This Small Cap IT Stock Gets A Buy Call With 53% Upside Potential In Long Term

Key takeaways for future performance according to Edelweiss

• We expect Newgen to deliver 22% revenue compound annual growth rate (CAGR) and 24% earnings CAGR over FY21-24E on the back of a) shift in revenue model towards software as a service (SaaS)/Subscription, b) creating additional sales channel using Global system integrators, c) scaling up in developed markets and d) clearer organisation structure. Further, we expect margins to stabilise around ~25% factoring in operating leverage and return of travel and branding/promotion expenses. Despite higher Days sales outstanding (DSO), cash flows are strong helping it to build a strong cash reserve (of ~Rs3bn) and stable payout ratio (~20%).
• Addressable market size is US$22bn for Enterprise content management (ECM), US$ 8bn for BPM (business process mgmt.), and US$ 2bn for CCM (Customer communication mgmt). OpenTXT (one of the bigger competitors of Newgen) mentions addressable market size for its set of offerings at US$84bn growing at 8%.
• The company is implementing multiple transitions a) Sales model transitioning to also include global System Integrators (GSI) b) Revenue model transitioning towards subscription/annuity from licence sales and c) Geography focus transitioning towards developed markets.
• Newgen EBITDA margins to stabilise around 25% going ahead, a decline from 28.5% in FY21, as the company will accelerate reinvestments in growth initiatives.

Buy With A Target Price of INR900

Edelweiss Broking has claimed that we expect Newgen's EBITDA, or earnings before interest, taxes, depreciation, and amortisation margin to stabilise at ~25% (from 28.5% in FY21) as the company is likely to reinvest actively in growth initiatives. Margin expansion in FY21 was largely driven by saving on travel costs (10-11% of sales in FY19-20), which will return gradually over FY 23-24. Also, Newgen plans to scale up branding and promotional activities. Newgen's operating cash flow (OCF) is robust, expanding at 44% CAGR over FY18-21, compared to profit after tax (PAT) that increased at a CAGR of 20%. With the scaling up of operations in developed markets, switch to Global Systems Integrator (GSI) channel and subscription revenues, we expect DSO to reduce further (from 129 in FY21) leading to stronger OCF growth.

The stock trades at 24x FY22E and 21x FY23E earnings per share (EPS). Based on the strong demand for digital transformation and the multiple transitions underway at the company, we expect its revenue and earnings to expand at a CAGR of 22% and 24%, respectively, over FY21-24E. We, therefore, initiate coverage with a 'BUY' rating, according to the brokerage.

Disclaimer

The above stock has been picked from the brokerage report of Edelweiss Broking Ltd. Investing in equities poses a risk of financial losses. Investors must therefore exercise due caution. Greynium Information Technologies, the author, and the brokerage house are not liable for any losses caused as a result of decisions based on the article.