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Polaris: Unimpressive performance - Views on News from Equitymaster
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  • Jul 31, 2002

    Polaris: Unimpressive performance

    The Polaris Group has posted a 5% sequential growth (QoQ) in revenues for 1QFY03. The numbers of Orbitech Solutions have not been merged with that of Polaris. A sharp decline in operating margins has caused the growth in net profits to be much lower at 2%. A YoY comparison indicates that there was hardly any growth in the group’s topline and bottomline. The revenues were down by 0.1%, while net profits moved up by 0.4%.

    (Rs m) 4QFY02 1QFY03 Change
    Sales 672 705 4.9%
    Other Income 18 45 152.5%
    Expenditure 511 566 10.7%
    Operating Profit (EBDIT) 161 140 -13.4%
    Operating Profit Margin (%) 24.0% 19.8%  
    Interest - -  
    Depreciation 22 26 22.1%
    Profit before Tax 158 159 0.7%
    Tax 17 15 -10.6%
    Profit after Tax/(Loss) 141 144 2.1%
    Net profit margin (%) 20.9% 20.4%  
    Diluted number of shares 51.2 51.2  
    Diluted Earnings per share* 11.0 11.2  
    P/E (x)   16.0  

    However, the disappointing part of the performance is the fact that there has been no growth in the group’s core business, IT Services. Infact, Polaris Software Lab (PSL), the IT service arm (92% of the total revenues), saw a 1% sequential decline in revenues. The net profits declined steeply by 14% due to a swift rise in staff costs.

    On a YoY basis, PSL’s revenues are down by 8%, while the net profits have declined by 12%. Due to the drop in revenues of PSL, its contribution to the total revenues is down from 99% in 1QFY02 to 92% in 1QFY03. Thus, the group’s growth for 1QFY03 has come from businesses other than IT services. While the company has chosen not to comment on the reason for the decline in revenues, a steep fall in realisations seems to be the likely cause. Onsite billing rates have fell by 10%, YoY for 1QFY03. However, PSL has managed to improve offshore billing rates during the period. An 8% decline in revenues also points to the fact that the volume growth has been weak, therefore unable to offset decline in billing rates. When compared on a QoQ basis, the fall in revenues highlights the same concerns.

    Polaris has traditionally seen business coming from a few large clients. Therefore, in times when others are witnessing strong volume growth, the decline in volumes casts doubts on PLS’ ability to acquire new clients.

    The change in PSL‘s geographic mix is equally interesting. Compared to 1QFY02, the revenues from the US and Europe are down by 36% and 49% respectively. However, revenues from India and Asia Pacific region have grown by 153% and 32% respectively. This growth pattern is very different from other software companies. On a sequential basis, the trend is not very different. On the brighter side, Polaris has perhaps one of the most de-risked geographic mix. But the company needs to address the decline in revenues from major markets like the US.

    The revenues from service offerings reveal that the company was not able to ramp up revenues from the maintenance business as seen with other software companies. On a YoY basis, the revenues from maintenance have declined by 11% for 1QFY03. The drop in revenues from product enhancement and ERP business was steep at 30% and 24% respectively. The only area that showed growth was migration and re-engineering. However, a QoQ comparison reveals a heartening picture. Revenues from product enhancement, maintenance and ERP have grown.

    (Rs m) 4QFY02 1QFY03 Change
    Maintenance 20.3% 132 22.8% 148 11.6%
    Product enhancement 6.8% 44 7.7% 50 12.6%
    New applications 45.9% 299 42.8% 277 -7.2%
    Migration and re-engineering 19.5% 127 19.0% 123 -3.1%
    ERP and others 7.6% 50 7.7% 50 1.4%
    Total revenues 100.0% 652 100.0% 648 -0.6%

    PSL added 7 new clients during the quarter taking the total number of clients to 102. The clients added during the quarter were Shinsei Group (Japan) and Sun America. Most of the business for the company has come from banking, financial services and insurance (BFSI) vertical, while revenues from other verticals, identified as ‘emerging’ verticals have declined. This is a cause for concern as Polaris derives 76% of its revenues from the BFSI vertical that is the most competitive, as most Indian software companies are focused on this vertical.

    At the current market price of Rs 180, the stock is trading at a P/E multiple of 16x its 1QFY03 annualised earrings. The group had earlier given a guidance of 50% growth in revenues. While the group has posted a topline growth, the concern is that performance of its major revenue source Polaris Software Lab has been feeble. In FY02, when the software industry clocked a growth of 22%, PSL under-performed with a marginal 3% growth in topline. Unless the revenue growth for PSL shows a consistent improvement, the stock price could be range bound.



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