With bulging cash coffers and inorganic growth aspirations, Infosys Technologies has for long been scouting for suitable acquisitions. It seems to have finally found an ideal candidate in the Axon Group.
Axon has been a consulting and solutions implementation partner of SAP for the past 14 years. Implementation of SAP, Microsoft or Oracle software packages, is usually an enterprise-wide exercise for most clients. These services also command higher billing rates compared to application development and maintenance services. Axon's strength in consulting and solutions implementation is evident from the fact that the company derives 19 and 69 per cent revenues respectively from these two services.
Strengthening its package implementation (enterprise solutions) and consulting services practice, penetration into a client segment where Infosys does not have a big presence (for instance, government clients) and expanding its EMEA (Europe and Middle-East Area) footprint may be key payoffs for Infosys from this proposed acquisition. The acquisition may also add to Infosys' strengths in providing enterprise solutions to the BFSI and manufacturing segments. It may, however, be a few years before Axon may add significantly to Infosys' EPS.
Reasonable valuation?
At £407 million (Rs 3,258 crore), the buyout consideration is approximately twice Axon's 2007 revenues. Its current market capitalisation is £391.6 million (Rs 3,135 crore). The company has grown its revenues at a compounded annual rate of 53 per cent over the past three years. The valuation may, therefore, not be too expensive. With nearly $2 billion (over Rs 8000 crore)cash in its kitty, funding this acquisition may not be a problem for Infosys.
Lower margin profile
This could have set the tone for the creation of a high-margin business for Infosys. But the (net profit) margin profiles for the two companies are quite different; Axon's 10 per cent being much lower than Infosys' 27 per cent levels due to the former's different cost structure and higher tax rates. A wage cost structure that is 48 per cent of revenues and a tax incidence of 31.5 per cent means that Axon has much lower margins compared to Indian players. Only 350 of its 2,000-odd employees are working offshore (low-cost destinations), that too on application management services. Infosys derived $993 or 24 per cent of its 2007-08 revenues from consulting and package implementation services. Within this, 33 per cent was from SAP package implementation and related services.
Newer verticals
Over the next few years, Infosys could look at creating a larger offshore component and leverage its global delivery model in the enterprise solutions services line to include Axon's clients, thus optimising costs. Axon's clients comprise those in segments such as government and oil and gas, areas where Infosys is yet to make significant headway. These offerings may turn out to be complementary. The other benefits that Axon bring are strong business process consulting expertise — an area that is not yet a key strength of Indian players — and a substantial presence in the Europe and the fast growing West Asian region (61 per cent of revenues for Axon).
With enterprises in the Americas and Europe looking to expand in the Asia-Pacific region and West Asia, replication of business processes becomes critical. That could well provide considerable business opportunities for Infosys, with added enterprise solutions expertise to tap. Other opportunities for Infosys include the possibility of up-selling and cross-selling services to Axon's clients.
In its own business, Infosys has embarked on a series of initiatives for achieving non-linear growth.
Growth initiatives
Its latest version of Finacle tries to offer the entire gamut of banking services and includes features such as Islamic Banking and Wealth Management.
With the investment phase nearly over for this product, this may pave the way for multiple revenue streams in the form of licensing, implementation (with minimum customisation) and maintenance revenues.
Finacle also has substantial domestic presence. Delivering services through a different platform such as Software as a Service (SaaS) is also an initiative.
Together, these initiatives might see a growth in revenues without a proportional growth in manpower recruited, thus enabling margin expansion over a two-three year period.
The acquisition is not a done deal yet. Axon may have counter offers from other suitors that may better Infosys' offer, hurting the acquisition or escalating the price.
A prolonged slowdown in the US and Europe would mean lowering or postponing spends on enterprise solutions implementation.
The sunset clause on STPI in 2010, may increase tax incidence for Infosys.
However, apart from changing its service mix in favour of high-margin services and initiatives on achieving non-headcount-linked growth, Infosys has headroom to steer key operating metrics and manage margins.
This makes Infosys one of the best placed Tier-1 IT services player in countering the current challenging macro environment and achieving growth. In this light, investors with a two-year horizon can consider buying the stock.
