It has taken me a while to review Subex’s results for the first quarter of FY14. That is not because they were especially complicated, or surprising. The difficulty lay with interpreting the figures, and extrapolating from them. A good forecaster knows that some circumstances are easy to forecast, based on the simplest data. Other situations are fundamentally unpredictable, no matter how much data is gathered. Sometimes you know the weather is going to be sunny all week long. At other times, professional weather forecasters cannot tell you if the evening will bring rain, no matter how much information they analysed that morning. Right now, Subex’s business model is like a complicated combination of weather fronts. The rain has stopped, but we cannot see blue skies. There are too many variables to see through the gloom, towards the future. All business involves risk, and there are many variables outside of the control of Subex’s management team. Nevertheless, stronger patterns are emerging, revealing how Subex intends to play, and win, in their chosen market. Despite the difficulty, I will try to synthesize the data I have reviewed, drawing on the Q1 FY14 results in the public domain, and a recent conversation I had with Surjeet Singh, the CEO of Subex.
On paper, the Q1 ups and downs were plain enough. Revenues were up, year-on-year, whilst only slightly (2.8%) down on Q4 FY13. EBITDA was also up year-on-year. Whilst EBITDA margin had fallen to 20% from 26% in the previous quarter, this slip is tolerable. Subex has previously, and rightly, argued that costs do not exhibit a linear relationship with revenues. If Subex has tightened the cost base to the point where they earn 20% EBITDA, even on more limited sales of around USD14M per quarter, then their business is fundamentally sustainable at an operational level. This was emphasized by Surjeet Singh in the company’s official press release, when he commented:
…we are not only profitable on a sustainable basis but also cash positive at operating level.
Or, to paraphrase Mark Twain, reports of Subex’s death have been greatly exaggerated.
Whilst the press release headlined the big positive improvement in Profit after Tax, this should be ignored because it was created by a beneficial, but uncontrollable, forex gain. As often mentioned by talkRA, forex gains and losses should always be discounted when reviewing Subex’s performance, whichever way they swing. Meanwhile, finance costs continue to be the biggest cloud in Subex’s sky. Put simply, Q1 FY14 continued the trend seen at the end of last year, where Subex almost generates an operating surplus that is large enough to cover its interest payments. Here lies the epitome of a ‘tipping point’, which is why it is difficult to predict Subex’s future. The downpour may have stopped, but the water levels are still, slowly, climbing. Subex can sail on in their current condition, but the combination of operating and finance costs continues to weigh them down, meaning that further bail-outs will be needed in future, unless the management team can find new sources of buoyancy. Subex needs, at minimum, to find a way to reliably generate an additional USD1M per quarter in revenues. That may sound easy enough, but the problem is that Subex’s core market is in decline. Whilst few would say this as plainly as I will, I believe all the data indicates that the traditional telecoms revenue assurance and fraud management markets are suffering a decline that will persist over the medium term. So at this crucial time, Subex’s management team will have to gamble on how they deploy their limited resources, in a hunt for new growth. This new growth is necessary to offset the fall in their more mature revenue streams. It will not be immediately apparent if Subex’s management team have made decisions that yield the best pay-off. However, the decisions made now will determine if Subex can change tack, becoming a long-term profitable venture, or whether they are only keeping the business afloat on an indefinite basis.
Before I further analyse Subex’s results, it is worth putting the Indian vendor’s strategic options in context with their largest rivals. WeDo, the new market leaders who overtook Subex earlier this year, have been most inclined to strategic planning. For several years, they have maintained a consistent core to their strategy. This involves reducing the inherent volatility of their exposure to a single sector, and mitigating the eventual decline of telecoms RA and fraud management, by diversifying into providing similar products and services to new sectors like retail and banking. In many ways, this is a classic textbook strategic path, which is not to say it is an easy choice. On the contrary, it takes time and ongoing investment to develop new markets and make contacts with potential customers. Though Subex has occasionally talked about sales outside of telecoms, I believe their management team is correct to focus on looking for more revenues from telcos. WeDo benefits from a far more extensive web of business relationships that it can lever. Subex needs to capitalize on their current wide penetration and good relationships with telcos, in order to generate additional revenues more quickly than if they now started to pursue customers outside of telecoms.
