We spoke to the management recently to update ourselves on the latest industry and company-specific developments.
As was the case last year, Zensar has introduced an offering for its customers, which assures a 10% savings in cost over a 10-month time frame by improving the processes of the customer company.
We understand that, in case the company is able to actually save costs for the client, it will get a share of the total benefit accruing to the client.
This offering, in our opinion, is slightly different from the normal commitments made in most of the other projects, as the benefits are assured over a relatively shorter time frame. The company should be able to provide these benefits over the specified period because of the domain expertise it has built in select verticals.
Zensar has also developed reusable components and its Solution Blue print (SBP) offering should also allow the company to achieve a high degree of automation. In the past, the company has indicated a higher degree of cost savings through SBP.
We do not expect any adverse impact on margins (the company will be selective in taking up such deals), we believe that, there is a possibility of improving margins as the company will likely share the benefits accruing to the clients.
We understand that, Zensar has among its clientele, marqee names like Hope Depot, UBS and Credit Suisse. These three companies have also been impacted by the continuing economic slowdown.
While Hope Depot has recently announced job cuts, UBS and Credit Suisse have declared significant losses in the recent quarter.
According to the management, the company has not faced any project deferments or cancellations, as yet. However, we take a cautious view of this and believe that, there can be an impact on Zensar because of the relatively small size of its engagements.
In case these clients initiate any vendor rationalization process, Zensar may be impacted negatively.
Outlook and valuation
We maintain our earnings estimates. We have assumed the rupee to appreciate to Rs46 per USD by FY09 end and to Rs44 by 4QFY10. We expect Zensar to achieve revenues of Rs9.49 billion in FY09 and Rs9.5 billion in FY10.
While volumes are expected to rise by about 6%, expected billing rate pressures and rupee appreciation are expected to impact revenue growth.
EBIDTA margins are expected to be almost flat as gains from higher offshore content and better resource utilization should set off the impact due to salary increases and expected rupee appreciation.
Higher revenues from value added services are also expected to restrict the impact on margins. Consequently, PAT is expected to be almost flat in FY10 at Rs840 million; an EPS of Rs35.1.
We have done our DCF analysis wherein we have assumed a lower profit growth in FY10 and FY11 (due to higher tax rates). We have also incorporated a higher WACC of about 14% to compensate for the higher risks. We arrive at a fair price target of Rs154 for the stock.