HUGHES SOFTWARE SYSTEM: On the Upswing   

The technology sector resurgence coupled with the increased focus on
outsourcing is now driving the Indian software services and BPO sectors to a new
high. This time around, the benefits of the upswing as yet are mainly limited to
larger companies and especially those who are strong in particular vertical
segments as global MNCs, chastened by their experience in the dotcom era, are
playing safe with their vendor selection. Among the few vertically focused
software companies in India that are likely to gain strongly on these trends is
Gurgaon based Hughes Software Systems.

Hughes Software Systems Limited (HSS) was incorporated in India on December
30, 1991 with Hughes Network Systems, a unit of Hughes Electronics Corporation (HEC)
USA as its principal shareholder. The company is 56.1% owned by HEC.HEC is now a
part of News Corp after its purchase from General Motors Corporation.

HSS came out with a public issue and offer for sale by the promoters in May
1999. The offer was made through book building and fixed price issue at a price
of Rs 620 per share. The company raised a total of Rs 54.20 crore, which was
utilized for the expansion plans of the company. The company later reduced its
face value from Rs 10 to Rs 5 per share.

HSS’ total income has grown at a CAGR of 20.36% to Rs 220.40 crore in the
past five years whereas its net profit has risen at a CAGR of 15% to Rs 37.90
crore. Currently, the equity of the company stands at Rs 16.80 crores, wherein
55% is held by the promoters with foreign institutional investors holding 11%,
mutual funds holding 5%, private corporate bodies and others holding 18% and
public holding the balance 11%.

The Gurgaon-based company offers outsourcing services ranging from new
product design and development to sustaining engineering and testing services in
a variety of domains like wireless networks, network management, optical
networking, switching systems, convergent and broadband networks. In addition,
the company also offers products for the voice over packet and mobile data along
with legacy solutions.

HSS addresses the BPO space through its dedicated division, Hughes BPO
Services which provides a round the clock contact center, transaction and
back-office processing services. Hughes BPO contact centers provide in-bound
customer care services using voice, chat, and e-mail across multiple industry
segments such as IT and Networking, Telecom, Automotive, Insurance, Banking, and
Financial Services. HSS has global and has more than 2250 employees worldwide.
It has offices in the US, UK, Germany and India. It is represented through its
distribution channels in China, Taiwan, Korea, Japan, Australia, New Zealand and
Brazil along with development centers in New Delhi and Bangalore.

HSS provides engineering services to telecom companies like Nokia, Lucent
Technologies, Alcatel, NEC and Cisco and is aiming to expand its relationship
into the terminal side of the telecom business in order to increase its market
size. The company has product relationships with Motorola and Ericsson and is
hoping to convert them into engineering service accounts in the near future.

HSS launched its business process outsourcing services for group companies
abroad and the company is also offering its services to non-Hughes clients
Alcatel and Cisco in UK and US. The Hughes BPO business has shown limited
progress until now even though potential for growth can hardly be denied. HSS
reported revenues of Rs 220.40 crores for the year ended March 2003 as compared
to Rs 234.90 crores in the previous year-down 6% which indicated that the
company was going through a difficult phase due to the downturn in the telecom
sector. The net profit also declined 27% from Rs 52.20 crores to Rs 37.90 crores.
Export sales amounted to Rs 214 crores whereas domestic sales were Rs 6.4 crores,
contributing 97% and 3% respectively.

The performance in the third quarter ended December 2003 saw revenues of Rs
96.5 crores, up 13% sequentially and 69% y-o-y. The net profits for the same
period grew strongly at 41% q-o-q and 110% y-o-y to Rs 23.90 crores. The
increase in margins is due to royalty received from the parent company for the
Space Way project. The contract, which was earlier based on risk and reward, has
been re-negotiated as a time and materials contract.

The company’s revenues from HNS grew 22% q-o-q whereas the revenues from
services to clients other than HNS grew by 58% q-o-q. Products revenues grew 16%
sequentially whereas revenues from the BPO operations grew mere 4% during the
quarter. The revenues from the telecom segment amounted to Rs 92.70 crores while
Rs 3.8 crores earned by the BPO segment. Geographically, USA contributed 42% of
the total revenues earned during the third quarter of the current fiscal
overtaken by Europe that contributed 46% and the rest of the world contributing
the balance 12%. Notably, the revenues from top 5 clients amounted to 78%. HSS
continued to write off R&D expenses amounting to Rs 1.8 crore in the first
quarter, Rs 1.4 crore and Rs 1.1 crore in the second and third quarter
respectively. 202 employees were added during the third quarter.

The company successfully acquired Bangalore-based Tenet Technologies Private
Limited in an all-cash deal worth rupees 18 crores, as a result of which the
latter became a wholly-owned subsidiary of Hughes Software Systems and the
nominees of the company were inducted on the board of Tenet Technologies. As a
result, the company expects revenues from Japan to double in the next couple of
years. It had earned about 8 percent of its revenues from Japan in the last
fiscal.

HSS bagged US$100 million order in September 2003 for the supply of software
and services for 3G mobile equipment from US-based Lucent Technologies that
required HSS to absorb 186 employees from Lucent. Out of this 55% would be based
out of Bangalore and the rest in Germany. Going ahead, the company targets to
achieve revenues of Rs 356 crores to Rs 361 crores and net profit of Rs 78
crores to Rs 81 crores which is higher by 62% to 64% and 106% to 114% over the
previous fiscal figures. Over the next twelve months, HSS would be recruiting
1000 professionals.

HSS currently trades at Rs 628 discounting a projected March 2004 earnings by
55 times and March 2005 EPS by 26 times. The stock price has increased over the
past few months on expectation of impressive third quarter results. HSS went up
from a low of Rs 144 in early January 2003 to a high of Rs 570 in December 2003.
We believe that, at its current level, the share price takes into account the
upswing in the fortunes of the company and further appreciation would largely
depend on the success of its strategy of focusing on key clients and business
opportunities. These initiatives are likely to bear fruit in the next six to 12
months.

Sushanto Mitra is the founder
of Technology Capital Partners. The views reflected here are of the author and
not of this publication. No liability is accepted for losses based on the
information presented here