Hi Investors! Welcome to SOIC! We're going to analyse Happiest Minds in this video. Before we begin the business analysis, let's talk about another interesting thing. There's a saying that's often used in the world of investment.
"Luck is when opportunity meets the prepared mind." The purpose of making these videos & have our channel on YT is because we want to analyse as many businesses as we can, over a period of time whenever these businesses get analysed and there might be some opportunities along with them the Bull & Bear Market scenarios keep changing Suppose, I analysed a promising business & I liked it's potential, at that time but found its valuations to be expensive but sometime or the other Downturn will occur, whenever this downturn occurs, I can refer to these videos because the process of content creation, the amount of research we do, takes several hours. I think, for making 1 video it usually takes about 35-40 hrs. This is beneficial for the viewers & us because a library of resources is being created.
Another great benefit is, the SOIC Members get new case studies through these business analysis. We truly believe in teaching through case studies. Remember this quote well and keep referring to it. The environment will change one way or another. With this, let's begin the analysis of Happiest Minds. Let's first talk about the Information Technology Industry.
In the 1990s, the IT Services Industry became popular in India The trend of Outsourcing became popular, with BOPs In 1997-98, the trend accelerated when the Y2K boom took place in the U.S.A. At that time, the P/E Ratio of IT businesses had reached ~200 Wipro's P/E ratio, for e.g., had become ~250/300 Similarly with Infosys, their P/E Ratio had increased a lot. These companies, at the time, were growing at 40-50-60-70% they could even grow at 80% However, with every bubble comes a pin.
Howard Marks says, "For every bubble, there's a pin lying in its wait." This means that there's a pin waiting for every bubble; as soon as the pin & bubble meet, the bubble bursts. Similarly, although there was growth in the IT business even after 2000s the valuation had spread so much the the bubble eventually burst. from the 2000s-2010, another trend began The trend of Packaged Software came about, IBM, SAP, etc. their products were implemented these also required servicing, implementation, & integration. Indian companies like TCS, Wipro, Infosys, HCL saw a lot of growth in spite of things.
After 2010, another interesting trend has been happening, i.e., deployment of Cloud We'll discuss the Cloud in some detail, if we want to under Happiest Minds, then it's important for us to understand these trends. Cloud is being deployed & 2 other trends have been occurring for 2 decades.
1. Engineering Research & Development (ERD) As we've seen, companies like Tata Elxsi ventured into this division after 2010. Similarly, a company like LTTS is also involved in this division.
You provide companies with engineering services. As we'd seen in Tata Elxsi's case, different engineering services were being provided to different products. Similarly, the new trend is of Digitalisation. Within this are 2 other trends: Machine Learning & Analytics.
I'll explain Analytics briefly. Suppose you have an educational institute like a university, and due to the pandemic, all your classes are now online. Through your app, the no. of classes attended by students—be it recorded or live classes, Through Analytics, you can gauge the no. of classes attended & their duration by a particular student. A student's percentage attendance can also be found through Analytics.
When we see our own videos on YouTube, it is through Analytics we know the view duration of each video. So, this is what Digitalisation is. Another interesting trend that's occurring is that the Legacy IT businesses are now being converted to Digital IT Services. This is a really good trend occurring within the Industry at present. One of the key beneficiaries of this trend is Happiest Minds. When we look at Happiest Minds' revenue, 97% comes from Digital Services.
The other incumbents like Infosys & Cognizant receive lesser revenues from Digital Services. Happiest Minds compares itself with its true competitors EPAM, Endava, & Globant. Happiest Minds compares itself to these 3 companies. These IT companies are also fully digital.
Before the Happiest Minds & P2P Analysis, let's discuss an interesting trend. The rapid adoption of Cloud around the world. I'll explain the importance of Cloud's implementation with a simple e.g. & how it's an ultimate Picks & Shovel Technique. Which has been explained in our video about Peter Lynch's Picks & Shovel Technique, if you haven't seen it yet, please do. What Cloud adoption basically means is for e.g., if a parent or a younger person is watching this video,
you must have played a game called Fortnite. It's a Battle Royale game, where multiple players can play together. It's a popular game with more than 350 million users across the world. The digital infrastructure of Fortnite— Its Cloud Service Provider is Amazon Web Services (AWS), AWS' implementation & servicing is handled by EPAM Happiest Minds considers EPAM its true peer.
