Information Technology - Cyclical or Secular (Newgen vs Intellect Design vs Persistent)
According to Gartner estimates, IT spending in India is
estimated to reach US$ 93 billion in 2021 (7.3% YoY growth) and further
increase to US$ 98.5 billion in 2022. As of FY21, the IT industry employed 4.5
million people. This push towards cloud services has boosted hyper-scale
data center investments, with global investments estimated to exceed ~US$ 200
billion annually by 2025.
Broad story:
Dotcom bubble in 2000-Stretched valuations and overhyped
earnings.
2002-Packaged Software—IBM and SAP growth—lead to rise of
TCS, Infy, Wipro, HCL
2010-Engineering Services—Tata Elxi, LTTS and others
2015 onwards Digitalization = Shifting from legacy services
(2%Cagr) to digital services(Growing 21% CAGR)
2018 onwards :
SaaS(Software as a Service)—Capex one time becomes
OPEX—Retained earnings + Pricing power (as less competition)
Value Chain
Broad overview of popular companies :
Happiest Minds Insights=Software as a Service which is OPEX
for customer not CAPEX putting up certainty of revenue
Intellect Arena Design –Major chunk from SaaS (Will cover it
in detail in later blog)
TCS—Organic growth—“Growth should come from within”
Accenture—Inorganic growth-i.e. by acquisitions
Low cost services due to cheap labor, High growth due to low
base effect.
Industry Insights - Mid and Small Cap focus on Niche services or products while Large caps offer full stack of products as well as services.
Anti Thesis—
1)Global Inhouse centres—MNC’s setup
centres directly in India instead of outsourcing
2)Robotic Process automation----Survival of Niche industries
only.
3)Decline in margins—Due to increased automation
4)From legacy market to digital transformation.
Shift from on premise to cloud transformation :
Advantages
1)Agile-Easy access to multiple
technologies-infra service, IoT, ML, data storage, Data lakes
2)Cost Saving-Pay only for IT as you consume it. Reduction in fixed cost and migration to variable cost making it more affordable and elastic
3)Easy deployment –eg. AWS and elastic usage possible.
Cloud Players- Not only one cloud players can do the job . For e.g. AWS brings scale, Google brings work, collaboration, DevOps, Azure brings entire value chain of MS and so on. You cannot solve every digital need of the enterprise through just one cloud offering. This is the big missing piece in my view.
Case Study-SAP i.e Premise based software to Oracle (Cloud based) took market share away from SAP by Oracle in ERP(Enterprise Resource Planning) estimated to 20bn$ in 5 years.
Mastek Case Study-Incorporated in 1992 by IIM A graduates
Ashank Desai, Sudhakar Ram, Sudhakar Rami-Majesco sell off and payment of
dividend (like PEL,JB Chemicals)+ Market Cap₹ 9,466 Cr. Sales
2000cr
The company has presence in countries such as USA, UK,
Netherlands, Canada, Australia, India, Malaysia, Singapore, and various
countries in Middle East.
In FY20, UK & Europe accounted for ~72% revenues of the company, followed
by USA (23%), Middle East (2%) and rest of world (3%)
In the first step the company bought Evosys's middle east
business for a cash consideration of ~65 million USD.
In the second step, The rest of world business of Evosys that includes India,
USA, UK and other markets will be demerged and merged into a 100% subsidiary of
Mastek Ltd i.e. Trans American Information Systems Pvt Ltd. The shareholders of
Evosys will get ~15% stake in Mastek Ltd and Compulsory Convertible Preference
Shares (CCPS) equivalent to 30% interest in Trans American Information Systems
Pvt Ltd.
The total purchase consideration for both the acquisitions was ~806 crore
rupees which also resulted in a goodwill of ~380 crores
Revenue Breakup FY20
Industry Wise :-
Retail - 32%
Government - 32%
Financial Services - 16%
Health Sector - 12%
Others - 8%
Service Wise :-
Application Development - 42%
Commerce - 21%
Application Support - 16%
ERP & Cloud Migration - 8%
BI & Analytics - 8%
Assurance & testing - 3%
Agile consulting - 2%
Thesis-Large deal wins in UK, New geography entry-eg USA,
longer term contracts
Antithesis-High attrition rate, Client concentration,
Dependence on UK 75%,Aggressive acquisition.
