ven though IPOs are flooding the market, it has been a while since we had a software company coming out with one.

Now, 3i Technology is all set to hit the market on April 1.

Interested?

Well, the software sector is certainly appealing.

But there six questions you must ask before you sign the cheque for 3i Infotech's IPO.

• How to invest in an IPO

1. What do they need the money for?

i. To redeem preference shares issued to company promoter ICICI Bank [Get Quote].

These are special shares issued by a company. If you hold these, you get preference over other shareholders. For instance, once dividends are declared, preference shareholders get them first. If the company closes down and its assets are sold, preference share holders will get their money back before other shareholders.

When 3i buys back the shares worth Rs 150 crore (Rs 1.5 billion) from ICICI Bank, it will no longer have to pay any dividend to the bank.

ii. To repay its loans.

3i Infotech will save a whopping Rs 20 crore (Rs 200 million) as interest outgo, after pre-paying its debt of Rs 94 crore (Rs 940 million). Currently, it has a costly short-term debt of Rs 61 crore (Rs 610 million) and a long-term debt of Rs 33 crore (Rs 330 million).

This will have a direct impact on the company's profits after tax.

2. Does most of the business come from ICICI Bank?

3i Infotech began in 1993 as ICICI Infotech. It started as a BPO company providing back-office support to the parent company, ICICI Bank.

At one time, it was heavily dependent on the parent company for business.

In 2002-03, 48% of the revenues came from ICICI Bank. For the nine-month period ending December 31, 2004, it dropped to 25% with business from other clients pouring in. 

This is a conscious effort by the company management to reduce its dependence on the parent company and diversify its client profile.

3. Where does the bulk of the business come from?

While most IT companies are service-centric, 3i Infotech has spread its businesses across the service and product platform.

In India, the company is positioning itself as a major player in the banking, financial services and insurance space, popularly known as the BFSI domain.

The company has recently stepped into the Enterprise Resource Planning space as well, through its ORION suite of products.

For the nine-month period ending December 31, 2004, 3i earned almost 45% of its revenues from the products stream. Product implementation and license fees have led to an increase in profit margins earned by the company.

From a mere 6% in the year 2001-2002, the products side of the business has grown to a nifty 42%.

The services side now offers consulting services, software deployment and development, and IT solutions. It contributes 57% of the total business.

4. Have revenues gone up?

With Rs 220 crore (Rs 2.2 billion) in the financial year ending March 31, 2003, revenues increased marginally to Rs 232 crore (Rs 2.32 billion) for the financial year March 31, 2004.

For the first nine months until December 31, 2004, total revenues stood at Rs 210 crore (Rs 2.1 billion).

For the financial year ending March 31, 2005, 3i is likely to notch total revenues of Rs 280 crore (Rs 2.8 billion) -- a smart jump of 33% compared to the previous financial year.

5. Have profit margins gone up?

Net Profit Margin = Income only from operations/ total sales.

This excludes other income like that earned from investments like fixed deposits, stock market investments and income from sale of real estate.

From 2.78% in 2002-2003, the NPM climbed to 6.25% in 2003-2004. For the nine-month period of the year 2004-2005 (April - December 31, 2004), the NPM has spurted to a healthy 16.25%.

As a rule of thumb, a company that scales up its NPM year after year is a good company to invest in.

Moreover, with a smart decline in Selling, General and Administrative expenses from 30% to 27% for the first nine months of the current financial year, 3i Infotech is likely to further improve its NPM. As expenses decrease, the NPM increases.

An increasing NPM and declining SGA speaks well about the management's ability to contain costs and improve profitability for its shareholders.

6. How is the stock valued?

Earnings Per Share = Net profits/ Total number of shares

For the year 2005-2006, 3i Infotech's net profit is projected at Rs 45 crore to Rs 50 crore (Rs 400 million to Rs 500 million). Based on this figure, and the post-issue equity (number of shares available after the IPO), the EPS works out to Rs 9.

The EPS figure may actually improve, considering the cost saving that 3i will make after repaying loans worth Rs 94 crore (Rs 940 million) and redeeming preference shares worth Rs 150 crore (Rs 1.5 billion). The amount saved in paying interest on the loans and preference dividend will translate into higher net profit.

Price Earnings ratio = Market price/ EPS (Rs 9)

In this case, instead of market price, we take the issue price (Rs 90-Rs100).

Taking the price at Rs 100 leads to a PE of 11.

This favours 3i Infotech's peer IT companies, which trade at a PE multiple of 14 to their 2005-2006 earnings.

A low PE stock is supposedly undervalued and can grow and appreciate in value.

To undertand ratios, read How to spot a good stock.

Should you?

Those who believe in 3i Infotech as a products and services story can invest in the forthcoming IPO. At the upper end of Rs 100, you may get a 20% gain on listing.

Given the present global scenario and choppy markets in India, any guess about the long-term prospects of 3i Infotech will be uncertain. For that matter, the entire market is difficult to predict.

Issue date: March 30 - April 4, 2005
Number of shares to be issued: 2.3 crore (23 million) shares
Price of each share: Between Rs 90 - Rs 100

Amit K is a keen watcher and player in the stock market. The views expressed here are his own.