines such as BPO and infrastructure management, and its aggressive inorganic strategy. These positives are masked, however, by increasing contributions from the lower-margin non-IT businesses due to a slowing core business and the company’s inability to mine its top clients as efficiently as its peers. Our target price of INR490 is based on 18.7x our FY09 diluted EPS estimate and is in line with our FY09 EPS growth projection.

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I N D U S T R Y D E M A N D E N V I R O N M E N T

Long-term outsourcing story still intact While the near term looks uncertain because of macro concerns about reduced IT spending in the US, the long-term-demand scenario remains healthy. A huge untapped potential exists for Indian outsourcing players with only their ability to scale up operations and skill sets likely to prevent faster growth.

Healthy estimates for overall demand One of the key macro indicators used to judge the outlook for IT companies is worldwide technology spending. According to industry groups International Data Corp (IDC) and the National Association of Software and Services Cos (NASSCOM), global technology spending was estimated at USD1.7t in 2007, out of which services (IT services and business-process outsourcing, or BPO) accounted for USD957b. Estimates from other industry sources exclude a portion of the BPO spending in their methodology and peg the overall IT-BPO services spending at about USD700b-750b. Global IT and BPO spending is expected to increase at 2006-11 CAGRs of 5.8% and 10.0%, respectively, indicating a continued robust outlook for the industry, despite these projections being trimmed slightly in recent times.

Exhibit 17: Worldwide Technology Spending Breakdown – 2007 Exhibit 18: Worldwide IT Services And BPO Spending – 2007

Worldwide CY07 technology spend = USD2,488b(USD1,685b excl. engg. and R&D spend)

Software250.1

Hardware478.3

IT services495.1

Business process

outsourcing461.6

Engg and R&D802.3

CAGR: IT services-5.8%, BPO- 10.0%

467.0 495.1 524.6 555.4 587.6 619.4

420.6 461.6 508.4 560.8616.7

677.0

0

200

400

600

800

1,000

1,200

1,400

2006 2007 2008E 2009E 2010E 2011E

(USD b)

Worldwide BPO spendWorldwide IT services spend

Sources: IDC; BNP Paribas Sources: IDC; BNP Paribas

Huge offshoring potential comes with challenges for Indian players NASSCOM estimates that of the total services spending, close to one-third, or about USD330b could be potentially “offshored” to locations such as India (a considerably larger 55% of the total is “outsourced”). Only a fraction of this is currently offshored. According to NASSCOM, India will have exported about USD34b worth of IT and BPO services in FY08 (ended March 31). This translates to only about 3.6% of the nearly USD1t global market, and to about 10% of what NASSCOM estimates can be potentially offshored. Incidentally, India dominates the IT-BPO offshoring market with a 58% market share (NASSCOM Strategic Review 2007). This clearly indicates huge untapped potential for offshoring players and drives NASSCOM’s Indian export target (IT services, BPO, software, engineering services and R&D) of USD60b (translates to a 21.3% 2008-10 CAGR).

In fact, in some of the more “offshorable” segments such as BPO and infrastructure services, Indian IT companies have yet to make any headway. Given the recent thrust on these services (acquisitions, etc), though, by all Indian players, we expect the two areas to be important growth drivers.

Global tech spending remains healthy despite projections being trimmed slightly recently

Huge opportunity for the still nascent Indian IT offshoring industry, which totals 3.6% of the nearly USD1t global technology spending market

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Exhibit 19: India’s Share Of Global Services Spending

2007 for global and FY08E for India Global spending Indian exports Market share (USD m) (USD m) (%)Project oriented 169,900 11,930 7.0IT consulting 27,100 650 2.4System integration 84,900 680 0.8Custom application development 25,300 9,920 39.2Network consulting & integration, s/w testing 32,600 680 2.1Outsourcing 182,600 9,250 5.1Application mgmt 24,800 3,550 14.3IS outsourcing 96,900 3,300 3.4Others (SoA, Ecomm, etc) 60,900 2,400 3.9Support & training 142,600 1,870 1.3Total IT services 495,100 23,050 4.7Total BPO 461.646 10,930 2.4Total services 956,746 33.980 3.6Sources: NASSCOM; BNP Paribas

For Indian companies to gain access to much of this market, they will need to significantly increase their skills. The top four companies already employ more than 330,000 and bill clients mainly on hourly rates, meaning that revenue growth will remain linked to employee growth unless they are able to innovate and turn that growth “nonlinear.” This could be the biggest potential impediment to their increasing market share, though recent presentations from the companies suggest they are making progress in higher-value business lines such as consulting and transformational BPO.

Exhibit 20: Progression In New Service Lines Offered By Infosys

Consulting

Business process management

IT outsourcing

System integration

Independent validation services

Technology consulting

Enterprise solutions

Application development & maintenence

Software re-engineering

People Organization Infrastructure Processes Quality

Infosys' global delivery model

2006

2001

2001

1981

Source: Infosys company reports

Indian companies’ ability to increase share will depend on improving their skills and making their revenue growth “nonlinear” by entering higher-value service lines

184



Falling deal sizes an increasing positive for Indian players Among the drivers of India’s growth in the offshore-services market are an abundant supply of English-speaking engineering talent, government support in the form of tax incentives and, last but not least, competent management who have been able to build companies to capitalise on the opportunity. In recent times, Indian IT companies have become big enough to be able to compete with legacy players such as Accenture and IBM Global Services for large deals (typically multiyear deals greater than USD50m in size). In addition, outsourcers are splitting their requirements into smaller assignments and giving them out to players that are best equipped to handle specific portions of the deal. As a result, deal sizes have been falling, allowing Indian players to bid for a bigger portion of the overall outsourcing pie.

Exhibit 21: Yearly Industrywide Contracts* Exhibit 22: Worldwide Market Share Of Service Providers**

72

74

76

78

80

82

84

86

88

90

2002 2003 2004 2005 20060

50

100

150

200

250

300

350Total contract value (LHS)TCV/contract (RHS)

(USD b) (USD m)

45

19

5

32

45

116

3836

9 11

44

21

1411

54

0

10

20

30

40

50

60

Big Six Big FiveEurope

Indian serviceproviders

Other serviceproviders

FY05 FY06 FY07 1QFY08(%)

Note: * Based on deals greater than $50m Sources: Technology Partners International Inc; BNP Paribas

Note: ** Based on deals greater than $25 m Sources: Technology Partners International Inc; BNP Paribas

Exhibit 23: Representative Selection Of Recently Announced Large Deals By Indian Outsourcing Players

Client Contract size Duration Contract specifics (USD m) (years)

Scottish Water 120+ 8 yrs IT application services Chrysler LLC — — IT services The Nielsen Co 1200 na IT, consulting and BPO services Sun Life Financial 200 — BPO services Social Security Institute of Mexico

200 na IT services

Automotive OEM 120 — IT and BPO services Quantas 90 7 yrs IT application, transformation and maintenance services

TCS

ArvinMeritor — 5 yrs Product development and support of product lines State of Missouri 400 9 yrs Medicaid processing services US retail co. — — BPO services for payroll/ HR services, F&A services Forest products group — — SAP implementation project European bank — — Customised channel solutions Aircel (Maxis group) — 9 yrs IT architecture & solutions Reliance Capital Ltd. — 5 yrs Infrastructure & applications management

WIPRO

US technology co. 160 7 yrs IT infrastructure management (Continued on next page)

Falling deal sizes are making outsourcing contracts fall right up the alley of Indian players

185



Exhibit 23: Representative Selection Of Recently Announced Large Deals By Indian Outsourcing Players (Cont’d)

Client Contract size Duration Contract specifics (USD m) (years)

Conseco, Inc na 5 Five year development and maintenance services contract for key business areas

Cummins Inc na na Chosen as one of three preferred vendors to provide IT application outsourcing and business consulting services; selected from a shortlist of 13 vendors

Nihon Unisys, Ltd na na Signed an MoU to execute Oracle E-Business Suite system upgrades for Nihon Unisys’ customers

Provenir, Inc na na Wide array of services including application development, consulting and technology expertise

Healthcare company na na Multi-year contract for application services and testing support for a critical business platform

United Utilities na na Modernise the client's legacy IT system using SOA

Infosys

Canadian Pacific na na Multiyear contract to improve the client's IT delivery capabilities

Korean shipbuilder and heavy equipment manufacturer

na na Quality consulting project

Steel manufacturer na na IT services Investment bank na na Application architecture Oil company na na Logistics solutions and IT services for the client’s Global

Gas Division Large multi-media news agency na na IT services

Satyam

Middle East telecom company na na Business intelligence services Note: For Infosys and Wipro, we believe that most of the above deals are in the USD10m-50m range, while for Satyam they are in the USD5m-10m range Sources: Company reports; BNP Paribas

Impact of US slowdown on near-term prospects likely All of the top Indian IT companies earn 40-60% of their revenue from the US and 25-45% of their revenue from financial-services customers (which we consider presents the highest near-term risk given the recent write-downs and the ensuing announcements of spending cuts). Unfortunately, there is no historical evidence of the impact of a US slowdown on Indian companies that is representative of the current situation. The last slowdown in tech spending, which occurred in 2001-02, was at a time when Indian IT companies were much smaller than they are today, their revenue base was not as diversified, outsourcing was not as widely accepted and pricing was artificially high because of a labour-supply crunch (Y2K and other issues only exacerbated the situation).

Exhibit 24: Infosys – Onsite And Offshore Pricing Growth

(10)

(5)

0

5

10

15

20

25

30

35

FY00 FY01 FY02 FY03 FY04 FY05 FY06 FY07 FY08

Onsite Offshore(y-y %)

Sources: Insosys Technologies; BNP Paribas

The previous US slowdown is not representative of the current situation as Indian companies are now much larger and more diversified. In addition, pricing in FY01, just prior to the slowdown, was artificially high because of a labour supply crunch

186



Clearly, the classic argument about the impact of a US slowdown on Indian IT companies remains unresolved: Will customers cut their outsourcing spending or will they increase outsourcing in order to save on in-house costs? We are of the view that both are likely to happen. In our view, US customers will look to postpone spending, ie, cut near-term discretionary outsourcing budgets and retain the activities that will “keep the lights on” for now. But given that they are also the most aggressive adopters of offshoring, we expect that they will increasingly restructure their long-term IT budgets into multiyear deals that will allow them to push out immediate spending.

A commonly observed way of identifying top picks has been to look for companies that are least exposed to the US and to the banking, financial services and insurance (BFSI) vertical. The risk of making such a selection, for example, is that a company that has low US exposure may have high BFSI revenue. TCS’s low US exposure did not prevent it from reporting a weak 4QFY08 as its BFSI customers that slowed down offshoring were from the US.

Better analysis could come by finding out which company has the most BFSI exposure in North America, data for which is not always easily available. Our discussions with Infosys management reveal that of its 37% revenue exposure to the BFSI vertical, 10% comes from insurance and is not at risk. Another 7% comes from Europe. Of the remaining 20%, discretionary spending is about 40%; ie, only about 8% of total revenue is at risk because of financial-services-led IT outsourcing spending cuts.

Exhibit 25: Revenue Exposure To North America And The BFSI Vertical (FY08)

10

20

30

40

50

49 51 53 55 57 59 61 63 65Exposure to North America (%)

TCS Wipro Infosys Satyam

Exposure to BFS (%)


Identifying winners based on low BFSI/US exposure may be too generic an approach. It is more important to look for a slowdown in specific accounts, data of which is not always available

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L A B O U R S U P P L Y

Is there enough labour to sustain growth? NASSCOM estimates that the increasing demand for skilled workers will create a crunch of 0.5m employees by FY10. To counter such a situation, IT companies have adopted the mantra of “right skilling” – expanding hiring to include nonengineering graduates for roles suitable for them. Given their reputation as India’s best employers, we expect that the top companies should be able to meet their hiring requirements, but may have to compromise on the quality of talent.

The significant growth witnessed by the Indian IT and BPO industry has meant that overall employment has increased from less than 200,000 in FY98 to close to 2m in FY08. The supply for this massive hiring has come from India’s education system, which, for example, produced more than 3.2m graduates and postgraduates (including nearly 0.5m with technical degrees and diplomas) in FY08 (all NASSCOM estimates). NASSCOM maintains that at current levels of employability, India has 28% of the total offshore employable talent pool, the highest in the world.

Exhibit 26: Supply Of Graduates And Postgraduates In India (2007-08E)

3243K Graduates and Post-Graduates

2963K Graduates

280K Post-Graduates

Total engineering and diploma pool= 454kTotal science talent pool (trainable for IT employment)= 470KTotal employable talent pool=924kIf about 200-400K graduates from other streams are included, likely talent pool ~ 1100-1300K

392K Engineering Degree and

Diploma Holders

437K Science

Graduates

2132K Arts, Commerce and Other Graduates

61K Engineering Degree and

Diploma Holders

186K Arts, Commerce and Other Graduates

32K Science Graduates

Sources: NASSCOM; IAMR; Indiastat; UGC; MHRD; AICTE; BNP Paribas estimates

NASSCOM expects a potential shortage of 0.5m workers by 2010. IT companies have expanded their hiring of nonengineering graduates to counter this

188



That said, NASSCOM also estimates that the demand for IT workers will be about 2.3m by FY10, leading to a potential shortage of about 500,000 skilled knowledge workers. In recent years, demand for IT and BPO professionals in India has outstripped the supply of graduates with IT degrees. For several years now, though, IT companies have expanded their hiring to include non-IT engineering graduates and are now looking to increase their intake of non-engineering (science) graduates to offset any potential shortfall in supply.

For top companies, talent quality could be the issue A likely supply shortfall notwithstanding, we expect the top Indian companies to be able to meet their hiring requirements in terms of quantity. Given their brand and reputation as India’s best employers, large companies will get preference over smaller companies from new graduates unless there is a significant difference in compensation. Proof of this comes from the fact that the top companies continue to be very selective with their job offers. According to company reports, in FY07, Infosys made offers to only 2.8% of all applicants, while TCS hired 4.1%. A narrowing gap between supply and demand, however, will mean that the quality of the talent available could decrease. Indian IT companies already run massive training facilities of their own (Infosys can train about 60,000 annually, and about 13,500 simultaneously), which could be under increasing strain if they have to maintain their quality standards.

Exhibit 27: IT And BPO Labour Demand And Supply

050,000

100,000150,000200,000250,000300,000350,000400,000450,000500,000

2001-02 2002-03 2003-04 2004-05 2005-06 2006-07 2007-08E

Demand (IT)Demand (IT and BPO)Technical (IT) graduate supplyTotal engineering graduate supply

(number of people)

Supply figures include engineering graduate degree (4-year programs) and diploma (3- year programs) holders and post graduate degree and diploma holders Sources: NASSCOM; BNP Paribas

‘Right-skilling’ is the new mantra The buzz phrase in IT hiring circles today is “right skilling,” which means that overqualified people should not be used for “mundane” jobs. Science grads are typically trained for six months (against 4.5 for engineers) and are absorbed at a level one year junior to engineers. Based on our discussions with IT companies, new roles – especially in the areas of infrastructure management, BPO and testing – can be handled by well-trained science grads, while engineers could be overqualified for those positions.

Any impact of a labour shortfall will be limited, at least quantity-wise, in the near term on the top players, in our view. While these companies continue to hire less than 5% of all applicants, they may have to compromise on quality if the labour demand-supply gap narrows

189



Legacy players are expanding their India headcount A key risk that is emerging in the supply-demand equation, though, is the emergence of legacy players such as IBM Global Services and Accenture, who now compete for the same talent pool as Indian players to staff their Indian operations.

Exhibit 28: Headcount Levels Of Top-Tier Indian IT Companies And Legacy Players

0 20,000 40,000 60,000 80,000 100,000 120,000

TCS

Infosys

Wipro

IBM GS

Satyam

Accenture

EDS

CSC

Cap Gemini


Larger companies will expand more slowly In the long run, it would be logical to expect revenue growth to slow for the larger IT companies. This could be a result of the commonly used term of “base effect,” which means that while, for example, it is not as difficult to increase annual revenue to USD2b from USD1b over a period of several years, it is a completely different matter to add USD1b in revenue every year in order to maintain similar revenue growth.

For IT services companies there are two issues that could come into play: 1) employee growth should more or less match the targeted revenue growth as overall billing is headcount based and, beyond a point, it may be difficult to scale up operations incrementally unless revenue growth becomes “nonlinear,” ie, not dependent on headcount growth (TCS, the largest company, already employs more than 110,000); 2) companies should significantly expand the size and scope of their existing contracts and/or acquire new customers (the largest accounts can only expand to a certain point).

Why nonlinear revenue growth is so important If the present nonlinearity continues and IT companies continue to increase their combined revenue at 25% annually for the next four years with annual revenue/employee increases of 5%, they will have to almost double their combined headcount to close to 660,000 from the current 331,000. In other words, they will have to add in four years as many employees as they have done to date. This not only calls for a massive hiring exercise, but also significant expansion in infrastructure and greater depth in management. This also means that unless India’s education system keeps pace with the demand for skilled workers, within the next few years, even expanding hiring to science graduates may not be sufficient. Therefore, it is imperative that IT companies move to higher billing segments and look for acquisitions to expand their revenue opportunities.

Legacy players are competing for the same talent and are fast ramping up their India headcount

190



Exhibit 29: Combined Revenue And Headcount Of The Top Four IT

0

20

40

60

80

100

120

140

160

FY05 FY07 FY09E FY11E FY13E FY15E FY17E0.00.20.40.60.81.01.21.41.61.82.0

Revenue (LHS) Headcount (RHS)(USD b) (m)

Sources: Company reports; BNP Paribas estimates

If the present linearity continues, to increase their combined revenue at 25% annually for the next four years, IT companies will have to add as many employees in four years as they have done to date

191



M A R G I N A N A L Y S I S

Rising wages = continued margin pressure Although wages have been increasing faster than pricing for several years now, IT companies have done a reasonable job of managing their margins by increasing the proportion of lower-cost campus hires and utilising other short-term margin levers. We expect wages to continue to challenge margins and contend that a 50-100bp annual margin drop will not be unreasonable to expect.

Offshoring advantage leads to industry-leading margins Indian IT services companies earn EBIT margins in the 17-29% range, considerably higher than those of legacy players such as Accenture, whose EBIT margins are 10-12%. This advantage is a result of the nature of the services portfolio of Indian offshoring players, which is skewed toward more offshorable work such as application development. The ability to shift work offshore (typical onsite-offshore revenue split for Indian companies is 50-50) means lower costs, which come from lower wages and significantly lower overhead. Legacy players, on the other hand, deliver a higher proportion of consulting services that require high client-side presence.

With legacy players increasing their headcount in lower-cost locations such as India, and Indian players seeking to deliver higher-value (such as consulting) services, there have been suggestions that the lower-cost advantage of Indian players will eventually diminish. The argument is that this, combined with rising offshore wages, will lead to the margins of legacy players and pure-play offshoring companies converging in the long run. We argue, however, that while offshore margins will remain under pressure from rising wages, they are unlikely to fall that low if they can manage even 2-4% annual price hikes. This is because, unlike legacy players, their core portfolio will remain offshore-centric for the foreseeable future. In addition, Indian companies have developed considerable efficiencies within their business models that will take several years for legacy players to replicate.

Exhibit 30: EBIT Margins Comparison Of Select IT Services Players With Global Market Leaders

3

8

13

18

23

28

33

FY06 FY07 FY08

Infosys TCS Wipro (Global IT) Satyam Accenture(%)


Indian IT companies earn higher operating margins than their legacy peers due to lower wages and overhead. This advantage is unlikely to diminish in the foreseeable future as their service portfolio will remain skewed toward offshorable work

192



Pricing will remain the biggest long-term lever With increasing competition for a limited quality labour pool in recent years, Indian IT companies have faced average wage inflation of 15% y-y for their offshore (typically 80% of overall employees) and about 3% y-y for their onsite employees. This leads to about a 6.0-6.5% y-y overall wage hike assuming a stable exchange rate. Because of the wage arbitrage a low-cost location such as India offers, offshore per capita wages are about one-sixth that of onsite. As a result, offshore wages account for only about 35-40% of total employee wage costs and 15-20% of revenue. We calculate that the typical wage inflation we have mentioned should affect the EBIT margin by close to 300bp in the absence of any pricing gains. The margin neutral situation would have been for overall pricing to also increase as much as the wage inflation. This has not been the case, however.

Even so, IT companies have managed to offset a portion of the margin decline by hiring a higher proportion of lower-cost campus hires (commonly known as freshers) in order to offset part of the margin decline. Hiring more freshers reduces the “employee bulge” and decreases the effective wage inflation. It is important to note that companies cannot keep hiring high proportions of freshers each year, potentially leaving middle-management positions understaffed.

Exhibit 31: Fresher Intake As A % Of Gross Hires Exhibit 32: Employee Mix Comparison

0

10

20

30

40

50

60

70

80

90

Infosys TCS Wipro Satyam

FY07 1QFY08 2QFY083QFY08 4QFY08

(%)

Employees with less than three years of experience (%)Infosys* 54.0TCS 50.3Wipro* 45.3Satyam** 48.0

Note: Q408 fresher hiring for Satyam is based on our estimate Sources: Company reports; BNP Paribas

* Fig as of 3QFY08; ** fig as of 2QFY08; *** fig as of FY07 Sources: Company reports; BNP Paribas

Exhibit 33: Illustration Of The Impact Of Pricing And Wages On The EBIT Margin

ChangeImpact on EBIT margin

due to 1% change Overall EBIT

margin impact (y-y %) (bp) (bp)Pricing/productivity gain- onsite 3 22 66

Pricing/productivity gain- offshore 3 23 69

Wage hike-onsite 3 (28) (84)

Wage hike-offshore 12 (17) (204)

Total (from only pricing and wage hikes) (153)

Employee bulge (lowers effective wage hike depending on the proportion of freshers hired)

5 22 110

Overall impact (43)Above analysis uses Infosys as an example Source: BNP Paribas estimates

Typical 12% y-y offshore and 3% y-y onsite wage hikes reduce the EBIT margin by ~300bp

A 3% y-y pricing/productivity gain can offset about half of that decline

At least a portion of the remaining decline has to be offset by hiring a higher proportion of freshers and by using other short-term levers

193



We believe that IT companies will have to contend with a 50-100bp EBIT margin decline every year that they will need to offset primarily through improved pricing in the long run (higher employee productivity and higher value-added services). We also believe that in the long term, Indian companies could get pricing power purely because of their labour supply and well-established process advantages, rather than from cost arbitrage. As Exhibit 34 shows, engineering degrees in the US have not been rising as fast as industry demand. Until such a situation arises, they will have to continue to increase their proportion of campus hires and tweak short-term levers to manage margins.

Exhibit 34: Number Of Engineering Degrees Conferred In US And Growth Rate

0

50,000

100,000

150,000

200,000

250,000

1970-71

1975-76

1980-81

1985-86

1990-91

1995-96

2000-01

2001-02

2002-03

2003-04

2004-05

(6)

(4)

(2)

0

2

4

6

8

10Degrees conferred (LHS) CAGR (RHS)(number of degrees) (%)

Sources: Bureau of Labor Studies; BNP Paribas

Other levers could help achieve near-term targets In addition to the employee bulge, there are other short-term levers available to IT companies to manage their margins. These levers – managing utilisation, the effort mix (hours billed) onsite and offshore, and nonwage cost of revenue and SG&A savings – usually tend to be short term in nature and generally cannot be used simultaneously. For example, tilting the effort mix toward offshore (which earns higher margins than onsite) is only possible with maturing projects. Newer projects require higher onsite presence to allow for understanding client processes and knowledge transfer. Again, increasing the proportion of fresher hires tends to reduce utilisation until the new employees are trained and become “billable.” Similarly, significantly reducing SG&A could lead to underinvestment in generating revenue opportunities. That said, these levers are credible and the most efficient companies balance them carefully to achieve short-term margin targets.

In the long run, pricing power for Indian players could come purely because of their labour supply advantage and well- established process advantages

Outside of pricing, all other margin levers help in achieving short-term margin targets, but cannot be used simultaneously and could come at the expense of generating new revenue opportunities

194



Exhibit 35: Margin Levers Available To Indian IT Companies

Lever Impact on EBIT

margin of 1% chg Ways to manage margins (bps) Pricing/ productivity (onsite and offshore)

45 1) Enter higher billing segments 2) New customers usually agree to a higher billing rate than existing ones 3) Improve productivity in fixed price projects

Employee bulge Depends on the proportion of freshers hired

Biggest lever for IT companies in the near term; current % of employees with 0-3 years experience is 45-54%

Currency 35-50 Proactively hedge exposure. These gains show up either below or above the EBIT line depending on the accounting policy used by the company

Utilisation 30 Significantly increasing utilisation leaves too little slack in the system to bid for large deals (~75-80% is healthy)

Onsite/ offshore mix 40 1) New contracts/ clients require more onsite presence. High offshore work is a sign of a mature, generally maintenance project

2) Expand higher "offshorable" businesses such as infrastructure management and BPO

Nonwage cost of revenue and SG&A savings

100 Generally not a healthy lever if sales and marketing expenditure is reduced as it could limit investments in generating revenue. Managing administrative, traveling and other costs should be the preferred route

Source: BNP Paribas estimates

Double-digit offshore wage hikes will not go away Based on Economist Intelligence Unit (EIU) figures (India 2001-08), we note that wages across sectors in India have closely tracked GDP growth and inflation. Assuming India’s GDP and inflation will remain in their recent historical range, we expect that offshore wage hikes for the Indian IT industry (and probably for other industries as well) will remain in the 10-15% range for at least a few more years. It is important to note in this context that: 1) India’s high GDP growth has meant the highest wage hikes in the Asia-Pacific region; 2) wage hikes at IT companies have been close to the industry average, which we expect will continue if they have to compete for quality talent; and. 3) attrition (employee turnover) at the top IT companies has been very close to the average as well (not including ITES/BPO). All these data points suggest that IT companies are doing rather well in managing the much emphasised metrics of wage hikes and attrition; if anything at all, industries across India are facing the same headwinds.

Exhibit 36: India GDP Growth, Inflation And Wage Hikes Exhibit 37: Salary Hikes In Select Asia-Pacific Markets (2007-08)

10.011.5

13.7 14.1 13.815.1 15.2

3.7

8.4 8.39.2 9.4 9.6

8.7

4.3 3.8 3.8 4.2

6.2 5.9 5.4

0

2

4

6

8

10

12

14

16

2002 2003 2004 2005 2006 2007 2008E

India GDP Inflation(%)

4.6

8.7

4.5

15.2

2.8

6.7 6.2

8.4

5 4.76.4

02468

10121416

Aus

tralia

Chi

na

Hon

g K

ong

Indi

a

Japa

n

Kor

ea

Mal

aysi

a

Phi

lippi

nes

Sin

gapo

re

Taiw

an

Thai

land

(%)

Sources: Economist Intelligence Unit (EIU) figures for India 2001-08; Hewitt’s Salary Increase Survey 2007-08; BNP Paribas

Sources: Economist Intelligence Unit (EIU) figures for India 2001-08; Hewitt’s Salary Increase Survey 2007-08; BNP Paribas

High wage hikes are a phenomenon across Indian industries and closely track GDP growth and inflation

IT companies, by no means, have the highest wage hikes or face the highest employee turnover

195



Exhibit 38: Wage Hikes Across Indian Industries (FY08E) Exhibit 39: Employee Turnover Across Select Indian Industries

25.017.617.5

17.116.9

15.214.614.614.214.0

13.512.8

0 5 10 15 20 25 30

Real estate (property)

Telecommunications

energy (oil/gas/coal)

Hospitality/restaurants

Banking/finance

All-industries average

Information technology

FMCG

Pharmaceutical

ITES

Automotive/vehicle manufacturing

Electronics/electrical

(%)

35.228.9

27.124.7

23.614.3

1312.5

11.110.7

9.8

0 10 20 30 40

Insurance

ITES

Hospitality

Retail (incl. wholesale & distribution)

Telecommunications

FMCG

Top IT companies

Electronics/electrical

Chemicals

Energy (oil/gas/coal)

Automotive/vehicle manufacturing

(%)

Sources: Hewitt’s Salary Increase Survey 2007-08; Company reports; BNP Paribas Sources: Hewitt’s Salary Increase Survey 2007-08; Company reports; BNP Paribas

Increased tax rates in FY11 could adversely affect net margins Indian IT companies are currently enjoying a 10-year tax holiday from operating out of designated software technology parks (STPI) that expires in FY09. A recent proposal aims to extend this by another year, a decision on which is expected shortly. The government has offered, however, a separate tax benefit scheme that allows IT services companies to be eligible for 100% tax benefits on earnings generated out of designated special economic zones (SEZ) for the first five years of their operations, for 50% benefits for a further five years, and a further five years of tax benefits on profit ploughed back into the business. Our discussions with management suggest that tax rates will increase from the current 13-15% to 20-22% when STPI tax benefits expire.

Our analysis suggests that at a revenue CAGR of about 25% y-y until 2011 at stable margins and current levels of other income as a percentage of revenue, a 20-22% tax rate assumes that all incremental revenue will come out of SEZs, and that those activities will be at least as profitable as the existing business. At overall margins at current levels and a 50:50 onsite-offshore revenue split, this would mean that about 50% of the offshore revenue will have to come from SEZs. Currently, less than 5% of all business is currently done out of SEZs and current work cannot be shifted from STPIs to SEZs. This also implies that companies will need to aggressively start building their SEZ infrastructure in order to keep their tax rates at their expected levels.

We carried out a sensitivity analysis of the likely effective tax rates with the percentage of the offshore work done out of SEZs, which is presented below.

Exhibit 40: Sensitivity Analysis Of Effective Tax Rates With % Of Offshore Work From SEZs

33.532.331.230.028.827.726.525.424.223.121.920.819.618.517.316.115.013.812.711.510.4

0

5

10

15

20

25

30

35

0 5 10 15 20 25 30 35 40 45 50 55 60 65 70 75 80 85 90 95 100% of offshore work done out of SEZs

Effective tax rate (%)

Above analysis is based on onsite-offshore revenue split of 50-50, EBIT margin of 25.5%, and other income of 2.6% as a % of revenue Source: BNP Paribas estimates

Tax rate expectations of 20-22% when STPI benefits expire will need about 50% of the offshore revenue to come from tax-free SEZs

196



C A S H O N T H E B O O K S

Use of cash – acquisitions, buybacks, dividends Most Indian IT companies have healthy cash reserves on their balance sheets, leading several investors to question the best use of that cash. We believe that large companies will look for strategic acquisitions (or conservatively raise dividends), while the smaller ones will likely prefer share buybacks to boost their stock prices.

Indian IT companies are currently faced with the pressing need to offer higher-value services (the clichéd “move up the value chain”) in order to make their revenue growth nonlinear (discussed in earlier sections). We believe that the best use of cash would be for strategic acquisitions that strengthen the service portfolio, broaden geographic reach and improve access to customers. Key acquisition targets could be in high-growth areas such as infrastructure management and BPO. We also believe acquiring niche consulting companies will be an important strategic use of cash. The consulting business by itself may not be very profitable (for example, Infosys), but it allows companies to generate downstream package implementation and maintenance business. Wipro and TCS have historically been the most aggressive acquirers, while Infosys has been the most conservative as, according to management, “culture fit” is an important parameter for the company. This could explain Infosys preferring to raise dividends over preserving cash for acquisitions.

Outbound acquisitions for Indian players likely to continue; inbound for legacy companies have to beat regulatory hurdles: We expect Indian companies to continue to prefer niche acquisitions outside of India as they look to expand their service breadth. On the other hand, legacy players looking to expand their India presence will prefer local acquisitions to boost their employee base, in our view (recent examples Cap Gemini acquiring Kanbay, EDS acquiring mPhasis). The latter appears to be less smooth than outbound acquisitions given India’s relatively stringent regulatory environment.

Accretive acquisition targets are limited, and will be expensive because of too many acquirers: It is important to note that given all top Indian companies have similar service portfolios and geographic spread and that there are limited accretive targets, outbound acquisitions will likely be expensive.

Acquisitions could be near-term margin dilutive: Historically, Indian IT companies have been conservative with the size of their acquisitions. The biggest acquisition so far has been Wipro’s buyout of Infocrossing for USD548m. Inevitably, most acquisitions are margin dilutive, especially because Indian IT companies enjoy higher margins than their outbound targets. The larger the acquisition, the greater the margin dilution.

Smaller companies will prefer stock buybacks: Smaller companies may not have enough cash to look for buyouts and will prefer to boost their share prices though stock buybacks, in our view. This will likely coincide with improving sentiment around IT stocks.

197



Exhibit 41: Use Of Cash By Select Large- And Mid-Cap Indian IT Companies

Cash Mkt cap Cash as a %

of mkt cap Dividend

payout Recent select acquisitions Buy backs Div yield (USD m) (USD m) (%) (%) (%)Large caps TCS 898 22,204 4.00 ~30 Around 10 acquisitions with deal range

between USD5-80m ~0.9

Infosys 2,026 25,033 8.10 ~20 One acquisition for USD24m (Expert Information Services)

~0.6

Wipro 858 17,600 4.90 ~30 ~15 acquisitions with deals sizes between USD13-600m

~1

Satyam 1,100 8,063 13.60 ~20 3 acquisitions between USD3-40m ~0.7HCL Tech 595 4,332 13.70 ~45 ~8+ acquisitions since 2004

None of the companies have exercised buybacks during the past four years

~2.3 Mid caps MindTree 55 388 14.17 ~5 Acqn: Linc Software, TES-PV Electronic

in the range of USD6.5-12.m ~0.1

Rolta 160 1,225 ~12 ~20 Acquired Broech Corp (USD45m) and Orion since 2004

~1.1

Tech Mahindra

17 2,646 ~10 ~5 Acquisition: iPolicy ~0.1

3iInfotech 24 392 ~9 ~20 Acquisitions: Professional Access, Rhyme Systems, G4 Software, Datacons, Formulaware, J&B Software, Innovative Business Soln in the range of USD12-25m

No buybacks exercised during the past four years ~0.8

Sasken 14 100 ~9 ~30 Acquisitions: Botnia Hightech (USD35m), and Softech Soln

Announced a buyback last month worth INR400 mn

~0.8

NIIT 19 424 ~8 ~40 Acqn: Evolv and Element Corp (USD40m)

~0.9

NIITech 24 195 ~24 ~23 Acqn: Softec (USD7m), Room Soln ~1.5Geometric 4 100 ~12 ~15 Acqn:Teksoft, PLM Adaptors, Modern

Engg Inc, Cimtronics ~0.8

Financial Technologies

163 1,944 ~8.5 ~35 Acqn: ICX Platform (USD1.5m), IBS Forex

No buybacks executed during the past four years

~0.5

Mastek 51 262 ~21 ~20 Acqn: STG (USD24.6m), Vector Insurance (USD4.5m), (Entegram (USD0.75m)

Buyback of INR650m in 2008 and another in 2004 respectively

~2.4

Educomp 28 1,666 ~2 ~10 Savvica, AuthorGen and Ask n Leanr (SGD6)

No buybacks ~0.2

Sources: Thomson Financial; Bloomberg; BNP Paribas

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A P P E N D I X

Breaking down the variables – what to look for? Below we provide a primer on the variables to look at when considering IT services stocks. Assuming a reasonable valuation, companies that exhibit premium pricing and pricing growth should qualify among the best long-term picks, in our view. In the case of continued downward pressure on operating margins due to wage inflation and currency appreciation, even healthy revenue growth could translate to far lower EPS growth if it is entirely volume-led without a pricing increase.

Revenue drivers – volume growth and pricing If we take a simplistic view of IT services companies, revenue growth comes down to three variables (outside of currency, which is not in their control) – headcount growth, the efficient utilisation of that headcount (these two combine to give volume growth) and, finally, the billing rate charged per employee. An increased onsite proportion of revenue also increases overall revenue due to higher billing rates, but lowers overall margins due to higher onsite expenses.

Margin drivers – ultimately about pricing From a margin perspective, we believe that possibly the biggest lever is pricing, and hence believe that investors should reward companies that exhibit premium pricing and growth. In addition, there are near-term levers that companies can use to offset a margin decline. These are typically onsite/offshore mix (work done offshore commands a significantly higher margin than that done onsite), utilisation (which ensures as many employees are being billed as possible, leaving only enough “on the bench” so as to capture any near-term opportunities), SG&A and other operating expenses (as long as it does not compromise the ability to generate sales) and managing the “employee bulge” (hiring a higher proportion of fresh graduates to reduce the overall employee per head cost). The final lever is managing employee turnover or attrition. High attrition will require companies to not only put out additional effort in hiring, but also to train new employees.

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India Research Team Praveen Chakravarty Head of India Research BNP Paribas India Solutions Pvt Ltd (91 22) 6650 1696 [email protected]

Preeti Dubey, CFA Metals & Mining BNP Paribas India Solutions Pvt Ltd (91 22) 6650 1671 [email protected]

Karan Gupta Metals & Mining (Associate) BNP Paribas India Solutions Pvt Ltd (91 22) 6650 1662 [email protected]

Vishal Sharma, CFA Infrastructure - E&C BNP Paribas India Solutions Pvt Ltd (91 22) 6650 1672 [email protected]

Shashank Abhisheik Infrastructure - E&C (Associate) BNP Paribas India Solutions Pvt Ltd (91 22) 6650 1673 [email protected]

Sandeep Mathew Real Estate BNP Paribas India Solutions Pvt Ltd (91 22) 6650 1665 [email protected]

Avneesh Sukhija Real Estate (Associate) BNP Paribas India Solutions Pvt Ltd (91 22) 6650 1667 [email protected]

Lakshminarayana Ganti Capital Goods/Cement BNP Paribas India Solutions Pvt Ltd (91 22) 6650 1676 [email protected]

Charanjit Singh Capital Goods/Cement (Associate) BNP Paribas India Solutions Pvt Ltd (91 22) 6650 1686 [email protected]

Girish Nair Utilities BNP Paribas India Solutions Pvt Ltd (91 22) 6650 1679 [email protected]

Sriram Somayajula Utilities (Associate) BNP Paribas India Solutions Pvt Ltd (91 22) 6650 1670 [email protected]

Amit Shah Oil & Gas BNP Paribas India Solutions Pvt Ltd (91 22) 6650 1664 [email protected]

Alok Deshpande Oil & Gas (Associate) BNP Paribas India Solutions Pvt Ltd (91 22) 6650 1663 [email protected]

Abhiram Eleswarapu Tech - IT BNP Paribas India Solutions Pvt Ltd (91 22) 6650 1684 [email protected]

Avinash Singh Tech - IT (Associate) BNP Paribas India Solutions Pvt Ltd (91 22) 6650 1685 [email protected]

Sameer Naringrekar Tech - Telecom BNP Paribas India Solutions Pvt Ltd (91 22) 6650 1674 [email protected]

Kunal Vora, CFA Tech - Telecom (Associate) BNP Paribas India Solutions Pvt Ltd (91 22) 6650 1675 [email protected]

Vijay Sarathi, CFA Financial Services BNP Paribas India Solutions Pvt Ltd (91 22) 6650 1677 [email protected]

Abhishek Bhattacharya Financial Services (Associate) BNP Paribas India Solutions Pvt Ltd (91 22) 6650 1678 [email protected]

Joseph George Consumer BNP Paribas India Solutions Pvt Ltd (91 22) 6650 1669 [email protected]

Manish A Gupta Consumer (Associate) BNP Paribas India Solutions Pvt Ltd (91 22) 6650 1668 [email protected]

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D I S C L A I M E R S & D I S C L O S U R E S

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Recommendation structure

All share prices are as at market close on 7 May 2008 unless otherwise stated. Stock recommendations are based on absolute upside (downside), which we define as (target price* - current price) / current price. If the upside is 10% or more, the recommendation is BUY. If the downside is 10% or more, the recommendation is REDUCE. For stocks where the upside or downside is less than 10%, the recommendation is HOLD. In addition, we have key buy and key sell lists in each market, which are our most commercial and/or actionable BUY and REDUCE calls and are limited to at most five key buys and five key sells in each market at any point in time.

Unless otherwise specified, these recommendations are set with a 12-month horizon. Thus, it is possible that future price volatility may cause a temporary mismatch between upside/downside for a stock based on market price and the formal recommendation.

*In most cases, the target price will equal the analyst's assessment of the current fair value of the stock. However, if the analyst doesn't think the market will reassess the stock over the specified time horizon due to a lack of events or catalysts, then the target price may differ from fair value. In most cases, therefore, our recommendation is an assessment of the mismatch between current market price and our assessment of current fair value.

Sector recommendations are based on: OVERWEIGHT – Sector coverage universe fundamentals are improving. NEUTRAL – Sector coverage universe fundamentals are steady, neither improving nor deteriorating. UNDERWEIGHT – Sector coverage universe fundamentals are deteriorating.

© 2008 BNP Paribas Group

201

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SHANGHAI BNP Paribas Equities (Asia) Ltd Shanghai Representative Office Room 5606-08 Plaza 66 1266 Nanjing Xi Lu Shanghai 200040 China Tel (86 21) 6288 2822 Fax (86 21) 6288 2818

BANGKOK (In cooperation with BNP Paribas) Thanachart Securities Public Co Ltd 28/F, Unit A1 Siam Tower Building 989 Rama 1 Road, Patumwan Bangkok 10330 Thailand Tel (66 2) 617 4900 Fax (66 2) 658 1470

JAKARTA PT BNP Paribas Securities Indonesia Menara Batavia, 20/F JI. KH. Mas Mansyur Kav. 126 Jakarta 10220 Indonesia Tel (62 21) 5790 0500 Fax (62 21) 5790 0501

KUALA LUMPUR BNP Paribas Capital (Malaysia) Sdn. Bhd. Suite 21.03 Level 21 Menara Dion 27 Jalan Sultan Ismail 50250 Kuala Lumpur Malaysia Tel (60 3) 2050 9928 Fax (60 3) 2070 0298

SEOUL BNP Paribas Securities Korea Co Ltd 22/F, Taepyeongno Building 310 Taepyeongno 2-ga Jung-gu, Seoul 100-767 Korea Tel (82 2) 2125 0500 Fax (82 2) 2125 0593

SINGAPORE BNP Paribas Securities (Singapore) Pte Ltd (Co. Reg. No. 199801966C) 20 Collyer Quay #08-01 Tung Centre Singapore 049319 Tel (65) 6210 1288 Fax (65) 6210 1980

TAIPEI BNP Paribas Securities (Taiwan) Co Ltd Room 302, 3/F 52 Min Sheng East Road, Sec. 4 Taipei 105 Taiwan Tel (886 2) 2175 7000 Fax (886 2) 2719 8530

TOKYO BNP Paribas Securities (Japan) Ltd 18/F, Tokyo Sankei Building 1-7-2, Otemachi, Chiyoda-Ku Tokyo 100-0004 Japan Tel (81 3) 5290 8400 Fax (81 3) 5290 1124

NEW YORK BNP Paribas The Equitable Tower 787 Seventh Avenue New York NY 10019, USA Tel (1 212) 841 3800 Fax (1 212) 841 3810

BASEL BNP Paribas Aeschengraben 26 CH 4002 Basel Switzerland Tel (41 61) 276 5555 Fax (41 61) 276 5514

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LONDON BNP Paribas 10 Harewood Avenue London NW1 6AA UK Tel (44 20) 7595 2000 Fax (44 20) 7595 2555

LYON BNP Paribas Equities France Société de Bourse 3 rue de L’ Arbre Sec 69001 Lyon France Tel (33 4) 7210 4001 Fax (33 4) 7210 4029

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www.equities.bnpparibas.com

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IT Services

Time to shop?

The Indian services IT sector is under a cloud of worries on the US economy, margin pressure and tax-benefit expiry in FY10. While clarity on the US economic scenario is some time away and sentiment could deteriorate towards Indian IT companies in the short term, we believe there is money to be made in the medium term. Ample scope to increase wallet share, ability to offer solutions (and not just cost arbitrage) and the ability to manage costs (helps in gaining client confidence) would ensure 25%+ volume growth in FY09. Though Infosys’s earnings guidance for FY09 is an event risk (we expect growth guidance of 17% against street expectation of ~20%), at current valuations, we prefer Infosys for superior earnings growth (despite lower volume growth) and Satyam for strong volume growth. US economy and sentiment could worsen: We believe the US economic situation and sentiment towards Indian IT services companies could worsen. We believe current valuations and analyst expectations discount most of this. We are building in just 5% qoq revenue growth for Infosys in Q1FY09 (typically a strong quarter for the company). TCS indicated that a slowdown in 2 of its top 15 clients could impact Q4FY08 growth.

Gaining clients’ confidence: Indian IT companies have acquired the ability to offer complete IT solutions and hence are being handed out large transformation deals. Tier-1 companies have managed their costs well despite rupee appreciation of 11% and highest salary inflation in FY08. This would infuse confidence to clients that tier-1 companies would manage to deliver on promised cost savings from offshoring.

Valuations discount concerns; time to shop: We expect Infosys’ guidance for FY09 to pose an event risk for the sector in the short term, as we expect it to guide to a lower 17% earnings growth for FY09. However, at current valuations our top picks are Infosys (14.6x FY09E earnings) and Satyam (12.9x FY09E earnings) as we see the highest upside in these stocks in the next 12 months. Among midcaps we like Mphasis and while KPIT looks attractive, we would bet on the tier-1 stocks for now.

7 March 2008

BSE Sensex: 16542

Sector stra

tegy

Ganesh Duvvuri [email protected] 91-22-66 38 3358 Shreyash Devalkar [email protected] 91-22-66 38 3311 IDFC – SSKI Securities Pvt. Ltd. 701-702 Tulsiani Chambers, 7th Floor (East Wing), Nariman Point, Mumbai 400 021. Fax: 91-22-2204 0282 “For Private Circulation only” “Important disclosures appear at the back of this report”

Comparative valuations

Company Price^ Mcap Recomm PE (x) EPS CAGR (%) TP# (Rs) (Rs bn) FY09E FY10E FY08-10E (Rs) TCS 859 841 Outperformer 14.3 13.3 12.0 1,084Infosys 1419 814 Outperformer 14.6 13.8 13.2 1,942Wipro 420 613 Outperformer 15.1 14.0 15.2 500Satyam 407 283 Outperformer 12.9 12.5 13.3 567HCL Tech 267 189 Outperformer 11.6 11.3 12.3 391i-flex 1048 90 Underperformer 19.5 16.8 19.0 969Mphasis 220 46 Outperformer 12.8 11.6 21.6 275Patni 225 32 Underperformer 7.5* 7.0* (1.4) 239Geodesic 181 19 Outperformer 7.9 6.8 36.3 300MindTree 334 13 Neutral 12.0 10.4 12.8 362KPIT 79 6 Neutral 8.8 8.2 10.5 108Sasken 118 3 Neutral 9.1 9.1 6.8 130^ prices as on 4th Mar 2008, # TP: Target Price, *CY08 and CY09 for Patni

INDIA RESEARCH

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CONTENTS

Investment Argument....................................................................................3

Guidance: Satyam could be more bullish ......................................................9

Valuations and view ....................................................................................11

Companies ..................................................................................................14

Geodesic ......................................................................................................15

HCL Tech ...................................................................................................17

i-flex ............................................................................................................19

Infosys .........................................................................................................21

KPIT ...........................................................................................................23

MindTree ....................................................................................................25

Mphasis .......................................................................................................27

Patni ............................................................................................................29

Sasken..........................................................................................................31

Satyam.........................................................................................................33

TCS.............................................................................................................35

Wipro..........................................................................................................37

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INVESTMENT ARGUMENT Concerns on US economy, currency movement, salary inflation and likely abolition of tax exemptions have led to material downgrades in consensus estimates for Indian IT sector so far. However, we believe current valuations discount most of these concerns. Also, though news flow on USA continues to deteriorate and is influencing companies’ commentary, which has turned cautious, there are no major indications of any significant project ramp-downs or cancellations so far. TCS stated that 2 of its top 15 clients have postponed certain projects and some business could be impacted in the short-term. While clarity on the US economy could be some time away, a slowdown in offshoring, if at all, should be visible by Q1FY09. Though analysts have cut estimates for FY09, we feel the street still lacks confidence in the numbers. In our view, stocks would rally not on earnings upgrades but when confidence emerges on current forecasts. Given their superior growth prospects, Infosys and Satyam remain our top picks in the sector.

CIOs of key organizations indicate continued investments We attended the Nasscom Conference and interacted with CIOs of some major organizations including Merrill Lynch, Barclays, Lloyds, Wells Fargo, Sony Electronics, Best Buy, AutoZone and Toyota Financial Services. The IT budget of each of these organizations exceeds US$1bn and most of them have a mature understanding of offshoring to Indian players. Their comments were encouraging as all of them indicated that budgets would not be cut and that offshoring would increase. The key comments made were:

• ‘IT budgets seldom get cut’ (Barclays), though what the money is spent on can change periodically. ‘Good companies see such times as an opportunity to increase market share and hence would continue to invest’ (Best Buy).

• No budget cuts are anticipated, but clients would try and use this opportunity to ‘get more from the same’ – implying volume discounts.

• Although finalized, annual budgets are being reviewed on a quarterly basis (Merrill). Each client runs multiple programmes with vendors at any point of time. Currently, not all programmes are expanded simultaneously and a few programmes would be ramping up faster every quarter.

• A big portion (~70%) of the budget is being spent on ‘keeping the lights on’, i.e. routine work. Clients intend to increase discretionary spend (Toyota financial services).

• Clients prefer vendors with deep domain understanding and ability to devise innovative solutions to improve productivity and enhance revenues. Most of them believe that the labor arbitrage-related work is well identified and would be exploited. However, they want to do new things with their IT budgets (consistent with the comment that discretionary spending would increase), and hence want vendors to invest in devising strategies that could impact their business rather than just help IT departments.

• As long as vendors offer innovative solutions, clients are not looking at billing rate cuts just because Indian IT vendors have high profit margins (Wells Fargo).

• Most of them have already undertaken the vendor consolidation exercise and feel that there is limited scope for further consolidation.

Major clients indicate no cuts in IT spend; but

expect business enhancing solutions and not just labour arbitrage

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No material slowdown expected in volume growth Based on the above, we do not see any significant slowdown in volume growth in the coming years. We also derive comfort from the fact that in the previous slowdown between FY01-03, volume growth was sluggish but still remained in excess of 30%. Infosys, which registered a 40% and 60% volume increase in FY00 and FY01 respectively, encountered a growth slowdown to ~38% yoy in FY02 and FY03. Notably, volumes had jumped significantly in the two years prior to the previous slowdown due to higher spending on Y2k and dotcom related work. Importantly, we believe there have been no ‘excesses’ in IT spending in the last three years. Thus, we believe IT spending should not get impacted significantly. We see volume growth of 30%+ p.a. in the next two years as achievable.

Exhibit 1: Volume growth trends

0FY00 FY01 FY02 FY03 FY04 FY05 FY06 FY07 FY08E

15

30

45

60 (%) Infosys Wipro Satyam

Source: Companies, IDFC SSKI Research

No excesses this time in pricing The expected slowdown, or recession, in the US economy is believed to impact pricing in FY09. While we agree that it is prudent to expect pricing discounts as clients wish to ‘do more with less’, clients could seek discounts on higher volumes of work. Offshore billing rate for Infosys has risen just 2.7% in FY07 and is likely to rise by 6% in FY08. As IBM, Accenture and EDS have credible offshore offerings, pricing has remained competitive in the last couple of years and thus, we do not expect any sharp decline (unlike in the previous slowdown). In FY00 and FY01, Infosys, Wipro and Satyam had witnessed a 15%+ increase in offshore billing rates, which resulted in sharp decline in the following three years due to a slowdown.

Given that most key clients have been managing offshore outsourcing for some time now, they understand the cost pressures that vendors are facing. While there could be pricing pressure from customers in the banks and financial services and retail sectors in the US, we do not expect pricing pressure in other verticals.

We expect the sector to achieve 25%+ p.a. volume

growth over FY09-10

We expect discounts on higher volumes of work

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Exhibit 2: Pricing growth trends

-8

0

8

16

24 (%) Infosys Wipro Satyam

FY00 FY01 FY02 FY03 FY04 FY05 FY06 FY07 FY08E Source: Companies, IDFC -SSKI Research

Higher proportion of business from large contracts In the previous slowdown, contracts were smaller and of shorter duration given the high share of business from Y2K and dotcom-related work. As the Y2K projects ended and dotcom projects waned, Indian IT services companies had to accept projects of smaller size with the result that tier-1 companies derived just about 30% of their revenues from large contracts. In contrast, TCS, Infosys and Wipro now generate over 60% of their revenues from clients billing over $20m p.a. Also, as these top clients would be very mature clients in terms of offshoring, the value of the contract would be equivalent to about $50m average if done entirely onsite. Thus, the tier-1 companies manage large programmes for clients and offer a multitude of services. Notably, tier-1 companies have won several large contracts from existing as well as new clients. In our view, most of the business would be sticky as it will include routine work. As the recently won large deals ramp up, we see the share increasing.

Exhibit 3: Share of revenues from large contracts

Clients billing >$20m revenue p.a. No. of clients Approx. revenue share Mar-02 Sep-07 Mar-02 Sep-07 TCS 8 53 35% 67% Infosys 6 45 28% 68% Wipro NA 47 NA 60% Source: Company, IDFC-SSKI Research

Offshoring driven by cost savings and benefits The market share of Indian IT services exports in overall IT spending is globally a debatable issue. As Indian IT exports have grown significantly since the previous slowdown, there is a perception in the street that given India’s significant market share, exports would get impacted if IT budgets were to get cut. Also, certain quarters argue that India’s market share in terms of efforts is already quite high, which does not leave much room for scale-up.

In our view, outsourcing decisions get influenced by cost savings and quality rather than by jobs outsourced. While we agree that programme managers keep track of efforts on a project-wide basis, we would tend to believe that cost saving is the prime driver of offshoring. As highlighted before, TCS and Infosys have only 19 and 16 clients respectively providing more than $50m p.a. business respectively.

Industry frontrunners deriving >60% of revenues

from larger clients billing more than $20m

…however, we believe slowdown would increase

the imperative for offshoring

Given India’s high share, there are fears of exports

being affected in a slowdown…

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Even as salaries in India rise faster, we believe offshoring to India in large volumes results in cost savings for clients. Thus, we see sufficient scope to increase wallet share.

Exhibit 4: Number of clients in various buckets

Infosys TCS Wipro Q4FY01 Q3FY08 Q4FY01 Q3FY08 Q4FY01 Q3FY08 $1-10m 69 224 91 250 76 234 $10-20m 11 36 8 44 0 32 $20-50m 0 28 4 34 0 35 $50-100m 0 13 2 12 0 12 $100m+ 0 3 0 7 0 0 Source: Company, IDFC SSKI Research; *based on last 12 months revenues

Offshoring of infrastructure management could pick up In the previous slowdown, packaged software services segment was the prime growth driver. Despite limited proven skill sets of Indian companies, clients forked out packaged solutions-related projects to them. Thus, the share of packaged solutions has increased from 5-6% in FY01 to >25% of overall revenues currently despite companies having limited references. In FY01, Infosys derived only 9% of its revenues from package implementation and the revenue share grew to 18% in Q2FY08. For Satyam, consulting and package implementation formed only 7% of revenues in FY01 but in Q2FY08, the revenue share increased to 45%.

Exhibit 5: Increased share of enterprise solutions vertical

FY01 FY07 Enterprise % of revenues Enterprise % of revenues solutions ($ m) (%) solutions ($ m) (%) TCS NA NA 460 12.2 Infosys 23 5.5 540 17.5 Wipro 0 0 276 11.2 HCLT NA NA 165 13.0 Satyam 17 6.4 596 41.0 Source: Companies, IDFC SSKI Research

Similarly, we believe offshoring of infrastructure management services (IMS) would likely pick up as clients look at further avenues to save costs. Importantly, infrastructure management services form a key piece of the recently announced large deals.

Exhibit 6: IMS set to take off

IMS Revenues % of revenues YoY growth Total employees In FY07 ($ m) in FY07 (%) TCS 225 6.0 80 NA Infosys 136 4.5 46 3,500 Wipro* 261 10.6 75 12,500 HCLT 170 13.4 71 NA Satyam 65 4.5 53 2,500 Source: Companies, IDFC SSKI Research; Note: * Excludes Infocrossing

Despite limited references, share of packaged

solutions up from 5-6% in FY01 to >25% of revenues

Recently announced large deals in the industry

include infrastructure management services

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While Indian IT companies’ reluctance to take over assets could create some hurdles for growth in IMS, global consultants dissuade clients from transferring assets. According to Gartner (mentioned in Infosys presentation in its 2007 analyst meet), 70% of external support contracts that include a transfer of asset ownership will result in “value loss” because of the inability to transfer warranty and other value-added services. According to Everest Research (excerpted from Infosys presentation in its 2007 analyst meet), many benefits of infrastructure outsourcing can be achieved without transfer of asset ownership.

Consulting a growth imperative…or just a positioning strategy? During adversity (or perception of adversity), Indian IT companies are blamed for not having ‘moved up the value chain’. Though Indian IT companies have graduated from doing Y2k work to writing custom programmes for clients and then integrating software packages (ERP, SCM and CRM) with their operations to now managing their IT infrastructure, there is a perception (misperception, in our view) that they do low-end work. In our view, a number of clients now increasingly expect Indian vendors to offer solutions and transform their current processes. But despite lack of significant consulting offerings, data suggests that clients are forking out more package implementation and application-related work to Indian vendors.

