Infosys, the poster of Indian IT industry, finds itself in a spot of bother after a letter written by a group of employees to the US Securities and Exchange Commission (SEC) alleged that unethical steps were taken by the company to boost short-term revenues and profits. The group has submitted emails and voice recordings to substantiate the alleged wrongdoings, and also written a letter to the Board, asking it to investigate the matter and take suitable actions.
US listed shares of Infosys fell 13% on Monday night and on Tuesday the Bengaluru-headquartered giant saw Indian shares close with a whopping 16.7% loss, the worst intra-day decline in over a decade. The massive drop in Infosys shares on Tuesday have also meant that the stock’s last 12 month-gain have been completely erased.
Infosys is a darling of mutual funds and as much as Rs 42,000 crore worth MF money was in the stock. With Tuesday’s 16.7% fall, MFs are poorer by about Rs 7,000 crore. Infosys has announced that its audit committee will investigate the matter. Assuming the episode will be an overhang on the stock for the next few weeks if not months, then that is going to affect the MF investors too. RupeeIQ takes a look at how MFs will get affected.
Whistle blower allegations
The whistle blower letter from a group of Infosys employees, calling themselves ‘ethical employees’, pointed out the alleged unethical steps taken by the company to boost short-term revenues and profits. The group has submitted emails and voice recordings to substantiate the alleged wrongdoings, and also written a letter to the board, asking it to investigate the matter and take suitable actions.
According to the letter, dated 20 Sep’19, to the Board of Directors, these employees were asked not to fully recognise costs like visa costs in 1Q; also, during 2Q, they were pressurised not to recognise reversals of $ 50 million of upfront payment in FDR contracts, which is considered against accounting practices.
As per the letter, several billion-dollar deals won in the past few quarters have nil margins and revenue recognition matters were forced, which were not as per accounting standards. The group has even claimed that the CEO was bypassing reviews and approvals and instructed sales not to send mails for approval while he directed them to make wrong assumptions to show margins. The CFO Nilanjan Roy was allegedly compliant and prevented these employees from showing large deal issues in board presentations. Also – we don’t know yet if they are related issues – Infosys executive vice-president and deputy CFO Jayesh Sanghrajka quit just a few days ago after a long innings. Last November, Infosys CFO MD Ranganath also had quit. In March this year Roy was made the CFO.
Infosys chairman Nandan Nilekani said in a statement that Infosys placed the complaints before the audit committee on October 10, and before the non-executive members of the board on October 11.
The complaints are being dealt with in an objective manner, and Parekh and Roy were not part of the investigations to ensure independence, Nilekani said.
The latest round of allegations come just a couple of years after Infosys endured a shake up that saw its then top boss Vishal Sikka leave the company.
Mutual funds exposure
As on September 30, mutual fund has roughly 54.93 crore shares of Infosys. This is lower than 55.37 crore in August end, 55.91 crore in July end and 56.65 crore in June end. As many as 427 different mutual funds schemes have shares of Infosys.
Technology funds – IT focussed funds have huge exposure to Infosys shares. ICICI Pru Technology Fund has 44.25% AUM in Infosys, followed by SBI Technology Opp. Fund (35.69%), Tata Digital India Fund (33.74%), Aditya Birla Sun Life Digital India Fund (27.46%) and Franklin India Technology Fund (25.05%).
Passive funds and ETFs – Since Infosys is part of many indices such as Nifty 50, Nifty 50 Value 20 and Sensex, many passively managed funds and ETFs have high exposure to Infosys. For instance, Nippon India ETF Shariah BeES has over 23% exposure to Infosys, followed by Kotak NV 20 ETF (14.8%), Nippon India ETF NV20 (14.76%), ICICI Pru NV20 ETF (14.69%), and Taurus Nifty Index Fund (9.05%) etc. Many ETFs and index funds have Infosys exposure at 6-8% of their individual fund assets.
