Happiest Minds IPO is all set to hit the Primary Markets of Dalal Street on September 7. The IPO spark that was started by Rossari Biotech has been converted into a full flame by this IPO. More IPOs that are expected to come in this month are CAMS and UTI AMC!

Lets delve deeper into this IPO now!

Issue Details –

Size – Rs 702 Cr (Fresh Issue of Rs 110 Cr + OFS of Rs 592 Cr)

Objects of Issue – To meet long term working capital requirement; and General corporate purposes.

Note The OFS money will go to selling shareholders and not the company. ~25% of total OFS shares are being sold by Ashok Soota – The Promoter and rest 75% by CMBD II – The Promoter.

CMDB II is a private equity fund. J.P. MORGAN INVESTMENT MANAGEMENT INC. is an adviser to the fund. This fund is a master fund. The current gross asset value (GAV) of CMDB II is $ 284,143,376.

Price Bands – Rs 165 to Rs 166

Dates – Sep 7, 2020 – Sep 9, 2020

Issue Quota – 75% of total IPO shares reserved for QIB, 15% for NII/NIBs, and 10% for retail investors. (Also, the Company may allocate up to 60% Shares of the QIB Portion to Anchor Investors).

The weighted average price at which the Equity Shares were acquired by Promoter and the Selling Shareholders in the last one year (As of the date of RHP which is August 28, 2020)

Risks –

  • In Fiscals 2018, 2019, and 2020, their external customers located in the United States contributed 73.5%, 75.5%, and 77.5% of revenue from operations, respectively.
  • They have experienced rapid growth and significantly expanded business in the last three Fiscals. Total income grew from ₹4,891.2 million in Fiscal 2018 to ₹7,142.3 million in Fiscal 2020. In addition to organic growth, they have also grown through strategic acquisitions.
  • The total attrition rates among their IT professionals (excluding employees in DBS-PGS in NOIDA) who have worked for them for at least six months were 25.2% and 18.7% for Fiscals 2019 and 2020, respectively. Their IT professional headcount was 2,027 on March 31, 2018, and 2,439 as of March 31, 2020.
  •  In addition, while the Company has a succession plan for Promoter and senior executives and key personnel, they need to successfully implement such plans. If they cannot attract and retain qualified personnel or effectively implement appropriate succession plans it may materially adversely affect business, financial condition, and results of operations.
  • The term of the agreements they enter into with customers typically range from one to five years or in some cases until such agreements are terminated or as long as there are subsisting statements of works or purchase orders with the customer. Their customers can terminate many of their master services agreements and work orders with or without cause, in some cases. Agreements may be terminated without a cause subject to a prior written notice which typically ranges from 7 to 180 days.
  • They usually bill and collect on relatively short cycles. As per master service agreements, payment terms are 30 to 90 days from the date when the customer receives the invoice. The average debtor cycle was 60 days, 80 days, and 74 days in Fiscals 2020, 2019, and 2018, respectively.
  • Current and former employees and/or subcontractors could challenge their exclusive rights in the software they have developed in the course of their employment. In India, an employer is deemed to own the copyright in works created by its employees during the course, and within the scope, of their employment, but the employer may be required to satisfy additional legal requirements in order to make further use and dispose of such works.

Pending Litigations –

  • They have in the past experienced, and may in the future experience, a long selling and implementation cycle with respect to certain projects that require them to make significant resource commitments prior to realizing revenue for the services.
  • A substantial portion of their customers are concentrated in a few specific industry verticals: Edu Tech, HiTech, Retail, TME, and BFSI. In Fiscals 2019 and 2020, over 80% of revenue from a contract with customers came from customers in these verticals alone.
  • If they cannot or do not perform their obligations, they could face legal liability and contracts might not always protect them adequately through limitations on the scope and/or amount of potential liability. If they cannot, or do not, meet contractual obligations to provide solutions and services, and if exposure is not adequately limited through the terms of their agreements, they might face significant legal liability, and business could be materially adversely affected.
  • In the past, there have been instances of delays in the filing of certain forms with the RBI. Form FC-GPR filed with the RBI for allotment of equity shares of their Company to certain non – resident employees of their Company are pending for approval with the RBI due to non-submission of relevant documents required for such submission with the RBI. The Company is in the process of collating relevant documents from all concerned employees (including past employees) and intends to submit all the relevant forms post receipt of the pending documents, and compound the said delay in filing of such form FC-GPRs, with the RBI.

