Infosys announces bonus shares – What should Investors look for?

Infosys (INFY) is the India’s second largest IT services exporter multinational company. The recent announcement of issuing bonus shares was an interesting point which the firm put forth. The reasons for announcing the bonus shares might be:

·         To improve the liquidity of shares in the market.

·         To help investors understand that the firm is looking positive and has many future plans under its belt.

·         To expand the equity of the company.

What the investors should understand:

·         Issue of bonus shares doesn't increase the value of shares.

o    For example: Consider a firm whose share is valued at 200 and it announces a bonus share of 1:1. i.e. for every one share that the investor possesses, he is given an additional share. The point here is the value of share is halved in this case which brings down the share value to 100 and as the investor has two shares now, his overall capital invested is 200 again which is same as the value of single share before the bonus share announcement.

This is one of the important points that investor has to understand. No doubt, this in turn increases the liquidity in the markets with respect to the firm.

Should the investor go ahead and invest for a long term in Infosys?

The quarter results announced by Infosys did not beat the street estimates. The bonus issue should have given the investors’ confidence in the firm but one can see that there has been a sell off of about 6% on the Infosys stock on the same day when the announcement was made.

Let’s get into little fundamental and financial analysis.

Profit Before Interest and Tax & Profit After Tax

Figure 1

(The values are in crores)

As we can see from the above graphs that the PBIT and PAT are decreasing year on year while the profits of industry competitors have been increasing. The reasons might vary such as financial conditions in US markets, rupee appreciation and economic factors etc.

Certain factors which made Infosys lose its prior sheen are as follows:

·         High attrition rate despite of two wage hikes in last one year which rose to 18% from 16%.

·         Over the last 12 months, Infosys has lost several board members such as its BPO’s head, sales head and two presidents who resigned from the board.

·         Researchers say that Infosys is over-dependent on the North America for revenues.

·         The growth has not been consistent as per the figure 1 above.

The capital used for the issue of bonus shares is from the firm’s reserves and surplus which again decreases the reserves and surplus amount.

Few ratios to understand for long term investment

Days sales outstanding (DSO)

This ratio helps in understanding how quick any firm can collect its revenue after a sale has been made. The lower DSO states that the firm takes few days to collect its revenue which is a good sign, the higher DSO on the other hand states that the firm is lagging in collecting its revenue. The DSO for Infosys is given below.

Particulars	2013-14	2012-13	2011-12	2010-11	2009-2010
DSO (days)	60	63	63	61	56

As we can see from the above table that DSO in 2009-2010 was a good number and it slowly increased and maintained the same which is not good for Infosys as it means that Infosys is unable to maintain lower DSO which in turn hampers its cash flows.

Current Ratio

Current ratio measures the current liquidity of the firm. It helps investors in understanding whether the firm is capable of meeting its short term liabilities. The formula for current ratio is given as

Current Ratio = Current Assets / Current Liabilities

Current assets include cash, marketable securities, account receivables, inventory, deferred tax assets etc. Current liabilities include short term loan payment, account payables deferred tax liabilities etc. For current Ratio to be more than 1, the Current assets must be more than current liabilities. The following table shows the current ratio for Infosys:

Particulars	2013-14	2012-13	2011-12	2010-11	2009-2010
Current ratio	3.83	3.82	4.72	5.05	4.46

The Current Ratio was at its best for the firm during 2010-2011.  The current ratio kept decreasing from the year 2012 to 2014 which is a negative sign. This implies that Current Liabilities are more than Current Assets and there is a decrease in working capital which is given as the difference between Current Assets and Current Liabilities.

Earnings per Share (EPS)

This ratio speaks about how much every common share holder earns per every share he holds. The more the EPS the better the value of firm. The formula for EPS is given as:

EPS = (Net Income – Preferred Dividends) / Weighed Average Outstanding Shares Available

In case of Infosys, the number of shares in the open market has increased and this will lower the EPS as increase in number of outstanding shares (denominator) in the EPS formula will bring down the value of the EPS.

Apart from fundamental analysis, rupee appreciation also plays a vital role in determining the profits for the firm. As and when the rupee depreciates to dollar, the Firm has more profits and vice versa.

As previously mentioned, the firm depends more on North America for its revenue purpose. Therefore the economic and political factors of North America have to be good so that the Infosys performance can increase and remain positive.

Conclusion

As far as I am concerned, I would say that it would be wise to do a thorough fundamental analysis before going for a long term investment in Infosys. A part of fundamental analysis and other analysis is given above. Mere increase of shares and decrease in the value of share may not increase the value of the firm as the quarter results are weak along with the fundamentals.

Vishal Sikka (CEO & MD) of Infosys will have a tough time ahead in alleviating the above mentioned problems. He was with SAP as one of the board director earlier which is a Software Development Company and Infosys being a Software Services Company is a challenge for Dr. Sikka as his prior experience is not into software service.

Infosys sits on a pile of cash and the debt in the capital structure of the firm is very low which is an advantage to the Firm.

Overall, any Investor should be very careful in investing in Infosys right away. They shouldn't invest  just on the basis of bonus shares announcement. A complete fundamental analysis should be done before taking any decision.