Digital: Investing for growth…

Digital Globalsoft has announced good September quarter results reporting sequential topline and bottomline growth of around 8% and 6% respectively. For the half-year ended September 2003, the company’s sales and net profit were higher by 48% and 27% respectively on a YoY basis. While the operating margins dipped marginally (by 70 basis points) for 2QFY04, the drop on this front was greater for the half-year period (280 basis points).

The growth in Digital’s revenues for the September quarter is mainly a result of a 99% increase in revenues from the contact center business (DCC) that now contributes to around 11% (6% in 2QFY04) of the company’s total revenues. Also, the software services business, which includes segments other than DCC and products, grew sequentially by 2%. Within this segment, major contributors to revenue, like the eApplications and Enterprise Solutions segments, displayed strong performance with growth of 4% each.

Digital’s topline growth has also been helped by an 8% sequential growth in its HP and related business, out of which HP business grew by 8.7% while HP-related business witnessed a decline of 5%. It is to be noted that while the company aims at leveraging HP’s strong sales and marketing support to get clients, the HP-related business has been witnessing a continuous decline quarter on quarter. In case of business from HP (around 77% of Digital’s total revenues), this has been a comfort factor for Digital as revenues from this segment have consistently increased their contribution to Digital’s topline. Over that, as and when the integration of HP-ISO with Digital is completed, the combined entity is expected to garner higher revenues from the parent. As for Digital’s non-HP business, this grew by around 7% sequentially and now contributes to around 19% of the company’s revenues.

In 2QFY04, the 9% sequential rise on the expenditure front is mainly due to rise in personnel (6%) and travel costs (18%). The rise in staff costs was a result of Digital hiring around 1,200 people in 2QFY04. Notably, almost 900 of these were hired for the DCC business. This ramping up on the DCC front is indicative of higher traction that Digital is expecting from this segment. DCC now has 1,897 employees on its rolls, up significantly from around 140 at the end of September 2002. The company is likely to carry on with this level of hiring as can be seen by its capex during 2QFY04 when around Rs 218 m were invested in building up infrastructure.

On the operating margins front, while the drop seems marginal for the September quarter it has been mainly influenced by the DCC and product segments, where Digital is continuing with its investments initiatives. While the PBIT margins for DCC and product segments in 2QFY04 were negative 9.4% and 268% respectively, these have improved over the previous quarter when the margins were negative 25% and 353% respectively. Going forward, as the company increases business from these segments, the performance on the margins front is likely to improve.

At the current market price of Rs 562, the stock is trading at a P/E multiple of 14.9x its annualized 1HFY04 earnings. Digital is undergoing a structural change in terms of its integration with HP-ISO. This integration seems to be moving rapidly on the sales and marketing fronts. Also, the rapid ramping up that Digital is undertaking, especially on the DCC front, indicates the high level of growth that the management is expecting this integration with HP-ISO to provide. However, investors need to remain cautious as this integration is still to be completed and, as such, there is still not enough clarity regarding the same. However, investors could take comfort from the fact that the parent (HP) has already indicated that it would commit around US$ 215-270 m to Digital’s revenues by FY05.