The following exhibit indicates that Accenture has lost market share in its outsourcing business to Indian IT companies. While clients acknowledge Accenture’s expertise in understanding their businesses (its consulting business is growing faster than the outsourcing business), yet they are forking out a larger share of the incremental non-consulting work to Indian IT companies. In fact, TCS reported $1.17bn of incremental revenues from non-consulting work in the last 12 months ending September 2007 compared to $1.08bn by Accenture in the 12 months ending August 2007, despite the former having a higher offshore revenue share (implying lower $ revenues). Given that Accenture has a substantial India presence, we believe pricing alone would not be the reason for its loss of market share in non-consulting business.

Exhibit 7: Indian players gaining market share in non-consulting outsourcing

FY05 FY06 FY07 Non-consulting revenues ($ m) Accenture* 5,987 6,754 7,840 TCS 1,904 2,616 3,789 Infosys 1,514 2,047 2,805 Market share (%) Accenture* 63.7 59.2 54.3 TCS 20.2 22.9 26.3 Infosys 16.1 17.9 19.4 *For TCS and Infosys, we have taken 12 months to September; for Accenture it is 12 months to August

We believe clients have provided opportunities to Indian IT companies to develop expertise in various services including package implementation, BPO and infrastructure management. In our view, the next phase of growth would be led by infrastructure management services, which will enable Indian IT companies to make inroads into the technology infrastructure of clients and better understand their IT requirements. This would pave way for Indian players to get more work related to IT consulting followed by strategy consulting.

Indian vendors getting more package

implementation and application-related work…

Gartner sees IT infrastructure outsourcing

industry growing to $234bn by 2010 from

$175bn in 2006

…evident in Accenture’s loss of market share in

non-consulting business

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While betting on Indian IT companies providing strategy consulting like Accenture could be a long shot, we believe tier-1 companies are already considered an important business partner by their top clients. For now, these companies seem to be using consulting services to position themselves for better pricing in the large multi-year contracts (no material contribution of these assignments to growth).

Wage inflation could moderate in FY09 Offshore salaries have increased by ~15% on an average in FY08 and onsite salaries by ~4%. The rupee appreciation against the USD and reduction in the daily allowance offered to offshore employees sent on onsite assignments have made it less attractive for Indian engineers to go overseas. Thus, companies would have to hire local talent, implying no respite in onsite salary increases. However, most of the IT companies opine that offshore salary inflation would moderate in FY09. In our view, if volume growth were to slow down, demand for engineers would taper. Also, hiring of non-engineering graduates is increasing, as is indicated by the following trends. While Wipro expects to hire 3,500 non-engineers in 2009, 1,500 science graduates are being trained under TCS’s programme, Ignite. Similarly, Infosys has hired 3,000 undergraduates over the past three years. In the coming years, 20% of Satyam’s entry-level hiring would likely consist of science graduates. Thus, offshore salary inflation could moderate to about 10-12% in FY09.

Are earnings upgrades the only trigger for stock performance? The NSE IT index fell 11% in CY07 compared to the 55% rise in the NSE-50 Index, mainly on the back of a likely slowdown in growth rates. The street has significantly cut volume forecasts for FY09 due to the worsening commentary from company managements. But the ability to manage costs, as demonstrated by tier-1 companies in FY08, has provided confidence on margins. While we agree that stocks typically require triggers, they also get re-rated as and when companies deliver on expectations. As investors get confidence on the current street estimates, we believe it would lead to a sector re-rating. Thus, we don’t believe, that only earnings upgrades can trigger stock performance.

What would boost investor confidence? There is a consensus in the street that “the IT sector will not do well”. We agree that the worsening economic situation in the US, expectation of continued INR appreciation, cost pressure due to supply constraints (aggressive campus hiring by non-IT companies), and higher taxation in FY10 have been responsible for this sentiment. While the expectations of modest growth rates have not changed, we see investors having a sense of optimism on the relative stock performance for the sector. In our view, some positive trends could strengthen investor confidence and that could result in a sector re-rating.

• Strong guidance for FY09 (a guidance of 25%+ growth in $ revenues by Infosys should be considered positive)

• Hiring guidance for FY09 similar to that given in FY08

• Continued pricing increases

• Continued large deal wins (implying decision making is on)

• A stable currency (the rupee has depreciated by 2.5% vis-à-vis the USD in the last one month)

• A strong March 2008 quarter

Tier-1 Indian IT services companies considered an

important business partner by their top clients

Offshore salary inflation could moderate to about

10-12% in FY09

Better hiring guidance, continued pricing hikes,

large deals, stable currency could be re-rating

triggers

Investor confidence in current street estimates could trigger a re-rating

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GUIDANCE: SATYAM COULD BE MORE BULLISH In April 2008, Infosys and Satyam would provide guidance for FY09. We expect Infosys to guide revenue growth of 22-23% in USD terms (probably similar in Rupee terms as average exchange rate for FY08 would be Rs39.9 i.e. same as the current rate) and earnings growth of 17% for FY09 based on historic trends. We expect Satyam to be relatively more bullish than Infosys and guide for a 28% USD revenue growth and 25% earnings growth. While Infosys’s guidance could dampen market sentiment, Satyam’s strong guidance could enable the stock to catch up with Infosys on valuations.

Historically, Infosys’s earnings guidance more bullish than Satyam’s Historically, Infosys and Satyam have given nearly similar revenue growth guidance. However, Infosys – on account of its much superior ability to maintain margins – has been more bullish than Satyam in its earnings growth guidance. In our view, Infosys is proactive in identifying the various levers in the business which it can effectively and promptly utilize to defend margins. Infosys’s EBITDA margins fell sharply from 40.5% in Q3FY02 to 34% in Q2FY03 (a 650bp decline in just three quarters) as pricing was cut sharply and it didn’t have time to identify and pull other levers simultaneously. But margins have declined only by 140bp since then despite a rupee appreciation of 19% highlighting its ability to absorb pressure on margins over a longer time.

Exhibit 8: Infosys’s guidance history at the beginning of every year

(%) FY04 FY05 FY06 FY07 FY08 Revenue gr. guidance 23.6 24.7 26.6 30.7 24.3 Reported revenue gr. 33.7 47.2 36.0 46.2 19.7 EPS gr. guidance 12.6 14.9 24.9 28.4 24.2 Reported EPS gr. 34.7 41.1 30.9 45.9 22.5 Source: Company, IDFC SSKI Research, *please note, the guidance is as given at the beginning of the year

In the last three years, Satyam’s revenue growth guidance has closely tracked that of Infosys’ but its earnings growth guidance, at ~20%, has been much lower and stable. It could be because Satyam’s attrition was ahead of peers’ and it had to fork out higher wage hikes. In FY07, while Satyam had guided for a decline in margins (based on historical trends), it managed to actually maintain margins. In FY08, Satyam was confident of maintaining margins (encouraged by the trend in FY07) and its earnings growth guidance was nearly similar to revenue growth guidance despite the rupee having appreciated by 4%. But a further 7% rupee appreciation led to pressure on margins. In FY09, Satyam could again guide to stable margins.

Exhibit 9: Satyam’s guidance history at the beginning of every year

Standalone Consolidated (%) FY04 FY05 FY06 FY07 FY08 Revenue gr. guidance 14.5 23.8 27.9 27.3 22.1 Reported Revenue gr. 25.6 36.3 36.0 35.3 29.6 EPS gr. guidance 9.4 16.9 21.9 20.0 20.0 Reported EPS gr. 20.7 33.8 36.0 40.7 18.9 Source: Company, IDFC SSKI Research *please note, the guidance is as given at the beginning of the year

Infosys has much superior ability to maintain margins

Satyam expected to guide to stable margins for FY09

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But, expect satyam to be more bullish this time For FY09, we believe Satyam could guide to higher earnings growth than Infosys. Infosys has historically guided to 4.1% qoq USD revenue growth for Q1, which it has beaten by 2.8-5.3%. When Infosys gives guidance for the first quarter, it also gives guidance for the full year. Therefore, the implied CQGR for the remaining three quarters has been ~6.6% on an average in USD terms. Assuming Infosys were to follow historical trends, it should guide to 27% USD revenue growth. However, we believe the management would be cautious this year and consider lower than historical average growth rates for Q1FY09 and the remaining three quarters, and guide to a 22-23% USD revenue growth for FY09.

The average exchange rate for FY08 is estimated at Rs39.9/USD. With the exchange rate currently ruling at similar levels, Infosys could guide to 22-23% rupee revenue growth. In our view, the management would guide to a 17% earnings growth (due to lack of forex gains and equity dilution) for FY09, i.e. an EPS of Rs93-94 against the current consensus estimate of Rs96.

Exhibit 10: Infosys’ expected revenue guidance for FY09

FY04 FY05 FY06 FY07 FY08 FY09 guidance Annual revenue guidance (Rs m) 44,790 60,410 90,290 1,24,460 1,73,080 204,911 (23%) Revenue guidance for Q1(Rs m) 10,430 13,710 20,200 28,160 39,130 46,543 Revenue growth guidance for Q1 (qoq) (%) 2.3 1.6 1.6 7.3 3.7 Average (FY04-08) growth guidance for Q1 (%) 3.3 Implied CQGR guidance in the rest of the 3 quarters (%) 4.75 6.50 7.45 6.70 6.75 Avg. CQGR (FY04-08) guidance for rest of the 3 quarters (%) 6.4 Source: Company, IDFC SSKI Research

Satyam has historically guided to an average 5% qoq growth in rupee revenues in Q1, which it has beaten by an average of 3.8% over the last four years. Satyam also gives full year guidance along with quarterly guidance. The implied CQGR in revenues for the remaining three quarters has been 5.7% qoq on an average in rupee terms. Assuming Satyam would follow historic trends, it could guide to 28% rupee revenue growth for FY09. We believe Satyam’s margin performance over the last two years (barring the impact of rupee appreciation in FY08) could give the management enough confidence to guide for 25% earnings growth, i.e. an EPS of Rs31 against the consensus forecast of Rs30.5.

Exhibit 11: Satyam's expected revenue guidance for FY09

FY04 FY05 FY06 FY07 FY08 FY09 guidance Annual revenue guidance (Rs m) 23,180 31,460 45,020 61,000 79,160 107,233 (28%) Revenue guidance for Q1(Rs m) 5,450 7,320 10,260 13,660 18,100 24,615 Revenue growth guidance for Q1 (qoq) (%) 1.2 1.6 5.6 4.0 1.7 Average growth guidance for Q1 (%) 4.9 Implied CQGR guidance in the rest of the 3 quarters (%) 4.1 4.8 6.2 7.5 6.0 Average CQGR guidance for rest of the 3 quarters (%) 5.7 Source: Company, IDFC SSKI Research

We expect Satyam to guide to 28% rupee revenue

growth and EPS of Rs31 for FY09 against

consensus estimate of Rs30.5

Based on historical trends,Infosys could guide to 23%

USD revenue growth and 17% earnings growth

Infosys could guide to EPS of Rs93-94 for FY09 against consensus

estimate of Rs96

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CY07 the first of year of negative returns for NSE IT

index after five years

VALUATIONS AND VIEW The news flow on US economy, its impact on volume growth and pricing as also cost inflation and rupee appreciation against the USD, have been key investor concerns for the last six months and have dampened sentiment on Indian IT services sector. However, we believe the current valuations discount most of these concerns. In our view, near-term (couple of quarters) growth could be muted as there has been a delay in decision making, implying a slowdown in project starts. But we expect growth to pick up from Q2FY09. In the current scenario, we would bet on Infosys for its likely superior earnings growth (as demonstrated in FY08) despite lower volume growth compared to peers. We like Satyam for its superior volume growth as it has scope to increase wallet share.

Sector valuations discounting the adverse news flow The NSE IT index fell 11% in CY07 compared to a 55% increase in the NSE-50 Index and has moved in line with the broad indices YTD. In our view, news flow on US economy and the US financials sector could deteriorate further, but we believe current valuations factor in most of the news. We believe the delay in decision making could impact near-term growth but we expect growth to accelerate from Q2FY09 onwards.

Exhibit 12: Sectoral price performance in CY07

-40

(%)

0 40 80 120 160

SoftwareAutos

Auto ComponentsPharmaCement

FMCGSensexMedia

TelecomsNifty

Oil & GasTextiles

FinancialsRetail

EngineeringMetals

Power UtilitiesPower Equipment

PetrochemicalsConstruction

Source: Bloomberg, IDFC-SSKI Research

Infosys and Satyam are our top picks in the sector. Infosys has delivered superior earnings growth despite slower volume growth in YTD FY08. In our view, if the US goes into a prolonged recession, volume growth could get impacted and there would be little to differentiate among tier-1 companies. In that scenario, we would bet on Infosys to deliver the highest earnings growth on a relative basis as, given other operating levers, it does not need strong pricing to defend margins. In FY08, Infosys would likely lose volume market share and yet deliver superior earnings growth compared to peers (TCS, Wipro and Satyam).

Infosys and Satyam are our top picks in the sector

213

MARCH 2008 12

IDFC - SSKI INDIA

Exhibit 13: Infosys has lost volume market share…

10

18

25

33

40(%)

FY05 FY06 FY07 FY08E

TCS Infosys Wipro Satyam


…but gained earnings share

0

9

18

27

36 (%)

FY05 FY06 FY07 FY08E

TCS Infosys Wipro Satyam


We like Satyam for its strong volume growth performance. Given that Satyam derived only $105m of revenues (Wipro is yet to bill $100m p.a. from a client, despite having 40% more revenues than Satyam) from its largest client over the last 12 months, we believe it has substantial scope to increase wallet share within its top clients, which is reflected in the increasing number of $10m accounts from 32 to 49 in the last four quarters. While Satyam has commendably defended margins in the last two years (barring the impact of rupee appreciation in FY08), its ability to defend margins in the face of slower volume growth is yet to be seen. Besides Infosys and Satyam (our top picks), we maintain our Outperformer rating on TCS, Wipro and HCLT among tier-1 companies.

In the midcaps space we like Mphasis for its high revenue visibility, although, there have been changes in the top management recently. While KPIT and MindTree appear attractive, we believe, given the uncertain scenario, we would rather wait for a quarter for clarity to emerge on IT spending. Sasken we downgrade to Neutral due to no incremental design-in/design-wins recently and sluggishness in services business.

Satyam has immense scope to increase wallet share within top clients

214

MARCH 2008 13

IDFC - SSKI INDIA

Exhibit 14: Comparative valuations

Company Price^ Recommendation Earlier EPS (Rs) Revised EPS (Rs) PE (x) (Rs) FY09E FY10E FY09E FY10E FY09E FY10E TCS 859 Outperformer 60.2 64.7 60.2 64.7 14.3 13.3 Infosys 1419 Outperformer 99.5 104 97.1 102.8 14.6 13.8 Wipro 420 Outperformer 27.7 29.8 27.8 29.9 15.1 14.0 Satyam 407 Outperformer 30.4 30.9 31.5 32.7 12.9 12.5 HCL Tech 267 Outperformer 23.0 23.6 23.0 23.6 11.6 11.3 i-flex 1048 Underperformer 59 68.4 53.8 62.4 19.5 16.8 Mphasis 220 Outperformer 18.5 21.1 17.2 19.0 12.8 11.6 Patni 225 Underperformer 29.9 32.1 29.9 32.1 7.5 7.0 Geodesic 181 Outperformer 23.0 26.8 23.0 26.8 7.9 6.8 MindTree 334 Neutral 28.8 33.1 27.9 32.1 12.0 10.4 KPIT Cummins 79 Neutral 9.7 10.1 9.0 9.6 8.8 8.2 Sasken 118 Neutral 14.2 14.9 13.0 13.0 9.1 9.1 Note: ^ prices as on 4th Mar 2008 Source: IDFC SSKI Research

215

MARCH 2008 14

IDFC - SSKI INDIA

COMPANIES

216

MARCH 2008 15

IDFC - SSKI INDIA

Geodesic has witnessed strong growth momentum with revenues growing 25% qoq in Q3FY08 (18% qoq in Q1 and Q2) on the back of a widening application base by successfully bundling the Mundu platform with its Spyder product and mobile applications (like radio). Accordingly, the profile of clients being added has significantly improved over the last year. Also, Simputer and Chandamama are gaining ground and are likely to contribute to revenues in FY09 in a more meaningful way. With 36% earnings CAGR over FY08-10E, valuations of 7.9x FY09E earnings are attractive. Maintain Outperformer.

Larger companies coming into the fold; improving client profile: Geodesic has integrated its base Mundu platform with CRM solutions and various mobile phone applications (e.g. radio on mobile and desktop management). The wider application base has resulted in strong client addition (4-5 per quarter) with larger clients coming to the fold in the last couple of quarters. Some of the clients added include Ahli bank, Clearsky (content aggregator), Magna International, Nordisk Mobiltelefon AB, BenQ, Mio Technology, etc.

Gaining traction from handset manufacturers and service providers: Geodesic is entering into tie-ups with handset manufacturers (BenQ, MioTech, Asus, etc), service providers (Idea, Nordisk Mobiltelefon, etc) and mobile content aggregators for its integrated Mundu stack (IM, radio, VoIP, desktop management, etc). The company would get revenues on per handset/ download basis from these clients. In the recently announced deal with Idea for internet radio on mobile, Geodesic will receive Rs45/user/month as revenue share from Idea.

Attractive valuations; maintain Outperformer: We expect 45% revenue CAGR and 36% earnings CAGR for Geodesic over FY08-10. At 7.9x FY09E earnings valuations are attractive. Geodesic raised $125m through an FCCB issue in January 2008 and plans to use the proceeds for acquisition. We have built in higher other income (on investment of funds) and 18% equity dilution for FY09 and FY10. Maintain out performer with target price of Rs300.

Key valuation metrics

Year to 31 March (Rs m) FY06 FY07 FY08E FY09E FY10E Net sales 967 1,680 3,090 4,854 6,495Adj. net profit 407 897 1,548 2,476 2,875Adj. EPS (Rs) 4.7 10.0 14.4 23.0 26.8 % growth 94.0 112.7 44.5 59.9 16.1 PE (x) 38.6 18.1 12.6 7.9 6.8 Price/Book (x) 7.7 5.2 4.2 2.7 2.0 EV/EBITDA (x) 29.4 14.0 9.4 5.5 3.6 ROE (%) 31.3 34.7 39.8 42.2 33.8 ROCE (%) 29.2 33.5 25.8 23.8 25.5 Prices as on 4 March 2008

Rs181OUTPERFORMER

Mkt Cap: Rs19bn; US$482m

Geodesic InfoMessaging aloud

Com

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7 March 2008

BSE Sensex: 16542

Stock data Reuters GEIS.BO

Bloomberg BVH IN

1-yr high/low (Rs) 284/134

1-yr avg daily volumes (m) 0.06

Free Float (%) 76.1

Price performance

Performance (%) 3-mth 6-mth 1-yr 3-yr Geodesic 0.23 (12.9) 14.7 97.0 Sensex (16.2) 7.1 33.2 141.5

Ganesh Duvvuri [email protected] 91-22-6638 3358 Shreyash Devalkar [email protected] 91-22-6638 3311

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MARCH 2008 16

IDFC - SSKI INDIA

P&L

Year to Mar (Rs m) FY06 FY07 FY08E FY09E FY10E Net sales 967 1,680 3,090 4,854 6,495 % growth 140.4 73.6 84.0 57.1 33.8 Operating expenses 435 591 1,179 1,868 2,514EBITDA 532 1,089 1,911 2,985 3,982 % growth 119.7 104.6 75.5 56.2 33.4 Other income 37 9 102 272 272Depreciation 138 208 266 416 566Pre-tax profit 431 890 1,747 2,841 3,687Current Tax 23 (8) 198 364 811Profit after tax 408 898 1,549 2,477 2,876Preference dividend 1 1 1 1 1Net profit after non-recurring items 407 897 1,548 2,476 2,875 % growth 118.9 120.6 72.6 59.9 16.1

Balance sheet

Year to Mar (Rs m) FY06 FY07 FY08E FY09E FY10E Paid-up capital 117 118 177 177 177 Reserves & surplus 1,915 3,015 4,468 6,909 9,748 Total shareholders' equity 2,032 3,133 4,646 7,086 9,926 Total current liabilities 45 110 0 0 0 Total Debt 38 32 4,908 4,908 4,908 Deferred tax liabilities 25 2 2 2 2 Total liabilities 108 143 4,909 4,909 4,909 Total equity & liabilities 2,141 3,277 9,555 11,996 14,835 Net fixed assets 499 944 1,278 1,461 1,495 Investments 854 139 139 139 139 Total current assets 518 1,929 7,891 10,148 12,954 Other non-current assets 270 265 248 248 248 Working capital 473 1,819 7,891 10,148 12,954 Total assets 2,141 3,277 9,555 11,996 14,835

Cash flow statement

Year to Mar (Rs m) FY06 FY07 FY08E FY09E FY10E Pre-tax profit 431 890 1,747 2,841 3,687 Depreciation 138 208 266 416 566 chg in Working capital (392) (346) (660) (707) (675)Total tax paid (23) 8 (198) (364) (811)Operating cash Inflow 154 760 1,155 2,186 2,768 Capital expenditure (448) (630) (600) (600) (600)Free cash flow (a+b) (295) 130 555 1,586 2,168 Chg in investments (1,055) 716 - - -Debt raised/(repaid) 19 (6) 4,876 - -Capital raised/(repaid) 1,095 233 59 - -Dividend (incl. tax) (24) (25) (36) (36) (36)Misc (36) (52) (59) - (0)Net chg in cash (296) 995 5,395 1,549 2,132

Key ratios

Year to Mar 31 FY06 FY07 FY08E FY09E FY10E EBITDA margin (%) 55.0 64.8 61.8 61.5 61.3 EBIT margin (%) 40.7 52.5 53.2 52.9 52.6 PAT margin (%) 42.1 53.4 50.1 51.0 44.3 RoE (%) 31.3 34.7 39.8 42.2 33.8 RoCE (%) 29.2 33.5 25.8 23.8 25.5 Gearing (x) (0.0) (0.3) (0.3) (0.4) (0.5)

Valuations

Year to Mar 31 FY06 FY07 FY08E FY09E FY10E Reported EPS (Rs) 4.7 10.0 14.4 23.0 26.8 Adj. EPS (Rs) 4.7 10.0 14.4 23.0 26.8 PER (x) 38.6 18.1 12.6 7.9 6.8 Price/Book (x) 7.7 5.2 4.2 2.7 2.0 EV/Net sales (x) 16.2 9.1 5.8 3.4 2.2 EV/EBITDA (x) 29.4 14.0 9.4 5.5 3.6 EV/CE (x) 7.5 4.8 1.9 1.4 1.0

Shareholding pattern

Foreign58.1%

Promoters23.9%

Public & Others7.9%

Institutions6.1%

Non Promoter Corporate Holding

4.0%

As of December2007

218

MARCH 2008 17

IDFC - SSKI INDIA

HCL Technologies (HCLT) has won several large deals in the last six quarters. While the BPO business is getting impacted due to ramp down from a client, infrastructure management services (IMS) practice has adequately compensated for the same. With ramp-up, margins in IMS are expected to improve and the pay-offs from its risk-reward model should also support margins. Though lower forex gains yoy in FY08 would likely lead to muted growth in earnings, the consistent operational performance is noteworthy and has driven a re-rating in the stock (a discount of just 20% to Wipro). As disclosures have improved significantly, we believe it could get re-rated further over a period of time (like Satyam) if its performance remains consistent. At 11.6x FY09E earnings, we maintain Outperformer.

Surprise winner of several large deals: HCLT has won several large deals in the last six quarters and delivered consistent operational performance. Given its breadth of service offerings and willingness to work on a risk-reward model wherein a part of billing is based on the cost savings it enables clients to achieve combined with aggressive sales pitch the company has managed to garner a high share of large deals.

Margins depend on success of risk-reward revenue model: HCLT derives 5% of revenues based on the risk-reward model and plans to increase it to about 30% of revenues in the next 3 years. While margins in IT services business are down, overall margins have been stable owing to higher margins in IMS and BPO services. Though BPO margins will be under pressure, we see scope for expansion in IMS margins. IT services margins could remain stable if HCLT delivers higher than promised cost savings to clients.

Relatively re-rated but to track sector trends from here: The stock currently trades at a discount of 20% to Wipro. In CY07, HCLT stock delivered 3% return compared to a fall of 11.4% in the NSE IT Index. In the last one month, the stock has returned 18% (compared to 5% by the IT index) on the back of consistent performance and a high large-deal market share. We maintain Outperformer on HCLT with a target price of Rs391.


Year to 30 June FY06 FY07 FY08E FY09E FY10E Net sales 44,007 60,337 76,111 98,396 121,790Adj. net profit 7,746 12,580 13,073 16,236 16,675Adj. EPS (Rs) 12.1 18.2 18.7 23.0 23.6 % growth 26.0 51.3 2.7 22.8 2.7 PE (x) 22.2 14.7 14.3 11.6 11.3 Price/Book (x) 4.2 3.7 3.0 2.6 2.5 EV/EBITDA (x) 15.6 13.0 9.3 7.0 5.8 ROE (%) 19.7 27.7 23.3 24.1 22.5 ROCE (%) 19.3 21.2 22.3 22.9 23.8 Prices as on 4 March 2008

Rs347OUTPERFORMER

Mkt Cap: Rs239bn; US$5.9bn

HCL TechThe surprise winner

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7 March 2008

BSE Sensex: 16542

Stock data Reuters HCLT.BO

Bloomberg HCLT IN



Free Float (%) 32.5

Price performance

Performance (%) 3-mth 6-mth 1-yr 3-yr HCL Tech (10.8) (11.2) (8.7) 61.5 Sensex (16.2) 7.1 33.2 141.5


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MARCH 2008 18

IDFC - SSKI INDIA

P&L

Year to Jun (Rs m) FY06 FY07 FY08E FY09E FY10E Net sales 44,007 60,337 76,111 98,396 121,790 % growth 30.6 37.1 26.1 29.3 23.8 Operating expenses 34,159 47,936 60,186 78,471 98,298EBITDA 9,848 12,401 15,925 19,925 23,492 % growth 27.5 25.9 28.4 25.1 17.9 Other income 919 978 1,755 2,829 2,829Depreciation 2,032 2,531 3,112 4,068 5,351Pre-tax profit 8,388 14,120 14,771 18,686 20,969Current Tax 626 1,485 1,607 2,366 4,211Profit after tax 7,762 12,635 13,164 16,320 16,759Net profit after non-recurring items 7,746 12,580 13,073 16,236 16,675 % growth 26.9 62.4 3.9 24.2 2.7

Balance sheet

Year to Jun (Rs m) FY06 FY07 FY08E FY09E FY10E Paid-up capital 1,286 1,380 1,396 1,412 1,412 Reserves & surplus 39,271 48,770 60,352 71,270 74,067 Total shareholders' equity 40,665 50,295 61,912 72,846 75,643 Total current liabilities 8,952 11,660 17,592 22,306 23,989 Total Debt 83 0 0 0 0 Other non-current liabilities 745 1,292 1,600 2,000 2,000 Total liabilities 9,780 12,952 19,192 24,306 25,989 Total equity & liabilities 50,445 63,247 81,104 97,151 101,633 Net fixed assets 8,742 10,495 12,598 14,678 15,105 Investments 112 96 86 86 86 Total current assets 32,192 42,246 58,503 72,720 76,775 Other non-current assets 9,399 10,406 9,918 9,668 9,668 Working capital 23,240 30,586 40,911 50,415 52,786 Total assets 50,445 63,243 81,105 97,152 101,634

Cash flow statement

Year to Jun (Rs m) FY06 FY07 FY08E FY09E FY10E Pre-tax profit 8,388 14,120 14,771 18,686 20,969 Depreciation 2,032 2,531 3,112 4,068 5,351 chg in Working capital (1,203) (4,087) 5,704 1,150 676 Total tax paid (626) (1,485) (1,607) (2,366) (4,211)Operating cash Inflow 8,592 11,079 21,980 21,537 22,786 Capital expenditure (4,179) (4,284) (5,215) (6,148) (5,778)Free cash flow (a+b) 4,413 6,795 16,765 15,389 17,008 Chg in investments 1,996 (2,887) (1,505) - -Debt raised/(repaid) (1,225) (83) - - -Capital raised/(repaid) 84 2,461 3,659 16 -Dividend (incl. tax) (5,115) (5,115) (5,115) (5,115) (5,115)Misc (19) (22) 225 (37) (8,144)Net chg in cash 134 1,149 14,029 10,253 3,749

Key ratios

Year to Jun 30 FY06 FY07 FY08E FY09E FY10E EBITDA margin (%) 22.4 20.6 20.9 20.2 19.3 EBIT margin (%) 17.8 16.4 16.8 16.1 14.9 PAT margin (%) 17.6 20.9 17.2 16.5 13.7 RoE (%) 19.7 27.7 23.3 24.1 22.5 RoCE (%) 19.3 21.2 22.3 22.9 23.8 Gearing (x) 0.0 0.0 0.0 0.0 (0.7)

Valuations

Year to Jun 30 FY06 FY07 FY08E FY09E FY10E Reported EPS (Rs) 12.1 18.2 18.7 23.0 23.6 Adj. EPS (Rs) 12.1 18.2 18.7 23.0 23.6 PER (x) 22.2 14.7 14.3 11.6 11.3 Price/Book (x) 4.2 3.7 3.0 2.6 2.5 EV/Net sales (x) 3.5 2.7 1.9 1.4 1.1 EV/EBITDA (x) 15.6 13.0 9.3 7.0 5.8 EV/CE (x) 3.7 3.1 2.3 1.9 1.8


Foreign18.1%

Promoters67.5%

Public & Others5.6%

Institutions6.0%


2.8%

As of December 2007

220

MARCH 2008 19

IDFC - SSKI INDIA

i-flex Solutions (iflex) has witnessed strong growth in product revenues in the recent past. Growth in services business has slowed due to a decline in revenues from Citigroup (33% of Q3FY08 revenues compared to 49% in Q3FY07). Overall margins are expected to increase with change in revenue mix on the back of increasing contribution of high-margin product business and turnaround in KPO business. While we expect 19% CAGR in earnings over FY08-10E (the highest growth in the sector), valuations of 19.5x FY09E earnings are expensive. Maintain Underperformer.

Product revenues witnessing strong growth: i-flex has reported a strong 43% yoy growth in product revenues in USD terms in 9MFY08. Tank size is healthy at $81m as of end-Q3FY08. IBS (UK) has ranked Flexcube as the best selling core banking solution for five years in a row. However, share of license fee has consistently declined from 38% of revenues in FY06 to 30% in FY07 and 21% in 9MFY08. Consequently, EBITDA margin has declined from 37% in FY06 to 34% in FY07 and 32% in 9MFY08. Going forward, the management is optimistic on the demand environment.

Margins bounce back in services; Citi account declining: Services revenues increased by just 25% yoy in USD terms in 9MFY08, restricted by a 16% yoy decline in Citi account (33% of revenues in Q3FY08). In Q3FY08, margins have bounced back sharply by 10% points qoq to 22.7%, now among the highest compared to mid-sized peers, owing to better utilization, offshorization and significantly high contribution of fixed price contracts.

Expect earnings CAGR (FY08-10E) of 19%, but valuations are expensive: We expect 29% CAGR in revenues over FY08-10, underpinned by 34% CAGR in product and 20% CAGR in services revenues. We are cutting our earnings estimates by 9% for FY09 and FY10 due to concerns on demand in the financials vertical. At 19.5x FY09E earnings, the stock trades at a 33% premium to Infosys. Maintain Underperformer. An open offer from Oracle to increase stake from ~81% (seems unlikely) poses an upside risk. Maintain under performer with target price of Rs969.

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Year to 31 March FY06 FY07 FY08E FY09E FY10E Net sales (Rs m) 14,823 20,609 24,203 31,893 40,532 Adj. net profit (Rs m) 2,532 3,723 3,700 4,612 5,449 Adj. EPS (Rs) 33.5 47.1 44.0 53.8 62.4 % growth 7.9 40.4 (6.4) 22.2 15.8 PE (x) 31.3 22.3 23.8 19.5 16.8 Price/Book (x) 5.7 3.5 3.2 2.8 2.5 EV/EBITDA (x) 22.2 17.1 17.6 13.9 10.7 RoE (%) 20.0 19.7 14.4 15.6 16.0 RoCE (%) 22.2 19.9 14.8 16.7 18.9 Prices as on 4 March 2008

Rs1048UNDERPERFORMER


i-flex SolutionsStill overvalued

7 March 2008

BSE Sensex: 16542

Stock data Reuters IFLX.BO

Bloomberg IFLEX IN



Free Float (%) 19.4

Price performance

Performance (%) 3-mth 6-mth 1-yr 3-yr i-flex (31.8) (48.9) (44.3) 62.4 Sensex (16.2) 7.1 33.2 141.5


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MARCH 2008 20

IDFC - SSKI INDIA

P&L

Year to Mar (Rs m) FY06 FY07 FY08E FY09E FY10E Net sales 14,823 20,609 24,203 31,893 40,532 % growth 30.2 39.0 17.4 31.8 27.1 Operating expenses 11,561 16,185 19,625 26,066 33,051EBITDA 3,262 4,425 4,578 5,827 7,481 % growth 8.8 35.6 3.5 27.3 28.4 Other income 295 377 460 498 612Depreciation 460 653 761 900 1,064Pre-tax profit 3,090 4,139 4,224 5,426 7,029Current Tax 560 416 524 814 1,580Profit after tax 2,529 3,723 3,700 4,612 5,449Non-recurring items -155 0 0 0 0Net profit after non-recurring items 2,377 3,723 3,700 4,612 5,449 % growth 2.2 56.6 -0.6 24.6 18.2

Balance sheet

Year to Mar (Rs m) FY06 FY07 FY08E FY09E FY10E Paid-up capital 381 416 419 419 419 Reserves & surplus 13,426 23,604 27,093 31,179 36,007 Total shareholders' equity 13,807 24,020 27,511 31,597 36,425 Total current liabilities 3,989 5,332 5,285 6,796 8,680 Deferred tax liabilities 2 2 6 6 6 Total liabilities 3,990 5,333 5,291 6,802 8,686 Total equity & liabilities 17,798 29,354 32,803 38,399 45,111 Net fixed assets 3,159 8,941 9,980 10,580 11,016 Investments 52 59 58 58 58 Total current assets 14,515 20,212 22,593 27,571 33,817 Deferred tax assets 71 141 172 190 220 Working capital 10,527 14,880 17,308 20,776 25,138 Total assets 17,798 29,354 32,803 38,399 45,111

Cash flow statement

Year to Mar (Rs m) FY06 FY07 FY08E FY09E FY10E Pre-tax profit 3,090 4,139 4,224 5,426 7,029 Depreciation 460 653 761 900 1,064 chg in Working capital (1,201) (4,025) (1,984) (2,134) (1,911)Total tax paid (560) (416) (524) (814) (1,580)Ext ord. Items (155) - - - -Operating cash Inflow 1,633 351 2,477 3,378 4,602 Capital expenditure (1,367) (6,424) (1,800) (1,500) (1,500)Free cash flow (a+b) 267 (6,073) 677 1,878 3,102 Chg in investments 12 1 5 - -Debt raised/(repaid) - - - - -Capital raised/(repaid) 7 35 2 - -Dividend (incl. tax) (436) (1) (211) (526) (621)Misc 384 6,367 (34) (18) (30)Net chg in cash 233 328 439 1,334 2,451

Key ratios

Year to Mar 31 FY06 FY07 FY08E FY09E FY10E EBITDA margin (%) 22.0 21.5 18.9 18.3 18.5 EBIT margin (%) 18.9 18.3 15.8 15.4 15.8 PAT margin (%) 17.1 18.1 15.3 14.5 13.4 RoE (%) 20.0 19.7 14.4 15.6 16.0 RoCE (%) 22.2 19.9 14.8 16.7 18.9 Gearing (x) 0.0 0.0 0.0 0.0 0.0

Valuations



Promoters80.6%

Foreign4.2%

Public & Others13.5%

Institutions1.2%


0.6%

As of December 2007

222

MARCH 2008 21

IDFC - SSKI INDIA

Infosys Technologies (Infosys) underperformed the broad indices and peers in CY07. We believe Infosys has lost market share due to its focus on margins. It would likely lose volume market share in FY08 but gain earnings market share. In our view, if there is a slowdown in the US and IT budgets decline, Infosys (like in the previous slowdown) will start ramping up volumes. Given an exceptional track record of execution, Infosys would be able to manage margins better than peers. Also, if offshore budgets remain stable or rise, Infosys will continue to deliver superior earnings growth. At 14.6x FY09E earnings, we believe general sector concerns and specific concern on Infosys losing market share are in the price. Buy Infosys for relatively superior earnings growth among peers.

Superior earnings growth even with lower market share: Infosys would likely lose volume market share to peers TCS, Wipro and Satyam in FY08. But its earnings market share is set to rise. In a year marked by the highest salary inflation and steepest rupee appreciation, it is commendable that Infosys would deliver superior earnings growth despite lower volumes vis-à-vis peers.

Volume market share loss – key investor concern: Some investor quarters argue that ‘Infosys has lost it’, referring to its modest volume growth. We believe poor growth in the top 10 client group is skewing the volume market share trend. Infosys’s exceptional performance on the margin front despite poor volume growth is commendable and reflects its true capabilities. We expect market share to be maintained in FY09, if not increased.

A stock for all weathers: We are lowering our earnings forecast for Infosys by 2.5% in FY09 and 1.2% in FY10 as we expect near-term growth to be muted. We expect it to give a guidance of 22-23% revenue growth and 17% earnings growth for FY09. While the confidence on volume growth may not be high, we believe the street recognizes Infosys’s ability to hold margins. If there are signs of a prolonged slowdown, we expect Infosys to focus on volume market share and sacrifice pricing. If there is a temporary slowdown, we expect Infosys to deliver superior earnings growth like in FY08. Thus, it is one of our top picks in the sector with a price target of Rs1,942.

Rs1419OUTPERFORMER

Mkt Cap: Rs814bn; US$20bn

InfosysAll weather friend

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Year to 31 March FY06 FY07 FY08E FY09E FY10E Net sales 95,242 139,017 166,572 205,201 245,222Adj. net profit 24,636 38,637 47,029 55,653 59,830Adj. EPS (Rs) 43.6 66.3 80.3 97.1 102.8 % growth 31.6 52.1 21.0 20.9 5.9 PE (x) 32.5 21.4 17.7 14.6 13.8 Price/Book (x) 11.4 7.1 5.4 4.1 3.4 EV/EBITDA (x) 24.8 16.8 14.0 10.8 9.1 RoE (%) 40.2 40.8 34.8 31.9 27.0 RoCE (%) 43.0 42.5 35.0 32.5 29.1 Prices as on 4 March 2008

7 March 2008

BSE Sensex: 16542

Stock data Reuters INFY.BO

Bloomberg INFO IN

1-yr high/low (Rs) 2170/1212


Free Float (%) 83.5

Price performance

Performance (%) 3-mth 6-mth 1-yr 3-yr Infosys (8.0) (22.3) (26.5) 32.1 Sensex (16.2) 7.1 33.2 141.5


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Infosys Technologies Sensex

223

MARCH 2008 22

IDFC - SSKI INDIA

P&L

Year to Mar (Rs m) FY06 FY07 FY08E FY09E FY10E Net sales 95,242 139,017 166,572 205,201 245,222 % growth 33.6 46.0 19.8 23.2 19.5 Operating expenses 64,298 95,020 114,351 141,395 171,591EBITDA 30,945 43,997 52,221 63,806 73,630 % growth 32.5 42.2 18.7 22.2 15.4 Other income 1,396 3,690 7,752 8,803 11,310Depreciation 4,371 5,140 6,029 7,174 9,028Pre-tax profit 27,969 42,547 53,944 65,435 75,912Current Tax 3,132 5,100 7,925 9,782 16,082Profit after tax 24,838 37,447 46,019 55,653 59,830Minorities 680 40 50 0 0Non-recurring items 0 1,300 1,010 0 0Net profit after non-recurring items 24,636 38,637 47,029 55,653 59,830 % growth 33.4 56.8 21.7 18.3 7.5

Balance sheet

Year to Mar (Rs m) FY06 FY07 FY08E FY09E FY10E Paid-up capital 1,380 2,860 2,860 2,860 2,860 Reserves & surplus 68,280 109,690 148,617 194,300 243,572 Total shareholders' equity 70,340 112,590 151,527 197,160 246,432 Total current liabilities 23,460 21,500 27,333 47,075 50,322 Total Debt 0 0 0 0 0 Total liabilities 23,460 21,500 27,333 47,075 50,322 Total equity & liabilities 93,800 134,090 178,860 244,236 296,754 Net fixed assets 22,260 37,710 37,930 52,778 61,705 Investments 7,550 250 15,000 15,000 15,000 Total current assets 63,340 95,210 124,780 175,335 218,926 Deferred tax assets 650 920 1,150 1,123 1,123 Working capital 39,880 73,710 97,447 128,260 168,604 Total assets 93,800 134,090 178,860 244,236 296,754

Cash flow statement

Year to Mar (Rs m) FY06 FY07 FY08E FY09E FY10E Pre-tax profit 27,969 42,547 53,944 65,435 75,912 Depreciation 4,371 5,140 6,029 7,174 9,028 chg in Working capital 3,549 (9,410) 168 10,650 (6,043)Total tax paid (3,132) (5,100) (7,925) (9,782) (16,082)Ext ord. Items - 1,300 1,010 - -Operating cash Inflow 32,758 34,477 53,226 73,478 62,816 Capital expenditure (9,490) (20,530) (6,199) (22,022) (17,956)Free cash flow (a+b) 23,267 13,947 47,027 51,456 44,860 Chg in investments 4,558 7,300 (14,750) - -Debt raised/(repaid) - - - - -Capital raised/(repaid) 5,523 13,730 250 - -Dividend (incl. tax) (14,120) (7,560) (8,498) (9,746) (9,746)Misc (694) (2,997) (124) (247) (812)Net chg in cash 18,535 24,420 23,905 41,463 34,302

Key ratios

Year to Mar 31 FY06 FY07 FY08E FY09E FY10E EBITDA margin (%) 32.5 31.6 31.4 31.1 30.0 EBIT margin (%) 27.9 28.0 27.7 27.6 26.3 PAT margin (%) 25.9 26.9 27.6 27.1 24.4 ROE (%) 40.2 40.8 34.8 31.9 27.0 ROCE (%) 43.0 42.5 35.0 32.5 29.1 Gearing 0.0 0.0 0.0 0.0 0.0

Valuations



Promoters16.5%

Foreign55.4%


Institutions7.1%


2.6%

As of December 2007

224

MARCH 2008 23

IDFC - SSKI INDIA

KPIT Cummins Infosystems (KPIT) has witnessed strong trend in pricing (12-15% increase on contract renewals). The management remains positive on demand outlook in its key verticals – auto, industrial and farming equipment, and semiconductor or hi-tech. Blended billing rates are likely to increase by 4% qoq in Q4FY08, which could result in a significant 36% qoq growth in EBITDA. Accordingly, the management is confident of achieving the lower end of PAT guidance for FY08, implying 57% qoq growth in PAT in Q4FY08. Valuations, at 9x FY09E earnings, appear inexpensive considering 15% yoy growth in earnings for FY09. However, Cummins awarding i-Gate a $10m deal and selecting Infosys as a preferred vendor for a transformation project is a warning signal to KPIT, in our view. We maintain Neutral. Management positive on demand in key verticals: KPIT’s manufacturing vertical (83% of revenues) comprises mainly three segments – auto and transportation, industrial and farming equipment, and semiconductor or hi-tech. The management remains positive on demand in these verticals. None of its customers have put budgets on hold or cut budgets as yet, as per the company. KPIT increased its employee base by 28% in 9MFY08.

Strong price hikes: KPIT is witnessing 10-15% higher billing rates on new assignments as well as on contract renegotiations (effective January 2008) with clients added in FY06. On a blended basis, billing rates are expected to increase 4% qoq in Q4FY08. Accordingly, the management remains confident of achieving the lower end of FY08 PAT guidance (Rs630m), implying 57% qoq growth in PAT in Q4FY08.

Facing competition in Cummins account; maintain Neutral: KPIT is witnessing strong traction in its key verticals with 130% yoy growth in auto electronics (24% of revenues) in Q3FY08. The recent deal wins by i-Gate and Infosys from Cummins raise the risk of KPIT losing out on opportunities. We have cut our FY09-10E earnings by 6-7% on rising concerns over demand scenario. With a sharp increase in billing rates, margins would likely be flat. Though valuations of 9x FY09E earnings are inexpensive, we maintain Neutral with a target price of Rs108.

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Year to 31 March FY06 FY07 FY08E FY09E FY10E Net sales 3,182 4,637 6,067 7,245 8,568Adj. net Profit 326 505 632 738 788Adj. EPS (Rs) 4.5 6.8 7.8 9.0 9.6 % growth 11.0 51.7 15.6 14.6 6.6 PE (x) 17.6 11.6 10.1 8.8 8.2 Price/Book (x) 4.0 2.9 2.5 2.1 1.7 EV/EBITDA (x) 13.5 9.2 6.7 5.8 5.1 RoE (%) 26.2 29.6 28.0 26.2 22.8 RoCE (%) 20.2 21.2 22.4 22.5 22.6 Prices as on 4 March 2008

Rs79NEUTRAL

Mkt Cap: Rs6.5bn; US$161m

KPIT CumminsCompetition gaining ground

7 March 2008

BSE Sensex: 16542

Stock data Reuters KPIT.BO

Bloomberg KPIT IN



Free Float (%) 75.4

Price performance

Performance (%) 3-mth 6-mth 1-yr 3-yr KPIT (36.6) (36.1) (32.1) 16.6 Sensex (16.2) 7.1 33.2 141.5


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KPIT Cummins Infosystems Sensex

225

MARCH 2008 24

IDFC - SSKI INDIA

P&L

Year to Mar (Rs m) FY06 FY07 FY08E FY09E FY10E Net sales 3,182 4,637 6,067 7,245 8,568 % growth 26.0 45.7 30.8 19.4 18.2 Operating expenses 2,723 3,929 5,058 6,047 7,152EBITDA 460 708 1,010 1,198 1,415 % growth 37.4 54.0 42.6 18.7 18.1 Other income 0 13 9 2 4Net interest -19 -45 -77 -72 -68Depreciation 82 121 230 284 353Pre-tax profit 359 555 712 844 998Current Tax 33 52 81 105 211Profit after tax 326 503 631 738 788Net profit after non-recurring items 326 505 632 738 788 % growth 14.7 55.0 25.2 16.9 6.6

Balance sheet

Year to Mar (Rs m) FY06 FY07 FY08E FY09E FY10E Paid-up capital 73 150 150 150 150 Reserves & surplus 1,345 1,838 2,363 2,976 3,630 Total shareholders' equity 1,422 1,992 2,517 3,130 3,784 Total current liabilities 370 657 550 550 600 Total Debt 875 1,223 1,223 1,223 1,223 Deferred tax liabilities 8 10 10 10 10 Total liabilities 1,253 1,890 1,783 1,783 1,833 Total equity & liabilities 2,675 3,882 4,300 4,913 5,618 Net fixed assets 953 1,772 1,837 2,253 2,900 Total current assets 1,721 2,109 2,462 2,660 2,717 Working capital 1,351 1,452 1,912 2,110 2,117 Total assets 2,675 3,882 4,300 4,913 5,618

Cash flow statement

Year to Mar (Rs m) FY06 FY07 FY08E FY09E FY10E Pre-tax profit 359 555 712 844 998 Depreciation 82 121 230 284 353 chg in Working capital (587) 110 (284) (226) (304)Total tax paid (33) (52) (81) (105) (211)Ext ord. Items - - - - -Operating cash Inflow (180) 734 578 797 837 Capital expenditure (498) (940) (295) (700) (1,000)Free cash flow (a+b) (677) (206) 282 97 (163)Chg in investments - - - - -Debt raised/(repaid) 505 348 - - -Capital raised/(repaid) 2 77 - - -Dividend (incl. tax) (33) (62) (107) (125) (133)Misc 65 52 0 - (0)Net chg in cash (137) 209 176 (28) (296)

Key ratios


Valuations



Promoters24.6%

Foreign28.5%


Institutions18.9%Non Promoter

Corporate Holding 9.9%

As of December 2007

226

MARCH 2008 25

IDFC - SSKI INDIA

Valuations capture all

MindTree Consulting (MindTree) has strong management with people-centric policies, as is evident in recent restructuring wherein existing top management has paved the way for middle management to assume a larger role. The company has not registered slowdown in demand in its key verticals and continues to get 5-6% billing rate increases from clients. However, revenue growth will be at risk in case clients decide to cut discretionary spending, as annuity based business contributes just 38% to revenues. At 12x FY09E earnings (13% earnings CAGR over FY08-10E), we believe concerns on the sector have to subside for the stock to perform. Maintain Neutral.

Demand outlook remains strong: The management claims to not have witnessed any demand slowdown in key areas of manufacturing, travel/ transportation and new technology. The company continues to witness a 5-6% billing rate increase from clients. Though some clients in the R&D area have delayed finalizing of budgets, MindTree is optimistic on offshoring trends.

Strong management; focus on reducing volatility: High proportion of project based revenues has imparted volatility to revenues and operating metrics. Notably, the contribution of annuity based revenues has increased to 38% in Q3FY08 from 27% a year ago. Contribution of development related work is down to 53% from 65% a year ago; development related work is susceptible to cancellation in case of cut in clients’ budgets.

Limited downside post sharp correction; maintain Neutral: We expect 24% revenue CAGR and 13% earnings CAGR for MindTree over FY08-10. We have cut our FY09 and FY10 earnings by 3% on concerns over demand slowdown. Post a sharp correction in stock price, valuations of 12x FY09E earnings and 7x EV/EBITDA are reasonable. Though MindTree is a credible name in the midcap space given the superior quality of management, we prefer tier-1 peers on attractive valuations and their superior business model – maintain Neutral with a target price of Rs362.

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Year to 31 March FY06 FY07 FY08E FY09E FY10E Net sales (Rs m) 4,488 5,904 7,291 9,232 11,289Adj. net profit (Rs m) 542 901 989 1,119 1,290Adj. EPS (Rs) 17.3 27.7 25.3 27.9 32.1 % growth 210.0 59.7 (8.8) 10.4 15.3 PE (x) 19.2 12.0 13.2 12.0 10.4 Price/Book (x) 8.1 2.5 2.5 2.2 1.8 EV/EBITDA (x) 13.7 7.5 8.6 6.9 5.3 RoE (%) 69.6 31.9 20.7 19.7 19.2 RoCE (%) 31.4 25.6 16.8 18.6 20.8 Prices as on 4 March 2008

Rs334NEUTRAL


MindTree

7 March 2008

BSE Sensex: 16542

Stock data

Bloomberg MTCL IN



Free Float (%) 64.6

Price performance

Performance (%) 3-mth 6-mth 1-yr 3-yr MindTree (31.5) - - - Sensex (16.2) 7.1 33.2 141.5


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Mindtree Consulting Sensex

227

MARCH 2008 26

IDFC - SSKI INDIA

Earnings model

Year to Mar (Rs m) FY06 FY07 FY08E FY09E FY10E Net sales 4,488 5,904 7,291 9,232 11,289 % growth 82.1 31.5 23.5 26.6 22.3 Operating expenses 3,734 4,807 6,052 7,621 9,242EBITDA 754 1,096 1,239 1,610 2,048 % growth 204.3 45.4 13.0 29.9 27.2 Other income 66 74 221 172 182Net interest (53) (30) (59) (63) 0Depreciation 209 244 336 462 648Pre-tax profit 558 896 1,121 1,257 1,581Current Tax 15 (5) 131 138 291Profit after tax 542 901 989 1,119 1,290Non-recurring items -5 0 0 0 0Net profit after non-recurring items 538 901 989 1,119 1,290 % growth 201.0 67.5 9.8 13.1 15.3

Balance sheet

Year to Mar (Rs m) FY06 FY07 FY08E FY09E FY10E Paid-up capital 59 378 378 378 378 Reserves & surplus 1,229 3,977 4,830 5,795 6,907 Total shareholders' equity 1,288 4,355 5,208 6,173 7,285 Total current liabilities 814 1,038 1,312 1,662 2,032 Total Debt 742 264 943 0 0 Total liabilities 1,556 1,301 2,256 1,662 2,032 Total equity & liabilities 2,844 5,656 7,464 7,834 9,317 Net fixed assets 389 699 1,588 2,309 2,753 Total current assets 2,456 4,910 5,827 5,476 6,514 Deferred tax assets 0 46 49 49 49 Working capital 1,641 3,873 4,514 3,814 4,482 Total assets 2,844 5,656 7,464 7,834 9,317

Cash flow statement

Year to Mar (Rs m) FY06 FY07 FY08E FY09E FY10E Pre-tax profit 558 896 1,121 1,257 1,581 Depreciation 209 244 336 462 648 chg in Working capital (378) (123) (202) (361) (341)Total tax paid (15) 5 (131) (138) (291)Ext ord. Items (5) - - - -Operating cash Inflow 369 1,022 1,123 1,220 1,598 Capital expenditure (254) (535) (1,225) (1,183) (1,092)Free cash flow (a+b) 115 487 (102) 37 506 Chg in investments (198) (1,603) 626 - -Debt raised/(repaid) 242 (478) 679 (943) -Capital raised/(repaid) (650) 319 0 - -Dividend (incl. tax) - (79) (136) (154) (178)Misc 485 1,860 (3) (0) 0 Net chg in cash (7) 506 1,065 (1,061) 328

Key ratios


Valuations



Promoters35.4%

Foreign37.1%


Institutions1.7%


9.6% As of December 2007

228

MARCH 2008 27

IDFC - SSKI INDIA

Parent'thesis'

Mphasis is witnessing strong growth supported by EDS, its parent. Order pipeline of USD1bn, executable over 3-5 years, provides good revenue visibility. Margin headwinds are expected to get cushioned by better slack management on longer duration contracts, SG&A leverage, improving profile of BPO business, work with EDS being on cost plus basis and higher billing rates on incremental work. We expect 22% earnings CAGR for Mphasis over FY08-10 – the highest among our IT services universe. We expect the stock to command a valuation premium over mid-cap peers owing to its parentage and expectation over EDS increasing stake in the company. At 12.8x FY09E earnings, Mphasis is our top pick among mid cap IT services companies.

Benefiting from its EDS parentage: Mphasis is witnessing strong growth in key business lines; applications (66% in Q3FY08), ITO (12%) and BPO. Revenues from EDS channel (54% in Q3FY08) saw 19% CQGR in the last two quarters, though non-EDS revenues remained flat. The company is not encountering any impact on demand in any of its verticals, while billing rates are expected to increase. In YTD FY08, manpower in applications, BPO and ITO business is up 53%, 43% and 122% yoy respectively.

Investing to scale up: Mphasis is investing heavily into future growth in bench and infrastructure. Utilization has dropped to 68% from 81% a year ago, as the company is building up to execute a strong order position (8,000-10,000 people expected to be added in CY08 vs. 9,200 adds in CY07; +34% yoy). The company has appointed a new Chairman, CEO and CFO during Jan-Feb 2008 and plans to invest in strengthening its sales engine. Despite flattish SG&A expenses as percent of revenues, margins are likely to expand owing to higher billing rates, better slack management and EDS work being on cost plus basis.

Valuation premium over mid-cap peers expected to be maintained: With $1bn of order backlog executable over 3-5 years, Mphasis offers good revenue visibility, which is lacking in tier-2 companies. While we cut our FY09E and FY10E earnings by 7-10%, we see 22% earnings CAGR over FY08-10. We expect the stock to command premium valuations vis-à-vis mid-cap peers (12.8x FY09E earnings) owing to EDS parentage. Maintain out performer with target price of Rs275.


