The Hindu Business Line : Building on strengths

Fuelled by robust growth in revenues from the UK, the earnings performance of Mastek has been quite encouraging in the latest October-December. While the US geography and the Deloitte joint venture continue to be a drag on financial performance, Mastek hopes to get the growth momentum on track by focusing on improving the sales efficiency and bagging annuity relationships in the BFSI space, say through BPO.

Sudhakar Ram, CEO, Mastek, dwelt at length on Mastek's strategy of using partnerships to bag large systems integration projects (complex projects delivered reliably and to tight deadlines) and how it plans to remain focused on projects of this nature over the next three to five years.

How are you leveraging on your strengths in the UK geography, the lynchpin of Mastek's revenue growth?

Our strategy is to work with partners. Today we are known because of the London Congestion Charging project and the NHS (National Health Service) project. The fact that one can get reliable service from Mastek is known to all integrators there. Sometimes the customers endorse us directly.

So when Syntegra and BT wanted offshore vendors, they selected Mastek. So, we do expect our profile to increase where customers themselves look at partners who are reliable.

Everyone knows that they don't want to do everything onsite because of the costs. When they want offshore, they go for those who have proven themselves. So we are spreading our wings in terms of working with partners whenever there are large projects.

These projects are not common — probably one or twoa year. Of the size of NHS, it's very large and even rarer. We know what deals are going in the market. So we know whom best to tie up with for each of those deals. We don't have the size/credibility to go on our own. But we have high credibility to go with whoever we think has a good chance of good winning.

How is the NHS Spine project shaping up? Unlike the London Congestion project, there seems to be no specific deadline. How is it ramping up?

Here too, there are specific deadlines. Our original contract there was to deliver systems that would get over by middle of calendar 2005. Because of delays from other vendors, the project itself may get delayed by another six months or so. But we've had two successful deliveries - last June and December. The latter is going live by February as per schedule.

There have been pressures that the customer has faced. Apart from the areas we were to originally contribute in, we have also stepped into other areas within the program. We are helping the BT-Syntegra combine deliver on time.

How are you going about refilling and replacing large clients... In our last meeting you had said that you had to build structures that will help you deal with client replacement risk?

The replacement part will be through projects only. Our strength lies in Systems Integration (SI) capability. We are one of few players from India capable of delivering like this reliably.

In the past, Indian companies were not looked at for such deliverables. Increasingly, it is becoming clear that they see this as leverage. Vendors are arguing that if a big, US-based vendor could fail at a project, isn't it better to grant projects to an Indian vendor and manage costs better?

Our track record there has been very good, given that our on-time delivery record is in excess of 90 per cent. We have also analysed our project success rate. Internationally, in the project business, 30-35 per cent of projects get done on time. Another 30 per cent never see the light of day. Mastek must have done between 600 and 700 major projects in the last couple of decades.

We can't think of more than 8-10 that have failed/not seen light of day. We want to leverage this strength. Annuity is important but our strength is in SI — that we can take mission-critical assignments and deliver them predictably. So we have to lead with that and then get the maintenance business. We can't present ourselves as a mainframe maintenance company — that will remove whatever strength we have.

We participate in large projects such as NHS, and then tell that we can also maintain your mainframes. We know that is bread and butter but we can't position ourselves that way.

Could you throw more light on your broad strategy? You have identified the SI capability. But SI capability still doesn't take care of the client refilling risk. Annuity will do it, but it would take a while. In the meanwhile are you reshaping your strategy in any way?

Not for the IT business. We have a strategy that will work, that will take us through the next three-fiveyears. We have made investments in areas that will bring in annuity business - invested in BPO, for instance. It has more recurring business. For the next two-three years, it won't be a major part of our business but it's our investment in building a recurring part of the business other than annuity.

Your US project performances are not measuring up to expectations. Replicating a UK strategy may not work in the US. How are you working on the issue? You also have personally operated there extensively... ?

It's sheer focus. In the US, we have not implemented it as well. It's (a question of) narrowing your focus and being present in a specific segment where you are credible, which is what we are doing now in the BFSI segment. We will focus all our energy there and be highly visible in the marketplace. Over the last 12 months, we have done it. It has started paying dividends. But it takes time for you to register as a small player.

If you look at the top three players, 40 per cent of revenues comes from BFSI, leaving aside Wipro. The pressure and the competition are going to be high...