Overall, Indian IT sector has dollar cost advantage, high operating leverage and low cost providers across the world which tends to create a positive lollapalooza.
Newgen Software-
Product based IT company with current
market cap of 3300Cr and annual sales of 750Cr(TTM) .
RoCE = 27.6% and RoE = 20.7%
CFO/PAT= 73/90=80% (2020) 126/216=60%(2021)
Revenue
Product wise Breakup :
Geographical revenue split :
Business verticals and % contribution in revenue :
Employee Cost approx. 50-55% over last 5 years
"Our focus has been on ensuring uninterrupted and
quality service to our customers, and we have a comprehensive and foolproof
program in place to ensure this. It includes synchronized cloudbased continuity
strategy, product-based implementation framework and development of support
zones with direct presence in multiple countries."
As of 31st March, 2020, the Company has to its credit 44
Patent Filings, of which 15 patents have been granted in India and the US, and
16 patent applications are under processing
Coming to the results in FY 2021 clocked revenue of
Rs. 673 crores.
Supporting about 550 active customers across 72
countries.
US is the largest revenue contributor and one of
the fastest growing markets growing at 16% Y-o-Y.
Annuity revenues remain consistent, contributing 57% of
the revenues + But still margin profile of offshore support is
better-Focus on annuity based services
Platforms--Newgen Enterprise Content Services, Low-code Application Development, and Omni-channel Communication Management Platform
Gartner's Magic Quadrant for Enterprise Low-Code Application
Platform as a niche player+470 Employees + CCM, BPM, ECM
VISION - Target Fortune 2000 companies and 50% revenue from
annuity based model.
EBITDA margins and the PAT margins
"EBIDTA of 28% is not sustainable, because we will have to
invest in growth, we have to increase the manpower salaries, there are cost
pressures, etc."
On Low RoE and 250Cr cash—Building reserves for 6
months
"Sustainable number of between 23% to 25% EBITDA margins, and
somewhere between 18% to 19% PAT margins."
R&D expenses above 10% from past 3 yrs
Management Compensation=0.69% of sales
SaaS vs Annuity
"I think rather than the SaaS, I think we should look
at the subscription, because that's the nature, it is kind of annuity, whether
it's an in-premise annuity or a cloud annuity. So, we have roughly around Rs.
200 crores of subscription revenue. And we think that this will start growing
higher at least about 20%, while the SaaS may grow at more than 30%-40%. But
overall subscription will grow above 20% year after year, and even can
accelerate."
SaaS-Hosting and costing
"We are hosting on AWS. Broadly, we want to make sure
that the overall underlying infrastructure cost is less than around 15% of the
overall subscription cost.-- a variable cost directly. And then there's an
economy of scale."
Our annuity revenues continue to grow stronger; were at
Rs.115 crores, witnessing a growth of 17% YoY. This represents 62% of our
business now. We continue with our transition towards subscription revenues
which witnessed a growth of 23% YoY, reaching to Rs.61 crores. On SaaS, we
witnessed a growth of 35% YoY. Banking and Financial Services and Insurance
continue to be our key growth verticals.
GSI-
Most of the product companies once they reach a particular
size, their products are carried by global system integrators and it's a
world-wide phenomenon (round $100 million revenue) What has happened over the last six,
seven years, IT industry had a lot of success stories with them in the emerging part of
the market, Newgen have a lot of success stories with Infosys, TCS, HCL in India,
Their partners which are including GSIs and small partners are
roughly between 16% and 18% of the revenue. "We expect that in next five years
this should become 50% of our revenue. While we can grow aggressively on our
own, but with GSIs can almost reach 50% of the revenue, but that would also
mean we can drive higher growth rates to that."
Business Model -
So, two parts of the business which is the license and
subscription, and ATS/AMC. These are high gross margin business. The expectation
in the GSI business is that GSI would be doing predominantly most of the
services on their own. To enhance the kind of business which
is of higher margin business is the focus area for the company.
Annuity overall becomes roughly around 33% subscription
and then with more ATS added, so around 60% of the business is more what recurring business. So as this business moves to 75% to 80% you will see
that lopsidedness further reducing and company also doing aggressive shifting towards more and more markets.
MOAT= The global low code competition with companies like Appian, Pega and then there are companies also like ServiceNow
Out Systems, these are the companies who play strongly in the global low code.
