| Summary of Contents STOCK IDEAS Allied Digital Services
Cluster: Emerging Star
Recommendation: Buy
Price target: Rs532
Current market price: Rs379
Riding high on RIMS Key points - Well positioned in a fast growing niche segment: Allied Digital Services Ltd (ADSL) is a leading player in the fast growing and niche segment of outsourced remote infrastructure management services (RIMS). According to a McKinsey-Nasscom report, the outsourcing of IMS to India is expected to grow at a CAGR of over 30% to USD13-15 billion by 2013. The growth would be driven by cost rationalisation, telecom and technology advancement, and increasing complexities of IT systems.
- En Pointe acquisition improves geographical reach: ADSL acquired an 80.5% stake in US-based En Pointe Global Solution Ltd (EGSL) at an equity valuation of ~USD24 million (total equity valuation ~USD30 million) in July 2008. The acquisition has expanded ADSL’s reach into the US market as well as provided access to EGSL’s several Fortune 1,000 clients. Post-acquisition, ADSL has been able to substantially drive EGSL’s contracted revenue base to USD60-62 million currently from USD40 million at the time of the acquisition. The acquisition would also enable ADSL to leverage its offshore capabilities through its NOC and SOC in the RIMS market.
- Large deals/alliances, next growth driver: ADSL is believed to be close to signing a pact with one of the leading PC server manufacturers to offer its services as a bundled offering to the OEM clientele. Such deals can potentially bring in substantial incremental revenues and act as the next growth driver for the company.
- Margins are sustainable: ADSL’s margins shall sustain in future in spite of a highly competitive environment owing to: (i) the higher proportion of revenues from the high-margin service segment; (ii) the improving EGSL margin as more work gets shifted offshore; (iii) conscious efforts to reduce its dependence on the onsite employees; and (iv) cost efficiencies.
- Attractive valuation: Due to its unique positioning, ADSL shall ride the high growth in the RIMS and solution market. This coupled with the sustainability of its margins will help it to grow its earnings at a CAGR of 19.6% (on adjusted earnings basis) over FY2009-11. Considering its 19.6% earnings CAGR and healthy return ratios, ADSL seems to be trading at attractive valuations of 7x FY2010 earnings estimate and 5.9x FY2011 earnings estimate. We initiate coverage on ADSL with a Buy recommendation and price target of Rs532 (at 6x FY2011 EV/EBITDA multiple). Our target price implies FY2011 PE multiple of 8.3x, which is at ~30% discount to its average multiple of 11.6x since its listing in July 2007.
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