NIIT Tech: Window of opportunity (Buy)

Broad-based growth across segments and healthy client additions are key positives

Several mid-tier software services companies have seen their share prices surge over the past one to one-and-a-half years.

Thanks to a revival in key segments, improving client spends and a weak rupee, most of these stocks rallied and delivered 40-50 per cent returns this calendar year, even when the broader markets were rather weak.

Even so, the widespread correction in October-November resulted in a few quality names from the IT pack becoming attractive from a valuation perspective due to decline in their share prices.

NIIT Technologies (NIIT Tech.) is one such solid mid-tier IT player whose stock price has corrected around 20 per cent from its peak, presenting an attractive buying opportunity for long-term investors. The stock fell following speculation that the company’s promoters were looking to sell their stakes and supposedly even identified a few prospective private equity firms. Even if the stake sale fructifies, experiences with successful acquisitions in recent years such as in the cases of Mphasis and Hexaware suggest that the prospects for NIIT Tech would only brighten.

Healthy client additions, solid traction in the key BFS (banking and financial services), transport and insurance verticals and good performance in key operational metrics are positives for NIIT Tech. Revenue from digital services has been rising at a solid pace. The company has also been able to win large long-term contracts, which increases its revenue visibility.

At ₹1,109, the stock of NIIT Tech trades at 14 times its likely per share earnings for FY20, lower than the valuation multiples that shares of peers such as Mindtree and Hexaware trade at (15-17 times), making it a reasonably attractive option for investors with a two-year horizon.

In the first half of FY19, NIIT Tech’s revenue rose 19.8 per cent over the same period the previous fiscal to ₹1,732 crore, while net profits rose 60.8 per cent to ₹207 crore. The company’s EBITDA (earnings before interest, tax, depreciation and amortisation) margin of around 18 per cent compares favourably with peers in the mid-tier IT category.

Broad-based traction

NIIT Tech operates in limited segments. The three key verticals — BFS, insurance and transport — account for around 72 per cent of its revenue. While BFS witnessed steady traction, insurance and transport grew at a healthy pace, ahead of the company’s overall revenue growth rate. All other segments are classified under ‘others’ by the company. Within the ‘others’ segment, GIS (geographic information system) is a key offering from the company, which has steadily increased contribution to revenues.

The US accounts for half of NIIT Tech’s revenue and continues to be steady in terms of revenue growth, while the EMEA (Europe, West Asia and Africa) region (34 per cent of revenues) witnessed solid traction over the past several quarters.

Thus, the company’s growth has been reasonably broad-based across segments and geographies.

Digital services have increased from making up 24 per cent revenues in September last year to 28 per cent currently. The rate of growth has been solid. In the recent quarter, for example, digital revenues grew by 38 per cent Y-o-Y.

Healthy operating parameters

NIIT Tech has $363 million worth of order book to be executed over the next 12 months, as of September 2018. The figure has been climbing steadily — it was at $320 million in September 2017 — indicating fairly steady revenue visibility.

Client additions have been consistently healthy for the company. NIIT Tech added one customer in the $10-million bucket, five clients in the $5-10 million category and eight in the $1-5 million band.

By striking a good balance between mining existing clients and chasing new ones, the company has maintained a healthy customer mix.

The key positive from these deal wins is that most involve delivering digital services and solutions, indicating that the company has been able to tap the right pockets of opportunity.

The onsite component of revenues has increased from 61 per cent to 64 per cent in the last one year, as most digital deals require considerable manpower presence at customers’ premises. But the company has indicated that margins are better for onsite revenues.

The utilisation rate has been in excess of 80 per cent over the past couple of quarters, and at such healthy levels (comparable with the best among mid-tiers), it is a key margin lever for the company. Attrition has been stable at 10-11 per cent over the past year and is not a cause for concern and is among the lowest in the industry. While rupee depreciation should be a positive for the company, any push from customers for discounts — in the light of the weak currency — could affect margins.

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