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Tech Mahindra
Subdued revenue growth, sluggish outlook; Hold
TechM’s 3Q revenue grew a subdued 1.6% qoq (flat volume
qoq). Management indicated that the telecom sector is still not
seeing increased spends, which is likely only by 2HCY11. We
raise FY11e EPS 4.1% and lower our FY12e/FY13e earnings
3.2%/3.1%. We lower our target price to `765 from `845. Hold.
Other income props 3Q. Revenue from BT increased ~3% qoq.
Operating margin was 20.6%. Margin was lower than expected,
even after a 4.9% qoq drop in SG&A spends. Profit was boosted
by higher ‘other income’ of Rs521m (consisting of US$8m of
forex gains) and lower tax rate (14.8%, vs. 18.3% in 2Q).
Key takeaways. Tech Mahindra added two clients (increasing the
total to 126). Blended utilization was up 100bps qoq to 76%. The
quarter saw ~3% wage hikes for onsite employees. TechM is
looking to hire ~4,000 freshers (gross) in FY12. Tax rate is likely
to increase 400-500bps in FY12e. Satyam’s profits for 1HFY11
have been consolidated (Rs515m) and TechM will consolidate
Satyam’s financials with a lag of one quarter.
Change in estimate. We raise our FY11e earnings 4.1% to `55.1
(to account for higher forex gains) and lower our FY12e/FY13e
earnings 3.2%/3.1% to `55.3/`64.2 respectively
Valuation and risks. Our revised target price of `765 consists of
`555 for the core business (10x Mar ’12e earnings) and `210 (for
TechM’s 42.7% holding in Satyam, after a 25% holding-company
discount). Upside/downside risk: higher/lower-than-estimated
volumes of BT deal.
Results Review
TechM’s 3QFY11 revenue (in rupees) declined 1.9% qoq (excluding
the one-off revenue in 2Q). US dollar revenue (excluding the passthrough)
was up 1.6%. PAT was higher than our expectations on
account of higher-than-estimated ‘other income’ and lower tax
expense. 3QFY11 results belied our expectations.
Revenue analysis
TechM’s 3QFY11 revenue was `12.1bn, 1.9% lower qoq (excluding the
one-off revenue in 2Q) and 2.9% lower than our estimates.
In US dollar terms, revenue was US$269m, up 1.6% qoq. TechM saw flat
volume qoq.
Net employee headcount for the quarter was 201 more than in
2QFY11, taking the total to 34,208 (we expected 500 professionals to
be added in 3QFY11). However, utilization stood at 76% as against
our expectation of 78%.
Software Services revenue was US$252m (1.5% higher qoq and 3.3%
lower than we estimated). Also, in dollar terms, BPO was 3.8% lower
than expected (US$17m, 3.2% qoq). Number of employees was 8,489;
the BPO division did not add any employees.
EBITDA margin
EBITDA margin was up 225bps qoq, to 20.6% (125bps lower than our
estimate). It was supported by favorable cross-currency movements.
Non-operating items
Other income – stood at `521m, which was lower than our expectation
of `177m.
Depreciation – Depreciation was as per our estimates.
Effective tax rate – The tax rate for the quarter stood at 14.8% versus
our estimate of 18%.
Net profit
Net profit stood at `2,055m (beating our estimate of `1,907m), an
increase of 10.5% qoq, on account of the higher-than expected ‘other
income’ and lower tax expense.
Prior-period items
TechM has taken its share of profit, of `515m, on account of its holding
in Mahindra Satyam, 1Q and 2QFY11 results of which were declared.
Outlook
Revenue stability in BT; management indicates flat revenue
Management indicated that it is likely to see a stable £70-74m/quarter in
business from BT (~£74m in Q3FY11 versus ~£71m in Q2FY11).
Emerging markets slipped 9.7% qoq. Management commented that this
part of the business is likely to be lumpy, since it has much of the Systems
Integration business. Management maintains it has a good pipeline in the
non-BT business.
Other key points
At end-Dec ’10, the company had forex cover of US$780m (at `47.1
to the US dollar) and £270m (at US$1.71 to the pound) vs. US$670m
(at `47.5 to the US dollar) and £260m (at US$1.74 to the pound) in
Sep ’10.
Debt stood at `13.5bn.
