Sonata Software Limited (SONATSOFTW) Earnings Call Transcript & Summary

Ladies and gentlemen, good day, and welcome to Sonata Software Limited Third Quarter FY 2021 Results Update Conference Call. [Operator Instructions] Please note, this conference is being recorded. I now hand the conference over to Mr. Srikar Reddy, Managing Director and CEO, Sonata Software Limited. Thank you, and over to you, sir.

Thank you, Vikram, and good morning, everybody, for joining the call today post the announcement of our Q3 FY '21 results yesterday. The results will have been posted on the website. I'm sure you all had a chance to look at them. And yes, we'll spend some time on that today. Today, I have with me Mr. P. V. S. N. Raju, the Chief Delivery Officer of the company; Mr. Jagannathan, the CFO of the company; Mr. Ranganath Puranik, the Chief Growth Officer; Mr. Sujit Mohanty, Head of India Business and Director on ITL; and Mr. Sathyanarayana, the Head of Strategic Finance Function. So as I said in our last call, I just mentioned that we have gone out of the uncertainty, and we are seeing a lot more clarity in our business and said that we are looking forward to growth as we go forward. I had also said that we had reversed back a lot of decisions on cost cutting, et cetera, we had done in last quarter and which we have also implemented this quarter. So as mentioned by me, I think the results speak for themselves. I think we have shown fairly secular growth in the international business across all our verticals. We have seen our profitability rise because of both in terms of utilization, change in the on-site/offshore mix and actually a better realization for the services we have provided. We have seen a steady growth in our digital business continuing to show about our whole Platformation contract is working incidentally 4 years since we have actually announced it and launched Platformation as a concept. We have seen, as I said, growth across the various geographies in which we operate. So going forward, I think we are going to continue to see this growth, got the visibility for that in terms of both our top line and profitability. We'd also announced a compensation revision across the board starting 1st of January 2021. But whatever growth we are talking about is factoring the compensation increases we are planning effective 1st of Jan. Our India business has shown tremendous growth actually. I think we had more or less a lifetime kind of a... [Technical Difficulty]

Sorry to interrupt, ladies and gentlemen, please stay connected. We lost the line of Mr. Reddy. We are reconnecting him, please stay connected. Ladies and gentlemen, we have the line back from Mr. Reddy. Sir, please go ahead. Thank you.

No. What happened? They couldn't hear me?

No, we just lost your line in between. It was just about 10 seconds ago. You may please go ahead.

All right. Okay. I guess. Okay. So as I said, yes, I mean I think -- if I missed anything, I think people can ask me back questions. But as I said, our India business has shown tremendous growth and has had the highest margin driver in terms of historically, in terms of absolute terms. And as said, so overall, I see that we are on track in terms of what we have said a quarter back in terms of our growth. And we also, I think, started adding back manpower, and we'll continue to do that fairly intensely as we go forward. And a big push on investments now across the board, whether it is sales and marketing and M&A and IP and everything else. So overall, I think we are poised for growth. We used the opportunity to really create a very strong organization across the board and include our purchases and all that kind of thing. So that's in a nutshell from me. We're quite happy to take questions as we go forward. I'll hand it over to Jagan to take you through the more detailed analysis of the numbers.

