Kudos Infy - You have the right Strategy, but Innovation is the Key

"High Growth comes from balance, you will see us moving towards growth and profitability with the balanced approach that we have adopted"  these were the words of Mr.SD Shibulal after the Q4-2012 quarterly results were announced on 13th the Friday.  These words summarizes what Infosys "stands for" and "will stand for" the years to come.  Right from the days of NRN, Infy never chased volumes at the cost of profits, they were ready to sacrifice volumes if there were no profits.  This strategy has worked for them for the past 30 years and will work for them for years to come.  True after announcement of results analysts battered Infy, stock prices of Infy crashed by a double digit percentage, but the legend lives strong on its principle of growth with profitability.  

Infy has a clear strategy of superior financial growth and strong margins and they have stayed with it.  Let us look at numbers of Infy and other major IT players to understand the strategy of Infy vis-a-vis others.  As now is the trend to look at quarterly numbers let us also look at the "Q" numbers.

                                  NYA - Not yet announced
The analysts are right definitely Infy's revenue growth is under test compared to its peers, growing slowly over the quarters @ 4.6% lowest among its competing colleagues.  Does this mean that the magic of Infosys has waned away?  We have only seen one parameter of the strategy which is growth, let us look at the other parameter Margin.

Here Infy & TCS win hands down, margin @ around 40's where as others are in 20's.  Clearly Infy is living up with its strategy of growth and profitability.  Is it a good strategy to have?  Definitely yes because of the following reasons :

1. Avoiding Cost Sensitive Clients - This strategy means not working with highly cost conscious clients, whose primary aim is cost and second comes the product.  If there is a price upward revision these clients simply dump the existing vendor and move to another who offers lower cost - No Loyalty 
2. No Cross Subsidization - Infy looks for profit in every business / client.  This is a very good option, some companies will look at taking clients at very low margin because of volume with the belief that from some other clients they will get higher margins. This is cross subsidy.  Margins will be under severe threat when the higher margin clients exert price pressure 
3. Falling Quality Standards -  In the long run with margins dropping there will be pressure from investors to keep profitability at reasonable levels.  At that point reaching to customers with price revisions may not be possible, which means cutting costs and some times at the cost of quality 
4. Increase in working Capital -  Companies with lower margins tend to have higher working capital requirements, as over a period of time their margins will be inadequate to cover Receivables & expenses.  This is turn would mean requirement for working capital and its related costs
5. Spreading Too Thin -  With volumes increasing constantly at the cost of margin, companies will like to make optimal (high) usage of resources meaning expectations of higher productivity from the existing assets (including Human Resources).  This will over a period of time lead to "Over Utilisation" of capacity and consequent costs related to it will occur
6. Price Pressure from Clients -  During difficult times like Euro Crises, clients will definitely like to cut their spends in whatever form and the first cut will happen in services, which means IT.  At that point if the margin is reasonably high then a small cut in margin will not affect the company's cashflow and once things are back to normal the margins can be restored.  But on the contrary if margins are low then taking a cut in margin will be very difficult as it would mean (at times) borrowing of funds to meet working capital expenses which will also add to profitability woes.
7. High Investment -  High volume of business means requirement for higher investments in infrastructure.  Cost of maintaining this infrastructure should also be added to this.  When margins are thin this will be definitely a strain on business funds over a long period of time
8. More Work less money - Though Revenue  per employee / asset will be higher in companies with lower margin high growth, Profitability per employee / asset will be lower, meaning "More Work, Less Money".  Again in long run this will have its own impact

In the long run definitely the strategy of Infy will be very solid - Growth with Profitability.  But the million Dollar question is how do they achieve both?  This is where I admire companies like Microsoft & Apple.  Both of them rely on innovation.  I like the words of Bill Gates who once said "For me a product is obsolete once it is launched", which means as soon as he launches a new version he considers it to be obsolete and goes back to the drawing board to innovate and launch new products.  Apple with its "i" range of innovative products has taken the market by storm and it not only grows leaps and bounds but also its profitability is sky rocketing.  For information Apple's Gross Margin is in the 40s and Microsoft's Gross Margin is in the whopping 60s.

