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Mphasis to Outperform

June 25, 2007

Ahead of the merger with EDS India, Mphasis posted a 10% growth in its consolidated revenue to Rs 337.25 crore in the quarter ended March 2007 over the December 2006 quarter. The growth in revenue was on a 24% rise in revenue from BPO services and 5% gain in IT services.

Operating profit margin (OPM) improved 30 basis points (bps) to 14.3% due to improvement in margin in the BPO operations (320 bps to 27.8%) on increase in offshore billing rate to US$ 10, from US$ 9 in the December 2006 quarter. The contribution of the non-voice revenue rose to 39% from 31% in the sequential quarter. Thus, operating profit (OP) advanced 13% to Rs 48.34 crore. Profit before tax (PBT) was up 26% to Rs 47.75 crore and net profit 27% to Rs 45.56 crore.

As a group, Mphasis follows the strategy of hedging its entire balance sheet. Also, many of its long-term contracts have built-in clauses for re-negotiation of billing rates to factor in the change in the value of the rupee.

Consolidated revenue of Mphasis was 27% higher to Rs 1195.82 crore in the year ended March 2007 over FY 2006 on a strong 30% growth in the IT services to Rs 836.11 crore, with a healthy expansion in the financial services business. On the other hand, the BPO business spurted 21% to Rs 359.71 crore with the increase primarily contributed by telecom clients in India. Net profit was down 20% to Rs 119.88 crore due to poor performance in the initial quarters ahead of the EDS merger talks. As per unaudited numbers, EDS India reported revenue of Rs 570 crore with net profit of Rs 59 crore in FY 2007.

In July 2006, Mphasis approved the merger of EDS India, a wholly-owned subsidiary of Electronic Data Systems Corporation (EDS), US, with itself. The swap ratio of the merger will be 5:4 (5 shares of Mphasis for every four shares of EDS India) and would entail the issue of 44,104,065 shares of the company. Though the legal merger has been delayed and will happen by July 2007, operational integration is already over. Post-merger EDS, US, will hold around 62% stake in Mphasis.

The in-house business from EDS Global is doubling, quarter-on-quarter. There was no business from EDS in Q1 June 2006 of FY 2007. In Q2 September 2006, it was US$ 2 million; Q3 December 2006 US$ 4 million; and in Q4 March 2007 US$ 9 million. The revenue from EDS Global will have a continuous momentum.

The manpower strength including that of EDS India stood at 20,249 employees end March 2007. For calendar year (CY) 2007, Mphasis including EDS has planned to add 8,000-10,000 people. Currently, about 550 employees are doing EDS work.

The Mphasis management had earlier identified four growth drivers: growth in existing Mphasis business, shared services work from EDS, offshore engagements within the existing accounts of EDS, and joint pursuit of large deals. Most of these growth drivers have started kicking in: internal finance & accounting (F&A)- and human resources (HR)-shared services work (employee ramp-up in BPO space in March 2007) as well as a large deal won from a European telecom company by the Mphasis-EDS combine. The management has also indicated the possibility of another large-deal-win from a retail major in the near future. The combine is also pursuing many multi-million multi-year deals.

EDS is playing catch-up with IBM and Accenture – the first in expanding their India headcount aggressively. For EDS’s revitalisation, it is necessary that it expands its offshoring to India fast. Mphasis will be the vehicle through which this will happen. EDS has indicated its intention to take its India headcount to 45,000 by CY 2008 and has set a US $ 1-billion revenue target for Mphasis.

Including EDS India, the FY 2007 EPS of the merged entity works out to Rs 8.6, which is expected to rise to Rs 13.4 in FY 2008. The share trades at Rs 310, giving a P/E of 23 times. With the EDS tag and expected earning growth of 50% for a couple of years, the scrip will outperform the market.

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