Sep 9, 2004|
Hughes Software: Are times ripe?
The telecom software services space seems to be on the path to recovery. While we predicted that turnaround would happen in February 2003, looking at the latest annual report of Hughes Software for 2004, one of the major players in the telecom software service provider space, there is a re-affirmation of the same. Here are the key excerpts from the latest annual report.
In the Indian technology space, there is perhaps no other quality company that was hit severely during the slowdown in technology spending in 2001 and 2002. The key factor was the large proportion of revenues coming from technology OEMs (original equipment manufactures) who slashed R&D budgets in follow-up of their own poor performances during these years (see graph below).
While Hughes Software is benefiting from the gradual turnaround in spending, another thing that is helping the company now is that it has diversified its presence across a wider span of the telecom space and does not cater to telecom OEMs only. It provides services and products to telecom services providers and has emerged successful in derisking its revenues from the erstwhile parent, Hughes Network System (HNS), which at one point of time (in FY00) contributed to 54% of HSS’ revenues. In FY04, that contribution has dropped to just over 21% while contribution of non-HNS services has increased from 26% to 57% during the same period.
Another factor that supports the fact that times are improving for HSS is a statement in the company’s latest annual reports – “…some of our larger clients, accounts that had gone dormant during the downturn, like Cisco and Alcatel, have returned to HSS fold.” However, not going by the management’s words alone, but considering the fact that these two clients of HSS are actually witnessing improvement in their performances (see graph below) presents a case for believing that more outsourcing work is likely to follow soon for the company. Also, considering the fact that HSS has hired over 490 employees in FY04 (the largest addition in the past three years), we believe that the company is surely seeing signs of improving times ahead.
Another factor that may signal growth for HSS in the future is its continued investments in developing its products business. After YoY declines of 4% and 7% in FY02 and FY03, this segment witnessed revenue growth of over 17% in FY04. Probably this is one of the reasons that the company has reported improvement in margins to 28% in FY04 from 25% in FY03. HSS has also launched some key products in the VoIP (Voice over Internet Protocol) space in FY04, and this is likely to stand in good stead for the company’s growth going forward.
Now, despite all positive vibes, we believe that sustainability is still a concerning factor. This is considering the volatile nature of the global telecom industry that is still emerging from the excesses of the past. Also, as of now, there is no committed business from Flextronics (the new owner of HSS) and there are apprehensions that the company might go for delisting of HSS’ shares post the open offer that will increase its (Flextronics’) stake to around 71%.
At the current price of Rs 550, HSS is trading at a P/E multiple of 24.8x FY04 EPS. On a relative basis, this is at the higher end of the valuation spectrum. Considering these facts, risk is on the higher side.
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