Hold (Target price: Rs. 1875)
Oracle takeover: In August 2005, Oracle Corporation, the world's largest enterprise software solutions (ERP) provider, entered into a Memorandum of Understanding (MoU) with Citigroup to buy out its 41% equity stake in i-flex, held through OrbiTech, a 100% subsidiary. This move will benefit i-flex, as it can now sell its Flexcube suite of products to Oracle customers. Oracle counts as many as 17 of the top 20 global banks among its customers and serves as many as 8,500 North American banks and financial institutions.
i-flex can leverage the technology expertise and vast reach of Oracle in order to grow in size and scale, while Oracle will get the benefit of the company's deep domain expertise in the global BFSI space. It will also get greater access to the North American markets, which is the world's largest BFSI market. This move will thus, improve the already strong growth prospects for i-flex and the biggest benefit for shareholders of the company is that it will continue to be a publicly traded company, enabling them to participate in its future growth, with the same management team running it.
World-class banking solutions provider: i-flex's flagship product 'Flexcube' has been ranked as the world's number one selling wholesale as well as retail back-office banking solution for the fourth year in succession by IBS, UK. The company's products business continues to demonstrate strength and has witnessed a compounded growth in revenues of around 32% during the period FY02 to FY06. The company's 'tank size' (unbilled license fees) touched US$ 65 m at the end of FY06, in line with our estimates. Increasing revenues from annual maintenance contracts are also likely to benefit the company in growing its revenues in the future, adding an element of predictability to its revenue streams. Given the fact that it is a well-established player, as well as the increasing brand equity and product visibility of Flexcube globally, this acts as a big positive in favour of the company and has the potential to win it a greater number of large marquee clients, going forward. We expect the product revenues to grow at a CAGR of 37.8% during the period FY06 to FY09, powered in some way by the Oracle 'parentage'. Changing industry dynamics: As more banks merge globally, technology integration is expected to gain prominence and this will bring immense opportunities for i-flex. This is due to the benefits accruing from the implementation of a single platform for the combined entity and the scalability of Flexcube itself. Also, it is estimated that banks globally spend around US$ 70 bn on core transaction processing. Out if this, just around 15% is spent on packaged solutions like Flexcube, leaving a potential 85% market for i-flex to tap. This 85% spending is currently being undertaken by banks on developing internal technology systems. Thus, the opportunity is huge. Going forward, we expect the spending on packaged solutions to increase. And we believe that i-flex, with its quality offerings, is likely to be the foremost beneficiary of the same. Not just leveraged on Flexcube: Apart from its steadily growing services business, i-flex has been successful in de-risking its business model by launching new products on a consistent basis. This is evident from the fact that the company successfully migrated to Flexcube from its earlier flagship product 'Microbanker' (which was ranked by IBS as the top-selling wholesale banking back-office solution in the world in 1995). Then in FY03, i-flex launched its next product brand - Reveleus (related to various aspects of banking including treasury). Consistent initiatives on the R&D front have helped i-flex's to bring out globally competitive solutions for the banking and financial services industry and this is a big competitive advantage. i-flex also acquired a company called SuperSolutions Corporation in FY04 and its product, Daybreak Lending Suite, a consumer lending and mortgage product. In FY05, i-flex acquired Equinox Corporation, a product-based BPO company. So far in FY06, the company has acquired a stake in Castek Software, a provider of insurance software for the global property and casualty (P&C) insurance market. It has also taken over an operational risk management tool, ORTOS. High barriers to entry: The business of providing software solutions to the financial services industry has high entry barriers because of its expertise. i-flex's employees also have intricate domain knowledge of the financial services industry, which acts as a barrier to entry for potential competitors. This point is vindicated by the fact that i-flex has relatively fewer competitors on the global scale (Infosys, Temenos, Fiserv and Misys). This compares favorably with the high levels of competition that basic software services providers face globally.
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*By this recommendation of HOLD, what we mean is that existing shareholders would be better off holding onto the stock with a long-term perspective. However, if an investor would like to BUY this stock, then the upside from the current levels is about 13% CAGR. Investors could take the investment decision based on this premise.