Now the entry barriers for any new company to enter this is very, very high
because if you look at any horizontal product play, you only see companies have
invested in that technology for at least 15-20 years.
So most of the other companies you see in this competition are the companies who have started somewhere around 20 years back and are now recognized in these areas so
"Newgen is one of those companies where we have
spent many years on what we call it BPM, low code or any other names which
comes in future but the code underlying technology stacks is what we have built
over 20, 25 years."
Low Code Platform - Overview
According to Forrester study, today around 84% of
enterprises have turned towards low-code platforms for its ability to reduce
the amount of stress on IT resources, lowered cost, increase speed-to-market
and better business stakeholder engagement.
Low code development platforms (LCDPs) provide user friendly
visual environments to create software applications with attractive UI,
responsive designs, and minimal programming skills. Low code development
platforms (LCDPs) enable the creation of applications with minimal efforts
utilizing graphical user interfaces and visual abstraction that automates every
step of application development lifecycle.
Various low code platform providers include Mendix,
Salesforce, Appian, Google App Maker, OutSystems, Oracle APEX, Microsoft
PowerApps etc. Low-code industry is developing at a fast rate and by 2024, it
is forecasted that the development of a low-code application will be accounted
for more than 65% of application development process.
Advantages :
1. Greater Productivity
2. Decreased Costs
3. Easy Maintenance
4. Involvement of
business profiles
5. Cross platform
accessibility
Cons of Low code platforms :
1. Lack of customization:
Low code platforms offer limited customization options. This can lead to a
problem sometimes when applications need to be very customized and existing
modular components cannot provide the required features. In such cases its
usage can be limited.
2. Limited integration
options: It limits integration options for developers. Some platforms allow you
to integrate with a limited list of services. This can be a major challenge for
companies with legacy systems
3. Third-part dependence:
One must rely on vendors to mitigate risks or to fix any security issue and
changing our schedule for updates to match with that of vendor’s. This creates
a situation of concern for the companies about lock-in with a vendor
Along with the plethora of benefits of using low-code platform for application development, it also has some limitations as mentioned like lack of customization, vendor dependence, limited integration options. It is important to keep in mind that low-code platforms cannot eliminate the need of traditional development skills entirely. If the platform is not able to fulfil the business requirements with tools available, the only thing that can help is the programming skills of developers.
Newgen at this point is available at reasonable valuations
and offers diversified services.
But, for me personally IT sector is a bit difficult to understand at this point, I try to read as many concalls and annual reports to widen up knowledge base.
Intellect Design Arena-Mcap 8800 Cr Sales 1766 Cr (TTM)
Product wise Revenue split
Location wise breakup
Verticals :
Concentrated with products and diversified geographically.
PRODUCTS
The company operates in three different models:
a) Traditional Product Sale Model: In this model, the company
licenses the product to their customer for use on-premise. The customer also
pays for maintenance of the product during the period of license.
b) Customer Centric Partnership Model: The
company collaborates with the customers as their Strategic Technology partners
and work with them on their technology/business roadmap. The company receives
payment for the services provided apart from any Intellectual Property licenses
that the company grants the customer for use.
c) Cloud deployment/ Subscription based Revenues: For
customers who do not wish to take on the investment in Technology Infra and/or
the complexity of managing them, the company offers their own Products and
platforms on the Cloud deployment model - either in a unique hosting
arrangement or through an independent Cloud Services provider. The company
receives revenues through Product licensing, Cloud set up, Hosting, Subscription
revenues - either fixed or linked to Customers' Business metrics.
Intellect launched iTurmeric API Ecosystem to accelerate
Digital and Cloud adoption, reducing the pain of integration while preserving
current backend systems. Intellect’s Data platforms – Fabric Data Services and
IDX – Intelligent Document Exchange – addressed the data value chain – of
sourcing multiple formats and streams of data, validating, enriching and triangulating
them to become decision grade. Intellect’s Contextual Banking Operating System
CBOS – offered Packaged Business Components that our customers could readily
adopt and build an Experience layer for a quick GoTo Market needs. Intellect
also launched Marketplaces in the Consumer Banking and Wealth Management
verticals to offer customers the combined rich repertoire of its own Product
functionalities and those of Ecosystem partners.
