The Hindu Business Line : Zensar Technologies: Hold

INVESTORS may consider retaining their exposure in the Zensar Technologies stock. The stock trades at a price-earnings multiple of 19 times its trailing per share earnings, but the prospects for growth are fairly strong.

The buoyant external environment for IT spending, rise in business volumes for offshoring and a stable pricing environment are likely to have a positive impact on the company's bottomline in the coming quarters.

Fresh exposures may, however, be avoided for now as the stock has run-up sharply over the past month and too much money is chasing a limited set of IT stocks.

Moreover, Zensar still has some way to go in refining its niche vertical focus (which today spans BFSI — banking, financial services and insurance — retail, manufacturing, telecom and utilities) and build greater differentiation into its range of offerings relative to select mid-sized peers and frontline companies. While the operating margins of Zensar have seen a steady rise, it is still lower than some of its peers.

Financial highlights

The encouraging earnings card for the first quarter ended June 30, 2004 was driven by:

The consolidated revenues rose 2.5 per cent on a sequential (quarter-on-quarter) basis to Rs 76.1 crore. The offshore contribution to revenues rose by nearly 6 percentage points to 45 per cent on a sequential basis and utilisation rate also crossed 80 per cent.

Aided by a slower rise manpower costs (in percentage terms), Zensar has improved its operating profit margins by 1.6 percentage points to 9.4 per cent. This, in turn, has helped the consolidated post-tax earnings grow by a robust 24 per cent to Rs 5.53 crore on a sequential basis.

Operational factors

For the past three quarters, Zensar's revenues have grown steadily and profits have jumped sharply. This has been achieved through a combination of focus on increasing offshore revenues, balancing distribution of revenues between the US and Europe at about 53 percent and 34 per cent respectively, good client addition and steady rise in ODC (offshore development centre) customers.

At present, it has seven ODC relationships with recognised names such as Cisco, P&O Nedlloyd, National Grid Transco and Fujitsu.

The company is positioning itself as a migration specialist using its proprietary Solution **BluePrint methodology, through which it has made inroads into Japan and is also targeting other geographies. It also has a business process outsourcing (BPO) practice that added 10 customers in the latest quarter.

Though at present, the BPO practice is incurring a loss, increasingly, Zensar plans to leverage this by positioning IT-Services and BPO as an integrated offering.

As it builds up newer practice groups which focus on embedded systems, business intelligence or security, competition is likely to be stiff from both frontline and mid-sized peers.

Besides, these will require higher onsite presence and greater emphasis on sales and marketing to gain a sustainable competitive advantage.

As top notch clients (say, among the Fortune 100) get more comfortable with offshoring, ODC relationships may get limited to the top five frontline vendors or among multinational vendors who are also scaling up operations in India.

This may contribute to some shuffling or consolidation of ODC relationships or at least open up the prospect of another round of billing rate pressures.

Finally, for a mid-sized company such as Zensar, the risk arising from the outsourcing backlash in the US or acquisition-related downside from a poor strategic fit, is quite high.

The senior management has recently indicated that it is interested in adding nearly $15-20 million of revenues through acquisitions in 2004-05.

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