This makes it easier for games like Fortnite, because they don't have to maintain on-premises servers If you have to maintain on-premises servers the biggest problem faced is suppose you kept a capacity of 100 million users on the servers, suddenly you get 120-130 million users. even if you've made a feedback loop or an engineering mechanism, 1: you'll have to increase the capacity of your servers. 2nd: historically companies have experienced another problem with having on-premises servers or in-house IT teams such systems face several issues with bugs & other such problems That was about the AWS & there's also Microsoft Azure (another competitor) They all have Cloud Infrastructures & provide Cloud Software. They provide implementation for the Digital IT companies & servicing as well to the end users. Let's understand the Value Chain.
At one end we have AWS, Microsoft Azure & Google are Cloud providers In the middle are EPAM, Endava, Happiest Minds & other Indian IT companies they provide the Cloud Implementation & Services to the customers This was the Value Chain of Cloud Computing. The Benefits of Cloud Computing are: 1. Cost Saving Cloud makes your Capital Expenses into Variable Expenses this means that you pay for the amount of storage required by you instead of a capital expense, you don't have to make a one-time upfront payment.
2. Deploy Globally in minutes For e.g., Snapchat It has spent $1.1 billion for AWS' Cloud Software. What's interesting to note here is that Snapchat's users increase extremely rapidly, they can easily deploy globally. If they had on-premises servers the Value Proposition would have finished. 3. Agility of an Organisation
your focus remains on your core business & Cloud helps you scale There are 3 Models of Cloud Deployment. 1. Hybrid: some applications are on-premises & others are on the Cloud 2. Cloud: completely using Cloud for all applications. 3. On-Premises: all resources are deployed on-premises.
These are the 2 ways of Cloud Deployment. When we compare the Legacy IT business with Digital IT business, Legacy IT business is growing at 2% CAGR while the Digital IT business is growing at 21% CAGR For this reason, the companies included in this space, actually the tide is being lifted at present because the tides are lifted, these companies are getting a lot of Tailwinds. The older IT companies (major IT companies) have more capabilities as compared to these new age players—IT Services Companies like Happiest Minds The older IT companies like Infosys & TCS have more capabilities than the new players. When we see the contracts, multi-billion dollar deals are being announced.
because they're helping other companies in their transformation process. Niche companies like Happiest Minds have advantages since the base is small, the growth can be achieved faster. when we compare their revenue growth, we've taken 4 Quadrants we can see that the fastest growing companies are EPAM, Globant & Endava then comes Happiest Minds when we look at the Digital as a % of revenue, Happiest Minds has the most revenues in the industry than other Indian IT companies it is 97% & the expected growth is 17-18% The Global growth rate of other companies is between 25-30% This makes things very interesting. There are always several trends within each industry.
This is why some players are always fast growing. Like Mr. Lynch says, there will be different types of players in each industry & every industry will be of different type Some will be Slow Growers, Fast Growers, Cyclicals, or Stalwarts. If we apply Mr. Lynch's framework, Happiest Minds is a Fast Grower because they're present in a very niche area.
If anyone wants to learn & understand how to apply different industry's segmentation If anyone wants to watch our API Webinar wherein we've discussed J B Chemicals, Indoco Remedies Divis Laboratories, & close to 10-11 API & Pharma Companies that seem extremely interesting. In our Platform Business Webinar we've discussed IEX, & different international & Indian platforms In our Chemical Sector Webinar for our SOIC Members, we discussed the key underlying trends We've also made a module on Forensic Accounting, because right now, the market is in the Bull Phase & no one is going to warn you about companies A diligent investor's responsibility is to be rational at all times, you should be aware of where the risk is going to come from If anyone wants to know about Portfolio Allocation, the SOIC Intensive Course we're conducting a webinar on 12th June 2021, for our SOIC Members about the Quarterly Business Results We're also going to conduct a webinar on detailed Valuations of these companies How do we value companies? If someone wants to learn, the link is in the Description below. Coming back to Happiest Minds. If we look at an interesting fact about Happiest Minds, in their Segmental Mix—the sector it caters to Edutech is ~21% Hitech is ~21% BSFI (Banking &. Financial Services) is ~17.5%
Retail is ~7.5%, Travel, Media & Entertainment is ~17.1% Service Offering as a % of Mix: Cloud/Digital Infrastructure is ~31% SaaS (Software as a Service) is ~29.4% Security Solutions is ~14.9% A trend in SaaS, which can also be globally observed, is SaaS (Software as a Service) is a very interesting business for the end customer, SaaS is not a Capex it is an Opex. the customer wouldn't have to spend on upfront software but once you provide the customer SaaS then it becomes an Opex—it becomes a part of the Operating Expenditure this becomes a part of the business' operations A benefit for the end customers is it builds a great Switching Cost for them If an IT company, suppose I provide a SaaS to someone I will get the benefit of Certainty of Revenues I can also gradually increase the annual fee SaaS businesses are very few in India. Intellect Design Arena is a business with potential to become full-fledged SaaS.