We are narrowing it down to select areas. Our basic focus there is Life and Health, not overall BFSI. We have the component framework as well as track record in those two areas.

You had talked about restructuring your US operations. How have you done that?

We downsized operations there. We were bleeding there. This restructuring helped reduce the bleed there in the last two quarters. This quarter, it went back up largely because of one project, which is draining money. Other than that, the US business is doing well.

Our US numbers are slightly vitiated because it includes our Carretek operations. Carretek is in an investment phase. So, it looks large. Core organic operations are reasonably under control. The bottom-line is okay. We now need to increase top line. SG& A is under control. Except for one project, all give us good margins.

We just have to use that to build the whole business and increase the thrust to grow. We have not grown there at a rate that we would like to see.

What portion of your pipeline is from the US?

From a new account acquisition angle, the US is good, done very well compared to others. In terms of accounts in hand and order pipeline, it's largely the UK.

You have renewed your joint venture with Deloitte. But its performance has gone down a bit. What was the rationale for renewing the relationship?

Deloitte is moving part of the business to their Hyderabad subsidiary. That has done well in the last 12 months. Otherwise, that business would have come to our JV. That's one of the main reasons why it has not grown.

The JV never had exclusivity. It was always clear that they could do things on their own. This was a way for leapfrogging... . For us and them to scale up... It has helped both of us. We feel it can survive this way. We need to set right certain things so that profit gets back on track. We are putting those in place... in terms of controls and different structures so that profitability is reasonable - That will happen in the next six months or so.

But beyond that, it has to do business as usual. It has to find its niche in the Deloitte world. How it would grow, how it would find its unique core competency compared to the Hyderabad subsidiary... . are all questions that the local management is working out.

Turning around the operations is important...

There was a level of uncertainty while all that was happening. That's part of the reason why it dipped... now that certainty has emerged that it would continue (there were always options, that we would buy it over or they would buy it), things should be back on track.

We went in for the last quarter in the negotiation phase. That had a business impact. Now that all of that is clear and put in place, we have to find its direction, put in basic cost disciplines in place so that it can find its feet.

What are you doing to increase your margins? The US business and the Deloitte JV were reasons for sluggish profits. How do you plan to ensure that profits pick up in line with sequential growth in sales?

On a standalone basis, success is already visible. For growth in margins, the largest leverage is sales efficiency right now. Our gross margins are decent — pretty much in the top quartile in our industry. Making sales throughput better is the issue. Our SG&A was close to 28-30 per cent of revenues last year.

That has come down to 20-odd per cent and it will come down a few percentage points this year. The dramatic shift is over. It's visible because of Deloitte JV clouding over part of it and the BPO entity - we were losing money there.

For the JV, it will be a quarter before it steps back up. It's a large world and won't change very fast. It needs another quarter to get back growth momentum. With Capita, we have sold stake. So the impact on the JV will be low. The Carretek investment will remain because we see it as promising. In the course of these six months, we see margins expanding. For, we expect growth in these two quarters. The last part of that growth should fall to the bottom line since SG&A will not go up. Let's see.

SI, by its very nature is a lumpy business. Competitors in the space in India tried their hand at it but moved away. They have taken up infrastructure support, which is a related area. They have been very successful there, but have not looked at SI as core activity thereafter.

The only way to remove lumpiness is through partnerships and creating a steady deal-flow. So you have to improve pipeline and improve levels of deals that come to you. We weren't clear a couple of years ago, whether we would get that kind of deal flow as an SI. Now, it looks like we will. Largely, we also see that the majors are slowly vacating this market. This is becoming more outsourcing than projects. Then, my question is, who's going to do the projects? Someone has to build software as well. So who'll do that?

Have you built up the annuity part of pipeline that will bring in greater predictability?

One part of this exercise is to ensure that we don't get into (too many) project deals but into long-term deals, where you are trying to optimise delivery and value over the total lifetime of an application. So you are also optimising total cost of ownership over the application lifetime. The other part to this is that in some of our framework-based engagements, which is small... we are able to get five to ten-year deals.

Even in BFSI, we can get long-term deals. Then we have to see if we can make such hits in the maintenance market. That is a scale play. There is always an attempt towards this but it's difficult. The probability of success is lower for a small company like Mastek, but some of our wins in the US are directly in the maintenance end of the business.