Thank you, Srikar. Good morning, all. I will now highlight our financial performance and our details, both for the international business as well as the domestic business. We consolidated -- this shows a consolidated performance of the revenue. The revenue performance has been really good, particularly the EBITDA performance of the international business. And as Srikar was highlighting, the gross contribution from this income are, our India business has been one of the record highs in this quarter, where revenue also has grown very well. They've done a good performance. On the International Services business, which you can see, our growth has been -- revenues quarterly growth for last 12 quarters have been consistently high. And this international EBITDA percentage has been growing faster than the revenue growth. We have a record EBITDA of 29 percentage this quarter. The PAT extension here is after the VSV scheme. Without the VSV Scheme, this percentage is somewhere around 19 percentage, 18.7. 19 percentage is the PAT percentage for this quarter, which has been one of the best-performing quarters in terms of profitability for us and also consistent -- with consistent revenue growth. Domestic business. As we mentioned earlier, Domestic business needs to be measured on absolute gross contribution growth. Absolute gross contribution has been growing very steadily from INR 30 crores in last quarter to INR 38 crores, looks like 28 percentage growth quarter-on-quarter, a record growth in terms of the gross contribution. Considering all the challenges in the economy, we have done a very good performance in this state also. Two more metrics on the financial summary. If there is any question we have given what is the PAT before VSV and after VSV also has been highlighted. This is to say that this is a onetime fulfillment we have taken on this. After this -- without this, our performance has been, as seen as March of 2020, we have reached to that level at absolute PAT level. This has been one of the best-performing quarter for us. We will -- we are very, very confident of continuing our performance in the coming quarters. This is -- apart from this profitability, also, we wanted to highlight to all of you that our cash generation has been really positive for us. We have a very, very strong cash generation during this quarter. The free cash flow as a percentage of EBITDA has been really good. We have done an additional cash generation of almost INR 80 crores in both the businesses put together. Very, very strong profitability growth, very strong revenue growth, industry-rated revenue growth in dollar terms and a very good performance on the gross contribution, absolute gross contributions on Domestic and also a strong cash generation during this quarter. From operation metric, as Srikar was mentioning, this U.S. geography continues to be doing well. Their contribution in the overall revenue continued to remain at 50% and 52%. Europe has gone up in this quarter. We are bouncing back in Europe. We are expecting a strong trajectory in the coming quarters in Europe also. In terms of industry. By industry, if you see, ISV. ISV revenue contribution is continuously going up. The travel vertical remains at the same. We have mentioned earlier also that we can remain at the same level as we had in Q2 of 2021. For the -- we will update later whenever we get an update on this. Distribution, manufacturing, retail essentially going up as a percentage. This has been a really good performance for us doing. This is a good -- this vertical has been showing a very, very strong signal. Apart from it, the commodity and service industry, we have highlighted in last quarter also the service industry is bouncing back very strongly. So this is also doing well. In terms of competencies, if you see, our focus on ERP cloud and data actually is helping us. All our revenues in terms of dynamics or in terms of other digital platforms or cloud -- managed cloud services have been growing very, very strongly apart from data and analytics. That is also growing strongly. The offshore mix for this quarter has once again come down. This helped us to increase the profitability strongly apart from the utilization and availability of this -- in this quarter. This has helped us to performance -- perform in a best of the sales in the industry. To more on that, we have added 8 new clients in these two years, very strong performance for a quarter. And we believe that our headcount is also going up. Our headcount has been added by 100-plus people particularly in the delivery side. We have also added the people headcount, this is an investment as Srikar was highlighting, we will be investing more in the coming days. Very, very strong trajectory for people addition in the coming quarters. We are expecting a strong performance in the coming quarters for Sonata, as said. Now with this, I complete my update, we will take up the questions in the coming time. Handing over back to you for questions.

[Operator Instructions] We have a first question from the line of Baidik Sarkar from Unifi Capital.

Srikar and Jagan, congrats on a strong pull back in the operations. The lead indicators from the top client Microsoft are significantly ahead of what you've reported as a vendor proxy and are 32% of the business. My question is, how should we understand this lag in business? Are we missing some part of the growth? And given the rate at which Microsoft is committed to grow, how should we predict the rate of your growth here and in the services business overall?

I didn't understand your question. Baidik, you're saying the growth in the ISV is a proxy for our Microsoft account, is that the question?

I'm assuming that, Srikar.

Okay. And the second question is that we are growing higher than Microsoft, is that the second part to the question?

Well, I must have gotten my numbers wrong. My second part of the question was Microsoft's guidance in their managed cloud business, significantly high double digit...