In short, if Infy has to maintain its strategy as well be a darling to its stake holders it should Innovate.  It should roll out more and more innovative products and price them at a premium and earn higher margins.  One aspect always surprises me is that Infy (and most of the Indian IT companies) are excellent in rolling out SAP by being partners of SAP, but no one has ever tried to create a product like SAP and successfully roll it out (though some have smaller versions of it)?  This is where Indian IT companies have to innovate.  

My advice - Infy turn to the drawing board invest in R&D, roll out innovative products and then surely you can walk your talk of Growth with Profitability, if not you will only provide lip service to your strategy and see your competitive colleagues zip past you.

What Went Wrong @ Kingfisher Airlines - An Accountants Perspective

It was during good times (or deemed good times?) of Kingfisher airlines about 3 years ago, I took a Kingfisher flight from Delhi to Lucknow.  It was a 40 minute flight.  The aircraft was a big one (not sure of the make), with 6 seats in a row and it had live television on every seat.  Once the aircraft took off the hostess hurried with snacks and believe me it was so huge that by the time I could finish half of it the plane was about to land and the hostess came back asking for the plates, so being typical Indian I packed the left out snack in a tissue paper and continued eating and the hostess happily took away my empty plate.  Though Immersed onto the live television and the snack provided, I also looked around the aircraft and found it was half empty (or half full to be optimistic).  In Lucknow I had one of my colleagues waiting for me to take me to Kanpur and I said to him "for the money I paid, it is too big a service I got from KFA, I am not sure whether they can continue like this for long?"  From that time, being an accountant I kept asking myself how does KFA keeps rolling out these big services at the same time keeping the price tag lower to match its competitive colleagues. 

Now that the tide has changed on KFA and my fear over the years have become real.  The company has been subsidizing its services over the years and the bill for this subsidy was picked by the banks to an extent of Rs.7,200 crores.  Am I right in saying subsidy?  Let me check the cashflow of KFA.

The analysis of cashflow shows that majority of the Cash realised from financing activities over the years have been consumed to finance the loss in cash from operations, rather than taking the money to investment activities.  Argument may be placed that the cash spent on operations is towards working capital but if we look at Net Profit it is negative through out which means expenses outsmarted income by a huge margin.   And according to me it is subsidy.

But did KFA had a choice as this is the state of the industry with high cost of wages due to lack of skilled pilots, increasing aviation fuel cost, congestion at airports leading to delays and consequent costs, compulsion to operate in some routes & intense competition from other airlines.

Let us analyse some more facts.  First, Indian aviation traffic increased 19% CAGR during the period 2006-11, Second, Indian air travel penetration is approximately 0.1 or less trips per year per person this is compared to China which is 0.2 trips per person per year and 2 trips per person per year in United States.  Does this fact suggest something juicy?  Yes it does there is lot of meat to chew, a huge potential to tap.  That I believe is what made KFA over leverage on their finances (ie) spend more than their means. 

Can this huge market availability turn into opportunity for the airlines?  I have my doubts.  First for an airline to make profits there should be world class infrastructure.  I for one believe that our airport infrastructure is far from satisfactory except for some airports in the metros.  This lack of infrastructure will make operational costs higher.  Second, passenger traffic grew 16% CAGR between 2006-11 will that be maintained is quite doubtful atleast in the short term of 3 years as Indian economy is not growing at the speed which it grew in the last decade and there will be a dent in growth rates.  Third most of Airline companies in India have major portion of their revenue from domestic operations which is highly price sensitive, they should tap more into International routes to have better realisation's.   Fourth pricing should be aggressive no doubt to keep competition at bay but it should be done smartly to have expenses covered.