Happiest Minds has ~25-30% SaaS At present the SaaS business looks very interesting globally the Valuations of these business is also high These are higher quality Cash Flows or higher quality Margins. In Happiest Minds' case, they work with Independent Software Vendors Let's see how they work with Amazon Web Services (AWS), Hitachi ID, For antivirus or security software, they're working with McAfee They also work with SAP & Microsoft Azure When we look at Happiest Minds' Business Units They have 3 Business Segments: 1. Product Engineering Services (PES) this is growing at ~20% CAGR this sales segment is more than 50% 2. Digital Business Services (DBS) the growth is slowest here, because they're helping clients in their transformation process they're also working on applications development & re-development. 3. Infrastructure Management & Security Services (IMSS) they manage the Cloud & Data Server they're also managing the Workspace & Device Management they also provide services for Data Security To understand these segments better, we'll discuss some case studies If we don't look at some case studies about the end-user's usage until then we'll assume that these terms are complicated & we wouldn't be able to understand them 1st case study: Partnership with Coca Cola 2nd: University Analytics Solutions Software is used by Universities to improve attendance & reduce the drop-out rates We'll discuss the Coca Cola's case study Happiest Minds recently collaborated with Coca Cola Bottling Company The contract involves automation of the freestyle vending machine—to go touch-free as we can see in the video clip, you can fill the tumbler without touching the screen.
All you have to do is download the mobile app, & select the beverage you want. What's interesting here is that due to the pandemic, many people are reluctant to touch anything You simply scan the QR code & select whichever beverage you want As soon as you select the drink, the machine will fill the tumbler. This is interesting because the Internet of Things is also being applied I'll explain how. As you can see, the machine's instructions says "pour using your smart-phone."
When we talk about Internet of Things, in this Coca-Cola Bottling case, Coca-Cola & Coca-Cola Bottling are different, Happiest Minds' contract was with Coca-Cola Bottling they're in-charge of distribution of Coca-Cola in the U.S.A. The inventory management, let's suppose that in a store, this coca-cola's machine has been installed and the drinks are about to finish in the machine & the store's inventory for the drink is running low Since Internet of Things (IOT) is applied here, the machine itself can send a notice about the inventory running low & to replenish it. This was the usage of IOT There's another analytics applied here: Predictive Maintenance Solution What's occurring in the IT businesses at present is that I've been observing this in LTTS' case LTTS has a big vertical for Manufacturing It is applying Predictive Analytics If a machine is experiencing some breakdown or technical issue, the service provider or manufacturer of the product will receive a msg through IOT a day before about the condition of the machine & notify a repair service the damage can be prevented before the machine breaks down completely Similarly, the time spent in inventory is markedly reduced Another benefit is, the Coca-Cola Bottling's CRM becomes more efficient You also won't have to employ a lot of people due to the automated process 2nd Case Study: UniVu, a University Analytics Solution this is used in the Edutech division U.S.A. is experiencing a major concern with ~9 lakhs students dropping out every yr 54% students are dropping out because they're unable to maintain Work-Life Balance with academics 48% students are unable to complete their degree UniVu is an Analytics Solution It helps students make informed decisions backed by evidence of the students' progress in the studies/course their avg view duration of classes, Universities will benefit by reducing the drop-out rates It's high-impact areas are the university admission applications this software will help universities save unto 50-60% of their marketing & acquisition budget while ensuring incoming students are unto 90% more likely to complete their degree with good grades This was our 2nd case study about the application of these products.