Year to 31 March FY06 FY07 FY08E FY09E FY10E Net sales (Rs m) 9,401 17,606 24,549 32,434 40,736Adj. net profit (Rs m) 1,497 1,801 2,681 3,580 3,964Adj. EPS (Rs) 9.3 8.6 12.9 17.2 19.0 % growth 134.6 (7.1) 49.0 33.5 10.7 PE (x) 23.7 25.5 17.1 12.8 11.6 Price/Book (x) 5.4 4.6 3.9 3.3 2.8 EV/EBITDA (x) 17.4 14.4 10.0 7.5 5.9 RoE (%) 23.0 21.6 24.6 28.1 26.5 RoCE (%) 22.3 24.4 27.7 31.2 32.5 Prices as on 4 March 2008

Rs220OUTPERFORMER


Mphasis

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7 March 2008

BSE Sensex: 16542

Stock data Reuters BFLS.BO

Bloomberg BFL IN



Free Float (%) 39.1

Price performance

Performance (%) 3-mth 6-mth 1-yr 3-yr Mphasis (21.4) (28.7) (10.0) (8.1) Sensex (16.2) 7.1 33.2 141.5


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MARCH 2008 28

IDFC - SSKI INDIA

P&L

Year to Mar (Rs m) FY06 FY07 FY08E FY09E FY10E Net sales 9,401 17,606 24,549 32,434 40,736 % growth 22.8 87.3 39.4 32.1 25.6 Operating expenses 7,423 14,546 20,110 26,495 33,420EBITDA 1,978 3,060 4,439 5,939 7,316 % growth 40.1 54.7 45.1 33.8 23.2 Other income 94 (2) 4 0 0Net interest 2 75 98 74 110Depreciation 519 1,017 1,413 1,946 2,444Pre-tax profit 1,555 1,983 2,868 4,068 4,981Current Tax 58 182 187 488 1,017Profit after tax 1,497 1,801 2,681 3,580 3,964Net profit after non-recurring items 1,497 1,801 2,681 3,580 3,964 % growth 20.2 20.3 48.9 33.5 10.7

Balance sheet

Year to Mar (Rs m) FY06 FY07 FY08E FY09E FY10E Paid-up capital 1,610 2,082 2,087 2,087 2,087 Reserves & surplus 4,996 8,003 9,586 11,700 14,041 Total shareholders' equity 6,606 10,085 11,673 13,787 16,128 Total current liabilities 1,407 2,915 3,362 4,829 5,778 Total Debt 37 28 50 50 50 Total liabilities 1,444 2,944 3,412 4,879 5,828 Total equity & liabilities 8,050 13,029 15,085 18,666 21,956 Net fixed assets 1,455 2,518 3,487 3,541 3,597 Total current assets 3,752 7,622 8,637 12,114 15,348 Deferred tax assets 167 177 250 300 300 Other non-current assets 2,676 2,710 2,710 2,710 2,710 Working capital 2,345 4,707 5,275 7,285 9,570 Total assets 8,050 13,029 15,085 18,666 21,956

Cash flow statement

Year to Mar (Rs m) FY06 FY07 FY08E FY09E FY10E Pre-tax profit 1,555 1,983 2,868 4,068 4,981 Depreciation 519 1,017 1,413 1,946 2,444 chg in Working capital (706) (1,459) (1,083) (1,786) (1,098)Total tax paid (58) (182) (187) (488) (1,017)Ext ord. Items - - - - -Operating cash Inflow 1,309 1,359 3,011 3,740 5,310 Capital expenditure (605) (2,756) (2,300) (2,000) (2,500)Free cash flow (a+b) 705 (1,397) 711 1,740 2,810 Chg in investments - - - - -Debt raised/(repaid) (9) (8) 22 - -Capital raised/(repaid) (475) (694) 5 - -Dividend (incl. tax) (555) (579) (734) (1,466) (1,623)Misc 369 3,582 (518) (50) (0)Net chg in cash 34 904 (515) 224 1,187

Key ratios


Valuations



Promoters60.9%

Foreign12.5%

Public & Others7.7%

Institutions7.7%


11.1%

As of December 2007

230

MARCH 2008 29

IDFC - SSKI INDIA

No recovery in sight Patni Computers (Patni) had to grapple with ramp-down from AT&T (the largest client) and a few US clients in the MVNO segment in CY07. Adjusting for this, organic revenue growth was 18% yoy. While in CY07 focus was on cutting cost and improving efficiency, Patni is now seeking revenue growth and results would likely be visible from 2HCY08, as per the company. We see 9% yoy earnings decline in CY08 as Patni would find it difficult to defend margins due to lack of volume traction. Patni has announced a buy back offer of shares @ Rs325 per share for a total purchase of up to US $65m. At 7.5x CY08E earnings, valuations discount the worst in the business; we would be closely tracking any signs of improvement. Maintain Underperformer.

CY07 growth hit by client ramp-downs: Patni has reported 15% revenue growth in USD terms for CY07, subdued due to ramp-down in its top account (AT&T) in Q1CY07 and lower business from some other clients in the MVNO segment in the US. Adjusting for this impact and acquisitions, organic revenues would have grown by 18%, which is below the industry growth rate.

Focus shifting from cost cutting to revenue growth: Patni strived to cut costs in CY07 – SG&A was down 5% yoy in absolute terms (to 16.7% of revenues, by 140bp yoy). The company claims that focus has now shifted to growing the business through active account mining and new client acquisitions, and expects the benefits to be visible from 2HCY08.

Limited downside but no immediate triggers in sight: We believe muted growth in the last two quarters and just 1.1% qoq growth guidance for Q1CY08 have lowered street expectations. Also, hopes of a change in promoter have come to naught. Thus, we see little scope of disappointment and hence limited downside. But in the absence of triggers in the medium term, we would closely monitor the developments for the desired turnaround before upgrading our recommendation on the stock. Maintain underperformer with a target price of Rs239.

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Year to 31 Dec CY06 CY07 CY08E CY09E Net sales 26,112 26,950 29,584 33,725Adj. net profit 2,654 4,643 4,250 4,605Adj. EPS (Rs) 25.6 33.0 29.9 32.1 % growth 16.8 28.9 (9.4) 7.3 PE (x) 8.8 6.8 7.5 7.0 Price/Book (x) 1.4 1.2 1.1 0.9 EV/EBITDA (x) 3.8 2.2 2.7 2.0 RoE (%) 16.7 18.8 14.9 14.3 RoCE (%) 18.5 15.0 13.1 13.2 Prices as on 4 March, 2008

Rs225UNDERPERFORMER


Patni Computers

7 March 2008

BSE Sensex: 16542

Stock data Reuters PTNI.BO

Bloomberg PATNI IN



Free Float (%) 56.1

Price performance

Performance (%) 3-mth 6-mth 1-yr 3-yr Patni Comp(31.2) (55.5) (44.9) (39.6) Sensex (16.2) 7.1 33.2 141.5


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231

MARCH 2008 30

IDFC - SSKI INDIA

P&L

Year to Dec (Rs m) CY06 CY07 CY08E CY09E Net sales 26,112 26,950 29,584 33,725 % growth 29.0 3.2 9.8 14.0 Operating expenses 21,211 22,119 24,417 27,914EBITDA 4,901 4,831 5,167 5,811 % growth 24.8 (1.4) 6.9 12.5 Other income 442 1,638 1,076 1,329Depreciation 848 937 1,183 1,349Pre-tax profit 4,495 5,533 5,060 5,791Current Tax 927 890 810 1,187Profit after tax 3,568 4,643 4,250 4,605Non-recurring items (913) 0 0 0Net profit after non-recurring items 2,654 4,643 4,250 4,605 % growth (3.0) 74.9 -8.5 8.3

Balance sheet

Year to Dec (Rs m) CY06 CY07 CY08E CY09E Paid-up capital 274 274 274 274 Reserves & surplus 22,160 26,563 30,086 33,903 Total shareholders' equity 22,434 26,837 30,360 34,177 Total current liabilities 5,271 4,383 5,541 6,632 Total Debt 0 0 0 0 Deferred tax liabilities 541 1,960 1,568 1,255 Total liabilities 5,811 6,343 7,109 7,887 Total equity & liabilities 28,245 33,180 37,469 42,064 Net fixed assets 5,547 6,740 8,057 9,708 Total current assets 19,858 26,377 23,935 26,879 Other non-current assets 2,840 5,477 5,477 5,477 Working capital 14,587 21,994 18,394 20,247 Total assets 28,245 38,595 37,469 42,064

Cash flow statement

Year to Dec (Rs m) CY06 CY07 CY08E CY09E Pre-tax profit 4,495 5,533 5,060 5,791 Depreciation 848 937 1,183 1,349 chg in Working capital (1,415) (148) 898 297 Total tax paid (927) (890) (810) (1,187)Ext ord. Items (913) - - -Operating cash Inflow 2,087 5,431 6,332 6,251 Capital expenditure (2,259) (2,130) (2,500) (3,000)Free cash flow (a+b) (173) 3,302 3,832 3,251 Chg in investments 6,373 - - -Debt raised/(repaid) (19) - - -Capital raised/(repaid) - (13,450) - -Dividend (incl. tax) (454) (794) (727) (788)Misc 352 13,723 (392) (314)Net chg in cash 6,079 2,780 2,713 2,149

Key ratios

Year to Dec 31 CY06 CY07 CY08E CY09E EBITDA margin (%) 18.8 17.9 17.5 17.2 EBIT margin (%) 15.5 14.5 13.5 13.2 PAT margin (%) 13.7 17.2 14.4 13.7 RoE (%) 16.7 18.8 14.9 14.3 RoCE (%) 18.5 15.0 13.1 13.2 Gearing (x) 0.0 0.0 0.0 0.0

Valuations

Year to Dec 31 CY06 CY07 CY08E CY09E Reported EPS (Rs) 19.0 33.0 29.9 32.1 Adj. EPS (Rs) 25.6 33.0 29.9 32.1 PER (x) 8.8 6.8 7.5 7.0Price/Book (x) 1.4 1.2 1.1 0.9 EV/Net sales (x) 0.7 0.4 0.5 0.4 EV/EBITDA (x) 3.8 2.2 2.7 2.0 EV/CE (x) 0.8 0.4 0.4 0.3


Promoters43.9%

Foreign45.6%

Public & Others3.2%

Institutions4.1%


3.2% As of December 2007

232

MARCH 2008 31

IDFC - SSKI INDIA


Hope and despair Sasken Communications (Sasken) has disappointed by indicating that its E- series (high volume) product cannot take off due to pricing pressure in China. Moreover, products division – contrary to street expectations – is unlikely to break even at EBITDA level in FY08. In the services division, softness in network equipment manufacturing segment (40-50% of revenues) persists and margins are under pressure. Earnings would likely decline by 27% yoy in FY08. We expect 14% earnings growth in FY09 with limited visibility. At 9.1x FY09E earnings, valuations appear low but we do not see any triggers for the stock to perform in the near term. Downgrade to Neutral.

Products unlikely to deliver on expectations: In its Q3FY08 earnings call, the management indicated that Sasken would find it difficult to displace Chinese competitors on pricing for its high-volume E-series product line (Lenovo has decided not to ship models carrying Sasken’s E-series product). However, M-series and S-series would be EBITDA positive for FY08. Notably, there have been no additional design-ins/ design-wins in Q3FY08.

Sluggishness persists in services business: Sasken is still grappling with sluggish growth in network equipment manufacturing (40-50% of revenues). But handsets and semiconductor silicon businesses are growing rapidly. Margins (15% in Q3FY08) have been hit due to inability to hike prices, muted revenue growth and higher share of offshore (64%). Sasken is considering acquisition of Nokia’s Germany-based division (30-40 people) handling connectivity software.

Downgrade to Neutral: Earnings are likely to decline by 27% yoy in FY08. We are cutting our earnings estimates by 8% for FY09 and 13% for FY10 on disappointment in products business. Though valuations of 9.1x FY09E earnings appear inexpensive, we downgrade Sasken to Neutral (price target of Rs130) due to sluggishness in services business and lack of revenue visibility in products business.

Com

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Rs118NEUTRAL

Mkt Cap: Rs3.4bn; US$83m

Sasken

7 March 2008

BSE Sensex: 16542

Stock data Reuters SKCT.BO

Bloomberg SACT IN



Free Float (%) 73.7

Price performance

Performance (%) 3-mth 6-mth 1-yr 3-yr Sasken (60.6) (68.6) (75.9) - Sensex (16.2) 7.1 33.2 141.5


Year to 31 March FY06 FY07 FY08E FY09E FY10E Net profit 297 443 325 371 371 Adj. net profit 229 443 325 371 371 Adj. EPS (Rs) 10.6 15.6 11.4 13.0 13.0 % growth (21.3) 47.0 (27.0) 14.0 0.1 PE (x) 11.1 7.5 10.3 9.1 9.1 Price/Book (x) 0.9 0.8 0.8 0.7 0.7 EV/EBITDA (x) 2.7 4.7 4.6 3.7 2.9 RoE (%) 11.3 11.0 7.5 8.1 7.7 RoCE (%) 11.4 10.9 5.1 6.3 9.2 Prices as on 4 March 2008

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45

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7

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Sasken Communication Technology Sensex

233

MARCH 2008 32

IDFC - SSKI INDIA

P&L

Year to Mar (Rs m) FY06 FY07 FY08E FY09E FY10E Net sales 3,081 4,771 5,557 6,150 6,718 % growth 27.4 54.8 16.5 10.7 9.2 Operating expenses 2,599 4,014 4,870 5,351 5,737EBITDA 482 758 687 799 981 % growth 35.7 57.2 (9.3) 16.4 22.8 Other income 62 58 40 68 68Net interest (1) (45) (44) (32) (31)Depreciation 179 267 419 464 492Pre-tax profit 365 543 473 491 605Current Tax 69 101 147 120 234Profit after tax 297 443 325 371 371Non-recurring items (68) 0 0 0 0Net profit after non-recurring items 229 443 325 371 371 % growth 0.6 93.2 (26.5) 14.0 0.1

Balance sheet

Year to Mar (Rs m) FY06 FY07 FY08E FY09E FY10E Paid-up capital 279 285 293 293 293 Reserves & surplus 3,571 3,933 4,171 4,415 4,659 Total shareholders' equity 3,850 4,218 4,464 4,708 4,952 Total current liabilities 381 778 761 842 920 Total Debt 12 919 896 518 424 Total liabilities 392 1,696 1,657 1,361 1,344 Total equity & liabilities 4,243 5,915 6,121 6,069 6,296 Net fixed assets 1,011 2,996 3,075 3,086 3,220 Total current assets 3,089 2,586 2,762 2,764 2,980 Other non-current assets 141 333 284 219 96 Working capital 2,708 1,808 2,001 1,921 2,060 Total assets 4,243 5,915 6,121 6,069 6,296

Cash flow statement

Year to Mar (Rs m) FY06 FY07 FY08E FY09E FY10E Pre-tax profit 365 543 473 491 605 Depreciation 179 267 419 464 492 chg in Working capital (250) (399) 191 (121) (139)Total tax paid (69) (101) (147) (120) (234)Operating cash Inflow 158 311 936 714 725 Capital expenditure (454) (2,443) (450) (409) (627)Free cash flow (a+b) (296) (2,132) 486 305 98 Debt raised/(repaid) (3) 907 (23) (378) (95)Capital raised/(repaid) 2,297 6 8 - -Dividend (incl. tax) (96) (130) (111) (127) (127)Misc (0) 50 23 0 123 Net chg in cash 1,902 (1,298) 383 (200) (0)

Key ratios

Year to Mar 31 FY06 FY07 FY08E FY09E FY10E EBITDA margin (%) 15.6 15.9 12.4 13.0 14.6 EBIT margin (%) 9.8 10.3 4.8 5.5 7.3 PAT margin (%) 9.6 9.3 5.9 6.0 5.5 RoE (%) 11.3 11.0 7.5 8.1 7.7 RoCE (%) 11.4 10.9 5.1 6.3 9.2 Gearing (x) (0.5) 0.0 (0.0) (0.1) (0.1)

Valuations



Promoters26.3%

Foreign37.0%


Institutions9.5%NonPromoter

Corporate Holding 5.6%

As of December 2007

234

MARCH 2008 33

IDFC - SSKI INDIA

Satyam Computers (Satyam) is expected to gain volume market share from 14.5% in FY04 to 17.5% in FY08 among peer group (TCS, Infosys and Wipro). In our view, the package implementation work profile tilts towards maintenance rather than implementation, which implies limited impact of any cut in discretionary spending. We believe Satyam has pulled most of its operational levers to limit the margin decline. While investor perception of Satyam has changed (discount to Infosys down to 11%) led by high volume growth, superior earnings growth could trigger a further e-rating. We expect Satyam to guide to 28% revenue growth and 25% earnings growth for FY09, i.e. an EPS of Rs31.5 (consensus forecast of Rs30.6). At 12.9x FY09E earnings, Satyam is our key pick in the sector.

Scope to increase wallet share: Satyam has gained volume market share and demonstrated superior revenue growth despite lower pricing hikes. It has bagged large deals from top accounts and managed to deliver superior growth. We see ample scope to increase wallet share among existing clients given that it billed only $105m from its largest client in the last one year.

Impressive margin performance: Satyam guided to stable margins for FY08, which built in ~4% rupee appreciation. However, EBITDA margins would decline by 200bp due to a further 7% appreciation in rupee. Satyam’s scale-up is commendable – besides focusing on volume growth, it has also improved execution capabilities (margin decline restricted by increasing offshore revenue share and optimum utilization levels).

Guidance could beat consensus estimates: Satyam has finally been rewarded for consistent performance and volume market share gains. Its ADR trades at a premium to Infosys, while the discount on local bourses too is down to 11%. In our view, Satyam could guide to 28% revenue growth and 25% earnings growth (EPS of Rs31.5 vs. consensus estimate of Rs30.5) for FY09. We are raising our earnings estimates by 3.6% for FY09 and 5.9% for FY10 due to confidence on margins. Satyam is our key pick in the sector with a price target of Rs567.


Year to 31 March FY06 FY07 FY08E FY09E FY10E Net sales 47,926 64,851 84,313 110,322 135,578Adj. Net profit 11,427 14,047 17,431 21,877 23,070Adj. EPS (Rs) 14.7 20.8 25.5 31.5 32.7 % growth 35.0 41.8 22.3 23.6 3.9 PER (x) 27.8 19.6 16.0 12.9 12.5 Price/Book (x) 6.3 4.8 3.9 3.2 2.8 EV/EBITDA (x) 20.8 15.4 12.5 9.5 7.9 RoE (%) 26.1 27.9 27.1 27.4 24.0 RoCE (%) 26.9 26.9 25.9 27.1 26.2 Prices as on 4 March 2008

Rs407OUTPERFORMER

Mkt Cap: Rs283bn; US$7bn

Satyam Computers 'No discount' sale

Com

pan

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7 March 2008

BSE Sensex: 16542

Stock data Reuters SATY.BO

Bloomberg SCS IN



Free Float (%) 91.2

Price performance

Performance (%) 3-mth 6-mth 1-yr 3-yr Satyam (1.1) (3.3) 4.9 115.7 Sensex (16.2) 7.1 33.2 141.5


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Satyam Computer Services Sensex

235

MARCH 2008 34

IDFC - SSKI INDIA

P&L

Year to Mar (Rs m) FY06 FY07 FY08E FY09E FY10E Net sales 47,926 64,851 84,313 110,322 135,578 % growth 36.1 35.3 30.0 30.8 22.9 Operating expenses 36,264 49,474 65,798 86,490 107,575EBITDA 11,662 15,377 18,514 23,832 28,002 % growth 34.3 31.9 20.4 28.7 17.5 Other income 1,167 1,833 3,145 3,425 4,066Net interest (56) (159) (199) (224) 0Depreciation 1,373 1,484 1,665 2,206 2,802Pre-tax profit 11,328 15,566 19,796 24,828 29,267Current Tax 1,509 1,520 2,364 2,951 6,197Profit after tax 9,819 14,046 17,431 21,877 23,070Minorities 42 0 0 0 0Non-recurring items 1,598 0 0 0 0Net profit after non-recurring items 11,427 14,047 17,431 21,877 23,070 % growth 60.6 22.9 24.1 25.5 5.5

Balance sheet

Year to Mar (Rs m) FY06 FY07 FY08E FY09E FY10E Paid-up capital 1,559 1,789 1,789 1,789 1,789 Reserves & surplus 41,614 55,737 69,259 86,673 102,177 Total shareholders' equity 43,214 57,526 71,049 88,462 103,967 Total current liabilities 7,130 9,947 12,252 15,528 19,049 Total Debt 1,027 1,479 99 0 0 Total liabilities 8,157 11,425 12,351 15,528 19,049 Total equity & liabilities 51,371 68,951 83,400 103,990 123,016 Net fixed assets 5,573 8,223 10,759 14,553 17,751 Total current assets 45,799 60,728 72,641 89,438 105,265 Working capital 38,669 50,781 60,389 73,909 86,216 Total assets 51,371 68,951 83,400 103,990 123,016

Cash flow statement

Year to Mar (Rs m) FY06 FY07 FY08E FY09E FY10E Pre-tax profit 11,328 15,566 19,796 24,828 29,267 Depreciation 1,373 1,484 1,665 2,206 2,802 chg in Working capital (2,865) (3,315) (1,274) (4,363) (4,255)Total tax paid (1,509) (1,520) (2,364) (2,951) (6,197)Ext ord. Items 1,598 - - - -Operating cash Inflow 9,925 12,215 17,822 19,719 21,617 Capital expenditure (3,951) (4,097) (4,200) (6,000) (6,000)Free cash flow (a+b) 5,974 8,118 13,622 13,719 15,617 Chg in investments 712 - - - -Debt raised/(repaid) 928 452 (1,380) (99) -Capital raised/(repaid) (7,984) 291 - - -Dividend (incl. tax) (2,603) (2,700) (3,909) (4,463) (7,565)Misc 10,458 2,636 (0) - (0)Net chg in cash 7,484 8,797 8,333 9,157 8,052

Key ratios


Valuations



Foreign69.7%

Promoters8.8%

Public & Others9.1%


0.7%

Institutions11.7%

As of December 2007

236

MARCH 2008 35

IDFC - SSKI INDIA

TCS has won nine large deals in the last six quarters including its largest win ($1.2bn deal from The Nielsen Company), which has improved its volume and earnings market share. Given TCS’s high exposure to financial services vertical, it has tempered investor expectations on pricing. But pricing continues to improve from clients in other verticals. We expect TCS’s large-deal market share to grow, which lends high revenue visibility. According to TCS, two Wall Street clients (among its top 15) have delayed certain projects. Recent commentary from the company hints at delayed ramp up in large deals even as the pipeline keeps growing, both in number and value. At 14.3x FY09E earnings, we reiterate Outperformer.

Improving market share in large deals: TCS has won nine large deals in the last six quarters including its largest win (a $1.2bn 10-year deal from The Nielsen Company). Notably, the wins are geographically diversified. Given its win rate, TCS would qualify for more large deals, which implies higher probability of bagging larger deals. In case of a slowdown, these large deals lend visibility even though ramp ups could be delayed for a while.

Efficient execution needed to limit margin decline: TCS expected to receive a 3-5% pricing increase from existing clients and 8-9% hike from new clients. However, given its relatively higher exposure to the financial services sector, pricing increases are likely to be lower. As TCS operates at near-optimum utilization level, it would have to increase offshore delivery and eke out efficiencies in execution to limit the margin decline.

Impressive operational performance; Outperformer: TCS, since its IPO in 2004, has surprised the street with strong operational performance (volume market share maintained and earnings market share improved in last three years). Recently, commentary from TCS has been cautious and near-term growth could be impacted due to delay in decision making. But the company offers high revenue visibility on the back of large deals. At 14.3x FY09E earnings, valuations are attractive. Reiterate Outperformer with a price target of Rs1,084.

Rs859OUTPERFORMER


TCSMinor hiccups

Com

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date



7 March 2008

BSE Sensex: 16542

Stock data Reuters TCS.BO

Bloomberg TCS IN



Free Float (%) 22.2

Price performance

Performance (%) 3-mth 6-mth 1-yr 3-yr TCS (15.2) (18.4) (24.7) 25.8 Sensex (16.2) 7.1 33.2 141.5


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-08

Tata Consultancy Services Sensex

237

MARCH 2008 36

IDFC - SSKI INDIA

Earnings model

Year to Mar (Rs m) FY06 FY07 FY08E FY09E FY10E Net sales 132,454 186,334 230,456 285,968 349,930 % growth 36.2 40.7 23.7 24.1 22.4 Operating expenses 95,508 135,592 170,064 214,118 265,327EBITDA 36,946 50,742 60,392 71,850 84,603 % growth 29.6 37.3 19.0 19.0 17.8 Other income 190 1,943 4,229 4,389 6,082Depreciation 2,810 4,296 5,754 7,149 9,813Pre-tax profit 34,343 48,433 58,918 69,147 80,939Current Tax 4,989 6,700 7,962 9,673 17,052Profit after tax 29,353 41,732 50,956 59,475 63,887Minorities 1,564 2,121 2,121 2,121 2,121Non-recurring items (243) 0 0 0 0Net profit after non-recurring items 28,831 41,315 50,498 58,971 63,332 % growth 40.5 43.3 22.2 16.8 7.4

Balance sheet

Year to Mar (Rs m) FY06 FY07 FY08E FY09E FY10E Paid-up capital 489 979 979 979 979 Reserves & surplus 57,919 88,682 128,002 175,793 227,947 Total shareholders' equity 59,971 91,782 131,101 178,893 231,046 Total current liabilities 22,726 31,604 39,505 47,406 56,887 Total Debt 979 5,032 0 0 0 Other non-current liabilities 1,949 2,170 1,953 1,758 1,582 Total liabilities 25,654 38,806 41,458 49,164 58,469 Total equity & liabilities 85,626 130,588 172,559 228,057 289,515 Net fixed assets 15,072 22,912 29,159 32,009 37,197 Investments 7,086 12,711 8,000 8,000 8,000 Total current assets 49,600 73,707 113,432 165,296 220,708 Other non-current assets 13,868 21,258 21,969 22,751 23,611 Working capital 26,874 42,103 73,927 117,890 163,821 Total assets 85,626 130,588 172,559 228,057 289,515

Cash flow statement

Year to Mar (Rs m) FY06 FY07 FY08E FY09E FY10E Pre-tax profit 34,343 48,433 58,918 69,147 80,939 Depreciation 2,810 4,296 5,754 7,149 9,813 chg in Working capital (6,852) (9,975) (9,062) (13,000) (15,423)Total tax paid (4,989) (6,700) (7,962) (9,673) (17,052)Ext ord. Items (243) - - - -Operating cash Inflow 25,068 36,053 47,649 53,624 58,277 Capital expenditure (6,501) (7,043) (12,000) (10,000) (15,000)Free cash flow (a+b) 18,567 29,010 35,649 43,624 43,277 Chg in investments (2,330) (5,393) 4,761 58 67 Debt raised/(repaid) (1,159) 4,053 (5,032) - -Capital raised/(repaid) 3,287 489 - - -Dividend (incl. tax) (7,543) (10,061) (11,179) (11,179) (11,179)Misc (9,635) (10,943) (509) (562) (621)Net chg in cash 1,187 7,155 23,690 31,941 31,543

Key ratios


Valuations



Promoters77.8%

Foreign10.7%

Public & Others5.4%

Institutions5.4%


0.8%

As of December 2007

238

MARCH 2008 37

IDFC - SSKI INDIA

Wipro has maintained volume market share through its ‘string of pearls’ strategy of pursuing inorganic growth. However, earnings growth has lagged peers’ as margins declined. We believe Infocrossing acquisition has paved the way for winning larger deals. Since the acquisition, Wipro has won two large deals including a $407m 10-year contract. Wipro arguably has the widest service offering vis-à-vis peers but it has failed to win its fair share of contracts due to lack of integrated sales and marketing effort. We believe Infocrossing acquisition has given a fillip to sales organization; hence, we expect it to bag more large deals. On the cost front, we expect Wipro to eke out efficiencies and limit the margin decline. At 15.1x FY09E earnings, we maintain Outperformer.

Infocrossing acquisition to enable higher share of large deals: Wipro, we believe, has the widest service offering but failed to bag its fair share of large deals due to lack of a coordinated sales pitch. But the Infocrossing acquisition has provided the much needed fillip to the organization in bidding for large deals. Wipro has already announced two large deal wins since the acquisition. We expect the company to win more such deals in the coming period.

Adopting cost containment measures to limit margin decline: While Wipro has been able to sustain volume market share due to its inorganic strategy, margin decline has been the steepest among peers. With expected synergies to kick in post acquisitions, we believe it would be able to limit the margin decline in FY09 and hence deliver earnings growth higher than that of peers.

Expectations have remained high: We believe expectations from Wipro to win large deals have remained high, which is reflected in valuations. At 15.1x FY09E earnings, the stock still trades at a 3% premium to Infosys though it has disappointed the street not only on volume growth but also on margins. We forecast higher revenue and earnings growth for Wipro in FY09 compared to peers due to its Infocrossing acquisition. Wipro continues to pursue inorganic opportunities, which could drive higher revenue growth but depress margins in the medium term. Maintain Outperformer with a price target of Rs500.

Com

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Rs420OUTPERFORMER


WiproLosing its charm



7 March 2008

BSE Sensex: 16542

Stock data Reuters WIPR.BO

Bloomberg WPRO IN



Free Float (%) 20.5

Price performance

Performance (%) 3-mth 6-mth 1-yr 3-yr Wipro (16.7) (8.9) (19.8) 19.5 Sensex (19.2) 7.1 33.2 141.5


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239

MARCH 2008 38

IDFC - SSKI INDIA

P&L

Year to Mar (Rs m) FY06 FY07 FY08E FY09E FY10E Net sales 106,107 149,431 200,963 265,336 323,010 % growth 30.4 40.8 34.5 32.0 21.7 Operating expenses 80,751 115,350 161,447 214,845 262,188EBITDA 25,356 34,082 39,516 50,491 60,822 % growth 24.0 34.4 15.9 27.8 20.5 Other income 1,276 2,667 2,434 1,254 2,144Depreciation 3,137 4,156 5,736 6,801 8,208Pre-tax profit 23,536 32,852 36,604 45,080 54,911Current Tax 3,265 4,423 3,813 4,514 10,993Profit after tax 20,271 28,430 32,792 40,567 43,917Non-recurring items 0 739 0 0 0Net profit after non-recurring items 20,269 29,169 32,792 40,567 43,917 % growth 28.0 43.9 12.4 23.7 8.3

Balance sheet

Year to Mar (Rs m) FY06 FY07 FY08E FY09E FY10E Paid-up capital 2,852 2,918 2,918 2,918 2,918 Reserves & surplus 75,913 98,550 116,389 138,457 162,348 Total shareholders' equity 78,764 101,468 119,307 141,375 165,266 Total current liabilities 20,402 39,601 48,780 59,808 72,033 Total Debt 705 3,781 29,204 13,032 6,516 Other non-current liabilities 395 770 4,133 4,133 4,133 Total liabilities 21,502 44,152 82,117 76,973 82,682 Total equity & liabilities 100,266 145,620 201,424 218,348 247,948 Net fixed assets 17,777 26,541 33,269 40,628 46,580 Investments 30,328 32,768 23,451 23,451 23,451 Total current assets 42,559 68,688 87,250 96,815 120,463 Deferred tax assets 224 (434) 736 736 736 Other non-current assets 9,378 18,057 56,718 56,718 56,718 Working capital 22,156 29,087 38,470 37,007 48,430 Total assets 100,266 145,620 201,424 218,348 247,948

Cash flow statement

Year to Mar (Rs m) FY06 FY07 FY08E FY09E FY10E Pre-tax profit 23,536 32,852 36,604 45,080 54,911 Depreciation 3,137 4,156 5,736 6,801 8,208 chg in Working capital (4,106) (4,448) 1,410 (15,352) (9,939)Total tax paid (3,265) (4,423) (3,813) (4,514) (10,993)Operating cash Inflow 19,302 28,877 39,938 32,016 42,185 Capital expenditure (7,677) (12,695) (12,000) (14,000) (14,000)Free cash flow (a+b) 11,625 16,183 27,938 18,016 28,185 Chg in investments (7,357) (2,320) 9,460 (56) (56)Debt raised/(repaid) 141 3,076 25,423 (16,173) (6,516)Capital raised/(repaid) 5,676 10,256 - - -Dividend (incl. tax) (8,129) (13,301) (14,953) (18,498) (20,026)Misc 1,231 (10,340) (36,293) (104) (104)Net chg in cash 3,187 3,554 11,575 (16,815) 1,483

Key ratios


Valuations



Promoters79.5%

Foreign8.8%

Public & Others7.7%

Institutions1.7%


2.4%

As of December 2007

240

MARCH 2008 39

IDFC - SSKI INDIA

THIS PAGE HAS BEEN INTENTIONALLY LEFT BLANK

241

MARCH 2008 40

IDFC - SSKI INDIA

Analyst Sector/Industry/Coverage E-mail Tel. +91-22-6638 3300

Pathik Gandotra Head of Research; Banking, Strategy [email protected] 91-22-6638 3304 Shirish Rane Cement, Construction, Power, Real Estate [email protected] 91-22-6638 3313 Nikhil Vora FMCG, Media, Retailing, Mid Caps [email protected] 91-22-6638 3308 Ramnath S Automobiles, Auto ancillaries [email protected] 91-22-6638 3380 Nitin Agarwal Pharmaceuticals [email protected] 91-22-6638 3395 Ganesh Duvvuri IT Services, Telecom [email protected] 91-22-6638 3358 Varatharajan S Oil & Gas [email protected] 91-22-6638 3240 Chirag Shah Textiles, Metals [email protected] 91-22-6638 3306 Bhoomika Nair Construction, Power, Logistics, Engineering [email protected] 91-22-6638 3337 Avishek Datta Oil & Gas, Engineering [email protected] 91-22-6638 3217 Bhushan Gajaria FMCG, Retailing, Media, Mid Caps [email protected] 91-22-6638 3367 Shreyash Devalkar IT Services, Telecom [email protected] 91-22-6638 3311 Nilesh Parikh, CFA Banking [email protected] 91-22-6638 3325 Ashish Shah Automobiles, Auto Ancillaries [email protected] 91-22-6638 3371 Salil Desai Cement, Infrastructure [email protected] 91-22-6638 3373 Rahul Narayan FMCG, Retailing, Media, Mid Caps [email protected] 91-22-6638 3238 Ritesh Shah Textiles, Metals [email protected] 91-22-6638 3376 Aashiesh Agarwaal, CFA Real Estate [email protected] 91-22-6638 3231 Neha Agrawal Banking [email protected] 91-22-6638 3237 Swati Nangalia Mid Caps [email protected] 91-22-6638 3260

Dharmendra Sahu Database Manager [email protected] 91-22-6638 3382

Dharmesh Bhatt Technical Analyst [email protected] 91-22-6638 3392

Equity Sales/Dealing Designation E-mail Tel. +91-22-6638 3300 Naishadh Paleja MD, CEO [email protected] 91-22-6638 3211 Paresh Shah MD, Dealing [email protected] 91-22-6638 3341 Vishal Purohit MD, Sales [email protected] 91-22-6638 3212 Nikhil Gholani MD, Sales [email protected] 91-22-6638 3363 Sanjay Panicker Director, Sales [email protected] 91-22-6638 3368 V Navin Roy Director, Sales [email protected] 91-22-6638 3370 Rohan Soares SVP, Sales [email protected] 91-22-6638 3310 Suchit Sehgal AVP, Sales [email protected] 91-22-6638 3247 Pawan Sharma Director, Derivatives [email protected] 91-22-6638 3213 Dipesh Shah SVP,-Derivatives [email protected] 91-22-6638 3245

Manohar Wadhwa VP, Derivatives [email protected] 91-22-6638 3232

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243

Taking a fresh stance

We expect near-term cues to remain neutral for Indian IT stocks.But we see good entry points into tier-1 companies over a 12-monthhorizon, given a strong medium-term outlook and what we see as'worst-case' valuations. Infosys, TCS and Satyam are our key picks. Key recommendations & forecasts

Reuters

Year end

Recom

Price

Target

price

EPS

1fcst

PE

1fcst

HCL Tech¹ HCLT.BO Jun 2008 Buy Rs284.55 Rs340.00 17.5 16.2

Infosys Tech¹ INFY.BO Mar 2008 Buy Rs1630.30 Rs2150.00 79.6 20.5

Patni Computer¹ PTNI.BO Dec 2008 Hold Rs264.90 Rs275.00 23.7 11.2

Satyam Computer¹ SATY.BO Mar 2008 Buy Rs458.20 Rs540.00 25.2 18.2

Tata Consultcy¹ TCS.BO Mar 2008 Buy Rs918.40 Rs1230.00 51.8 17.7

Wipro¹ WIPR.BO Mar 2008 Buy Rs431.65 Rs550.00 21.9 19.7

1. Normalised EPS - Post-goodwill amortisation and pre-exceptional items Source: Company data, ABN AMRO forecasts

FY09 outlook - which way will the dice land? While the market focus is on headline yoy changes in IT budgets, we look at the morerelevant offshore IT spends, which is showing continued momentum. In-line new bookings for Accenture's consulting business and 'ahead-of-consensus' CY08 revenue growth guidance from Cognizant point to this. However, we expect project delays and slower ramp-ups at some clients, due to internal issues, to partially affect near-term volume growth. We also expect a seasonally strong 2Q, and an above-average 3Q, gaining from potential 'budget flush' from clients as their financial year ends. Overall, we estimate 27% yoy volume growth for larger players.

A stable currency should help; record campus offers a concern, though We see no pricing pressure; 3-4% yoy realisation growth in FY09 is achievable, in our view, given the interplay of variables such as service mix change, MSAs renegotiated over FY08 and the growing revenue share of fixed-price multi-year deals. Further, therelative stability in currency should help manage margins. Our key concern is the 38-94% jump in campus offers made by large players for FY09. We believe a rush to block campuses has partly driven this rise, and now slower-than-anticipated volume growth in 1HCY09 could affect utilisation as freshers join in. Any postponement in joining dates due to margin concerns could affect sentiment, in our view. Potential changes in tax regulations over the next six months are the wild card from a long-term earnings growth perspective.

Infosys's FY09 guidance - could raise a smile but not a toast We believe the current valuations of the larger players under our coverage factor in worst-case growth scenarios in terms of key variables - growth in US$ terms, currency movement and margin management. The key near-term datapoint would be the FY09 outlook from Infosys. We believe that even 'cautiously optimistic' FY09 guidance - about 26% US$ revenue growth and 19% EPS growth (rupee terms) - will get a positive response from the market and drive sector valuations higher.

Good time for cherry-picking - we like Infosys, TCS and Satyam We have revised our earnings forecasts to factor in moderate near-term volume growth and the latest currency forecasts. Our FY09 EPS estimates are down 3.3% for the top five players. We have also lowered our target prices, as an absence of strong near-term triggers could moderate rerating. Factoring these in, we still see 18-34% potential upside from current levels for the top five over the next 12 months. Infosys, TCS and Satyam are our key picks.

Produced by: ABN AMRO Bank NV India Branch

Sensex: 17734.68

BSE IT: 4041.97

Overweight Sector relative to market

Sector performance (1M) (3M) (12M)

Absolute 468.7 54.3 -1396.6

Absolute % 13.1 1.4 -25.7

Rel market % 12.3 6.3 -40.5

Source: Bloomberg

www.abnamroresearch.com

Analysts

Pankaj Kapoor India +91 22 6715 5315 [email protected]

Srinivas Seshadri +91 22 6715 5320 [email protected]

83/84 Sakhar Bhawan, Nariman Point, Mumbai 400 021, India

Important disclosures can be found in the Disclosures Appendix. Priced at close of business 21 February 2008

India

Friday 22 February 2008

IT Services

244

Contents

I T S E R V I C E S 2 2 F E B R U A R Y 2 0 0 8 2

I N D U S T R Y D Y N A M I C S

What exactly is ‘cautious optimism’? 3

While focus remains on the headline yoy changes in IT budgets, we see continued momentum in the underlying offshore IT spend. Pricing growth should sustain and changes in tax regulations is a potential wild card.

FY09 outlook – which way will the dice turn? 3

Sharp growth in FY09 campus offers is a concern 5

Changes in tax regulations - the wild card? 5

I N V E S T M E N T V I E W

Infosys FY09 guidance – good, bad or ugly? 7

Our take on one of the most anticipated and perhaps overanalysed data-point.

V A L U A T I O N C O M M E N T

Taking a fresh stance 9

While we expect near-term cues to remain neutral for Indian IT stocks, we see good entry points into tier-1 players on a 12-month horizon, given strong medium-term outlook and what we see as ‘worst-case’ valuations.

Revisions to our earnings estimates and price targets 9

A P P E N D I X

C O M P A N Y P R O F I L E S

Company profiles 12

HCL Technologies 13

Infosys Technologies 22

Patni Computer Systems 32

Satyam Computer 41

Tata Consultancy Services 51

Wipro 61

It was the best of times, it was the worst of times, it was the age of wisdom, it was the age of foolishness, it was the epoch of belief, it was the epoch of incredulity, it was the season of Light, it was the season of Darkness, it was the spring of hope, it was the winter of despair, we had everything before us, we had nothing before us, we were all going direct to heaven, we were all going direct the other way…” - Charles Dickens, A Tale of Two Cities

245



What exactly is ‘cautious optimism’?

While focus remains on the headline yoy changes in IT budgets, we see

continued momentum in the underlying offshore IT spend. Pricing growth

should sustain and changes in tax regulations is a potential wild card.

FY09 outlook – which way will the dice land?

Leading indicators yet to show a significant cut in IT budgets

We believe the extreme focus on the impact of an economic slowdown on IT budgets

is misplaced. In a scenario of rationalising IT spends, the cuts are typically effected

first on the big ticket hardware purchases and consulting works, followed by slower

implementation/upgradation of enterprise software applications and lastly,

negotiation of price discounts from services vendors, including offshore vendors.

Chart 1 : US quarterly PC shipments vs Infosys US$ revenues – yoy growth

-25%

-20%

-15%

-10%

-5%

0%

5%

10%

15%

20%

25%

30%

35%

2Q98 1Q99 4Q99 3Q00 2Q01 1Q02 4Q02 3Q03 2Q04 1Q05 4Q05 3Q06 2Q07

0%

25%

50%

75%

100%

125%

PC shipment vol. growth (YoY) US real GDP growth (YoY)Infosys US$ revenue growth (YoY) - 4Q lag

CoR - PC shipment to GDP: 0.8 CoR - PC shipment to Infosys US$ revenue: 0.67

Despite slower economic growth, PC shipments growth remains buoyant

Source: IDC, Bureau of Economic Analysis, Company data

While the market focus remains on the headline yoy changes in IT budgets, we see

continued momentum in the underlying offshore IT spend. In-line new bookings for

Accenture’s consulting business and “ahead-of-consensus” CY08 revenue growth

guidance from Cognizant point to this. However, our channel checks indicate that

operational issues – focus of senior management on the macro environment and the

churn in senior management, especially in financial services firms – have lengthened

sales cycles, delayed project starts and slowed ramp-ups. Thus, even while there

may not be cuts in IT budgets and offshore spend continues to grow, near-term

(4Q08/1Q09) volume growth could be restricted by client-specific issues. We believe

project delays and slower ramp-ups for specific clients, due to internal issues, could

restrict near-term volume growth. We also expect a seasonally strong 2Q, and see

3Q gaining from potential budget flush from clients as their financial year ends.

Overall, we estimate 27% yoy volume growth for larger players.

We do not expect pricing growth to come under pressure

We believe the perception that a potential slowdown will affect pricing is misplaced;

3-4% yoy realisation growth in FY09 is achievable, in our view, given the interplay of

factors such as service mix change, MSAs renegotiated over FY08 and the growing

revenue share of fixed-price multi-year deals. Comparisons with 2001-02 are not on

a like-for-like basis, in our view. The correction then was mainly in offshore rates – a

Given the high co-relation, we would expect softness in PC sales to precede cuts in other components of IT budgets A reasonable co-relation with a 4Q lag underlines our view of the delayed impact on offshore IT services… … even as sales of other big-ticket items of IT spend – consulting and ERP licence sales – continue to be strong

We have broadly retained US$ revenue estimates for the Top5 players For FY09

Blended realisation for Infosys fell 11.5% from the high of 2Q01 to the low in 4Q02 even as volume growth remained steady

246



14% decline between 2Q01 and 4Q02 for Infosys – and more due to a change in the mix

of technology platforms than rate renegotiations. Note the 13% decline in the revenue

share of the internet and proprietary telecom technologies businesses for Infosys in this

period. Also, reduced client visits post 9/11 and the SARS outbreak affected recovery, in

our view.

Chart 2 : Business mix change and impact on realisation - Infosys (FY00-03)

5%

10%

15%

20%

25%

30%

35%

40%

45%

50%

1Q00 2Q00 3Q00 4Q00 1Q01 2Q01 3Q01 4Q01 1Q02 2Q02 3Q02 4Q02 1Q03 2Q03 3Q03 4Q03

22

23

24

25

26

27

28

29

30

31

32

Mainframe/Mid-range Internet Development services Offshore realization (RHS)

Note the hand-in-hand movement between Internet related tech. business share and offshore realization

Note the business shift from low-price Y2K-services to high-price Internet/e-business related services

Dot-com bust affected the e-biz related IT spend of traditional cos.

We believe development business share/realization was also affected by the decline in prop. telecom related work

Reduced no of client visits post 9-11/SARS could have affected the pace of new development projects and thus the blended realization

5%

10%

15%

20%

25%

30%

35%

40%

45%

50%

1Q00 2Q00 3Q00 4Q00 1Q01 2Q01 3Q01 4Q01 1Q02 2Q02 3Q02 4Q02 1Q03 2Q03 3Q03 4Q03

22

23

24

25

26

27

28

29

30

31

32

Mainframe/Mid-range Internet Development services Offshore realization (RHS)

Note the hand-in-hand movement between Internet related tech. business share and offshore realization

Note the business shift from low-price Y2K-services to high-price Internet/e-business related services

Dot-com bust affected the e-biz related IT spend of traditional cos.

We believe development business share/realization was also affected by the decline in prop. telecom related work

Reduced no of client visits post 9-11/SARS could have affected the pace of new development projects and thus the blended realization

Source: Company data, ABN AMRO

We reiterate our thesis that average blended realisation depends on at least 10

different variables, including: 1) the frequency of MSA renewals, as typically they are

for a three-year period; thus, only one-third of MSAs on average come for renewal

each year; 2) new clients coming in at higher price points only for pilot projects, and

generally negotiating for lower rates on ramp-ups; 3) increasing trend, especially

among large clients (with a relationship size of US$20m+ pa), of hiring outsourcing

consultants (such as TPI) for MSA negotiations even in non-transaction-based

contracts; and 4) change in services mix, faster growth in services such as

infrastructure management and independent-application testing that typically have

lower rates.

Chart 3 : Factors driving change in average realisation and billed effort

B il le d e f fo r t (v o lu m e )

T ra in e e s (n o s )

U t il iz a t io n

R e c ru itm e n t m ix( f re s h e r / la te ra l)

H irin g d is t r ib u t ion o v e r th e q u a rte r

( f ro n t -e n d e d /b la c k -e n d e d )

B i l la b le e f fo rt

A d d i t io n o f m a n p o w e r b a s e

T ra in e e e f fo r t

B il l in g p e rio d(n o o f b il la b le d a y s )

P ro je c t s ta f f in g m ixP M :P L :T M

O n s i te :O f fs h o red e liv e ry m ix

A v e ra g e b le n d e d re a liz a t io n

S h a re o f to o ls / re-u s a b le c o m p o n e n ts ( s o lu t io n s )

A p p lic a t io n d e v e lo p m e n t & m a in te n a n c e s e rv ic e sT e c h p la t fo rm (JA V A / .N e t /V isu a lB a s ic/ .. .) s p e c i fi c ra te s

L e v e l-s p e c i fic b il lin g ra te se r

S e rv ic e s m ix A D M ; IM S ; P I ; C o n s u lt in g ; T e s tin g ; B P OG e o g ra p h y m ix

C o n t ra c t m ix - T & M :F ix e dp r ic e

C o n t ra c tu a l i s su e s - M S A sd u e fo r re n e w a ls

C o n t ra c t m ix - N e w c lie n ts :R e p e a tb u s in e s s

A tt r i t io n ra te

T ra in in g p e r io d

O n s i te :O f fs h o re


S h a re o f to o ls /re -u s a b le c o m p o n e n ts ( s o lu t io n s )

A p p lic a t io n d e v e lo p m e n t & m a in te n a n c e s e rv ic e sT e c h p la t fo rm (JA V A / .N e t /V i ru a lB a s ic / . . .)

s p e c i fic ra te s

L e v e l- s p e c i fi c b il l in g ra te sS /W E n g in e e r/ P ro g ra m m e r/B u s in e s s A n a ly s t/

T e a m L e a d /P ro je c t M a n a g e r

S e rv ic e s m ixA D M ; IM S ; P I ; C o n s u lt in g ; T e s t in g ; B P OG e o g ra p h y m ix

C o n tra c t m ix – T & M : F ix e d p r ic e

C o n t ra c tu a l i s su e s –M S A s d u e fo r re n e w a ls

C o n t ra c t m ix – N e w c l ie n ts : R e p e a t b u s in e s s

B il le d e f fo r t (v o lu m e )

T ra in e e s (n o s )

U t il iz a t io n

R e c ru itm e n t m ix( f re s h e r / la te ra l)

H irin g d is t r ib u t ion o v e r th e q u a rte r

( f ro n t -e n d e d /b la c k -e n d e d )

B i l la b le e f fo rt

A d d i t io n o f m a n p o w e r b a s e

T ra in e e e f fo r t

B il l in g p e rio d(n o o f b il la b le d a y s )

P ro je c t s ta f f in g m ixP M :P L :T M

O n s i te :O f fs h o red e liv e ry m ix


S h a re o f to o ls / re-u s a b le c o m p o n e n ts ( s o lu t io n s )

A p p lic a t io n d e v e lo p m e n t & m a in te n a n c e s e rv ic e sT e c h p la t fo rm (JA V A / .N e t /V isu a lB a s ic/ .. .) s p e c i fi c ra te s

L e v e l-s p e c i fic b il lin g ra te se r

S e rv ic e s m ix A D M ; IM S ; P I ; C o n s u lt in g ; T e s tin g ; B P OG e o g ra p h y m ix

C o n t ra c t m ix - T & M :F ix e dp r ic e

C o n t ra c tu a l i s su e s - M S A sd u e fo r re n e w a ls

C o n t ra c t m ix - N e w c lie n ts :R e p e a tb u s in e s s

A tt r i t io n ra te

T ra in in g p e r io d

O n s i te :O f fs h o re


S h a re o f to o ls /re -u s a b le c o m p o n e n ts ( s o lu t io n s )

A p p lic a t io n d e v e lo p m e n t & m a in te n a n c e s e rv ic e sT e c h p la t fo rm (JA V A / .N e t /V i ru a lB a s ic / . . .)

s p e c i fic ra te s

L e v e l- s p e c i fi c b il l in g ra te sS /W E n g in e e r/ P ro g ra m m e r/B u s in e s s A n a ly s t/

T e a m L e a d /P ro je c t M a n a g e r

S e rv ic e s m ixA D M ; IM S ; P I ; C o n s u lt in g ; T e s t in g ; B P OG e o g ra p h y m ix

C o n tra c t m ix – T & M : F ix e d p r ic e

C o n t ra c tu a l i s su e s –M S A s d u e fo r re n e w a ls

C o n t ra c t m ix – N e w c l ie n ts : R e p e a t b u s in e s s

Source: ABN AMRO

We estimate 27% yoy volume growth for the Top5 players combined in FY09 We forecast 3.2-5.2% and 3.5-4.2% yoy increase in average realisation for onsite and offshore respectively for the Top5 players in FY09

247



Sharp growth in FY09 campus offers is a concern

We estimate total campus offers for FY09 by the top four players, at around 67,550,

are up 57% yoy. We believe this sharp jump is at least partly due to a rush to block

campuses. Campus salaries have also risen 10-12% pa over the last two years,

unlike the earlier trend of a rise once in two to three years. Typically, campus visits

are done during June-August, coinciding with the final semester of the penultimate

year/first semester of final year of the engineering course. This implies an effective

12-15 month lag between an offer and the joining of a candidate and a 15-18 month

lag between an offer and billability post three months of training. Thus, the quantum

of campus recruitment is not entirely based on a visible demand pipeline and a

modest share could be anticipatory, in our view.

Table 1 : FY09 hiring estimates – top four players

Infosys TCS Wipro Satyam Total - Top4

Employee base - FY08E 74,639 106,099 60,752 47,842 289,331

Increase - FY08/FY07 22.3% 24.0% 20.6% 34.1% 24.4%

Campus offers - FY07 (for FY08) 13,000 11,500 12,000 6,500 43,000

Campus offers - FY08 (for FY09) 18,000 22,300 17,500 9,750 67,550

Increase - yoy 38% 94% 46% 50% 57%

Joinee to offer ratio 75% 93% 78% 75% 82%

Fresher intake 13,431 20,739 13,650 7,313 55,132

Fresher share (of gross addition) 40% 45% 50% 40% 44%

Gross addition - FY09F 33,580 46,090 27,300 18,280 125,250

Attrition 13.7% 12.2% 18.2% 13.1% 14.5%

Employee base - FY09F 96,496 135,641 75,640 59,111 366,888

Increase - FY09/08 29% 28% 25% 24% 27%

Notes: 1. Figures for Infosys are for Infosys India. 2. Figures for Wipro are inclusive of offers made to non-engineers. 3. Figures for Satyam are ABN AMRO estimates. Source: Company data, ABN AMRO estimates

If volume growth in 1HCY09 is slower than anticipated, a record number of trainees

coming into the system could exert short-term pressure on gross utilisation and

thereby on operating margins. Gross utilisation at most large players in 9M08 was

significantly off the peak of FY04-08.

Table 2 : Gross (including trainees) utilisation – top four players

Infosys TCS Wipro Satyam

Gross utilisation - 9M08 70.1% 74.1% 74.1% 82.0%

Gross utilisation - Maximum - FY08/FY04 72.9% 78.0% 77.0% 82.0%

Gross utilisation - Minimum - FY08/FY04 68.4% 74.1% 69.0% 77.8%

Source: Company data, ABN AMRO estimates (for Satyam)

Companies could spread out joining dates of campus recruits, but this could lead to

adverse media coverage, affecting sentiment.

Changes in tax regulations - the wild card?

Potential changes in tax regulations will have a significant positive impact on earnings

and thereby on investor sentiment, in our view. A section of the industry expects the

Union government to extend the tax benefits under the STPI (Software Technology

Parks of India) scheme that expires in March 2009, given the 14% rise in the rupee

vs the US$ over the last 12 months. However, we rate the probability of such an

event low; and even if the government were to allow the extension, it is likely to do

so with riders (for a limited period and/or for small and mid-sized companies only).

Among the top four players, TCS has seen the sharpest yoy jump in the number of campus offers made so far Our assumptions on joinee-to-offer ratio, fresher-lateral mix and attrition are as per 9M08 metrics We expect the joinee-to-offer ratio to pick up and attrition to decline, given a tightening job market

Companies calculate utilisation differently, mainly in terms of the number of billable/billed hours For instance, normalising for Infosys’s method, 9M08 gross utilisation would be 72.9% for Satyam and 70.1% for Wipro

The STPI scheme could be changed in the Union Budget, to be presented on 29 February 2008

248



We have factored in a 5.5-8.0% increase in the effective tax rate across players in

FY10. This could then gradually decline over the next five years as the share of

revenues from SEZ (Special Economic Zones) units grows. The extent of decline and

follow-up growth would vary across companies, based on the time taken to shift

businesses to SEZs – Satyam, for instance, plans to employ all additional manpower

in FY09 in SEZs while Wipro started this partially in FY08.

Table 3 : Impact of 1% change in effective tax rate on FY10F EPS

(Rs) Infosys TCS Wipro Satyam HCL Tech

FY10F EPS forecast 111.9 67.7 29.4 33.9 24.9

+1% tax rate change 113.3 69.0 29.8 34.3 25.3

Change in FY10 F EPS (%) 1.3% 2.0% 1.4% 1.3% 1.7%

Source: ABN AMRO estimates

Further, the Economic Times reported that the US has agreed to discuss entering into

a totalisation agreement with India. The US has such agreements with 21 countries

to avoid double taxation of income with respect to social security taxes. Indian IT

companies pay these taxes even for employees going onsite for a short term.

However, given the early stages of discussions, we have not built these into our

numbers.

Every 1% change in the effective tax rate in FY10F would increase our EPS estimates across the top five companies by 1.3-2.0%

249



Infosys FY09 guidance – good, bad or ugly?

Our take on one of the most anticipated and perhaps overanalysed data-

point.

Infosys FY09 guidance – could raise a smile but not a toast

Given the high focus on Infosys’ annual guidance announcement in April, considered

as an indicator of sector outlook, and a perception of management’s conservatism

(thus implying potential for significant outperformance), We have analysed Infosys’s

historical outperformance of its guidance. We have also tried to evaluate the current

market perception of FY09 and the potential market reaction to FY09 guidance under

different scenarios.

Chart 4 : Infosys – what has driven the guidance outperformance

Historically, volumes were the driver for out-performance However, over the last 8 quarters, avg. blended

realization growth has been the key

Implication: The degree of out-performance to guidance will continue to come down; key would be the call on the realization improvement

-4%

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1Q03 2Q03 3Q03 4Q03 1Q04 2Q04 3Q04 4Q04 1Q05 2Q05 3Q05 4Q05 1Q06 2Q06 3Q06 4Q06 1Q07 2Q07 3Q07 4Q07 1Q08 2Q08 3Q08

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Revenue growth outperformance (%) Volume growth outperformance (%) Blended realization growth outperformance (%)

Historically, volumes were the driver for out-performance However, over the last 8 quarters, avg. blended

realization growth has been the key

Implication: The degree of out-performance to guidance will continue to come down; key would be the call on the realization improvement

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1Q03 2Q03 3Q03 4Q03 1Q04 2Q04 3Q04 4Q04 1Q05 2Q05 3Q05 4Q05 1Q06 2Q06 3Q06 4Q06 1Q07 2Q07 3Q07 4Q07 1Q08 2Q08 3Q08

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Revenue growth outperformance (%) Volume growth outperformance (%) Blended realization growth outperformance (%)


We believe the current stock price range of Infosys is building in an FY09 EPS of

Rs92, implying 17% yoy growth, with a PE of 17x, implying a PEG of 1.

Table 4 : Infosys’s FY09F performance – what is the market building in?