If I were to be CFO of an airlines company what I will do?  It is easy to buy / lease aircrafts as they are sourced out of developed countries and the financial products in India are aped from developed countries and so financing them is also easy.  But the Big Question is "Is the Indian market ready", the answer is NO.  The current Indian market though looks big in potential is a small market and highly price sensitive.  I will look for the long term and a steady growth.  I would not put too much money in too many planes but start modestly, price aggressively (to keep my expenses covered) generate margins, generate net worth and use this positive networth to grow over a period of time (remember our childhood story of Hare & the Tortoise).

KFA is now having a huge negative Networth (BIFR?) they need more money to provide more subsidy to the passengers or alteast pay back the bankers who till now are subsidising.  I would suggest KFA to cut planes / routes, bring in more capital, pay off huge debts, stop major chunk of financial lease, recreate the brand of KFA, generate profits and use that profit to leverage in the long run.

My advise as an Accountant : Indian aviation industry will be a success story, but the players in this industry need to progress with caution as there are too many "Smoke and mirrors" there and it is easy to get foxed into them.  Price your product aggressively but never lose your focus on margins, because once you let it go it is difficult to get it back.   I always say it is good to lose some "Battles" but  win the "War".

XBRL filing deadline extended to 31.12.2011

Ministry of Corporate Affairs has vide their Circular number 69/2011 dated 30.11.2011 extended the due date for filing of XBRL returns by eligible companies either within 60 days of their due date of filing of the returns or by 31.12.2011 whichever is later.  Technically the last date will be 31.12.2011 for all companies required to file XBRL returns this year.

XBRL - eXtensible Business Reporting Language

eXtensible Business Reporting Language (XBRL) is basically an electronic communication tool (or software) of business and financial data which helps capture information of business and financial data in a systematic and a uniform way.

How it helps : XBRL for business reporting in India

Currently for filing form 23AC & form 23ACA (ie) Balance Sheet and Profit & Loss Account with ROC, companies upload their balance sheet & Profit and Loss account in a Pdf format.  Retrieval of information from this Pdf format is a challenge as companies do not have uniform method of presentation in their annual reports though all follow Schedule VI format.  There are subtle variations in the presentations, which makes it quite difficult for comparisons among companies and also analysing data's of companies for various decision making.  XBRL help comes in handy here.  XBRL has developed General Purpose Financial Reporting XBRL taxonomy for Commercial and Industrial Companies, which helps to capture data in a systematic manner.  All companies (there are certain exceptions here) should

1. update their audited financials in the XBRL format (which is almost like an Excel facility)
2. validate the data filled in XBRL (tool available within the XBRL software)
3. Generate and XML file using XBRL tools
4. Get it certified by either a Chartered or Cost Accountant or a Company Secretary
5. File form 23AC & 23ACC along with this XML file

XBRL provides a coherent format of Schedule VI where every company has to fill in data in a sequential format along with schedules, notes to accounts, Directors Report & Auditors Report.  XBRL taxonomy has been designed beautifully to cover all types of companies from manufacturing and service sectors, it is quite exhaustive.  However currently Banking Companies are not covered which is currently under development.

How to capture data in XBRL :

There are lot of software vendors from where you can buy XBRL software plus there are also free software available for download.  You can choose any of them.  I tried it with the software purchased from taxmann publications.  First there is a General Information where you have to provide general information about the company and also the method of preparation of your financials (ie) type of balance sheet, profit and loss account and cashflow.  The detail of Balance Sheet is taken in from fixed assets to provisions and the main balance sheet account is generated. Similarly for profit and loss account all schedules from revenue to taxes are inputed and the main profit and loss account is generated.  Cashflow is also generated.  Data on various notes on accounts is also captured.  The beautiful part is that all these reports are interlinked (ie) data in balance sheet / profit & loss account / Cashflow & notes on accounts should tie up if they are linked.  For example expenses on Auditors fees is captured in Profit and Loss account as a single line item.  In notes there is a requirement for detailed audit fees, the validation here is that the Audit fees total in Notes on account should tally with the audit fees captured in the profit and loss account.  This is true for all the entries.  This validation helps in accuracy of data.

