- Our thoughts: We are warming up to VanceInfo at present levels. Our confidence in the margin outlook is improving as inflation moderates. No company is immune to a macro economic slow down. Vance has a historically executed through difficult economic times, has little exposure to Europe, and is naturally conservative with its guidance. The stock is cheap and attractive at present levels. Although we are maintaining our Neutral as we think Vance will need to prove wage inflation is controllable over a longer period of time, we are encouraged by recent data points.
- Margin pressure from wage hikes look to be subsiding. A key to the Vance story has been the impact of wage increases (expected to be low teens) in China as price increases have not kept pace. Wage increases have had a negative impact on margins driving adjusted operating margins down to 11% from 17% level in 2011. Management has commented that it began to see wage inflation moderate at the beginning of 2012. Commentary is supported by a decline in inflation as China’s CPI rose 3% in May, the slowest in 23 months. CPI growth for all of 2012 is expected to be 3% (consistent with the month of May) vs. 5.4% inflation in 2011. Inflation is slowing due to a weakened economy in China and the rest of the world. The net result of the lower impact of the wage hikes is an increased confidence in Vance’s ability to meet margin guidance of approximately 12% for 2012. Other reasons include: 1) easier comparisons on the wage front starting in the 2Q, 2) the profitability of investments and comparison should improve in 3Q, and 3) extra staff should be utilized in 2Q.
- No one is immune from a macro downturn, but Vance has performed well in difficult global economies, exposure to Europe is minimal, and typically provides a cushion in its guidance. No company is immune to a global economic slowdown. VanceInfo has shown an ability to grow through tough economic times. Revenue’s grew 39% in 2008 and 44% in 2009. The company’s exposure to Europe is minimal (12% of revenue w/ 6% from one large client). Vance is typically conservative with guidance providing a cushion should the economy deteriorate. The company uses the term “at least” in guidance. Actual results have been higher than initial guidance: in 2011 actual revenue growth was 33.8% vs. initial guidance of 28%, 2010 actual revenue growth was 42.9% vs. initial guidance of 30%-38%, and 2009 actual revenue growth was 44.2% vs. initial guidance of 20%.
- VanceInfo is Cheap. Vance is trading at $9.22 (52-week low-$6.19; high-$23.76). The multiple is 10x our 2012 estimate of $0.90 (consensus-$0.87) 23% EPS Growth (PEG-0.4x) & 8x 2013 $1.15 (consensus-$1.13) (PEG-0.3x). VanceInfo has $2 in cash and no debt. Excluding the cash, the stock is trading at 8x 2012 and 6x 2013. We use a 14x multiple consistent with the group average (24x Avg; Low-7x; High-47x; Group-13x) giving us a fair value of $13. We are, however, maintaining our Neutral as we think Vance will need to prove wage inflation is controllable over a longer period of time.
For more information, please contact:
Joseph D. Foresi