US$ revenue growth scenarios I II III

Cons. US$ revenues growth – yoy 28% 30% 32%

Implied cons. revenues (US$ m) 5,363 5,447 5,531

INR/US$ FX rate scenarios A B C

INR appreciation 3% 5% 3% 5% 3% 5%

Implied INR/US$ exchange rate 38.4 37.4 38.4 37.4 38.4 37.4

EBIT margin change scenarios i ii i ii i ii i ii i ii i ii

EBIT margin change – yoy -100bp -150bp -150bp -200bp -100bp -150bp -150bp -200bp -100bp -150bp -150bp -200bp

Effective tax rate 15% 15% 15% 15% 15% 15% 15% 15% 15% 15% 15% 15%

PAT 53,705 52,830 51,656 50,802 54,435 53,546 52,353 51,486 55,164 54,261 53,050 52,170

Implied PAT growth – yoy 19% 17% 14% 12% 20% 18% 16% 14% 22% 20% 17% 15%

EPS 94 92 90 89 95 94 92 90 97 95 93 91

Implied P/E (FY09F EPS) 16x 17x 17x 17x 16x 17x 17x 17x 16x 16x 17x 17x

Implied PEG 0.9 1.0 1.2 1.4 0.8 0.9 1.1 1.2 0.7 0.8 1.0 1.1


250



We believe even a ‘cautiously optimistic’ FY09 guidance from Infosys should be for

26% US$ revenue growth and EPS of Rs94, implying 19% yoy growth. This would be

marginally ahead of the EPS of Rs92 being factored in by the street, in our view.

Therefore, these levels would be positive for stock movement, driving both earning

upgrades and re-rating.

We also expect corporate actions – a special dividend and/or a bonus share issue -

given the US$2bn+ cash balance with the company. These should support a near-

term rally.

Table 5 : Infosys – How the FY09F guidance could shape up?

(For upper-end of guidance) Cautious "Cautiously optimistic" Optimistic

US$ revenues growth - yoy 24% 26% 28%

Implied cons. revenues (US$ m) 5,195 5,279 5,363

Rs appreciation 0% -1% 0% -1% 0% -1%

Implied INR/US$ exchange rate 39.4 39.8 39.4 39.8 39.4 39.8

Implied cons. revenues (Rs m) 211,301 213,414 214,602 216,748 217,904 220,083

EBIT margin change - yoy -100bp -125bp -75bp -100bp -100bp -125bp -75bp -100bp -100bp -125bp -75bp -100bp

Implied EBIT 54,913 54,398 54,007 53,505 55,771 55,248 54,851 54,341 56,629 56,098 55,695 55,177

Other income (ex FX inc.) 8,270 8,270 8,270 8,270 8,270 8,270 8,270 8,270 8,270 8,270 8,270 8,270

PBT 63,183 62,668 62,277 61,775 64,041 63,518 63,121 62,611 64,899 64,368 63,964 63,447

Effective tax rate 15% 15% 15% 15% 15% 15% 15% 15% 15% 15% 15% 15%

PAT 53,705 53,268 52,935 52,509 54,435 53,990 53,653 53,219 55,164 54,713 54,370 53,930

Basic shares (m nos) 571.55 571.55 571.55 571.55 571.55 571.55 571.55 571.55 571.55 571.55 571.55 571.55

EPS 94 93 93 92 95 94 94 93 97 96 95 94

Implied EPS growth - yoy 19% 18% 17% 16% 20% 19% 19% 18% 22% 21% 20% 19%


We believe 19% FY09 EPS growth guidance will lead to a sharp 10-15% upside for Infosys from current levels

251



Taking a fresh stance

While we expect near-term cues to remain neutral for Indian IT stocks, we

see good entry points into tier-1 players on a 12-month horizon, given

strong medium-term outlook and what we see as ‘worst-case’ valuations.

Revisions to our earnings estimates and price targets

FY09F EPS cut 3-7% across players; broadly retained for Satyam; c30% cut for Patni

We have adjusted our forecasts for the top six companies to factor in the September-

December quarter actuals, a likely slower 1Q09 and the latest exchange rate

forecasts of our economist.

Operationally, we estimate headcount growth in FY09 will be low, given the low

visibility on near-term demand and slow ramp-ups. This could also affect utilisation,

although the impact could vary across players, based on the fresher/lateral mix and

the current slack in the system. We expect FY09 wage hikes to be marginally lower

than in FY08, helping margin management.

Table 6 : Select IT services players – EBITDA margin and EPS revisions

EBITDA margin Basic EPS

Old New Change Old New Change

FY08F FY09F FY08F FY09F FY08F FY09F FY08F FY09F FY08F FY09F FY08F FY09F

TCS 26.4% 26.4% 26.1% 25.7% -33bp -72bp 52.1 62.4 51.8 59.1 -0.6% -5.3%

Infosys 31.2% 31.0% 31.3% 30.8% 13bp -23bp 82.8 100.4 81.5 97.3 -1.4% -3.1%

Wipro 19.3% 18.3% 19.5% 18.1% 23bp -19bp 22.3 27.0 22.0 25.5 -1.4% -5.6%

Satyam 22.0% 21.6% 21.9% 21.4% -10bp -25bp 25.8 31.7 25.8 32.1 0.2% 1.4%

HCL Tech. 20.1% 19.5% 19.5% 19.2% -67bp -29bp 19.0 22.6 18.4 21.7 -2.4% -3.8%

Patni 17.8% 15.6% 14.2% 12.9% -352bp -265bp 33.1 33.7 23.9 23.7 -27.4% -29.7%

Source: ABN AMRO forecasts

We have broadly retained our estimates for Satyam, given the better-than-expected

3Q08 result. The 2.3% qoq blended realisation growth was about 90bp ahead of our

estimates, as was utilisation. Post our discussions with management, we have also

raised our headcount addition target for FY09, while keeping utilisation at current

levels. Note, due to the different calculation methodologies, our headline utilisation

numbers are about 1.13x of the adjusted numbers.

Our EPS forecasts for Patni are significantly lower (down 30%) vs our earlier

estimates. The muted 1QCY08 growth guidance indicates continued demand

challenges. We expect low volume growth to restrict flexibility on margin

management. We expect delays in expansion into SEZ to push capex higher, as well

as increase the effective tax rate.

We have lowered our target prices across players, including Satyam

We have reduced our target prices by 7-20% across players, except Patni, where we

are down about 40% post a significant cut in our estimates. While our target prices

are DCF-based, we typically calibrate these through the P/E valuation method. We

believe market valuations are primarily P/E based.

252



The current valuations are at a 9-25% discount to three-year lows, factoring in the

‘worst-case’ growth scenario, in our view. (Refer to the earlier discussion on the

Infosys case study.) We believe the stocks should see a gradual re-rating as concerns

ease. However, given the ‘cautiously optimistic’ stand of players, we expect the

rerating to be slow and back-ended, in line with the outlook on volume growth. Thus,

we believe the current levels indicate good entry points, especially into tier-1 players.

Infosys, TCS and Satyam are our top Buy ideas.

Table 7 : Select IT services players – valuations and target price revisions

Target Price *P/E at current price P/E at target price

BB Code Recommendation Old New Change Upside FY08F FY09F FY08F FY09F

TCS TCS IN Buy 1,460 1,230 -15.8% 34% 17.7 15.5 23.8 20.8

Infosys INFO IN Buy 2,440 2,150 -11.9% 32% 20.0 16.8 26.3 22.1

Wipro WPRO IN Buy 633 550 -13.1% 27% 19.6 16.9 25.0 21.5

Satyam SCS IN Buy 585 540 -7.7% 18% 17.8 14.3 20.9 16.8

HCL Tech. HCLT IN Buy 375 340 -9.3% 19% 15.3 13.1 18.3 15.7

Patni PATNI IN Hold 447 275 -38.5% 4% 11.0 11.2 11.5 11.6

Source: ABN AMRO forecasts, Bloomberg

Note: Price data as on 21 February 2008, * basic EPS

253

A P P E N D I X


Table 8 : Trailing 12-month financial and operating performance- Top5 players

4Q07 1Q08 2Q08 3Q08 Change Average Vs. Group average

YoY (TTM) 3Q08 TTM

TCS

Revenue growth 7.8% 8.0% 9.9% 6.2% -639bp 8.0% -106bp -31bp

Volume growth QoQ 6.4% 7.6% 8.2% 5.3% -256bp 6.9% -110bp 209bp

Realization growth - Blended 1.3% 1.9% 0.9% 0.5% -406bp 1.2% -15bp -1545bp

Realization growth - Onsite n.a. n.a. n.a. n.a. - - - -

Realization growth - Offshore n.a. n.a. n.a. n.a. - - - -

Change in EBIT margin -0.5% -2.5% 0.2% 0.4% -42bp -0.6% -9bp -5bp

Net add as % of base 7.1% 6.1% 10.0% 3.7% -329bp 6.7% -242bp 69bp

Infosys


Volume growth QoQ 3.6% 6.9% 7.7% 4.5% -289bp 5.7% -193bp 89bp

Realization growth - Blended 1.7% 1.0% 1.9% 0.8% -70bp 1.4% 8bp -1525bp

Realization growth - Onsite 1.8% 1.4% 2.9% 1.1% -87bp 1.8% 96bp 173bp

Realization growth - Offshore 1.4% 1.0% 2.6% 1.3% -36bp 1.6% 62bp 61bp

Change in EBIT margin -1.0% -3.0% 2.9% 1.2% 98bp 0.0% 79bp 61bp

Net add as % of base 3.3% 4.3% 6.1% 8.4% 361bp 5.5% 227bp -51bp

Guidance outperformance (Revenue - US$ ) 0.2% 2.2% 3.8% 0.6% -271bp 1.7% -153bp -93bp

Satyam

Revenue growth 9.5% 10.0% 12.7% 10.5% 375bp 10.7% 319bp 238bp

Volume growth QoQ 4.3% -25.3% 12.0% 9.4% 1654bp 0.1% 301bp -469bp

Realization growth - Blended 72.2% 111.3% 68.7% 1.1% 2110bp 63.3% 42bp 4673bp

Realization growth - Onsite -0.9% -7.0% -1.3% -2.1% 117bp -2.8% -219bp -289bp

Realization growth - Offshore -0.8% 0.3% 2.9% 0.9% 178bp 0.8% 14bp -16bp

Change in EBIT margin -1.2% -0.8% -2.4% 1.6% -39bp -0.7% 118bp -12bp

Net add as % of base 3.7% 7.6% 7.9% 8.3% -41bp 6.9% 213bp 83bp

Guidance outperformance (Revenue - US$ ) 2.7% 4.9% 6.1% 5.2% 456bp 4.7% 306bp 206bp

Wipro Technologies

Revenue growth 7.8% 5.1% 8.8% 7.4% -135bp 7.3% 15bp -97bp

Volume growth QoQ 5.4% 6.5% 7.7% 6.4% -288bp 6.5% 2bp 171bp

Realization growth - Blended 1.3% -0.2% 0.9% 0.3% 69bp 0.6% -35bp -1603bp

Realization growth - Onsite 2.2% -0.6% 1.9% 1.3% 176bp 1.2% 123bp 116bp

Realization growth - Offshore 0.6% 0.0% 1.6% 0.0% 36bp 0.5% -76bp -45bp

Change in EBIT margin -1.1% -0.5% -1.1% -1.4% -128bp -1.0% -188bp -45bp

Net add as % of base 2.1% 5.4% 8.4% 4.2% -346bp 5.0% -198bp -101bp

Guidance outperformance (Revenue - US$ ) 0.8% 2.1% 2.5% 0.6% -62bp 1.5% -153bp -113bp

HCL Technologies


Volume growth QoQ 3.9% 6.5% 9.0% 7.3% 28bp 6.7% 93bp 187bp

Realization growth - Blended 4.1% 1.1% -0.1% -0.1% -205bp 1.3% -74bp -1534bp

Realization growth - Onsite 4.0% 0.0% 1.9% 0.7% -108bp 1.6% 56bp 157bp

Realization growth - Offshore 2.3% 1.8% 1.3% 1.1% -206bp 1.6% 42bp 63bp

Change in EBIT margin 1.1% -1.2% -0.3% -0.8% -65bp -0.3% -121bp 27bp

Net add as % of base 6.3% 10.7% 11.8% 5.0% 183bp 8.4% -117bp 241bp

Average - Top5

Revenue growth 7.9% 8.0% 9.9% 7.3% -240bp 8.3%

Volume growth QoQ 4.9% -1.1% 8.9% 6.4% 205bp 4.8%

Realization growth - Blended 19.1% 28.5% 18.1% 0.7% 426bp 16.6%

Realization growth - Onsite 1.0% -2.1% 1.2% 0.1% 69bp 0.1%

Realization growth - Offshore 0.4% 0.4% 2.4% 0.7% 59bp 1.0%

Change in EBIT margin -0.9% -1.7% -0.1% 0.5% -28bp -0.6%

Net add as % of base 4.0% 5.9% 8.1% 6.1% -89bp 6.0%

Guidance outperformance (Revenue - US$ )* 1.3% 3.1% 4.1% 2.1% 41bp 2.6%

*Only for Infosys, Satyam and Wipro Technologies. TCS and HCL Technologies do not provide quarterly/annual guidance. Source: Company data, ABN AMRO estimates

254



Company profiles

The following are the latest reports published on these companies:


HCL Technologies 13

Infosys Technologies 22

Patni Computer Systems 32

Satyam Computer 41

Tata Consultancy Services 51

Wipro 61

255

As good as it gets

We cut FY08F EPS by 2% on a slower 2QFY08 and muted near-termvolume growth outlook for IT services. Fast growing infrastructureservices and high annuity-based business give downside protection,in our view. Buy maintained with a lower target price of Rs340. Key forecasts

FY06A

FY07A

FY08F

FY09F

FY10F

Revenue (Rsm) 44007.0 60336.0 74274.2 94678.6 120375

EBITDA (Rsm) 9162.8 12352.0 14458.1& 18153.5& 22612.5

Reported net profit (Rsm) 7091.5 12581.0 12324.3 14404.8 16507.3

Normalised net profit (Rsm)¹ 7091.5 12581.0 12324.3 14404.8 16507.3

Normalised EPS (Rs) 10.4 17.6 17.5 20.3 23.3

Dividend per share (Rs) 8.00 8.00 8.00 9.00% 10.0

Dividend yield (%) 2.81 2.81 2.81 3.16 3.51

Normalised PE (x) 27.5 16.1 16.2 14.0 12.2

EV/EBITDA (x) 18.6 13.4 11.0 8.58 6.76

Price/book value (x) 4.54 3.77 3.20 2.85 2.51

ROIC (%) 33.9 40.2 37.8 44.2 44.4

1. Post-goodwill amortisation and pre-exceptional items Accounting Standard: US GAAP Source: Company data, ABN AMRO forecasts

year to Jun, fully diluted

Macro factors could affect near-term volume growth… We expect HCL Tech's near-term volume growth to come under pressure from macro uncertainties as well as continued softness in the BPO business (from the loss of its second largest client in 1Q08). The headcount addition in 2Q08 (June year-end) was lower than we expected and, with current utilisation off-peak and lower than peers, we expect hiring to be largely need-based - at least in IT services - in the near term. We have lowered our volume growth estimate for FY09 by 3%. We think realisation could see an uptick; but this could be restricted to offshore, and be more from operational efficiency gains than from absolute renegotiations.

… but Infrastructure services and annuity businesses should help The 7.3% qoq volume growth in IT services in 2Q08 was higher than the trailing six quarters' average and significantly ahead of the 4-4.5% reported by larger peers for the quarter. We believe the increasing and higher-than-peers share of annuity-based business was due to large deals won over the last two years. The traction continues; the company had at least three large deal wins in 2Q, making it at least 10 such wins over the last four quarters. Further, infrastructure services (about 15% of revenue) continues to clock 9%+ qoq growth in US$ terms.

Margins may come under pressure near term Slowdown in volume growth could affect near-term margin, given limited levers. Also,flexibility on realisation and onsite/offshore mix is not high, in our view. Attrition has been falling, but it remains above peers, and fresher hiring is relatively low. This should keep effective wage hikes higher than for peers. However, this as well as high sales/support manpower (1:10 vs 1:7 for Infosys) are potential long-term levers.

Buy maintained at a reduced target price of Rs340 (from Rs375) We lower our consolidated revenue forecasts for HCL Tech by 3% for FY08/FY09 and EPS estimates (including RSU charges) by 2.4% in FY08 and 3.8% in FY09. Our DCF-based target price is cut sharper by 9%, in line with our sectoral thesis that valuation rerating will be slow and back-ended, in line with the outlook on volume growth. Our new target implies a 4% discount to Satyam on a 12-month forward PE basis.


Software & Services

India


Analysts

Pankaj Kapoor +91 22 6715 5315 [email protected]


Important disclosures can be found in the Disclosures Appendix. Priced at close of business 21 February 2008. Use of %& indicates that the line item has changed by at least 5%. This note should be read along with our sector report (Taking a fresh stance, 22 February 2008) for a better understanding of the investment argument.


Price performance (1M) (3M) (12M)

Price (Rs) 248.9 287.1 348.4

Absolute % 14.3 -0.9 -18.3

Rel market % 13.5 4.0 -34.6

Rel sector % 7.4 2.4 3.3

Price

Rs284.55 Target price

Rs340.00 (from Rs375.00)

Market capitalisation

Rs188.89bn (US$4.73bn) Avg (12mth) daily turnover

Rs70.26m (US$1.72m) Reuters Bloomberg

HCLT.BO HCLT IN

Buy Absolute performance

n/a Short term (0-60 days)

Overweight Market relative to region

Friday 22 February 2008 Change of target price

HCL Technologies

100

200

300

400

500

600

Feb 05 Mar 06 Mar 07

HCLT.BO Sensex

Stock borrowing: Easy

Volatility (30-day): 71.76%

Volatility (6-month trend): ↑

52-week range: 365.75-180.00

Sensex: 17734.68

BBG AP Software: 280.23

Source: ABN AMRO, Bloomberg

13

256


H C L T E C H N O L O G I E S 2 2 F E B R U A R Y 2 0 0 8 2

Buy reiterated

We cut FY08F EPS by 3% to factor in a slower 2QFY08 and muted near-term

volume growth outlook for IT services. Fast growing infrastructure services

and high annuity-based businesses offer downside protection, in our view.

Buy reiterated; DCF-based target price of Rs340 (Rs375 previously)

We revise our forecasts, factoring in 2Q08 results and the outlook on CY08 IT

budgets given by management and the industry. We now project an FY07-11 revenue

CAGR of 25.7% (30.3% in US$ terms) and net income (pre-extraordinaries) CAGR of

13.5%. At our target price, the stock is valued at 15.7x FY09F basic EPS, implying

19.5% upside potential from current levels.

The key downside risks to our target price are: 1) rupee appreciation exceeding the

level we assume; 2) a slowdown in the US economy that could affect corporate IT

spending; and 3) strong regulatory action against outsourcing in the US or Europe.

Upside risks are: 1) rupee depreciation; 2) acquisitions/large deal wins not built into

our model; and 3) HCLT securing higher pricing growth than we estimate.

Table 1 : What has changed in our key assumptions and forecasts

FY08F FY09F FY10F FY08F FY09F FY10F Comments

Exchange rate (Rs/US$)

- OLD 39.61 38.46 38.00

- NEW 39.39 38.10 37.61

Change -0.5% -0.9% -1.0%

OPERATIONAL ASSUMPTIONS

IT services

Employee base Utilization - Offshore

- OLD 34,663 43,002 51,457 - OLD 77.3% 77.5% 77.7%

- NEW 33,912 42,576 52,294 - NEW 76.6% 77.0% 77.2%

Change -2.2% -1.0% 1.6% Change -69bp -55bp -54bp

Billed effort (person-months) Billed effort share - onsite

- OLD 252,104 324,750 399,234 - OLD 26.2% 26.0% 25.8%

- NEW 245,908 314,353 392,257 - NEW 25.9% 26.0% 25.8%

Change -2.5% -3.2% -1.7% Change -34bp 0bp 0bp

Billing rate (US$/person-months) - Onsite Billing rate (US$/person-months) - Offshore

- OLD 10,835 11,209 11,482 - OLD 3,733 3,822 3,923

- NEW 10,805 11,144 11,417 - NEW 3,752 3,885 4,011

Change -0.3% -0.6% -0.6% Change 0.5% 1.7% 2.2%

FINANCIAL FORECASTS

Revenue (US$ m) Revenue (Rs m)

- OLD 1,941 2,560 3,259 - OLD 76,899 98,478 123,841

- NEW 1,885 2,485 3,201 - NEW 74,274 94,679 120,375

Change -2.9% -2.9% -1.8% Change -3.4% -3.9% -2.6%

EBITDA margin - post RSU charge EPS - basic - post RSU charge (Rs)

- OLD 20.1% 19.5% 18.7% - OLD 19.03 22.56 25.35

- NEW 19.5% 19.2% 18.8% - NEW 18.57 21.70 24.87

Change -67bp -29bp 7bp Change -2.4% -3.8% -1.9%

Exchange rate revisions reflect

the latest FX forecasts of our

economist

Headcount and utilisation

assumptions revised to reflect

management’s hiring targets

for FY08 and 9M08

We do not foresee pricing

pressures – MSAs renegotiated

/signed in FY08 should help

sustain realisation

improvement in the short term

We make marginal changes to

our FY09/10 margin forecasts

We see HCL Tech in a better

position to manage margins

relative to Satyam

We assume phase out of STPI

benefits in FY10; any extension

would raise our EPS forecasts


14

257



Chart 1 : HCL Tech - Price to 12-month forward EPS valuation band

50

100

150

200

250

300

350

400

Jan-04 Jul-04 Jan-05 Jul-05 Jan-06 Jul-06 Jan-07 Jul-07 Jan-08

Price 12X 15X 18X 21X

Source: Bloomberg, company data, ABN AMRO

Chart 2 : HCL Tech - 12-month forward PER valuation discount to Infosys

-50.0%

-45.0%

-40.0%

-35.0%

-30.0%

-25.0%

-20.0%

-15.0%

-10.0%

-5.0%

0.0%



HCL Tech is now trading near

the lower end of its historical

P/E valuations, which should

restrict significant downside

from current levels

However, we expect the

stock to remain range-bound

given investor concerns

around CY08 IT budgets and

the guidance from Infosys to

be given in April 2008

We believe HCL Tech’s PE

discount to Infosys in the

last few quarters has been

lower than the long-term

average, as its organic top-

line growth during this

period has been better than

that of Infosys While the spread has

narrowed, we expect HCL

Tech to keep trading at a

discount, given Infosys has

historically shown better

margin resilience relative to

HCL Tech

15

258

A P P E N D I X


3Q08 results highlights

Table 2 : Key financials

Rsm 1Q07 2Q07 3Q07 4Q07 FY07 1Q08 2Q08 Comments

Cons revenues (US$ m) 300 331 362 396 1,390 428 454

Change (yoy/qoq) 10.3% 10.2% 9.5% 9.2% 42.0% 8.0% 6.2%

Cons. revenues (Rs m) 13,794 14,651 15,771 16,120 60,336 17,034 17,890

Change (yoy/qoq) 10.0% 6.2% 7.6% 2.2% 37.1% 5.7% 5.0%

Direct Costs 8,708 9,107 9,737 10,039 37,591 10,763 11,258

Gross profit 5,086 5,544 6,034 6,081 22,745 6,271 6,632

Gross margin 36.9% 37.8% 38.3% 37.7% 37.7% 36.8% 37.1%

SG&A expenses 2,098 2,303 2,366 2,606 9,373 2,689 3,023

EBITDA 2,988 3,241 3,668 3,475 13,372 3,582 3,609

EBITDA margin 21.7% 22.1% 23.3% 21.6% 22.2% 21.0% 20.2%

Depreciation & amortization 556 623 659 692 2,530 686 723

EBIT 2,432 2,618 3,009 2,783 10,842 2,896 2,886

EBIT margin 17.6% 17.9% 19.1% 17.3% 18.0% 17.0% 16.1%

Total other income 290 481 615 2,873 4,259 564 818

Profit before tax 2,722 3,099 3,624 5,656 15,101 3,460 3,704

Provision for tax 219 206 283 777 1,485 346 355

Net income from operations 2,503 2,893 3,341 4,879 13,616 3,114 3,349

Change (yoy/qoq) 18.1% 19.7% 21.2% 30.3% 22.6% 18.3% 18.7%

Share from equity investments 4 -7 -3 -3 -9 0 0

Share of minority shareholders -5 -23 -20 -7 -55 -30 -21

Net profit 2,502 2,863 3,318 4,869 13,552 3,084 3,328

Change (yoy/qoq) 7.3% 14.4% 15.9% 46.7% 74.9% -36.7% 7.9%

Adjusted basic EPS (Rs) 3.86 4.41 5.10 7.34 20.71 4.65 5.01

Change (yoy/qoq) 7.2% 14.2% 15.6% 43.9% 72.0% -36.7% 7.9%

Adjusted DPS (Rs) 2.00 2.00 2.00 2.00 8 2.00 2.00

QoQ growth slipped below 8% after

six quarters, due to key client loss

in BPO

US$1.5m retrospective bonus

provisioning due to amendment in

Payment of Bonus Act

EBITDA margin including RSU

charges was down 75bp, vs 86bp

decline reported

Capex of US$57m in 1H08 vs

US$84m in FY07

Other income includes Rs334m

forex gains (Rs205m last quarter)

Unrealised forex and investment

gains at US$3.3bn (US$3.1bn last

quarter)

Including the impact of ESOP

charges, net income was up 13.3%

qoq


16

259


A P P E N D I X

Table 3 : How the margin drivers moved

Change

2Q07 1Q08 2Q08 QoQ YoY Comments

Exchange rate (Rs/US$) 44.25 39.85 39.41 -1.1% -10.9%

Consolidated revenues (Rs m) 14,651 17,034 17,890 5.0% 22.1%

Gross profit 5,544 6,271 6,632 5.8% 19.6%

Gross margin 37.8% 36.8% 37.1% 26bp -77bp

EBITDA 3,241 3,582 3,609 0.8% 11.4%

EBITDA margin 22.1% 21.0% 20.2% -86bp -195bp

Software Services

Revenues (Rs m) 10,739 12,256 13,002 6.1% 21.1%

Offshore utilization (ex trainees) 74.6% 77.2% 75.5% -170bp 90bp

Average realization - (person-month in US$)

- Onsite 3,499 3,689 3,731 1.1% 6.6%

- Offshore 10,081 10,684 10,756 0.7% 6.7%

- Blended 5,246 5,517 5,513 -0.1% 5.1%

Billed effort - (person-month)

- Onsite 12,278 14,567 15,185 4.2% 23.7%

- Offshore 33,986 41,187 44,660 8.4% 31.4%

- Total 46,264 55,754 59,845 7.3% 29.4%

Revenue Share 73.3% 72.0% 72.7% 73bp -62bp



EBITDA share 75.8% 71.9% 73.5% 162bp -227bp

BPO services

Revenues (Rs m) 1,859 2,198 2,105 -4.2% 13.2%

Revenue Share 12.7% 12.9% 11.8% -114bp -92bp

Gross margin 36.4% 38.7% 38.2% -47bp 178bp

EBITDA margin 22.9% 26.1% 23.2% -288bp 27bp

EBITDA share 13.1% 16.0% 13.5% -247bp 38bp

Infrastructure services

Revenues (Rs m) 2,053 2,580 2,783 7.9% 35.6%

Revenue Share 14.0% 15.1% 15.6% 41bp 154bp



EBITDA share 11.1% 12.1% 13.0% 85bp 189bp

107bp negative impact of rising Rs

Volume growth of 6.6%, realisation

(ex-mix) growth of 1.6% , mix and

fewer working days lowered

consolidated revenue by 0.8% and

1.1% respectively

7.3% volume growth in software

services

Realisation up 8.3% onsite and 8.2%

offshore, according to management

Overall negative EBIT impact of

SG&A (-89bp), FX (-107bp) and

lower working days (-83bp)

countered by realisation growth

(+123bp) and operational

efficiencies (+69bp)

BPO revenues down due to loss of a

key client

Retrospective bonus provisioning

could have relatively higher impact

on BPO margins

Infrastructure services revenue up

57% yoy in 1H08 in US$ terms


Table 4 : Key manpower and execution metrics

1Q07 2Q07 3Q07 4Q07 1Q08 2Q08 Comments

Manpower Base

Total (consolidated) 36,452 38,317 40,149 42,017 45,642 47,954

Software services - delivery 19,657 20,004 21,013 23,160 25,667 26,778

BPO services – delivery 10,340 11,343 11,407 10,212 10,220 10,804

Infrastructure services - delivery 2,867 3,071 3,418 3,794 4,543 4,894

Recruitment mix

Net addition 3,826 1,865 1,832 1,868 3,625 2,312

As % of total Base 11.7% 5.1% 4.8% 4.7% 8.6% 5.1%

Gross additions - lateral share (%) 52.0% 52.1% 58.3% 55.4% 59.4% 50.4%

Gross additions – fresher share (%) 48.0% 47.9% 41.7% 44.6% 40.6% 49.6%

Execution matrices

Core software utilization - Offshore (ex-trainees) 77.7% 74.6% 74.8% 76.7% 77.2% 75.5%

Core software utilization - Onsite 92.2% 95.2% 95.6% 95.6% 95.8% 96.4%

Attrition - Core software (TTM) 16.5% 17.8% 17.5% 17.3% 16.5% 15.5%

Attrition - Infrastructure services (TTM) 13.1% 16.8% 16.4% 17.3% 15.9% 15.6%

Attrition - BPO Services (last quarter) 18.5% 19.9% 19.5% 17.5% 14.2% 12.3%

Software, BPO and infrastructure

services added 4.3% , 5.7% and

7.7% to their quarter-opening

headcount, respectively

Management sees wages rising at a

pace similar to FY07, in contrast to

the opinion of some peers that wage

inflation may be declining

4,956 campus offers made for FY08

Utilisation down in a seasonally

weak quarter on influx of freshers

post-training

Attrition down across service lines -

ESOP plan may be bearing result


17

260


A P P E N D I X

Table 5 : Key client metrics

1Q07 2Q07 3Q07 4Q07 1Q08 2Q08 Comments

Client base

Total active clients 219 230 236 242 244 256

Net client add n.a. 11 6 6 2 12

New clients 24 23 26 24 19 29

Client attrition n.a. 12 20 18 17 17

Revenue per active client (US$m) 1.37 1.44 1.54 1.64 1.75 1.77

Client concentration

Top 5 Clients 28.7% 29.7% 29.2% 28.4% 27.8% 27.2%

Next 5 9.5% 9.3% 9.3% 9.8% 10.2% 10.6%

Top 10 Clients 38.2% 39.0% 38.5% 38.2% 38.0% 37.8%

Next 10 11.7% 12.5% 12.4% 12.9% 12.7% 12.7%

Top 20 Clients 49.9% 51.5% 50.9% 51.1% 50.7% 50.5%

non Top20 50.1% 48.5% 49.1% 48.9% 49.3% 49.5%

Repeat business (share) 87.5% 88.2% 92.2% 94.0% 87.5% 94.7%

Revenue growth

Top 5 Clients 12.6% 14.1% 7.6% 6.2% 5.8% 3.9%

Next 5 15.1% 7.9% 9.5% 15.1% 12.4% 10.4%

Top 10 Clients 13.2% 12.5% 8.1% 8.3% 7.5% 5.6%

Next 10 10.3% 17.8% 8.6% 13.6% 6.4% 6.2%

Top 20 Clients 12.5% 13.8% 8.2% 9.6% 7.2% 5.8%

NonTop 20 8.1% 6.7% 10.8% 8.7% 8.9% 6.6%

Repeat business 9.2% 11.1% 14.4% 11.3% 0.6% 14.9%

Relationship distribution

US$1m clients 143 145 147 156 166 175

Change 10 2 2 9 10 9

US$5m clients 41 46 48 52 55 59

Change 6 5 2 4 3 4

US$10m clients 18 22 25 26 27 29

Change 3 4 3 1 1 2

US$20m clients 8 8 10 13 13 15

Change 2 0 2 3 0 2

US$30m clients 4 4 5 7 8 10

Change 1 0 1 2 1 2

US$50m clients 2 3 3 3 3 3

Change 0 1 0 0 0 0

Client mining continues –

revenue/active client is up 1.2% qoq

and 23.2% yoy

A US$300m deal with Merck was

announced during the quarter. At

least three large deals were won

during the quarter

Growth was well spread over large

and small clients

BFSI vertical and US geography

revenues grew ahead of overall

company growth, in contrast to

market concerns

Management spoke of a steady deal

pipeline situation from the last

quarter

Two new clients were added in the

KPO space in 2Q08


Table 6 : Services portfolio

1Q07 2Q07 3Q07 4Q07 1Q08 2Q08 Comments

Distribution

Core Software services 73.9% 73.2% 72.3% 71.4% 72.1% 72.7%

Enterprise Application Services 13.7% 12.7% 13.2% 12.0% 11.8% 11.1%

Engineering and R&D Services 24.0% 24.2% 23.3% 23.9% 24.8% 24.9%

Industry Solutions 36.2% 36.3% 35.8% 35.5% 35.5% 36.7%

Infrastructure Services 13.3% 14.0% 13.8% 15.0% 15.1% 15.3%

BPO Services 12.8% 12.7% 13.7% 13.6% 12.8% 12.0%

Total 100% 100% 100% 100% 100% 100%

Revenue (US$m and growth)

Core Software services 222 243 262 282 308 330

Change 10.0% 9.2% 8.1% 7.6% 8.9% 7.3%

Infrastructure Services 40 46 50 59 65 69

Change 16.9% 16.7% 8.3% 18.1% 9.1% 9.1%

BPO Services 38 42 50 54 55 54

Change 5.7% 9.4% 18.4% 8.5% 2.2% -3.2%

Total 300 331 362 396 428 454

Change 10.3% 10.2% 9.5% 9.2% 8.0% 6.2%

Share of industry solutions is down

210bp over the last eight quarters

BPO and infrastructure services’

share of revenues is highest among

peers at 27.3%

Revenue CQGR in the past four

quarters - 8% for core software

services, 10.6% for infrastructure

services and 6.7% for BPO services

BPO revenues down due to loss of a

large client, management said


18

261


HCL TECHNOLOGIES: KEY FINANCIAL DATA

Income statement

Rsm FY06A FY07A FY08F FY09F FY10F

Revenue 44007.0 60336.0 74274.2 94678.6 120375

Cost of sales -28265 -38611 -47742 -61692 -79558

Operating costs -6579.0 -9373.0 -12074 -14833 -18205

EBITDA 9162.8 12352.0 14458.1 18153.5 22612.5

DDA & Impairment (ex gw) -2032.0 -2530.0 -2926.9 -3410.3 -4132.6

EBITA 7130.8 9822.0 11531.2 14743.2 18479.9

Goodwill (amort/impaired) n/a n/a n/a n/a n/a

EBIT 7130.8 9822.0 11531.2 14743.2 18479.9

Net interest 0.00 0.00 0.00 0.00 0.00

Associates (pre-tax) n/a n/a n/a n/a n/a

Forex gain / (loss) n/a n/a n/a n/a n/a

Exceptionals (pre-tax) n/a n/a n/a n/a n/a

Other pre-tax items 579.0 4259.0 2272.6 2017.6 2190.7

Reported PTP 7709.8 14081.0 13803.7 16760.9 20670.6

Taxation -596.3 -1436.0 -1387.4 -2258.7 -4051.6

Minority interests -16.0 -55.0 -92.0 -97.4 -111.6

Exceptionals (post-tax) n/a n/a n/a n/a n/a

Other post-tax items -6.00 -9.00 0.00 0.00 0.00

Reported net profit 7091.5 12581.0 12324.3 14404.8 16507.3

Normalised Items Excl. GW 0.00 0.00 0.00 0.00 0.00

Normalised net profit 7091.5 12581.0 12324.3 14404.8 16507.3

Source: Company data, ABN AMRO forecasts year to Jun

Balance sheet


Cash & market secs (1) 18799.0 22851.0 30336.6 33215.2 36001.4

Other current assets 13199.0 19395.0 24573.4 31270.4 39753.4

Tangible fixed assets 8742.0 10495.0 12696.4 15521.1 19260.1

Intang assets (incl gw) 8394.0 8061.0 7939.0 7939.0 7939.0

Oth non-curr assets 1311.0 2445.0 2498.0 2498.0 2498.0

Total assets 50445.0 63247.0 78043.5 90443.7 105452

Short term debt (2) 0.00 0.00 0.00 0.00 0.00

Trade & oth current liab 8953.0 11660.0 17791.7 22679.4 28834.8

Long term debt (3) 83.0 0.00 0.00 0.00 0.00

Oth non-current liab 745.0 1292.0 1064.0 1064.0 1064.0

Total liabilities 9781.0 12952.0 18855.7 23743.4 29898.8

Total equity (incl min) 40664.0 50295.0 59187.8 66700.3 75553.1

Total liab & sh equity 50445.0 63247.0 78043.5 90443.7 105452

Net debt (2+3-1) -18716 -22851 -30337 -33215 -36001

Source: Company data, ABN AMRO forecasts year ended Jun

Cash flow statement


EBITDA 9162.8 12352.0 14458.1 18153.5 22612.5

Change in working capital -1120.1 -3489.0 953.2 -1809.3 -2327.5

Net interest (pd) / rec 579.0 4259.0 2272.6 2017.6 2190.7

Taxes paid -596.3 -1436.0 -1387.4 -2258.7 -4051.6

Other oper cash items -103.4 -663.0 -388.0 -97.4 -111.6

Cash flow from ops (1) 7922.0 11023.0 15908.4 16005.7 18312.4

Capex (2) -4178.5 -4283.0 -5128.3 -6234.9 -7871.6

Disposals/(acquisitions) 28.8 333.0 122.0 0.00 0.00

Other investing cash flow 761.9 12.0 15.0 0.00 0.00

Cash flow from invest (3) -3387.8 -3938.0 -4991.3 -6234.9 -7871.6

Incr / (decr) in equity 1401.5 3018.4 2693.9 97.4 111.6

Incr / (decr) in debt -1225.1 -83.0 0.00 0.00 0.00

Ordinary dividend paid -5810.7 -5968.4 -6125.4 -6989.6 -7766.2

Preferred dividends (4) n/a n/a n/a n/a n/a

Other financing cash flow n/a n/a n/a n/a n/a

Cash flow from fin (5) -5634.3 -3033.0 -3431.5 -6892.2 -7654.6

Forex & disc ops (6) n/a n/a n/a n/a n/a

Inc/(decr) cash (1+3+5+6) -1100.1 4052.0 7485.6 2878.6 2786.3

Equity FCF (1+2+4) 3743.5 6740.0 10780.1 9770.8 10440.9

Lines in bold can be derived from the immediately preceding lines. Source: Company data, ABN AMRO forecasts

year to Jun

19

262


HCL TECHNOLOGIES: PERFORMANCE AND VALUATION

Standard ratios HCL Tech Infosys Technologies Satyam Computer

Performance FY06A FY07A FY08F FY09F FY10F FY08F FY09F FY10F FY08F FY09F FY10F

Sales growth (%) 30.6 37.1 23.1 27.5 27.1 20.2 27.2 23.1 30.1 35.4 26.4

EBITDA growth (%) 18.7 34.8 17.1 25.6 24.6 19.2 24.9 22.7 19.9 32.3 16.7

EBIT growth (%) 15.6 37.7 17.4 27.9 25.3 19.3 24.0 21.7 20.8 31.5 15.8

Normalised EPS growth (%) 7.30 70.2 -0.68 15.8 14.6 21.6 21.8 15.1 20.1 24.7 5.50

EBITDA margin (%) 20.8 20.5 19.5 19.2 18.8 31.3 30.8 30.7 21.9 21.4 19.7

EBIT margin (%) 16.2 16.3 15.5 15.6 15.4 27.7 27.0 26.7 19.9 19.3 17.7

Net profit margin (%) 16.1 20.9 16.6 15.2 13.7 27.3 26.2 24.5 20.5 18.8 15.7

Return on avg assets (%) 14.7 22.2 17.6 17.2 17.0 30.0 28.6 26.0 22.8 23.0 19.7

Return on avg equity (%) 18.1 27.7 22.6 23.0 23.3 34.7 32.4 29.4 26.6 26.7 23.0

ROIC (%) 33.9 40.2 37.8 44.2 44.4 77.4 72.6 68.6 77.1 58.4 47.5

ROIC - WACC (%) 19.1 25.3 22.9 29.4 29.5 63.2 58.3 54.3 62.2 43.6 32.6

year to Jun year to Mar year to Mar

Valuation

EV/sales (x) 3.87 2.75 2.13 1.64 1.27 5.08 3.86 3.01 3.17 2.28 1.75

EV/EBITDA (x) 18.6 13.4 11.0 8.58 6.76 16.2 12.5 9.81 14.5 10.7 8.86

EV/EBITDA @ tgt price (x) 22.6 16.4 13.5 10.6 8.39 21.9 17.1 13.5 17.5 12.9 10.8

EV/EBIT (x) 23.9 16.9 13.7 10.6 8.27 18.4 14.3 11.3 15.9 11.8 9.87

EV/invested capital (x) 7.75 6.05 5.50 4.65 3.87 12.6 10.1 8.13 8.14 6.11 4.74

Price/book value (x) 4.54 3.77 3.20 2.85 2.51 6.22 4.84 3.86 4.35 3.51 2.91

Equity FCF yield (%) 1.92 3.32 5.39 4.84 5.17 3.21 4.46 5.20 0.19 2.92 2.80

Normalised PE (x) 27.5 16.1 16.2 14.0 12.2 20.5 16.8 14.6 18.2 14.6 13.8

Norm PE @tgt price (x) 32.8 19.3 19.4 16.8 14.6 27.0 22.2 19.3 21.4 17.2 16.3

Dividend yield (%) 2.81 2.81 2.81 3.16 3.51 0.86 1.17 1.35 0.87 1.20 1.20

year to Jun year to Mar year to Mar

Per share data FY06A FY07A FY08F FY09F FY10F Solvency FY06A FY07A FY08F FY09F FY10F

Tot adj dil sh, ave (m) 684.3 713.3 703.5 710.0 710.0 Net debt to equity (%) -46.0 -45.4 -51.3 -49.8 -47.7

Reported EPS (INR) 10.4 17.6 17.5 20.3 23.3 Net debt to tot ass (%) -37.1 -36.1 -38.9 -36.7 -34.1

Normalised EPS (INR) 10.4 17.6 17.5 20.3 23.3 Net debt to EBITDA -2.04 -1.85 -2.10 -1.83 -1.59

Dividend per share (INR) 8.00 8.00 8.00 9.00 10.0 Current ratio (x) 3.57 3.62 3.09 2.84 2.63

Equity FCF per share (INR) 5.47 9.45 15.3 13.8 14.7 Operating CF int cov (x) -13.7 -1.93 -6.61 -8.05 -9.21

Book value per sh (INR) 62.7 75.6 88.8 100.0 113.2 Dividend cover (x) 1.22 2.11 2.01 2.06 2.13

year to Jun year to Jun

Priced as follows: HCLT.BO - Rs284.55; INFY.BO - Rs1630.30; SATY.BO - Rs458.20 Source: Company data, ABN AMRO forecasts

HCL TECHNOLOGIES: VALUATION METHODOLOGY Economic Profit Valuation INR m % Discounted Cash Flow Valuation INR m %

Adjusted Opening Invested Capital 31602.4 16 Value of Phase 1: Explicit (2008 to 2011) 26054.9 13

NPV of Economic Profit During Explicit Period 26588.6 14 Value of Phase 2: Value Driver (2012 to 2023) 95501.9 48

NPV of Econ Profit of Remaining Business (1, 2) 31095.8 16 Value of Phase 3: Fade (2024 to 2035) 63406.9 32

NPV of Econ Profit of Net Inv (Grth Business) (1, 3) 107645.3 55 Terminal Value 11959.9 6

Enterprise Value 196932.1 100 Enterprise Value 196923.7 100

Plus: Other Assets 3311.6 2 FCF Grth Rate at end of Phs 1 implied by DCF Valuation 9.7

Less: Minorities 180.0 0 FCF Grth Rate at end of Phs 1 implied by Current Price 34.6

Less: Net Debt (as at 25 Feb 2008) -25914.0 -13

Equity Value 225977.6 115

No. Shares (millions) 663.8

Per Share Equity Value 340.00

Current Share Price 284.55 19.5%

Sensitivity Table

#REF! 15 18 20 23 25

12.9% 435.53 454.72 466.84 484.10 495.04

13.9% 391.11 406.06 415.40 428.57 436.82

14.9% 353.22 364.89 372.10 382.17 388.43

15.9% 320.77 329.89 335.48 343.20 347.96

16.9% 292.87 300.01 304.35 310.29 313.91

Performance Summary Phase 2 Avg

2008 2009 2010

Invested Capital Growth (%) 4.1 15.5 17.6 16.0

Operating Margin (%) 15.5 15.6 15.4 13.1

Capital Turnover (x) 2.6 3.2 3.5 2.9

No of Years in Fade Period

Returns, WACC and NPV of Free Cash Flow

(2012 - 2023)

WA

CC

0%

10%

20%

30%

40%

50%

60%

2008

2010

2012

2014

2016

2018

2020

2022

2024

2026

2028

2030

2032

2034

2036

2038

2040

2042

0

2,000

4,000

6,000

8,000

10,000

12,000

14,000

Phase 1 NPV of FCF (RHS) Phase 2 NPV of FCF (RHS)

Phase 3 NPV of FCF (RHS) Total Business ROIC

Growth Business ROIC Remaining Business ROIC

WACC

1. In periods following the Explicit Period i.e. Phase 2 and Phase 3 2. Remaining Business is defined as Capital as at the end of Phase 1 and capex = depreciation thereafter 3. Net Investment is defined as capex over and above depreciation after Phase 1


20

263


Strategic analysis Average SWOT company score: 3 Shareholding, Dec 2007

HCL Technologies

Company description Buy Price relative to country

HCL Tech is the fifth-largest Indian IT services company. An early entrant into the infrastructurebusiness, it has been gradually shifting focus from domestic product-led sales to a global-services-led business model. In BPO services, it is the third-largest offshore services provider, and has astrong relationship with British Telecom and SBC. The company leverages an extensive offshoreinfrastructure and its global network of offices in 17 countries to deliver solutions across selectverticals, including banking, insurance, retail and consumer, aerospace, automotive,semiconductors, telecom and life sciences. HCL Technologies has 256 clients across differentverticals and a workforce of more than 47,000 people.

50

60

70

80

90

100

110

120

130

Feb05

Jun05

Sep05

Jan06

May06

Aug06

Dec06

Apr07

Jul07

Nov07

Feb08

Competitive position Average competitive score: 3- Broker recommendations

Others10%

Indian FIs/MFs

6%FIIs/FFIs/Foreign Banks17%

Promoters67%


Market data

Headquarters A 10-11, Sector-III, Noida - 201 301

Website www.hcltech.com

Shares in issue 663.8m

Freefloat 32%

Majority shareholders Promoters (68%), HSBC Global Investment Funds (5%), Life Insurance Corporation of India (3%)

Supplier power 3- Bargaining power shifting to employees due to an increase in the available options in the Indian ITlandscape: MNC product vendors, MNC IT services capacities, client insourcing, etc.

Barriers to entry 2- Low entry barriers to the offshore IT services business. MNCs are ramping up their capacities andemployee strength.

Customer power 2- Increasing customer bargaining power due to offshoring becoming mainstream and traditionalservice offerings becoming commoditised. New intermediaries are helping better price discovery.

Substitute products 4+ Other offshore locations, such as Eastern Europe, the Philippines and China. However, this will havean impact only in the medium to long term.

Rivalry 2- Intense rivalry due to similar commoditised offerings and same 'low-cost, little-differentiation'positioning.

Scoring range 1-5 (high score is good) Plus = getting better Minus = getting worse

India

Country view Overweight Country rel to Asia Pacific

We expect Indian growth to remain robust in 2008, driven by domestic demand due to the rise inwages and farm incomes. We see a structural growth story emerging in real estate and agriculture,in line with the government's 11th five-year development plan of redistributing income beyond thecity centres. As monetary policy will likely be less tight, we look for consumer spending to rebound.We remain selective buyers of consumer discretionary and consumer staples, especially in upstreamindustries such as cold chain, agri-businesses and organised retail. We think the IT sector is alsoworth a fresh look as valuations look increasingly undemanding at present levels and major playershave demonstrated an ability to protect their margins.

The country view is set in consultation with the relevant company analyst but is the ultimate responsibility of the Strategy Team.

50

70

90

110

130

150

170

190

210

230

250

Feb05

Jun05

Sep05

Jan06

May06

Aug06

Dec06

Mar07

Jul07

Oct07

Feb08

0

5

10

15

20

Buy Hold Sell

Source: Bloomberg

Strengths 3 Large offshore IT services provider with established client base and strong presence in key serviceareas/verticals.

Weaknesses 2 Lack of credible global brand/presence. Full benefits from attempted diversification in revenuestream have yet to come in.

Opportunities 4 Growing market opportunity for Indian offshore IT and BPO services; offshore is becomingmainstream.

Threats 2 Global vendors setting up capacities in India; depreciating US dollar, new entrants raising wagesand other costs reducing the cost arbitrage in the offshore sector.

Scoring range is 1-5 (high score is good)

Strategic & competitive overview

21

264

Good will hunting

We cut our FY09F EPS by 3% to reflect a muted near-term volumegrowth outlook. But, fundamentals remain intact and we expectFY09 guidance to lift valuation, which seems to be factoring in a'worst-case' scenario. Buy, with a reduced target price of Rs2,150. Key forecasts

FY06A

FY07A

FY08F

FY09F

FY10F

Revenue (Rsm) 95215.9 138930 166980 212410 261472

EBITDA (Rsm) 30918.1 43910.0 52337.2 65350.4 80155.1




Dividend per share (Rs) 22.5 11.5 14.0 19.0 22.0

Dividend yield (%) 1.38 0.71 0.86 1.17 1.35

Normalised PE (x) 37.2 24.9 20.5 16.8 14.6

EV/EBITDA (x) 28.8 19.8 16.2 12.5 9.81


ROIC (%) 68.1 113.8 77.4 72.6 68.6

1. Post-goodwill amortisation and pre-exceptional items Accounting Standard: Local GAAP Source: Company data, ABN AMRO forecasts

year to Mar, fully diluted

We expect muted near-term volume growth; recovery from 2QFY09… The marginal downgrade in the 4Q08 volume outlook after the lower-than-expected qoq volume growth in 3Q08 and a cautious view on IT budgets indicate a muted near-term volume outlook as internal issues at clients should affect project ramp-ups and lengthen the sales cycle. However, our channel checks reconfirm continued momentum in offshore IT spend. We expect recovery from 2Q09 (a seasonally strong quarter) and a strong 3Q09, gaining from potential budget flush.

… as fundamentals remain intact, in our view The net manpower add of 8,100 in 3Q08 beat our estimates and, building in 3,770 guided gross adds for 4Q and 18,000 campus offers, we estimate at least 30% yoy headcount add in FY09. Blended realisation growth of 5.5% in the past four quarters suggests flexibility on pricing renegotiations and an evolving business mix. We expect this to be sustained, though at a slower pace. Margin management has been the highlight - 9M08 EBITDA margins are down just 61bp vs 9M07 despite the 12% rupeeappreciation. Management expects FY08 margins to be at FY07 levels. We see levers - off-peak utilisation and lower wage hikes in FY09 vs last year. However, the sharp build-up in campus offers could restrict near-term flexibility.

FY09 guidance - could raise a smile but not a toast We believe even a 'cautiously optimistic' FY09 guidance - 26% US$ revenue growth and 16% EPS growth (INR terms) - should be marginally positive from a valuation perspective, which at three-years lows, seems to be factoring in a 'worst-case' growth scenario. We also see potential corporate action - a special dividend or a bonus issue - given the high level of cash balance. This should shore up sentiment.

Buy maintained at a reduced target price of Rs2,150 (from Rs2,440) We broadly retain our US$ revenue growth forecasts and margin outlook, but cut our EPS by 3-5% for FY08-09, building in lower utilisation rate, latest FX forecasts, and a higher tax rate. We expect valuations to recover, but the pace could be slow and back-ended, in line with the volume growth outlook. We believe current levels providea good entry point for 32% upside potential over the next 12 months.


Software & Services

India


Analysts



Important disclosures can be found in the Disclosures Appendix. Priced at close of business 21 February 2008. This note should be read along with our sector report (Taking a fresh stance, 22 February 2008) for a better understanding of the investment argument.



Price (Rs) 1390.2 1548.1 2312.9

Absolute % 17.3 5.3 -29.5

Rel market % 16.4 10.5 -43.6

Rel sector % 10.1 8.8 -10.9

Price


Rs2150.00 (from Rs2440.00)




INFY.BO INFO IN





Infosys Technologies

500

1000

1500

2000

2500

3000

3500


INFY.BO Sensex

Stock borrowing: Moderate



52-week range: 2376.00-1212.20

Sensex: 17734.68



22

265


I N F O S Y S T E C H N O L O G I E S 2 2 F E B R U A R Y 2 0 0 8 2

Good will hunting

We cut our FY09 EPS by 3% to reflect muted near-term volume growth

outlook. However, fundamentals remain intact and we expect FY09 guidance

to lift valuations, which seem to be factoring in a ‘worst-case’ scenario.

Buy reiterated; DCF-based target price of Rs2,150 (Rs2,440 previously)

We revise our forecasts, factoring in the 3Q08 results, 4Q08 guidance and the

outlook on CY08 IT budgets given by Infosys’s management and the industry. We

now project an FY07-11 revenue CAGR of 23.1% (28.7% in US$ terms) and a net

income (pre-extraordinaries) CAGR of 20.8%. Our target price cut is sharper at 12%

to reflect changes to our DCF assumptions and earnings revision. At our target, the

stock is valued at 22.1x FY09F basic EPS, 32% upside potential from current levels.

The key downside risks to our target price are: 1) rupee appreciation exceeding the

level we assume; 2) a slowdown in the US economy that could affect corporate IT

spending; 3) strong regulatory action against outsourcing in the US or Europe; and

4) Infosys being unable to sustain its above-industry-average pricing that could affect

the operating margins and earnings factored into our valuation models. Upside risks

are: 1) rupee depreciation; 2) acquisitions/large deal wins not built into our model;

and 3) Infosys securing higher pricing growth than that built into our model.