Intellectual Property

As of June 30, 2020, they had registered intellectual property consisting of six trademarks registered in India, four trademarks registered in the European Union, five trademarks registered in Singapore, one trademark registered in the United Kingdom, five trademarks registered in the United States and 10 active domain names

Preference Shares

The company had a total of 198,617 Preference Shares outstanding as on the date of the Draft Red Herring Prospectus. In accordance with the terms of the Preference Shares and pursuant to the bonus issue undertaken by our Company on November 23, 2011, each Preference Share would convert into 163 Equity Shares (“Conversion Ratio”). Further, no additional consideration was payable by the holders of the Preference Shares at the time of conversion of the Preference Shares into Equity Shares. Accordingly, our Company has issued 32,374,571 Equity Shares upon conversion of the outstanding Preference Shares.

Shareholding Pattern (Latest)

About The company –

Incorporated in 2011, Positioned as “Born Digital. Born Agile” Happiest Minds Ltd is a Bangalore based IT service provider company. The business of the company is divided into three categories ; Digital Business Service (DBS), Product Engineering Service (PES) and Infrastructure and Management Security Service ( IMSS).

About Happiest Minds (Please excuse us for the long description of the business, its imperative to read this to understand their business)

Their offerings include, among others, digital business, product engineering, infrastructure management, and security services. Capabilities provide end-to-end solutions in the digital space.

They help customers in finding new ways to interact with their users and clients enabling them to become more engaging, responsive, and efficient. They also offer solutions across the spectrum of various digital technologies such as Robotic Process Automation (RPA), Software-Defined Networking/Network Function Virtualization (SDN/NFV), Big Data and advanced analytics, Internet of Things (IoT), cloud, Business Process Management (BPM) and security. 

The Frost & Sullivan Report estimates the global digital services market of USD 691 billion in 2019 to grow at a CAGR of 20.2% to USD 2,083 billion by 2025. In Fiscal 2020, 96.9% of revenues came from digital services. This is one of the highest among Indian IT companies (Source: Frost & Sullivan Report). The Frost & Sullivan Report notes that the legacy IT market as a percentage of total technology spend is estimated to decline from 85.7% share in 2019 to 65% share by 2025, with digital spend making up the remaining 35% share by then.

As of March 31, 2020, they had 157 active customers. Their repeat business (revenue from existing customers) has steadily grown and contributed a significant portion of our revenue from contracts with customers over the years indicating a high degree of customer stickiness. 

In Fiscal 2020, they delivered 87.9% of our projects through the agile delivery methodology. Over the years and currently, during the ongoing outbreak of Novel Coronavirus, they have successfully implemented business continuity plans including to achieve efficient work-from-home practices to ensure connectivity across the enterprise.

Their business is divided into the following three Business Units (BUs): 

Digital Business Services (DBS): DBS offerings are aimed at (i) driving digital modernization and transformation for customers through digital application development and application modernization for improved customer experience, enhanced productivity, and better business outcomes; (ii) implementation of solutions, development, and implementation of the solution, capabilities for improving data quality of the customer’s platform, assistance in designing and testing of operations and management of platform and modernization of digital practices; and (iii) consulting and domain led offerings such as digital roadmap, mindful design thinking, and migration of on-premise applications to cloud.

Product Engineering Services (PES): PES BU aims to help customers capitalize on the transformative potential of ‘digital’ by building products and platforms that are smart, secure, and connected. They provide customers a blend of hardware and embedded software knowledge which combines with their software platform engineering skills to help create high quality, scalable, and secure solutions. Offerings extend across the development lifecycle from strategy to the final roll out while ensuring quality. They get clients started on this journey with a digital foundry that allows them to build rapid prototypes for customers and provide a scalable Minimum Viable Product (MVP). They embrace a cloud and a mobile-friendly approach along with an agile model that is supported by test automation to help clients accelerate their time to market and build a competitive advantage.

Infrastructure Management & Security Services (IMSS): IMSS offerings provide an end to end monitoring and management capability with secure ring-fencing of customers’ applications and infrastructure. They provide continuous support and managed security services for mid-sized enterprises and technology companies. Specialized in the automation of business and IT operations with DevSecOps model and with NOC/SOC, they strive to ensure that the data center, cloud infrastructure, and applications are safe, secure, efficient, and productive. Security offerings include cyber and infrastructure security, governance, risk & compliance, data privacy and security, identity and access management, and threat and vulnerability management. Infrastructure offerings include DC and hybrid cloud services, workspace services, service automation (RPA, ITSM & ITOM), database and middleware services, and software-defined infrastructure services.