We'd discussed their 3 Verticals: 1. Product Engineering Services (PES) 2. Digital Business Services (DBS) 3. Infrastructure Management & Security Services (IMSS) manages Cloud computing, like we'd talked about earlier. Their fastest growing segment is PES Let's do the P2P Comparison & Valuations Happiest Minds compares itself to EPAM, Endava & Globant This data is from 2019, it's almost a yr old Globant's Market Cap at that time (until 12th May, 2020) was ~$ 4.54 billion EPAM was at ~$ 12.6 billion
& Happiest Mind's market can be observed Endava was at ~$ 2.53 billion Globant has the largest no. of employees while Happiest Minds had the lowest no. of employees The delivery model of services of the 3 companies is almost the same For EPAM, it is 9% onshore & 91% offshore, For Happiest Minds, it is 95% offshore & 5% onshore/onsite Onshore means the work is done in India Offshore means that the project location is different Comparing the digital services revenue the other 3 have 100% & Happiest Minds is 97% Looking at the revenue growth from 2015-2019, The faster growth is observed in Endava with ~36% EPAM had a growth of ~26% Happiest Minds saw ~17% growth & Globant saw ~27% I'll give you an interesting insight about the IT Industry, IT Industry has Organic & In-Organic Growth Organic is the business' own growth In-Organic is that growth a business achieves by acquiring other companies Usually the In-Organic growth within the IT Industry is seen sceptically because you acquire an asset The SOIC Students will be able to understand this, because I've spoken about Goodwill with them within the course Your balance sheet reflects Goodwill, there are also integration & cultural issues So, TCS & Accenture adopted different approaches TCS chose to build their business Organically because the business is changing from Legacy to Digital, TCS did everything Organically whereas Accenture went for In-Organic Acquisitions TCS in their interviews reiterated that "We believe the strength should come from within." This is a wonderful facet of TCS' business. Happiest Minds' growth has mostly been Organic they've recently started acquisitions They acquired companies in 2017,18 & 20 Their recent acquisition of 2020, saw an EBITDA Margin of ~25% this acquisition is EPS Accretive This means that the acquisition will add to their existing EPS (Earnings Per Share) It is also important to understand that Happiest Minds' peers & competitors they have also achieved In-Organic Growth Other than EPAM, Endava & Globant are growing through mergers & acquisitions EPAM even without mergers & acquisitions has grown at ~20% These competitors over the last decade have become 30-40 baggers this means 30-40x It also becomes necessary to look at the Sectoral Trends If the entire sector experiences Tailwinds, then compounding becomes faster.
This is why Happiest Minds' EBTIDA Margins are between ~24-25% The growth is fast because the sector is experiencing Tailwinds Considering other things Revenue per employee for Globant is at $0.55 million per dollar whereas Happiest Minds has the lowest at $ 0.43 million per dollar The Cost per Employee is also lowest for Happiest Minds The benefit for the IT Industry in India is that we are the Lowest Cost Producers In this way, India as a country has a cooperative advantage in the IT Industry Happiest Minds' ROCE is the highest whereas Endava is ~27% PBT CAGR for Happiest Minds is ~95% this is because a few yrs ago, it used to be a loss-making company it has recently turned into a profit-making company The Margin Expansion can also be observed to be at a good pace The Revenue per Customer for Happiest Minds in 2018 was $ 471k per customer which increased to $ 615k per customer this has increased to $ 737k per customer in Q4FY21 Whereas the other players show EPAM's revenue growth is ~22% Endava's revenue growth is ~33% Globant's revenue growth in the latest quarter is at ~41% This makes IT Industry a very interesting space because the entire industry is growing Someone had asked them in a con-call, whether their revenue growth is going to remain at 20% or could they increase this? The management responded that during the Wipro days, they would grow at 50-60% because the Industry was growing at 20-30% Today, the problem is the Industry is growing at 10%, our growth is at 20-22% The management can be commended for their honesty.
