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R SYSTEMS INTERNATIONAL LTD (RS)
PRICE: RS.104 RECOMMENDATION: REDUCE
TARGET PRICE: RS.119 CY11E P/E: 7.4X
R Systems' 2QCY11 results were above our estimates. While organic
volumes grew by 4.5%, margins improved due to reduction in employee
strength, higher utilization rates and low provisioning for doubtful debts.
This is the first full quarter of Computaris consolidation. Margins improved
after two successive quarters of steep falls. The company won 10 new
accounts during the quarter. The macro scene has turned challenging
though R Systems has not felt any impact of the same, as yet. The revenue
growth may be impacted going ahead, reflecting the challenges associated
with a project - based business, which R Systems has. Only higher
consistency in revenue will lead to better margins and attract higher
valuations for the stock, we maintain. We maintain REDUCE. The price target
stands marginally revised to Rs.119 (Rs.116) based on CY11E earnings.
Earnings per share stand at Rs.13.9 (Rs.11.8) for CY11, post Computaris
acquisition. The high amount of (net) cash in the balance - sheet of about
Rs.59 per share by CY11E end may act as cushion. Recessionary conditions in
developed economies and a sharper-than-expected appreciation in rupee v/s
major currencies can pose risks to our estimates.
Organic volumes grew by 4.5% QoQ
n Revenues grew by about 12% on a sequential basis. Of this, about 6.6% was
contributed by the full-quarter consolidation of Computaris (2 months in
1QCY11).
n On an organic basis, volumes grew by 4.5% QoQ, which was better than our
estimates. License revenues were up from Rs.3.5mn in 1Q to Rs.6.5mn.
n This is the fourth consecutive quarter of volume growth after 6 consecutive quarters
of de-growth.
n The company added 10 new accounts during the quarter and the company has a
strong pipe line according to the management. The company has 16 $1mn accounts.
n Moreover, in 1QCY11, the company had already concluded two deals yielding
USD 3-5mn each over a two-three year period in the telecommunication industry.
n The management has indicated that, clients continue to focus more on cutting
costs and reducing flab.
n The company now has about 14 clients with a run-rate of more than $1mn per
annum. Also, the company
n Average realizations were marginally higher during the quarter largely due to
mix changes and some improvement from existing clients. However, with the
evolving macro scenario, we believe that, like-to-like increases may be difficult
to come by.
Employee count lower
n The employee strength reduced during the quarter from 2,325 to 2,285. The
number of employees has been fluctuating over quarters and the strength has
not yet come up to the CY09 levels.
n This, once again, reflects the uncertainty and volatility associated with a projectbased
business.
n The blended utilization level including trainees increased to 66.9% from 64.9%
QoQ.
Margins improved
n EBIDTA margins improved by about 600bps QoQ to 8.5%.
n Margins improved due to the reduced employee strength, higher utilization levels
and also lower provisioning for doubtful debts.
n In 1QCY11, the company had increased off-shore salaries, which had impacted
margins by about 350bps.
n Tax rate rose to about 27% as the tax exemption cover is no more available.
Going forward, we expect tax rate to be about 30% of PBT.
Acquisition of Computaris - integration done
n The acquisition of Computaris was completed in 1Q and the company is already
reaping the gains of the integration. During the quarter, it has won a large endto-
end deal from Poland through Computaris.
n R Systems had acquired Computaris in an all-cash transaction valued at about
GBP 9mn. Of these about GBP4.25mn has been paid upfront and the balance
will be paid as earn-outs over a two year period.
n Computaris provided solutions and services to telecom industry and specializes in
real-time ratings and billing solutions. It had operations spread across five countries
and had about 240 employees.
n Computaris had revenues of about GBP9mn in CY10 with PAT of about GBP 1 -
1.1mn.
Cash balance
n R Systems had a net cash balance of about Rs.744mn as at June 2011. We expect
the company to have surplus cash of about Rs.716 mn by CY11 end. This
works out to about Rs.59 per share.
n We see the cash in the balance sheet as a cushion against any significant fall in
the price from the current levels.
Future prospects
n We have incorporated the 2QCY11 results and have made changes to our CY11
estimates.
n We expect revenues to rise by about 33% partly on the back of consolidation of
Computaris.
n Margins are expected to be almost flat in CY11 as currency appreciation and
salary increases set off productivity and revenue related gains.
n We expect tax rate at 25% of PBT in the absence of the STPI tax cover.
n Consequently, PAT is expected to remain almost flat at Rs.170mn, resulting into
an EPS of Rs.13.9.
Valuations and recommendation
n The stock is currently quoting at valuations, which are not undemanding, especially
in the backdrop of flat profits in CY11E.
n The revenue growth has remained erratic because of the project-based nature of
the business. The macro scene indicates that, the revenue growth may be challenging
over the next few quarters.
n Margins are also expected to remain under pressure because of the currency
movement and salary pressures.
n We have maintained a cautious stance on the stock. We will become more positive
on the stock post seeing increased hiring and consistent revenue growth on
a sequential basis along with improved margins.
n The stock has come off post our previous REDUCE recommendation. We maintain
REDUCE.
Concerns
n Rupee appreciation beyond our assumed levels could provide a downward bias
to our earnings estimates.
n Recessionary conditions in developed economies could impact revenue growth of
Indian vendors, including R Systems.
