Are these the worst Indian IT firms to flout corporate governance rules?

It’s been five years to the Satyam scandal and the IT Index is up over 300 percent. On the surface, this implies that all is well with the Indian IT sector. Until a few years ago, the general perception was that the sector had relatively cleaner promoters, strong and transparent accounts, and sound corporate governance practices. However, an analysis by leading brokerage Ambit Capital proves this theory wrong.

In a report titled ‘The Underbelly of Indian IT’, Ambit, in fact, says IT is the easiest sector to fudge accounts, given its largely services-led nature and that it relies on business-to-business (B2B) transactions that do not lend themselves to the sanity checks that can be done that one can do in industrial sectors.

The brokerage has questioned corporate governance practices at some of India’s top Indian IT firms, including at Infosys, which has traditionally been hailed as a beacon of good corporate governance. However, ither IT biggies- TCS, Wipro and HCL Tech- did not feature on the list.

In its report, Ambithas grouped companies under three heads: the ugly, the bad and the not so good. Apart from Infosys, which has been categorised in the third group ( Read all about that here ), Tech Mahindra and KPIT Technologies have also made it to the not-so-good list.

Here are three reasons why Tech Mahindra isn’t so safe after all

“On the accounting side, Tech Mahindra’s disclosures are among the weakest,” Ankur Rudra, the Ambit analyst who co-authored the report, told CNBC-TV18. “They don’t provide quarterly balance sheet and cash flows statements, which is very important for Tier-I IT firms.”

According to the report, Tech Mahindra’s disclosure norms are even weaker than tier-two companies like Mindtree.

Tech Mahindra also follows the Indian-GAAP accounting format for its subsidiary Satyam, “which you are allowed under law but it makes it less comparable to its peers that follow US-GAAP or IFRS reporting standards,” Rudra wrote in the report, adding that under the international reporting standards, Satyam’s return-on-equity would be significantly lower.

Thirdly, a lack of adequate independent director representation on the Satyam Board when the swap ratio between Satyam and TechM was finalised also raises concerns on corporate governance.

The main reason for KPIT Technologies coming under Ambit’s scanner is that there are suspicions that it may be overstating its margins given its accounting policies and estimates are different from itspeers.

“Its accounting policy of excluding reimbursements both from income and cost (contrary to accounting policy followed by companies such as Infosys, TCS and Persistent Systems) benefits its margins by 50 basis points, according to our calculations. Furthermore, its actuarial assumption of salary increase for retirement benefit obligations is significantly below that of peers (5% vs peer average of 7%),” said the report.

The bad and the ugly

Among the companies rated as bad are Rolta India and MCX while Financial Technologies , Educomp Solutions and Geodesic make it to the “ugly” list.

“While some of these companies (such as FT, Educomp and Geodesic) are already understood by the market for what they are, others (such as Rolta, MCX, Infosys, Tech Mahindra and KPIT) are yet to be discounted appropriately by investors,” Rudra said in the report.

For instance, Geodesic, Rolta and MCX have been window-dressing accounts by recognising cashless revenue or seemingly non-resistent revenue.

Geodesic and Rolta have also been manipulating margins by capitalising expenditures, providing lower provisioning for doubtful debts and/or by not accounting for client re-imbursements in revenues and costs, noted Ambit.

Financial Technologies, which was once an investor darling riding high on its MCX success, is now struggling to retain ownership of these exchanges on the back of the NSEL fiasco. “Besides the corporate governance issues (for not curbing the illegitimate activities at NSEL), suspicious manipulation of subsidiary accounts to present a better picture at standalone business,” has also taken place, the report said.

Financial Technologies does not publish consolidated quarterly results and hence manages to present a good-looking standalone number, it added.