Project deliveries to customers are aligned with industry
best practices of Agile Methodology, supported by Execution Accelerators such
as Product User Journeys, Low-code Technology Platforms delivered through APIs,
Domain packs and Model bank on cloud
Gross margins of 50-55%
Employee cost-50%
Management's Vision
Arun Jain, Chairman and Managing Director Intellect has
identified and adopted the five trends of technology- Technology ecosystem
change, Micro services based Packaged Business Capabilities, API based
architecture, Data as a new oil and Cloud as a scalable Fintech & Digital
ecosystem. Our early investments of R & D of over INR 12000 Mn in the last
five years provided us an early head start for winning deals in advanced
markets. The seventh consecutive quarter of growth in revenues and profits is a
validation of our strategy.”
Intellect 2.0
The next wave of products reaching the monetisation phase –
Data and IDX, iWealth, Treasury & Markets and the next stage of growth
anticipated in the GeM platform would also further augment our growth agenda.
Thus, investments in technology, products, markets and towards
industrialisation of manufacturing and delivery in the Intellect 2.0 journey
towards the monetisation agenda in FY21
Promoter holding not decreasing-ESOP claims reduced the
holdings a bit-40% with promoters
IT sector facing issues like High attrition and high
replacement cost-30% EBITDA target pushed further
QoQ guidance not possible as 18month contracts which takes
14 signs to close the deal
Platforms and Products
Management call on new platforms-“Intellect's
technologies have driven calibrated and profitable growth over the last 8
quarters. As committed during the Intellect Technology day in March 2021, we
launched two Platforms on Cloud this quarter - iKredit360 and iGTB Cloud -
CashPower ‘22. Both platforms have helped Intellect win 6 platform deals in
this quarter. This is the beginning of Intellect's transition from a Product
company to a Fintech Platform.”
100 thousand shares to Manu Jain
(Daughter of Arun Jain) brought from market and given
A lot can be learned about digital banking and digital
transactions by going through annual report of the company and I highly
recommend to give it a read once to understand the business and what the
company actually do.
Intellect Design Arena has the advantage of focus i.e. BFSI. It is almost priced to perfection and at present I feel the valuations are a bit stretched at this point
Persistent Systems- Product based IT company
IP products
Employee Cost-60/65%
Sales 5200Cr
Segments and Contribution in rev-growth was broad based with
all the three segments – Health Care Lifesciences (32.1%), BFSI (23.5%) and
Software & Hi-Tech (27.9%)
Concall Snippets
Hiring
Growth engine-We added 1,242 net hires, the
lateral hires out of this were 1,037 and fresher intake for the quarter stood
at 205
Currency risk
"Then there was currency movement which also impacted margins
to the extent of 40 basis points. So, cumulative impact of the headwinds were
partly compensated by the organic growth, as we saw significant growth in the
services business of 8.6%"
Revenue system
The renewals for some of our
large customers are in the October, November, December quarter, that is where
they do the annual renewals. And so, the renewals that happen in this quarter
are in line with the forecasted or budgeted renewal
Every dollar of Red Hat that IBM generates, the potential for us to generate revenues is multi-fold. It could be anywhere between 2x to 3x, 3.5x at times. So, from that perspective, the market opportunity is right. And one of the partnerships that we also announced was between AWS and IBM, Red Hat OpenShift.
NEW TREND-- Very strong in digital product engineering, in
practices like salesforce, low code, no code, cloud, data, and so on.
On margins-"Overall, we are confident, we have enough
levers to be able to take on any cost increases that may happen in other
places, and still be in a comfortable 17% plus/minus a few bps here and there."
How to forecast revenue
"It reflects the revenues to come, combined
with more offshoring effect, combined with some amount of capability built
ahead of the curve, combined with some amount of attrition that we want to
mitigate, should it happen."
MOAT
"Ours is a fairly competitive market. If you look at
it, we compete with peers globally, whether they are India headquartered,
Eastern European headquartered, U.S. headquartered or broadly global business,
right. So, while yes, the kind of work that we do enables us to get a little
premium over others, but we have to be cautious."
What does the company do-
Banking, Financial Services and Insurance - Chosen as the
partner to co-engineer a next-gen microservices based platform and managing
legacy products, in a multi-year, multimillion $ deal, by a leading US State
and Local Government solution provider.+ chosen as a partner to transform
wholesale and commercial lending operations through consolidation of multiple
legacy systems of record for a major US bank.
