This smallcap company is riding the AI wave to become the best IT stock of 2024

These companies are being richly rewarded, with E2E Networks Ltd, a cloud computing services provider, emerging as a top example. The smallcap company has yielded almost 280% year-to-date returns, making it one of the best-performing IT stocks of 2024 so far, according to Bloomberg data.

In contrast, the ten IT companies in the Nifty MidSmallcap 400 Index posted an average total return of around 13% during the same period, as per the data.

Meanwhile, the three biggest IT companies–Tata Consultancy Services, Infosys, and HCL Tech–have posted an average year-to-date return of 22%. 

The surge in E2E Networks' shares was particularly pronounced after the company reported a 121% year-on-year growth in net profit to ₹22 crore for FY24. 

Investor optimism around E2E Networks is also visible in the company’s current price-to-earnings ratio of around 165. According to Bloomberg data, the average P/E ratio of the ten IT companies is around 55.

E2E Networks' stock hit the upper circuit for three consecutive trading sessions last week after the company announced the close of its latest funding round, aimed at developing its AI-first cloud platform. The stock is currently down 3% to ₹2,420 apiece on the National Stock Exchange.

The company has raised around ₹421 crore through a preferential issue of shares to key members of the promoter group and a wide array of public investors, according to a company release.

Initially established as a cloud infrastructure provider like Google Cloud, Amazon Web Services and Microsoft Azure, E2E Networks repositioned itself last year as an AI-focused cloud platform. It claims to be the first Indian public cloud platform to deploy Nvidia's cutting-edge H100 graphics processing unit in 2023 for customers developing AI models.

The company entered the cloud GPU market in India in 2018 to tackle increasingly complex and heavier workload for its clients. However, cloud GPU computing was yet to find its higher purpose back then, at least on a commercial footing. As the importance of GPUs in machine learning became widely recognized and Nvidia's market capitalization surged beyond $3 trillion, companies like E2E Networks saw a burgeoning market.

AI first

In response to the global AI hype, E2E Networks quickly rebranded as a provider of scalable AI and cloud platforms for developers, data scientists, startups, enterprises, higher education institutions, and government bodies.

This shift led to a spike in the company's average revenue per user (Arpu) in the quarter ended June. The Arpu for its top 500 customers jumped 48% quarter-on-quarter to ₹800,000, driving strong earnings in Q1FY25. The company reported a 112% year-on-year increase in revenue, reaching approximately ₹42 crore, while net profit for the quarter rose 44% to around ₹10 crore.

“What we have seen is that the larger customers have grown for us in terms of where we have added the revenue," Tarun Dua, chairman and managing director of E2E Networks, said during a recent earnings call. “This is primarily driven by the cloud GPU side of workloads for typically like AI or ML kind of like workloads."

Although the company has not significantly expanded its customer base, it has made a shift towards higher Arpu customers. Currently, the company's top 10 customers contribute 50% of its revenue, Dua said.

 

The Indian government’s push for the country’s digital public infrastructure development will also likely bode well for the company. In June, the ministry of electronics and information technology had empanelled E2E Networks to provide cloud services to government agencies, public sector units, financial institutions, and nationalized banks.

“Currently we are not participating in any bidding with the government," Dua said during the call. “It’s only been less than a month since we got certified by MeitY. So, it's very, very early to say what sort of business we will be able to generate over there."

Expansion opportunities

As a provider of infrastructure as a service, E2E Networks rents data centres to house its servers. According to a CareEdge Ratings report released in May, India currently holds just 3% of global data center capacity, despite generating 20% of the world’s data.

This under-penetration presents significant opportunities for capacity expansion for companies like E2E Networks. The rating agency expects India’s data centre capacity to double to 2 GW in 2026 from the current 0.9 GW.

“Adoption of technologies such as 5G, IoT (internet of things), and artificial intelligence are expected to significantly augment demand for data and in turn data centers," the report said. “The industry has entered a growth phase...CareEdge Ratings estimates a capex (capital expenditure) of ₹50,000 crore in this space over the next three years till 2026."

Despite the growth potential, E2E Networks' management has remained tight-lipped about future expansion plans. The company has currently commissioned 450 H100 GPUs and plans to acquire 256 more from Nvidia, which are expected to go live in Q2, Dua said.

As it ramps up its computing density capabilities, the company expects a fall in data center operating costs, which could enhance profitability in the future. In Q1 FY25, the company reported a 1,256 basis points quarter-on-quarter rise in its profit margin to around 25%.

While developers of generative AI globally are still working on monetizing their models, analysts say companies like E2E Networks, which provide the platforms and support for developing these models, are poised to benefit from the growing demand.