The problem with a lot of Indian Managements, that I've observed is they usually don't give conservative guidance & become over-aggressive They've conservatively said that their growth is actually double of the industry's but it would be difficult to grow beyond 20-25% I think they've said 20% if comes to 25% it would be wonderful, because the IT Industry is a fairly mature industry. Another trend in the IT Industry is that due to the pandemic the entire world has undergone a lockdown this has increased the demand for digital services Another trend is that you have to undergo Digital Transformation The growth expected in the next 10 yrs in IT businesses the Terminal Value is the same the growth expected in in the next 5-8 yrs is now going to occur in the 3-4 yrs When we read Birlasoft's con-call, it's a small IT company they are also expecting a growth of 15-16% Tata Elxsi has also undergone a massive hiring process Happiest minds is also expecting a 20% The entire sector is experiencing a bit of a euphoric phase. Looking at Utilisation Rates this indicates how efficient you're able to use the employee's abilities Since you're learning along with me, let's understand the formula Utilisation Rate=Total Billable Hours/Total Hours Available If an employee has 100 working hrs, how much work does she/he do that are Total Billable Hours If there are 80 hrs of such work, then we say it's 80% In 2018, Happiest Minds had a utilisation rate of 68%—which was very low. which has increased to ~77% It is at an increasing trend Their Business Metrics includes: Utilisation in Q3FY21 has gone up to ~81.6% which is a good trend their offshore work is ~91% onsite work is ~5% Attrition rate is important to look at because IT business is a business of people It means how frequently employees are being hired & how frequently they're leaving the company If your company is experiencing high frequency of employees leaving, then your organisational culture may not be stable & even the project stability is hindered Happiest Minds' Attrition Rate is one of the lowest in the Industry The Industry avg of Attrition Rate is at ~23-24% Zensar is another IT company, whose Attrition rate is ~22-23% Happiest Minds' EBITDA Margin was ~29.7% in Q3FY21 which due to Mean Revert is now at ~26-27% Free Cash Flow Conversion is at ~99.2%
it is basically converting from Operating Cash Flow to Free Cash Flow Conversion The revenue is growing at ~21% CAGR Happiest Minds is a fast growing IT company Currently it rates at a multiple of 81-82x It's not like others don't know of it's fast growth Everybody knows about it due to this, the fast growth in its P/E Multiple has become discounted since the revenue of the company is a bit small compared to the Global Giants, they have the Size of Opportunity What I personally prefer, I can't give you a buy/sell opinion since we're not SEBI Registered advisors, this is not an investment advice or recommendation I would prefer "Luck is when opportunity meets the prepared mind." Whenever there is a Bear Market, I've done my study of Happiest Minds I just need to pull the trigger, if it falls under my Valuation comfort What's interesting & difficult about Valuations is Exist Multiple If I'm entering a stock at 80/90/100x P/E Multiple What would my Exist Multiple be? This becomes necessary to consider when we examine multiples Let's discuss some Anti-Thesis Pointers Zinnov is an IT consultancy group that generates quadrants using different metrics 1st Quadrant: E-R&D Ratings for HCL, Wipro, Tech Mahidra, Tata Elxsi, etc. Happiest Minds comes under the Established & Niche Quadrants Happiest Minds is working is only a few sectors which are quiet interesting & is experiencing fast growth An Anti-Thesis Pointer in the IT Industry that not many know about I've spoken to analysts & other friends No one seems to know that the Cost Cutting Trend we're no longer travelling & the visa cost is not applicable How sustainable is this Cost Cutting Trend? If the pandemic gets resolved, & the WFH situation also gradually goes back to offices Will the Margins remain sustainable or not? The Happiest Minds management also mention in the con-calls 24-25% EBTIDA Margin is sustainable To sustain more than this would be a bit difficult It is possible that the margins are artificially high in some IT companies Just be a little cautious, because 1-2 yrs ago the Valuations were in your favour, the companies were available at 10-15 P/E Currently the Valuations are a bit out of whack in some companies I'll also tell you about the other IT businesses that we like, which we will analyse soon Coforge, Intellect Design Arena, We've already done Tata Elxsi Happiest Minds is now done LTTS is another such business that I find interesting, I will analysis this business soon LTI: Larson & Tubro Infotech, I'll also analyse this company soon. Do let us know in the comments section how you found the video.
We're making content on different sectors for you these days Do tell us which other sectors you'd like to have us analyse. Thank you for joining us! I hope to see you in the next business analysis of SOIC.
2021-06-16