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MphasiS: Software services shine - Views on News from Equitymaster

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MphasiS: Software services shine

Jan 9, 2003

MphasiS, has announced a 13% growth, both in topline as well as bottomline (consolidated) for 3QFY03 on a QoQ basis. Growth in topline has been mainly due to a 11% QoQ growth in its dominant revenue stream i.e. software services. MsourcE, the call centre subsidiary has reported a 17% QoQ revenue growth compared to a 54% QoQ growth in September quarter. While the performance of the software services division has been good, the call centre business growth seems lower. Operating margins on the other hand have shown only a marginal improvement over previous quarter.

(Rs m) 2QFY03 3QFY03 Change 9mFY02 9mFY03 Change
Net Sales 1,029 1,159 12.7% 2,294 3,084 34.5%
Other Income (11) (8) -31.8% 42 (6) -115.0%
Expenditure 835 938 12.4% 2,071 2,529 22.1%
Operating Profit (EBDIT) 194 222 14.1% 222 555 149.5%
Operating Profit Margin (%) 18.9% 19.1%   9.7% 18.0%  
Interest (6) (2) -62.0% (16) (17) 10.5%
Depreciation - - - - - -
Profit before Tax 189 216 14.6% 280 565 101.9%
Extraordinary items - - - -
Tax 27 34 25.0% 3 83 2816.1%
Profit after Tax/(Loss) 161 182 12.8% 277 482 73.9%
Net profit margin (%) 15.7% 15.7%   12.1% 15.6%  
No. of Shares 17.2 17.2   17.2 17.2  
Diluted Earnings per share* 37.5 42.3   21.5 37.4  
P/E Ratio   17.5     19.7  
(* annualised)            
Growth in topline for the consolidated entity has been mainly due to the 11% growth in the software services revenues of the company this quarter. This is in comparison to a 7.5% QoQ growth last quarter. Revenues from the software services division have increased mainly due to a healthy increase in volumes from both onsite as well as offshore activities. The company has added 5 new clients in the December quarter. A change in the onsite offshore mix also indicates that onsite work may be migrating to offshore locations. New clients in the banking and financial services space have contributed considerably to this growth in volumes.

Revenues (Rs m) 2QFY03 3QFY03 Change
Mphasis 806 897 11.3%
% contribution 78.3% 77.4%  
MsourcE 223 262 17.4%
% contribution 21.7% 22.6%  
Total 1,029 1,159  

MsourcE on the other hand has posted a 17% QoQ revenue growth this quarter, which is far less than the 54% QoQ growth posted by it in the September quarter. It may however be noted that the QoQ growth last quarter was on a smaller base. This fall in growth may indicate that going forward the call centre subsidiary's revenues are unlikely to see growth rates as robust as seen in last few quarters. Billing rates have however remained constant compared to last quarter. MsourcE has added 3 new clients in this quarter. Topline growth of the consolidated entity though robust, has been lower compared to last quarter where it grew by 15% on a QoQ basis. A lower topline growth can be mainly attributed to a fall in growth of its call centre business.

Operating margins 1QFY03 2QFY03 3QFY03
Mphasis 18.4% 21.0% 24.3%
MsourcE 6.0% 9.7% -3.0%
Consolidated 15.4% 18.9% 19.1%

On the operational front the consolidated entity has reported a marginal improvement in the operating margins. A significant rise in its employee expenses has limited the improvement in the operating margins. MsourcE the call centre subsidiary has added 489 employees in the December quarter alone. Employee expenses have gone up by a significant 13% QoQ. Other expenses that have increased significantly are selling, general and administrative expenses. Both these cost heads have reported an over 3.5% QoQ increase. Growth in selling expenses can be attributed to the need to agressively capture new markets and attract new clients. Administrative expenses have increased due to the increased requirements of MsourcE.

MsourcE on a standalone basis has reported a loss of Rs 19 m compared to a profit of Rs 10 m in the previous quarter. This has been primarily due to the increase in the employee costs compared to last quarter. The cost of revenues that include employee costs have increased by 43% in 3QFY03 on a QoQ basis. The general and administrative expenses have also shown a 12% QoQ increase. This has seen the call centre subsidiary post losses at the operational level itself compared to Rs 22 m operating profit reported last quarter. It seems that the company has jumped the gun and recruited at a faster clip compared to the requirement based on business prospects. On the other hand, MphasiS on a stand alone basis has been able to improve its operating margins compared to the previous quarter mainly due to better revenue growth.

The stock is currently trading at Rs 738, a P/E of 18x our estimated FY03 earnings. The company has shown resilience in its software services business despite the down turn. This indicates that the software services division may have seen off its worst times. The call centre outfit on the other hand has disappointed not in terms of the revenue growth but at the bottomline level. Agressive capacity additions with out consideration for the business prospects seem to have taken their toll in the December quarter. Agressive recruitment may also mean that the management is expecting significant volumes in the sucessive quarters. It remains to be seen how MsourcE is able to utilise its capacity efficiently in the future.

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