Mid-size companies typically need annuity businesses that are largely mainframe-focused. That seems to give them strength in bagging annuity deals and in building predictability. Do you think the lack of mainframe skills has been a liability?

That we have not focused on mainframe in the past has been an issue. But now we have a reasonable mainframe practice. We do expect maintenances deals in this space. We have done one-off projects such as those for Fidelity, one-time conversions. But, over a period, say, next two years... the mainframe business (at the maintenance end) would be about 8-10 per cent of our business. Mainframes would constitute about a third of our maintenance business.

Can you give us an idea about the NHS deal {ndash} in terms of size, manpower, development vs maintenance... ?

Our deal was about $50 million (or 35 million pounds) over 10 years. The project phase will be shorter and maintenance will be higher {ndash} maintenance will be on for eight years from now. The project phase would get over by mid {ndash} 2005 calendar. Maintenance has already started on what we have delivered. That would be larger because we are taking more scope than originally planned. But we are only doing a small part of the overall program. Spine (project) itself is worth one billion pounds.

How would building SI relationships impact your SG&A (sales, general and administrative expenses)? You had indicated that you want to reduce it. But wouldn't the above view be diametrically opposite?

It's in line. If we sharpen our positioning as an SI, it reduces our sales expense. Earlier, we were in a dilemma. We didn't see why anyone would come to an Indian company to do a complex project. Now as things are opening up, we see that there is no one else taking that position in India. Large complex integration projects (are our game).

Are you beginning to focus more on BFSI (banking, financial services and insurance), with less focus on the government vertical?

It varies by country. In the UK, we focus on the government since the large projects are all there. In the US, our work is limited in the government space but we are there largely in BFSI. It also varies by situation. BFSI has smaller deals but is safe and predictable. It helps you de-risk. With the government, unless you get the 10-year time and you have your order book filled for that period, there will be lumpiness (between two deals). These are such huge projects that typically, when they get over, are difficult to replace.

Any other verticals that show promise for SI where you can step in and build vertical practice?

Right now, it's the government. That's where new systems are getting built. In Insurance, it's a replacement market. So we are looking at the Java-based component framework. We are offering to help customers migrate from their 20-30 year old systems to new technologies. It's not working as well in just migration alone. But, it works if there is some new product they want to introduce because of say, legislative changes. When there is a discontinuity in the market {ndash} strategic new opportunities, change in channels — in those areas, we are able to position this. But if things are running smoothly, then few want to change.

With projects such as LCC and NHS, much of the project work is onsite. How do you work on margins in such deals?

All these projects are on fixed bid. These are high risk. We are relying on our delivery track record to keep up margins. When people come to us for precision and predictability of delivery, quality and predictability are important. When you look at 10-year deals, the cost becomes more important. Here, we share all the risks that our partners have. So we do have large contingencies. As long as we don't use up contingencies, margins are very good. So, even though work has been onsite, margins have been fairly good. Margins on offshore will also be good.

Is the Deloitte subsidiary getting prices that are much better than JV?

No. Prices are the same. We don't compete on price. The question is how you show expertise in some areas. Whether you have bench strength and all that. If the partner is comfortable about this entity being better placed to deliver than the other one, is the question. It's competition based on capability, not price.

What capabilities do you think will help turn around the Deloitte JV?

It's capabilities are unique. It does work in Siebel, Oracle and enterprise technology integration. It's a saleable commodity within the Deloitte world. It has to be aggressive with opportunities within the Deloitte world. We had to evaluate feasibility after the first three years. That's why it came up for review. After now, it's an entity that will survive as long as it can.

Earlier, you said that Mastek is never after a large number of general clients. In the 12 months ended December 2004, you saw some net client loss. Was it a conscious decision?

Yes. You'd keep getting rid of some clients over time. Of the 60 clients or so we service, 30 are strategic. Others move into that slot in a reasonable time frame, or we dump them. Two years ago, 10 were strategic clients. Now they are 30. Half of this are already over a million dollars annually, the others moving there. Without doing at least a million, we won't consider them strategic.

Do you fix hurdle rates in accepting customer accounts?

We don't get into an account unless it has potential revenues of $10 million per year with us, over time. Which means, they would have to have an IT budget of about $50 million.

bharatk@thehindu.co.in

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