infosys-low-returns.jpg

A drop of 21% in the Infosys shares was a shocking event for almost all the investors in the Infosys. I was browsing through almost all the financial portals and there were big headline like, “Infosys Q4 disappoints; downgrades loom on weak guidance”, “Analysts again wrong footed by Infosys numbers” says Santosh Nair editor from Moneycontrol portal and “Why Infosys Q4 results are disaster” etc.

Media is justifying the fall in Infosys is because of missing revenue guidance, no EPS guidance and outlook for guidance mere in range of 6% – 10% instead of 12% – 14%.

Let me think rationally and put my point of view over here. I am looking at the consolidated reports released by Infosys and if I apply simple high school maths I can make it out that Revenue for the year 2013 have grown by 20% (For your reference please click here). Operating profit margins have slip down to 26% from 29% of 2012 and Net profits have grown by 13% for the year 2013.

Return on equity ratio helps us to understand whether the above performance was better than the previous year. The return on equity for the year end 2013 stands at 26% for the Infosys compare to 29% in the year 2012.

A drop of 3% return should damage the intrinsic value of the Infosys business but not by 21% in the price of its shares.

People do invest looking at the future prospects of the business. Nasscom was expecting that Infosys will give the guidance of 12% – 14% growth in the revenue for the year end 2014. That converts its revenue guidance in the range of Rs 45,000 – 46,000 Crore. If I apply little bit of high school maths again and assume that they will face pressure of sliding down in their operating margins in the current year too, I end up with my Net Profits figure in the range of Rs 9,450 – Rs9,700 Crore.

So Nasscom forecast would have given a growth of 0% – 3% in Net Profits for the 2014 year.

But a guidance of 6% – 10% growth by Infosys management does not change those numbers by and large. That tells us to expect revenues in range of Rs 43,000 – Rs 44,000 Crore and Net Profits in the range of Rs 9,000 – Rs 9,200 Crore.

A difference of approximately Rs 500 Crore in the profits again does not justify a drop of 21% or approximately Rs 35,000 Crore of investors’ money wiped out from the market.

The business of forecasting earnings of any company is no different then forecasting weather of any city for the next week, quarter or year. A survey had shown that almost 95% of analysts forecast are close to the optimistic figure. We prefer to stick to a bit pessimistic but close to rational side and avoid such massive disruption of investors’ value.

I agree with few portals that most of the analysts were at the wrong side or were not calculating estimates of fair value of Infosys rationally.  Hance we believe the damage of investors’ loss in Infosys shares is done by the analysts not by Infosys guidance, we also think investors are also equally responsible for believing blind folded and not investigating the sources and validating predictions before buying at mind-boggling prices.

Our value operations platform had calculated Infosys fair value for the year end 2013 to be Rs 1,763 per share and we are expecting its EPS for the year end 2014 to be around Rs 178 and that gives us its expected fair value for the year end 2014 to be approximately Rs 1,969. I won’t be surprised to see now many analysts predicting share price of Infosys below Rs 2,000!!

A note of caution over here that valuing any business and predicting trend of share market price of any stock are entirely two separate line of finances. It should be not assumed that our calculations of values to be taken as the short term trend on how prices will react in the market. Though, we believe that in the long term, the prices of underlying assets always follow its intrinsic values.

Disclaimer: Value operations private fund does not hold any shares of Infosys and does not consider Infosys as one of the extraordinary business so far for the next decade and does not fit in our search for 20 great businesses. However we were approached by many professionals to find out how our platform values Infosys on its 2013 year performance and expectations of its value to perform on the given guidance.