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CMP Rs229, Target Rs304
Allied Digital Services Limited BUY
Company Report July 20, 2010
Sector: Info rmation Technology
Sensex: 17,986
CMP (Rs): 229
Target price (Rs): 304
Upside (%): 33.0
52 Week h/l (Rs): 280 / 150
Market cap (Rscr) : 1,077
6m Avg vol (000Nos): 149
No of o/s shares (mn): 46
FV (Rs): 5
Bloomberg code: ALDS IB
Reuters code: ADIS.BO
BSE code: 532875
NSE code: ADSL
Prices as on 19 Jul, 2010
Shareholding pattern
March '10 (%)
Promoters 43.4
Institutions 33.4
Non promoter corp hold 10.4
Public & others 12.8
Performance rel. to sensex
(%) 1m 3m 1yr
Allied Digital 0.8 (2.9) 24.3
Glodyne 13.1 9.4 220.2
Omnitech 14.3 6.6 116.4
KPIT Cummins 8.9 18.9 138.1
Share price trend
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Allied Digital Sensex
Research Analyst
Rajiv MehtaAniruddha Mehtaresearch@indiainfoline.com
IMS business to drive 29% revenue CAGR over FY10-12The experience and expertise in system integration (SI), technologicaldepth, wide onsite reach and sizeable remote infrastructure make ADSL aleading IMS player in the domestic market. The company has gained astrong foothold in the US market with the acquisition of EPGS in mid-FY09. After struggling initially, EPGS is now on a sturdy growth path withFY11 revenue expected at US$55mn, a growth of 28% yoy despiteoffshoring. Overall IMS revenues of the company are expected to witnessFY10-12 CAGR of 38% v/s 16% for SI segment. Resultantly, IMSrevenue share would increase from 56% in FY10 to 64% in FY12.
EBIDTA to expand 200bps over FY10-12; to reach 22% in FY12ADSLs margin improved significantly by 200bps in FY10 driven byimplementation of hybrid delivery model in EPGS, cross-selling of value-added services to EPGS clients, revenue mix shift in the domesticbusiness towards high-margin IMS segment and towards RIM within. Asper the management, EPGS operating margin has improved to 7% from
near 0% when acquired. We expect ADSLs OPM to expand by 100bpseach in FY11 and FY12 on further expansion in EPGS OPM (to 17-18%over next two years), continued revenue mix shift towards IMS/RIM andcontribution from recently entered Lenovo deal.
To turn FCF positive in FY11; growth without dilution/ leverageWe estimate ADSL to have turned CFO positive in FY10 and become FCFpositive in FY11. Augmentation in CFO and FCF over FY10-12 would bedriven by robust revenue growth, margin expansion, reduction in workingcapital intensity (due to decline in SI revenue share) and no significantcapex (current NOC/SOC utilization is low). This and the robust Cashbalance (Rs2.2bn, 20% of m-cap) eliminate the need for equity issuanceand balance sheet leverage to fund growth over the next 3-4 years.
Another pleasant feature about ADSL is its pure RoE of 20%+ (driven byhigh RoA) as the company has negligible leverage. The utilization ofsignificant C&E would only improve RoE in the coming years.
