| Last week, we had done a prognosis on mid- and small-cap IT stocks. We spoke to analysts to filter out the players in this space. We let the small fry get away while concentrating more on picks with sustainable business models which are value propositions. |
| Although the money flowing in the sector has raised the prices of stocks that may not deserve premium valuations, analysts recommend some stocks. These are three of their favourite picks: |
| Datamatics Datamatics is one of the oldest BPO services companies in India, but is a new kid on the block among the listed players. Operating purely in the non-voice segment, the company has expanded its domain knowledge to offer content management services to information providers, market research firms and tax processing services. |
| Analysts say the company had earlier lacked aggression and built a de-risked model. The good part is that this resulted in its client base being diverse unlike the typical BPO players. It also used part-time employees to keep costs variable. |
| As a result, the company has been sustaining high operating margins (earnings before interest depreciation, tax and amortisation or EBITDA) of about 25 per cent. |
| While client concentration may be a reason for some mid-caps to go down under, Datamatics faces no such problems. It derives only 8 per cent of its revenues from its top client and 28 per cent and 42 per cent of overall revenues from its top five and 10 clients respectively, unlike other BPOs like Spectramind and MsourcE which derive 16- 30 per cent of revenues from their top clients. |
| Datamatics had recently invested in sales and marketing to mine its clients and is expected to reap the benefits in the next couple of years. |
| Analysts say the company is capable of springing up positive surprises in the medium term. "We see the stock nearly doubling in the next 18 months," says Ganesh Duvurri of Motilal Oswal Securities. Analysts peg an EPS target of Rs 12.1 for FY06. |
| Geometric Software Formed in 1984, Geometric Software is as niche as it can get in the PLM (product lifecycle management) arena. What sets it apart from peers is its aggression in investing in the PLM space and the increasing size of its projects. |
| Its efforts to cultivate relationships with major players have borne fruit and its presence in the engineering services augurs well, feel analysts. |
| "The growth curve for Geometric is looking very sharp compared to most IT players," says Nimesh Chandan, IT analyst at Stratcap Securities. The PLM space has been growing at a CAGR (compounded annual growth rate) of around 7 per cent. |
| The good news, analysts say, is that offshoring in the PLM arena is expected to grow at a faster clip and the benefits of this are expected to accrue to Geometric. Geometric has been looking out for acquisitions in PLM products to build mass and is eyeing UK-based TekSoft. |
| TekSoft is a strong PLM player and its products address the CAM (computer-aided manufacturing) market which complements Geometric's domain expertise in the PLM market. Its products business is also expected to have a favourable impact on the bottomline going forward. |
| The company's recent results were buoyant with high sequential revenue and, more importantly, margin growth. Margins are expected to improve going forward as the contribution from product sales increases. |
| The company's good management is another reason why analysts are backing the stock. Geometric eyes $100 million revenues in 2007. The stock has gained by about 41 per cent y-o-y and analysts feel that it could be a good long-term bet. |
| i-flex Solutions The company had not done well in the first half of the current fiscal, but analysts say its performance was clouded by deferred revenues under US GAAP (generally accepted accounting principles), the impact of which would be reflected in its revenues and bottomline in the next two quarters. |
| Analysts say the company has witnessed a revival in new-order wins, with the order-book growing in the last three quarters. Although licence revenues are spread over a longer period of time, analysts feel that its alliance with IBM is likely to result in more number of large deals and faster growth in licence revenues. |
| Analysts say the core banking market is picking up substantially worldwide. According to them, Flexcube, i-flex's banking product, is one of the best offerings in the market. The company is also building up the services side of the business which witnessed a solid growth of 30 per cent sequentially in the last quarter. |
| "Demand is strong and supply seems to be the only constraint so far," say analysts. IPRs (intellectual property rights) - an inherent part of the products business - are expected to work wonders on the company's bottomline in the next two years. |
| Licence fee revenues are expected to increase on the back of recognition of revenues currently under deferred revenues. This will boost margins of the product business. Margins of the services side are also likely to improve with improvement in utilisation. |
| The company's strong order-book position for the next two years also keeps analysts enthused. Analysts expect i-flex's product business to witness a turnaround in FY06. They peg an EPS estimate of Rs 40 for FY06. |
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