The moolah is shifting to various mid-cap stocks because several of these companies are seen to have restructured their businesses, raised dividend payouts and churned out good financial performance.
A notable exception to the rule: mid-cap tech stocks. To be sure, the markets have not been terribly excited about tech stocks in general, but they were particularly tepid on mid-caps.
Compare: the aggregate market capitalisation of large-cap IT companies declined 19.13 per cent between June-end 2002 and June-end 2003; small-caps lost 38.32 per cent and mid-caps 25.33 per cent. That's faster than the rate at which the BSE IT Index fell: 24.59 per cent.
With good reason so far. In the year to March 2003, the financial performance of mid-cap techs was underwhelming. Net profits of mid-cap IT companies fell 19.37 per cent in the March quarter this year compared with the year-ago period.
That's the bad news. In the latest quarter ended June 30, 2003, however, many mid-caps have redeemed themselves by showing a marked improvement in performance (up 21 per cent from the June quarter in 2002).
Is the worst over?
Not many analysts -- only a few of them track mid-cap techs -- are willing to stick their necks out on that. The reason is lack of predictability in earnings.
Says Gautam Mhambro, analyst at broking and research firm Value Quest Research, "Mid-cap technology stocks have an inherent problem in terms of (sales) volumes. These companies (initially) perform better than expectations because of their marquee customers. However, once the big customers fail to renew their contracts, their performance gets affected. This brings an element of uncertainty to their performance."
Worse, the large-caps are now seen to be luring customers away from mid- and small-cap companies. "In the boom period, demand for IT services was in excess of supply, but now the situation has changed dramatically. The larger companies are dropping rates and weaning away the main customers from smaller tech companies."
Sandeep Shenoy, head of equities at broking firm Pioneer Intermediaries, says topline growth at mid-cap techs is often coming at a huge cost in terms of rising sales and marketing expenses.
The ones that are likely to do well are those that manage to grow topline while rationalising costs and marketing spends. He predicts that a year from now there will be a sea-change in the mid-cap pecking order. The wheat will be separated from the chaff; the rest will be bought over by the large-caps.
So, can one bet on mid-caps at all? The tell-tale signs to look for are companies that are constantly seeking to reinvent themselves, say analysts.
Niche players will not be able to sustain themselves for a long period without looking at other growth drivers.
In fact, sustainability of the business model and ability to find new clients are what one should look at while choosing a mid-cap stock. Analysts also give companies with a business process outsourcing presence greater marks on survival capability than pure-play software services companies.
The Smart Investor spoke to analysts about their opinions on various mid-cap counters and asked them to segregate them into three groups -- the good, the bad and the ugly.
The financial performances of the companies concerned were compared vis-a-vis the last fiscal year. Good stocks are generally those that have performed well in the last year.
However, our panel of analysts also took in stocks that had not really performed well, but which they felt held a lot of promise. The bad are stocks that have fallen from their exalted positions and are unlikely to rediscover past glory.
The ugly do not have an ice cube's chance in hell of posting a decent financial performance in the near future. There are also some wild cards -- very much like the ones in tennis -- which are basically volatile stocks capable of unpredictable performance and may suddenly surprise everyone.
The good
e-Serve International: The company gets top billing as one of the best bets among mid-cap techs with many analysts. Although the stock price has shown a 16.25 per cent decline since July 2002, net profit has zoomed by 138 per cent in FY03 compared to the previous year. "e-Serve is the only pure BPO play in the stock markets and the stock has tremendous value", says an analyst.
i-flex: The stock put in a stellar performance last year. i-flex saw its sales and net profits grow 35.85 and 37.56 per cent respectively in FY03. The company's stock price has appreciated by over 100 per cent since July 2002. Analysts say the company's product 'Flexcube' has done very well and its repertoire of total banking solutions will place the company in good stead.
Subex Systems: The company saw a 55 per cent increase in its y-o-y net in the June quarter while the stock price has risen 44 per cent since July 2002. Analysts like the focused nature of the company which makes it a pure product play. Its fraud-management products like 'Ranger' and 'In Charge' are used by huge telecom operators like Vodafone and Lucent. The fact that the company competes with the best in the world makes this stock an analysts' favourite.