- OLD 40.04 38.77 38.00

- NEW 39.85 38.45 37.61

Change -0.5% -0.8% -1.0%

A. OPERATIONAL ASSUMPTIONS - IT SERVICES

Total employees - delivery Utilization

- OLD 65,078 78,578 92,778 - OLD 77.5% 78.3% 78.8%

- NEW 68,466 81,966 96,266 - NEW 76.7% 77.5% 78.3%

Change 5.2% 4.3% 3.8% Change -73bp -74bp -49bp


- OLD 528,941 656,501 791,184 - OLD 32.1% 32.0% 32.0%

- NEW 524,763 669,272 815,278 - NEW 31.6% 31.3% 31.0%

Change -0.8% 1.9% 3.0% Change -46bp -75bp -100bp

Billing rate ($/p-m) - Onsite Billing rate ($/p-m) - Offshore

- OLD 12,209 12,826 13,399 - OLD 4,975 5,187 5,398

- NEW 12,176 12,629 13,093 - NEW 4,983 5,160 5,315

Change -0.3% -1.5% -2.3% Change 0.2% -0.5% -1.5%

B. FINANCIAL FORECASTS - CONSOLIDATED


- OLD 4,248 5,531 6,967 - OLD 170,119 214,441 264,741

- NEW 4,190 5,524 6,952 - NEW 166,980 212,410 261,472

Change -1.4% -0.1% -0.2% Change -1.8% -0.9% -1.2%

SG&A as % of revenue EBITDA margin

- OLD 14.5% 14.5% 13.8% - OLD 31.2% 31.0% 31.2%

- NEW 13.9% 14.3% 13.8% - NEW 31.3% 30.8% 30.7%

Change -59bp -23bp -1bp Change 13bp -23bp -52bp

Tax provision (as % of PBT) EPS - basic

- OLD 14.3% 14.3% 20.0% - OLD 82.8 100.4 117.5

- NEW 15.0% 14.5% 20.0% - NEW 81.5 97.2 111.9

Change 63bp 20bp 0bp Change -1.5% -3.1% -4.8%

Exchange rate revisions reflect the

latest FX forecasts of our

economist



management’s hiring targets for

FY08 and 9M08 performance

Management could move more

aggressively on offshoring to

defend margins


pressures – MSAs

renegotiated/signed in FY08

should help sustain realisation

improvement in the short term

We largely leave our revenue

forecasts unchanged

Management could exercise

tighter control on costs to manage

margins





23

266



Chart 1 : Infosys - Price to 12-month forward EPS valuation band movement

500

700

900

1100

1300

1500

1700

1900

2100

2300

2500



`


Infosys is now trading at multi-

year low P/E valuations, which

should restrict significant

downside from current levels However, we expect the stock

to remain range-bound given

investor concerns on CY08 IT

budgets taken by management

and the anticipated guidance,

which is to be given in April

2008

24

267

A P P E N D I X




(Rsm) 1Q07 2Q07 3Q07 4Q07 FY07 1Q08 2Q08 3Q08 Comments

Cons revenues (US$m) 660 746 821 863 3,090 928 1,022 1,084

Change (yoy/qoq) 11.3% 13.0% 10.1% 5.1% 43.6% 7.5% 10.1% 6.1%

Cons revenues (Rs m) 30,150 34,510 36,550 37,720 138,930 37,730 41,060 42,710

Change (yoy/qoq) 14.9% 14.5% 5.9% 3.2% 45.9% 0.0% 8.8% 4.0%

Cost of revenue 16,660 18,330 19,380 20,210 74,580 21,690 22,310 23,250

Gross profit 13,490 16,180 17,170 17,510 64,350 16,040 18,750 19,460

Gross margin 44.7% 46.9% 47.0% 46.4% 46.3% 42.5% 45.7% 45.6%

Total operating expenses 4,600 5,090 5,210 5,540 20,440 5,200 5,910 5,540

EBITDA 8,890 11,090 11,960 11,970 43,910 10,840 12,840 13,920

EBITDA margin 29.5% 32.1% 32.7% 31.7% 31.6% 28.7% 31.3% 32.6%

Depreciation & amortization 1,060 1,220 1,410 1,450 5,140 1,440 1,440 1,530

EBIT 7,830 9,870 10,550 10,520 38,770 9,400 11,400 12,390

EBIT margin 26.0% 28.6% 28.9% 27.9% 27.9% 24.9% 27.8% 29.0%

Other income 1,280 660 590 1,190 3,720 2,530 1,540 1,580

Misc. other expenses 30 0 0 -10 20 0 0 0

Profit Before Tax 9,080 10,530 11,140 11,720 42,470 11,930 12,940 13,970

Income tax expense 1,060 1,230 1,300 1,510 5,100 1,650 1,940 2,160

Net income from ops 8,020 9,300 9,840 10,210 37,370 10,280 11,000 11,810

Change (yoy/qoq) 17.9% 16.0% 5.8% 3.8% 50.7% 0.7% 7.0% 7.4%

Extraordinary income 60 0 0 1,240 1,300 510 0 500

Share of minority interest 80 10 10 10 110 0 0 0

PAT 8,000.0 9,290 9,830 11,440 38,560 10,790 11,000 12,310

Change (yoy/qoq) 18.9% 16.1% 5.8% 16.4% 56.8% -5.7% 1.9% 11.9%

Adjusted Basic EPS 14.36 16.75 17.65 20.33 69.08 18.89 19.26 21.55

Change (yoy/qoq) 17.4% 16.6% 5.4% 15.2% 53.5% -7.1% 1.9% 11.9%

IT services revenues grew 5.3% in

US$ terms, net of 4.5% growth in

volumes and 0.8% growth in

realisation

BPO revenues grew 20% qoq, and

10% excluding the Philips BPO

acquisition

Wage bill was up just 1.8% qoq as

offshore salary/employee was

down 10.1%

Excluding the impact of one-time

operating items, EBITDA margin

was up 88bp qoq

Rs140m FX loss vs Rs30m gain in

2Q08

47bp uptick in effective tax rate

during the quarter

One-time reversal of tax provision

during the quarter

Excluding FX and tax reversals,

PAT was up 8.4%


1325

268


A P P E N D I X

Table 3 : How the margin drivers moved

3Q07 2Q08 3Q08 Change (%)

qoq yoy Comments

Exchange rate (Rs/$) 44.52 40.18 39.40 -1.9% -11.5%


IT services revenues (Rs m) 33,187 37,406 38,610 3.2% 16.3%

A. EXECUTION METRICS

Utilization (ex trainees) 75.8% 77.8% 76.3% -150bp 50bp

Average realization ($/person-month)

- Onsite 11,451 12,165 12,295 1.1% 7.4%

- Offshore 4,727 4,969 5,036 1.3% 6.5%

- Blended 6,924 7,252 7,306 0.8% 5.5%

Billed effort - Consolidated (person-month)

- Onsite 35,368 40,936 42,190 3.1% 19.3%

- Offshore 98,343 118,267 125,191 5.9% 27.3%

- Total 133,711 159,203 167,381 5.1% 25.2%

Billed effort - Cons. IT services (person-month)

- Onsite 35,175 40,740 41,974 3.0% 19.3%

- Offshore 72,504 87,717 92,234 5.1% 27.2%

- Total 107,679 128,457 134,208 4.5% 24.6%

B. COST DRIVERS

Wage costs 16,250 19,480 19,840 1.8% 22.1%

Other cost of revenues 3,130 2,830 3,410 20.5% 8.9%

As % of revenues 8.6% 6.9% 8.0% 109bp -58bp

Gross profit 17,170 18,750 19,460 3.8% 13.3%

Gross margin 47.0% 45.7% 45.6% -10bp -141bp

Sales and marketing exps 2,360 2,830 2,050 -27.6% -13.1%

As % of revenues 6.5% 6.9% 4.8% -209bp -166bp

G&A expenses 2,850 3,080 3,490 13.3% 22.5%

As % of revenues 7.8% 7.5% 8.2% 67bp 37bp

EBITDA 11,960 12,840 13,920 8.4% 16.4%

EBITDA margin 32.7% 31.3% 32.6% 132bp -13bp

80bp margin impact of rupee

appreciation

Seasonal dip in utilisation due to

influx of freshers post-training

Higher realisation contributed

80bp to margin improvement

Management expects volume

growth to remain muted through

the next quarter as some of its

clients are delaying finalisation of

their IT budgets

Sharp qoq increase in other CoR

due to higher overseas travel

expenses

A qoq dip in S&M expenses on

lower incentives and one-time

earn-out payments in 2Q08

Margin improvement was better

than our expectations of 38bp



1Q07 2Q07 3Q07 4Q07 1Q08 2Q08 3Q08 Comments

Manpower base

Total (Infosys cons) 58,409 66,150 69,432 72,241 75,971 80,501 88,601

Cons IT services 50,397 56,374 59,081 61,015 63,649 67,528 73,206

BPO services 8,012 9,776 10,351 11,226 12,322 12,973 15,395

Net addition 5,694 7,741 3,282 2,809 3,730 4,530 8,100

As % of opening base 10.8% 13.3% 5.0% 4.0% 5.2% 6.0% 10.1%

Recruitment (Gross adds)

Laterals 26.4% 23.7% 27.6% 27.5% 26.5% 20.5% 22.0%

Freshers 73.6% 76.3% 72.4% 72.5% 73.5% 79.5% 78.0%

Operating metrics

Attrition (TTM) - cons* 15.8% 16.9% 17.0% 17.8% 17.9% 18.1% 29.8%

Attrition (TTM) - India 11.9% 12.9% 13.5% 13.7% 13.7% 14.2% 13.7%

Utilisation

Utilisation (Inc trainees) 71.1% 67.5% 67.5% 67.9% 70.5% 70.3% 69.4%

Utilisation (Ex trainees) 76.1% 77.5% 75.8% 73.0% 73.9% 77.8% 76.3%

Management increased gross

headcount addition guidance for

FY08 to 31,000 (30,000 last

quarter)

Net headcount adds, excluding

Philips BPO staff and spill-over

fresher joinees, was 5.2% of

quarter opening base

LTM attrition rate dipped for the

first time since 4Q05

Source: Company data, *ABN AMRO estimates

26

269


A P P E N D I X

Table 5 : Subsidiaries performance

1Q07A 2Q07A 3Q07A 4Q07A 1Q08A 2Q08A 3Q08A Comments

Revenues (US$ m)

Infosys BPO 28.4 33.9 40.5 44.7 49.2 52.7 64.0

Infosys Australia 18.4 25.0 23.9 32.0 35.4 34.4 32.6

Infosys Consulting 10.2 11.6 12.1 13.5 12.8 16.3 16.6

Infosys China 2.1 3.7 5.0 2.5 3.8 5.1 5.0

Total 59.1 74.2 81.5 92.6 101.2 108.5 118.3

Share of cons. revenues 9.0% 10.0% 9.9% 10.7% 10.9% 10.6% 10.9%

Net profit (US$ m)

Infosys BPO 6.0 7.7 9.6 8.7 8.1 10.3 7.3

Infosys Australia 0.8 4.2 3.4 7.5 5.7 7.4 4.6

Infosys Consulting -4.1 -3.3 -6.6 -11.0 -0.8 -12.0 0.0

Infosys China -2.3 -1.2 -0.7 -2.3 -1.1 0.0 -0.4

Total 0.4 7.4 5.7 2.9 11.9 5.6 10.5

Share of cons. PAT 0.2% 3.7% 2.6% 1.1% 4.5% 2.1% 3.4%

Net margin - total subs. 0.7% 9.9% 7.0% 3.1% 11.8% 5.2% 8.9%

Net margin - cons. 26.5% 26.9% 26.9% 30.3% 28.6% 26.8% 28.8%

9.1% qoq growth in subsidiaries

overall

Excluding the Philips acquisition,

BPO revenues were up 10%

US$2.5m write-off pertaining to

Philips BPO integration

Management believes Consulting

and China could remain in

investment mode for some time




Client base

Active clients 469 476 488 500 509 520 530

Net client addition 9 7 12 12 9 11 10

Clients Attrition 29 38 31 22 26 37 37

Revenue/active client (US$m/qtr) 1.41 1.57 1.68 1.73 1.82 1.97 2.05

Revenue concentration

Top customer 5.8% 6.6% 6.9% 8.5% 8.6% 7.9% 9.5%

Top 5 19.5% 21.0% 18.9% 21.3% 21.4% 19.5% 21.6%

Top 10 31.7% 32.9% 31.0% 33.4% 32.3% 29.9% 32.5%

Non-Top10 68.3% 67.1% 69.0% 66.6% 67.7% 70.1% 67.5%

Repeat business 97.0% 95.2% 94.7% 93.3% 99.5% 97.7% 96.3%

Revenue growth

Top client 37.3% 28.6% 15.1% 29.5% 8.8% 1.2% 27.5%

Top-2 to 5 clients 9.7% 18.8% -8.3% 12.1% 7.5% -0.2% 10.6%

Top-5 clients 16.7% 21.7% -1.0% 18.5% 8.0% 0.4% 17.5%

Top-6 to 10 clients 9.5% 10.3% 11.9% 5.1% -3.1% 5.1% 11.2%

Top-10 clients 13.8% 17.3% 3.7% 13.3% 4.0% 1.9% 15.3%

Non-top-10 clients 10.2% 11.0% 13.2% 1.5% 9.3% 14.0% 2.1%

Repeat business 17.2% 10.9% 9.5% 3.6% 14.7% 8.1% 4.5%


$1M+ 221 232 256 275 285 295 305

Change 0 11 24 19 10 10 10

$5M+ 94 97 108 107 113 122 128

Change 13 3 11 -1 6 9 6

$10M+ 56 61 67 71 75 77 81

Change 2 5 6 4 4 2 4

$20M+ 28 29 35 36 40 44 45

Change 2 1 6 1 4 4 1

$50M+ 11 12 11 12 13 16 17

Change 2 1 -1 1 1 3 1

$70M+ 3 6 8 9 9 9 12

Change -1 3 2 1 0 0 3

$100M+ 2 2 2 3 3 3 4

Change 2 0 0 1 0 0 1

Client rationalisation and mining

continues – this is reflected in the

improvement in revenue/active

client by 4.1% qoq and client

attrition of 37

Growth was skewed towards larger

clients - share of Top 10 clients

increased by 260bp

Impressive growth in the top client

(we believe BT) continues

Weak qoq growth in non-Top 10

accounts after a strong 2Q

8-9 multi-million dollar deals

closed during the quarter, and

another 14-15 large deals in the

pipeline, according to management


27

270


A P P E N D I X



Distribution

ADM Services 49.8% 48.6% 47.7% 47.7% 46.0% 44.2% 46.3%

Development 24.0% 23.6% 22.3% 22.3% 21.6% 21.8% 21.5%

Maintenance 25.8% 25.0% 25.4% 25.4% 24.4% 22.4% 24.8%

BPO services 4.2% 4.5% 4.9% 4.9% 5.4% 5.2% 5.9%

Non-ADM, non-BPO services 42.3% 43.2% 43.1% 43.1% 45.3% 46.9% 44.1%

Consulting & package implmn 19.6% 20.6% 21.2% 21.2% 23.3% 23.6% 24.0%

Infrastructure Management 4.1% 4.2% 4.4% 4.4% 5.1% 5.5% 4.5%

Product engineering services 1.8% 1.6% 1.5% 1.5% 1.4% 1.6% 1.7%

System Integration 2.0% 2.3% 2.7% 2.7% 2.9% 2.8% 2.7%

Testing 6.2% 6.9% 7.0% 7.0% 7.5% 7.8% 7.4%

Other services 8.6% 7.6% 6.3% 6.3% 5.1% 5.6% 3.8%

Total services 96.3% 96.3% 95.7% 95.7% 96.7% 96.3% 96.3%

Products 3.7% 3.7% 4.3% 4.3% 3.3% 3.7% 3.7%

Total revenues 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0%

Revenue growth

ADM services 329 363 392 412 427 452 502

Change - 10.3% 8.0% 5.1% 3.7% 5.8% 11.1%

Business process management 28 34 40 42 50 53 64

Change - 21.1% 19.8% 5.1% 18.5% 6.1% 20.3%

Non-ADM, non-BPO services 279 322 354 372 420 479 478

Change - 15.4% 9.8% 5.1% 13.0% 14.0% -0.3%

Products 24 28 35 37 31 38 40

Change - 13.0% 27.9% 5.1% -17.5% 23.5% 6.1%

Maintenance revenues rebound

after a weak 2Q07

Among non-ADM services, BPO and

product engineering revenues

grew 20.3% and 12.7%, while

infrastructure services declined

13.2%

Revenue CQGR over the past four

quarters has been 6.4% for ADM

services, 12.3% for BPO services

and 7.8% for non-ADM/BPO

services


Table 8 : Guidance analysis

Guidance Guided yoy growth rate

Lower Upper Lower Upper Comments

FY08 - revised

Revenue (Rs b) 166.3 166.5 19.7% 19.9%

Revenue ($ m) 4,170 4,176 35.0% 35.1%

EPS (Rs) 81.1 81.1 17.1% 17.1%

INR/USD assumption 39.87 39.87

4Q08

Revenue (Rs m) 44.8 45.0 4.8% 5.4%

Revenue ($ m) 1,136 1,142 4.8% 5.4%

EPS (Rs) 21.4 21.4 3.5% 3.5%

INR/USD assumption 39.41 39.41

FY08 EPS guidance (upper end)

raised by 1.5%; management

believes it can maintain margins

near FY07 levels vs a 50-100bp

decline expected last quarter

4Q08 revenue guidance is

unchanged from last quarter,

implying about 1% lower volume

growth expectation


28

271


INFOSYS TECHNOLOGIES: KEY FINANCIAL DATA

Income statement


Revenue 95215.9 138930 166980 212410 261472

Cost of sales -50654 -74580 -91430 -116785 -145296

Operating costs -13643 -20440 -23212 -30274 -36020

EBITDA 30918.1 43910.0 52337.2 65350.4 80155.1

DDA & Impairment (ex gw) -4371.0 -5140.0 -6095.9 -8008.5 -10377

EBITA 26547.1 38770.0 46241.2 57341.9 69777.9


EBIT 26547.1 38770.0 46241.2 57341.9 69777.9

Net interest 0.00 0.00 0.00 0.00 0.00



Exceptionals (pre-tax) 0.00 1300.0 1010.0 0.00 0.00


Reported PTP 27932.3 43770.0 54679.1 64990.7 79927.3

Taxation -3131.6 -5100.0 -8033.7 -9423.7 -15985

Minority interests -215.0 -110.0 0.00 0.00 0.00


Other post-tax items 0.00 0.00 0.00 0.00 0.00




Source: Company data, ABN AMRO forecasts year to Mar

Balance sheet


Cash & market secs (1) 40360.0 61800.0 82750.8 111745 145673



Intang assets (incl gw) n/a n/a n/a n/a n/a


Total assets 93800.0 134090 170329 218463 274151

Short term debt (2) n/a n/a n/a n/a n/a


Long term debt (3) 0.00 0.00 0.00 0.00 0.00



Total equity (incl min) 70340.0 112590 150286 193148 242379

Total liab & sh equity 93800.0 134090 170329 218463 274151

Net debt (2+3-1) -40360 -61800 -82751 -111745 -145673

Source: Company data, ABN AMRO forecasts year ended Mar

Cash flow statement


EBITDA 30918.1 43910.0 52337.2 65350.4 80155.1

Change in working capital 6818.8 -12390 -6124.9 -4299.8 -3822.1


Taxes paid -3337.9 -5370.0 -8263.7 -9423.7 -15985

Other oper cash items -225.6 -1430.0 -1010.0 0.00 0.00


Capex (2) -10890 -20590 -15376 -17576 -21858

Disposals/(acquisitions) 0.00 -1300.0 1010.0 0.00 0.00

Other investing cash flow 4557.8 7300.0 -1110.0 0.00 0.00

Cash flow from invest (3) -6331.7 -11990 -15476 -17576 -21858


Incr / (decr) in debt 0.00 0.00 0.00 0.00 0.00

Ordinary dividend paid -12360 -7313.1 -9246.3 -12705 -14711



Cash flow from fin (5) -7433.3 3690.0 -8949.5 -12705 -14711


Inc/(decr) cash (1+3+5+6) 21804.2 21440.0 20950.8 28994.6 33927.7

Equity FCF (1+2+4) 24679.7 9150.0 30000.3 41699.7 48638.8


year to Mar

29

272


INFOSYS TECHNOLOGIES: PERFORMANCE AND VALUATION

Standard ratios Infosys Tech Tata Consultancy Services Wipro


Sales growth (%) 33.5 45.9 20.2 27.2 23.1 22.5 23.2 22.9 32.9 31.5 27.3

EBITDA growth (%) 32.4 42.0 19.2 24.9 22.7 17.3 21.6 22.0 14.0 21.9 25.0

EBIT growth (%) 29.6 46.0 19.3 24.0 21.7 15.7 21.2 21.6 10.8 20.7 25.8

Normalised EPS growth (%) 30.6 49.5 21.6 21.8 15.1 22.6 14.1 14.5 8.66 16.8 15.1

EBITDA margin (%) 32.5 31.6 31.3 30.8 30.7 26.1 25.7 25.5 19.5 18.1 17.8

EBIT margin (%) 27.9 27.9 27.7 27.0 26.7 23.5 23.1 22.9 16.7 15.3 15.1




ROIC (%) 68.1 113.8 77.4 72.6 68.6 54.6 48.1 47.9 55.4 31.2 31.3

ROIC - WACC (%) 53.8 99.5 63.2 58.3 54.3 40.3 33.9 33.7 41.1 16.9 17.1

year to Mar year to Mar year to Mar

Valuation

EV/sales (x) 9.36 6.26 5.08 3.86 3.01 3.89 3.06 2.41 3.14 2.38 1.86

EV/EBITDA (x) 28.8 19.8 16.2 12.5 9.81 14.9 11.9 9.45 16.1 13.1 10.4


EV/EBIT (x) 33.6 22.4 18.4 14.3 11.3 16.5 13.2 10.5 18.8 15.5 12.3



Equity FCF yield (%) 2.70 0.99 3.21 4.46 5.20 3.85 4.71 5.10 4.02 3.20 3.29

Normalised PE (x) 37.2 24.9 20.5 16.8 14.6 17.7 15.5 13.6 19.7 16.8 14.6


Dividend yield (%) 1.38 0.71 0.86 1.17 1.35 1.42 1.42 1.85 1.85 2.32 2.32









year to Mar year to Mar

Priced as follows: INFY.BO - Rs1630.30; TCS.BO - Rs918.40; WIPR.BO - Rs431.65 Source: Company data, ABN AMRO forecasts

INFOSYS TECHNOLOGIES: VALUATION METHODOLOGY Economic Profit Valuation INR m % Discounted Cash Flow Valuation INR m %

Adjusted Opening Invested Capital 69,033 6.0 Value of Phase 1: Explicit (2008 to 2011) 102163.3 9

NPV of Economic Profit During Explicit Period 114,877 10.0 Value of Phase 2: Value Driver (2012 to 2023) 547970.7 48

NPV of Econ Profit of Remaining Business (1, 2) 237,186 20.7 Value of Phase 3: Fade (2024 to 2035) 421296.7 37

NPV of Econ Profit of Net Inv (Grth Business) (1, 3) 724,495 63.2 Terminal Value 74163.0 6

Enterprise Value 1,145,591 100.0 Enterprise Value 1145593.7 100

Plus: Other Assets 0 0.0 FCF Grth Rate at end of Phs 1 implied by DCF Valuation 10.6

Less: Minorities 50 0.0 FCF Grth Rate at end of Phs 1 implied by Current Price 10.1

Less: Net Debt (as at 25 Feb 2008) -80,810 -7.1

Equity Value 1,226,351 107

No. Shares (millions) 572

Per Share Equity Value 2,150

Current Share Price 1,630.30 31.9%

Sensitivity Table

#REF! 15 18 20 23 25

12.3% 2941 3212 3397 3682 3877

13.3% 2602 2815 2959 3178 3326

14.3% 2314 2483 2595 2764 2877

15.3% 2070 2203 2291 2422 2508

16.3% 1861 1967 2036 2137 2204


2008 2009 2010






(2012 - 2023)

WA

CC

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

2008

2010

2012

2014

2016

2018

2020

2022

2024

2026

2028

2030

2032

2034

0

10,000

20,000

30,000

40,000

50,000

60,000

70,000




WACC



30

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Infosys Technologies


Infosys is one of the largest Indian IT services providers, with around 88,600 employees. It is alsoamong the fastest-growing IT services organisations in the world and a leader in offshore servicesspace. Infosys has 530 active clients spread across verticals such as Banking, Financial Services,Insurance, Retail, Manufacturing and Utilities, across the Americas, Europe and the Asia Pacificregion. It also has a core banking application, Finacle, that is used by leading banks in India, theMiddle East, Africa and Europe. Besides IT services, its subsidiaries are: Infosys BPO (earlier calledProgeon), provides business processes and analytics outsourcing services; and Infosys Consulting,provides high-end IT consulting services.

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110

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Jun05

Sep05

Jan06

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Aug06

Dec06

Apr07

Jul07

Nov07

Feb08


Others24%

ADRs19% Indian

FIs/MFs7%

FIIs33%

Promoters17%


Market data

Headquarters 44 Electronics City, Hosur Road, Bangalore-561229

Website www.infosys.com


Freefloat 83%

Majority shareholders Promoters (17%), Life Insurance Corp of India (3%), Copthall Mauritius (2%)

Supplier power 2- Bargaining power is shifting towards employees due to increasing options in the Indian ITlandscape, including MNC product vendors, MNC IT services capacities and clients.

Barriers to entry 2- Low entry barriers in the offshore IT services business. MNCs are ramping up capacity andemployee strength.

Customer power 2- Increasing customer bargaining power with offshoring becoming mainstream and key offeringsbeing commoditised. New intermediaries are helping to highlight price differences.

Substitute products 5+ Other offshore locations such as Eastern Europe, the Philippines and China. However, this shouldhave an impact only in the medium to long term.

Rivalry 2- Intense rivalry due to similar commoditised offerings and same 'low-cost, little-differentiation'positioning.


India




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Feb05

Jun05

Sep05

Jan06

May06

Aug06

Dec06

Mar07

Jul07

Oct07

Feb08

0

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30

Buy Hold Sell

Source: Bloomberg

Strengths 5 The world's leading offshore services provider with a credible management team and a provendelivery track record.

Weaknesses 3 Full-service capabilities are still evolving. The integration of subsidiaries such as Progeon, InfosysAustralia, Infosys China and Infosys Consulting is also still evolving.

Opportunities 4 Growing market acceptance for offshoring of larger (US$100m-plus) deals and services such asinfrastructure management.

Threats 3 Industry-wide wage inflation could affect operating margins. An appreciating rupee could also affecttop-line growth and profitability.



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274

Waiting for Godot

Patni's cautious 1QCY08 guidance and medium-term outlook imply limited feasibility of operational turnaround in the near term, in ourview. While high cash/share supports downside, we expect rising capex to cut into it. Maintain Hold with reduced TP of Rs275. Key forecasts

FY06A

FY07A

FY08F

FY09F

FY10F

Revenue (Rsm) 25533.1 26949.4 30193.9 35716.7 44229.9

EBITDA (Rsm) 4988.0 5821.6 4302.3& 4624.8& 5503.6

Reported net profit (Rsm) 2613.6 4642.8 3337.2& 3296.0& 3926.9


Normalised EPS (Rs) 18.8 33.3 23.7& 23.4& 27.9

Dividend per share (Rs) 3.00 3.00 3.00& 3.00& 3.00

Dividend yield (%) 1.13 1.13 1.13 1.13 1.13

Normalised PE (x) 14.1 7.96 11.2% 11.3% 9.49

EV/EBITDA (x) 4.83 4.09 5.14 4.66 3.92


ROIC (%) 34.5 41.9 19.4 17.5 18.5


year to Dec, fully diluted

Revenue growth remains elusive 1QCY08 US$ revenue guidance of just 0.6-1.1% growth follows a below-par 14.5% growth in CY07. Management gave a cautious outlook beyond 1Q, given macro concerns. We believe better growth prospects are restricted by a concentrated business portfolio. Note that CY07 revenues were weighed down by issues in key accounts, underlining the client concentration risk. Service portfolio gaps have also inhibited client mining - avg revenue/client was down 5.3% qoq and 15.2% yoy in 4Q07. While headcount addition is picking up - 60% of CY07 addition was in 2H - and utilisation expanded by 1.7% over this period, we expect the pace going forward to remain gradual and drawn out. We forecast 20% yoy volume growth in CY08.

Limited flexibility on margins levers - volume growth is the key Patni was able to contain EBITDA margin erosion to 186bp in CY07, largely due to SG&A cost control measures. Management admits limited pricing flexibility and thus incremental margin improvement to be a function of volume growth, which looks to be under pressure in the medium term. While attrition is coming off, the current levels are still significantly ahead of larger peers and should keep wage inflation above the industry average. We thus have a cautious outlook on margins and forecast a 5.4% front-ended decline in EBIT margins (ex-forex) over CY07-10. What could drive a turnaround? We believe operational underperformance at Patni is largely due to its concentrated business portfolio. Given high cash balance, inorganic expansion - in terms of service and client mix - could be a way out.

Reiterate Hold; target price lowered to Rs275 (from Rs447) We significantly cut our forecasts, building in a muted operational performance. We also anticipate higher capex as Patni finalises its SEZ expansion, which could cut into the cash balance. Slower-than-expected start of SEZ plans leads to a higher tax rate in CY09. Thus, we cut EPS estimates by 27% for CY08 and 30% for CY09 and our target price by 39% to Rs275, valuing the stock at 10x 12-month forward EPS. We believe the buyback plan is unlikely to have a major impact, given the small size (up to 5% of equity) and mechanism (market purchase and not open offer).


Software & Services

India


Analysts






Price (Rs) 230.3 310.0 413.5

Absolute % 15.0 -14.5 -35.9

Rel market % 14.2 -10.4 -48.7

Rel sector % 8.0 -11.7 -19.0

Price


Rs275.00 (from Rs447.00)


Rs36.82bn (US$922.80m) Avg (12mth) daily turnover


PTNI.BO PATNI IN

Hold Absolute performance




Patni Computer Systems

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PTNI.BO Sensex

Stock borrowing: Difficult


Volatility (6-month trend): ↑↑↑↑

52-week range: 572.95-185.00

Sensex: 17734.68



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275


P A T N I C O M P U T E R S Y S T E M S 2 2 F E B R U A R Y 2 0 0 8 2

Waiting for Godot

Patni’s cautious 1QCY08 guidance and cautious outlook imply limited

feasibility for an operational turnaround in the near term. While a high cash

balance should provide downside support, rising capex could cut into it.


4Q06 FY06 1Q07 2Q07 3Q07 4Q07 FY07 Comments

Cons. revenues (US$m) 154 579 156 163 169 174 663

Change (yoy/qoq) 1.7% 28.5% 1.1% 4.7% 3.7% 2.8% 14.5%

Cons. revenues (Rs m) 6,805 26,112 6,724 6,628 6,736 6,862 26,949

Change (yoy/qoq) -2.4% 31.7% -1.2% -1.4% 1.6% 1.9% 3.2%

Cost of revenue 4,215 16,103 4,152 4,303 4,470 4,594 17,518

Gross profit 2,590 10,009 2,572 2,325 2,266 2,268 9,431

Gross margin 38.1% 38.3% 38.3% 35.1% 33.6% 33.1% 35.0%

Operating exp. (inc forex) 1,150 4,920 1,042 774 860 934 3,609

Operating profit (EBITDA) 1,441 5,089 1,530 1,551 1,406 1,334 5,822

Operating margin 21.2% 19.5% 22.8% 23.4% 20.9% 19.4% 21.6%

Depreciation & amortisation 238 838 225 238 254 268 984

EBIT 1,202 4,251 1,306 1,313 1,151 1,066 4,837

EBIT Margin 17.7% 16.3% 19.4% 19.8% 17.1% 15.5% 17.9%

Other income 198 575 154 287 144 110 695

Profit before tax 1,400 4,826 1,460 1,600 1,296 1,176 5,533

Income tax expense 265 2,172 260 253 198 179 890

Net income 1,135 2,654 1,200 1,348 1,098 997 4,643

Change (yoy/qoq) 10.9% -0.9% 5.8% 12.3% -18.5% -9.2% 75.0%

Adjusted basic EPS 8.21 19.23 8.68 9.72 7.91 7.18 33.48

Change (yoy/qoq) 10.7% -9.7% 5.6% 12.0% -18.6% -9.3% 74.1%

Revenue growth 1.8% ahead of upper

end of revenue guidance

2.3% volume growth, 0.5% realisation

improvement in US$ terms

Average direct cost/hour was down

2.2%, in FY07 as offshore effort share

increased by 290bp

Ex-forex, EBITDA margin was up 28bp

qoq, on higher utilisation (90bp) and

lower G&A expenses (136bp impact)

Rs185m forex gains (Rs296m in 3Q07)

New campus in Navi Mumbai fully

operational during the quarter

Other income was down 23.8% qoq

Management expects effective tax rate

to rise by 7-9% in CY09 post-phase out

of STPI benefits



Guidance Implied growth (qoq)

US$m Lower Upper Lower Upper Comments

Revenue 175.0 176.0 0.5% 1.1%

PAT 15.5 16.0 -38.7% -36.8%

Net margin (excluding forex) 8.9% 9.1% -390bp -366bp

1Q08 PAT guidance factors in US$3m

visa costs and US$2m in ESOP repricing

related charges


33

276



Table 3 : Manpower and execution metrics

1Q06 2Q06 3Q06 4Q06 1Q07 2Q07 3Q07 4Q07 Comments

Employee Base

Total 12,148 12,608 12,428 12,804 13,096 13,723 14,290 14,945

Offshore 9,594 9,908 9,648 10,009 10,169 10,832 11,323 12,011

Onsite 2,554 2,700 2,780 2,795 2,927 2,891 2,967 2,934

Net addition 346 460 -180 376 292 627 567 655

- % of opening base 2.9% 3.8% -1.4% 3.0% 2.3% 4.8% 4.1% 4.6%

Manpower mix

Delivery manpower 10,951 11,343 11,150 11,553 11,823 12,353 12,868 13,498

Net addition 284 392 -193 403 270 530 515 630

- % of opening base 2.7% 3.6% -1.7% 3.6% 2.3% 4.5% 4.2% 4.9%

Support staff 1,197 1,265 1,278 1,251 1,273 1,370 1,422 1,447

Execution Metrics

Attrition Rate (Qtly, annualized) 20.2% 21.0% 24.5% 27.4% 29.1% 30.1% 27.6% 25.1%

Utilization (inc. trainees) 67.8% 70.2% 72.3% 73.7% 72.8% 71.7% 72.5% 73.4%

Billed effort mix

Offshore 66.3% 66.3% 66.1% 67.9% 68.3% 69.3% 70.3% 70.3%

Onsite 33.7% 33.7% 33.9% 32.1% 31.7% 30.7% 29.7% 29.7%

Net addition was ahead of our

estimates of 310. This could be

because of a sharp dip in attrition of

250bp qoq

Plans to hire 1,400 for 1QCY08 (1,000

in IT services and 400 in BPO)

2,000 offers made for freshers

graduating in 2008

Attrition rate is 500bp below its peak

in 2Q07

Management expects offshore effort

share to increase from current levels


Table 4 : Client metrics


Client base

Active clients 206 220 235 239 252 267 293 318

Net client addition 7 14 15 4 13 15 26 25

Clients attrition 13 9 12 18 13 10 5 12

Revenue per active client ($m) 0.63 0.65 0.65 0.65 0.62 0.61 0.58 0.55


Top client - GE 16.5% 14.5% 14.1% 13.5% 11.1% 10.7% 12.8% 12.5%

Top5 clients 39.8% 38.1% 36.9% 38.0% 35.9% 33.5% 35.6% 34.2%

Top10 clients 55.3% 54.0% 51.6% 52.2% 48.8% 46.9% 48.5% 46.5%

Non Top10 clients 44.7% 46.0% 48.4% 47.8% 51.2% 53.1% 51.5% 53.5%

Non GE Business 83.5% 85.5% 85.9% 86.5% 88.9% 89.3% 87.2% 87.5%

Revenue growth

Top client -2.3% -3.2% 3.1% -2.6% -16.9% 0.9% 24.1% 0.3%

Top2-5 clients 0.1% 11.6% 2.5% 9.3% 2.4% -3.7% 3.7% -2.2%

Top5 clients -0.9% 5.4% 2.7% 4.7% -4.5% -2.3% 10.2% -1.3%

Top6-10 clients -5.6% 13.0% -1.9% -1.8% -8.1% 8.8% -0.1% -2.0%

Top10 clients -2.3% 7.6% 1.4% 2.9% -5.5% 0.6% 7.3% -1.5%

Non Top10 clients 15.1% 13.4% 11.6% 0.4% 8.3% 8.6% 0.6% 6.7%

Non GE Business 6.3% 12.8% 6.6% 2.4% 3.9% 5.2% 1.3% 3.1%


$1m+ clients 61 64 71 74 74 72 83 84

Change 0 3 7 3 0 -2 9 12

Revenue/active client is down 15%

yoy vs rise of 22%, 18% and 12% for

Infosys, TCS and Wipro respectively

Top 10 client revenue growth of just

3% yoy highlights challenges with key

accounts in 2007

Management spoke of elongation of

sales cycles for new contracts and

renewals, reflecting a cautious stance


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Distribution

ADM 71.6% 71.8% 69.8% 70.1% 65.6% 64.4% 65.0% 64.8%

Non-ADM 28.5% 28.2% 30.3% 29.8% 34.4% 35.6% 35.0% 35.2%

Enterprise applications systems 11.7% 13.6% 14.2% 13.2% 13.5% 14.3% 13.5% 13.6%

Enterprise system management 10.2% 9.0% 9.7% 9.1% 11.5% 11.5% 11.1% 11.7%

Embedded technology services 5.2% 4.0% 4.6% 4.7% 5.6% 5.8% 5.4% 4.9%

Others 1.4% 1.6% 1.8% 2.8% 3.8% 4.0% 5.0% 5.0%

Revenue (US$m and qoq growth)

ADM 93.0 102.7 105.9 108.1 102.3 102.3 102.3 102.3

Change 3.4% 10.5% 3.1% 2.1% -5.4% 0.0% 0.0% 0.0%

Non-ADM 37.4 40.4 46.4 45.9 54.2 58.4 59.3 61.3

Change 9.5% 8.1% 14.9% -1.1% 18.0% 7.8% 1.5% 3.5%

Others 1.8 2.3 2.7 4.3 5.9 6.5 8.5 8.7

Change -43.6% 25.9% 19.3% 58.2% 37.2% 10.2% 29.7% 2.8%

Share of ADM services down 780bp in

the last eight quarters, but remains

high relative to larger peers

ADM and non-ADM services revenues

grew by 1.6% and 7.6% CAGR

respectively in the last eight quarters


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278



Reduce target price to Rs275

With revenue growth not picking up, we expect Patni’s margins to come

under considerable stress in CY08. We reduce our target price to Rs275

(from Rs447), implying 4% upside from current levels.

Hold reiterated; DCF-based target price of Rs275 (from Rs447)

We revise our forecasts, factoring in lacklustre volume growth and margin

performance in 2HCY07, 1QCY08 guidance and cautious outlook on CY08 IT budgets

given by management and the industry. We now project an FY07-10 revenue CAGR

of 18% (21.1% in US$ terms) and a net income CAGR of -5.4%. At our target price,

the stock is valued at 11.5x CY08F basic EPS, implying 4% upside potential from

current levels.

We believe key downside risks to our target price are rupee appreciation exceeding

the level we assume, a slowdown in the US economy that could affect corporate IT

spending, and a major breach of data security by an Indian firm resulting in strong

regulatory action against outsourcing. Upside could come from rupee depreciation

and acquisitions/large deal wins not built into our model.


CY08F CY09F CY10F CY08F CY09F CY10F Comments


- OLD 39.78 38.40 38.40

- NEW 38.91 37.61 37.61

Change -2.2% -2.1% -2.1%

A. OPERATIONAL ASSUMPTIONS

Total employees - delivery Utilisation

- OLD 15,173 18,173 22,373 - OLD 75.5% 76.5% 77.0%

- NEW 15,798 18,798 22,798 - NEW 74.0% 74.5% 75.5%



- OLD 128,407 153,058 187,323 - OLD 31.0% 30.5% 30.0%

- NEW 130,215 154,775 188,430 - NEW 29.5% 29.3% 29.0%



- OLD 10,748 10,936 11,155 - OLD 4,165 4,238 4,322

- NEW 10,522 10,948 11,167 - NEW 4,050 4,146 4,229

Change -2.1% 0.1% 0.1% Change -2.8% -2.2% -2.2%

B. FINANCIAL FORECASTS


- OLD 797 961 1,194 - OLD 31,701 36,914 45,836

- NEW 776 950 1,176 - NEW 30,194 35,717 44,230

Change -2.6% -1.2% -1.5% Change -4.8% -3.2% -3.5%

EBITDA margin EPS - basic

- OLD 17.8% 15.6% 15.1% - OLD 33.07 33.72 40.08

- NEW 14.2% 12.9% 12.4% - NEW 24.01 23.71 28.25

Change -352bp -265bp -265bp Change -27.4% -29.7% -29.5%

Exchange rate revisions reflect the

latest FX forecasts of our economist


assumptions revised to reflect CY07

performance

Marginal changes to our volume

growth assumptions, as the subdued

performance has been on expected

lines

While we do not see significant

pricing pressure, realisation growth

lacks the traction seen by larger peers

With sub-par volume and realisation

growth, we believe margins will likely

be under pressure in the near term

We assume phase-out of STPI

benefits post March 09; any extension



36

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Chart 1 : Patni - PE valuation band movement (Rs)

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Nov-

05

Feb-0

6

May

-06

Aug-0

6

Nov-

06

Feb-0

7

May

-07

Aug-0

7

Nov-

07

Feb-0

8



Chart 2 : Patni – 12-month forward PER valuation discount to Infosys

-70%

-60%

-50%

-40%

-30%

-20%

-10%

0%

10%

20%

Feb-04 Aug-04 Feb-05 Aug-05 Feb-06 Aug-06 Feb-07 Aug-07


Patni is now trading at the

lower end of multi-year P/E

valuations, driven by decline in

revenue momentum in the last

few quarters and consequent

impact on margin We expect the stock to remain

range-bound given investor

concerns around CY08 IT

budgets and the lacklustre

guidance given for 1QCY08 The announced buyback is

unlikely to impact significantly

given the small size (up to 5%

of equity) and mechanism

(market purchase rather than

tender offer)

Patni’s PE discount to

Infosys has sustained near

the long-term average in the

last few quarters, due to

below-par operating

performance We expect Patni to continue

trading at a discount to

Infosys, given sluggish

revenue momentum and

likely pressure on margins

going into CY08

37

280


PATNI COMPUTER SYSTEMS: KEY FINANCIAL DATA

Income statement


Revenue 25533.1 26949.4 30193.9 35716.7 44229.9

Cost of sales -15747 -17518 -20948 -25466 -32169

Operating costs -4797.8 -3609.3 -4943.3 -5625.9 -6556.9

EBITDA 4988.0 5821.6 4302.3 4624.8 5503.6


EBITA 4167.3 4837.2 3163.7 3356.3 3992.5


EBIT 4167.3 4837.2 3163.7 3356.3 3992.5

Net interest 0.00 0.00 0.00 0.00 0.00





Reported PTP 4717.2 5532.5 3937.8 4203.3 4908.6

Taxation -2103.7 -889.7 -600.5 -907.3 -981.7

Minority interests 0.00 0.00 0.00 0.00 0.00

Exceptionals (post-tax) 0.00 0.00 0.00 0.00 0.00





Source: Company data, ABN AMRO forecasts year to Dec

Balance sheet


Cash & market secs (1) 12769.8 13021.1 14701.5 15268.6 15239.5





Total assets 28231.3 33180.3 36816.8 40947.2 46411.1



Long term debt (3) 17.2 12.8 12.8 12.8 12.8



Total equity (incl min) 22434.0 26836.8 29711.1 32544.3 36008.3

Total liab & sh equity 28231.3 33180.3 36816.8 40947.2 46411.1

Net debt (2+3-1) -12753 -13008 -14689 -15256 -15227

Source: Company data, ABN AMRO forecasts year ended Dec

Cash flow statement


EBITDA 4988.0 5821.6 4302.3 4624.8 5503.6

Change in working capital -896.8 -1754.5 -430.0 -732.0 -1128.3


Taxes paid -2103.7 -889.7 -600.5 -907.3 -981.7

Other oper cash items n/a n/a n/a n/a n/a


Capex (2) -2401.3 -2177.4 -1946.9 -2878.1 -3992.4

Disposals/(acquisitions) -455.5 -1715.5 0.00 0.00 0.00

Other investing cash flow -57.5 515.8 44.4 75.6 116.6

Cash flow from invest (3) -2914.4 -3377.1 -1902.5 -2802.5 -3875.9


Incr / (decr) in debt -1.45 -4.40 0.00 0.00 0.00




Cash flow from fin (5) 84.7 -244.5 -462.9 -462.9 -462.9

Forex & disc ops (6) 0.00 0.00 0.00 0.00 0.00

Inc/(decr) cash (1+3+5+6) -292.1 251.2 1680.4 567.1 -29.1

Equity FCF (1+2+4) 136.2 1695.4 2098.9 954.4 317.3


year to Dec

38

281


PATNI COMPUTER SYSTEMS: PERFORMANCE AND VALUATION

Standard ratios Patni Computer HCL Technologies Satyam Computer


Sales growth (%) 26.1 5.55 12.0 18.3 23.8 23.1 27.5 27.1 30.1 35.4 26.4

EBITDA growth (%) 29.6 16.7 -26.1 7.50 19.0 17.1 25.6 24.6 19.9 32.3 16.7

EBIT growth (%) 31.6 16.1 -34.6 6.09 19.0 17.4 27.9 25.3 20.8 31.5 15.8

Normalised EPS growth (%) -12.3 76.8 -28.7 -1.24 19.1 -0.68 15.8 14.6 20.1 24.7 5.50

EBITDA margin (%) 19.5 21.6 14.2 12.9 12.4 19.5 19.2 18.8 21.9 21.4 19.7

EBIT margin (%) 16.3 17.9 10.5 9.40 9.03 15.5 15.6 15.4 19.9 19.3 17.7




ROIC (%) 34.5 41.9 19.4 17.5 18.5 37.8 44.2 44.4 77.1 58.4 47.5

ROIC - WACC (%) 19.1 26.5 3.94 2.07 3.02 22.9 29.4 29.5 62.2 43.6 32.6

year to Dec year to Jun year to Mar

Valuation

EV/sales (x) 0.94 0.88 0.73 0.60 0.49 2.13 1.64 1.27 3.17 2.28 1.75

EV/EBITDA (x) 4.83 4.09 5.14 4.66 3.92 11.0 8.58 6.76 14.5 10.7 8.86


EV/EBIT (x) 5.78 4.92 7.00 6.43 5.41 13.7 10.6 8.27 15.9 11.8 9.87



Equity FCF yield (%) 0.37 4.59 5.63 2.56 0.85 5.39 4.84 5.17 0.19 2.92 2.80

Normalised PE (x) 14.1 7.96 11.2 11.3 9.49 16.2 14.0 12.2 18.2 14.6 13.8


Dividend yield (%) 1.13 1.13 1.13 1.13 1.13 2.81 3.16 3.51 0.87 1.20 1.20

year to Dec year to Jun year to Mar








year to Dec year to Dec

Priced as follows: PTNI.BO - Rs264.90; HCLT.BO - Rs284.55; SATY.BO - Rs458.20 Source: Company data, ABN AMRO forecasts

PATNI COMPUTER SYSTEMS: VALUATION METHODOLOGY Economic Profit Valuation INR m % Discounted Cash Flow Valuation INR m %













Sensitivity Table

#REF! 15 18 20 23 25

13.5% 343.55 349.06 352.46 357.19 360.12

14.5% 307.80 311.46 313.70 316.79 318.69

15.5% 277.83 280.16 281.57 283.52 284.70

16.5% 252.62 253.99 254.82 255.97 256.66

17.5% 231.33 232.03 232.46 233.06 233.42


2008 2009 2010






(2012 - 2023)

WA

CC

0%

5%

10%

15%

20%

25%

2008

2010

2012

2014

2016

2018

2020

2022

2024

2026

2028

2030

2032

2034

(1000)

(500)

0

500

1000

1500




WACC



39

282



Patni Computer Systems

Company description Hold Price relative to country

Patni is the sixth-largest Indian IT services provider with more than 14,000 employees. Amongverticals, it has a sizable presence in insurance, financial services, manufacturing and telecom(after the acquisition of Cymbal, a boutique IT services firm). General Electric is Patni's largestcustomer, contributing 12.5% of revenues in 4QCY07. Patni has 318 active clients spread acrossvarious verticals, with 84 clients billing more than US$1m in revenues.

20

30

40

50

60

70

80

90

100

110

Feb05

Jun05

Sep05

Jan06

May06

Aug06

Dec06

Mar07

Jul07

Oct07

Feb08


Others7%

ADRs24%

Indian FIs/MFs

4%

FIIs22%

Promoters43%


Market data

Headquarters Akruti, MIDC Cross Road No 21, Andheri (E), Mumbai-400 093.

Website www.patni.com


Freefloat 56%

Majority shareholders Promoters (44%), General Atlantic Mauritius (17%), HSBC Global Investment (6%)

Supplier power 2- Bargaining power shifting to employees due to increase in the options in Indian IT landscape - MNCproduct vendors, MNC IT services capacities and client insourcing.

Barriers to entry 2- Low entry barriers in the offshore IT services business. MNCs are ramping up capacities andemployee strength.

Customer power 2- Increasing customer bargaining power as offshore becomes mainstream and key service offeringsare commoditised. New intermediaries are helping better price discovery.

Substitute products 3- Other offshore locations such as Eastern Europe, the Philippines and China. However, this will havean impact only in the medium to long term.

Rivalry 2- Rivalry due to similar commoditised offerings and same 'low-cost, little differentiation' positioning;however, growing offshore pie has arrested pricing decline.


India




50

70

90

110

130

150

170

190

210

230

250

Feb05

Jun05

Sep05

Jan06

May06

Aug06

Dec06

Mar07

Jul07

Oct07

Feb08

0

2

4

6

8

10

Buy Hold Sell

Source: Bloomberg

Strengths 3 Niche positioning and capabilities in focus verticals of telecoms, insurance and financial serviceswith marquee client reference.

Weaknesses 2 Lack of credible global brand/presence and lack of full-service capabilities in most verticals due tolimitation of skillsets and domain expertise.

Opportunities 4 Growing market opportunity for Indian offshore IT and BPO services. Offshore becomingmainstream.

Threats 2 Global vendors setting up capacities in India leads to high employee attrition. Limited pricing poweralong with depreciating dollar and wage inflation are eroding offshore cost arbitrage - the key driverof profitability.



40

283

Spring in the step

We raise FY09F EPS marginally, capturing in the robust volume andrealisation growth momentum of 3Q08. However, sectoral concernscould continue to weigh on valuations in the near term, in our view.Buy reiterated with a reduced target price of Rs540. Key forecasts

FY06A

FY07A

FY08F

FY09F

FY10F

Revenue (Rsm) 47925.9 64850.8 84347.3 114179 144343

EBITDA (Rsm) 11661.8 15377.1 18433.2 24395.9% 28478.8%




Dividend per share (Rs) 3.50 3.00 4.00 5.50& 5.50&

Dividend yield (%) 0.76 0.65 0.87 1.20 1.20

Normalised PE (x) 31.2 21.8 18.2 14.6 13.8

EV/EBITDA (x) 23.7 17.5 14.5 10.7 8.86


ROIC (%) 89.8 95.5 77.1 58.4 47.5

1. Post-goodwill amortisation and pre-exceptional items Accounting Standard: Local GAAP Source: Company data, ABN AMRO forecasts


Continues to outstrip peers on volume growth; pricing growth kicks in Satyam's volume growth has sustained at 9%+ qoq for the last four quarters, coming in 2.3% higher than the average for the Top5 players. The strong headcount addition - the gross add target for 4Q08 was achieved mid-quarter - implies continuing momentum, unlike larger peers. More importantly, both onsite and offshore average realisations are up 6%+ yoy in 3Q08 versus 0.5-1.5% yoy growth seen historically, implying the advent of pricing flexibility. We have increased our headcount add targets for FY09-10 by 7-8% with marginally declining utilisation. Deal pipeline remains robust - four US$50m+ deal wins in 3Q08, nine over the last four quarters, and management said it is currently pursuing around 20 such deals.

Our outlook on margin management remains conservative Satyam's 9M08 EBITDA margin is down 276bp. Despite the 1.2% yoy increase in blended realisation and the 1.1% increase in offshore share, management expects FY08 margin to be 175-200bp lower yoy due to Rs690m of RSU charges. While we expect the charges to halve over FY09, flexibility will remain restricted going forward, in our view. We believe campus offers for FY09 are up 50% yoy; but given the lower fresher:joinee ratio than peers, we expect hiring to remain significantly need-based. This should keep effective wage hikes ahead of peers. Utilisation rate is at a historical peak; we expect a marginal correction going forward to put pressure on margins.

Buy maintained at a reduced target price of Rs540 (from Rs585) Our USD revenue forecasts are up 7% for FY09 and 10% for FY10, while our margin estimates are down only marginally. Our EPS upgrades are more modest, 1.4% for FY09 and 2% for FY10, due to higher capex and depreciation (its SEZ facilities will operationalise in FY09) and lower other income. We have reduced our DCF-based target price by 8% to Rs540, given our sectoral thesis that valuation rerating will be slow and back-ended, in line with the outlook on volume growth. Note the stock is just 12% off its 52-week high vs 30%+ for larger peers. We believe that despite a potential relative outperformance near term, valuations will move in sync with those of peers. Our target price puts the stock at 16x FY10F PE, a 10% discount to Infosys.


Software & Services

India


Analysts






Price (Rs) 371.4 412.0 462.2

Absolute % 23.4 11.2 -0.9

Rel market % 22.5 16.7 -20.7

Rel sector % 15.9 15.0 25.4

Price


Rs540.00 (from Rs585.00)




SATY.BO SCS IN





Satyam Computer

100

200

300

400

500

600

700Feb 05 Mar 06 Mar 07

SATY.BO Sensex

Stock borrowing: Moderate



52-week range: 522.30-305.00

Sensex: 17734.68



41

284


S A T Y A M C O M P U T E R 2 2 F E B R U A R Y 2 0 0 8 2

Buy reiterated

We raise FY09F EPS marginally, capturing in the robust volume and

realisation growth momentum of 3Q08. However, sectoral concerns could

continue to weigh on valuations, in our view.

Buy reiterated; DCF-based target price of Rs540 (Rs585 previously)

We revise our forecasts, factoring in strong volume and realisation momentum,

guidance for 4Q08 and maintaining our conservative view on margin management.

We now project an FY07-11 revenue CAGR of 28.8% (34.7% in US$ terms) and net

income (pre-extraordinaries) CAGR of 17.9%. At our target price, the stock is valued

at 16.8x FY09F basic EPS, implying 17.9% upside potential from current levels.

The key downside risks to our target price are 1) rupee appreciation exceeding the

level we assume, 2) a slowdown in the US economy that could affect corporate IT

spending, 3) strong regulatory action against outsourcing in the US or Europe, and

4) Satyam being unable to sustain pricing increases that could affect the operating

margins and earnings factored into our valuation models. Upside risks are: 1) rupee

depreciation, 2) acquisitions/large deal wins not built into our model, and 3) Satyam

securing higher pricing growth than that built into our model.




