Infosys Seen Needing French Deal to Lift Value: Real M&A

Infosys Ltd. CFO V. Balakrishnan
V. Balakrishnan, chief financial officer of Infosys Ltd. Photographer: Namas Bhojani/Bloomberg

Infosys Ltd., India’s second-largest software-services exporter, is seeking European acquisitions as it trades at its lowest valuation since the financial crisis. That’s turning French companies from Sword Group to GFI Informatique into potential targets.

Infosys, whose $4 billion cash pile is the biggest among India’s computer-services providers, said last month it’s looking for a European deal after its annual sales forecast trailed analysts’ estimates. With growth curbed by competition, the Bangalore-based company is trading at 15.9 times earnings, the lowest since the aftermath of Lehman Brothers Holdings Inc.’s collapse, according to weekly data compiled by Bloomberg.

A European takeover would help Infosys add a local sales force and new lines of business as it loses the ability to command high prices for basic software development, Ambit Capital Pvt. said. With French information technology companies trading at a median price-to-sales multiple that’s 72 percent cheaper than their western European rivals, Sopra Group, GFI Informatique and Sword all offer Infosys the footprint it seeks in the region, according to Talence Gestion.

“The need for an acquisition to compete more effectively at the front end seems quite key for Infosys,” Ankur Rudra, a Mumbai-based analyst at Ambit Capital, said. “Unless they are ready to accept lower prices and hence possibly lower margins, they’ll just have to do this. Otherwise, they’ll get competed out of the market.”

Y2K Success

Founded in 1981 with $250 in capital and seven software engineers, Infosys signed its first customer in the U.S. later that year and opened its first overseas office in Boston in 1987, according to its website. With its shares closing last week at 2,311 rupees ($43.15), the 150,000-employee company had a market value of $24.8 billion, data compiled by Bloomberg show. Infosys rose 1.2 percent to 2339 rupees a share today.

Infosys’ sales growth surged as it helped companies tackle the so-called Y2K bug that threatened to reset calendars on computer systems to the year 1900. Annual revenue through March 2001 more than doubled to $416 million, according to data compiled by Bloomberg. The company’s early success made Infosys the “flag-bearer of the Indian IT industry globally,” CLSA Asia-Pacific Markets analysts wrote in a note last month.

The company is now losing ground as Mumbai-based Tata Consultancy Services Ltd. and Cognizant Technology Solutions Corp. of Teaneck, New Jersey, chase customers with “new found aggression,” CLSA’s Nimish Joshi wrote in the April 19 note. Armonk, New York-based International Business Machines Corp. is also hiring in India to compete for low cost offshore services.

Sales Growth

Infosys’s sales will rise as much as 16 percent to 391.4 billion rupees in the year ending March 2013, the company projected last month. That would be the slowest pace in two decades, excluding fiscal 2010 when revenue growth slowed to 5 percent after the September 2008 bankruptcy of New York-based Lehman spurred the worst financial crisis since the Great Depression, data compiled by Bloomberg show.

In contrast, Tata Consultancy said on April 24 that it has seen “absolutely no problem” for growth this year.

Down 20 percent in the past year, Infosys is trading at 15.9 times net income for the year ended in March. That’s the lowest since May 2009, when global equities were recovering from the bear market spurred by Lehman’s collapse, weekly data compiled by Bloomberg show.

Describing outsourcing work as “commoditized,” the company’s Chief Financial Officer V. Balakrisnan said in February that Infosys is looking for acquisitions that will expand its consulting offerings and intellectual property. That would enable them to vie for higher value contracts with companies from Dublin-incorporated Accenture Plc to Paris-based Cap Gemini SA, Ambit’s Rudra said.

‘Retain Market Share’

“An acquisition that can help them compete more successfully with the likes of global multinational IT services houses such as Accenture, Cap Gemini, IBM, is something they really need,” said Rudra, who has maintained a sell rating on Infosys since January 2011. “Their visibility across the IT services value chain will increase, their ability to gain and retain market share will be enhanced.”

Consulting and systems integration work will be the fastest growing area in information-technology services in the two years to 2013, reaching a total of $465 billion in annual spending, according to a Jan. 6 report by Forrester Research Inc. The adoption of cloud-based software that can be accessed via the Internet is reducing the need for basic software customization, Cambridge, Massachusetts-based Forrester said.

‘Really Critical’

The western European information technology market, the second-biggest after North America, reached $211 billion last year, according to Framingham, Massachusetts-based researcher IDC. Although spending in western and central Europe will slow this year as the region grapples with a sovereign debt crisis, Forrester predicts it will rebound in 2013.

Infosys, with $4 billion in cash as of March, can spend as much as $500 million on a single European purchase, Chandrashekar Kakal, global head of business IT services, said last month. Sarah Gideon, an Infosys spokeswoman in Bangalore, declined to comment further on the company’s acquisition plans.

“Europe is really critical,” said Rod Bourgeois, a New York-based analyst at Sanford C. Bernstein & Co. “Acquisitions become very important when you try to expand there because you often need local presence in order to be able to sell to continental European companies.”

