Zensar Technologies : A digital leap

After a solid rally in 2017 and for the first half of 2018, many mid-tier IT players have witnessed stiff corrections in their stock prices over the past six to eight months. Despite improvement in fundamentals, several players in the segment have declined significantly, making them attractive buys from a long-term perspective. In this light, Zensar Technologies may be an attractive option for investors with a two-three-year horizon, given the solid health of its financials and attractive valuations.

From our previous recommendation last June, the stock rallied in excess of 30 per cent, before cooling off with the broader market mid- and small-cap meltdown.

Traction across key verticals, the ability to tap into digital opportunities offered by its top clients and improvement in key operational parameters are positives for the company.

It is focused on a limited set of segments — manufacturing, retail and financial services. This focused offering across verticals and service lines means that it has been able to deliver well operationally over the past few years. It has been careful not to spread itself thin across too many segments.

At ₹230, the share trades at 13 times its likely per share earnings for FY20. This valuation multiple is much lower than the 15-17 times that peers such as Mindtree and Hexaware trade at.

In the nine months of FY19, Zensar’s revenues grew by nearly 27 per cent over the same period in the previous fiscal to ₹2,909 crore, while net profits increased by 36.7 per cent to nearly ₹231 crore. From a relatively weak FY17 and a reasonably stable FY18, the three quarters of this fiscal have seen the company bounce back to a solid growth path in line with many peers in the industry.

Digital surge

Zensar derives as much as 44.9 per cent of its revenues from its digital offering, up from 38.8 per cent at the end of December 2017.

This proportion is among the best in the industry, indicating that the company has latched on to the digital bandwagon comfortably, with its offerings in areas such as IoT, cloud and analytics.

What is more, revenues from digital offerings are growing at a pace that is much faster than the overall company’s revenue rate.

The company has been able to make considerable inroads into its existing top five, top 10, top 20 clients, with digital services, and has been able to tap into incremental spends of these customers, suggesting robust execution capabilities.

Revenue from Zensar’s top 20 customers contributed 60.2 per cent of revenues, up from 56 per cent at December 2017.

Manufacturing (51 per cent of revenues) and financial services (24.1 per cent) and retail (21 per cent) are the key verticals in which the company operates. In recent quarters, Zensar has increased its offerings considerably to the financial services segment, given that it is the largest outsourcing segment to IT vendors.

The company also has robust offerings catering to growth areas such as e-commerce.

The company derives 82.9 per cent of its revenues from delivering application management services, which offer better margins and 17.1 per cent from cloud and infrastructure services. Its robust service mix that is growth-oriented and also immune to fluctuations in client spends, would augur well for the company’s long-term growth prospects.

Operational positives

Customer additions have been quite healthy for Zensar. Last year, it added one client in the $10-million bucket, five customers in the $5-million category and as many as 19 in the $1-million bracket. The number of active clients has increased from 260 to 322 in the last one year.

Fixed price contracts, which enjoy better margins compared to time and material projects, contributed 53.7 per cent of the company’s revenue as of December 2018.

The utilisation rate, at 81.7 per cent, is quite healthy and comparable with the best among mid-tier IT players.

Zensar also has deal bookings of $500 million as of December 2018, which gives it substantial revenue visibility.

One area where there is scope for improvement is the company’s expensive onsite deployments. But digital engagements tend to be onsite heavy; the shift to offshore locations once the projects reach a mature stage would shore up margins.

Attrition, at 16.6 per cent, is not low and may have to be addressed soon.

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