Stock Fundamentals

Hexaware Technologies: Buy

K. Venkatasubramanian | Updated on October 08, 2011

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Hexaware appears to have made a sound comeback in the past four or five quarters.





Investors with a one- or two-year horizon can buy the shares of Hexaware Technologies, a mid-tier IT company, given the significant strides the company has made in enhancing revenue visibility through large deals and also shoring up margins.

Steady increase in contribution from its high-margin enterprise solutions offering and improvements in key operational parameters are other positives for the company. At Rs 81, the share trades at 10 times its likely CY12 per share earnings. This is on a par with players such as MindTree.

After a turbulent 2009, and marginal growth in revenues but fall in profits for much of 2010, Hexaware appears to have made a sound comeback over the past 4-5 quarters. In the first half of CY11, the company saw its revenues grow by 37.9 per cent to Rs 652.6 crore, while net profits zoomed 339.6 per cent to Rs 114.1 crore. This was aided in part due to forex gains of Rs 26.3 crore in the first half of this fiscal, compared to a Rs 26.7 crore exchange loss suffered in 2010.

Hexaware has in 4-5 quarters seen revenue growth at a healthy pace of 5-13 per cent sequentially, which is among the best in the industry. The company has seen its high-margin enterprise solutions (largely Peoplesoft) steadily increase contribution to revenues from 23.8 per cent last June to 31.3 per cent currently. This has meant that net margins have improved from single digits to around 18 per cent.

Oracle Corporation, which owns the Peoplesoft product and of which Hexaware is a leading implementation partner, has delivered results much higher than market expectations over the past few quarters. Specifically, there has been robust increase in license revenues from software products for Oracle.

This means that players such as Hexaware would be able to benefit from the trend and derive significant annuity revenues.

Strong deal wins

The company has seen significant traction in signing up new contracts, especially large ones.

Hexaware had announced a $25 million deal from a client in Europe and a $10-15 million project from a US-based client a few months back, giving the company a robust deal pipeline and lending reasonable revenue visibility.

But what takes the cake is the deal worth $177 million over five years that the company announced in July. This contract, if apportioned equally over this period, accounts for over 15 per cent of the company's CY10 revenues. The deal was awarded by a US-based existing customer of the company. What is more welcome is that Hexaware has been able to bag the deal by competing effectively against multiple vendors suggesting robust execution capabilities. In terms of services rendered, the present project involves delivering a range of services such as applications management, BPO, business analytics and enterprise solutions, making for a mix that could prop margins. About $77 million of the present contract is an extension of an earlier project, while $100 million is incremental business. The company expects the incremental business to ramp up over the next few quarters, while the extension business would show up in revenues from the third quarter of this calendar year.

Key parameters improve

Client addition too has been robust with 9-14 customers being added over the past five quarters.

The top-10 clients of Hexaware have been steadily growing over the past few quarters to account for 51.8 per cent of revenues, suggesting robust client-mining strategies.

Billing rates for offshore services have remained stable or witnessed marginal increases as has been the case for onsite executions as well. This suggests that even at the relatively high rate of client additions, there have been no significant discounts offered on the pricing front. Utilization continues to rise and is at 71.4 per cent, which is quite reasonable.

While there are concerns regarding Europe, the company has on the contrary seen the geography grow steadily over the past few quarters. Hexaware's offshore component of revenues has risen from 39.7 per cent in June last year to 43.3 per cent currently, which significantly optimises cost. The company though has indicated that there may not be significant improvement from these levels in the near future.

Attrition, at 18 per cent, though declining, is still pretty high and a key execution risk.

Published on October 08, 2011

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