Old 40.10 38.77 38.00

New 39.90 38.45 37.61

Change -0.5% -0.8% -1.0%

A. OPERATIONAL ASSUMPTIONS - IT services

Total employees - delivery Utilization

Old 46,332 57,253 68,944 Old 80.8% 80.8% 80.8%

New 47,842 61,406 74,906 New 82.1% 81.9% 81.6%

Change 3.3% 7.3% 8.6% Change 139bp 111bp 85bp


Old 380,451 484,856 592,038 Old 26.6% 26.4% 25.8%

New 387,114 516,522 645,780 New 26.1% 26.4% 26.1%

Change 1.8% 6.5% 9.1% Change -42bp 1bp 35bp

Billing rate (US$/p-m) - Onsite Billing rate (US$/p-m) - Offshore

Old 59.29 61.78 63.77 Old 24.06 24.96 25.77

New 59.59 62.68 64.73 New 24.21 25.23 26.03

Change 0.5% 1.5% 1.5% Change 0.6% 1.1% 1.0%

B. FINANCIAL FORECASTS - Satyam standalone


Old 1,988 2,617 3,277 Old 79,723 101,446 124,526

New 2,022 2,810 3,615 New 80,665 108,064 135,977

Change 1.7% 7.4% 10.3% Change 1.2% 6.5% 9.2%

C. FINANCIAL FORECASTS - SATYAM CONS


Old 2,083 2,766 3,492 Old 83,529 107,238 132,705

New 2,114 2,969 3,838 New 84,347 114,179 144,343

Change 1.5% 7.3% 9.9% Change 1.0% 6.5% 8.8%

EBITDA margin EPS - basic (Rs)

Old 22.0% 21.6% 20.0% Old 25.75 31.71 33.26

New 21.9% 21.4% 19.7% New 25.81 32.15 33.92

Change -10bp -25bp -23bp Change 0.2% 1.4% 2.0%



economist



management’s hiring targets for

FY08 and the 9M08 performance

Volume growth has tracked

ahead of expectations and peers

We raise realisation estimates

to factor in the gains achieved

in 9M08 and management’s

positive assessment on price

increases being pushed through

Higher volume growth forecasts

largely drive our revenue

upgrades

EPS revisions modest as we

assume higher capex in SEZs;

consequently lower other

income and higher depreciation





42

285



Chart 1 : Satyam - Price to 12-month forward EPS valuation band movement

100

150

200

250

300

350

400

450

500

550



Source: Bloomberg, company data, ABN AMRO forecasts

Chart 2 : Satyam - 12-month forward PER valuation discount to Infosys

0%

10%

20%

30%

40%

50%



Satyam is now trading near the

lower end of its multi-year P/E

valuations, which should

restrict significant downside

from current levels

However, we expect the stock

to remain range-bound given

investor concerns around CY08

IT budgets and Infosys

guidance, due in April 2008

We believe Satyam’s PE

discount to Infosys in the last

few quarters has been lower

than the long-term average,

as its organic top-line growth

for this period has been better

than that of Infosys

While the spread has

narrowed, we expect Satyam to

remain trading at a discount to

Infosys, given that its margin

levers are stretched relative to

Infosys

43

286

A P P E N D I X




1Q07 2Q07 3Q07 4Q07 FY07 1Q08 2Q08 3Q08 Comments

Consolidated revenues (US$ m) 315 346 373 406 1,439 449 505 557

Change (yoy/qoq) 6.4% 10.0% 7.7% 8.8% 33.2% 10.6% 12.4% 10.4%

Consolidated revenues (Rs m) 14,429 16,019 16,611 17,792 64,851 18,302 20,317 21,956

Change (yoy/qoq) 9.8% 11.0% 3.7% 7.1% 35.3% 2.9% 11.0% 8.1%

- Standalone revenues (Rs m) 13,869 15,377 15,949 17,090 62,285 17,591 19,482 21,106

Change (yoy/qoq) 10.1% 10.9% 3.7% 7.2% 34.4% 2.9% 10.8% 8.3%

Cost of revenue (Rs m) 8,323 9,831 9,681 10,768 38,602 11,064 13,034 13,813

Gross profit 6,106 6,188 6,930 7,024 26,249 7,238 7,283 8,142

Gross margin 42.3% 38.6% 41.7% 39.5% 40.5% 39.5% 35.8% 37.1%


EBITDA 3,550 3,625 4,100 4,102 15,377 4,103 4,027 4,712

EBITDA margin 24.6% 22.6% 24.7% 23.1% 23.7% 22.4% 19.8% 21.5%

Depreciation and amortization 362 375 394 354 1,484 387 391 423

EBIT 3,188 3,250 3,706 3,748 13,893 3,716 3,636 4,289

EBIT margin 22.1% 20.3% 22.3% 21.1% 21.4% 20.3% 17.9% 19.5%

Other income 745 282 102 704 1,833 632 1,105 705

Profit before tax 3,908 3,505 3,776 4,378 15,566 4,315 4,700 4,913

Income tax expense 368 307 403 442 1,520 532 609 576

Net income from operations 3,540 3,198 3,372 3,936 14,046 3,783 4,091 4,336

Share of minority interest -1 0 0 0 -1 0 0 0

PAT 3,541 3,198 3,372 3,936 14,047 3,783 4,091 4,336

Change (yoy/qoq) 24.4% -9.7% 5.4% 16.7% 43.1% -3.9% 8.1% 6.0%

Adjusted Basic EPS (Rs) 5.44 4.89 5.14 5.98 21.36 5.67 6.12 6.48

Change (yoy/qoq) 23.9% -10.1% 5.2% 16.3% 40.2% -5.2% 8.0% 5.9%

IT services volumes were

up 9.4%, blended

realisation was up 1.1%

In US$ terms, revenues

grew above 10% qoq in the

last three quarters

CoR was up only 6% on

better offshore mix

SG&A/revenues were

lower by 22bp qoq

Capex plan of US$90m-

100m in FY08 for parent

company

Rs30m FX loss (Rs430m

gain in 2Q08). Yield on

liquid assets was up 75bp

PAT ex-forex was up

14.4% qoq, 4% above our

estimates


44

287


A P P E N D I X

Table 3 : How margin drivers moved

Change (%)




IT services revenues (Rs m) 15,949 19,482 21,106 8.3% 32.3%

A. EXECUTION DRIVERS - IT Services

Utilization

Onsite 96.8% 97.1% 96.8% -33bp 4bp

Offshore (ex trainees) 77.6% 81.5% 83.7% 217bp 611bp

Billed effort (person-months)

Onsite 18,838 24,162 26,005 7.6% 38.0%

Offshore 48,123 65,127 72,316 11.0% 50.3%

Total exports 66,961 89,289 98,322 10.1% 46.8%

Average realization (US$/hour)

Onsite 57 59 60 2.4% 6.6%

Offshore 23 24 24 2.3% 5.9%

Blended 33 34 34 0.9% 3.3%

B. COST DRIVERS - IT Services (Rs m)

Cost of revenues 9,293 12,511 13,263 6.0% 42.7%

As % of revenues 58.3% 64.2% 62.8% -137bp 457bp

Gross profit 6,655 6,972 7,843 12.5% 17.8%


Operating expenses 2,566 2,956 3,156 6.8% 23.0%


Operating profit (EBITDA) 4,089 4,016 4,687 16.7% 14.6%

Operating margin 25.6% 20.6% 22.2% 159bp -343bp

80bp negative margin impact

of rupee appreciation

Utilisation levels running at

peak – contributing 70bp to

margin

Effort mix change qoq

contributed 40bp to margin

Realisation improvement

contributed 160bp to margin

Higher efficiencies and

realisation drive gross

margin improvement

9M08 EBITDA margin is

down 276bp yoy




Employee base

Satyam consolidated 29,639 34,105 37,230 38,586 41,380 44,719 48,098

IT services 27,634 31,659 34,405 35,670 38,386 41,423 44,847

BPO services (Nipuna) 2,005 2,446 2,825 2,916 2,994 3,296 3,251

Net addition

Satyam consolidated 1,363 4,466 3,125 1,356 2,794 3,339 3,379

IT services 1,123 4,025 2,746 1,265 2,716 3,037 3,424

As a % of opening base 4.2% 14.6% 8.7% 3.7% 7.6% 7.9% 8.3%

BPO services (Nipuna) 240 441 379 91 78 302 -45

As a % of opening base 13.6% 22.0% 15.5% 3.2% 2.7% 10.1% -1.4%

Recruitment mix - IT Services

- Laterals 56.6% 25.7% 22.5% 50.7% 49.0% 32.5% 34.6%

- Freshers 43.4% 74.3% 77.5% 49.3% 51.0% 67.5% 65.4%

Attrition (TTM) - IT services 19.6% 18.3% 17.6% 15.7% 14.9% 13.9% 13.1%

Utilization

Onsite 97.0% 97.0% 96.8% 96.6% 96.2% 97.1% 96.8%

Offshore (excluding trainees) 79.6% 78.8% 77.6% 78.4% 79.9% 81.5% 83.7%

Offshore (including trainees) 71.2% 71.1% 68.5% 71.4% 76.5% 76.4% 78.2%

Management confirmed

17,000 gross manpower

adds guidance for FY08

(from 16,000-17,000

earlier)

Strong manpower addition

in IT services during the

quarter

Attrition continues to trend

down qoq for six quarters in

a row

Offshore utilisation

currently at record levels


45

288


A P P E N D I X



Client base

Active Clients 489 504 523 538 551 577 598

Net client addition 20 15 19 15 13 26 21

Client attrition 14 20 15 20 16 11 11

Revenue per active client (US$m/qtr) 0.62 0.66 0.68 0.72 0.78 0.84 0.90


Top client 7.1% 6.7% 6.3% 6.1% 5.7% 5.8% 5.4%

Top5 clients 22.7% 22.3% 21.6% 22.2% 21.1% 20.8% 20.7%

Top10 clients 34.4% 33.9% 34.2% 36.3% 34.6% 33.9% 33.5%

Repeat business 87.7% 86.1% 85.7% 88.7% 89.5% 93.1% 93.2%

Revenue growth

Top client -5.5% 3.0% 1.9% 5.2% 2.5% 15.2% 3.4%

Top2-5 clients 1.9% 10.0% 5.5% 14.5% 6.3% 9.3% 12.4%

Top5 clients -0.5% 7.8% 4.5% 11.8% 5.3% 10.9% 9.9%

Top6-10 clients 8.5% 9.1% 16.4% 21.5% 5.9% 8.4% 8.6%

Top10 clients 2.4% 8.2% 8.6% 15.4% 5.5% 9.9% 9.4%

Non Top10 clients 9.0% 10.7% 7.3% 5.4% 13.7% 13.4% 11.3%

Repeat business 2.3% 7.8% 7.3% 12.6% 11.7% 16.8% 10.7%


$1m+ clients 142 154 164 180 190 213 220

Change -8 12 10 16 10 23 7

$5m+ clients 51 54 54 57 65 75 79

Change 5 3 0 3 8 10 4

$10m+ clients 33 32 32 35 36 40 49

Change 6 -1 0 3 1 4 9

Client mining and

rationalisation continued in

3Q08 – revenue/active

client up 6.8% qoq and

30.8% yoy

Management is currently

pursuing 20 deals in the

US$50m+ range

Satyam negotiated higher

rates with two financial

services clients during 3Q08

Closed four US$50m+ deals

during 3Q08

Significant move up in

multi-million dollar client

base, indicating that client

mining is yielding results


Table 6 : Subsidiaries performance


Revenues (US$m)

Nipuna 7.9 9.0 9.7 11.5 11.9 15.1 15.3

CitiSoft 3.7 4.6 4.4 4.9 5.7 5.6 6.1

Satyam China 1.4 1.9 2.3 2.0 2.4 2.8 3.3

Satyam Technologies Inc. 0.4 0.4 0.4 0.2 0.2 0.2 0.3

Net Profit/(Loss) (US$m)

Nipuna -1.3 -1.0 -1.3 -0.2 -2.0 -1.2 -2.4

CitiSoft -0.1 0.4 -0.3 0.2 0.1 0.3 0.4

Satyam China -0.4 -0.4 -0.4 -0.7 -0.5 -0.6 -0.5

Satyam Technologies Inc. 0.0 0.0 0.0 -0.1 -0.1 -0.1 -0.1

Total

Revenue (Rs m) 560.7 641.7 662.5 701.2 711.1 834.8 849.8

Growth 4.5% 14.4% 3.2% 5.8% 1.4% 17.4% 1.8%

EBITDA margin -1.1% 8.0% 1.6% 4.3% -3.4% 1.3% 2.9%

Net Profit/(Loss) (Rs m) -59.7 -25.3 -60.7 -39.2 -108.2 -80.6 -74.0

FY guidance for Nipuna BPO

implies 22% qoq growth in

4Q08

Bought out minority stake in

Nipuna for US$11.7m during

the quarter

Management expects

Nipuna to be EBITDA

positive for FY08


46

289


A P P E N D I X



Revenue breakdown

ADM 48.5% 48.0% 47.3% 46.4% 43.7% 43.9% 44.0%

Non-ADM 51.5% 52.0% 52.7% 53.6% 56.3% 56.1% 56.0%

Package implementation 40.3% 40.4% 42.0% 42.6% 44.2% 45.0% 45.0%

Engineering services 6.0% 6.4% 6.8% 7.0% 7.2% 6.5% 6.8%

Infrastructure services 5.2% 5.2% 3.9% 4.0% 4.9% 4.5% 4.1%

Total 100% 100% 100% 100% 100% 100% 100%

Revenue (US$m)

ADM 147 159 169 181 188 212 236

Change 2.0% 8.7% 6.1% 6.9% 4.2% 12.7% 10.9%

Non ADM 156 173 189 209 243 271 300

Change 11.3% 10.9% 9.1% 10.7% 16.3% 11.8% 10.4%

Package implementation 122 134 150 166 191 218 241

Change 9.3% 10.3% 12.0% 10.4% 14.8% 14.3% 10.6%

Engineering services 18 21 24 27 31 32 37

Change 0.0% 16.9% 14.0% 12.5% 13.9% 1.7% 15.7%

Infrastructure services 16 17 14 16 21 22 22

Change 52.6% 9.0% -19.0% 10.8% 36.3% 3.7% 0.4%

Share of ADM services is

down 610bp over the last

eight quarters

Revenue CQGR over the past

four quarters has been 8.6%

for ADM services, 11.9% for

BPO services (Nipuna) and

12.3% for non- ADM/BPO

services



Guidance Implied growth Guidance revision

Lower Upper Lower Upper Lower Upper Comments

FY08 GUIDANCE ANALYSIS

Revenue (Rs b) 83.7 83.8 29.0% 29.2% 2.2% 1.9%

Revenue (US$ m) - US GAAP 2,119 2,122 45.0% 45.2% 2.5% 2.2%

EPS (Rs) 25.50 25.50 18.9% 18.9% 2.0% 1.6%

INR/USD assumption - 4Q 39.30 -12.8% -0.5%

4Q08 GUIDANCE ANALYSIS

Revenue (Rs b) 23.1 23.2 5.3% 5.8%

Revenue (US$ m) - US GAAP 594 597 5.6% 6.1%

EPS (Rs) 7.23 7.23 11.6% 11.6%

Guidance builds in 175-

200bp contraction in

EBITDA margin for FY08

EPS growth guidance in

4Q08 appears to be building

in a margin improvement


47

290


SATYAM COMPUTER: KEY FINANCIAL DATA

Income statement


Revenue 47925.9 64850.8 84347.3 114179 144343

Cost of sales -28067 -38602 -52334 -72104 -94264

Operating costs -8197.1 -10872 -13580 -17679 -21600

EBITDA 11661.8 15377.1 18433.2 24395.9 28478.8


EBITA 10289.0 13892.7 16788.3 22070.1 25565.5


EBIT 10289.0 13892.7 16788.3 22070.1 25565.5

Net interest -55.4 -159.2 -203.2 -191.4 -191.4





Reported PTP 11967.4 15566.3 19692.3 24725.1 28727.5

Taxation -2074.8 -1520.1 -2437.4 -3214.3 -6032.8

Minority interests 5.50 1.20 0.00 0.00 0.00


Other post-tax items -78.8 0.00 0.00 0.00 0.00





Balance sheet


Cash & market secs (1) 31117.0 39914.2 41159.3 48674.1 56311.3



Intang assets (incl gw) n/a n/a n/a n/a n/a


Total assets 51371.0 68951.4 83886.1 104588 126780



Long term debt (3) 1027.1 1478.8 1913.7 1913.7 1913.7



Total equity (incl min) 43214.0 57526.0 72102.2 89307.6 107697

Total liab & sh equity 51371.0 68951.4 83886.1 104588 126780

Net debt (2+3-1) -30090 -38435 -39246 -46760 -54398


Cash flow statement


EBITDA 11661.8 15377.1 18433.2 24395.9 28478.8

Change in working capital -2685.1 -2925.1 -9275.2 -5783.3 -6733.4

Net interest (pd) / rec n/a n/a n/a n/a n/a

Taxes paid -2013.9 -1910.6 -2747.6 -3214.3 -6032.8



Capex (2) -3166.7 -4135.3 -5825.5 -6233.1 -6932.0

Disposals/(acquisitions) 0.00 0.00 0.00 0.00 0.00

Other investing cash flow 3966.2 1674.8 2904.0 2655.0 3162.0

Cash flow from invest (3) 799.5 -2460.5 -2921.5 -3578.1 -3770.0


Incr / (decr) in debt 837.9 451.7 434.9 0.00 0.00




Cash flow from fin (5) -346.6 716.3 -2243.7 -4305.5 -4305.5


Inc/(decr) cash (1+3+5+6) 7415.7 8797.2 1245.1 7514.8 7637.2

Equity FCF (1+2+4) 3796.1 6406.1 584.8 9165.3 8780.7


year to Mar

48

291


SATYAM COMPUTER: PERFORMANCE AND VALUATION

Standard ratios Satyam Computer HCL Technologies Infosys Technologies


Sales growth (%) 36.1 35.3 30.1 35.4 26.4 23.1 27.5 27.1 20.2 27.2 23.1

EBITDA growth (%) 34.3 31.9 19.9 32.3 16.7 17.1 25.6 24.6 19.2 24.9 22.7

EBIT growth (%) 36.3 35.0 20.8 31.5 15.8 17.4 27.9 25.3 19.3 24.0 21.7

Normalised EPS growth (%) 33.1 43.0 20.1 24.7 5.50 -0.68 15.8 14.6 21.6 21.8 15.1

EBITDA margin (%) 24.3 23.7 21.9 21.4 19.7 19.5 19.2 18.8 31.3 30.8 30.7

EBIT margin (%) 21.5 21.4 19.9 19.3 17.7 15.5 15.6 15.4 27.7 27.0 26.7




ROIC (%) 89.8 95.5 77.1 58.4 47.5 37.8 44.2 44.4 77.4 72.6 68.6

ROIC - WACC (%) 75.0 80.7 62.2 43.6 32.6 22.9 29.4 29.5 63.2 58.3 54.3

year to Mar year to Jun year to Mar

Valuation

EV/sales (x) 5.77 4.14 3.17 2.28 1.75 2.13 1.64 1.27 5.08 3.86 3.01

EV/EBITDA (x) 23.7 17.5 14.5 10.7 8.86 11.0 8.58 6.76 16.2 12.5 9.81


EV/EBIT (x) 26.9 19.3 15.9 11.8 9.87 13.7 10.6 8.27 18.4 14.3 11.3



Equity FCF yield (%) 1.24 2.09 0.19 2.92 2.80 5.39 4.84 5.17 3.21 4.46 5.20

Normalised PE (x) 31.2 21.8 18.2 14.6 13.8 16.2 14.0 12.2 20.5 16.8 14.6


Dividend yield (%) 0.76 0.65 0.87 1.20 1.20 2.81 3.16 3.51 0.86 1.17 1.35

year to Mar year to Jun year to Mar






Equity FCF per share (INR) 5.67 9.57 0.85 13.4 12.8 Operating CF int cov (x) 0.00 0.00 0.00 0.00 0.00



Priced as follows: SATY.BO - Rs458.20; HCLT.BO - Rs284.55; INFY.BO - Rs1630.30 Source: Company data, ABN AMRO forecasts

SATYAM COMPUTER: VALUATION METHODOLOGY Economic Profit Valuation INR m % Discounted Cash Flow Valuation INR m %













Sensitivity Table

#REF! 4 7 10 11 12

12.9% 562.6 612.0 660.1 675.8 691.4

13.9% 515.5 556.4 595.5 608.2 620.7

14.9% 473.9 507.8 539.7 549.9 560.0

15.9% 437.1 465.2 491.2 499.5 507.6

16.9% 404.5 427.8 449.1 455.8 462.3


2008 2009 2010






(2012 - 2023)

WA

CC

0%

10%

20%

30%

40%

50%

60%

70%

80%

2008

2010

2012

2014

2016

2018

2020

2022

2024

2026

0

5,000

10,000

15,000

20,000

25,000




WACC



49

292



Satyam Computer


Satyam is the fourth-largest IT solutions provider from India. It is one of the pioneers of offshore ITservices delivery. The company has 598 clients and employs more than 48,000 professionals acrossIT and BPO services. It has domain competencies in verticals such as Manufacturing, Banking andFinancial Service, and Insurance among others. More than 45% of its revenue comes from packageimplementation services.

60

70

80

90

100

110

120

130

140

Feb05

Jun05

Sep05

Jan06

May06

Aug06

Dec06

Apr07

Jul07

Nov07

Feb08


ADRs19%

Others11%

Indian FIs/MFs

12%

FIIs49%

Promoters9%


Market data

Headquarters Mayfair Centre, S.P. Road, Secunderabad 500 003, Andhra Pradesh, India

Website www.satyam.com


Freefloat 91%

Majority shareholders Promoters & their relatives (9%), Fidelity Management & Research (3%), Aberdeen Asset Managers (3%)

Supplier power 2- Bargaining power shifting to employees due to an increase in the options in the Indian IT landscape- MNC product vendors, MNC IT services capacities, client insourcing, etc.

Barriers to entry 2- Low entry barriers in the offshore IT services business. MNCs are ramping up capacities andemployee strength.

Customer power 2- Increasing customer bargaining power due to offshoring becoming mainstream and key serviceofferings becoming commoditised. New intermediaries are helping better price discovery.

Substitute products 5+ Other offshore locations, such as Eastern Europe, the Philippines and China. However, this will havean impact only in the medium to long term.

Rivalry 2- Intense rivalry due to similar commoditised offerings and same 'low-cost little differentiation'positioning.


India




50

70

90

110

130

150

170

190

210

230

250

Feb05

Jun05

Sep05

Jan06

May06

Aug06

Dec06

Mar07

Jul07

Oct07

Feb08

0

10

20

30

Buy Hold Sell

Source: Bloomberg

Strengths 3 Large offshore IT outsourcing services provider with an established client base. Entrepreneurial andrisk-taking management.

Weaknesses 2 Lack of credible global brand/presence and lack of full-service capabilities due to the limitation ofskill sets.

Opportunities 4 Growing market opportunity for Indian offshore IT and IT-enabled services and offshore becomingmainstream.

Threats 2 Global vendors setting up capacities in India; depreciating dollar; new entrants increasing wagesand other costs are reducing cost arbitrage in the offshore sector.



50

293

Fundamentals right

We cut FY09F EPS by 5%, building in a muted near-term volumegrowth outlook. However, robust deal pipeline and improved pricingshould sustain top-line growth and margin defence in the mediumterm. Buy reiterated with a lower target price of Rs1,230. Key forecasts

FY06A

FY07A

FY08F

FY09F

FY10F

Revenue (Rsm) 132454 186332 228341 281256 345785

EBITDA (Rsm) 36946.4 50740.0 59513.2 72347.4& 88242.0&

Reported net profit (Rsm) 29074.0 41314.8 50667.7 57812.4& 66221.5&


Normalised EPS (Rs) 29.7 42.2 51.8 59.1& 67.7&

Dividend per share (Rs) 6.75 11.5 13.0& 13.0& 17.0&

Dividend yield (%) 0.73 1.25 1.42 1.42 1.85

Normalised PE (x) 30.9 21.8 17.7 15.5% 13.6%

EV/EBITDA (x) 24.2 17.6 14.9 11.9 9.45


ROIC (%) 95.1 71.4 54.6 48.1 47.9



We expect muted near-term volume growth; recovery from 2QFY09… The slower-than-expected qoq volume growth in 3QFY08 and cautious optimism on ITbudgets indicate a muted near-term volume outlook. We believe client-specific issues could affect ramp-ups and lengthen sales cycle over 4Q08/1Q09, but channel checks confirm continued momentum in offshore IT spend. We expect recovery from 2Q09 (seasonal strength) and a strong 3Q09 (potential 'budget flush' by clients at their year-end). But the record 94% jump in campus offers for FY09 could hurt utilisation.

… as fundamentals remain intact Deal pipeline remains healthy, with total value up 2.5x over the last 12 months. TCS said it was pursuing 30 US$50m+ deals as of mid-Feb 2008 and has won at least three such deals so far this quarter. Further, blended realisation growth of 4.7% in last four quarters indicates flexibility on price negotiations and an evolving business mix. We expect this to sustain, although at a slower pace. Margin management has been the highlight - 9M08 EBITDA margin fell just 105bp vs 9M07, despite the 12% Rs/USD appreciation. We see levers going forward - utilisation at a four-year low, guided 8-10% wage hike in FY09 vs 12-15% last year, and the recently announced re-organisation. The sharp build-up in freshers could restrict near-term flexibility.

High hedge position is the joker TCS's outstanding hedge position of US$3.1bn as of end-3Q08 is the highest among peers, which significantly offset the Rs appreciation. Note that TCS follows cash-flow hedging, so reported operating profit includes FX gains, unlike Infosys. The reported Rs3.2bn FX income in 9M08 was 7.5% of PBT. Importantly, the horizon of cover has expanded from up to rolling three quarters to over six quarters. The recent relative stability in currency could restrict FX income. We build in no FX gain/losses.

Buy maintained at a reduced target price of Rs1,230 (from Rs1,460) We have marginally lowered our USD revenue growth forecasts and margin outlook. Our EPS estimates are down 5.3% for FY08 and 7.4% for FY09, also building in the latest FX forecasts. Our target price is cut sharper by 16% to reflect changes in our long-range DCF assumptions. We expect valuations to recover going forward; but the pace would be slow and back-ended, in-line with the volume growth outlook.


Software & Services

India


Analysts






Price (Rs) 835.9 948.5 1285.9

Absolute % 9.9 -3.2 -28.6

Rel market % 9.1 1.6 -42.9

Rel sector % 3.2 0.1 -9.7

Price


Rs1230.00 (from Rs1460.00)




TCS.BO TCS IN





Tata Consultancy Services

500

1000

1500

2000

2500


TCS.BO Sensex




52-week range: 1330.00-730.00

Sensex: 17734.68



51

294


T A T A C O N S U L T A N C Y S E R V I C E S 2 2 F E B R U A R Y 2 0 0 8 2

Buy reiterated

We cut FY09F EPS by 5%, building in a muted near-term volume growth

outlook. However, robust deal pipeline and pricing improvement should

sustain top-line growth and margin defence over the medium term.

Buy reiterated; DCF-based target price of Rs1,230 (Rs1,460 previously)

We revise our forecasts, factoring in 3Q08 results, 4Q08 guidance and the outlook on

CY08 IT budgets given by management at the company’s analyst meet held recently.

We now project an FY07-11 revenue CAGR of 22.7% (28.2% in US$ terms) and net

income (pre-extraordinaries) CAGR of 19.8%. At our target price, the stock is valued

at 20.8x FY09F basic EPS, implying 33.9% upside potential from current levels.

The key downside risks to our DCF-based target price are: 1) rupee appreciation

exceeding the level we assume; 2) a slowdown in the US economy that could affect

corporate IT spending; 3) strong regulatory action against outsourcing in the US or

Europe; and 4) TCS being unable to secure pricing growth at levels factored into our

valuation models. Upside risks are: 1) rupee depreciation; 2) acquisitions/large deal

wins not built into our model; and 3) TCS securing higher pricing growth than that

built into our model.


FY08F FY09F FY10F

FY08F FY09F FY10F Comments


OLD 39.98 38.76 38.00

NEW 39.79 38.45 37.61

Change -0.5% -0.8% -1.0%


Total employees - TCS (ex-Indian subsidiaries) Utilization (inc. trainees)

OLD 109,012 133,012 158,012 OLD 75.9% 76.6% 77.1%

NEW 106,099 129,899 154,899 NEW 74.0% 75.0% 76.5%

Change -2.7% -2.3% -2.0% Change -184bp -156bp -58bp


OLD 808,129 1,003,518 1,216,691 OLD 33.5% 34.0% 33.0%

NEW 776,044 961,188 1,183,590 NEW 33.8% 33.8% 33.4%

Change -4.0% -4.2% -2.7% Change 27bp -25bp 37bp


OLD 61.25 64.99 68.53 OLD 26.61 27.74 28.68

NEW 62.42 65.45 68.77 NEW 27.02 28.01 28.85

Change 1.9% 0.7% 0.3% Change 1.5% 1.0% 0.6%



OLD 5,832 7,524 9,390 OLD 233,146 291,602 356,822

NEW 5,739 7,314 9,194 NEW 228,341 281,256 345,785

Change -1.6% -2.8% -2.1% Change -2.1% -3.5% -3.1%

EBITDA margin EPS – basic (Rs)

OLD 26.4% 26.4% 26.6% OLD 52.08 62.40 73.09

NEW 26.1% 25.7% 25.5% NEW 51.78 59.08 67.67

Change -33bp -72bp -106bp Change -0.6% -5.3% -7.4%

Exchange rate revisions

reflect the latest FX forecasts

of our economist



management’s hiring targets

and 9M08 performance

We factor in sluggish growth

in the next two quarters, due

to project ramp-up issues


pressures – TCS negotiated

price hikes with some BFSI

clients

Our other income forecasts

for FY09/10 are up based on

lower capex assumptions


benefits in FY10; an extension



52

295



Chart 1 : TCS - Price to 12-month forward EPS valuation band movement

400

500

600

700

800

900

1,000

1,100

1,200

1,300

1,400

Aug-04 Feb-05 Aug-05 Feb-06 Aug-06 Feb-07 Aug-07


Source:Bloomberg, company data, ABN AMRO

Chart 2 : TCS - 12-month forward PER valuation discount to Infosys

-20.0%

-15.0%

-10.0%

-5.0%

0.0%

5.0%

10.0%

Aug-04 Feb-05 Aug-05 Feb-06 Aug-06 Feb-07 Aug-07


TCS is trading at multi-

year low P/E valuations,

which should restrict

significant downside from

current levels

However, we expect the

stock to remain range-

bound in the near term

given investor concerns

around CY08 IT budgets

and the guidance from

Infosys, to be given in

April 2008

TCS is currently trading

near the mid point of its

P/E valuation relative to

Infosys

53

296

A P P E N D I X




(Rs m) 1Q07 2Q07 3Q07 4Q07 FY07 1Q08 2Q08 3Q08 Comments

Cons. revenues (US$m) 900.2 975.4 1,098.3 1,183.9 4,158 1,278.0 1,404.4 1,491.6

Change (yoy/qoq) 7.6% 8.4% 12.6% 7.8% 39.1% 8.0% 9.9% 6.2%

Cons. Revenues 41,442 44,822 48,605 51,464 186,332 52,028 55,951 58,791

Change (yoy/qoq) 11.3% 8.2% 8.4% 5.9% 40.7% 1.1% 7.5% 5.1%

TCS (Ex-CMC) revenues 38,930 42,413 45,619 48,573 175,534 49,635 53,249 55,849

Change (yoy/qoq) 13.0% 8.9% 7.6% 6.5% 42.0% 2.2% 7.3% 4.9%

Cost of revenues 23,456 23,880 26,294 27,177 100,807 28,221 30,152 31,384

Gross profit 17,985 20,942 22,311 24,287 85,525 23,807 25,799 27,407

Gross margin 43.4% 46.7% 45.9% 47.2% 45.9% 45.8% 46.1% 46.6%


EBITDA 10,126 12,294 13,753 14,567 50,740 13,264 14,373 15,338

EBITDA margin 24.4% 27.4% 28.3% 28.3% 27.2% 25.5% 25.7% 26.1%

Depreciation 863 958 1,080 1,395 4,296 1,265 1,381 1,475

EBIT 9,263 11,336 12,673 13,172 46,444 11,999 12,992 13,863

EBIT margin 22.4% 25.3% 26.1% 25.6% 24.9% 23.1% 23.2% 23.6%

Non-operating inc. 669 77 300 898 1,944 1,516 1,552 1,498


Income tax expense 1,238 1,447 1,828 2,188 6,700 1,523 2,037 1,947

PAT from operations 8,695 9,967 11,144 11,882 41,688 11,993 12,507 13,414

Net margin 21.0% 22.2% 22.9% 23.1% 22.4% 23.1% 22.4% 22.8%

Ext. income (net) 0 0 0 0 0 0 0 0

Minority interest 85 59 115 158 417 140 42 110

Reported net Income 8,626 9,915 11,047 11,727 41,315 11,855 12,469 13,308

Adjusted basic EPS (Rs) 8.81 10.13 11.29 11.99 42.22 12.11 12.74 13.60

Change (yoy/qoq) 8.4% 14.9% 11.4% 6.2% 42.1% 1.0% 5.2% 6.7%

We estimate international

revenues grew 5% qoq

CMC’s revenues were up

8.9%, helped by higher

equipment sales

Delivery employee costs were

up just 1.4% qoq

Employee costs in SG&A were

up 6.1% qoq

Depreciation as a percentage

of net fixed assets was up 8bp

Includes forex gains of

Rs1.1bn (in line with 2Q08);

unrealised hedging gains on

balance sheet of Rs1.8bn

(Rs2.6bn in 2Q08)

Adjusting for FX gains, PAT

was up 7%


54

297


A P P E N D I X


Change Comments

3Q07 2Q08 3Q08 QoQ YoY

Exchange rate (Rs/$) 44.25 39.84 39.42 -1.1% -10.9%

Consolidated revenues (Rsm) 48,605 55,951 58,791 5.1% 21.0%

International business revenues (Rsm) 43,872 50,413 52,344 3.8% 19.3%

A. EXECUTION METRICS

Utilization (ex trainees) 78.2% 78.9% 77.7% -120bp -50bp

Average realization - ($/person-month) (E)

- Onsite 10,120 11,176 11,018 -1.4% 8.9%

- Offshore 4,611 4,875 4,717 -3.2% 2.3%

- Blended 6,546 6,969 6,841 -1.8% 4.5%

Billed effort - International business (person-month) (E)

- Onsite 53,192 60,348 65,452 8.5% 23.0%

- Offshore 98,249 121,213 128,670 6.2% 31.0%

- Total 151,441 181,561 194,121 6.9% 28.2%

B. COST DRIVERS

Wage costs (Rsm) 21,682 24,695 25,040 1.4% 15.5%


Other cost of revenues (Rsm) 3,091 3,426 3,477 1.5% 12.5%


Gross profit (Rsm) 22,311 25,799 27,407 6.2% 22.8%

Gross margin 45.9% 46.1% 46.6% 51bp 71bp

SG&A expenses (Rsm) 8,454 11,274 11,893 5.5% 40.7%


R&D expenses (Rsm) 105 152 176 15.8% 68.1%


Operating Profit EBITDA (Rsm) 13,753 14,373 15,338 6.7% 11.5%

EBITDA margin 28.3% 25.7% 26.1% 40bp -220bp

92bp impact on margins due

to rupee appreciation qoq

Utilisation tends to be

seasonally low due to influx of

freshers post-training

Blended realisation was up

53bp qoq, management said

Volumes in the international

business grew 4% qoq,

according to management

40%+ qoq growth in sales and

costs of products/licences,

due to implementation of a

large system integration

project in India

9M08 EBITDA margin is down

only 105bp despite 12%

appreciation of the rupee

Source: Company data, (E) – ABN AMRO estimates

Table 4 : Key execution metrics


Delivery mode wise - revenues (International business US$m)

Offshore 325 384 453 480 515 591 607

Change 9.5% 18.4% 17.9% 6.0% 7.2% 14.7% 2.7%

Share 41.3% 44.0% 45.7% 45.9% 45.2% 46.7% 45.7%

Onsite 461 489 538 566 624 674 721

Change 8.1% 6.0% 10.0% 5.2% 10.3% 8.0% 6.9%

Share 58.7% 56.0% 54.3% 54.1% 54.8% 53.3% 54.3%

TOTAL 786 874 991 1,046 1,139 1,265 1,328

Delivery mode wise - Billed effort (International business person-months) (E)

Offshore 79,349 86,837 98,249 100,689 112,554 121,213 128,670

Change 8.3% 9.4% 13.1% 2.5% 11.8% 7.7% 6.2%

Share 61.6% 63.3% 64.9% 65.0% 65.6% 66.8% 66.3%

Onsite 49,474 50,309 53,192 54,281 59,132 60,348 65,452

Change 7.5% 1.7% 5.7% 2.0% 8.9% 2.1% 8.5%

Share 38.4% 36.7% 35.1% 35.0% 34.4% 33.2% 33.7%

TOTAL 128,823 137,146 151,441 154,971 171,686 181,561 194,121

Project-nature wise - Revenues (International business - US$ m)

T&M 443 516 585 626 653 712 725

Change 18.5% 16.4% 13.3% 7.0% 4.4% 9.1% 1.8%

Share 56.4% 59.1% 59.0% 59.8% 57.3% 56.3% 54.6%

Fixed price 343 357 406 421 487 553 603

Change -1.9% 4.2% 13.8% 3.5% 15.7% 13.6% 9.0%

Share 43.6% 40.9% 41.0% 40.2% 42.7% 43.7% 45.4%

TOTAL 786 874 991 1,046 1,139 1,265 1,328

BFSI clients in North America

improved their offshore effort

mix, according to

management

Share of employees with

less than three years of

experience has gone up 6%

in the last eight quarters

Share of fixed price projects

is up 440 bp yoy

Source: Company data, (E)- ABN AMRO estimates

55

298


A P P E N D I X

Table 5 : Key manpower and execution metrices


Manpower Base

TCS (Consolidated) 71,190 78,028 83,500 89,419 94,902 104,347 108,229

TCS Ltd. 67,530 74,193 79,755 85,582 91,094 100,362 104,399

Indian subsidiaries (Total) 3,660 3,835 3,745 3,837 3,808 3,985 3,830

Recruitment - Net addition

TCS (Consolidated) 4,710 6,838 5,472 5,919 5,483 9,445 3,882

TCS Ltd. 4,698 6,663 5,562 5,827 5,512 9,268 4,037

Indian subsidiaries (Total) 12 175 -90 92 -29 177 -155

Recruitment mix

Gross addition (TCS India) 5,277 7,964 6,493 6,761 7,693 11,557 7,039

Laterals 2,703 4,200 4,015 2,918 4,795 5,658 3,661

Share (of gross addition) 51% 53% 62% 43% 62% 49% 52%

Trainees 2,574 3,764 2,478 3,843 2,898 5,899 3,378

Share (of gross addition) 48.8% 47.3% 38.2% 56.8% 37.7% 51.0% 48.0%

Execution matrices

Utilization inc .trainees 77.3% 75.2% 75.0% 74.7% 76.0% 73.7% 72.6%

Utilization ex .trainees 80.1% 79.4% 78.2% 79.6% 79.1% 78.9% 77.7%

Attrition rate (%) 10.6% 10.6% 10.8% 11.3% 11.5% 11.5% 12.2%

4% addition to manpower

base (excluding Indian

subsidiaries)

Management believes the

target of 32,500 gross adds

for FY08 can be easily

achieved

Around 22,300 offers have

been made for FY09 fresher

joinees; this compares well

with around 11,500 offers

made for FY08

Attrition continues to inch up

to record levels




Client base

Active clients 764 742 754 780 771 814 857

Net client addition 16 -22 12 26 -9 43 43

New clients 62 58 55 43 54 51 54

Client attrition 46 80 43 17 63 8 11

Revenue per active client (US$mn) 1.03 1.18 1.31 1.34 1.48 1.55 1.55

Change 6.4% 14.4% 11.7% 2.0% 10.2% 5.2% -0.3%


Top client 4.0% 4.9% 5.7% 6.6% 6.8% 7.0% 6.9%

Top 5 clients 16.7% 16.8% 17.4% 18.5% 19.0% 19.1% 19.1%

Top 10 clients 26.8% 26.8% 27.5% 28.4% 29.3% 27.6% 29.7%

Non Top10 clients 73.2% 73.2% 72.5% 71.6% 70.7% 72.4% 70.3%

Repeat business (share) 98.8% 97.9% 96.1% 94.9% 99.2% 97.8% 94.9%

Revenue growth

Top client 17.5% 36.1% 32.0% 22.2% 12.2% 14.3% 3.5%

Top 5 clients 6.8% 11.8% 17.5% 12.2% 11.9% 11.6% 5.0%

Top 10 clients 5.9% 11.1% 16.4% 9.0% 12.4% 4.6% 12.9%

Non Top10 clients 9.7% 11.1% 12.4% 4.2% 7.5% 13.7% 1.9%

Repeat business 16.8% 10.1% 11.4% 4.2% 13.8% 9.5% 1.8%


>$1 million 258 274 288 297 322 334 347

Change 2 16 14 9 25 12 13

>$5 million 97 105 114 119 126 139 138

Change 1 8 9 5 7 13 -1

>$10 million 65 70 74 75 85 92 97

Change 11 5 4 1 10 7 5

>$20 million 33 32 37 39 45 51 53

Change 2 -1 5 2 6 6 2

>$50 million 10 15 15 14 18 18 19

Change 1 5 0 -1 4 0 1

High net client addition in the

last two quarters due to lower

client attrition

Revenue per active client is

up 17.9% yoy

Company bagged nine

US$50m+ deals, the highest

reported by any player across

the peer group by far

Slowest qoq growth in the

non-Top 10 accounts over the

last few years

Pipeline of large deals

continues to build up – 30

US$50m+ deals currently

being pursued vs 25 in Dec-07


56

299


A P P E N D I X



Distribution

ADM 52.0% 52.1% 53.5% 51.3% 51.5% 48.6% 47.7%

Non-ADM, non-BPO services 42.3% 42.1% 40.7% 42.7% 42.6% 45.2% 45.8%

- Business intelligence 8.7% 9.6% 9.5% 9.8% 9.6% 9.7% 9.6%

- Engineering & Industrial 6.2% 6.1% 5.4% 5.4% 5.3% 5.3% 5.3%

- Infrastructure and services 6.8% 6.0% 5.5% 6.0% 5.7% 6.9% 6.7%

- Enterprise solutions 13.0% 12.0% 11.8% 12.3% 12.4% 12.8% 13.2%

- Global consulting 3.2% 3.5% 3.4% 3.5% 3.0% 3.3% 3.7%

- Asset leverage solutions 2.6% 2.5% 2.8% 3.1% 3.3% 3.4% 3.3%

- Assurance 1.8% 2.4% 2.3% 2.6% 3.3% 3.8% 4.0%

BPO 5.7% 5.8% 5.8% 6.0% 5.9% 6.2% 6.5%

Total 100% 100% 100% 100% 100% 100% 100%

Revenue (US$m and QoQ growth)

ADM 468 508 588 607 658 683 711

Change - 9% 16% 3% 8% 4% 4%

Non-ADM, non-BPO services 381 411 447 506 544 635 683

Change - 8% 9% 13% 8% 17% 8%

BPO 51 57 64 71 75 87 97

Change - 10% 13% 12% 6% 15% 11%

Share of ADM services is

down 1,020bp over the last

eight quarters

Global Consulting and

Assurance grew by 19.1%

and 11.8% respectively qoq

in 3Q08


four quarters is 4.9% for ADM

services, 11.1% for BPO

services and 11.2% for non-

ADM/BPO services


57

300


TATA CONSULTANCY SERVICES: KEY FINANCIAL DATA

Income statement


Revenue 132454 186332 228341 281256 345785

Cost of sales -69684 -100807 -122015 -150588 -186857

Operating costs -25824 -34785 -46813 -58321 -70686

EBITDA 36946.4 50740.0 59513.2 72347.4 88242.0


EBITA 34136.5 46444.0 53720.7 65096.0 79125.5


EBIT 34136.5 46444.0 53720.7 65096.0 79125.5

Net interest 0.00 0.00 0.00 0.00 0.00



Exceptionals (pre-tax) 0.00 0.00 0.00 0.00 0.00


Reported PTP 34326.8 48388.1 58753.9 67902.8 83384.3

Taxation -4989.1 -6700.5 -7691.4 -9638.9 -16677

Minority interests -263.7 -372.9 -394.9 -451.5 -486.0







Balance sheet


Cash & market secs (1) 3965.0 12291.4 16282.3 43716.6 70114.8

Other current assets 45635.2 62561.3 81483.2 100414 123670




Total assets 85626.0 130648 173941 227184 286630



Long term debt (3) 0.00 6022.5 5623.2 5623.2 5623.2



Total equity (incl min) 59971.5 91781.6 126719 170110 217365

Total liab & sh equity 85626.0 130648 173941 227184 286630

Net debt (2+3-1) -3965.0 -6268.9 -10659 -38093 -64492


Cash flow statement


EBITDA 36946.4 50740.0 59513.2 72347.4 88242.0

Change in working capital -8994.6 -8671.4 -10085 -9079.0 -11065


Taxes paid -4989.1 -6700.5 -7691.4 -9638.9 -16677



Capex (2) -7011.8 -12137 -12200 -14129 -18908

Disposals/(acquisitions) -8335.5 -5148.1 -276.3 0.00 0.00

Other investing cash flow -4070.5 -8218.6 -14174 -451.5 -486.0

Cash flow from invest (3) -19418 -25504 -26650 -14581 -19394

Incr / (decr) in equity 4202.8 3289.2 -1136.4 462.7 497.2

Incr / (decr) in debt 0.00 6022.5 -399.3 0.00 0.00

Ordinary dividend paid -6605.6 -12794 -14594 -14884 -19464



Cash flow from fin (5) -2402.8 -3482.2 -16130 -14421 -18967


Inc/(decr) cash (1+3+5+6) 1332.3 8326.5 3990.9 27434.3 26398.2

Equity FCF (1+2+4) 16141.1 25175.4 34570.5 42307.1 45850.7


year to Mar

58

301


TATA CONSULTANCY SERVICES: PERFORMANCE AND VALUATION

Standard ratios Tata Consultcy Infosys Technologies Wipro


Sales growth (%) 36.2 40.7 22.5 23.2 22.9 20.2 27.2 23.1 32.9 31.5 27.3

EBITDA growth (%) 34.6 37.3 17.3 21.6 22.0 19.2 24.9 22.7 14.0 21.9 25.0

EBIT growth (%) 31.9 36.1 15.7 21.2 21.6 19.3 24.0 21.7 10.8 20.7 25.8


EBITDA margin (%) 27.9 27.2 26.1 25.7 25.5 31.3 30.8 30.7 19.5 18.1 17.8

EBIT margin (%) 25.8 24.9 23.5 23.1 22.9 27.7 27.0 26.7 16.7 15.3 15.1




ROIC (%) 95.1 71.4 54.6 48.1 47.9 77.4 72.6 68.6 55.4 31.2 31.3

ROIC - WACC (%) 80.9 57.2 40.3 33.9 33.7 63.2 58.3 54.3 41.1 16.9 17.1


Valuation

EV/sales (x) 6.76 4.79 3.89 3.06 2.41 5.08 3.86 3.01 3.14 2.38 1.86

EV/EBITDA (x) 24.2 17.6 14.9 11.9 9.45 16.2 12.5 9.81 16.1 13.1 10.4


EV/EBIT (x) 26.2 19.2 16.5 13.2 10.5 18.4 14.3 11.3 18.8 15.5 12.3



Equity FCF yield (%) 1.80 2.80 3.85 4.71 5.10 3.21 4.46 5.20 4.02 3.20 3.29

Normalised PE (x) 30.9 21.8 17.7 15.5 13.6 20.5 16.8 14.6 19.7 16.8 14.6


Dividend yield (%) 0.73 1.25 1.42 1.42 1.85 0.86 1.17 1.35 1.85 2.32 2.32










Priced as follows: TCS.BO - Rs918.40; INFY.BO - Rs1630.30; WIPR.BO - Rs431.65 Source: Company data, ABN AMRO forecasts

TATA CONSULTANCY SERVICES: VALUATION METHODOLOGY Economic Profit Valuation INR m % Discounted Cash Flow Valuation INR m %













Sensitivity Table

#REF! 15 18 20 23 25

12.3% 1774.74 1926.37 2028.79 2184.49 2289.68

13.3% 1564.55 1683.64 1763.11 1882.46 1962.15

14.3% 1386.42 1480.20 1542.04 1633.85 1694.47

15.3% 1234.83 1308.86 1357.12 1427.99 1474.28

16.3% 1105.30 1163.88 1201.66 1256.55 1292.04


2008 2009 2010






(2012 - 2023)

WA

CC

0%

10%

20%

30%

40%

50%

60%

70%

2008

2010

2012

2014

2016

2018

2020

2022

2024

2026

2028

2030

2032

0

10,000

20,000

30,000

40,000

50,000

60,000

70,000




WACC

1. In periods following the Explicit Period i.e. Phase 2 and Phase 3 2. Remaining Business is defined as Capital as at the end of Phase 1 and capex = depreciation thereafter 3. Net Investment is defined as capex over and above depreciation after Phase 1 Source: ABN AMRO forecasts

59

302



Tata Consultancy Services


TCS is India's largest IT company, and one of its oldest. It is part of the diversified TATA Group,one of the largest conglomerates in Asia. TCS has more than 108,000 employees, including those atits subsidiaries, and has 857 clients across the globe. The company provides a comprehensive range of IT services to industries such as banking and financial services, insurance, manufacturing,telecommunications, retail and transportation.

40

50

60

70

80

90

100

110

Feb05

Jun05

Sep05

Jan06

May06

Aug06

Dec06

Apr07

Jul07

Nov07

Feb08


Others6%Indian

FIs/MFs5%FIIs

11%

Promoters78%


Market data Headquarters 11th floor, Air India Building, Nariman Point, Mumbai 400 021

Website www.tcs.com


Freefloat 22%

Majority shareholders Tata Sons Ltd. (75%), Life Insurance Corp of India (2%)

Supplier power 2- Bargaining power shifting to employees due to increased employment options - MNC product vendors, MNC IT services capacities and client insourcing.

Barriers to entry 2- Low entry barrier to offshore IT services business. MNCs are ramping up capacities and employee strength. However, for large deals, size is a differentiator.

Customer power 2- Increasing customer bargaining power as offshore becomes mainstream and key service offeringsare commoditised. New intermediaries are aiding better price discovery.

Substitute products 5+Other offshore locations such as those in Eastern Europe, the Philippines and China. However, webelieve this should have an impact only in the medium to long term.

Rivalry 2- Intense rivalry due to similar commoditised offerings and same 'low-cost, little differentiation' positioning.


India


We expect Indian growth to remain robust in 2008, driven by domestic demand due to the rise inwages and farm incomes. We see a structural growth story emerging in real estate and agriculture,in line with the government's 11th five-year development plan of redistributing income beyond the city centres. As monetary policy will likely be less tight, we look for consumer spending to rebound.We remain selective buyers of consumer discretionary and consumer staples, especially in upstreamindustries such as cold chain, agri-businesses and organised retail. We think the IT sector is alsoworth a fresh look as valuations look increasingly undemanding at present levels and major playershave demonstrated an ability to protect their margins.


50

70

90

110

130

150

170

190

210

230

250

Feb05

Jun05

Sep05

Jan06

May06

Aug06

Dec06

Mar07

Jul07

Oct07

Feb08

0

5

10

15

20

25

Buy Hold Sell

Source: Bloomberg

Strengths 5 A large resource base - 108,000 employees including those at subsidiaries in 3Q08; recognisedtechnical skills - 3% of revenues derived through IP assets; experience in executing large projects;marquee client list - 857 active global clients as of 3Q08.

Weaknesses 3 The platform-based outsourcing model is still evolving. Further, the pace of integration ofsubsidiaries such as Diligenta, TCS Chile and Tata Infotech has been slower than anticipated.

Opportunities 5 Growing market acceptance for offshore in large (US$100m-plus) deals. Leverage on onsite/offshore mix could help improve financial performance. Emerging services such as IMS and SI, where it has strong execution experience in the domestic market.

Threats 3 Expansion of offshore operations by global vendors could keep wage pressures high. Expandingpresence in non-Indian delivery locations introduces country-specific risks. Adverse exchange rate movement.



60

303

Caravan moving along

We cut our FY09F EPS by 6% to build in a muted near-term volumegrowth outlook for the global IT services business, but traction inWipro Infotech and acquisition integration should support headlinenumbers. Buy with new Rs550 target price (from Rs633). Key forecasts

FY06A

FY07A

FY08F

FY09F

FY10F

Revenue (Rsm) 106107 149430 198578 261108 332423

EBITDA (Rsm) 25398.4 33993.4 38767.0 47246.4 59058.4

Reported net profit (Rsm) 20283.5 29167.8 31942.4 37278.7& 42915.1&


Normalised EPS (Rs) 14.3 20.2 21.9 25.6 29.5&

Dividend per share (Rs) 5.00 6.00 8.00& 10.0& 10.0&

Dividend yield (%) 1.16 1.39 1.85 2.32 2.32

Normalised PE (x) 30.2 21.4 19.7 16.8 14.6%

EV/EBITDA (x) 23.3 17.1 16.1 13.1 10.4


ROIC (%) 65.4 65.7 55.4 31.2 31.3



Global IT services – volumes may soften, but pricing could surprise We expect near-term volume growth in organic IT services to be under pressure on macro uncertainties and continued softness in product engineering. We marginally lower FY09 volume growth estimates by 3%. However, we believe realisation could see an uptick. Wipro has been implementing stringent internal controls for project approvals; we expect to see more visible results beginning in FY09. This can partly offset the volume impact. Also, a full year of integrating the Infocrossing acquisition should help boost headline US$ revenue growth to 35% in FY09. We estimate a 24% CAGR over FY08-11 in the BPO business (6% of consolidated revenues) with an increasing nonlinear business model that should help margin defence.

Time for the other businesses to enter the limelight We expect traction in the non-Global IT/BPO services businesses to continue. The domestic and APAC IT business, Wipro Infotech (18% of group revenues), is gaining traction in the domestic system integration market. We expect 34% CAGR with minimal decline in margins as the share of services picks up. The consumer care business (7% of revenues) has gained scale by acquiring Unza. We expect a stable 25% revenue CAGR, albeit with declining margins. Wipro Infrastructure (6% of revenues) should have a stable 23% CAGR over FY08-11. Overall, we expect the share of non-Global IT/BPO services business to increase by 123bp over FY08-10.

Maintain Buy at a reduced target price of Rs550 (from Rs633) For the Global IT/BPO businesses, we estimate a 28.4% organic CAGR in US$ revenue over FY08-11; including Infocrossing, it would be 30%. We expect more focus on utilisation and believe pricing should help manage margins. However, we retain our cautious outlook on a broad margin improvement in Infocrossing. Factoring in the latest FX forecasts, we reduce EPS by 5.6% in FY09 and 6.4% in FY10. We cut our target price more sharply by 13%, due to our sectoral thesis that valuation rerating will be slow and back-ended, in line with our outlook on volume growth. We expect the valuation differential with Infosys to converge given missing organic growth triggers. Our target puts Wipro at 19x FY10F EPS, a 2% discount to Infosys.


Software & Services

India


Analysts






Price (Rs) 439.8 436.5 668.3

Absolute % -1.9 -1.1 -35.4

Rel market % -2.6 3.7 -48.3

Rel sector % -7.8 2.2 -18.3

Price


Rs550.00 (from Rs633.00)




WIPR.BO WPRO IN





Wipro

250

500

750

1000

1250Feb 05 Mar 06 Mar 07

WIPR.BO Sensex




52-week range: 682.00-325.00

Sensex: 17734.68



61

304


W I P R O 2 2 F E B R U A R Y 2 0 0 8 2

Buy reiterated We cut our FY09F EPS by 6% to build in a muted near-term volume growth

outlook for the global IT business. Traction in other business and integration

of acquisitions should support headline numbers, though.

Reiterate Buy; new DCF-based target price Rs550 (from Rs633)

We revise our forecasts, factoring in 3Q08 results, 4Q08 guidance and the outlook for

CY08 IT budgets given by management and peers. We now project FY07-11 revenue

CAGR of 29.2% (34.8% in US dollar terms) and net income (pre-extraordinaries)

CAGR of 17%. Our target price cut of 13% reflects changes to our DCF assumptions

and earnings revisions. At our target price, the stock would be valued at 21.5x FY09F

basic EPS, implying 27.4% upside potential from current levels.

Key downside risks to our target price are: 1) rupee appreciation exceeding the level

we assume; 2) a slowdown in the US economy that could affect corporate IT

spending; and 3) strong regulatory action against outsourcing in the US or Europe.

Upside risks are: 1) rupee depreciation; 2) acquisitions/large deal wins not built into

our model; and 3) Wipro securing higher pricing growth than is built into our model.




