Zylog Systems, incorporated
in June 1995 is a mid-sized IT solution and services company with a strong
expertise in mobile/wireless computing, enterprise reporting, business
intelligence and enterprise application integration. The company offers a broad
range of services including application development, enterprise infrastructure
management and quality assurance and testing. It also has a products development
division that provides add-on services. The application development is specific
to web applications, application integration, data warehousing, business
intelligence, mobile and wireless application and web services.
Objectives
of the issue
1. Setting up an overseas
development center
2. Meeting increasing
working capital requirements
Key
Investment Rationale
Strong
historical growth
Zylog has a history of robust growth in top line and bottom
line. Top line grew at a CAGR of 58% and bottom line at 55% from FY03 to FY07.
Moreover, Fortune 1000 clients contributed over 55% of its revenues in FY07.
Low
client concentration
The company’s dependence on the top client is a mere 3%,
thereby reducing the risk of a revenue dip due to attrition among the top
clients. The company’s client profile is also quite heartening with the likes
of MCI, Barclays, Pfizer, etc in its client portfolio.
Higher
off-shoring to drive margin growth
Zylog is gradually building its offshore presence with the development of an ODC
in
India
.
The company currently has 307 employees offshore and plans to gradually ramp up.
We believe this would boost margins over time.
Business
model provides natural hedge against rupee
The company has
a high onsite presence (about 537 employees onsite) thereby acting as a natural
hedge against the appreciating rupee. The company also has a substantial foreign
loan that mitigates the concern of a strengthening rupee.
Key
Concerns
·
The company’s ability to
drive offshoring would be the key to operating margin growth and would be
detrimental to the company’s valuations.
Financials
Zylog
has grown at a CAGR of 58% over the last five years to Rs 407 crore. However,
EBIDTA margins have declined during the period from 30% in FY03 to 17% in FY07.
We believe the company could see significant improvement in its margins as it
embraces the offshore delivery model. The company has also recorded positive
cash flows with Rs 83.6 crore of cash and cash equivalents at the end of the
FY07.
Valuations
The IPO is priced at Rs 330 – 350. We are bullish
about the company’s strong growth prospects and buoyed by the management,
which has 20 years of experience in the business. At the upper band, the issue
is priced at 10.5x its FY07 diluted EPS of Rs 33.36, which we believe offers
room for good appreciation from the issue price. We would advice investors to
invest in the issue.
(For
Risk factors and other details please refer Red Herring Prospectus)