cVidya, consistently third behind Subex and WeDo in terms of market share, takes the opposite approach to WeDo. Whilst cVidya has been around for over a decade, they are run like a firm which is always seeking to maximize short-term returns. This means they spend proportionately more on marketing, and less on developing products and services (whether for telcos or any other customers). When they do invest in development, this has to be justified by the belief they will make a rapid return. As such, they tend to take a scattergun approach to development, seeking to make many small developments that maximize attention and maximize the total number of prospective customers, but without ever developing products or services that have any lasting competitive advantage. As a consequence, cVidya’s sales are most driven by price, which places them most at risk from market volatility. In short, cVidya gamble often but little, which gives them the possibility of unexpected wins but also places a limit on their winnings. For a while, it felt that Subex’s revamped management team might have decided to closely emulate cVidya’s approach. That would have created a very unpredictable dynamic in this market, risking the possibility of accelerated downward pressure on prices and a more rapid decline overall. And the prospects for new growth would have been put in jeopardy because even less resources would have been available to hunt for new revenue streams. However, Subex is now giving stronger signs of pulling back from this approach and plotting a middle course that best suits their current strengths.
Subex’s strategy has long included an strong theme of translating sales of licensed software into sales of managed services. Though the data is patchy, I believe this is an area where Subex has maintained a lead over its rivals. It makes sense for Subex to continue to pursue this key strategic goal. Surjeet emphasized the importance of managed services during our conversation. The point was similarly made by COO Vinod Kumar, both when we last spoke, and also in the Q1 results press release:
The first quarter of this financial year has been a record quarter for us, having won more than 10 key Managed Services contracts for our core offerings, mostly for Tier 1 operators in North America and Europe region.
It is also worth observing that a customer who enters into a managed service relationship is less likely to want this publicized than a customer of a greenfield system installation. As such, Subex may be quietly consolidating their lead in the delivery of managed services. However well they are doing, they should continue to prioritize sales of managed services. As discussed previously on talkRA, multi-year contracts for managed services are a good way for Subex to counter volatility and decline in the marketplace.
However, my conversation with Surjeet underlined Subex’s strategic commitment to developing a well-defined series of new offerings that will drive future revenue growth. The crucial point here is that no business can strategically pursue every possible source of growth. Management has to focus on a limited number of growth avenues, in order to concentrate their limited resources in ways that can be turned into meaningful competitive advantage. The idea that Subex needs to find a new basis for competitive advantage was demonstrated in Surjeet’s choice of words when we spoke. He linked the ROC – the Revenue Operations Centre, a manifestation of a comprehensive suite of Subex products – to what he called “Subex 1.0”. Crucially, Surjeet is looking to transform his company into “Subex 2.0”.
So what is included in the inventory of Subex 2.0? However much I would like them to, Subex’s management is not going to tell me everything. Surjeet told me that Subex is working to ‘co-create’ new products with a select group of customers, but he would not tell me more. What I do know is how I would refocus Subex’s development efforts. Whatever the merits of developments like Zen, I believe such add-on functionality is unlikely to capture much imagination, and cannot spearhead significant volumes of additional sales in a declining market. In contrast, developing and promoting their Asset Assurance product is a bigger, bolder move. Whilst the acquisition of Syndesis was the cause of many of Subex’s problems, there should be one positive legacy in the form of superior technical understanding of how to manage network inventory. Given the scale of the capex involved, Asset Assurance may generate enormous sales, depending on the quality and availability of rival offerings. To date, I have seen little effort to identify and educate potential customers about the use of data to improve network capex utilization. Now Subex is sending clear signals about their intention to grow revenues from Asset Assurance. In the press release for the Q1 results, Asset Assurance was mentioned by both Surjeet Singh and Vinod Kumar. This is from Surjeet’s quote:
Strategically, we are now expanding to help our customers manage network Capex through our path-breaking Asset Assurance portfolio which we believe will provide growth impetus to the company in coming period.
Will Asset Assurance prove to be a big winner? There is another old saying which predates Mark Twain, but which Twain used in Huckleberry Finn:
…you pays your money and you takes your choice!
Nobody can say whether Asset Assurance will be as profitable as Subex hopes. In business, you have to take risks, deciding how the business will spend its money in the never-ending pursuit of increased profit. What we can now say, with much greater certainty, is that Subex’s management team have identified where they will act decisively. There may be more rain ahead, but they are controlling what they can control, by plotting their own, distinctive, strategic course.