Tata Elxsi
Cluster: Emerging Star
Recommendation: Buy
Price target: Rs320
Current market price: Rs232
Designed to grow
Key points
- Niche player with distinct competitive strengths: Tata Elxsi Ltd (TEL) has built the required scale of operations and established strong client relationships with leading global companies to effectively tap the huge opportunity emerging in the niche segment of product design and engineering space. In this space, the size of the opportunity for the domestic companies is estimated to more than double to $6.6 billion by 2010. TEL also has the advantage of having developed reusable components (intellectual property to provide faster and more valuable proposition to the customers) and is investing to boost its delivery capabilities in the high-end services like VLSI and chip design.
- Aggressive expansion plans: TEL has aggressive expansion plans in terms of the capital expenditure on physical infrastructure and employee addition. This clearly reflects the management's growing confidence in the revenue growth visibility over the next few years.
- Improving margins: The shift in the revenue mix in favour of the high-margin software development service business has significantly improved the company's operating margins in the past two years (up by 490 basis points to 19.8% in FY2006). The trend is expected to continue and further boost margins by 250 basis points during FY2006-08, in spite of the aggressive expansion plans and rising wage inflation.
- Attractive valuations and decent dividend yield: Revenues and earnings are estimated to grow at a robust rate of 26.8% and 34.5% respectively, during the period FY2006-08. Moreover, the company offers a decent dividend yield of 2.8% (based on the 65% dividend given in FY2006), which is likely to limit the downside risk. We recommend Buy call on TEL with a one-year target price of Rs320