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Quick Heal: Cleaning Trojan, building moats

The Champions of Wakdewadi

The synergies between two great founders help to build meaningful businesses. Wright Brothers who invented and pioneered aviation, Larry and Sergey founded Google, Richard, and Maurice McDonald who started the massive franchisee all over the world.

The story is quite similar to Katkar brothers, hailing from a small village in Maharashtra who pioneered the cybersecurity in the Indian IT space. From an idea to a 300 Cr+ business, Quick heal became a household name in India.

Don't forgot to download the DCF model and financial analysis sheet attached below-

Quickheal DCF
Download XLSX • 116KB

Music of the past

Sales of Quick Heal has soared from INR 13.07 Cr on March 31, 2011, to a whopping INR 286.14 Cr on March 31, 2020, a clear jump of 21x in the last 9 years. Quick heal has been able to achieve this kind of stellar record due to the strong fundamentals of the company.

Get the stock analysis and DCF model below.

The sales numbers were growing due to the following reasons:

1) Dominant market share of 30%+ in the retail segment – Market leader

2) Strong distribution network

3) Strong relationship with 25000+ channel partners

4) Focus on penetration in Tier II and Tier III cities, targeting first-time internet and laptop users.

However, the last 6 years' story may not look strong with flattening sales. The muted sales were triggered due to challenges in the distribution channel. A significant overlap between hardware product distribution and consumer security distribution channels caused delayed payment recovery from their primary partners. Topline is not that impressive for this time frame.

Overall total revenue was growing due to interest earned on deposits collected at the time of IPO, profit on the sale of fixed assets, and dividends on current investments.

Moving on to the expenses, a major chunk goes to employee benefit expenses. Companies that build innovative products or specialized software tend to pay higher to their employees, it’s quite common in the industry. Quick heal pays around 35% of the revenue in employee-related expenses.

All expenses other than employee-related expenses are either decreasing or are stable over a 6-year time frame. Which is a good sign. It indicates that management is frugal and utilizing resources efficiently.

Tip: However, if expenses are dropping too heavily, that might be a red flag. You need to check the balance sheet section if they are capitalizing their expenses.

Look at their Margins!!

Margins are phenomenal for Quick heal. A staggering 95%(average) gross margin for Quick heal. Norton has a gross margin of 84% for the financial year 2020. Gross margin is high due to in house development of products and low COGS.

Operating margins have improved over the years. It has an operating margin of 35% and a net margin of 24% in an average which is phenomenal.

All in all, the income statement looks good to us except for the sales growth as mentioned above.

Income statement is just a dashboard for the company and investing is much more than looking at the dashboard.

The engine of the company is the balance sheet. The balance sheet tells what the company owns and what it owes. The balance sheet of Quick heal speaks a good story.

The company is virtually debt-free. As a result, it has low ROE and high ROCE. Having less debt on the balance sheet means that the company has financed each rupee sale from their own pocket. A company with low debt and higher capital efficiency leads to dominance in the market share. The crisis only makes them stronger.

On the working capital front, the story is not that rosy. The company has high debtor days. Wait! Don’t come to a conclusion. Understanding the reason why they have high debtor days is critical. This is an inherent limitation of the business due to the stock and sale mode, the receivable days are higher for the company and is expected to stay the same. As long as the company is able to manage cash it shouldn’t be a big concern. We are sure you learned something new just now. Oh! Thank you later. Complete reading this.

Cash flow is like the fuel in your car. Doesn’t matter if your dashboard looks good or engine is in good condition without fuel it’s going nowhere. Therefore, neglecting the cash flow can be a grave mistake. What to look for in cash flow?

You can look for growth in cash flow from operations, FCF growth, and compare with sales growth, CFO to total assets, etc.

Quick heal has an average growth rate of 18% in the operating cash flow from operations. Company’s FCF/Sales stands at 12%, this ratio indicates who much of the sales is converted into free cash. It denotes, for 1 rupee sales what is the FCF. Here it is 0.12 rupee.

Beyond numbers – The Big Picture

Understanding numbers is important for any investor but getting a sense of the big picture makes all the difference. And this is where the big money is made.

Quick heal as an early pioneer in the cybersecurity industry has been able to gain consumer preference over time and thus a dominant market share.

The cybersecurity space can be the next big thing due to the digital growth and thus necessitating security investments. Even though there is a rapid digital adoption in the country across the industries and security automation as a need of the hour, more than 85% of the Indian organizations have not deployed or partially deployed security automation.

The majority of Indian MSME is yet to fully adopt digital technologies, thus indicating a wide scope for cybersecurity players.

Even though COVID have impacted Quick heal’s short term sale as the products were not sold due to the lockdown, it can be a boon for the company as cybersecurity will play a crucial role as organizations are embracing the work from home culture, thus making it mandatory for enterprises to rethink security automation.

Also, with 5G network soon to be a reality in India, everything from a car to a washing machine will have access to high-speed connectivity. As a result of which there will be many more security threats than before. IoT will soon open up new opportunities for security companies and therefore become an integral part of the digital economy.

Quick heal has a strong R&D team divided into 6 groups to research on potential threats that can shake the digital infrastructure of the country. The company invests 19% of the Revenue for R&D to bring new innovations. One of their new patented technology is GoDeep.AI which helps to achieve signature-less and signature-based detection.

Major risks and concern of Quick heal are-

1) Cybersecurity is a competitive market with International and Indian companies like Symantec, Trend Micro, McAfee, and K7. Also, hardware OEM’s and operating system software such as Microsoft, IBM, Dell can offer solutions related to security protection for lower prices or for free as a part of a larger product package or solely in consideration for maintenance and service fees.

2) In order to survive in the market, the solutions offered by the company needs to evolve with changing market needs and innovate constantly. Thus, the company needs to spent on R&D continuously to maintain its position in the market.

3) As the company heavily relies on the stock and sale model, muted demand from the end consumer will affect the cash flow of the channel partners negatively and as a result, it will have a stress on the company’s working capital.

Anything to add in the DCF?

Remember! Give importance to a stock's valuations / fair value only "after" you have answered in "Yes" to these two questions - (1) Is this business simple to be understood? and (2) Can I understand this business?

Don't try to quantify everything. In stock research, the less non-mathematical you are, the more simple, sensible, and useful will be your analysis and results.

Also, your calculated "fair value" will be proven wrong in the future, so don't invest your savings just because you fall in love with it. Don't look for perfection. It is overrated. Focus on decisions, not outcomes. Look for disconfirming evidence.

It will be great to watch how the cybersecurity market will unfold in the times to come. Quick heal is definitely an undisputed leader in the cybersecurity space in India and its ability to stay relevant will help to unleash the hidden power.

We would love to conclude by a quote from Warren Buffet - “Buy a stock the way you would buy a house. Understand and like it such that you'd be content to own it in the absence of any market."

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