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Hughes Software: Displaying resilience

Oct 8, 2003

Hughes Software Systems (HSS) has reported strong 1HFY04 results with its topline improving by 62% and bottomline by a substantial 153%. However, growth figures for the September quarter seem marginally subdued when we compare this with HSS’ performance over the last four quarters. Notably, in 1HFY04, the company has improved upon its operating margins by 530 basis points, which is commendable.

Financial performance: A snapshot
(Rs m) 1QFY04 2QFY04 Change 1HFY03 1HFY04 Change
Sales 765 850 11.1% 995 1,615 62.3%
Other Income 18 17 -5.6% 42 35 -16.7%
Expenditure 559 621 11.1% 780 1,180 51.3%
Operating Profit (EBDIT) 206 229 11.2% 215 435 102.3%
Operating Profit Margin (%) 26.9% 26.9%   21.6% 26.9%  
Interest - -   - -  
Depreciation 52 54 3.8% 104 106 1.9%
Profit before Tax 172 192 11.6% 153 364 137.9%
Extraordinary items 0 0   0 0  
Tax 20 23 15.0% 26 43 65.4%
Profit after Tax/(Loss) 152 169 11.2% 127 321 152.8%
Net profit margin (%) 19.9% 19.9%   12.8% 19.9%  
No. of Shares 33.7 33.7   33.7 33.7  
Diluted Earnings per share* (Rs) 18.0 20.1   7.5 19.1  
P/E Ratio (x)   19     20  
* annualised            

Topline performance for HSS in 2QFY04 has been mainly boosted by growth in its product revenues (19% of total revenues), which grew sequentially by 51%. However, on the services side, while revenues from the parent, Hughes Network Services (HNS), declined by 4% sequentially, that from its other clients (57% of total revenues) witnessed a rise of 9%. The company has been able to reduce its revenue contribution from parent at the same time growing overall revenues. This is a good sign. However, the parent HNS still contributes to around 19% (2QFY04) of overall revenues.

The BPO business (5% of total revenues) that HSS initiated in 3QFY03 witnessed a sequential decline of 7% in revenues in 2QFY04. For this venture, the performance on the EBIT margins front was even more dismal. After improving to -5% in 1QFY04 (from –83% in 4QFY03), these have fallen to -16% in 2QFY04. However, the fact that, owing to slowdown in the global telecom sector, HSS has initiated towards broadening its service offerings very recently, new ventures like these would still take some more time to provide returns commensurate to investments in them. Overall, HSS added 14 new customers for its products and services during 2QFY04 (14 in 1QFY04). Growth in volumes has driven up the utilisation rates to 95%.

On the operating margins front, while HSS managed to keep them intact for 2QFY04, margins actually improved for 1HFY04. This is despite the fact that the company added 91 employees in 2QFY04 (78 in 1QFY04). Due to this addition, while staff costs grew marginally (9%) on a sequential basis, their contribution as a percentage of revenues dipped in this quarter, thus helping in improvement of operating margins.

FY04 guidance: The revisions…
  4QFY03 1QFY04 2QFY04
Revenue 35%-40% 55%-60% Maintains
PAT 40%-45% 60%-70% 80%

At the current market price of Rs 376, the stock is trading at a P/E multiple of 18.3x its FY04 earnings guidance. It is to be noted that the management has, for the third time in last three quarters, revised its earnings guidance upwards. However, the revenue guidance has been kept intact in this quarter (see table above). Considering the performance that HSS has displayed over the past few quarters, it seems that the company is moving towards outperforming these guidance in FY04. However, much would depend on the ability of HSS to cater to requirements of new technologies through continuous investments in R&D. Over that, till there is more clarity regarding improvement in telecom spending globally and the kind of outsourcing contracts that HSS is able to garner, there is a need for investors to remain cautious towards the stock.

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