Hexaware: The right link

Hexaware could leverage General Atlantic connection to win more business

With more and more Indian software companies looking at acquisitions and expansion, it is no surprise that companies are building war chests to finance growth.

Unlike large software companies, which are cash-rich, it is mid-sized companies, which are more in need of money.

Surprisingly, software companies have stayed away from the GDR/FCCB route taken by manufacturing companies, with few exceptions such as Patni's ADR and 3i Infotech's FCCB.

Instead, most firms have chosen to raise funds through preferential allotment. Possibly, the need for money for many of these companies is low, which may not justify a foreign flotation.

Hexaware is the most recent case to go for a private placement with private equity firm General Atlantic (GA). GA will buy 14.99 per cent in Hexaware and invest Rs 300 crore. Of this, half the money will come as equity capital and the other half as convertible preference share.

The allotment is being done at Rs 142.1 a share, which was close to the market price. Had Hexaware gone in for a GDR/FCCB, it could have commanded a premium over the market price, but the company would have needed a few investors to put in such a large amount.

With GA, the company has got its targeted amount from just one investor. Also, GA is a reputed player, and has a large portfolio of invested companies, and Hexaware can leverage this relationship in acquiring clients and business. Earlier, GA had invested in Patni Computer.

Hexaware had cash of Rs 69 crore at the end of December 2005. With an additional Rs 300 crore, it will be in a comfortable position to expand its infrastructure and pursue inorganic growth. Hexaware is looking at acquisitions that fit within its strategy.

Hexaware is a niche player, mainly catering to the BFSI, healthcare and transportation sectors with a focus on enterprise solutions, HR IT and testing services.

For year ended December 2005, Hexaware's earnings before interest, tax and depreciation (EBITDA) increased by 39 per cent y-o-y to Rs 109.4 crore on a 24.3 per cent revenue growth. EBITDA margin increased by 170 basis points to 16.1 per cent in CY05.

In the December quarter, the company transferred its PeopleSoft development centre to Oracle for a Rs 4.5 crore fee. At its current price of Rs 160, the Hexaware stock trades at about 18-19 times CY06 EPS.

Tata Power: Core focus

To focus on its core business of power generation and distribution, Tata Power is selling off its unrelated businesses. After divesting the broadband business in October 2005, the company is now planning to hive off its power systems division to group company Tata Projects for not less than Rs 80.2 crore.

This division designs, erects and commissions transmission lines and allied infrastructure. With a turnover of Rs 185 crore last year, this division contributed less than 5 per cent to total sales.

Since the sale does not include this division's two ongoing transmission line projects in Bangladesh, the valuation seems fair for Tata Power shareholders. Earlier, Tata Power had also sold Tata Power Broadband to VSNL for Rs 202 crore .

Under Tata Power, the broadband unit had mainly been a "carrier of carriers", whereas VSNL can leverage this network to grow its enterprise or corporate business. In FY05, when TPB became a subsidiary of Tata Power, its turnover was Rs 46.60 crore, while the net profit was Rs 10.71 crore.

In Q3 FY06, Tata Power had seen its operating profit margin decline by 779 basis points to 15.98 per cent. This drop was largely owing to the company's purchase of almost 144 million units of electricity from external sources compared with a surplus of 185 million units in Q3 FY05.

Over the next few quarters, Tata Power's is expected to see growth from its recently commissioned 120 MW Jojobera plant. Also, the company has announced setting up of 250 mw power plant at Mumbai.

The Tata Power stock trades at about 21 times estimated FY07 earnings and that appears reasonable, especially due to the company's investments in Tata Teleservices and the holding company of VSNL.