Largest funds – One of biggest equity funds in the country, the Rs 59,000-crore SBI-ETF Nifty 50 has 6.26% exposure in Infosys shares. This ETF is one of the MF schemes used by the EPFO to invest money in stock markets. The Rs 41,000-crore HDFC Balanced Advantage Fund has over 8% of assets in Infosys shares, followed by Rs 30,000-crore SBI Equity Hybrid Fund (3.5%), and Rs 27,900-crore ICICI Pru Balanced Advantage Fund (2.8%). Among actively managed pure equity funds, the Rs 27,000-crore Kotak Standard Multicap Fund has over 4.1% exposure in Infosys shares.
ELSS/tax-saving funds – The tax-saving mutual funds also have quite a big stake in Infosys shares. For instance, the Rs 7,000-crore HDFC Taxsaver Fund has 8.28% money in Infosys shares, followed by SBI Magnum Taxgain 93 (3.2%), Franklin India Taxshield (nearly 3.7%) etc. Quantum Tax Saving has over 9% in Infosys.
Thematic/value funds – Many thematic and value oriented funds have been building positions in Infosys. Such schemes will be hard-hit with trouble in Infosys shares. Nippon India ETF Dividend Opportunities Fund has close to 9.8% of its AUM in Infosys shares. Quantum Long Term Equity Fund has 9.26% in Infosys shares. Funds like UTI Dividend Yield Fund (9.06%) and ICICI Pru Value Discovery Fund (8.62%) have high Infosys exposure.
|AUM (in Rs. cr)||% of AUM||No. of Shares|
|SBI-ETF Nifty 50||59044.7||6.26||45871791|
|HDFC Balanced Advantage Fund(G)||42312.8||8.36||43893538|
|HDFC Equity Fund(G)||22490.8||8.35||23297439|
|ICICI Pru Bluechip Fund(G)||23018.6||6.94||19840238|
|ICICI Pru Value Discovery Fund(G)||15218.7||8.62||16283598|
|HDFC Top 100 Fund(G)||17613.7||7.44||16259954|
|Aditya Birla SL Frontline Equity Fund(G)||20692.2||5.89||15121074|
|HDFC Hybrid Equity Fund(G)||21076.1||5.41||14146892|
|Kotak Standard Multicap Fund(G)||26991.2||4.1||13730562|
The expert reaction
Brokerage Equirus Capital said that there has been an aggressive revenue recognition and it believes higher FPP (fixed price projects) revenue (due to Stater acquisition) in 1H led to greater un-billed revenue due to estimates on milestones. Management accounting could be termed aggressive but not fraudulent, Equirus said. The brokerage does not see any impact on near-term financials.
“Whistle blower has mixed accounting norms with business decisions. Large deal wins could be margin dilutive in the initial phase or might require upfront investment from vendors. In our view, this may be considered as customer acquisition cost. We like management’s revenue growth focus even if it is at the cost of margins initially,” Equirus said, adding that the recent correction provides a good opportunity to invest into the stock.
Brokerage Emkay said the newsflow around this may dominate investor attention in the near term and could continue to support the shift toward TCS (especially after Sep’19 quarter results) despite Infosys’s results being a tad better than TCS vs. Street expectations. “We have currently a Hold rating on both Infosys and TCS… HCL Tech remains the lone Buy-rated stock for us as we continue to see near-term revenue growth moderation – more so for Tier-II techs vs. Tier-I techs – posing risks to consensus expectations for FY21 as well.” Emkay said.
Reliance Securities feels the Infosys stock will now languish 10-15% lower in the near term. “Really disappointing that a company that has long been viewed as a “poster boy” of corporate governance in India has seemingly fallen to such levels. It calls into severe question board-level processes at the IT major, which is even more disappointing given that when founder Nandan Nilekani was brought back on the board, his specific focus was to ensure high corporate governance standards post the Vishal Sikka fiasco…the market is very unforgiving of companies that have corporate governance issues and while it would not be fair to directly jump to conclusions, this issue appears quite ugly at least on the surface,” it said.
Disclaimer: Views expressed here in this article are for general information and reading purposes only. They do not constitute any guidelines or recommendations on any course of action to be followed by the reader. The views are not meant to serve as a professional guide/investment advice / intended to be an offer or solicitation for the purchase or sale of any mutual fund.