The declining value of French technology companies is creating a buying opportunity for Infosys, according to Regis Lefort, who helps oversee more than 150 million euros ($194 million) in assets at Paris-based Talence Gestion.

‘Really Cheap’

After falling 21 percent on average in the past year amid concern that Europe’s debt crisis would spread from Greece, Ireland and Portugal to France, information technology services and application software companies in France worth more than $100 million are trading at a median of 0.5 times sales, according to data compiled by Bloomberg. That compares with 1.8 times for rivals in the rest of western Europe, the data show.

“French IT is really cheap right now,” said Lefort, who cited Sopra, Sword and GFI Informatique as logical takeover targets. Talence Gestion owns shares of Sword and GFI Informatique. “They’re medium-sized companies with a strong European presence and healthy finances,” Lefort said.

An acquisition of Sopra, which has 1.05 billion euros in annual sales and more than 14,000 employees, would double Infosys’s revenue from the continent, according to data from the companies. The 44-year-old company, with a market value of 500 million euros, counts Societe Generale SA and European Aeronautic Defence and Space Co. among its customers.

‘Change of Control’

Paris-based Sopra’s sales may increase 13 percent this year to a record and rise through at least 2014, analyst estimates compiled by Bloomberg show. The company ended last week valued at a 52 percent discount to sales. Sopra fell 0.6 percent to 41.75 euros a share, as of 12:56 p.m. in Paris today.

Any buyer of Sopra would need the approval of Chairman Pierre Pasquier, who owns 26 percent of the company along with co-founders and some managers. The 76-year-old Pasquier’s age may create an opportunity for a takeover, said Fabrice Revol, a fund manager at Paris-based Amplegest, which owns Sopra shares.

“There may well be a change of control when Pasquier decides to leave the company,” Revol said. Virginie Legoupil, a spokeswoman for Sopra, said Pasquier didn’t wish to comment.

A 26 percent retreat in the past year has left GFI Informatique with a market capitalization of 167 million euros. GFI shares fell 1 percent to 3.05 euros a share.

The Paris-based company trades at 0.27 times sales, compared with the 0.72 times that Japan’s Fujitsu Ltd. offered in a failed 419 million-euro takeover bid in 2007, according to data compiled by Bloomberg. Tokyo-based Fujitsu scrapped its effort after meeting resistance from GFI Informatique’s board and shareholders who considered the bid too low.

‘Stay Forever’

Still, the opportunity to acquire GFI Informatique may come as investment funds that own more than half the company eventually seek to exit their positions, according to Emmanuel Parot, an analyst at Paris-based Gilbert Dupont.

“More than 50 percent of capital is in the hands of funds which aren’t going to stay forever,” said Parot, who has an “add” rating on the stock. GFI Informatique is targeting revenue of 1 billion euros by 2015, an increase of 62 percent from last year. The company didn’t respond to phone and e-mail requests for comment.

Sword, the smallest of the three companies with a market value of 106 million euros, is also the most expensive at a valuation of 0.68 times sales, data compiled by Bloomberg show. Sword sold 80 million euros of assets last year to focus on higher-margin businesses such as software editing. Founder Jacques Mottard, who owns 18 percent of the 12-year-old company, in 1999 sold Decan, an IT company he had managed for a decade.

‘Key Positioning’

Sword has added cash to its balance sheet faster than any of its French rivals over the past five years, ending 2011 with 112 million euros of cash and short-term investments. Its shares fell 0.3 percent to 11.40 euros as of 12:56 p.m. today.

“Sword generates good levels of cash and has key positioning on niche segments that generate high margins,” said Benjamin Terdjman, Paris-based analyst at Genesta Finance. “They’ve got government contracts, contracts with European institutions, basically high-value contracts.”

“Sword is not up for sale,” Stephanie Desmaris, a spokeswoman for the company, said in an e-mail. “Mottard has no exit strategy, as he is leading a new development plan for Sword, which will include acquisitions.”

European companies have begun to adopt outsourcing in greater numbers. They accounted for 51 percent of the world’s outsourcing deals in the first quarter, versus 40 percent two years ago, according to a May 10 report from Everest Group, a Dallas-based consultant.

‘Building a Presence’

“From geographic perspective, continental Europe is very important,” said Sandip Kumar Agarwal, an analyst at Edelweiss Securities Ltd. in Mumbai. “Building a presence there organically is difficult because of language differences and also from the perspective of customers’ comfort. The acquisition route makes more sense.”

Excluding a $28 million acquisition of three back-office service centers in 2007, Infosys hasn’t closed a deal in Europe after discussing the idea for at least a decade, data compiled by Bloomberg show. In 2008, the company walked away from a plan to acquire U.K.-based Axon Group Plc after its 407.1 million-pound ($654 million) bid was trumped by HCL Technologies Ltd.

“They’ve been looking at targets for several years,” said Ambit Capital’s Rudra. “If they choose to go ahead with a target, it would enable them to tell their clients that they’re serious about their strategy.”

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