Bangalore-based Subex, suppliers of revenue assurance software, are due to release their half-yearly results soon. There will be a keen interest to see what they reveal. After bad figures and missed forecasts last year, investor confidence needs to be bolstered. Subex must show they have finally completed the integration of the acquisition of Syndesis and turned the corner with genuine improvements in operating results during Q2. In the run up to the results announcement, it is interesting to see the recent press coverage they have garnered, which may give some clues about how Subex’s management will present their recent performance. This relatively positive article focuses on how Subex is reducing its reliance on BT, its largest customer. However, with BT still contributing 18-20% of total revenues, compared to 21-22% last year, there is no sign of a significant improvement in the diversification of its customer base. If anything, this modest improvement only serves to reinforce how much Subex’s turnaround depends on a continuation of big orders from a few customers. As the article points out:
Unlike most companies in the IT services sector, Subex is over-dependent on its top-10 clients. The top-10 clients contribute close to 85 per cent of its revenue.
It is also interesting to note that this article hints at a reduction in income from Subex’s software services division. Subash Menon, founder and CEO, was quoted as saying:
“The services business we do is essentially body-shopping and requires a lot more onsite activity, where the margins are as low as 6-7 per cent of EBITDA. Five years ago, 70 per cent of our revenues were coming from services. Today it is less than 20 per cent. Our plan is to bring down the revenue contribution from services to 5-6 per cent in the next three years.”
Menon’s spin on this disguises an important shift of emphasis. Whilst software services may have represented 70% of revenues five years ago, back then Subex was a much smaller business. During those 5 years, Subex has grown through acquisition. Revenues have multiplied several-fold as a result of ever larger takeovers. During that time, it was inevitable that the proportion of revenues from software services would be diluted if those services only grew organically. In contrast, nobody is expecting to Subex to continue its spending spree in the coming years. Subex’s forecasts for the full year emphasize increased profitability, not increased revenue. That implies any further reduction in the share of revenues from software services must come through an absolute reduction in those revenues. In order to improve overall margin ratios, it would make sense to downscale a division which earns low margins in general. However, unless Subex is hoping for improbable levels of overall growth, the plan must be to reduce the software services division to a third of its current size. That will mean headcount reductions amongst the 250 staff currently employed in that division. What makes this news particularly interesting is that previous press speculation has been that the software services division would be sold off. A depressed market with reduced credit may have eroded Subex’s confidence that they will find a buyer, causing them to change their approach.
Worse news for Subex was highlighted in this story. This article reiterates how the falling Indian stock market and falling Indian currency have hurt those companies that borrowed in US dollars. Subex has a large FCCB hangover, having used them to pay for acquisitions. Although these convertible bonds are not due for redemption for a few years yet, unless there is a tremendous turnaround in share performance, investors will not convert them into equity, and Subex will not be able to secure new debt at as cheap a price. Although Subash Menon has already been upbeat in the press about his company’s ability to cover its finance costs, the article highlighted Subex’s main worry:
CLSA [an equity research firm] in a report said Subex… face[s] high liquidity risks once FCCBs come up for redemptions, unless there is significant rally in stock prices.
Investors will no doubt have plenty of questions, and be expecting good answers, whatever numbers Subex are about to report. Keep an eye on this situation, because if Subex continues to struggle, or if it makes further cuts, the impact will ripple throughout the rest of the revenue assurance industry.