KPIT Cummins Infosystems: Net profit of the company has zoomed by a whopping 243 per cent in fiscal 2003. Sales have also increased 50 per cent y-o-y while the stock price has appreciated 33 per cent since July 2002.
"The company has ramped up its business and is expected to outperform significantly. However, it has one or two marquee customers who bring in about 20-30 per cent of the business. Barring that, the strong visibility that the company enjoys due to its Cummins connection, along with strong order positions from the top five customers, augurs well for the company", says an analyst with a leading domestic brokerage.
MphasiS BFL: The stock has appreciated by 18.15 per cent since July 2002 while net profit has increased by 70 per cent y-o-y in the June quarter. Analysts are optimistic about the business model and like the fact that it is a BPO play. The stock has generated considerable interest among FIIs, too.
HCL Infosystems: The company saw a 234 per cent increase in its y-o-y net in the March quarter while the stock has appreciated by 33.30 per cent from July 2002. Analysts like the company's hardware and services business and the fact that it sets up the back end for call centres. The company's office automation products business and tie-up with Nokia are the other positives.
VisualSoft: The company's net and sales have grown by 27 per cent and 20.51 per cent respectively in FY03. The stock price has grown by 14.33 per cent since July 2002. Analysts say that the company's inherent capacity for strong growth makes it a good pick.
Blue Star Info: Although the stock price just managed to stay afloat, the company posted a 26 per cent rise in its net. The company's 18-year relationship with HP along with growth in the order-book position and high operating margins are looked favourably upon by analysts.
Mid-tech financials: middling show
The almost goodGeometric Software: The company has shown a 6 per cent increase in net in FY03 while sales managed to inch up by 3.23 per cent. However, the stock price has taken a drubbing, falling 45.29 per cent since July 2002.
Analysts say it is a temporary phase due to some clients deferring their orders, the effect of which may spill on to the second quarter of FY04.
However, they point out that the company has a better chance of bouncing back due to the quality of its business and niche focus. The fact that Geometric operates at the source code level with most of its high-end customers is another major positive.
The bad
Aftek Infosys: The company has posted a 23 per cent increase in its y-o-y net in June. However, the stock price has fallen 61 per cent since July 2002. Analysts express concerns over the sustainability of business growth.
However, the company has expressed confidence about being able to grow at a higher rate than the average industry level and targets unstructured data management and 3G mobile communication spaces as two high-potential growth areas. It is confident that valuations will improve as sustained growth from business becomes more discernible in the ensuing quarters.
Sonata Software: The company's net has slipped 20 per cent y-o-y in June while the stock price declined by 30 per cent since July 2002. Though the company has seen reasonable growth in some businesses, analysts feel that the long-term sustainability of its gains are suspect.
Mastek: The company's net fell by 35 per cent y-o-y in June while its stock price has declined by 11.22 per cent since July last year. Analysts worry about order-book problems and fear that it would have a cascading effect on the bottomline.
The ugly
SSI: The company's net has slipped by 132 per cent y-o-y in March while the stock price dropped 45 per cent since July last year. The company's plan to shift from software to pure training business has not gone down well with analysts who express concerns over the liabilities of its US subsidiaries. The low level of operating margins is another worrisome factor.
Rolta: Rolta's net has dipped 50 per cent y-o-y in March while the stock price has fallen 36 per cent since last year. Analysts are bearish on profitability.
Silverline: The company's net has dropped by 779 per cent y-o-y in March while its stock price has seen a decline of 18 per cent. Analysts are negative on the stock and express concerns over the outlook for the company.
And the wild cards
CMC: CMC posted a 10 per cent rise in its net last fiscal while sales grew 11.21 per cent. However, looking at the June 2003 quarter performance, the net has increased 23 per cent from the corresponding quarter of 2002. Analysts say that the company has a reasonably good business model, comprising educational and other products. The company could also benefit from orders through TCS.
D-Link: The stock price has declined 16.11 per cent while net has grown 21.53 per cent in FY03. Analysts view the company's strong brand name and well developed distribution network as major positives. However, it shows weakness in the form of lower hardware margins.
Zensar Technologies: However, the company has performed exceedingly well in recent quarters and has shown a y-o-y growth of 475 per cent in June. Analysts feel that the company has potential but for the unpredictability in performance.
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