VADS Bhd (VADS) is poised to record double digit growth. Revenue and net profit are set to expand by at least 15% for the next three financial years. Growth will be driven by rapid expansion from its contact centre business, while network management, as its core business, will continue developing at a steady pace.

Comment by ECM Libra:

VADS began as a joint venture between IBM Global Network Services and Telekom Malaysia Bhd (TM) in 1991. It is currently a subsidiary of TM, which holds a 67% stake. So it has strategic advantages that it can leverage on.

Today, it is a leading managed information and communication technology (ICT) services provider serving more than 500 medium-to-large enterprises across various industries. It has three core areas: managed network services (MNS), systems integration services (SIS) and contact centre services (CCS).

Over the past four years, the company recorded an impressive compounded annual growth rate (CAGR) of 94.6% in CCS revenue, and we expect VADS to grow at least 20% in this segment while riding the current boom in the contact centre industry for the next few years.

MNS as the traditional core business of VADS will continue to record steady revenue growth of at least 15% and continue contributing significantly to company's earnings.

It is the local market leader in the managed network industry, and possesses strategic advantages by virtue of being a subsidiary of TM. In the CCS business, VADS is the biggest domestic player with a staggering 2,900 seats currently in operations.

VADS derives a significant portion of its earnings from recurring earnings generated from existing contracts. These recurring earnings are mainly from CCS and MNS contracts which are usually renewed at expiry. We are confident that VADS will continue maintaining its clientele based on its excellent track record.

For 2007, VADS is expected to generate RM350mil in recurring revenue, which comprises 71% of 2007 forecaste revenue. MNS is expected to contribute RM160mil, SIS will chip in RM30mil while CCS will generate RM160mil of recurring revenue.

There are nevertheless risks. TM is the largest substantial shareholder with a 64% stake, thus resulting in a low free float level for VADS. There are also contract execution risks. Contracts that are not executed properly and smoothly may result in additional costs to VADS, which may affect earnings. Existing contracts that are due for renewal may not be renewed by clients. There are also bidding risks. VADS faces risks that it may not successfully secure the contracts bid for that will ensure growth targets are met. This may have a material effect on revenue and earnings.

Recommendation:

Our target price is based on a price earnings (PE) multiple of 15 our 2008 earnings per share (EPS) estimate of 78.4 sen. We believe it is an attractive growth proposition and possibly undervalued, considering its 2008 PEG ratio is 0.52 compared to the KLCI's 2008.