Happiest Minds IPO opens today. Key things to know before you invest

The initial public offer (IPO) of Happiest Minds Technologies, the Bengaluru-headquartered information technology (IT) services firm, opens today. The company aims to raise up to Rs 702 crore via fresh issue of equity shares aggregating up to Rs 110 crore and an offer for sale (OFS) of up to 35.663,585 shares. On Friday, the company raised Rs 315.90 crore from anchor investors. 

Here's a look at the key things you need to know before you invest.

About the Company

Happiest Minds Technologies is an information technology (IT) services firm founded by Ashok Soota, a veteran in the Indian IT industry. The company focuses on delivering a seamless digital experience to its customers. It offers solutions across the spectrum of various digital technologies such as Robotic Process Automation (RPA), Software-Defined Networking/ Network Function Virtualisation (SDN/NFV), Big Data and advanced analytics, Internet of Things (IoT), Cloud, Business Process Management (BPM) and security. The company's business is divided into three business units (BUs) - Digital Business Services (DBS), Product Engineering Services (PES), and Infrastructure Management & Security Services (IMSS).

About the Offer

Around 42.29 million shares will be put on the block, wherein the fresh issue comprises 6.62 - 6.66 million shares and OFS consists of 35.66 million shares. The price band of the offer has been set between Rs 165-166. At the upper price band, the company will garner Rs 702 crore. The bid lot has been fixed at 90 shares and in multiples thereof. The offer closes on September 9.

Objects of the issue

The net proceeds of the offer will be utilised to meet the long term working capital requirement of the company and general corporate purposes.

Key risks

Geographic concentration: The United States alone contributes 77.5 per cent of its overall revenues (FY20). Anti-outsourcing legislation, if passed, would pose a threat owing to higher onsite ratio and /or insourcing by customers.

Client concentration risk: The company, in its draft red herring prospectus (DRHP), says that its higher contribution of revenues comes from a small number of clients. Loss of a key client and lower quantum of repeat business from existing clients can impact the revenue and earnings growth.

Intense competition: Happiest Minds faces tough competition from top-tier and mid-tier IT firms such as Accenture, TCS, Infosys, Wipro, HCL Technologies, Mindtree, and Persistent Systems, which are rapidly expanding their digital offerings and gaining scale.

Unfavorable movement in forex rates: Since the company is heavily dependant on the US for business, as well as some part in the UK, the company is likely to get impacted by major foreign currency swings, mainly of the US dollar and GBP (pound sterling) against the rupee.

Partial promoter holding pledged: Ashok Soota and Ashok Soota Medical Research LLP have pledged 24,122,331 equity shares and 17,948,784 equity shares, respectively. In the event of non-adherence to the terms and security arrangements, the pledge on the company's promoter’s shares could be invoked, which may also lead to a change in control.

Should you subscribe?

Most analysts are positive on the company and recommend subscribing to the issue given Happiest Minds' line of business operations, healthy financial performance, strong promoter pedigree, and attractive valuation.

"At the price band of Rs 165-166, the issue comes priced at a price/earnings (PE) ratio of 16.5 times - 17.3 times FY22E earnings per share (EPS), assuming a 15-20 per cent profit before tax (PBT) growth in FY22 and factoring in 25 per cent tax rate for the year. Based on these calculations and assuming two scenarios of 15 per cent and 20 per cent growth, Happiest Minds can achieve diluted EPS of Rs 9.6-10 in FY22, on the basis of which the PE multiple works out to 16.5x-17.3x FY22E EPS," said Harit Shah, an analyst at the KR Choksey Research.

"Given HMT’s growth profile and over 97 per cent digital revenue share, we believe the company can comfortably command a PE of 24x-25x, which makes the IPO valuation fairly attractive for long-term investors. We recommend a SUBSCRIBE to the issue," Shah added.

For analysts at IIFL Securities, the IPO offers an opportunity to invest in an Indian pure-play digital IT services provider, which is likely to post top-tier growth rates in the IT space. Compared to its listed international peers (EPAM, Globant & Endava), they believe, Happiest Minds is much smaller with a lower growth profile. However, it generates a higher return on equity (ROE) and has an average free cash flow to the firm (FCFF) conversion of nearly 130 per cent over FY18-20, the brokerage wrote in an IPO note dated September 3. The brokerage, too, has a SUBSCRIBE rating to the issue.

At Geojit Financial Services, Vinod Nair, their head of research also recommends subscribing to the issue from a long-term perspective. "FY18-20 revenue growth stood at 23 per cent on a compound annual growth rate (CAGR) basis, while profit witnessed a steady growth from Rs 14 crore in FY19 to Rs 72 crore in FY20 due to increase in sales, lower operating expenses and 50 per cent reduction in interest cost in FY20," Nair notes.

However, Nirali Shah, senior research analyst at Samco Securities, advises investors to avoid this IPO given the risks attached. The company, Shah said, carries a larger-than-industry-average level of debt on its books, indicated by a debt to equity ratio of 0.92. This includes high working capital liabilities and current liabilities to the tune of Rs 211 crore.

"The company plans to reduce this liability to an extent with the IPO funds but even then there will be a significant chunk of current liabilities on its books. Further, its operating cash flows to the company's earnings before interest, taxes, depreciation, and amortisation (EBITDA) has also declined from 2018 to now. To add to it, promoters have pledged 30 per cent of their total shares to raise capital. All these negatives outweigh the fact that this IT company trades at a fair valuation of 23x P/E," Shah added.