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Hughes Software: A long-term bet?

Dec 27, 2001

Hughes Software fell from grace when the management revised its revenues guidance down from previously estimated 60% to a current expectation of about 25% to 35%. Consequently, the company’s stock witnessed selling. However, the real blow came when the company declared its results for 2QFY02. The concerns regarding the company’s product sales were proved to be true. The product sales had declined by 59% sequentially during the quarter. This caused the operating margins to come down sharply from 34% in 1QFY02 to 17% in 2QFY02. However, the merger of Hughes Electronics with Echostar lifted the stock price once again as a possibility of a buy back emerged on the back of a change in management control of the company. While the company intimated the exchange that there would be no buy back, the SEBI asked the company to explain why there would not be any need for such a move. The decision on the matter is pending. The current stock price has the possibility of a buyback factored in. And if this does not come through the stock price might witness a significant downside.

However, Hughes has been increasing the breadth of its offerings to counter the slowdown in demand. The company has recently unveiled the SIP User Agent Toolkit and Server Framework to significantly reduce "time to market" for developers using the Session Initiation Protocol (SIP) route to offer solutions for the voice over packet market. Theses offerings simplify the development of phones, SIP-Interface in software switches and SIP gateways allowing user to deploy their solutions faster. According to the company, the SIP toolkit server offerings would be critical in enabling technology for the future of IP communications.

The company has also entered into an agreement with Motorola to provide advanced third generation (3G) mobile data protocol hardware/software platforms. NTTDoCoMo has recently introduced 3G services on a restricted basis in Japan. 3G services provide mobile access to the Internet with significant bandwidth that allows multimedia applications to be accessed. There is a strong possibility that the demand for 3G services will see a significant surge in the future. Technology advances could further improve the offerings and bring the cost of providing the services even lower. This would in turn add pace to the growth in demand for these services.

Expanding the horizon for its offerings, Hughes in the recent past entered into broadband communications applications space with a contract to provide specialized engineering services to Hughes Network Systems (HNS) for SPACEWAY. HSS will collaborate with Hughes and its broadband alliance partners to build a range of next generation peer-to-peer applications including high quality secure video based tools for business and residential applications, telemedicine, and distance learning-on-demand. With user applications getting increasingly bandwidth intensive, broadband could be the preferred mode to access the Internet in the near future.

Hughes positioning as a services provider for the OEMs in the area of convergent networks is a fundamental reason to look at the company as a possible investment opportunity. However, since these markets are impacted significantly by technological developments, the future is very uncertain. Also, the management’s credibility and ability to perform have taken a hit in the past.

However, if one has to take a cue from the past, the future is likely to see all kinds of networks converge and therefore, service providers like Hughes would have a significant role to play. At the current market price of Rs 263, the stock is trading at a P/E multiple of 21x its FY02E earnings. While in the near future the company’s stock price has no triggers and might witness a significant downside if there is no buy back offer, in the long term the company could see growth due to increase in demand for its services.

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