Business units are supported by the following three Centres of Excellence (CoEs):

  1. Internet of Things (IoT)
  2. Analytics / Artificial Intelligence (AI)
  3. Digital Process Automation (DPA)

Management Team

Ashok Soota

  • Ashok Soota is an Indian IT entrepreneur who served for more than 30 years in the IT industry.
  • He is a serial entrepreneur and the executive chairman and co-founder of Happiest Minds Technologies.
  • Mr. Soota co-founded Mindtree in 1999. He is 77 years old and that raises the question of next-generation leadership.
  • Ashok Soota, our Promoter, Executive Chairman, and Director has several years of experience in the IT industry. Prior to founding our Company, Mr. Soota was associated with Wipro Limited as its Vice Chairman and Mindtree Limited as its Chairman and Chief Executive Officer.
  • He has been conferred with a Dataquest IT Man of the Year, 2017, a Dataquest Lifetime Achievement Award for outstanding contribution in organizing and building the Indian software industry, and IT Lifetime Achievement Award from the Financial Express, and a Lifetime Achievement Award from Chiratae Ventures (formerly known as IDG Ventures).

Happiest Minds Analyst Conference Webinar Takeaways!

29% of total company shares pledged for 40 Cr loan by promoter – Mgmt clarified saying the pledge will be removed. Do note a lot of my investment banking ex-colleagues and research firm ex-colleagues asked the same question, mgmt said: “The pledge will be removed with IPO, before IPO, and with IPO”. Let’s hope the management comes true on the promise.

  • Jan 2020 – anyone not given ESOPs was given ESOPs, big ESOP policy Happiest Minds has.
  • Edutech is the highest vertical
  • Hi-tech is another vertical growing well
  • Minimum presence in travel & hospitality, so they didn’t suffer much
  • Making large investments in blockchain and AR/VR. Unconventional blockchain areas such as education, e-commerce are also being done.
  • Succession planning – CEO says “I had a plan from day 1 about my succession. 2 internal People are exigency picks.”
  • 95% workforce India, 5% onsite
  • All the debt they have is for working capital

Balance Sheet

Observations from balance sheet –

P&L

Observations from P&L-

Cash Flows

Observations from Cash Flows-

CFO and FCF has grown well. But still the company’s debt to equity ratio is high . The company should use FCF to repay debt and make a leaner balance sheet.

Valuations –

  • ROE – 27% on March 2020 (-21% in 2019 and 2018).
  • ROE in Q1FY21 was 15.7%
  • Book Value as of Q1FY21 is Rs 23.7, meaning the IPO is priced at 7x PBV.
  • 3.73 is Q1FY21 eps if we annualize then 15 is EPS
  • IF we take FY20 EPS, it is 5.36 Rs. (diluted)
  • FY20 – PE Ratio – 30.9x
  • FY21E – PE Ratio – 11.07x

Conclusion

  • We see that the pricing is expensive. At the same time, the 100 cr IPO money will be used for general corporate purposes and long term working capital requirements.
  • Even if we see now the company has a lot of working capital requirements. In FY19 – the current liabilities were 211 cr and in just Q1 of FY21, the current liabilities were 222 Cr. This is quite opposite to IT companies that don’t need much incremental capital.
  • The company does generate FCF (Free cash flow) but it seems to be getting tied up in working capital needs.
  • The firm has also written off 80% goodwill in the past 3 years from its acquisitions.
  • The promoter is very strong having spearheaded 2 IT companies that are big names today.
  • Taking into account the positives and negatives, we have ‘Avoid‘ on this IPO as we would like to monitor some key things before taking any decision.

Strategies Ahead

  • Acquire new accounts and deepen key account relationships
  • Further investments in our CoEs and digital processes
  • Strengthen existing partnerships and enter into new partnerships with Independent Software Vendors
  • Domain led approach towards customer acquisition and revenue generation in specific verticals
  • Attract, develop and retain skilled employees to sustain our service quality and customer experience
  • Selectively Pursue Strategic Acquisitions

Indian IT: Growth Drivers –

  • Digitally mature IT workforce
  • Extensive push from the government
  • Impact of increasing connectivity in the rural sector
  • Rising number of start-ups and indigenous development

Indian IT: Challenges

  • Employee attrition rates
  • Reluctance to shift from pure-play software
  • Emerging technology talent crunch
  • Economic slowdown
  • Impact of outbreak of COVID-19

Growth of Digital Services –

  • Increasing demand from digital natives
  • The evolutionary shift towards efficiency
  • Everything on the cloud
  • Digital KPIs to measure growth
  • Ability to create and recreate value
  • Data for intelligence
  • Social networking and platforms

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