OLD 39.91 38.76 38.00

NEW 39.71 38.44 37.61

Change -0.5% -0.8% -1.0%


IT services

Total employees - delivery Utilisation

OLD 57,235 71,635 87,235 OLD 72.3% 74.1% 75.1%

NEW 54,847 69,247 84,847 NEW 72.7% 74.5% 75.5%

Change -4.2% -3.3% -2.7% Change 35bp 34bp 34bp


OLD 449,318 577,636 720,490 OLD 30.8% 30.5% 30.0%

NEW 441,653 558,940 702,087 NEW 30.9% 30.5% 30.0%

Change -1.7% -3.2% -2.6% Change 10bp 0bp 0bp

Billing rate (US$/p-m) - Onsite Billing rate (US$/p-m) - Offshore

OLD 11,422 11,822 12,288 OLD 4,287 4,444 4,637

NEW 11,479 12,013 12,499 NEW 4,275 4,425 4,647

Change 0.5% 1.6% 1.7% Change -0.3% -0.4% 0.2%


Global IT

Revenue (Rs m) EBITDA margin

OLD 138,389 180,906 228,579 OLD 25.2% 24.0% 24.1%

NEW 136,396 176,562 224,741 NEW 24.9% 23.6% 23.2%

Change -1.4% -2.4% -1.7% Change -29bp -46bp -96bp

Consolidated

Revenue (US$m) Revenue (Rs m)

OLD 5,074 6,912 8,927 OLD 202,535 267,896 339,208

NEW 5,000 6,792 8,839 NEW 198,578 261,108 332,423

Change -1.5% -1.7% -1.0% Change -2.0% -2.5% -2.0%

EBITDA margin EPS - basic

OLD 19.3% 18.3% 18.2% OLD 22.30 27.03 31.38

NEW 19.5% 18.1% 17.8% NEW 21.98 25.52 29.38

Change 23bp -19bp -39bp Change -1.4% -5.6% -6.4%



economist



management’s hiring targets and

9M08 performance

We factor in sluggish volume

growth in the organic IT services

business in the near term


pressures – MSAs renegotiated in

FY08 should help sustain short-

term realisation improvement

We factor in the sharp qoq drop

in Infocrossing margins reported

in 3Q08

We leave our revenue forecasts

largely unchanged

Our other income forecasts for

FY09/10 are up based on lower

capex assumptions

We assume phase-out of STPI




62

305

W I P R O 2 2 F E B R U A R Y 2 0 0 8 3


Chart 1 : Wipro – price to 12-month forward EPS valuation band movement

200

250

300

350

400

450

500

550

600

650

700




Chart 2 : Wipro 12-month forward PER valuation premium/discount to Infosys

-15.0%

-10.0%

-5.0%

0.0%

5.0%

10.0%

15.0%

20.0%

25.0%

30.0%



Wipro is now trading at multi-

year low PE valuations, which

should restrict significant

downside from current levels However, we expect the stock

to remain range-bound in the

near term; investor concerns

about CY08 IT budgets and the

anticipated guidance to be

addressed in April 2008

We believe Wipro’s PE premium

to Infosys has disappeared

over the past few quarters, as

Wipro Tech’s organic top-line

growth has been lower than

that of Infosys over this period

We expect the current trend to

be sustained over the medium

term, until Wipro’s organic

revenue growth starts tracking

that of its peer group

63

306

A P P E N D I X

W I P R O 2 2 F E B R U A R Y 2 0 0 8 4



(Rs m) 1Q07 2Q07 3Q07 4Q07 FY07 1Q08 2Q08 3Q08 Comments

WIPRO LTD

Consolidated revenues 31,312 35,138 39,636 43,344 149,430 41,832 47,281 52,361

Change (yoy/qoq) 2.5% 12.2% 12.8% 9.4% 40.8% -3.5% 13.0% 10.7%

Cost of revenue 21,182 23,841 27,360 29,817 102,200 29,096 33,009 37,120

Gross profit 10,929 12,181 13,104 14,474 50,689 13,784 15,283 16,420

Gross margin 34.9% 34.7% 33.1% 33.4% 33.9% 32.9% 32.3% 31.4%


EBITDA 7,446 8,255 8,859 9,433 33,993 8,906 9,295 9,846

EBITDA margin 23.8% 23.5% 22.4% 21.8% 22.7% 21.3% 19.7% 18.8%

Depreciation & amortisn 941 1,071 1,010 1,090 4,113 1,269 1,222 1,530

EBIT 6,505 7,184 7,849 8,343 29,881 7,637 8,073 8,316

EBIT margin 20.8% 20.4% 19.8% 19.2% 20.0% 18.3% 17.1% 15.9%

Nonoperating income 512 756 559 827 2,653 219 833 1,038


Income tax expense 979 1,068 1,080 596 3,723 839 865 1,074

Net income from ops 6,038 6,871 7,328 8,574 28,811 7,017 8,041 8,280

Change (yoy/qoq) 2.0% 13.8% 6.7% 17.0% 44.1% -75.6% 14.6% 3.0%

Share in affiliate earnings 65 92 121 39 318 87 84 -14

Share of minority interest 0 0 0 0 0 0 3 5

PAT 6,103 6,963 7,450 8,613 29,129 7,104 8,122 8,261

Change (yoy/qoq) 2.1% 14.1% 7.0% 15.6% 43.6% -17.5% 14.3% 1.7%

Adjusted basic EPS 4.3 4.9 5.2 6.0 20.4 4.9 5.6 5.7

Change (yoy/qoq) 1.8% 13.7% 6.7% 15.2% 41.1% -76.0% 14.3% 1.7%

GLOBAL IT SERVICES

IT services (US$m) 494 539 588 631 2,252 662 727 834

BPO services (US$m) 46 50 53 60 208 64 70 77

Total revenues (US$m) 539 589 641 691 2,460 726 797 910

Change (yoy/qoq) 5.3% 9.2% 8.8% 7.8% 35.5% 5.1% 9.7% 14.3%

Total Revenues (Rs m) 24,513 27,179 28,873 30,357 110,922 30,030 32,285 35,973

Change (yoy/qoq) 7.1% 10.9% 6.2% 5.1% 37.4% -1.1% 7.5% 11.4%

Cost of revenue 15,380 17,176 18,247 19,048 69,850 19,020 20,972 23,579

Gross profit 9,133 10,003 10,626 11,309 41,071 11,010 11,313 12,394

Gross margin 37.3% 36.8% 36.8% 37.3% 37.0% 36.7% 35.0% 34.5%

Total operating exp 2,319 2,378 2,623 3,286 10,605 3,076 3,212 3,739

EBITDA 6,814 7,625 8,003 8,023 30,466 7,934 8,101 8,655

EBITDA margin 27.8% 28.1% 27.7% 26.4% 27.5% 26.4% 25.1% 24.1%

EBIT 5,911 6,653 6,833 7,130 26,528 6,226 7,164 7,443

EBIT margin 24.1% 24.5% 23.7% 23.5% 23.9% 20.7% 22.2% 20.7%

EBIT (ex forex) 5,949 6,659 7,031 7,068 26,707 6,843 6,995 7,279

EBIT margin 24.3% 24.5% 24.4% 23.3% 24.1% 22.8% 21.7% 20.2%

Ex acquisitions, revenues were

up 5.2% qoq; Wipro Infotech’s

revenues grew 5.1% qoq and

36.7% yoy

CoR includes residual impact of

offshore salary hikes and 12%

hikes given to BPO employees

EBITDA margin fell 85bp qoq

due to lower-margin businesses

(Unza, Infocrossing) and salary

hikes

D&A up 25% on consolidation of

asset-intensive Infocrossing

Includes Rs169m forex gains

(Rs58m gain last quarter)

US$2.5bn in hedges at the end

of 3Q08 (from US$1.1bn in

2Q08)

Excluding forex gains, PAT was

flattish qoq

Organic revenue growth of

7.4% in US dollar terms was

0.5% above guidance and 1.1%

below our estimates

CoR up 12% on BPO wage hikes

and residual offshore wage hike

impact

Ex-Infocrossing and forex, we

estimate EBITDA margin was

flat qoq


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W I P R O 2 2 F E B R U A R Y 2 0 0 8 5

A P P E N D I X


Change



Total revenues (US$m) 640.5 796.5 910.1 14.3% 42.1%

- IT services 587.5 726.5 833.6 14.7% 41.9%

- BPO services 53.0 70.0 76.5 9.3% 44.3%

Total revenues (Rs m) 28,873 32,285 35,973 11.4% 24.6%

A. EXECUTION DRIVERS

Utilisation - net (inc trainees) 67.0% 74.7% 73.5% -120bp 650bp

Billed effort (person-months)

Onsite 28,136 33,040 34,971 5.8% 24.3%

Offshore 60,689 74,301 79,273 6.7% 30.6%

Total 88,825 107,341 114,244 6.4% 28.6%

Realisation per employee (US$/person-month) - IT Services

Onsite - IT services 11,012 11,410 11,563 1.3% 5.0%

Offshore - IT services 4,189 4,282 4,280 0.0% 2.2%

Blended 6,350 6,477 6,497 0.3% 2.3%

B. COST DRIVERS

Cost of revenue 18,247 20,972 23,579 12.4% 29.2%

Gross profit 10,626 11,313 12,394 9.6% 16.6%

Gross margin 36.8% 35.0% 34.5% -59bp -235bp

Operating expenses 2,623 3,212 3,739 16.4% 42.6%

EBITDA 8,003 8,101 8,655 6.8% 8.1%


Depreciation and amortization 972 1,106 1,376 24.4% 41.6%

As % of revenue 3.4% 3.4% 3.8% 40bp 46bp

Operating profit (EBIT) 7,031 6,995 7,279 4.1% 3.5%

Operating margin 24.4% 21.7% 20.2% -143bp -412bp

Forex gains/(losses) -198 169 164 -3.0% nm

As % of revenue -0.7% 0.5% 0.5% -7bp 114bp

Reported EBIT 6,833 7,164 7,443 3.9% 8.9%

Reported EBIT margin 23.7% 22.2% 20.7% -150bp -298bp

80bp negative margin impact

due to rupee appreciation

Excluding Infocrossing, IT

services revenues grew 7.2%

qoq

Ex trainees, utilisation was

down 120bp qoq

Volume growth of 6.4% qoq

was the highest among the Top

3 players

Positive qoq realisation growth

in a seasonally weak quarter

BPO wage hikes of about 12%

were given out in the quarter

About 100bp negative impact on

margin due to Infocrossing

D&A as a proportion of revenues

was up 16bp qoq

Onsite wage hikes to negatively

impact margin in 4Q08 by 100bp




Total manpower - Global IT 56,435 61,179 66,176 67,818 72,137 77,478 79,832

Net addition 2,693 4,744 4,997 1,642 4,319 5,341 2,354

IT services

Total manpower 40,496 45,824 49,313 50,354 53,073 57,536 59,925

- Delivery manpower 37,721 42,533 45,692 45,973 47,765 52,035 54,207

Net addition - total 2,841 5,328 3,489 1,041 2,719 4,463 2,389

- Delivery manpower 2,983 4,812 3,159 281 1,792 4,270 2,172

As % of opening base 8.2% 14.1% 8.2% 2.3% 5.9% 9.3% 4.6%

Attrition (quarterly, annualised) 17.0% 18.0% 16.0% 16.9% 20.1% 17.9% 18.2%

Utilisation - net 72.0% 69.0% 67.0% 68.0% 74.5% 74.7% 73.5%

BPO services

Total manpower 15,939 15,355 16,863 17,464 19,064 19,942 19,907

- Delivery manpower 15,391 14,716 16,107 16,630 18,180 18,943 18,716

Net addition - total -148 -584 1,508 601 1,600 878 -35

- Delivery manpower -186 -675 1,391 523 1,550 763 -227

Attrition - Quarterly 27.0% 30.0% 24.0% 25.0% 24.0% 22.0% 18.0%

Utilisation 66.0% 70.0% 68.0% 63.0% 61.5% 66.7% 68.6%

14,500 offers made for

engineering graduates, 3,500

for non-engineering graduates

Utilisation ex trainees was

down 120bp due to seasonal

influx of freshers post-training

Attrition ex involuntary

departures at 15.7% vs 16.7%

in 2Q08

Management emphasised that

employee addition will be a less

important driver of growth in

BPO going forward


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W I P R O 2 2 F E B R U A R Y 2 0 0 8 6

A P P E N D I X



Client base

Active clients 580 612 606 620 647 681 718

Net client addition 71 32 -6 14 27 61 71

Clients attrition -9 22 43 30 12 -2 -32

Revenue per active client (US$m/qtr) 0.93 0.96 1.06 1.11 1.12 1.16 1.18


Top customer 4% 3% 3% 3% 3% 3% 3%

Top 5 15% 14% 14% 14% 14% 14% 14%

Top 10 26% 25% 25% 24% 25% 23% 24%

Non-Top10 74% 75% 76% 76% 75% 77% 76%

New business 3.2 13.5 25.6 33.8 3.6 12.6 20.4

Revenue growth

Top client 11.7% 2.9% 5.5% 1.1% 8.6% 1.8% 11.1%

Top-2 to 5 clients 11.1% 5.4% 8.8% 6.9% 0.3% 10.9% 5.4%

Top-5 clients 11.2% 4.8% 8.0% 5.6% 2.1% 8.8% 6.6%

Top-6 to 10 clients 8.3% 3.2% 7.7% 6.8% 14.5% -4.0% 19.6%

Top-10 clients 10.0% 4.1% 7.9% 6.1% 7.3% 3.1% 12.0%

Non-top-10 clients 3.7% 10.9% 9.1% 8.4% 4.4% 10.7% 6.0%


US$1M+ 233 243 253 262 281 307 313

Change 12 10 10 9 19 26 6

US$5M+ 94 102 101 108 111 118 126

Change 12 8 -1 7 3 7 8

US$10M+ 58 65 70 73 77 77 79

Change 3 7 5 3 4 0 2

US$20M+ 32 35 39 40 41 43 47

Change 3 3 4 1 1 2 4

US$50M+ 5 8 8 8 10 9 12

Change - 3 0 0 2 -1 3

Client mining still trailing peers

– revenue/active client up 2%

qoq and 12% yoy

Financial Services vertical

growth of 9.6% qoq was higher

than company average, in

contrast to market concerns

Recovery in Top 10 client

growth could be reflective of

bounceback in product

engineering revenues – three of

the top 10 clients are in this

vertical

At least five multi-million US

dollar deals in the quarter,

including the breakthrough

US$700m deal with Indian

telecom operator, Aircel




Distribution

ADM 59.6% 58.7% 57.2% 55.9% 55.7% 54.9% 54.8%

Non-ADM, non-BPO 32.0% 32.9% 34.5% 35.5% 35.5% 36.2% 36.2%

Technology Infrastructure Services 9.6% 10.0% 11.1% 11.5% 11.1% 11.4% 11.1%

Testing Services 10.7% 11.1% 11.0% 11.0% 11.2% 11.7% 11.9%

Package Implementation 10.7% 10.8% 11.3% 11.9% 12.0% 11.8% 11.8%

Consulting 1.0% 1.0% 1.1% 1.1% 1.2% 1.3% 1.4%

BPO 8.4% 8.4% 8.3% 8.6% 8.8% 8.9% 9.0%

Total 100% 100% 100% 100% 100% 100% 100%

Revenue (US$m and qoq growth)

ADM 321 346 366 386 404 434 465

Change 3.7% 7.5% 6.0% 5.4% 4.7% 7.3% 7.2%

Non-ADM, non-BPO 173 194 221 245 258 286 307

Change 10.5% 12.2% 14.1% 11.0% 5.1% 11.0% 7.4%

BPO 45 49 53 59 64 70 76

Change -3% 9% 7.5% 11.7% 7.6% 10.1% 8.6%

600bp dip in the share of ADM

over the past eight quarters

Product Engineering business

grew 7.9% qoq, marginally

ahead of overall organic

revenues for the first time over

the past seven quarters


four quarters has been 6.1% for

ADM services, 9.5% for BPO

services and 8.6% for non-

ADM/BPO services


Table 7 : Guidance history

1Q07 2Q07 3Q07 4Q07 1Q08 2Q08 3Q08 4Q08F Comments

Guided revenues (US$m) 533 577 633 685 711 777 905 955

Implied qoq growth 4.0% 7.0% 7.5% 6.9% 2.9% 7.0% 14.5% 4.9%

Actual revenues (US$m) 539 589 641 691 726 797 910 -

Actual qoq growth 5.3% 9.2% 8.8% 7.8% 5.1% 9.7% 14.3% -

Outperformance 1.2% 2.2% 1.3% 0.9% 2.2% 2.7% 0.6% -

Assuming flattish revenues in

acquisitions, we estimate this

builds in 5.2-5.3% qoq growth

in the organic business, in line

with Infosys’ guidance

Source: Company data, ABN AMRO forecasts

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W I P R O 2 2 F E B R U A R Y 2 0 0 8 9

WIPRO: KEY FINANCIAL DATA

Income statement


Revenue 106107 149430 198578 261108 332423

Cost of sales -68817 -98741 -135042 -180179 -231445

Operating costs -11892 -16696 -24768 -33682 -41919

EBITDA 25398.4 33993.4 38767.0 47246.4 59058.4


EBITA 22203.5 29880.9 33108.0 39975.8 50306.7


EBIT 22203.5 29880.9 33108.0 39975.8 50306.7

Net interest 0.00 0.00 0.00 0.00 0.00


Forex gain / (loss) -288.0 -235.7 -625.0 0.00 0.00



Reported PTP 23261.5 32533.5 35746.0 42448.5 53075.4

Taxation -3265.0 -3722.6 -3933.6 -5093.8 -10084

Minority interests -1.00 0.00 -13.0 -20.0 -20.0


Other post-tax items 288.0 357.0 143.0 -56.0 -56.0





Balance sheet


Cash & market secs (1) 39186.0 52060.5 33789.6 36810.9 40386.5

Other current assets 32651.0 49037.8 69835.6 92867.7 118491




Total assets 100266 146102 195561 229702 271390

Short term debt (2) 705.0 2921.8 23578.0 23578.0 23578.0


Long term debt (3) 0.00 859.3 3306.0 3306.0 3306.0


Total liabilities 21502.0 44634.1 75777.3 89726.8 105587

Total equity (incl min) 78764.0 101468 119784 139975 165803

Total liab & sh equity 100266 146102 195561 229702 271390

Net debt (2+3-1) -38481 -48279 -6905.6 -9926.9 -13502


Cash flow statement


EBITDA 25398.4 33993.4 38767.0 47246.4 59058.4

Change in working capital -3723.0 5029.1 4258.6 -9082.6 -9762.9


Taxes paid -3085.0 -3741.1 -3950.1 -5093.8 -10084

Other oper cash items 287.0 317.9 130.0 -76.0 -76.0


Capex (2) -7770.9 -12877 -17187 -15358 -21241

Disposals/(acquisitions) -2357.0 -7033.5 -34463 0.00 0.00

Other investing cash flow -1001.0 98.6 2841.4 0.00 0.00

Cash flow from invest (3) -11129 -19812 -48809 -15358 -21241

Incr / (decr) in equity 9880.1 3242.6 -107.1 0.00 0.00

Incr / (decr) in debt 0.00 859.3 2446.7 0.00 0.00

Ordinary dividend paid -8128.6 -9706.3 -13645 -17087 -17087



Cash flow from fin (5) 1751.5 -5604.5 -11306 -17087 -17087

Forex & disc ops (6) -288.0 -196.6 -625.0 0.00 0.00

Inc/(decr) cash (1+3+5+6) 10558.0 12874.5 -18271 3021.3 3575.6

Equity FCF (1+2+4) 12452.5 25610.6 25281.9 20108.8 20663.1


year to Mar

67

310

W I P R O 2 2 F E B R U A R Y 2 0 0 8 10

WIPRO: PERFORMANCE AND VALUATION

Standard ratios Wipro Infosys Technologies Tata Consultancy Services


Sales growth (%) 30.4 40.8 32.9 31.5 27.3 20.2 27.2 23.1 22.5 23.2 22.9

EBITDA growth (%) 24.2 33.8 14.0 21.9 25.0 19.2 24.9 22.7 17.3 21.6 22.0

EBIT growth (%) 24.2 34.6 10.8 20.7 25.8 19.3 24.0 21.7 15.7 21.2 21.6


EBITDA margin (%) 23.9 22.7 19.5 18.1 17.8 31.3 30.8 30.7 26.1 25.7 25.5

EBIT margin (%) 20.9 20.0 16.7 15.3 15.1 27.7 27.0 26.7 23.5 23.1 22.9




ROIC (%) 65.4 65.7 55.4 31.2 31.3 77.4 72.6 68.6 54.6 48.1 47.9

ROIC - WACC (%) 51.1 51.4 41.1 16.9 17.1 63.2 58.3 54.3 40.3 33.9 33.7


Valuation

EV/sales (x) 5.58 3.90 3.14 2.38 1.86 5.08 3.86 3.01 3.89 3.06 2.41

EV/EBITDA (x) 23.3 17.1 16.1 13.1 10.4 16.2 12.5 9.81 14.9 11.9 9.45


EV/EBIT (x) 26.7 19.5 18.8 15.5 12.3 18.4 14.3 11.3 16.5 13.2 10.5



Equity FCF yield (%) 2.03 4.11 4.02 3.20 3.29 3.21 4.46 5.20 3.85 4.71 5.10

Normalised PE (x) 30.2 21.4 19.7 16.8 14.6 20.5 16.8 14.6 17.7 15.5 13.6


Dividend yield (%) 1.16 1.39 1.85 2.32 2.32 0.86 1.17 1.35 1.42 1.42 1.85










Priced as follows: WIPR.BO - Rs431.65; INFY.BO - Rs1630.30; TCS.BO - Rs918.40 Source: Company data, ABN AMRO forecasts

WIPRO: VALUATION METHODOLOGY Economic Profit Valuation INR m % Discounted Cash Flow Valuation INR m %













Sensitivity Table

#REF! 15 18 20 23 25

12.3% 768.07 826.02 864.32 921.29 958.95

13.3% 669.29 714.21 743.55 786.69 814.89

14.3% 585.95 620.83 643.35 676.11 697.30

15.3% 515.37 542.49 559.81 584.75 600.72

16.3% 455.36 476.48 489.83 508.85 520.92


2008 2009 2010






(2012 - 2023)

WA

CC

0%

10%

20%

30%

40%

50%

60%

2008

2010

2012

2014

2016

2018

2020

2022

2024

2026

2028

2030

2032

2034

-10,000-5,00005,00010,00015,00020,00025,00030,00035,00040,00045,000




WACC

1. In periods following the Explicit Period i.e. Phase 2 and Phase 3 2. Remaining Business is defined as Capital as at the end of Phase 1 and capex = depreciation thereafter 3. Net Investment is defined as capex over and above depreciation after Phase 1 Source: ABN AMRO forecasts

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311

W I P R O 2 2 F E B R U A R Y 2 0 0 8 11


Wipro


Wipro is India's leading IT and BPO outsourcing services provider. Besides global IT servicesexports, it also has a presence in computer hardware, consumer lighting and consumer care. Itsstrengths are in telecom R&D services and infrastructure management services. Its global ITservices business has over 79,000 employees, including around 20,000 employees in BPO services.

40

50

60

70

80

90

100

110

Feb05

Jun05

Sep05

Jan06

May06

Aug06

Dec06

Apr07

Jul07

Nov07

Feb08


Promoters79%

FIIs6%

Indian FIs/MFs

2%

Others11%

ADRs2%


Market data

Headquarters Doddakanneli, Sarjapur Rd, Bangalore-560 035.

Website www.wipro.com


Freefloat 21%

Majority shareholders Promoters & family (80%), HSBC Global Investment funds (2%), Life Insurance Corporation of India (1%)

Supplier power 2- Bargaining power shifting to employees due to increasing options in Indian IT landscape - MNCproduct vendors, MNC IT services capacities, clients, etc.

Barriers to entry 2- Low entry barriers in the offshore IT services business. MNCs are ramping up their capacities andemployee strength in India.

Customer power 2- Increasing customer bargaining power due to offshoring becoming mainstream and key offeringbecoming commoditised. New intermediaries are helping better price discovery.

Substitute products 5+ Other offshore locations like Eastern Europe, the Philippines and China. However, this will impactonly in the medium to long term.

Rivalry 2- Intense rivalry due to similar commoditised offerings and same 'low cost, little differentiation'positioning.


India




50

70

90

110

130

150

170

190

210

230

250

Feb05

Jun05

Sep05

Jan06

May06

Aug06

Dec06

Mar07

Jul07

Oct07

Feb08

0

5

10

15

20

Buy Hold Sell

Source: Bloomberg

Strengths 4 Leading offshore services provider with the widest range of service offerings and technicalcapabilities. Entrepreneurial and risk-taking management.

Weaknesses 2 Lack of a credible global brand and a lack of deep domain capabilities in the large IT spendingverticals of banking, financial services and manufacturing.

Opportunities 4 Increasing market opportunity for Indian offshore IT and IT-enabled services and offshore tobecome mainstream.

Threats 2 Global vendors setting up capacities in India; depreciating dollar, new entrants raising wages andother costs are reducing cost arbitrage in the offshore business.



69

312


70

313

DISCLOSURES APPENDIX


Recommendation structure

Absolute performance, short term (trading) recommendation: A Trading Buy recommendation implies upside of 5% or more and a Trading Sell indicates downsideof 5% or more. The trading recommendation time horizon is 0-60 days. For Australian coverage, a Trading Buy recommendation implies upside of 5% or morefrom the suggested entry price range, and a Trading Sell recommendation implies downside of 5% or more from the suggested entry price range. The tradingrecommendation time horizon is 0-60 days.

Absolute performance, long term (fundamental) recommendation: The recommendation is based on implied upside/downside for the stock from the target price. ABuy/Sell implies upside/downside of 10% or more and a Hold less than 10%. For listed property trusts (LPT) or real estate investment trusts (REIT) therecommendation is based upon the target price plus the dividend yield, ie total return. This structure applies to research on Asian and European stocks publishedfrom 1 November 2005; on Australian stocks from 7 November 2006; on continental European small and mid cap stocks from 23 November 2006; and on Brazilianstocks from 18 June 2007.

Performance parameters and horizon: Given the volatility of share prices and our pre-disposition not to change recommendations frequently, these performanceparameters should be interpreted flexibly. Performance in this context only reflects capital appreciation and the horizon is 12 months.

Sector relative to market: The sector view relative to the market is the responsibility of the strategy team. Overweight/Underweight implies upside/downside of10% or more and Neutral implies less than 10% upside/downside.

Target price: The target price is the level the stock should currently trade at if the market were to accept the analyst's view of the stock and if the necessarycatalysts were in place to effect this change in perception within the performance horizon. In this way, therefore, the target price abstracts from the need to take aview on the market or sector. If it is felt that the catalysts are not fully in place to effect a re-rating of the stock to its warranted value, the target price will differfrom 'fair' value.

Asset allocation: The asset allocation is the responsibility of the economics team. The recommended weight (Over, Neutral and Under) for equities, cash and bondsis based on a number of metrics and does not relate to a particular size change in one variable.

Stock borrowing rating: The stock borrowing rating is the subjective view and responsibility of the ABN AMRO equity finance team: Easy implies ready availability.Moderate implies some availability. Hard implies availability is tight. Impossible implies no availability.

Distribution of recommendations

The tables below show the distribution of ABN AMRO's recommendations (both long term and trading). The first column displays the distribution ofrecommendations globally and the second column shows the distribution for the region. Numbers in brackets show the percentage for each category where ABNAMRO has an investment banking relationship.

Valuation and risks to target price

HCL Technologies (RIC: HCLT.BO, Rec: Buy, CP: Rs284.55, TP: Rs340.00): The key downside risks to our DCF-based target price are: 1) rupee appreciation exceeding the level we assume; 2) a slowdown in the US economy that could affect corporate IT spending; and 3) strong regulatory action against outsourcing in the US or Europe. Upside risks are: 1) rupee depreciation; 2) acquisitions/large deal wins not built into our model; and 3) HCLT securing higher pricing growth than we estimate.

Infosys Technologies (RIC: INFY.BO, Rec: Buy, CP: Rs1630.30, TP: Rs2150.00): Key downside risks to our DCF-based valuation and target price are: 1) the rupee appreciating more than we assume; 2) a slowdown in the US economy that could affect corporate IT spending; 3) strong regulatory action against outsourcing in the US/Europe; and 4) Infosys being unable to sustain its above-industry-average pricing. Upside risks are: 1) rupee depreciation; 2) acquisitions/large deal wins not built into our model; and 3) Infosys securing higher pricing growth than we assume.

Patni Computer Systems (RIC: PTNI.BO, Rec: Hold, CP: Rs264.90, TP: Rs275.00): The key downside risks to our DCF-based target price are: 1) rupee appreciation exceeding the level we assume; 2) a slowdown in the US economy that could affect corporate IT spending; 3) a major breach of data security by an Indian firm resulting in strong regulatory action against outsourcing. Upside could come from: 1) rupee depreciation; and 2) acquisitions/ large deal wins not built into our model.

Satyam Computer (RIC: SATY.BO, Rec: Buy, CP: Rs458.20, TP: Rs540.00): The key downside risks to our target price are: 1) rupee appreciation exceeding the level we assume, 2) a slowdown in the US economy that could affect corporate IT spending, 3) strong regulatory action against outsourcing in the US or Europe, and 4) Satyam being unable to sustain pricing increases. Upside risks are: 1) rupee depreciation, 2) acquisitions/large deal wins not built into our model, and 3) Satyam securing higher pricing growth than that built into our model.

Tata Consultancy Services (RIC: TCS.BO, Rec: Buy, CP: Rs918.40, TP: Rs1230.00): Key downside risks to our DCF-based target price are: 1) rupee appreciation exceeding the level we assume; 2) a slowdown in the US economy that could affect corporate IT spending; 3) strong regulatory action against outsourcing in the US/Europe; and 4) TCS being unable to secure pricing growth at levels factored into our valuation. Upside risks are: 1) rupee depreciation; 2) acquisitions/large deal wins not built into our model; and 3) TCS securing higher pricing growth than that built into our model.

Wipro (RIC: WIPR.BO, Rec: Buy, CP: Rs431.65, TP: Rs550.00): The key downside risks to our DCF-based target price are: 1) rupee appreciating by more than we assume; 2) a slowdown in the US economy affecting corporate IT spending; 3) strong regulatory action against outsourcing in the US or Europe; and 4) if growth in IT spending of telecom equipment clients post M&A activities does not recover to past levels. Upside risks are: 1) rupee depreciation; 2) acquisitions/large deal wins not built into our model; and 3) Wipro securing higher pricing growth than we assume.

Regulatory disclosures

Subject companies: HCLT.BO, INFY.BO, PTNI.BO, SATY.BO, TCS.BO, WIPR.BO

ABN AMRO currently maintains a market in the security of this company and otherwise purchases and sells securities of this company as principal: INFY.BO

Trading recommendations (as at 22 Feb 2008)

Global total (IB%) Asia Pacific total

(IB%)

Trading Buy 5 (20) 3 (0)

Trading Sell 1 (0) 1 (0)

Total (IB%) 6 (17) 4 (0)

Long Term recommendations (as at 22 Feb 2008)

Global total (IB%) Asia Pacific total

(IB%)

Buy 612 (15) 397 (4)

Add 0 (0) 0 (0)

Hold 418 (19) 250 (5)

Reduce 0 (0) 0 (0)

Sell 69 (10) 43 (5)

Total (IB%) 1099 (16) 690 (4)

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DISCLOSURES APPENDIX


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315

Asia India Technology

4 January 2008

Indian IT Services Expect steady 3Q but limited macro clarity Ajay Mathrani, CFA Research Analyst (+91) 22 6658 4070 [email protected]

Aniruddha Bhosale Research Associate (+91) 22 6658 4037 [email protected]

Focus on trends in pricing and hiring We expect a stable 3Q with firms marginally outperforming previous guidance. However, we believe the deadlock between mgmt commentary and top-down demand indicators will continue. It’s too early for clarity on 2008 tech budgets due to mixed economic datapoints, while mgmt teams maintain there is no visible slowdown. We use hiring and pricing trends to assess sector fundamentals. We expect 25-27% constant currency growth (base case). Top picks: INFY and TCS as preferred sector proxies; TEML for accelerated qoq growth.

Deutsche Bank AG/Hong Kong

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DISCLOSURES AND ANALYST CERTIFICATIONS ARE LOCATED IN APPENDIX 1

Results Preview

Top picks Infosys Technologies (INFY.BO),INR1,694.80 BuyMindTree Consulting (MINT.BO),INR512.30 SellTata Consultancy (TCS.BO),INR1,005.10 Buy

Companies featured

Firstsource Solutions Ltd (FISO.BO),INR80.60 Buy2007A 2008E 2009E

P/E (x) 29.6 24.5 17.3EV/EBITDA (x) 10.6 12.4 8.7Price/book (x) 2.9 2.9 2.5HCL Tech (HCLT.BO),INR314.40 Hold

2007A 2008E 2009EP/E (x) 16.1 17.3 14.3EV/EBITDA (x) 13.5 11.6 9.4Price/book (x) 4.9 4.1 3.6Infosys Technologies (INFY.BO),INR1,694.80 Buy

2007A 2008E 2009EP/E (x) 29.0 21.4 17.7EV/EBITDA (x) 22.7 17.0 13.4Price/book (x) 10.2 6.5 5.1MindTree Consulting (MINT.BO),INR512.30 Sell

2007A 2008E 2009EP/E (x) 32.3 21.6 16.6EV/EBITDA (x) 23.5 14.4 10.3Price/book (x) 7.2 3.8 3.2Patni Computer Systems Ltd (PTNI.BO),INR319.90

2006A 2007E 2008EP/E (x) 20.7 10.0 10.1EV/EBITDA (x) 8.0 6.3 5.1Price/book (x) 2.5 1.7 1.5Satyam Computer (SATY.BO),INR422.25 Hold

2007A 2008E 2009EP/E (x) 19.9 16.4 13.4EV/EBITDA (x) 15.3 12.8 9.6Price/book (x) 5.5 4.0 3.2Tata Consultancy (TCS.BO),INR1,005.10 Buy

2007A 2008E 2009EP/E (x) 25.8 19.3 15.8EV/EBITDA (x) 20.3 15.4 11.8Price/book (x) 13.4 7.8 5.8Wipro (WIPR.BO),INR496.85 Buy

2007A 2008E 2009EP/E (x) 26.5 22.0 18.3EV/EBITDA (x) 21.2 17.4 13.5Price/book (x) 8.5 6.2 5.1Tech Mahindra Ltd (TEML.BO),INR1,120.25 Buy

2007A 2008E 2009EP/E (x) 24.0 18.2 13.7EV/EBITDA (x) 17.4 14.3 9.6Price/book (x) 18.8 8.2 5.3

Co

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any

Glo

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Mar

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Expect steady quarter highlighting current demand on track We expect 6-8% qoq growth in the sector’s revenues, 28 bps EBITDA margin expansion on better pricing and utilization, and 4.7% qoq growth in net profit. However, barring negative surprises which could trigger a downward trend, we do not expect this quarter’s results to indicate a firm sector trend by providing clarity on our and the market’s #1 concern regarding 2008 technology budgets in a slowing growth scenario. We believe hiring trends could help crosscheck management commentary on robust demand while a positive pricing trend would increase confidence in ability to manage margins longer term.

US slowdown: Structural story remains intact Our worst-case scenario for FY09 is 16-17% growth (constant currency terms) assuming a US recession-led absolute decline in global tech spending. Our base case is 25-27% growth, which assumes 2.1% US GDP growth in CY08 and moderate growth in global tech budgets. We believe Indian IT services’ competitive positioning in the global IT services industry and hence longer-term growth trajectory will be unaffected by a cyclical slowdown. There is also a possibility, albeit untested as yet, that Indian firms could gain in a slowdown scenario through higher ‘cost-focused’ off shoring.

Multiples are close to trough; Infosys and TCS are our top picks We continue to see a ‘negative’ newsflow environment in 1HCY08. Marginal positive data points could be healthy guidance and a quantification of clients’ budget expectations. Valuations remain close to troughs reached when Infosys guided to only 13% EPS growth in April 2003 and the stock traded at 17x 1-year forward guidance. It now trades at 17.7x FY09E earnings. Our top picks are Infosys (Buy, TP INR2,160) and Tata Consultancy (TCS) (Buy, TP INR1,320) given their lower vulnerability to a US slowdown and lower-than-historic relative valuations to our Hold rated stocks—Satyam (Hold, TP INR450) and HCL Tech (Hold TP INR310). Among mid-tier IT stocks, we have a Buy on Tech Mahindra (TP INR1,500) and Sell on MindTree (TP INR460). Key industry risks to our primarily P/E-based price targets include overhang from the subprime crisis leading to worries about global technology spend, higher-than-expected rupee appreciation, more severe than expected economic slowdown in the US and aggressive steps taken by global vendors to adopt the offshore model, leading to competition for both clients and employees.

316

4 January 2008 Technology Indian IT Services

Page 2 Deutsche Bank AG/Hong Kong

Expect steady 3QFY08 Steady quarter indicating current demand on track

We expect 5-8% revenue growth (US% terms), EBITDA margin expansion of 28 bps and Profit after tax (PAT) growth of 4.7% qoq as we expect hedge income to be lower this quarter given that the end of period appreciation is c0.9% vs. 2.3% in the previous quarter.

We expect 4Q and FY08 guidance to inch up on two counts: a) 1-2% outperformance in 3Q and b) guidance likely to assume modest rupee appreciation given that the rate at the start of quarter is equal to the average rate for the Dec quarter.

Figure 1: Dec-Q results preview Income statement (INR mn)

Dec-07 Sep-07 qoq (%) Dec-06 yoy (%)

Sector Average *

Revenue 30,244 28,308 6.8% 24,378 24.1%

EBITDA 7,398 6,844 8.1% 6,489 14.0%

EBIT 6,544 6,045 8.2% 5,791 13.0%

PAT 6,251 5,971 4.7% 5,368 16.4%

EBITDA Margin 24.5% 24.2% 28 bps 26.6% (216) bps

Infosys

Revenue 43,454 41,060 5.8% 36,550 18.9%

EBITDA 13,804 12,840 7.5% 11,966 15.4%

EBIT 12,263 11,400 7.6% 10,556 16.2%

PAT 11,889 11,000 8.1% 9,836 20.9%


TCS

Revenue 59,664 56,398 5.8% 48,605 22.8%

EBITDA 15,977 14,820 7.8% 13,752 16.2%

EBIT 14,492 13,439 7.8% 12,673 14.4%

PAT 13,134 12,469 5.3% 11,047 18.9%


Wipro

Revenue 52,080 47,574 9.5% 39,726 31.1%

EBITDA 10,121 9,499 6.5% 8,827 14.7%

EBIT 8,789 8,254 6.5% 7,816 12.4%

PAT 8,272 8,237 0.4% 7,654 8.1%

EBITDA margin 19.43% 19.97% (53) bps 22.22% (278) bps

Satyam

Revenue 21,774 20,317 7.2% 16,611 31.1%

EBITDA 4,604 4,027 14.3% 4,100 12.3%

EBIT 4,196 3,636 15.4% 3,706 13.2%

PAT 4,306 4,091 5.2% 3,372 27.7%

EBITDA margin 21.15% 19.82% 133 bps 24.68% (354) bps

Expect 6.8% qoq rev growth,

4.7% PAT growth and 28 bps

EBITDA margin expansion

Infosys – Highest net income

growth among large caps

aided by absence of extra

bonus paid in 2Q (prev qtr)

TCS – EBITDA margin

expansion of 50 bps; Hiring

target key to watch

Wipro – Consolidation of

Infocrossing acquisition to

boost revenue growth but

impact margins

Satyam – Margin expansion

of 133 bps as efficiencies

absorb wage hikes of

previous quarter

317


Deutsche Bank AG/Hong Kong Page 3

HCL Tech

Revenue 18,064 17,092 5.7% 14,651 23.3%

EBITDA 3,829 3,639 5.2% 3,241 18.1%

EBIT 3,129 2,953 6.0% 2,618 19.5%

PAT 3,290 3,083 6.7% 2,863 14.9%

EBITDA margin 21.20% 21.29% (9) bps 22.12% (92) bps

MindTree

Revenue 1,900 1,820 4.4% 0 NA

EBITDA 317 295 7.2% 0 NA

EBIT 230 214 7.3% 0 NA

PAT 272 271 0.3% 0 NA

EBITDA margin 16.66% 16.22% 44 bps #DIV/0! NA

Tech Mahindra

Revenue 9,918 8,976 10.5% 7,698 28.8%

EBITDA 2,288 1,972 16.0% 2,073 10.4%

EBIT 2,068 1,779 16.3% 1,936 6.8%

PAT 2,019 1,817 11.1% 1,668 21.0%


Patni

Revenue 6,751 6,736 0.2% 6,805 -0.8%

EBITDA 1,161 1,110 4.6% 1,467 -20.8%

EBIT 870 855 1.7% 1,228 -29.2%

PAT 845 1,098 -23.0% 1,135 -25.6%


Firstsource

Revenue 3,946 2,805 40.6% 0 NA

EBITDA 809 577 40.2% 0 NA

EBIT 499 363 37.3% 0 NA

PAT 458 454 0.9% 0 NA

EBITDA margin 20.50% 20.57% 7 bps - NASource: Deutsche Bank,* excludes numbers for Mindtree and Firstsource due to non availability of comparable data for Dec-06 quarter

Rupee appreciation impact—hedge income to be lower A key point to note is that the rupee has appreciated 2.6% vs. the USD over the quarter (month end average rates) while only 0.9% on quarter end rates (relevant for gains on forex hedges). We expect hedge income to be lower this quarter vs. the Sept quarter.

Figure 2: Rupee appreciation INR/USD INR/EUR INR/GBP

3QFY08 average 39.48 57.20 80.70

4Q/3Q -2.6% 2.7% -1.5%

3Q/2Q -1.8% 0.2% 0.0%

2Q/1Q -6.6% -3.9% -5.1%

3QFY08 -Period end rate 39.42 57.51 78.23

4Q/3Q -0.9% 2.9% -1.4%

3Q/2Q -2.3% 0.7% 0.3%

2Q/1Q -6.4% -4.2% -5.3%Source: Bloomberg

HCLT – BPO growth to be

muted, EBITDA margin

steady despite headline per

capita wages moving up

MindTree – Steady quarter,

key to watch is outlook on

application development

budgets

Tech Mahindra – Expect

acceleration in revenue

growth on BT contracts,

Could kick start QoQ growth

momentum

Patni – Subdued quarter as

per guidance; expect

stability at the margin.

Hiring is key to watch

Firstsource – Medassist

acquisition to boost revenue

growth but be cEPS neutral

318



No macro clarity just yet

We believe the biggest investor concern is 2008 technology budgets in light of a potential US slowdown that will continue to linger even after this quarter’s reporting season. Stock prices have maintained their trend of June to December being a better period for stock performance than 1H. We expect uncertainty visible in previous years to also remain present in 1QCY08.

Deutsche Bank’s economists expect 2.1% and 2.2% growth in CY07 and CY08, respectively, down from 2.9% in CY06. While this could have some impact on technology spend and a derivative impact on Indian IT services, it is definitely not a sure sign that IT spend will decline yoy. However, mixed/weak datapoints are expected to continue in 1HCY08 given that monetary policy would work with a lag. For instance, strong consumer spending data for November has been balanced by a weaker-than-expected jobs report in the US.

Figure 3: Six monthly returns 6 months ending Infosys Wipro Satyam SENSEX CNX IT Nasdaq

Dec-98 33.2% -1.6% 75.7% -6.0% 17.7% 15.7%

Jun-99 145.5% 123.9% 74.5% 35.5% 92.5% 22.5%

Dec-99 300.5% 216.0% 247.2% 20.9% 207.5% 50.3%

Jun-00 14.7% 11.5% 35.7% -5.1% 1.6% -1.8%

Dec-00 -31.4% -17.0% -45.8% -16.4% -30.7% -37.7%

Jun-01 -33.9% -41.8% -47.2% -13.0% -44.5% -12.5%

Dec-01 8.6% 14.5% 39.1% -5.6% 12.1% -9.8%

Jun-02 -19.1% -7.4% -2.3% -0.5% -9.4% -25.0%

Dec-02 45.7% 10.0% 21.1% 4.1% 15.2% -8.7%

Jun-03 -31.2% -41.9% -30.8% 6.8% -31.8% 21.5%

Dec-03 70.9% 83.7% 93.8% 61.9% 81.1% 23.5%

Jun-04 -0.5% -7.9% -16.9% -17.9% -10.2% 2.2%

Dec-04 51.7% 40.6% 36.1% 37.7% 38.8% 6.2%

Jun-05 13.2% 3.0% 23.8% 9.0% 4.6% -5.4%

Dec-05 27.4% 21.1% 46.8% 30.6% 27.2% 7.2%

Jun-06 3.0% 12.0% -3.6% 12.9% 1.3% -1.5%

Dec-06 46.0% 17.7% 37.3% 30.0% 37.3% 11.2%

Jun-07 -13.6% -13.3% -3.4% 6.3% -4.4% 7.8%

Dec-07 -8.0% 1.8% -3.1% 38.5% -7.3% 1.9%Source: Bloomberg

… But valuations are close to trough levels

Figure 4: Comparative valuation Company Infosys TCS Wipro Satyam HCLTech Mindtree TechMahin

dra Patni Firstsource

Bloomberg Code INFY.BO TCS.BO WIPR.BO SATY.BO HCLT.BO MINT.BO TEML.BO PTNI.BO FISO.BO

Target Price 2160 1320 560 450 310 460 1500 420 95

Market Price (INR) 1,695 1,005 497 422 314 512 1,120 320 81

Average M CAP (INR mn) 978,482 996,225 723,007 284,526 202,242 20,005 137,123 44,786 34,262

Average M CAP (US$. mn) 24,814 25,264 18,335 7,216 5,129 507 3,477 1,137 869

EV (INR mn) 870,772 934,245 655,884 225,721 180,451 17,386 122,927 28,893 30,091

Valuation

FY06/CY05 6.9 5.4 5.0 3.4 3.4 NM NM 1.5 NM

FY07/CY06 7.2 5.5 4.8 3.6 3.0 4.4 4.4 1.1 2.1

FY08/CY07 5.4 4.2 3.4 2.9 2.4 2.4 3.4 1.1 2.5 EV/Sales

FY09/CY08 4.1 3.2 2.6 2.1 1.9 1.7 2.3 0.9 1.7

EV/ EBITDA FY06/CY05 21.2 19.5 21.1 14.0 15.2 NM NM 7.5 NM

319



FY07/CY06 22.7 20.3 21.2 15.3 13.5 23.5 17.4 5.5 10.6

FY08/CY07 17.2 15.6 17.4 13.0 11.5 14.9 14.5 5.9 12.4

FY09/CY08 13.5 11.9 13.5 9.8 9.3 10.7 9.7 5.2 8.7

FY06/CY05 24.7 21.1 24.0 15.9 19.1 NM NM 9.1 NM

FY07/CY06 25.7 22.2 24.0 16.9 16.6 30.2 18.7 6.6 17.4

FY08/CY07 19.7 17.2 20.2 14.3 14.2 21.5 15.9 7.4 17.9 EV/ EBIT

FY09/CY08 15.7 13.0 15.6 10.9 11.6 14.8 10.6 6.8 12.1

FY06/CY05 28.4 25.0 28.3 17.6 21.7 NM NM 15.1 NM

FY07/CY06 28.0 25.8 26.5 19.9 16.1 32.3 121.2 16.6 29.6

FY08/CY07 21.7 19.5 22.0 16.6 17.1 22.4 18.4 10.0 24.5 P/E

FY09/CY08 17.9 16.0 18.2 13.5 14.1 17.2 13.9 10.1 17.3

FY06/CY05 40.35 63.80 34.76 29.99 19.83 41.73 42.74 13.40 5.88

FY07/CY06 42.32 54.78 36.29 27.90 31.59 31.92 15.83 12.40 12.98

FY08/CY07 34.86 47.54 31.10 26.86 26.00 19.40 62.17 18.10 13.30 ROE (%)

FY09/CY08 32.40 42.16 30.56 26.27 28.28 20.99 48.89 15.60 16.20

Financials

FY06/CY05 44.7 29.5 14.4 14.6 12.0 17.9 18.7 21.1 0.8

FY07/CY06 65.4 41.4 20.4 21.0 19.1 25.7 49.6 19.3 2.5

FY08/CY07 79.1 52.2 22.5 25.8 18.2 23.7 61.5 32.1 3.3 EPS (INR)

FY09/CY08 95.5 63.6 27.2 31.5 22.0 30.9 81.5 31.8 4.7

FY06/CY05 95,216 132,455 106,029 47,926 44,007 4,488 12,426 19,834 5,487

FY07/CY06 138,930 186,334 149,982 64,850 60,336 5,904 29,290 26,112 8,298

FY08/CY07 167,610 228,278 197,392 82,969 74,426 7,408 38,163 26,839 12,760 Sales (INR mn)

FY09/CY08 211,644 289,487 251,762 105,611 93,610 10,065 52,998 30,733 17,232

FY06/CY05 30,918 36,707 25,374 11,662 9,847 776 2,678 3,847 799

FY07/CY06 43,916 50,742 34,126 15,377 13,371 1,096 7,367 5,214 1,644

FY08/CY07 52,298 61,384 38,320 18,278 15,778 1,177 8,969 4,906 2,535 EBITDA (INR mn)

FY09/CY08 64,300 78,328 48,627 23,141 19,436 1,625 12,687 5,551 3,471

FY06/CY05 26,547 33,897 22,278 10,289 7,815 545 2,280 3,177 347

FY07/CY06 38,776 46,446 30,147 13,892 10,841 852 6,851 4,375 1,002

FY08/CY07 45,742 55,676 32,991 16,600 12,727 816 8,193 3,883 1,752 EBIT (INR mn)

FY09/CY08 55,585 71,741 42,013 20,768 15,548 1,171 11,624 4,273 2,489

FY06/CY05 24,598 28,831 20,674 11,417 7,746 538 2,354 2,678 247

FY07/CY06 38,557 40,558 29,418 14,048 13,551 901 1,214 2,654 973

FY08/CY07 45,504 51,093 33,220 17,389 12,406 928 8,096 4,490 1,519 PAT (INR mn)

FY09/CY08 54,913 62,226 40,037 21,247 15,054 1,209 10,725 4,452 2,147

Growth

FY07/FY06 46% 41% 41% 35% 37% 32% 136% 32% 51%

FY08/FY07 21% 23% 32% 28% 23% 25% 30% 3% 54%

FY09/FY08 26% 27% 28% 27% 26% 36% 39% 15% 35% Sales Growth

FY09/FY07 23% 25% 30% 28% 25% 31% 35% 8% 44%

FY07/FY06 42% 38% 34% 32% 36% 41% 175% 36% 106%

FY08/FY07 19% 21% 12% 19% 18% 7% 22% -6% 54%

FY09/FY08 23% 28% 27% 27% 23% 38% 41% 13% 37% EBITDA Growth

FY09/FY07 21% 24% 19% 23% 21% 22% 31% 3% 45%

FY07/FY06 46% 37% 35% 35% 39% 56% 200% 38% 189%

FY08/FY07 18% 20% 9% 19% 17% -4% 20% -11% 75%

FY09/FY08 22% 29% 27% 25% 22% 44% 42% 10% 42% EBIT Growth

FY09/FY07 20% 24% 18% 22% 20% 17% 30% -1% 58%

FY07/FY06 57% 41% 42% 23% 75% 68% -48% -1% 294% PAT Growth

FY08/FY07 18% 26% 13% 24% -8% 3% 567% 69% 56%

320



FY09/FY08 21% 22% 21% 22% 21% 30% 32% -1% 41%

FY09/FY07 19% 24% 17% 23% 5% 16% 197% 30% 49%

Margins

FY06/CY05 32.5% 27.7% 23.9% 24.3% 22.4% 17.3% 21.6% 19.4% 14.6%

FY07/CY06 31.6% 27.2% 22.8% 23.7% 22.2% 18.6% 25.2% 20.0% 19.8%

FY08/CY07 31.2% 26.9% 19.4% 22.0% 21.2% 15.9% 23.5% 18.3% 19.9% EBITDA Margin

FY09/CY08 30.4% 27.1% 19.3% 21.9% 20.8% 16.1% 23.9% 18.1% 20.1%

FY06/CY05 27.9% 25.6% 21.0% 21.5% 17.8% 12.1% 18.3% 16.0% 6.3%

FY07/CY06 27.9% 24.9% 20.1% 21.4% 18.0% 14.4% 23.4% 16.8% 12.1%

FY08/CY07 27.3% 24.4% 16.7% 20.0% 17.1% 11.0% 21.5% 14.5% 13.7% EBIT Margin

FY09/CY08 26.3% 24.8% 16.7% 19.7% 16.6% 11.6% 21.9% 13.9% 14.4%

FY06/CY05 25.8% 21.8% 19.5% 23.8% 17.6% 12.0% 18.9% 13.5% 4.5%

FY07/CY06 27.8% 21.8% 19.6% 21.7% 22.5% 15.3% 4.1% 10.2% 11.7%

FY08/CY07 27.1% 22.4% 16.8% 21.0% 16.7% 12.5% 21.2% 16.7% 11.9% PAT Margin

FY09/CY08 25.9% 21.5% 15.9% 20.1% 16.1% 12.0% 20.2% 14.5% 12.5% Source: Deutsche Bank, Price as on 4th Dec 07

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Appendix 1 Important Disclosures

Additional information available upon request

For disclosures pertaining to recommendations or estimates made on a security mentioned in this report, please see the most recently published company report or visit our global disclosure look-up page on our website at http://gm.db.com.

Analyst Certification

The views expressed in this report accurately reflect the personal views of the undersigned lead analyst about the subject issuers and the securities of those issuers. In addition, the undersigned lead analyst has not and will not receive any compensation for providing a specific recommendation or view in this report. Ajay Mathrani

Equity rating key Equity rating dispersion and banking relationships

Buy: Based on a current 12- month view of total share-holder return (TSR = percentage change in share price from current price to projected target price plus pro-jected dividend yield ) , we recommend that investors buy the stock. Sell: Based on a current 12-month view of total share-holder return, we recommend that investors sell the stock Hold: We take a neutral view on the stock 12-months out and, based on this time horizon, do not recommend either a Buy or Sell. Notes: 1. Newly issued research recommendations and target prices always supersede previously published research.2. Ratings definitions prior to 27 January, 2007 were:

Buy: Expected total return (including dividends) of 10% or more over a 12-month period Hold: Expected total return (including dividends) between -10% and 10% over a 12-month period Sell: Expected total return (including dividends) of -10% or worse over a 12-month period

11%

29%

60%

6%12%12%

0

100

200

300

400

500

Buy Hold Sell

Asia-Pacific Universe

Companies Covered Cos. w/ Banking Relationship

322



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325

Asia India Technology Software & Services

26 November 2007

Indian IT Services Trough valuations - attractive risk-reward now Ajay Mathrani, CFA Research Analyst (91) 22 6658 4070 [email protected]

Aniruddha Bhosale Research Associate (91) 22 6658 4037 [email protected]

Buy the top tier Post a 22% decline YTD, we find sector multiples close to a 7-yr trough, already factoring in a worst case scenario. Our base case indicates 27-39% upside over 12M for our Buy rated stocks. We believe the structural growth for the Indian IT services remains completely on track; a US slowdown could have a cyclical impact but the worst case (16-17% rev growth in FY09E) is already factored in. Infosys and TCS are our top picks given that they are less vulnerable to a US slowdown and their relative valuations are close to the lower end of their historic band.


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DISCLOSURES AND ANALYST CERTIFICATIONS ARE LOCATED IN APPENDIX 1

Sector Strategy

Top picks Infosys Technologies (INFY.BO),INR1,576.35 BuyTata Consultancy (TCS.BO),INR985.00 BuyWipro (WIPR.BO),INR452.70 Buy

Companies featured

Infosys Technologies (INFY.BO),INR1,576.35 Buy2007A 2008E 2009E

P/E (x) 29.0 19.9 16.5EV/EBITDA (x) 22.7 15.7 12.3Price/book (x) 10.2 6.1 4.8HCL Tech (HCLT.BO),INR310.10 Hold

2007A 2008E 2009EP/E (x) 16.1 17.1 14.1EV/EBITDA (x) 13.5 11.5 9.3Price/book (x) 4.9 4.0 3.6Satyam Computer (SATY.BO),INR426.35 Hold

2007A 2008E 2009EP/E (x) 19.9 16.6 13.5EV/EBITDA (x) 15.3 13.0 9.8Price/book (x) 5.5 4.0 3.2Tata Consultancy (TCS.BO),INR985.00 Buy

2007A 2008E 2009EP/E (x) 25.8 18.9 15.5EV/EBITDA (x) 20.3 15.1 11.5Price/book (x) 13.4 7.7 5.7Wipro (WIPR.BO),INR452.70 Buy

2007A 2008E 2009EP/E (x) 26.5 20.1 16.7EV/EBITDA (x) 21.2 15.8 12.2Price/book (x) 8.5 5.6 4.6

Infosys - TTM PE

1620242832364044

3/01 3/02 3/03 3/04 3/05 3/06 3/07

TTM PER (x) Mean Trough PE

30.6x

17.3x

Source:Bloomberg, Company data

Recommendation summary

Company Target Upside P/E Infosys 2160 39% 23TCS 1320 37% 21Wipro 560 28% 21Satyam 450 8% 14HCL Tech 310 3% 14* FY09E PE on target price

Co

mp

any

Glo

bal

Mar

kets

Res

earc

h

Structural growth story remains intact We re-evaluate the sector in light of three investor concerns about the sector – rupee appreciation, demand slowdown and an expected tax rate increase in FY10E – and believe that the sector’s competitive positioning and longer-term growth trajectory are fairly unaffected by them.

US slowdown: Worst-case scenario projects 16-17% growth in FY09E We ‘stress test’ our FY09 outlook and believe 16-17% growth (constant currency terms) is the worst case, which assumes a US recession–led absolute decline in global tech spending. Our base case is 25-27% growth, which assumes 2.1% US GDP growth in CY08 and moderate growth in global tech budgets.

Multiples are close to trough; we recommend Buying Infosys and TCS While we could face a ‘negative newsflow’ environment for the next couple of quarters, we believe healthy guidance and a quantification of clients’ budget expectations (vs. the current qualitative positive tone) could be the potential triggers. Valuations are close to the troughs reached when Infosys guided to only 13% EPS growth in April 2003 and the stock traded at 17x 1-yr forward guidance. It now trades at 18.8x 1-yr forward earnings, at only a 10% premium to these trough valuations. Even in the worst case, our Buy-rated stocks have 2-8% potential target upside. Our top picks are Infosys (Buy, TP INR2,160) and Tata Consultancy (TCS) (Buy, TP INR1,320) given their lower vulnerability to a US slowdown and lower-than-historic relative valuations to our Hold-rated stocks – Satyam (Hold, TP INR450) and HCL Tech (Hold, TP INR310).

Taking cognizance of risks – higher rupee assumption and lower multiple We reduce our target prices by 10-19% due to a higher rupee assumption (Rs37.8/US$ for FY10E) and a cut in target multiples (13.5-21x range vs. 16.5-24x at present), taking into account the substantially increased macro uncertainty. Key risks include overhang of the subprime crisis leading to worries about global technology spend, higher-than-expected rupee appreciation, more severe than currently expected economic slowdown in the US which remains the largest end-market, and aggressive steps taken by global vendors to adopt the offshore model, leading to competition for both clients and employees.

326

26 November 2007 Software & Services Indian IT Services


Table of Contents

One-two punch for the sector .......................................................... 3 16% absolute stock price decline after sub-prime crisis news-flow.........................................3 Subprime – Certainly higher uncertainty; likely growth worries ................................................4 Rupee appreciation – Cause of the first phase .........................................................................5

Is the structural growth story over? ................................................ 6 Concerns overdone –Structural dynamics on track...................................................................6 Rupee rise unlikely to negate cost advantage...........................................................................6 Demand slowdown – Do not mistake cycle for structure.........................................................8 FY10 tax increase – Negative on earnings but not on multiples................................................9

How sensitive are the sector’s revenues to global outlook?....... 10 Tech spend is clearly co-related to US GDP growth ............................................................... 10 Accenture – 9-10% declines in certain segments in FY02 & FY03.......................................... 11

16-17% growth in worst case ......................................................... 12 We take three scenarios to stress test growth rate assumptions .......................................... 12 Estimating FY09E growth rates in different scenarios ............................................................ 12 Wide range but still comforting – 16% to 38% yoy................................................................ 13

Valuations are close to trough ....................................................... 14 Sector de-rating – Top tier has lost 22% market cap YTD....................................................... 14 We believe prices are factoring in worst-case scenarios ........................................................ 14 Valuations relative to history are reasonably close to trough .................................................. 15 Indian vendors are better placed now than in the previous recession .................................... 16 And our base case scenario is not that of a recession............................................................ 16 Discount to local index is not supported by fundamentals ..................................................... 17 Stock preference – Top picks Infosys and TCS ....................................................................... 18 What will reverse the downward trend?................................................................................. 20

Cut price targets and earnings on rupee, macro uncertainty...... 22 Adjust earnings in response to a stronger rupee assumption................................................. 22 Our new target prices imply 3-39% potential upside over 12 months.................................... 23

327



One-two punch for the sector 16% absolute stock price decline after sub-prime crisis news-flow

After four straight years of positive returns (24-39% yoy), the sector (represented by CNX IT) has lost 24% YTD. After 21 June, the eve of the initial negative newsflow on subprime from Bear Sterns, the sector has fallen 16% in absolute terms and 48% relative to the local index (Sensex). The YTD decline has been a combination of an actual rupee appreciation and concerns of a subprime–influenced technology-spending slowdown, in our view.

Mid-tier stocks have largely underperformed top-tier stocks because of greater vulnerability to a slowdown and flight to quality.

However, the top two stocks (Infosys and TCS) have been the worst performers among the top tier, indicating greater concern due to their higher concentration of Banking and Financial services and a decline in their higher PE ratios closer to sector averages.