Healthcare & Life Sciences -Chosen to manage
the Salesforce roadmap, implementation and provide managed services to support
proprietary inventory management platform for a large US-based pharmaceutical
firm also chosen to modernize cloud security utilizing Azure to improve
business safety and resilience for the European arm of a global retail pharmacy
company.
Software, Hi-Tech
& Emerging Technologies -Won a multi-million $, multi-year deal
involving the Implementation of the Salesforce platform to drive business
growth, improve Customer experience and unify business processes for an
education travel organization.
Collaboration with IBM to Accelerate Hybrid Cloud Adoption
in the Enterprise. "Under this collaboration, we will continue to invest in IBM
technology that helps its customers adopt hybrid cloud architectures with Red
Hat OpenShift, industry-specific clouds and advanced security practices."
On Attrition
"Now, currently we are seeing two phenomena in the market.
One is that we have significant tailwind in terms of revenue growth. But this
is coming also in a combined way where the digital technology-oriented skills
are not exactly adequate to fulfill this demand. As a company what we have done
is we have significantly increased the hiring over the last few quarters and
that's where you will find that our offshore utilization has hovered around
80%. So, we at first concentrated to ensure that we are able to fulfill the
business."
"We have on boarded these people and the conversion when it
happens in terms of better utilization will provide the cushion to absorb the
pay hikes. So, these factors are what will be the areas to look out and watch
out for and we are conscious of the fact that we have to manage the attrition
in a controlled environment."
"Whether it is doing custom products or technology companies are doing digital engineering enabled programs in cloud, data, salesforce, etc., we are on the cutting edge. And those are the skill sets where that are the hottest in this, if I can say, post pandemic times. So, that is the reason that we may have a tad bit higher attrition that looks like from the outside as compared to a general-purpose IT services company which also does ERP or legacy stuff or legacy infrastructure management."
Head count matters-Increase in headcount more than revenue
growth-“Our business is a good amount of that is linearly dependent on the
headcount. I wouldn't read it into the headcount increasing as yield decreasing
or cooling off and so on. At least for the next few quarters, we believe the
headcount this pressure will still be on, and we can do it with more, more is
less here as of this point in time”
Halt in attrition-"We expect that the trailing 12-month
attrition is likely to remain on the higher side for at least another couple of
quarters, after which it is likely to moderate due to the base effect and on
account of the new batch of freshers who will join the industry, thereby
expanding the supply for industry overall."
“It is a reality that number of our peers are also having good order bookings, etc.(dicey
MOAT-signs of cyclicality) and there is pressure in the market for talent, but
the objective at our end is, our ability to forecast our requirements and try
and be ahead of the curve in terms of trying to hire the right skills, etc.,
and we are doing our best. So far you have not seen any delays in any of our
customer program ramp ups and thankfully all the ramp ups that we have done we
have had roughly about 4,000 people in the last three quarters and that has
kept us on pace, and we have not missed any customer commitments, even in COVID
times. So, we are hopeful, and it is ongoing business challenge, and we have
good process in use to take care of it.”
Signs of cyclicality--previous high demand cycle between
2010 and 2016, Persistent used to operate at 16% to 18% EBIT margin? Do we see
potential to go back to those levels in the medium term?
Signs of upcycle-a growth of 10.4% quarter-on-quarter and
38.7% on year-on-year basis, respectively
Pillars of growth-Digital transformation and cloud
computing-Main focus BFSI “Revenue for the quarter in INR terms was 14,917
million, which reflects growth of 10.4% QoQ and 38.7% YoY. It was led by BFSI
Industry vertical, which grew by 14.7% on a sequential QoQ basis aided by
healthy organic growth as well as the contribution from the two acquisitions,
which fall in the BFSI vertical. The Software and Hi-tech business and Healthcare
Life Sciences segments also saw healthy growth of 7% and 6.4% quarter-on quarter,
respectively”
Thesis-Healthy employee growth-organic +inorganic by acquisition of Shree Partners and SCI(payments solution),able management from reputed organizations like Bain, Starbucks, Roche for overall development in BFSI, healthcare
Antithesis—A bit churn in top management, Concentration of
revenues i.e. 17.5% from top client alone (IBM), currency risk, stretched
valuations (subjective).
Disclaimer - This is only for education purpose. Please do your own research before investing.
