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Geometric Software: Growing 'product'ively!

Apr 15, 2005

Introduction to results
Geometric Software Solutions (GSS) has announced impressive consolidated results for the quarter and financial year ending March 2005. The company has shown strong sequential and yearly growth in its topline for the final quarter and fiscal year ended March 2005. However, a higher increase in employee costs, lower other income and higher taxes have resulted in profits growing at a slower rate than revenues for the quarter. Consequently, margins have been impacted and are lower than the previous quarter.

Financial performance (Consolidated): A snapshot…
(Rs m) 3QFY05 4QFY05 Change FY04 FY05 Change
Net sales 435 499 14.7% 1,060 1,682 58.6%
Expenditure 291 369 26.4% 771 1,216 57.7%
Operating profit (EBDIT) 143 131 -9.0% 289 466 61.1%
Operating profit margin (%) 33.0% 26.2%   27.3% 27.7%  
Other income (5) 26 -584.3% 64 51 -19.7%
Interest - - - 0 0 -70.0%
Depreciation 32 37 15.2% 82 128 55.6%
Profit before tax 106 120 12.9% 271 389 43.9%
Tax 17 25 52.6% 29 71 149.3%
Minority interest 10 14 36.3% 34 44 29.7%
Profit after tax/(loss) 80 81 1.7% 209 275 31.7%
Net profit margin (%) 18.3% 16.2%   19.7% 16.3%  
No. of shares 11.1 11.2   11.1 11.1  
Diluted earnings per share (Rs)* 28.5 29.0   18.7 24.6  
P/E ratio (x)         20.6  
(* annualised)            

Leading PLM solutions provider
Geometric specializes in providing product lifecycle management (PLM) technologies and solutions to the global mechanical design, manufacturing and industrial markets. The company's presence in the domain of geometry provides it with a competitive advantage in the form of high entry barriers on account of high-levels of technical skill-set requirements.

What has driven performance in FY05?
Robust growth in products and projects:  GSS reported a healthy 59% YoY growth in FY05 revenues. This was a result of strong growth in both the products as well as the projects businesses, which grew by 57% and 59% YoY respectively. As was the case in the previous quarter, product revenues have driven growth in overall quarterly revenues, with a sequential growth of 95%. Project revenues on the other hand have shown a sequential growth of 7%. However, quarterly and yearly product revenues were aided by the completed acquisition of TekSoft, revenues of which were consolidated during the quarter. Excluding the TekSoft acquisition, product revenues grew sequentially by 18%. Offshore revenues reduced to 65% of the total (73% in FY04), onsite revenues accounted for 24% (17% in FY04) and product revenues contributed 10% (11% in FY04). This quarter saw revenues from industrial customers remain stable at 35% of GSS' consolidated revenues (35% in 3QFY05).

Higher employee costs pressurize margins:  Due to a significant increase in employee headcount and increased recruitment and training costs, operating margins were severely impacted during the quarter, down by 680 basis points. In fact, operating profit was lower on a sequential basis by 9%. On a yearly basis, however, operating margins have remained flat, actually increasing by 40 basis points. The main reasons for the substantial fall in margins during the quarter were a decrease in utilization (85% compared to 89% in 3QFY05), an increase in rent due to shifting to larger facilities in Pune and Mumbai and acquisition-related costs pertaining to the TekSoft acquisition.

Lower other income and higher taxes subdue profit growth:  Despite a healthy 32% growth in net profits for the full year, the picture could have been better, had it not been for lower foreign exchange gains during the year. Net margins declined by 340 basis points due to lower other income and a 149% jump in taxes paid. On a quarterly basis, net profit grew by an unenthusing 2%, affected due to a 52% higher tax outgo.

Performance in the recent past…
  1QFY05 2QFY05 3QFY05 4QFY05
Sales (QoQ growth, %) 13.0 14.1 9.1 14.7
Employee costs (% of sales) 58.9 55.4 52.3 53.8
Onsite revenues (% of sales) 22.0 24.0 26.0 24.7
Profits (QoQ growth, %) (4.4) 23.9 25.8 1.7
Operating margins (%) 23.3 27.8 33.0 26.2
Employee base (nos.) 801 872 1,035 1,156

What to expect?
At the current price of Rs 508, the stock is trading at a price to earnings multiple of 20.6 times FY05 earnings and 14.2 times management's FY06 earnings estimates. The management has guided for a 40%-45% revenue growth and a 45%-50% profit growth in FY06. However, the fringe benefits tax announced in the Union Budget this year could impact the PAT to the extent of 2% of revenues. While we believe that the initiatives that GSS is taking to reach the target of US$ 100 m revenues by FY07 are in the right direction, we would be slightly cautious on the actual achievability of that target. The engineering services division and the products businesses are expected to play critical roles going forward. Inorganic growth is also an area that the company has on its radar for future growth. The fact that GSS is derisking its business from the OEM customers (65% of revenues) towards industrial customers (35%) is also a move in the right direction.

However, in the first quarter of FY06, due to reasons such as salary revisions in April and partial commissioning of the company's third building in Pune leading to higher expenses, growth could be slightly muted. The company expects the next few quarters to see traction in terms of volumes.

We had recently recommended a 'Buy' on the stock with a target price of Rs 750 in the long-term. From the current levels, this implies an upside of 47.6% point-to-point, or CAGR of around 21.5% by FY07. Considering the current growth momentum and the strategies that GSS' management is putting into place to achieve its long-term growth targets, we maintain our recommendation on the company.

The board of the company has announced a dividend of Rs 4 per share (dividend yield of 0.8%) and a 1:5 stock split in order to improve liquidity in the stock.

We will put up an updated research report on Geometric Software after a research meeting with the management.

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