Stock Review: Patni Computer

 

Patni Computer is expected to benefit from its integration with iGate. At current valuations, its stock looks attractive from a long-term perspective

 

AFTER its sluggish performance in the past two years, Patni Computer Systems once again looks poised to grow. iGate, which acquired a majority stake in Patni, will integrate operations in the next four quarters. The exercise is expected to bring benefits of synergy and cost rationalisation. This will also make the combined entity one of the top tier IT exporters in the country.

LATEST DEVELOPMENT:

iGate has entered into an agreement to buy a 63% stake in Patni from the current promoters and a private equity investor. It will pay 503 per share, which values Patni at 10 times its 2011 estimated earnings. The deal will also trigger an open offer wherein iGate will offer to purchase up to 20% stake from the existing shareholders of Patni.

FINANCIALS:

Patni, the country's seventh-largest IT exporter, offers services in the areas of applications development and maintenance, product engineering, infrastructure management and business process outsourcing (BPO). The company's sales fell 1.8% in the 12 months ended September 2010 to 3,155.5 crore from the previous year. However, net profit, recovered by 48.7% to 654 crore. iGate is a mid-tier IT player listed on Nasdaq in the US. It provides applications development and maintenance, business intelligence, ERP, data warehousing and BPO services. During the four quarters to September 2010, its revenue rose 31% to 1,145 crore. Net profit grew 71% to 207.5 crore.

GROWTH INDICATORS:

After the completion of the integration process, Patni will get a better exposure to fast-growing banking and financial services vertical, while iGate will get an advantage of Patni's scale and size of operations. Patni is three times bigger than iGate in revenue and profits.The demand traction is back in the banking and finance vertical. But with just over 11% share in the total revenue, Patni's exposure to the sector is limited. This could be one of the reasons for a slump in its growth in the recent few quarters. On the other hand, its larger peers have reported a double-digit growth partly boosted by the buoyancy in the banking and finance segment.

   iGate generates nearly half of its revenue by selling its services to global banks and financial institutions. After the integration, Patni will be able to derive benefits from iGate's capabilities in the domain. Also, the client overlapping issues do not exist since both of them have just two clients in common. This raises the opportunity for cross selling of services to a wider set of clients.

   On a strategic front, the deal has resolved Patni's leadership issue. The stake sale by its promoters was long pending and this could have

impacted the strategic initiatives at Patni over the past few years. However, iGate comes into picture with an experienced leadership, which should provide the right strategic direction to Patni's future plans.

INVESTMENT RATIONALE:

The stock of Patni is available at a P/E of 9.4 based on the trailing four quarters earnings. With P/Es of more than 24, its top tier peers command a much higher valuation. Patni's cheaper valuation is due to its lower earnings growth rate so far. Now that its leadership issues are behind, the company may see a turnaround in the operations once its integration with iGate is complete. Further, the valuation accorded to Patni by iGate is also on the lower side given the risks involved in integrating a bigger company. But, given the maturity and experience of both the management teams, integration of the operations may not raise a major concern. Hence, long-term investors may hold on to their stake in Patni post iGate's open offer.