i-flex Solutions is a member of a rare breed in the Indian software industry - it is one of the few in the software space that earns a majority of its revenues from software products. Other software companies like industry bellwether Infosys and Geometric Software also have their own products, but they do not form a really significant part of their revenues.
Revenue break-up: Products rule!
*Starting FY02, figures are based on consolidated financials
What is the company's business?
i-flex is a niche player focussed on the banking, financial services and insurance (BFSI) vertical. It provides software products and solutions to this industry and is a worldwide leader in this space. Its universal banking solution, Flexcube, has been ranked as the largest selling core banking solution for the third year in a row by International Banking Systems (IBS) for the third year in a row. The company also has other products in its portfolio, comprising solutions for the mortgage lending, consumer lending, business analytics and anti-money laundering markets, apart from its services business.
In this article, we attempt to analyse how i-flex compares with international peers. We have taken Temenos as a comparable company. Temenos is a Geneva-based company operating in the banking software products space like i-flex. Its core banking solution, Temenos T24, has been ranked as the second-largest selling in the world, behind Flexcube.
Making a mark globally...
The Indian software industry is a global in nature. A lion's share of the total revenues of this industry is derived from software exports. In order to be able to compete with multinational corporations and make a mark globally, it is necessary to have a scalable business model capable of executing projects in a seamless manner across geographies, a highly competent and visionary management and a solid base of highly skilled professionals.
i-flex has shown that it has all these qualities, and has made a strong mark in the international banking software market.
Generalisations are all right, but what about hard figures?
i-flex has shown impressive growth over the past few years in its performance. A comparison with Temenos reveals that i-flex scores over it in most of the parameters used for comparison.
* The fiscal year ends on March 31 for i-flex and on December 31 for Temenos.
|Profit after tax
|Net profit margin
|Employee costs as a % of sales
|Cash from operations
|Return on equity (RoE)
In terms of net sales, i-flex has grown at a CAGR of almost 2.5 times that of Temenos. In the year 2003, there was a general slowdown in the banking and financial services industry. This affected Temenos to a large extent, and sales actually fell by almost 20%. i-flex, on the other hand, grew its sales by well over 40% in the same period, showing its ability to perform even during a downturn.
i-flex also enjoys far superior operating margins than Temenos. Over the years, margins have reduced for i-flex, mainly due to pressure on account of increased hiring and employee costs, as well as lower margins earned on its services business. This is lower when compared with peers like Infosys and TCS. While employee headcount has grown by a CAGR of 23% over the given period, employee costs have grown at a CAGR of over 60%! This also shows the effect of wage cost inflation in a growing industry, where competition for talent is tremendous and professionals come at a premium.
Temenos, on the other hand, has actually reduced its headcount over the period. In spite of this, employee costs have been at a much higher level as compared to i-flex. As a percentage of sales, this has been in the high 40's. This has led to tremendous strain on profitability. The end result has been severe pressure on operating margins, which are well under 20%, whereas for i-flex, the corresponding figures are almost 30%.
Revenues by geography also reveal an interesting picture. While i-flex has been depending more on the US markets over the years for its revenues following relaxation of Regulation K (45% of revenues in FY04), Temenos is more dependent on Europe. In fact, nearly 80% of revenues were derived from the European region in CY2003, while the Americas contributed a mere 8%.
The US market has been showing signs of a decent economic recovery of late. On the financial sector side, there has been increasing regulatory scrutiny. This will result in more US corporations and US subsidiaries of other global corporations needing to adopt software that will reduce cost of compliance and make them more competitive through cost cutting and faster time-to-market. This bodes well for i-flex, given its increasing dependence on this market.
So, what is the final verdict?
It is clear that i-flex, with its established market position and expanding business in global markets, holds the edge over its competitors. Going forward, increased growth in its major markets, scalability and increased acceptance of its flagship product 'Flexcube', diversification of its product profile and it's proven ability to execute projects for big clients will make it a greater force to reckon with.
The company appears poised for good growth and initial sales performance in the period to 9mFY05 has been encouraging, although profit growth has not been up to the mark. But inconsistent performance in the past will continue to have a bearing on stock valuations. We expect the upcoming quarterly and annual results of the company this month to be a guide to future growth. Although at current levels, the stock does appear expensive, the results will be a good pointer to what we can expect in the near future. We shall update our research report on the company in sometime post the announcement of the results by the management.