Figure 1: Indian IT services – Absolute stock price change pre and post 21 June 2007 YTD up to

June 21st 07 From 21st June

07 to Date Total YTD Comments

Accenture (BUY, TP US$48)

15% -16% -4%

Cognizant -2% -21% -23% No rupee appreciation impact; largely subprime/BFSI vertical concerns

HCL Tech 6% -13% -7% Outperformed the top three – Infosys, TCS, Wipro – due to stronger qoq results

Infosys -14% -21% -32% Double whammy – rupee appreciation and subprime/BFSI vertical concerns

Satyam -8% -11% -18% Lower BFSI exposure seems to have helped

TCS -8% -17% -23% Double whammy – rupee appreciation and subprime/BFSI vertical concerns

Wipro -14% -16% -27% Double whammy – rupee appreciation and subprime concerns

Top-tier median -8% -16% -23%

Mid-tier median* -9% -30% -30% Underperformed the large caps in both time periods – more prone to margin pressure, lower client quality

CNX IT -6% -20% -24% 58% underperformance compared to the local index (Sensex) – largely in the post–sub prime period

Nasdaq 8% -2% -6% Indian IT has underperformed substantially

S&P 500 7% -7% 0% Again more concerns about visibility for Indian IT

Sensex 4% 28% 34% Source: Deutsche Bank, Bloomberg* includes top 11 Indian mid cap IT companies based on market cap

DB view: Absolute stock

price decline led by

combination of actual rupee

appreciation and concerns

of a subprime–influenced

technology-spending

slowdown

328



Subprime – Certainly higher uncertainty; likely growth worries

With slower economic growth expected in the US and subprime–related writedowns/losses impacting earnings in the financial sector, there is now increased uncertainty in the largest market and the largest industry vertical for the Indian IT services sector.

Figure 2: US GDP growth (yoy%) Figure 3: Exposure to BFSI* vertical

0

1

2

3

4

5

1999 2000 2001 2002 2003 2004 2005 2006 2007F 2008F

US GDP growth (based on chained 2000 dollars) %(%)

4.5

3.7

0.8

1.6

2.5

3.6

3.12.9

2.1 2.2

0%

5%

10%

15%

20%

25%

30%

35%

40%

45%

Infosys TCS Wipro Satyam HCL Tech

Financial services/Total revenue (%)

Source: BEA data, Deutsche Bank Source: Company data, *Banking, Financial Services and Insurance

US GDP concerns about housing weakness and subprime losses Deutsche Bank economists expect US GDP growth rate to slow down to 2.1% in CY07F and 2.2% in CY08F. Key to watch will be US GDP growth in 4QCY07 (DB expectation of 1% yoy).

The US Fed in its recently released outlook stated that growth will be below a trend range of 1.8-2.5% in CY08, improving to 2.3-2.7% in CY09 and 2.5-2.6% in CY10. The expected growth rate for CY08 has been revised down from 2.25-2.75% earlier.

No evidence of direct impact on Indian vendors but there are some signs… Our latest checks with Indian vendors indicate that they have not seen any weakness from their clients including those from the financial services industry. However, there are signs in other segments of the market which indicate a possibility of a US slowdown. While Indian vendors could gain from an increased focus on cost and therefore higher off-shoring, we think it is unlikely that they can escape unscathed, at least over the first couple of quarters of a slowdown.

Figure 4: Impact of US slowdown on select companies Company Comment

WNS (Buy, TP US$25) First signs - One of WNS’s major mortgage-processing clients (5% of adj. revenues), First Magnus Financial Corporation, informed WNS that it would stop all work WNS does for them. WNS cut guidance in response and the stock was down 20% in 1 day.

IBM (Buy, TP US$130) Sees the weaker economic environment affecting technology spending in financial services. Within financial services the decline would predominantly be in the US. However, there are no signs of a general economic slowdown.

Cognizant CTS's recent survey of its clients indicated steady IT budgets and steady growth in the BFSI vertical while the negative is the absence of a 4Q budget flush which raises a red flag in an uncertain environment.

Cisco (Buy, TP US$38) Expects US enterprise growth to be lumpy. Categories that were most affected by the softness in the US in 1QFY08 were large financial institutions and automotive segments where the company experienced dramatic yoy decrease in orders.

Source: Company data, Deutsche Bank

Greater concern about

stocks with high US and

BFSI exposure

US Fed: Expected GDP

growth rate for CY08 revised

down to 1.8-2.5%

In the short term Indian

vendors could see tech

spend slowdown by the US

329



Rupee appreciation – Cause of the first phase

YTD, the Indian rupee has appreciated c11.2% vs. the US$, the currency in which more than half of the revenue of Indian IT services firms is denominated. Most of the appreciation happened in 1HCY07, leading to the c8% stock price fall. To put the impact into perspective, a 1% rupee appreciation impacts net income by 1.5-2.5% assuming everything else is equal.

Figure 5: Rupee appreciation YTD

828486889092949698

100102

01/0

1/20

07

01/0

2/20

07

01/0

3/20

07

01/0

4/20

07

01/0

5/20

07

01/0

6/20

07

01/0

7/20

07

01/0

8/20

07

01/0

9/20

07

01/1

0/20

07

01/1

1/20

07

INR/USD INR/EUR INR/GBP

(Index; x = 100)

Source: Bloomberg, Price data till 22 Nov-07

Ceteris paribus: 1% rupee

appreciation impacts net

income by 1.5-2.5%

330



Is the structural growth story over?

Concerns overdone –Structural dynamics on track

We examine three current street concerns and reiterate our view that the structural growth story remains intact.

Rupee appreciation is unlikely to impact competitive dynamics,

Long-term demand remains intact, and

Though a US slowdown could have an impact, we believe that Indian vendors are much better placed now to manage such a scenario than in the previous slowdown

A tax rate increase will likely cause a dip in the earnings growth rate in FY10 but we do not believe that it will lead to any compression in valuation multiples.

Rupee rise unlikely to negate cost advantage

We believe the 11.2% YTD rupee appreciation (vs the US$) is unlikely to either (a) make offshoring economics unattractive or (b) change India’s competitive positioning vs. other geographical locations.

Offshoring economics – Will there be no cost benefit of offshore outsourcing? Concern: Continued rupee appreciation will neutralize the ‘cost’ advantage (range of 30-60%) – widely considered the biggest offshore sourcing driver.

DB view: Our analysis demonstrates that even if Indian vendors endeavor to maintain absolute rupee margins and the rupee appreciates by a further 15-20%, cost advantages will remain reasonably attractive.

We assume it is currently possible to achieve cost savings of 40%, which is approximately the mid-point of the range that we come across in industry commentary. This will reduce to only 28-31% (from 40% assumed) even if the rupee appreciates by a further 15-20%. This assumes that Indian vendors pass on all the margin pressure to clients and that clients still earn a 30% arbitrage. Even if the rupee appreciates 25%, cost advantages remain at c25%.

We believe this analysis assumes a worst-case scenario – (a) Indian vendors seek to maintain absolute margins – which is negative from a ‘go/no-go’ analysis as it increases costs, (b) assumes rupee appreciation vs. all currencies, i.e. this sensitivity will be lower in the case of US$ depreciation as it will impact only c60% of revenues, and (c) does not assume any cost efficiencies.

Figure 6: ‘Cost’ competitiveness under an appreciating-rupee scenario 5% 10.0% 15.0% 20.0% 25.0%

Rupee level 38.1 36.4 34.8 33.3 32.0

Reduced cost savings post pricing change to

Maintain absolute $ margin 38.8% 37.5% 36.3% 35.0% 33.8%

Maintain % $ margin 37.0% 34.0% 31.0% 28.0% 25.0%

Maintain abs rupee margin 37.0% 34.0% 31.0% 28.0% 25.0%

Maintain % rupee margin 37.0% 34.0% 31.0% 28.0% 25.0%Source: Deutsche Bank

We believe:

1. Rupee appreciation can

be negotiated

2. Indian vendors are better

placed to manage a US

slowdown

3. FY10 tax rate change is a

short-term worry

Even if Indian vendors pass

on all margin pressures to

clients, clients will enjoy a

30% arbitrage

331



Will India lose out incrementally vs. other offshoring destinations? Concern: Rupee appreciation will lead to other offshoring destinations becoming more attractive, thereby reducing India’s share in the global offshore market.

DB view: Currencies for many other potential offshore destinations have also appreciated. Except for Mexico (depreciation of 1.2% YTD) and China (appreciation of c5%), all other relevant currencies have appreciated by a similar (11.1% to 16.5%) percentage against the US$.

Figure 7: Other offshoring locations – Currency appreciation

80

85

90

95

100

105

01/0

1/20

07

01/0

2/20

07

01/0

3/20

07

01/0

4/20

07

01/0

5/20

07

01/0

6/20

07

01/0

7/20

07

01/0

8/20

07

01/0

9/20

07

01/1

0/20

07

01/1

1/20

07

BRL/USD CNY/USD PHP/USD MXN/USD INR/USD EUR/USD

(Index; x = 100)

BRL/USD

CNY/USD

PHP/USD

M XN/USD

INR/USD

EUR/USD

Source: Bloomberg, Price data up to 22 Nov 07

Have Indian firms made short-term adjustments which will reverse soon? Concern: Another worry caused by the rupee appreciation has been that Indian vendors have clamped down on costs and have booked hedging profits (which are unsustainable in the longer run). Hence we expect to see margin contraction even if everything else stays the same.

DB view: We admit that this concern is somewhat valid (see common size statements in Figure 8) but believe that our FY09 estimates already factor this in (no/lower hedging gains). While on operating costs we find that cost control has been achieved by better utilization, lower travel costs, and more fine-tuned capital expenditure (leading to lower depreciation), but there is no evidence to believe that costs have been cut to an extent that growth is negatively impacted.

Currency appreciation a

common phenomenon

across potential offshore

destinations

Operating costs controlled

by better utilization, lower

travel costs, and more fine-

tuned capital expenditure

332



Figure 8: Common size statements – ‘period of adjustment’ Common size statement ----------------Infosys----------------- -----------------TCS------------------- -----------------Satyam-------------------

2QFY08 Chng over 3QFY07 (bps)



Salaries 53.6 324 50.5 -537 64.1 589

Travel 4.8 -51 2.9 95 5.8 -79

Other expenses 10.4 -126 17.5 189 10.3 -23

EBITDA 31.3 -147 27.3 -116 19.8 -486

Depreciation 3.5 -35 2.4 10 1.9 -45

EBIT 27.8 -112 24.9 -126 17.9 -441

Foreign exchange gains 0.1 62 1.1 105 2.1 421

Other income (largely financial) 3.7 152 1.0 33 3.4 62

Profit before tax (PBT) 31.5 102 26.9 2 23.1 41

Tax rate (as % of PBT) 15.0% 333 13.5% -43 13.0% 227

Net Income 26.8 -12 23.3 39 20.1 -16Source: Company data, Deutsche Bank

Demand slowdown – Do not mistake cycle for structure

Despite our overall bullish stance on the sector, we do not share the optimism that a US slowdown will have no impact on the sector’s near-term fundamentals. We have discussed this earlier in our report titled Asian Tech US Linkages – US downturn: Implications dated 15 Aug 2007, by Alan Hellawell, Mark Jolley and Ajay Mathrani. Indian IT Services remains one of the key Asian sub sectors vulnerable to a US slowdown.

However, we do not believe that there is any structural demand slowdown for the Indian vendors. As per our analysis, the Indian IT services sector is only 9.7% of the global IT services market after adjusting for lower billing rates by a factor of 2.

The penetration rate, though, is much higher in project-based services (custom application development) than in outsourcing services, which means that Indian vendors will need to increase their focus on this area. We believe all top-tier vendors have been increasing their service offerings through either an organic (Infosys, TCS) or an inorganic (Wipro) route.

Figure 9: India’s share in global IT services spend CY07E % of Global Indian(US$ bn) Global(US$ bn) Gross market

shareAdj. market

share*

Project based 72.4% 17.4 169.9 10.2% 20.5%

Outsourcing 18.3% 4.4 182.6 2.4% 4.8%

Support 9.3% 2.2 142.6 1.6% 3.1%

Total 100.0% 24.0 495.1 4.8% 9.7%Source: NASSCOM Strategic Review 2007, Deutsche Bank, * multiplied by 2 to account for lower billing rates

Adjusted for lower billing

rates, Indian IT services

sector is only 9.7% of the

global IT services market

Need to increase focus on

outsourcing services

333



FY10 tax increase – Negative on earnings but not on multiples

While the potential tax rate increase in FY10 will negatively impact earnings and depress growth in that year, we do not believe it will impact our view on normalized growth and hence the target price-earnings multiple. If anything, we would value earnings after an anticipated normalization of tax rates higher than the multiple we would ascribe to earnings with a threat of higher taxes causing a potential negative surprise.

In any case, with higher tax rates mostly factored into all estimates, there is only scope for a positive surprise if tax holidays are extended in any form.

Figure 10: FY10E tax rate already factored into estimates

10%

14%

18%

22%

FY07 FY08E FY09E FY10E

Sector Tax rate (%)

Source: Company data, Deutsche Bank

1. Higher taxes factored in

all estimates

2. Tax holiday extension

could be a positive

surprise

334



How sensitive are the sector’s revenues to global outlook? Tech spend is clearly co-related to US GDP growth

We find that US tech spend is positively correlated with US GDP growth. For instance, the US equipment and software index was negative over 10 quarters from 1QCY01 to 2QCY03 (Figure 11) partly due to the technology meltdown and partly due to a general economic slowdown.

This has led to a high level of uncertainty about growth in tech spend over CY08-CY09F as the US economy grows slower than the trend rate.

Figure 11: US GDP growth vs. US equipment and software growth (yoy%)

-25%

-12%

1%

14%

27%

40%

1Q71

4Q72

3Q74

2Q76

1Q78

4Q79

3Q81

2Q83

1Q85

4Q86

3Q88

2Q90

1Q92

4Q93

3Q95

2Q97

1Q99

4Q00

3Q02

2Q04

1Q06

US GDP percent change based on chained 2000 dollars (% qoq saar)US Eq and software growth (% qoq saar)

Source: BEA data

Slower US GDP growth over

CY08-09E casts its shadow

over tech spend

335



Accenture – 9-10% declines in certain segments in FY02 & FY03

FY02 and FY03 were challenging years for US economic growth and we can see the impact in Accenture’s growth rates in the US as well as financial services in those years. We choose Accenture for its size; we believe Indian vendors are most similar to Accenture in terms of business model as well as a larger component of consulting which is usually sensitive to economic conditions.

Worst-case declines seem to be in the 9-10% range The usually expected more cyclical/discretionary components viz. consulting and financial services declined 9-10% in FY02 and FY03. We believe we can take this level as an appropriate worst case scenario for the revenues of Indian firms in the US BFS space.

Figure 12: Accenture’s yoy growth performance ---------------------------------------------------------Revenue Growth (yoy)-------------------------------------------------------

Vertical markets Proportion of

total revenues (FY07)


Comm & high tech 23.4% 15.4% -1.8% 3.4% 13.7% 6.9% 4.4% 10.1%

Financial services 22.1% 13.8% -9.4% -10.2% 17.7% 23.0% 4.4% 22.5%

Government 13.0% 25.8% 31.3% 20.1% 26.1% 8.9% 2.3% 15.3%

Products 24.9% 24.6% 3.6% 7.0% 14.0% 19.8% 12.3% 22.5%

Resources 16.5% 16.4% 3.7% -1.9% 10.8% 9.7% 11.6% 21.6%

Total 100.0% 17.4% 1.1% 2.1% 15.7% 13.7% 7.1% 18.3%

Geography markets

Americas 43.1% 14.9% -2.8% -2.8% 8.2% 8.3% 16.5% 9.6%

EMEAI 48.4% 22.0% 9.9% 7.9% 22.8% 18.8% -2.1% 24.7%

Asia/Pacific 8.5% 7.0% -7.8% 2.3% 22.5% 13.5% 14.8% 33.1%

Total 100.0% 17.3% 1.1% 2.1% 15.7% 13.7% 7.1% 18.3%

Service line wise

Consulting 60.2% NA -4.4% -9.1% 5.5% 11.5% 3.3% 19.9%

Outsourcing 39.8% NA 31.6% 36.4% 43.0% 17.3% 13.2% 16.1%

Total 100.0% NA 1.1% 2.1% 15.7% 13.7% 7.1% 18.3%Source: Company data

336



16-17% growth in worst case We take three scenarios to stress test growth rate assumptions

Given the extreme uncertainty over US GDP growth and its impact on Indian technology firms, we analyze three cases sensitive to overall economic scenario, outlook on technology spend and technology spend in the BFS (Banking and Financial Services) sub vertical as these seem to be the area of major concern.

We look at FY09E revenue growth (constant currency terms) under various scenarios in this section and present resulting valuation scenarios in the following section.

Figure 13: DB’s three macro scenarios for Indian IT services vendors Worst case Base case Best case

Economic scenario Recession 2.1% growth 2.5% growth (higher end of US Fed range)

Technology spend Declines as it did it 2001 Moderate growth (sub 5%) 5-7% growth, priorities back on track

BFSI vertical Impacted & discretionary spend is cut Discretionary spend is cut lesser Postponement of discretionary spend - evens out within the year

Does Indian tech benefit with a slowdown?

No – it is as cyclical as global peers Yes, moderate gain after 2-3 quarters Yes, just sails through

Source: Deutsche Bank

The starting point – Estimating BFS revenues from the US geography While all companies disclose geographical and vertical split of revenues, there is no stated revenue proportion of the BFS vertical from the US geography. As Infosys and TCS have a much higher proportion of BFSI vertical revenues, we choose both of them for our scenario analysis.

We strip out Insurance sub vertical revenues

We take only Banking and Financial services revenues for Infosys (28.8%) and for TCS (c30%, estimated out of a total of 43.3%)

We assume that 70% of Infosys’s BFS revenues are from the US geography (company average is 62.6%)

For TCS, we assume that 60% of BFS revenues are from the US geography vs. the company average of 52.2%

Figure 14: Revenue breakdown for Infosys and TCS Infosys BFS Non-BFS Total TCS BFS Non-BFS Total

US 20.2% 42.4% 62.6% US 18.0% 34.2% 52.2%

Non-US 8.6% 28.8% 37.4% Non-US 12.0% 35.8% 47.8%

Total 28.8% 71.2% 100.0% Total 30.0% 70.0% 100.0%Source: Company data, Deutsche Bank

Estimating FY09E growth rates in different scenarios

-10% to +25% growth range for US Banking and Financial Services (BFS) We use Accenture’s 9-10% yoy revenue decline in FY02 and FY03 (from the financial vertical) to derive our worst-case growth assumption. Our best case remains conservative at 25% – a marginal slowdown from the 30-40% CAGR over the past four years. We have assumed this to account for the weakness continuing for a couple of quarters before cost pressures increase offshoring budgets for US BFS clients.

US geography BFS revenue

assumptions:

1. Infosys – 70%

2. TCS – 60%

Worst case: Assume 10%

absolute decline in FY09 for

BFS vertical revenues from

the US

337



+10% to +30% growth range for non-US Banking and Financial Services We believe non-US BFS revenues could grow 10% in the worst case due to 4Q revenues holding steady, i.e. no qoq growth over FY09 would translate into 8-10% yoy growth for FY09E. Best case, we assume a marginal slowdown to 30%, though more robust than US BFS revenues.

+20% to +35% growth range for US non-Banking and Financial Services We believe growth rate will halve to 20% (worst case) for US revenues excluding the BFS vertical because of a technology spending freeze due to weak US GDP growth. Key growth drivers here would be other verticals such as telecom, energy, automobiles and services such as infrastructure management, business process outsourcing and enterprise package implementation. Our best case assumes growth to continue in the 35%+ range given that we shall see no uncertainty-led impact in 1HCY08.

+30-45% growth range for non-US, non-BFS services This segment has consistently grown at a 45% CAGR for the entire industry over the past three years. Our best case assumes that this trend will hold up while our worst case assumes that it will slow down to 30%, which is lower than the average industry growth over FY02-FY07.

Figure 15: Segmental growth rate in various scenarios Worst case

Infosys BFS Non-BFS TCS BFS Non-BFS

US -10% 20% US -10% 20%

Non-US 10% 30% Non-US 10% 30%

Base case


US 5% 25% US 5% 25%

Non-US 25% 40% Non-US 25% 40%

Best case


US 25% 35% US 25% 35%

Non-US 30% 45% Non-US 30% 50%Source: Deutsche Bank

Wide range but still comforting – 16% to 38% yoy

Based on the above, we expect FY09E growth rates to be between 16% (recession, extreme budget cuts) and 38% (GDP growth at the higher end of the range, offshoring budget increases).

Figure 16: Worst, Base, Best Case Scenario Worst case Base case Best case

Infosys TCS Infosys TCS Infosys TCS

FY09E growth 16.0% 17.0% 25.3% 26.8% 35.4% 38.0%

US geo growth 10.3% 9.7% 18.6% 18.1% 31.8% 31.6%

BFS vertical growth -4.0% -2% 11% 13% 27% 27%

Geo wise growth (excl US) 25.4% 25.0% 36.5% 36.2% 41.5% 45.0%

Vertical wise growth (excl BFS) 24.0% 25% 31% 33% 39% 43%Source: Deutsche Bank

Within the US, assume

relatively benign impact

aside of the financial

services sector

Outside the US, we expect

growth rates to be

maintained, excluding a

contagion effect on the

financial services sector

338



Valuations are close to trough Sector de-rating – Top tier has lost 22% market cap YTD

With rupee appreciation and increased chances of a US slowdown, the sector has lost 22% on average while the Sensex is up 37% YTD. Infosys has been the worst performer with a decline of c31% while HCL Technologies has been the best performer with only a 6.3% decline.

Figure 17: Top 5 – price performance ------------------------------------------------------------Performance (%) ------------------------------------------------------------

Stock Last Price 1 Day 1 Month 3 Month 6 Month 12 month YTD

HCL Technologies 304 4.4% 1.8% 9.8% -10.4% -3.5% -6.3%

Infosys 1,558 1.7% -15.5% -14.5% -19.5% -30.3% -30.5%

Satyam 417 0.6% -9.6% -4.6% -8.6% -9.7% -13.9%

TCS 960 1.1% -8.4% -5.6% -21.6% -16.4% -21.2%

Wipro 442 0.9% -9.1% -3.0% -16.9% -25.1% -26.9%

Sensex 18,853 1.8% -2.0% 30.7% 31.5% 37.6% 36.7%

CNXIT 4,239 1.6% -12.1% -7.4% -20.2% -19.2% -22.0%Source: Deutsche Bank, Price as of 22nd Nov 07

We believe prices are factoring in worst-case scenarios

We find limited downside from current prices even if the sector grows as per our worst-case scenario. We see positive return potential (2-8%) for all our Buy-rated stocks even in this scenario. However, if the sector grows in the 0-5% range, we do see further downside of 17-31% driven by a view that in this case, 12M forward PEs will contract to the 11x-15x range.

Figure 18: Target prices under various growth scenarios Zero growth Worst Base Best

Revenue growth 0-5% 16-17% 25-27% 35-38%

12M forward PE's 11x-15x 12.5x-18x 13.5x-21x 16.5x-24x

Price targets

Infosys 1280 1680 2160 2680

TCS 800 1040 1320 1650

Wipro 350 450 560 710

Satyam 310 390 450 610

HCL Tech 210 260 310 410

Potential return over 12M

Infosys -18% 8% 39% 72%

TCS -17% 8% 38% 72%

Wipro -21% 2% 27% 61%

Satyam -26% -6% 8% 46%

HCL Tech -31% -14% 2% 35%Source: Deutsche Bank

YTD best performer – HCL

Tech (-6.3%)

YTD worst performer –

Infosys (-c31%)

Even in the worst-case

scenario we see positive

return potential of 2-8%

Near-zero growth scenario:

Very unlikely but if it

happens, expect multiples to

de-rate further to 11-15x.

Further downside of 17-31%

in this unlikely scenario

339



Valuations relative to history are reasonably close to trough

For our historic valuation comparison, we choose a single stock rather than the sector average/median as it leaves out stock-specific issues at any particular point of time and the entire sector is similarly impacted by the macro environment. We choose Infosys as a proxy for the sector as it is the bellwether stock in the industry and has a long listing and disclosure history.

We compare Infosys’s earnings multiples when it guided to c13% earnings growth (April 2003) vs. now. Over April 2003 (after its guidance), the stock traded at 20x LTM earnings and c17x FTM guidance earnings.

The stock is trading at 21x LTM earnings and c18.1x FTM earnings, less than a 10% premium to these valuations. Further, the last time, the company had already confirmed a much slower growth trajectory based on its guidance whereas this time around the sector remains confident about demand, at least for now.

Figure 19: Infosys Valuation – Current vs. April 2003 Apr-03 Nov-07

Last Twelve Months

Rev growth (US$) 38% 42%

Earnings growth 18.5% 38%

Average Price 357* 1,558

Average LTM PE 20 21

FTM guidance

Rev growth (US$) 28% 35%

Earnings growth 13.4% 18.2%

Average FY04 PE^ / FY07 PE 17 18.1

FY04 Actuals

Rev growth (US$) 41% ?

Earnings growth 30.0% ?

Price as on March 31st 2004 617 ?

March 31st 2004 PE LTM 26 ?Source: Company data, Deutsche Bank,* post disappointing guidance, based on guidance

Figure 20: Infosys – 1-year FTM PE Figure 21: Infosys – 1-year TTM PE

12

16

20

24

28

32

36

3/01 3/02 3/03 3/04 3/05 3/06 3/07

1-yr fwd PER (x) Mean Trough PE

23.4x

13.0x

1620242832364044

3/01 3/02 3/03 3/04 3/05 3/06 3/07

TTM PER (x) Mean Trough PE

30.6x

17.3x

Source: Bloomberg, Deutsche Bank, Price as of 22 Nov-07 Source: Bloomberg, Deutsche Bank, Price as of 22 Nov-07

Infosys currently trades at

less than 10% premium to

its 7-year trough forward 12-

month PE

340



Indian vendors are better placed now than in the previous recession

On sheer fundamentals, we find Indian vendors more resilient now than they were during the previous US recession. On revenue size (4-6x), net worth (5-8x), non-US geo (9 to 17% points lower), client concentration (10% to 20% points lower) and their portfolio of services (more non-ADM), Indian vendors are better placed to weather a potential economic slowdown.

Figure 22: Indian vendors better placed in FY07 than in FY01 Infosys Satyam Wipro

FY01 FY07 FY01 FY07 FY01 FY07

Revenue (US$ mn) 414 3090 310 1,461 382 2,459

US geo revenues 73.5% 63.3% 81.0% 64.5% 64.0% 64.2%


Active clients 273 500 na 538 217 620

% revenue from top 5 clients 26% 21% 38% 22% 30% 14%

% revenue from top 10 clients

43% 33% 52% 34% 45% 25%

Non ADM* Revenue 25.3% 47.6% 15.0% 52.5% 8.0% 42.2%

Networth (INR mn) 13,896 111,620 8,129 57,894 18,762 95,995Source: Company data, Deutsche Bank, * Non-Application development and maintenance

And our base case scenario is not that of a recession

Deutsche Bank’s economists expect 2.1% and 2.2% growth in CY07 and CY08 respectively, down from 2.9% in CY06. While this could have some impact on technology spend and a derivative impact on Indian IT services, it is definitely not a sure sign that IT spend will decline yoy.

Figure 23: US GDP growth (yoy%)

0

1

2

3

4

5

1999 2000 2001 2002 2003 2004 2005 2006 2007F 2008F

US GDP growth (%)(%)

Source: BEA, Deutsche Bank

341



Discount to local index is not supported by fundamentals

From a 163% P/E premium (31 March 2001) to the local index (SENSEX), Infosys now trades at a 27% discount (Figure 24) to the index despite growth being in line with the index (ex-IT) (Figure 25). Most other stocks are trading at a discount to Infosys and hence are at an even larger discount to the index.

The top-tier stocks trade at a c18% discount at an average of 16x FY09E earnings vs. the index’s (ex-IT) PE of 19.7x. We believe this discount will decrease as these companies are globally competitive businesses with above-average management (vision, execution, corporate governance) and the sector has high visibility of 20%+ growth over the longer term, higher RoEs (33.4% vs. 19.5%) and better EBITDA margins (24.7% vs. 23.7%).

A possible reason could be the lower earnings growth trajectory in FY08 due to rupee appreciation, which means that a higher earnings growth trajectory (FY08E-10E) has the potential to reverse this trend of underperformance.

Figure 24: Infosys PE relative to Sensex

0.0

0.5

1.0

1.5

2.0

2.5

3.0

1/03 1/04 1/05 1/06 1/07

Infosys PE rel to Sensex PE

Source: Bloomberg, Deutsche Bank, Price as of 22 Nov 07

Figure 25: IT valuations vs Sensex valuations ------------------------------Sensex (Ex - IT)---------------------------- ----------------------------IT large caps-----------------------------

FY07 FY08E CAGR FY08E-10E FY07 FY08E CAGR FY08E-10E

Revenue Growth 31.60% 14.90% 12% 41.1% 25.0% 26%

EBITDA Growth 40.0% 23.20% 17% 37.6% 17.5% 25%

Earnings growth 35.30% 19.50% 18% 47.0% 17.5% 19%

EBITDA Margin 24.10% 23.70% 26.2% 24.7%

ROE% 21.4% 19.5% 38.2% 33.4%

PE 28.8 23.3 19.7* 22.8 19.2 16.0*Source: Deutsche Bank, * represents FY09E PE based on Deutsche Bank estimates

Infosys now trades at a 27%

discount to the Sensex

despite growth being in line

with the index (ex-IT)

The top-tier stocks trade at a

c18% discount at an average

of 16x FY09E earnings vs.

the index’s (ex-IT) PE of

19.7x

342



Stock preference – Top picks Infosys and TCS

Our top picks are Infosys and TCS. Wipro (Buy, TP INR560) is our third Buy-rated stock. We believe they will likely lead a sector rebound vs. Satyam and HCL Tech given (a) high position on the US slowdown screen, b) relatively, they have underperformed and are near their relative lows, and (c) relative to their own history, they are closer to the trough valuations seen in FY01/FY03.

US slowdown – Infosys and TCS are the least vulnerable Infosys and TCS figure as the best positioned on our 8 parameter vulnerability screen for relative valuations across the sector. Infosys scores high on flight to quality and ability to drive ‘earnings’ while TCS scores high on lower billing rate vulnerability and ability to take aggressive steps.

Figure 26: Risk of potential US slowdown analyzed Vulnerability scorecard parameters Description -----------Ranking of stocks from 1-5 with 5=least vulnerable---------

HCLTech Infosys Satyam TCS Wipro

Geographical concentration Proportion of revenues from US geography 4.5 2 2 4.5 2

Flight to quality Relative revenue rank/perceived risk 1 5 2 3 4

Ability to drive 'earnings' Ability to manage financial model, lower qoq volatility

1 5 2 3 4

Enterprise vs Technology Tech likely hit more than enterprise 1.5 4 4 4 1.5

Development/ERP vs Management/Outsourcing

Who has the most defensive portfolio 3 3 3 3 3

Billing rates vulnerability Higher the rate, more the vulnerability 4 1 2 5 3

Ability to take aggressive steps Acquisitions/large deal/new service exploration 3 2 1 4 5

Business model steady/ability to maintain focus

Business model changes will be more difficult to execute in a slowdown

3 5 4 1 2

Average on 8 parameters 2.6 3.4 2.5 3.4 3.1Source: Deutsche Bank

Relative underperformance to reverse We believe Infosys and TCS’s relative underperformance vs. Satyam and HCL Tech to reverse in both a positive scenario and a negative. In a positive scenario, both these stocks will revert to their traditional discounts based on business fundamentals (service portfolio, expected growth rate, margins and return on equity) while in a negative scenario, we would expect the market to move to a ‘flight to safety’ mode and hence again prefer the top tier.

Figure 27: FTM PE relative to Infosys PE Figure 28: TTM PE relative to Infosys PE

0.2

0.4

0.6

0.8

1.0

1.2

1.4

3/01 3/02 3/03 3/04 3/05 3/06 3/07

HCL Tech PE rel to Infosys PESatyam PE rel to Infosys PE(x)

Satyam PE/Infy PE M ean = 0.68 HCL Tech PE/ Infy PE M ean = 0.78

HCL Tech PE/ Infy PE = 0.84

Satyam PE/Infy PE = 0.83

0.2

0.4

0.6

0.8

1.0

3/01 3/02 3/03 3/04 3/05 3/06 3/07

HCL Tech PE rel to Infosys PE

Satyam PE rel to Infosys PE(x)



Satyam PE/TCS PE M ean = 0.63 HCL Tech PE/ TCS PE M ean = 0.65

Source: Bloomberg, Deutsche Bank Source: Bloomberg, Deutsche Bank

TCS and Infosys

fundamentally better

equipped to tackle current

business risks

Infosys and TCS’s relative

underperformance vs.

Satyam and HCL Tech would

reverse in both positive and

negative scenarios

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Figure 29: FTM PE relative to TCS PE Figure 30: TTM PE relative to TCS PE

0.4

0.6

0.8

1.0

1.2

8/04 2/05 8/05 2/06 8/06 2/07 8/07

HCL Tech PE rel to TCS PESatyam PE rel to TCS PE(x)




0.4

0.6

0.8

1.0

1.2

8/04 2/05 8/05 2/06 8/06 2/07 8/07

HCL Tech PE rel to TCS PE

Satyam PE rel to TCS PE(x)





Our Buys are close to their all-time/seven-year troughs Another support for our relative positioning in the sector is that both TCS and Wipro’s 1-year forward PEs are at their lowest since listing/over the past seven years.

Figure 31: TCS – 12-month rolling forward PE Figure 32: Wipro – 12-month rolling forward PE

14

18

22

26

30

8/04 2/05 8/05 2/06 8/06 2/07 8/07


21.8x

16.0x

14182226303438424650

3/01 3/02 3/03 3/04 3/05 3/06 3/07


28.6x

16.6x


Figure 33: Satyam – 12 month rolling forward PE Figure 34: HCL Tech – 12-month rolling forward PE

6

10

14

18

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26

3/01 3/02 3/03 3/04 3/05 3/06 3/07


15.5x

8.1x

6101418222630343842

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18.5x

7.2x


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What will reverse the downward trend?

We believe we will continue to remain in a ‘negative newsflow’ environment for at least the next 1-2 quarters. However, further newsflow on either (a) further subprime losses, (b) technology spending in the financial services vertical, and (c) US GDP growth outlook will likely be negative but a confirmation of the downsides already priced in. We would look at incremental upside/downside to our base-case scenario to evaluate the ‘negative newsflow’. The entire December quarter earnings season across the technology value chain will need to be keenly watched for cues from other technology sectors.

Three events that we believe have the potential to trigger an upward rally:

A stronger-than-expected December quarter results season could add credibility to current growth estimates.

IT budget commentary by leading Indian vendors in January 2008 when they announce their December quarter results. While they have been maintaining a cautiously optimistic stance, we believe a quantification of the impact or further granularity into their growth assumptions could go a long way in alleviating investor concerns.

Cognizant’s CY08 guidance at end-January 2008 could add some certainty to the sector as it will be the first guidance by an offshore services company for the next 12 months. The guidance could either (a) act as a floor to downside expectations (if the guidance is below current consensus expectations of c36% revenue growth) for CY08 or (b) trigger a sharp rally if the guidance turns out to be reasonably in line with expectations.

Near-term catalysts to our

call:

1. Stronger-than-expected

3QFY08 results

2. IT budget commentary

and possible

quantification of impact

3. CTS’s CY08 guidance

could provide much

needed 12-month

visibility

345



Figure 35: Indian IT services sector valuations Company Infosys TCS Wipro Satyam HCL Tech AverageTarget Price 2160 1320 560 452 310

Market Price (Rs.) 1,558 960 442 417 304Market cap (Rs. mn) 889,945 939,466 644,951 278,054 197,559Market cap (US$. mn) 22,415 23,663 16,245 7,003 4,976EV (Rs. mn) 810,704 901,391 588,025 230,378 177,469Valuation EV/Sales FY06/CY05 6.9 5.4 5.0 3.4 7.2 6.4 FY07/CY06 7.2 5.5 4.8 3.6 3.0 4.5 FY08/CY07 4.8 3.9 3.0 2.8 2.4 3.6 FY09/CY08 3.7 3.0 2.3 2.2 1.9 2.9EV/ EBITDA FY06/CY05 21.2 19.5 21.1 14.0 32.3 23.8 FY07/CY06 22.7 20.3 21.2 15.3 13.4 17.3 FY08/CY07 15.5 14.7 15.3 12.6 11.2 14.7 FY09/CY08 12.2 11.2 11.9 9.5 9.1 11.7P/E FY06/CY05 28.4 25.0 28.3 20.5 43.5 31.7 FY07/CY06 29.0 25.8 26.5 19.9 17.0 21.9 FY08/CY07 19.7 18.4 19.6 16.2 16.7 18.5 FY09/CY08 16.3 15.1 16.3 13.2 13.8 15.3ROE (%) FY06/CY05 40.4 63.8 34.8 30.0 19.8 37.75 FY07/CY06 42.3 54.8 36.3 27.9 29.7 38.20 FY08/CY07 34.9 47.5 31.1 26.9 26.5 33.38 FY09/CY08 32.4 42.2 30.6 26.3 28.8 32.06Financials EPS (Rs/share) FY06/CY05 44.7 29.5 14.4 14.6 6.0 21.8 FY07/CY06 65.4 41.4 20.4 21.0 17.8 33.2 FY08/CY07 79.1 52.2 22.5 25.8 18.2 39.6 FY09/CY08 95.5 63.6 27.2 31.5 22.0 47.9Sales (Rs mn) FY06/CY05 95,216 132,455 106,029 47,926 44,007 FY07/CY06 138,930 186,334 149,982 64,850 60,336 FY08/CY07 167,610 228,278 197,392 82,969 74,426 FY09/CY08 211,644 289,487 251,762 105,611 93,610EBITDA (Rs mn) FY06/CY05 30,918 36,707 25,374 11,662 9,847 FY07/CY06 43,916 50,742 34,126 15,377 13,371 FY08/CY07 52,298 61,384 38,320 18,278 15,778 FY09/CY08 64,300 78,328 48,627 23,141 19,436PAT (Rs mn) FY06/CY05 24,598 28,831 20,674 11,417 7,746 FY07/CY06 38,557 40,558 29,418 14,048 12,616 FY08/CY07 45,504 51,093 33,220 17,389 12,406 FY09/CY08 54,913 62,226 40,037 21,247 15,054Growth Sales Growth FY07/FY06 46% 41% 41% 35% 37% 41% FY08/FY07 21% 23% 32% 28% 23% 25% FY09/FY08 26% 27% 28% 27% 26% 27% FY09/FY07 23% 25% 30% 28% 25% 26%EBITDA Growth FY07/FY06 42% 38% 34% 32% 36% 38% FY08/FY07 19% 21% 12% 19% 18% 18% FY09/FY08 23% 28% 27% 27% 23% 26% FY09/FY07 21% 24% 19% 23% 21% 22%PAT Growth FY07/FY06 57% 41% 42% 23% 63% 45% FY08/FY07 18% 26% 13% 24% -2% 18% FY09/FY08 21% 22% 21% 22% 21% 21% FY09/FY07 19% 24% 17% 23% 9% 20%Margins EBITDA Margin FY06/CY05 32.5% 27.7% 23.9% 24.3% 22.4% 26.9% FY07/CY06 31.6% 27.2% 22.8% 23.7% 22.2% 26.2% FY08/CY07 31.2% 26.9% 19.4% 22.0% 21.2% 24.8% FY09/CY08 30.4% 27.1% 19.3% 21.9% 20.8% 24.6%PAT Margin FY06/CY05 25.8% 21.8% 19.5% 23.8% 17.6% 21.9% FY07/CY06 27.8% 21.8% 19.6% 21.7% 20.9% 22.5% FY08/CY07 27.1% 22.4% 16.8% 21.0% 16.7% 21.3% FY09/CY08 25.9% 21.5% 15.9% 20.1% 16.1% 20.3%Source: Company data, Bloomberg, Deutsche Bank, Prices as on 22 Nov-07

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Cut price targets and earnings on rupee, macro uncertainty Adjust earnings in response to a stronger rupee assumption

For the sector, we are lowering our FY09 and FY10 earnings estimates by 6-8% due to a 4-6% reduction in revenue estimate and 7-10% reduction in EBITDA estimate for FY09.

Our key assumption change is related to the rupee. While Deutsche Bank’s 12-month exchange target is INR40.9/US$, i.e. a 4% depreciation, we believe we have been conservative with a 0.5% appreciation each quarter vs. a flat rupee assumption presently. Our present rupee assumptions are Rs38.5/US$ for FY09E and Rs37.8/US$ for FY10E. However, given a large hedge position for more than 12 months, for most firms, sensitivity of reported earnings should be lower than what a plain mathematical model would suggest.

Figure 36: Average estimate changes Sector average( INR mn) FY08E Chg (%) FY09E Chg (%) FY10E Chg (%) CAGR (08E-10E)

Revenue 169,062 -1.0% 214,626 -3.6% 268,111 -6.4% 26%

EBITDA 42,570 -3.6% 53,599 -6.0% 66,392 -9.1% 25%

EBIT 37,657 -3.5% 47,527 -5.5% 58,860 -8.0% 25%

Profit Before Tax 42,366 -0.5% 51,948 -4.9% 64,968 -7.0% 24%

Net Income 36,714 -1.2% 44,606 -4.6% 52,094 -6.8% 19%Source: DeutscheBank, Note: Sector average numbers are based on DB estimates for Infosys, TCS, Wipro and Satyam

Figure 37: Infosys estimate changes INR mn FY08E Chg (%) FY09E Chg (%) FY10E Chg (%) CAGR (08E-10E)

Revenue 167,610 -5.0% 211,644 -9.8% 265,155 -14.0% 26%

EBITDA 52,298 -3.6% 64,300 -11.1% 80,445 -17.0% 24%

EBIT 45,742 -1.8% 55,585 -11.0% 69,240 -15.8% 23%

Profit Before Tax 53,371 0.1% 62,937 -9.2% 79,218 -13.4% 22%

Net Income 45,504 -3.6% 54,913 -9.2% 63,374 -13.4% 18%Source: Deutsche Bank

Figure 38: TCS estimate changes INR mn FY08E Chg (%) FY09E Chg (%) FY10E Chg (%) CAGR (08E-10E)

Revenue 228,278 -2.8% 289,487 -6.5% 365,658 -8.4% 27%

EBITDA 60,425 -1.7% 78,328 -3.0% 97,385 -3.8% 26%

EBIT 54,676 -2.6% 71,741 -2.6% 88,872 -3.2% 26%

Profit Before Tax 58,337 1.0% 74,431 -2.3% 92,337 -3.3% 25%

Net Income 50,093 2.0% 62,226 -1.0% 73,516 -3.2% 20%Source: Deutsche Bank

Figure 39: Wipro estimate changes INR mn FY08E Chg (%) FY09E Chg (%) FY10E Chg (%) CAGR (08E-10E)

Revenue 197,392 3.0% 251,762 3.5% 312,663 0.7% 26%

EBITDA 38,320 -8.5% 48,627 -7.1% 59,818 -9.8% 25%

EBIT 32,991 -8.8% 42,013 -6.3% 52,169 -8.6% 26%

Profit Before Tax 37,328 -5.6% 45,997 -7.4% 58,549 -8.4% 25%

Net Income 33,220 -4.6% 40,038 -7.9% 47,422 -7.9% 19%Source: Deutsche Bank

1. Reduction in revenue

and earnings estimates

by 4-6% and 6-8% for

FY09E and FY10E

respectively

2. Key assumption change

– Re/US$ (INR38.5 for

FY09E and INR37.8 for

FY10E)

347



Figure 40: Satyam estimate changes INR mn FY08E Chg (%) FY09E Chg (%) FY10E Chg (%) CAGR (08E-10E)

Revenue 82,969 3.8% 105,611 2.6% 128,969 1.0% 25%

EBITDA 18,278 1.5% 23,141 2.3% 27,920 0.8% 24%

EBIT 16,600 2.8% 20,768 2.8% 25,159 1.7% 23%

Profit Before Tax 19,777 6.2% 24,427 5.1% 29,768 4.5% 23%

Net Income 17,389 5.4% 21,247 5.2% 24,065 4.5% 18%Source: Deutsche Bank

Figure 41: HCL Tech estimate changes INR mn FY08E Chg (%) FY09E Chg (%) FY10E Chg (%) CAGR (08E-10E)

Revenue 74,426 1.2% 93,610 -2.3% 117,758 NA 26%

EBITDA 15,778 -1.6% 19,436 -4.3% 24,288 NA 24%

EBIT 12,727 -1.2% 15,548 -3.8% 19,354 NA 23%

Profit Before Tax 14,938 -1.7% 18,088 -2.4% 22,144 NA 22%

Net Income 12,406 -0.1% 15,054 -3.1% 17,297 NA 18%Source: Deutsche Bank

Our new target prices imply 3-39% potential upside over 12 months

Our three Buy-rated stocks have a potential target return of 28% (Wipro) to 39% (Infosys) We are cutting our target prices by 10-19% on (a) cut in estimates to factor in a stronger rupee and (b) lower target multiple to account for an uncertain macro environment, which is most likely expected to continue for at least the next few quarters.

We are reducing our target multiples from 16.5-24x 1-year forward to 13.5x-21x 1-year forward earnings to factor in this macro uncertainty which also seems centered on the financial services vertical, which is the largest vertical for many Indian vendors and a meaningful one for most companies under our coverage.

Figure 42: Revised target prices and upside ---------Target PE-------- -------Target Price------ Price

Company Reco New EPS (09/FY10E) New Old New Old 19/11/2007

Potential Return

(%)

Infosys BUY 103 21.0 24.0 2,160 2,625 1,558 39%

TCS BUY 69 19.0 23.0 1,320 1,450 960 37%

Wipro BUY 30 19.0 23.0 560 700 442 28%

Satyam HOLD 34 13.5 16.5 450 500 417 8%

HCL Tech HOLD 23 13.5 16.5 310 345 304 3%Source: Bloomberg, Deutsche Bank

Reduced target multiples

from 16.5-24x1-year forward

to 13.5-21x1-year forward on

macro uncertainty

348



Appendix1 Important Disclosures

Additional information available upon request

Disclosure checklist Company Ticker Recent price* Disclosure Infosys Technologies INFY.BO 1576.35 (INR) 26 Nov 07 1,2,6,7,8,14 HCL Tech HCLT.BO 310.10 (INR) 26 Nov 07 6,8,14 Satyam Computer SATY.BO 426.35 (INR) 26 Nov 07 2,6,8 Tata Consultancy TCS.BO 985.00 (INR) 26 Nov 07 8,17 Wipro WIPR.BO 452.70 (INR) 26 Nov 07 2,6 *Prices are sourced from local exchanges via Reuters, Bloomberg and other vendors. Data is sourced from Deutsche Bank and subject companies.

Important Disclosures Required by U.S. Regulators Disclosures marked with an asterisk may also be required by at least one jurisdiction in addition to the United States. See “Important Disclosures Required by Non-US Regulators” and Explanatory Notes. 1. Within the past year, Deutsche Bank and/or its affiliate(s) has managed or co-managed a public or private offering for this

company, for which it received fees.

2. Deutsche Bank and/or its affiliate(s) makes a market in securities issued by this company.

6. Deutsche Bank and/or its affiliate(s) owns one percent or more of any class of common equity securities of this company calculated under computational methods required by US law.

7. Deutsche Bank and/or its affiliate(s) has received compensation from this company for the provision of investment banking or financial advisory services within the past year.

8. Deutsche Bank and/or its affiliate(s) expects to receive, or intends to seek, compensation for investment banking services from this company in the next three months.

14. Deutsche Bank and/or its affiliate(s) has received non-investment banking related compensation from this company within the past year.

Important Disclosures Required by Non-U.S. Regulators Please also refer to disclosures in the “Important Disclosures Required by US Regulators” and the Explanatory Notes. 1. Within the past year, Deutsche Bank and/or its affiliate(s) has managed or co-managed a public or private offering for this

company, for which it received fees.

2. Deutsche Bank and/or its affiliate(s) makes a market in securities issued by this company.

6. Deutsche Bank and/or its affiliate(s) owns one percent or more of any class of common equity securities of this company calculated under computational methods required by US law.

7. Deutsche Bank and/or its affiliate(s) has received compensation from this company for the provision of investment banking or financial advisory services within the past year.

17. Deutsche Bank and or/its affiliate(s) has a significant Non-Equity financial interest (this can include Bonds, Convertible Bonds, Credit Derivatives and Traded Loans) where the aggregate net exposure to the following issuer(s), or issuer(s) group, is more than 25m Euros.

For disclosures pertaining to recommendations or estimates made on securities other than the primary subject of this research, please see the most recently published company report or visit our global disclosure look-up page on our website at http://gm.db.com.

349



AnalystCertification

Theviewsexpressedinthisreportaccuratelyreflectthepersonalviewsoftheundersignedleadanalystaboutthesubjectissuersandthesecuritiesofthoseissuers.Inaddition,theundersignedleadanalysthasnotandwillnotreceiveanycompensationforprovidingaspecificrecommendationorviewinthisreport.AjayMathrani

Historical recommendations and target price: Infosys Technologies (INFY.BO)

(as of 11/26/2007)

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Strong Buy Buy Market Perform Underperform Not Rated Suspended Rating

Current Recommendations

Buy Hold Sell Not Rated Suspended Rating

*New Recommendation Structure as of September 9, 2002

1. 1/9/2006: Buy, Target Price Change INR2,130.00



Historical recommendations and target price: HCL Tech (HCLT.BO)

(as of 11/26/2007)

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1. 5/9/2006: Upgrade to Hold, Target Price Change INR620.00

2. 18/2/2007: Hold, Target Price Change INR690.00


350



Historical recommendations and target price: Satyam Computer (SATY.BO)

(as of 11/26/2007)

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1. 5/9/2006: Upgrade to Hold, Target Price Change INR875.00



Historical recommendations and target price: Tata Consultancy (TCS.BO)

(as of 11/26/2007)

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1. 8/2/2006: Upgrade to Buy, Target Price Change INR1,971.00



351



Historical recommendations and target price: Wipro (WIPR.BO)

(as of 11/26/2007)

4

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1. 8/12/2005: Buy, Target Price Change INR495.00




Equityratingkey Equityratingdispersionandbankingrelationships

Buy: Based on a current 12- month view of total share-holder return (TSR = percentage change in share price from current price to projected target price plus pro-jected dividend yield ) , we recommend that investors buy the stock.

Sell: Based on a current 12-month view of total share-holder return, we recommend that investors sell the stock

Hold: We take a neutral view on the stock 12-months out and, based on this time horizon, do not recommend either a Buy or Sell.

Notes: 1. Newly issued research recommendations and target prices always supersede previously published research.

2. Ratings definitions prior to 27 January, 2007 were:

Buy: Expected total return (including dividends) of 10% or more over a 12-month period

Hold: Expected total return (including dividends) between -10% and 10% over a 12-month period

Sell: Expected total return (including dividends) of -10% or worse over a 12-month period

12%

28%

60%

7%13%12%

0

100

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300

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500

Buy Hold Sell

Asia-Pacific Universe

Companies Covered Cos. w/ Banking Relationship

352



RegulatoryDisclosures

SOLAR Disclosure

For select companies, Deutsche Bank equity research analysts may identify shorter-term trade opportunities that are consistent or inconsistent with Deutsche Bank's existing longer term ratings. This information is made available only to Deutsche Bank clients, who may access it through the SOLAR stock list, which can be found at http://gm.db.com

Disclosures required by United States laws and regulations

See company-specific disclosures above for any of the following disclosures required for covered companies referred to in this report: acting as a financial advisor, manager or co-manager in a pending transaction; 1% or other ownership; compensation for certain services; types of client relationships; managed/comanaged public offerings in prior periods; directorships; market making and/or specialist role.

The following are additional required disclosures:

Ownership and Material Conflicts of Interest: DBSI prohibits its analysts, persons reporting to analysts and members of their households from owning securities of any company in the analyst's area of coverage. Analyst compensation: Analysts are paid in part based on the profitability of DBSI, which includes investment banking revenues. Analyst as Officer or Director: DBSI policy prohibits its analysts, persons reporting to analysts or members of their households from serving as an officer, director, advisory board member or employee of any company in the analyst's area of coverage. Distribution of ratings: See the distribution of ratings disclosure above. Price Chart: See the price chart, with changes of ratings and price targets in prior periods, above, or, if electronic format or if with respect to multiple companies which are the subject of this report, on the DBSI website at http://gm.db.com.

Additional disclosures required under the laws and regulations of jurisdictions other than the United States

The following disclosures are those required by the jurisdiction indicated, in addition to those already made pursuant to United States laws and regulations. Analyst compensation: Analysts are paid in part based on the profitability of Deutsche Bank AG and its affiliates, which includes investment banking revenues Australia: This research, and any access to it, is intended only for "wholesale clients" within the meaning of the Australian Corporations Act. EU: A general description of how Deutsche Bank AG identifies and manages conflicts of interest in Europe is contained in our public facing policy for managing conflicts of interest in connection with investment research. Germany: See company-specific disclosures above for (i) any net short position, (ii) any trading positions (iii) holdings of five percent or more of the share capital. In order to prevent or deal with conflicts of interests Deutsche Bank AG has implemented the necessary organisational procedures to comply with legal requirements and regulatory decrees. Adherence to these procedures is monitored by the Compliance-Department. Hong Kong: See http://gm.db.com for company-specific disclosures required under Hong Kong regulations in connection with this research report. Disclosure #5 includes an associate of the research analyst. Disclosure #6, satisfies the disclosure of financial interests for the purposes of paragraph 16.5(a) of the SFC's Code of Conduct (the "Code"). The 1% or more interests is calculated as of the previous month end. Disclosures #7 and #8 combined satisfy the SFC requirement under paragraph 16.5(d) of the Code to disclose an investment banking relationship. Japan: See company-specific disclosures as to any applicable disclosures required by Japanese stock exchanges, the Japanese Securities Dealers Association or the Japanese Securities Finance Company. Russia: The information, interpretation and opinions submitted herein are not in the context of, and do not constitute, any appraisal or evaluation activity requiring a licence in the Russian Federation. South Africa: Publisher: Deutsche Securities (Pty) Ltd, 3 Exchange Square, 87 Maude Street, Sandton, 2196, South Africa. Author: As referred to on the front cover. All rights reserved. When quoting, please cite Deutsche Securities Research as the source. Turkey: The information, interpretation and advice submitted herein are not in the context of an investment consultancy service. Investment consultancy services are provided by brokerage firms, portfolio management companies and banks that are not authorized to accept deposits through an investment consultancy agreement to be entered into such corporations and their clients. The interpretation and advices herein are submitted on the basis of personal opinion of the relevant interpreters

353



and consultants. Such opinion may not fit your financial situation and your profit/risk preferences. Accordingly, investment decisions solely based on the information herein may not result in expected outcomes. United Kingdom: Persons who would be categorized as private customers in the United Kingdom, as such term is defined in the rules of the Financial Services Authority, should read this research in conjunction with prior Deutsche Bank AG research on the companies which are the subject of this research.

354


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The financial instruments discussed in this report may not be suitable for all investors and investors must make their own investment decisions using their own independent advisors as they believe necessary and based upon their specific financial situations and investment objectives. If a financial instrument is denominated in a currency other than an investor’s currency, a change in exchange rates may adversely affect the price or value of, or the income derived from, the financial instrument, and such investor effectively assumes currency risk. In addition, income from an investment may fluctuate and the price or value of financial instruments described in this report, either directly or indirectly, may rise or fall. Furthermore, past performance is not necessarily indicative of future results.

Unless governing law provides otherwise, all transactions should be executed through the Deutsche Bank entity in the investor’s home jurisdiction . In the U.S. this report is approved and/or distributed by Deutsche Bank Securities Inc., a member of the NYSE, the NASD, NFA and SIPC. In Germany this report is approved and/or communicated by Deutsche Bank AG Frankfurt authorised by Bundesanstalt für Finanzdienstleistungsaufsicht. In the United Kingdom this report is approved and/or communicated by Deutsche Bank AG London, a member of the London Stock Exchange and regulated by the Financial Services Authority for the conduct of investment business in the UK and authorised by Bundesanstalt für Finanzdienstleistungsaufsicht (BaFin). This report is distributed in Hong Kong by Deutsche Bank AG, Hong Kong Branch, in Korea by Deutsche Securities Korea Co. and in Singapore by Deutsche Bank AG, Singapore Branch. In Japan this report is approved and/or distributed by Deutsche Securities Inc. The information contained in this report does not constitute the provision of investment advice. In Australia, retail clients should obtain a copy of a Product Disclosure Statement (PDS) relating to any financial product referred to in this report and consider the PDS before making any decision about whether to acquire the product. Deutsche Bank AG Johannesburg is incorporated in the Federal Republic of Germany (Branch Register Number in South Africa: 1998/003298/10) Additional information relative to securities, other financial products or issuers discussed in this report is available upon request. This report may not be reproduced, distributed or published by any person for any purpose without Deutsche Bank's prior written consent. Please cite source when quoting.

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