MphasiS BFL: Pare down exposures

Recommendation: Pare down exposures

Krishnan Thiagarajan

GIVEN the sharp uptrend recorded by the MphasiS BFL stock in less than two months, investors may consider cutting exposures in the stock at current price levels and re-enter at declines after the announcement of the third quarter performance for 2001-02.

In less than two months, the stock has appreciated to over Rs 200 this week, from the Rs-90 levels in end-September. At the current market price, the stock is trading at a price earnings multiple of 9.70 times its trailing per share earnings of Rs 20.19 for 2001-02.

Performance and prospects: The sharp run-up in the stock can be attributed to a fairly healthy second quarter performance for the period ended September 30. In this quarter, MphasiS BFL recorded a revenue growth of 5.73 per cent to Rs 42.97 crore, and an encouraging operating profit margin of 29.11 per cent. After recording a negative sequential growth in revenues (without considering other income) in the first quarter, MphasiS BFL managed to record a positive sequential growth of 1.80 per cent in the 2001-02 second quarter.

A sharp decline in staff costs and lower sales, general and administrative expenses have helped the company record a fairly strong post-tax earnings of Rs 11.41 crore for the second quarter. The post-tax earnings growth was impressive even after adjusting for the reversal of an unutilised provision of Rs 1.42 crore towards e-structuring skills and a healthy improvement in foreign exchange gain in the second quarter.

However, this encouraging growth was muted by the September 11 attacks in the US. MphasiS BFL has been forced to tone down the management guidance to flat revenue growth in the third quarter ended December 31, 2001. Although MphasiS BFL has added around six clients in the IT services space in the second quarter and resorted to greater geographic diversification, the possibility of flat revenue growth may be a dampener for the stock in the near term.

Given the uncertain economic environment, the relatively high client concentration levels of MphasiS BFL, especially of the top five and top ten clients vis-a-vis its frontline peers continue to be a cause for concern. Though MphasiS BFL's offshore contribution has improved in the last two quarters, its challenge lies in improving/maintaining this contribution over the next two quarters, as short-term "offshore outsourcing" becomes the norm.

The company management has claimed it does not expect to face any pricing pressure (especially offshore billing rates) over the next quarter. But building up adequate volume growth to offset the possibility of lower offshore/onsite pricing will continue to remain a challenge for MphasiS BFL.

Background: MphasiS BFL is the product of a merger between Mphasis Corporation, US, and the Bangalore-based BFL Software in 2000. As a software services and IT consulting player, it provides a wide range of services from the high-end services of IT consulting and systems architecture, to application maintenance and transformation of legacy systems. Using a combination of onsite-offshore model, it offers these services to Fortune 500 companies for industries such as banking/finance, retail logistics/transportation and technology.