Got it. Right. Again, I think I've mentioned it in the past, right? We have 2 motions with Microsoft. One is what we go to the market with Microsoft, that will reflect in our more or less other verticals. More or less, it'll reflect in retail and distribution, commodity and service and so forth. So second is what we do with Microsoft. The ISV revenues we report other revenues we get from Microsoft and Microsoft like accounts of services we provide for such companies where we provide platform or product building services even if they are enterprises kind of stuff, okay? So first is I'm saying, yes, it's not 100% proxy of Microsoft increased spend on partner kind of thing. So I wouldn't use that as a metric kind of thing. So I mean I would like to correct that stuff. So as Microsoft guidance is, I guess, across the sectors, right? I don't think they give specific guidance by business unit and business line. Anyway, the dynamics business unit gets merged under a much larger business unit when they report their numbers because it's still not like a significant number for them kind of stuff. So to answer the question, one is in the market, we are seeing a lot more now interest as companies are coming back, companies that pulled back spends on investing in new platforms and so on and so forth. So we actually see more interest now. While they use the pandemic to invest on immediate stuff like cloud and Teams, and which had to do with some immediate response to the pandemic and how do you get things, so we saw a bump there. And this actually took a backseat because people said let's wait and watch for the big-ticket items. So right now we are actually seeing more interest coming back from clients. That's on the market side. Other one is I wouldn't use it as a proxy for just Microsoft as an account. So we are seeing basically secular growth across people who are wanting to invest in creating new platforms for themselves.

That's comforting. The operating leverage through offshoring has moved very well over the last 5 quarters. Have you maxed out on that lever? Or is there more to come? In other words, are these margins dependable given your peak utilization as well? Or should we...

I mean there are some costs which will come back, right, like travel and office costs and all that. So I guess -- I mean we have to -- I mean you have to also factor in that while there are a lot of levers which have been operating, one is there is a general reduction on costs, which will come back sooner or later; so the second is, at a high level, yes, we can say that it has maxed out. There may be a little bit left. But because whatever -- what we did was in this time was because of whatever issues of travel and other things, we convinced clients that we can actually do it from here instead of coming on site. So as things change, some of those may revert back to saying, yes, I think you can come here and do those kind of things. So to answer your question, yes, I mean maybe it may max out in a quarter. But after that, it may go back to -- and then the trend could change. The second is, as I said, there are costs which will come back, I mean, in terms of travel and office costs and so on and so forth.

Sure. And my last question, in H2 of last year, we had a nonoperating provision from IL&FS. And this year, again, there's a prior period tax impact. What else should we brace for on the nonoperating times and...

Okay. I mean I should get this out of the way. See, I think we took a very prudent decision on this tax because the government offered this scheme. We had these old things where we have won at every stage, which we have been telling all of you that we don't believe it's got absolutely any risk to the company. But then we said if -- I think net of, I think, we could write off a contingent liability of more than INR 100 crores. So we said, okay, if we spend INR 20 crores and right of INR 100 crore continued liability, it looks like a prudent decision. We continue to insist that the -- whatever we have talked about in the past in terms of the strength of our cases, are absolutely -- as I said, we have won at every stage. They're all in our favor. But we felt that the government has offered the scheme, that should take it rather than spend our time on litigation and so on and so forth. The cost benefit looked very attractive. So yes, that's here...

So the contingent bracket now on taxes is 0? I mean...

No, it's not 0. I'm saying there are things, but I'm saying we felt that it was a -- how do you say, right, I mean a return versus how much I pay kind of stuff. Rest of it, we said, anyway, we have got good case. I mean we don't need to worry about it, kind of stuff. This we said that I think it's just possibly.

Is there anything else on the nonoperating front that we need to worry about? I mean other than...

Not at all. Not at all. I think my feeling is we've absolutely taken a very -- we could have stayed this way. We didn't know that -- it wasn't that we had lost a case and we settled it, right? We have won all the cases. So I think I would actually ask all of you to say that it's absolutely a very prudent definition because I've just not done it. I mean let me be very clear about it, I mean, despite the advice of my consultant, but we actually said that. Let's go and do this kind of stuff. So I think we have been ultraconservative, if you want to call that, that way. But otherwise, I would assure you that there is nothing we need to have...

And just a closing question from my side. Your question on the momentum on TUI and the domestic product business, what would be...

Yes. As I said, I mean we'll wait and watch. I think, now the second wave, third wave vaccination, et cetera, we'll get a much better visibility in 3 months' time, in April. You could be -- while the value is about 1/3, I think the volume is about, I think, 40% because of the movement to offshore. And I think by April time frame, we'll see whether it stays at this level or there could be a reasonable bump to it once they are very clear about their business. And because I can't say that bookings are not there. So once the booking starts, right now, we are helping them with build for the future. So once their bookings starts, we'll continue to go back to actually supporting their current business. Right now, that's not much.

