Mphasis-BFL, a leading Tier-Two player, is a perfect acquisition target for Tier-One Indian vendors like TCS, Infosys, Wipro and HCL Technologies, as well as global Big Five software services players like EDS and CSC. Pankaj Mishra puts Mphasis-BFL’s acquisition prospects under a microscope

When Mphasis-BFL gave Salomon Smith Barney (SSB), the investment-banking arm of Citigroup, a mandate to look out for strategic investors, the market was rife with rumours that the company was about to be acquired by a global services giant. Things have changed today though. Mphasis is now talking of going ahead on its own steam. “We are not actively pursuing any such initiative with SSB. We want to go alone,” says Ravi Ramu, chief financial officer, Mphasis-BFL.

However, the market still thinks otherwise. “Mphasis makes a good target for any of the Indian Tier-One players,” says Apurva Shah, research analyst, Prabhudas Lilladher. According to him, Mphasis’s software services business is not doing very well, but its BPO business is healthy. While it may be a good idea to keep MsourcE (the BPO outfit) and divest equity in Mphasis-BFL, chairman and CEO Jerry Rao’s passion for software services and consulting stands in the way of such a deal. Some analysts believe that the merger and acquisition (M&A) rumours are aimed at boosting the stock price. In any case, Mphasis is at a stage where quick decision-making is required to keep investors happy and steer the company toward rapid growth.

At the crossroads
According to a McKinsey study, the appetite for inorganic growth is one of the strategic choices that Tier-Two firms need to make. To fund such acquisitions, cash flow and equity is required, apart from the top management adopting a mindset favouring inorganic growth. Mphasis already has ING and Chrysalis as equity investors and Jerry Rao has demonstrated his appetite for mergers by merging Mphasis with BFL Software. Mphasis has several options to choose from today.

• Acquire a firm to enhance the scope of its service lines: This strategy can be used to gain entry into a new market, or gain expertise in a new vertical. The company has explored the option of acquiring a small- to mid-sized firm in the past. Such a move would help it scale up its offshore delivery capacity.
• Get acquired by a large global or Tier-One Indian player: Six months ago, this appeared to be the logical option for Mphasis, but company officials now decline to comment on the chances of Mphasis getting acquired. Owing to its strong offshore delivery capacity, coupled with expertise in the banking and financial services industry (BFSI), Mphasis makes a perfect target for MNCs like CSC and EDS. Indian Tier-One players, who lack a strong US presence can also leverage Mphasis’s strong position in the US market by acquiring it.
• Remain a focused, Tier-Two player with niche skills: Given current market conditions and margin pressures this is perhaps the toughest option. With large players coming down to compete for smaller projects that were traditionally the preserve of Tier-Two players, it is difficult to sustain a niche. Mphasis will need to batten down the hatches and survive the present storm. What will help is the fact that 30 percent of the company’s revenues derive from fixed-price projects spread over several years.
• Merge with another Tier-Two firm (Polaris-Orbitech, for instance): One wonders if there are any ‘true’ Tier-Two players left. In any case, this doesn’t seem to be a viable option for the company as it had its share of integration blues during its merger with BFL Software.

Ravi Ramu says that Mphasis will not look for strategic investors and will go ahead on its own steam

Tier-One firms, are you listening?
Earlier, many analysts had commented that Polaris was a good acquisition target for Tier-One Indian players. That company’s expertise in the BFSI segment and its product, Bankware, strengthened this perception. In another instance, Infosys was very close to acquiring Cambridge Technology Partners (CTP), but the deal never materialised. CTP was strong in the area of business and technology consulting. The Polaris-Orbitech merger leaves Mphasis on the table as a good buy for a Tier-One company looking at expanding its service lines, especially in BFSI. The company’s expertise in system integration and its blue-chip clients would only sweeten the deal.

A Tier-One player would gain the following through acquiring Mphasis:

• System integration expertise: Many Tier-One Indian companies have recently started looking at system integration (SI) as a lucrative option. Wipro sees it as one of its growth engines in 2002 and Infosys has already started executing projects in this space. Mphasis’s expertise in this area will definitely bring value to an acquirer.
• Blue chip clients: Not many Tier-Two players in India, or even globally, have a client list that includes the likes of Citibank, Standard Chartered, ICICI, JPMorganChase, Charles Schwab and Morgan Stanley Dean Witter.
• Strong front-end in developed geographies: Mphasis has been present in mature markets such as the US and other geographies like Europe and Japan for a long time and it has ongoing engagements in these markets. Its clients in logistics include FedEx and P&G. The company’s new client addition rate has been good, thanks to a strong sales force.

What lies ahead?
Mphasis has everything required for transforming itself into a Tier-One player in the span of a few years if it doesn’t give in to the temptation of M&A. To some extent, it is undergoing the same evolutionary cycle as Infosys or Wipro did in their time. The difference lies in the business environment—Wipro and Infosys evolved and grew during an IT boom. With the software industry in a tailspin, Mphasis has to survive a period of economic turmoil.

On the positive side, the company has been able to leapfrog into areas like system integration. It also has the early mover advantage in BPO and its subsidiary MsourcE is now profitable with a net profit of Rs 21.6 lakh for the quarter ended June 2002.

So, while the long term could see Mphasis making it big on its own, given the current situation the chances of the company going in for M&A are high. Many analysts believe that some global players have already displayed interest in acquiring Mphasis. Watch this space to find out more when the events actually occur.

Mphasis SWOT
Strengths	Weaknesses
System integration BFSI expertise Bluechip clientele Early mover in BPO	Revenues from top client still contribute 14 percent MsourcE derives 98 percent revenues from the US 45 percent revenues from financial services; vertical de-risking required
Opportunities	Threats
Leverage on the 'niche' perception Become a Tier-One player by acquisition Cash cow—MsourcE	Increasing margin pressure Competition with Tier One for even small contracts Citibank may outsource more to its captive centres