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IPO Analysis
Patni Computer Systems Limited - Recommendation: Buy
Background & Business
Issue Details
Issue size 1.87 crore shares
Face value Rs 2 each
Route 100% book building
Price band Rs 200 to Rs 230
Issue opens January 27, 2004
Issue closes February 5, 2004
Minimum Application 50 shares (for retail investors)
Minimum investment Rs 10,000 (at floor price)
Lead managers DSP Merrill Lynch, Kotak Mahindra, Citigroup Capital
Registrar Karvy Consultants

Financial Snapshot

(Rs crore) 9m
CY03		 9m
CY02		 YoY
(%)		 CY02 CY01 Y-o-Y %
Total Revenues
826
657
25.8
904
688
31.3
Cost of Revenue
495
355
39.7
487
396
22.8
Gross Profit
331
302
9.5
417
292
43.0
Other Expenditure
185
145
27.6
206
140
46.9
Operating Profit
146
157
-7.1
211
152
39.3
Other Income
0
0
0.0
0
0
-686.1
Profit before tax
156
158
-1.5
214
148
44.3
Tax
26
26
0.0
41
21
93.5
Net Profit
130
132
-1.7
173
127
36.1
Equity
22.3
14.9
14.9
21.0
EPS(Rs)
11.5
8.7
13.0
12.1
Margins
GPM%
40.1%
46.0%
46.2%
42.4%
OPM%
17.7%
24.0%
23.4%
22.0%
NPM%
15.7%
20.1%
19.1%
18.5%
December ending company
Face value Rs 2
Concerns

High dependence on few clients: One of the key concerns in case of PCS is the high dependence on its top clients. It accrues around 85% of its total turnover from top 10 clients. What’s more, GE group alone accounts for over 40% of the business. This could be primary reason for the company’s lower margins as GE is know to negotiate aggressively on billing rates.

Not as aggressive as its peers: Unlike other large domestic software majors, PCS has not been as aggressive in acquiring new clients and expanding its business. Quite clearly, companies like Infosys, Satyam and Wipro has raced ahead of PCS in terms of size and revenues despite the fact that PCS was established much before some of these players. While Infosys is on track to cross revenues of Rs 5000 cr and has over 23,000 employees, PCS is still struggling to become an Rs 1000 cr company and has employee strength of around 6700.

Operating metrics: PCS doesn’t fair well on some of the key operating metrics. For instance, it accrues over 50% of revenues from fixed price projects. Such projects are generally perceived as more risky as the cost overruns have to be borne by the service provider. This is normally not the case in time & material projects.

Apart from this, it has a very high attrition rate. Patni’s attrition rates were 15.6% and 11.1% in 2001 and 2002, respectively. The attrition has increased and was 15.7%, 20.5% and 26.7% on an annualised basis, in the three months ended March 31, 2003, June 30, 2003 and September 30, 2003.

Patni Computer Systems (PCS), promoted by the Patni family, was incorporated in 1978 as a private limited company. In addition to software services, it was initially involved in computer time rental and resale of computer hardware also. However, the management de-merged all hardware and non-core activities into group companies and now the focus is only on software services exports since 1994.

PCS is one of the pioneers in software services exports in the country. It offers wide range of services to several Fortune 1000 clients, including reputed names like GE group, State Farm Insurance, Guardian Insurance, HP, Hitachi, Pitney Bowes to name few of its top clients. It is largely focused on insurance, manufacturing and financial services industry domain, which contributed to around 79% of the total turnover. With an employee base of 5570 professionals, it reported a turnover of Rs 903 cr during the fiscal ended December 2002.
Issue Objective
Out of the total issue size of over 1.87 cr equity shares (face value of Rs 2), the fresh issue of shares only accounts for 1.34 cr equity shares. The rest around 53.24 lakh shares are offer of sale from existing shareholders, of which a large part is offered by promoters (37.5 lakh shares) and GE Capital Mauritius will offload 15.8 lakh shares. On the other hand, General Atlantic (strategic investor which holds 31.8% stake) has decided against offering part of their holdings in the public offer. Consequently, the promoter holding will decline to 51.3% of the post issue equity capital OF Rs 24.96 cr as compared to 60.8% stake in pre-issue equity base of Rs 22.28 cr now.

In addition to providing exit route to some of the existing investors, the proceeds of the issue will be utilised to strengthen the sales & marketing infrastructure and expand the existing operations of the company. Strategic initiatives like growth through inorganic route or acquisition is another possible objective stated by the management in the draft document.
Past performance

PCS has shown a steady growth in the last three years. Despite the difficult times, revenues grew at a CAGR of 36.4% to Rs 903 cr. Net profits showed a CAGR of 27.5% to Rs 173 cr in CY2002. However, the company is not as profitable as some of its peers. Operating margins stood 23.4% and 17.7% for CY2002 and first nine months of CY2003, much lower than large companies like Infosys, Wipro and Satyam that have operating margins ranging from 28-33% in the current fiscal.

Valuations
Although PCS is among the list of top 10 large domestic software services companies, it is still perceived as family run business. Moreover, the management lacks the aggressiveness of some of the other leading companies in terms of expanding their operations. However, the issue is priced quite reasonably at 14.5x to 16.5x the estimated earnings on post-issue equity capital of Rs 25 cr. We recommend a buy.

  Gaurav Dua
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