Silverlake Axis - Part 5 (Conclusion)

Let's do a recap of what has been discussed thus far

Financial Statement Analysis

Positive	Negative
Very high profit margin of 35% to 65%	Profit margin might vary due to 4 different segment margin in the range of 25%, 40%, 65% and 90%. However, sales of hardware often constitute a very small part of total revenue.
Net cash no debt	High P/BV
High ROE	Its propriety software is worth much more than actual value, hence possibly inflating ROE.
Highly cash generative, high percentage of profits are converted into hard cash	Company has been doing buyback, acquisition due to chunk of cash at disposal.  Might not be able to generate positive ROI
Quarterly Dividend	Subjected to currency fluctuation as earnings are reported in MYR

Core Banking System Industry

Positive	Negative
Banks and vendors are likely to maintain a working relationship of at least 10-15 years due to the high cost high risk nature of changing a core banking system.	Similarly, SIBS might face difficulty in snatching customers from rival.
Maintenance contract will last for as long as banks continue using the software. Serve as a buffer in times of economic recession.
Maintenance contract has high profit margin of 65% and has potential to grow given that the industry standard for such contract is priced at 15-22% of initial licensing fee.
Licensing of SIBS is highly lucrative with a profit margin of 90%.	New contract will be difficult to get in time of recession though existing contract is impossible to be cancelled.

Silverlake Axis's Competitive Advantage

Positive	Negative
Silverlake Axis has a stronghold in South-East Asia, accounting for more than 50% of total transaction. Market leader in Singapore, Malaysia, Indonesia, Vietnam and Brunei.
Ability to leech on the growth of its customers especially in Malaysia and Indonesia. Expansion of branch as well as merger & acquisition will result in additional revenue.	Similarly, they face the risk of having their customers get acquired by others. Risk is mitigated by having the largest and most aggressive banks as their customers.
Pricing power proven with a 10% hike in maintenance fee during in current recessionary condition.
HNA’s deal is likely to lead to more projects for Silverlake given that HNA will hold around 10% of Silverlake’s share	Account for highest percentage of receivables.
100% implementation success as compared to rivals (Temenos and Infosys) who have failed in numerous projects.
QR Tech allows diversification from the finance sector.	Only account for around 10-15% of revenue presently.
Global Infotech in the process of listing.

Now, we have come to the most important question, is it too expensive at the current price of $0.355 and where is my margin of safety? Here is how I view this stock:

The most important thing is to split the company revenue into recurring (Maintenance and Enhancement Service) and project basis (all other business). For the recurring income, it is expected to be contributing SGD 38m profit for FY 2012, which means that if we are solely judging the business by this recurring income,  I will be paying for a PE of 20. 

So what do we do with project basis, do we simply discount it? The answer is obviously no, given that they represent profit and cash to the company just like other project based company like construction, property and system integrator.The way I have decided to treat them will be that it will be counted as part for the profit but should never be used as a projection for future order size. 

In 2011, Silverlake Axis started implementing its 4 projects seized in 2010 which totalled up to a sum of SGD 210 million. These 4 projects are SGD 70 million for HNA Group, SGD 30 million for OCBC upgrading project, a BIBD upgrading project and a CIMB implementation project. From here, we can easily deduce that CIMB project is worth at least SGD 90 million given that BIBD upgrading project is expected to be much smaller than OCBC which has a regional base. Of these, MYR 150 million of non-incurring income has been recognised in FY 2011.

Thus, there is still at least MYR 365 million of projects to be recognised over the next 3 years from 2012 to 2014. This is a conservative figure as it is assumed that smaller projects as well as bank expansion does not account for any cent in the MYR 150 million of non-recurring income. Other than these 4 projects, Silverlake Axis has also secured 2 integration project from the merger of Hong Leong and Eon bank as well as Thanachart and Siam City Bank. In total, Silverlake Axis currently should have around MYR 565 million of project to be recognised over the next 3 years. Splitting the sum equally among the 3 years and assuming a profit margin of 35%, we will have another SGD 27m in profit. This is estimated conservatively again given that SGD 160 million of the projects (HNA and CIMB) are implementation project which has much much higher profit margin. Thus we will have SGD 65m in profit for the next 3 years (assuming that maintenance income does not grow) which will be giving us a PE of 11.5.

So what will happen to Silverlake from 2015 onwards if it fails to secure any more contracts? Well, by then, Silverlake Axis will start to enjoy recurring income from HNA and CIMB Group project. 

15% * SGD 160m = SGD 24m

With a profit margin of 65%, that will give us 16m in additional recurring income.

Therefore, in 2015, recurring income will become SGD 54 million which will give us a PE of 13.8 on the assumption that Silverlake Axis fails to win any more contract for the next 3 years and that its customer never expand and engage in M&A activities. And in 2015, the new version of SIBS will be out, thus it is indeed very hard for Silverlake Axis not to secure any more contract for the next 3 years.

Personally, I do regret not having discovered the company 1 month earlier when it is below 30 cents, but I don't think that I am overpaying for it right now. There is no doubt that Silverlake Axis is an excellent piece of business with steady recurring income, as for what is the right price to pay, no one other than yourself should be the one making the decision.