And the domestic stuff?

Domestic, yes, I mean, we'll continue to see the momentum. I think we've added, as I said, new product lines, new -- Amazon, Google, some press releases were made. System integration as a business unit, some managed services dislocated with it. So we see that continuing to -- I mean, okay, this quarter might be 25%, 30% growth on a quarter-on-quarter, maybe on average, but we'll continue to see absolutely steady growth in that business.

We have a next question from the line of Harit Shah from KRChoksey Securities.

I just wanted to understand your nonessential retail segment has been for the last 4 quarters in a row, now it has been -- revenue has been falling quite substantially. In fact, this quarter, I think it was down more than 60% year-on-year. So what is the outlook out there? Any sign of revival are you seeing? How is the outlook looking out there at the moment?

I think we -- there, I think we have to wait for another couple of quarters because it's -- unlike travel, it's really buyer behavior, and nobody is clear how the consumers will behave. Travel is very clear. People say that once things come back, people will travel at least for leisure, if not for business. But nonessential physical retail is something which people are still waiting and watching whether -- and they've got used to this current listing, how much footfall will come back, et cetera. So things have to stabilize, I mean. And before people open up their pockets and invest kind of stuff, I would give it a couple of quarters at least.

Okay. Sir, just as a clarification. Typically, what will you classify under the essential and nonessential retail?

Essential retail is like daily requirement goods, whether it is grocers, pharmacies. And I would also add furniture, mattresses. Now with this pandemic, actually, electronics has become essential and all that. Nonessential is luxury goods from cosmetics, jewelry and leather bags and all that kind of stuff.

Okay. Okay. Got that. Got that. Okay. Secondly, your -- there is a vertical breakup if you see your other segment, it has been tracking on the second largest vertical for quite some time now. So would you, at some point, be looking to possibly break that up a little bit further because it's -- I mean others, it's larger than -- probably most of them would be larger than maybe retail, something like that. So some sort of color on that.

I think so. Yes, I think we should actually -- I think a lot of people actually reported as ISV because what we do for these others is actually what we'll do for ISV, which we actually help them build platforms and stuff like that. So it's not a domain-based -- domain-led business units. So maybe we'll figure it out. And yes, for your sake, I would possibly say that assuming this is an extension of our -- a lot of other companies, I know use these -- even if they do platforms for a retail company, they use it as ISV product, engineering services kind of stuff. So it's not a domain led. So that's why we are not breaking it up. We are not going to somebody and saying,I know insurance very well so give me business kind of stuff. It's really I know technology very well so give me business.

Right, right. So this is probably more of a horizontal based kind of...

Horizontal based, yes, so it's really a service you provide to an ISV, I mean, platform building and that kind of stuff and less of -- I know claims processing very well, and I can do that for you. Yes.

Okay. Got it. And one final question. So what was the attrition rate this quarter on IT services?

The attrition rate this quarter would have been about 14%.

Okay. Okay. So slightly lower than last quarter. Last quarter, was I think, 15%.

Yes, last quarter, there was a lot of, I mean, whatever you may want to call it, yes, yes, because there we are trying to get the right mix of people, yes, both voluntary and involuntary.

Sure. Okay. Good. I'll come back in the queue if I have any further questions.

Sure.

We have next question from the line of Mohit Jain from Anand Rathi.

Sir, I had 2 questions. One is on your million-dollar clients, sir, that number seems to be stagnant for last, I think, 4, 5 quarters. So what is happening there? And how do we plan to accelerate? That's one. And second, in terms of our Y-o-Y revenue performance, now that 1 year almost is about to be passed, and we are still 18% down on a Y-o-Y basis. If I...

Yes, I think you have to understand, we were down on the travel and other things by the side.

So that's why...

I mean yes, yes, if you take that out, I think it's almost like 30 million, right? I mean, if you take that out, we have actually shown absolutely net growth kind of stuff...

And if I take that out and if I also take GAPbusters out, that it would still be flat to down on a Y-o-Y basis.

Sorry?

If I take the GAPbusters revenues out, it would be flattish to marginally down on a Y-o-Y basis, excluding travel. So how do we plan to fill this by when do you think now that 3 quarters have passed now, and you are probably seeing more clarity...