Benefits of XBRL :

1. Uniform presentation of data
2. Can be used for updation by all Commercial and Industrial Companies including Service industries
3. Data captured is exhaustive with all detailed information on financials of the companies
4. Investors, analysts, regulators & general public can have exhaustive information in a relevant & consistent format
5. Comparison between company's financials made easy
6. Quite flexible as it can change to changes in regulations by making changes in taxonomy - so this will withstand test of time

Conclusion :

XBRL is a tool which needs to be filled by an expert who has knowledge of Schedule VI and its relevant schedules.  The expert can be within the organisation or there are also professionals available who can help companies fill in XBRL for a small fees.  Overall I feel this is an important step towards systematic data collection, which will help business to grow further, I welcome this important change and hope to see this extend further to other areas like Direct tax & indirect tax data's.

Gross Margin - The warning message - Part II

Gross Margin analysis becomes vital for every organisation as it helps us to track activities across various spectrum of the organisation. Movement / Changes in Gross Margin occur mainly due to :

1. Change in Raw Material / Packing Material purchase price
2. Change in rates of Sub-contractors who helps company to sub-contract certain manufacturing process
3. Change in manufacturing costs - direct overheads
4. Change in Selling price
5. Change in product mix when compared to previous period
6. Change in customer mix when compared to previous period
7. Change in logistics costs for both inward rawmaterials and outward finished goods
8. Abnormal activities in purchasing like "Air-Freight", "One off purchase at high cost", "purchase of alternative material at high cost due to non-availability"
9. Abnormal activities in manufacturing like "Higher operation costs due to power cuts", "lower yield duirng the month"
10. Abnormal activities in sales like "one-off quantity discount to a customer", "offer price to a large volume customer", "non moving sales"
11. Abnormal cases where management takes a strategic decision on either a particular raw material or production process or particular customer at a different price structure

In Short, Gross Margin analysis runs through the entire length and breath of the organisation, it tracks movements in purchasing, sub-contracting, manufacturing, logistical points, sales point & management decisions. If an accountant tracks the gross margin movement of products he will have on his palm top data on all the activities of the organisation, with which reports can be generated so that decisions can be taken on them.
Gross margin analysis is the fulcrum which helps an accountant to provide management with vital details about profitability and hence is a very important and indispensible tool.

Gross Margin - the warning message

Gross Margin is an excellent yard stick of business and its mirrors the effectiveness of the management team. Gross Margin is the difference between the selling price and cost of the of the product (before fixed expenses). The brute message is keep pusing up the selling price while keeping your direct raw material and direct fixed costs (selling & manufacturing costs) at the lowest possible. If gross margins drop then alarm bells should start ringing and action should be immediately initiated either to correct selling price or reduce direct fixed costs. Failure to act with determination and speed will lead to erosion of profits and in the long run losses. Sales people will resist increase in selling prices and purchase people will resist brining down prices from vendors as it means lot of extra work for them, but we accountants being the watchdog of groos margins should keep on shouting from the roof top to both sales & purchase so that gross margins do not slip away to dangerous levels. Usually in most of the manufacturing companies gross margins are sacrificed when considering higher sales at lower costs this will have a ripple effect when there is a bad patch in sales like in the period from 3rd Quarter of 2008 to till date in 2009. Now sales have dropped significantly and if gross margin is also low nothing can be done about it at the moment and there will be a double effect of lower sales and lower gross margin meaning thereby lower profits and higher related problems - including problems in cashflow.

I would equate gross margin to the way ants save for their winter. Let us keep gross margin levels even in goods years and do not sacrifice the same for sake of sales. Gross margin is within our control, whereas sales may not be within our control as there are many external factors.