At Rs 1,740, the stock trades at 17 times its likely 2008-09 earnings.
Axon has been a consulting and solutions implementation partner of SAP for the past 14 years. Implementation of SAP, Microsoft or Oracle software packages, is usually an enterprise-wide exercise for most clients. These services also command higher billing rates compared to application development and maintenance services. Axon's strength in consulting and solutions implementation is evident from the fact that the company derives 19 and 69 per cent revenues respectively from these two services.
Strengthening its package implementation (enterprise solutions) and consulting services practice, penetration into a client segment where Infosys does not have a big presence (for instance, government clients) and expanding its EMEA (Europe and Middle-East Area) footprint may be key payoffs for Infosys from this proposed acquisition. The acquisition may also add to Infosys' strengths in providing enterprise solutions to the BFSI and manufacturing segments. It may, however, be a few years before Axon may add significantly to Infosys' EPS.
Reasonable valuation?
At £407 million (Rs 3,258 crore), the buyout consideration is approximately twice Axon's 2007 revenues. Its current market capitalisation is £391.6 million (Rs 3,135 crore). The company has grown its revenues at a compounded annual rate of 53 per cent over the past three years. The valuation may, therefore, not be too expensive. With nearly $2 billion (over Rs 8000 crore)cash in its kitty, funding this acquisition may not be a problem for Infosys.
Lower margin profile
This could have set the tone for the creation of a high-margin business for Infosys. But the (net profit) margin profiles for the two companies are quite different; Axon's 10 per cent being much lower than Infosys' 27 per cent levels due to the former's different cost structure and higher tax rates. A wage cost structure that is 48 per cent of revenues and a tax incidence of 31.5 per cent means that Axon has much lower margins compared to Indian players. Only 350 of its 2,000-odd employees are working offshore (low-cost destinations), that too on application management services. Infosys derived $993 or 24 per cent of its 2007-08 revenues from consulting and package implementation services. Within this, 33 per cent was from SAP package implementation and related services.
Newer verticals
Over the next few years, Infosys could look at creating a larger offshore component and leverage its global delivery model in the enterprise solutions services line to include Axon's clients, thus optimising costs. Axon's clients comprise those in segments such as government and oil and gas, areas where Infosys is yet to make significant headway. These offerings may turn out to be complementary. The other benefits that Axon bring are strong business process consulting expertise — an area that is not yet a key strength of Indian players — and a substantial presence in the Europe and the fast growing West Asian region (61 per cent of revenues for Axon).
With enterprises in the Americas and Europe looking to expand in the Asia-Pacific region and West Asia, replication of business processes becomes critical. That could well provide considerable business opportunities for Infosys, with added enterprise solutions expertise to tap. Other opportunities for Infosys include the possibility of up-selling and cross-selling services to Axon's clients.
In its own business, Infosys has embarked on a series of initiatives for achieving non-linear growth.
Growth initiatives
Its latest version of Finacle tries to offer the entire gamut of banking services and includes features such as Islamic Banking and Wealth Management.
With the investment phase nearly over for this product, this may pave the way for multiple revenue streams in the form of licensing, implementation (with minimum customisation) and maintenance revenues.
Finacle also has substantial domestic presence. Delivering services through a different platform such as Software as a Service (SaaS) is also an initiative.
Together, these initiatives might see a growth in revenues without a proportional growth in manpower recruited, thus enabling margin expansion over a two-three year period.
The acquisition is not a done deal yet. Axon may have counter offers from other suitors that may better Infosys' offer, hurting the acquisition or escalating the price.
A prolonged slowdown in the US and Europe would mean lowering or postponing spends on enterprise solutions implementation.
The sunset clause on STPI in 2010, may increase tax incidence for Infosys.
However, apart from changing its service mix in favour of high-margin services and initiatives on achieving non-headcount-linked growth, Infosys has headroom to steer key operating metrics and manage margins.
This makes Infosys one of the best placed Tier-1 IT services player in countering the current challenging macro environment and achieving growth. In this light, investors with a two-year horizon can consider buying the stock.
At Rs 1,740, the stock trades at 17 times its likely 2008-09 earnings.
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