Let me take myself very clearly. What I had said in Q1 of this year, is that by Q4 of this year, we'll get back to Q4 of profit of last year, right? Now we have achieved actually Q, higher -- if you take the tax out, our profits are equal to our highest ever this company has ever done closely. Our volumes are getting better. So I'm saying to look at volumes, not values because we have moved on-site to offshore, okay? So I think you better start looking at profitability and other things too rather than just a pure top line number, which can be obtained through a lot of other means kind of stuff. So it's really profitable growth. So we have done about INR 61 crores, I think, Q4 of last year. And this quarter, we have done INR 75 crores. So -- and we have done. So I think if you look at the growth is going to be profitable growth, so -- I mean -- and we're continuing to add top line. As I said, the revenue mix has changed from on-site to offshore. So if you look at volume growth, actually, it's much better to do volume rather than value. So look at some other metrics, and you'll get the right picture.

Okay. And sir, on the million-dollar client?

No, there's no interest on not getting million-dollar clients, but there would be a churn there. Some would have gone, and some would have come, so actually, gross, we are actually adding. Maybe next time onwards, we'll report that, so that will be a better indicator.

We have a next question from the line of Sarvesh Gupta from Maximal Capital.

Sir, first question is on your International Services revenues. So ex of travel and ex of gangbusters (sic) [ GAPbusters ] like the previous question a questioner has also asked -- been asked, what kind of growth do we see, sir, going forward? And if you can split that into growth coming from newer clients and the growth coming from existing clients.

Sorry, I didn't get the question. I mean...

Sir, going forward on your International Services revenue...

Yes, I said at the beginning of my call, I said we look forward to achieving similar growth as we go forward is what I said, right?

Okay.

Yes. Yes.

So that is number one. And secondly, on the margin side, you alluded that as economies open up, there will be some costs which will come back. So what is -- are we guiding for similar international business margin as earlier with pre-COVID? Or do we have some sustainable cost savings or accretion to the margin levels?

One lever was the on-site, offshore mix. If it stays this way, obviously, there is accretion to the margin, so the margins will get added. So I'm assuming the mix won't change dramatically in the short term. So that should help in the margins being sustained. There are some costs that will come back. And some costs which were pre-COVID will not be there, so with some work from home and so on and so forth. So overall, we can look for a little better than pre-COVID margins as we go forward, at least in the near future, yes.

Okay. But I think the commentary from a lot of IT companies have been that because of this pandemic, they have been able to convince -- as you were also rightly saying, they've been able to convince that a lot of work has been done from offshore. But I mean what is your -- I mean given how scenario is, when these things open up, do you think that such kind of a behavior, where most of the work is being done from offshore, will continue as it is? Or it will revert to the pre-COVID sort of a scenario?

That's why I said we will settle something in between is what I'm trying to say, right? Right now, it is -- I have no option. So maybe because there's no option, I'd rather do this rather than do anything else. It is working. In some places, it may be still saying there's still some in bricks, so maybe we'll get back to some in-between models. So my view on this is it will be somewhere in between. It will not be where it is today and it will not be where it was yesterday.

Okay. And on your domestic business gross contribution, which was at an all-time high this time, so are there some one-offs? Or is it just because of a higher scale of revenues? Or are there some one-offs, I mean, how we should look at those margins going forward?

As I said, I think we will continue to see growth in that business. Maybe this quarter, as I said, yes, at 27%, 28% quarter-on-quarter is not something we'll see. But we'll see a steady growth, so it's not a massive aberration. So INR 35 crores, upwards of INR 35 crores, we had an average of, I think, INR 31 crores, INR 32 crores kind of crores in the past. But we think we can move to an average of about INR 35 crores rough contribution per quarter. So that's, I think, what we can look at. So while this quarter specifically could be one time, but the average has gone up from about INR 31 crores, INR 32 crores to about INR 35 crores.

We have next question from the line of Ravi Menon from Motilal Oswal Financial Services.

Srikar, just wanted to get a sense of this growth recovery. Good job on recovering so well. Is this coming primarily from new clients? Or are you seeing a recovery in the clients who are the worst affected?