Quick Heal Technologies: Margins under attack

Competition from global players and falling margins make this offer challenging

The Pune-headquartered Quick Heal Technologies is a market leader in the domestic business of security software products with a market share of 30 per cent. Its proprietary antivirus technology — sold under the brand names of “Quick Heal” and “Seqrite” — are used to detect security threats including virus attacks across software platforms (Windows, Mac, Android, Linux) and devices (including desktops, laptops, mobiles and tablets). The company, started by first-generation entrepreneurs, has grown phenomenally over the last two decades, making it a popular anti-virus brand in India.

The current IPO is a combination of fresh issue of shares worth ₹250 crore and offer for sale worth ₹200 crore. The company plans to use the proceeds of the issue for advertising, research and development and general business related activities.

The company is largely focussed on the domestic business which constituted 97 per cent of its total revenues in 2014-15. The current revenue mix is retail centric (87per cent). However, efforts are on to improve its enterprise business, by focussing on the small and medium businesses.

Financials

For the financial year 2014-15, the company’s consolidated revenue was ₹286 crore; for the six months ended September 2015 it stood at ₹148 crore. The company has been growing its top-line by 17 per cent annually over the last three years. However, net profit for the company has been falling over the years due to shrinkage in operating margin. Net profit stood at ₹53.8 crore in 2014-15, down 30 per cent over the last two years.

EBITDA margins, which were 51.3 per cent in 2012-13, fell to 32 per cent in 2014-15, and slipped below 30 per cent in the first half of this fiscal. The falling margin is attributed to entry into new product lines as well as expenditure for research and development. However, the management expects margins to recover from current levels, with major expenditure on products done with.

The company currently has no debt on its books, which is a positive. However, its return on equity has fallen to levels of 16 per cent in 2014-15, from 33 per cent levels three years back.

While debt-free status and growing topline are positives, falling margins are of concern. While the company has managed to grow licensed users by 2.8 times over a span of five years (current active users of 7.1 million), it has not been able to sufficiently monetise the growth in its active users.

High valuation

The price band for the issue is ₹311-321 per share. The asking price discounts 2014-15 earnings by 35-37 times. If the earnings for the six-month period of the current financial year 2015-16 are annualised, its forward PE is even higher at 39-41 times. Given the fall in margins, valuation is on the higher side. The company needs to exhibit recovery in margins to justify such a high valuation. Investors can avoid the issue.

Moreover, the business of security software solutions is extremely competitive, characterised by rapid changes in technology, user requirements and industry standards. A player, very often, faces competition from new product launches and improvements. Globally, there has been an upheaval in the cyber security business with McAfee selling its business to Intel Corp (2011), while Symantec reoriented its business to focus on anti-hacking technology away from PC sales. Symantec bundled its anti-virus software along with the hardware. As PC sales fell, the company’s revenue took a hit. Symantec is currently quoting at 15.9 times its trailing 12-month earnings.

Quick Heal has plans to improve its revenue share in the enterprise segment. However, large vendors of hardware or operating system software, such as Microsoft, IBM and HP increasingly incorporate the system and network security functionality into their products. And competing against the global giants — especially those with larger technical and financial resources — is challenging.

Also, India is swiftly moving into the smart phone market, where asking customers to pay for anti-virus could be even more challenging.

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