Robust 34% earnings CAGR; valuations cheap at 5.6x FY12 P/ EA strong revenue growth of 29% over FY10-12 and material marginexpansion (200bps) would drive robust 34% earnings CAGR for ADSL.Given the strong earnings growth, significant improvement in cash flowsand a robust/liquid balance sheet, we believe that current valuation ofADSL at 7.5/5.6x FY11/12 P/E is extremely attractive. Further, concernswith respect to EPGS growth/profitability may lessen considerably overthe next couple of quarters through demonstrated performance. We see
significant valuation re-rating to 7.5-8x FY12 P/E over the next 6 months.Valuation summary
Y/e 31 Mar (Rs m) FY09 FY10E FY11E FY12E
Revenues 5,557 6,980 9,059 11,550
yoy growth (%) 86.9 25.6 29.8 27.5
Operating profit 996 1,387 1,919 2,544
OPM (%) 17.9 19.9 21.2 22.0
Reported PAT 774 1,060 1,417 1,893
yoy growth (%) 75.7 36.9 33.7 33.5
EPS (Rs) 20.6 22.8 30.4 40.6
P/E (x) 11.1 10.0 7.5 5.6Price/Book (x) 2.6 1.6 1.4 1.1
Debt/Equity (x) 0.1 0.1 0.1 0.1
RoE (%) 29.8 21.9 19.8 21.7Source: Company, India Infoline Research
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Acquired 80.5% stake in EPGS in July2008 for equity valuation of US$30mn
Now with integration issues ironed out,EPGS operations have reached asteady state
Since the acquisition, the company hasadded many marquee clients
Post acquisition, ADSL has introducedhybrid model and has started
providing high value-adding services
Revenues have grown from US$30mnin FY09 to US$43mn in FY10; expectedto be US$55mn in FY11
Current order book for EPGS stands atUS$60mn
Margin has expanded to 7% currently
and is expected to increase to 17-18%in two years.
Expertise in data-center and networkdesign, strong track record and aconsulting-led approach differentiatesADSL in SI business
En Po inte Global Services (EPGS) gaining tractionADSL had acquired 80.5% stake in En Pointe Global Services (EPGS)in July 2008 for equity valuation of US$30mn. The rationale was togain access to marquee clients in US, up-sell/cross-sell incumbentofferings and to improve margins by remote transitioning of delivery.
However, due to shadow costs and additional S&M costs in US, themargin expansion could not be realized immediately after. Now withintegration issues ironed out, EPGS operations have reached asteady state. Going forward, we expect EPGS to show good tractionin client addition, revenues and margin. Since the acquisition, thecompany has added many marquee clients such as WashingtonMutual (US$4mn client), JP Morgan, City of Sandiego, Lam Research,etc.
When acquired, EPGS was providing low value-added services likedesktop management, help desk services, etc and had a 100%onsite business model. Post acquisition, ADSL has introduced onsite-offshore (hybrid) model and has started providing high value-adding
services like complete data center management, managed servicesand innovative servicing deals like the one with Lenovo (explainedlater).
With the adoption of hybrid model, the pricing of services to clientshas reduced by 20-30% as compared to the 100% onsite model.Despite offshoring, EPGS has had a decent revenue growth fromUS$30mn when acquired to US$43mn in FY10. The managementexpects to cross revenue mark of US$55mn in FY11, implying astrong growth of 28%.The current order book for EPGS stands atUS$60mn. On the other hand, margin has expanded due to up-selling/cross-selling and remote transitioning. From a break-even at
the time of acquisition, the operating margin has expanded to ~7%currently. Management expects margin to further improve to 17-18% over the next two years.
Solutions Business on a steady grow th pathSolutions business is the system integration (SI) business whereinADSL sets-up the entire IT infrastructure of its clients on a turnkeybasis. It designs the operating infrastructure/environment on whichenterprise-wide applications such as ERP, SCM and CRM run. ADSLdifferentiates from competition due to its expertise in data centreand network design, enviable track record, a consulting-led approachand its ability to provide right-sized infrastructure and customizedbest-of-breed architecture. The company does not tie-up with anyhardware OEMs thus providing un-biased consulting to its clients. Ithas frequently won complex consulting and SI projects of largeIndian companies against competition from prominent Indian andglobal vendors. Company has alliances is place with globaltechnology companies to provide these solutions. Post completion ofany SI project, ADSL gets an AMC for three years that provideservices revenues equivalent to 15% of contract value pa. Thesecontracts are usually sticky as after completion of the contract theclient typically renews it with ADSL due to companys expertcapabilities and high switching cost. The Solutions segment alsoincludes software services and integrated solutions which combinedform a minority share of the segment currently.
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