Annualized attrition for the quarter stood at ~30% versus 30% in
2QFY10.
The non-BT part of the business was flat in constant currency terms.
Salary hikes of ~3% were given to onsite employees, with
management yet to take a call on FY12 salary hikes.
Change in estimates
We raise our FY11e earnings 4.1% to `55.1 (to account for higher
forex gains) and lower our FY12e/FY13e earnings 3.2%/3.1% to
`55.3/`64.2 respectively, mainly to account for sluggish telecom
spending and the lower margin forecast. We reduce our target price
to `765 and retain our Hold rating.
Major estimate changes
1. Pricing changes have been necessitated due to the difference in actual
and estimated 3QFY11 prices. The pricing calculation includes `500m
of deal re-structuring revenue in the quarter, inflating it to that extent.
This has been carried out as the extent of expenses corresponding to
this revenue is not known and, hence, cannot be deducted to obtain
pure billing rates for 3Q.
2. For FY11 we have assumed 2,184 employees additions. Utilization
level assumptions have been slightly increased after management
indicated its focus on productivity.
3. The rupee-dollar conversion rate for 3QFY11 was 45. We have
assumed a rate of 44 for 4QFY11 and FY12/13. Hence, the average
rupee-dollar conversion rate for FY11 has changed to 45.20
Valuation
We lower the target price to `765 (10x Mar ’12e EPS, 11x earlier), thus
valuing TechM’s core business at `555. The company holds 501.8m shares
of Mahindra Satyam (a 42.7% stake). This gives TechM a value of `210
per TechM share after providing for a 25% holding-company discount.
We maintain our Hold rating on the stock.
We see no near-term fundamental triggers and believe that the stock
would be range-bound, depending on Satyam’s financial performance.
Risks
High client concentration. Tech Mahindra’s core business continues to
face challenging times. Given the sluggish telecom spend and client
concentration, any lower than-expected ramp-up would dampen earnings.
Satyam turnaround. Better-than expected revenue and earnings from
Satyam could prove an upside risk to Tech Mahindra’s stock price.
India Equity Research Reports, IPO and Stock News Visit http://indiaer.blogspot.com/ for complete details �� ��
Tech Mahindra
Subdued revenue growth, sluggish outlook; Hold
TechM’s 3Q revenue grew a subdued 1.6% qoq (flat volume
qoq). Management indicated that the telecom sector is still not
seeing increased spends, which is likely only by 2HCY11. We
raise FY11e EPS 4.1% and lower our FY12e/FY13e earnings
3.2%/3.1%. We lower our target price to `765 from `845. Hold.
Other income props 3Q. Revenue from BT increased ~3% qoq.
Operating margin was 20.6%. Margin was lower than expected,
even after a 4.9% qoq drop in SG&A spends. Profit was boosted
by higher ‘other income’ of Rs521m (consisting of US$8m of
forex gains) and lower tax rate (14.8%, vs. 18.3% in 2Q).
Key takeaways. Tech Mahindra added two clients (increasing the
total to 126). Blended utilization was up 100bps qoq to 76%. The
quarter saw ~3% wage hikes for onsite employees. TechM is
looking to hire ~4,000 freshers (gross) in FY12. Tax rate is likely
to increase 400-500bps in FY12e. Satyam’s profits for 1HFY11
have been consolidated (Rs515m) and TechM will consolidate
Satyam’s financials with a lag of one quarter.
Change in estimate. We raise our FY11e earnings 4.1% to `55.1
(to account for higher forex gains) and lower our FY12e/FY13e
earnings 3.2%/3.1% to `55.3/`64.2 respectively
Valuation and risks. Our revised target price of `765 consists of
`555 for the core business (10x Mar ’12e earnings) and `210 (for
TechM’s 42.7% holding in Satyam, after a 25% holding-company
discount). Upside/downside risk: higher/lower-than-estimated
volumes of BT deal.
Results Review
TechM’s 3QFY11 revenue (in rupees) declined 1.9% qoq (excluding
the one-off revenue in 2Q). US dollar revenue (excluding the passthrough)
was up 1.6%. PAT was higher than our expectations on
account of higher-than-estimated ‘other income’ and lower tax
expense. 3QFY11 results belied our expectations.
Revenue analysis
TechM’s 3QFY11 revenue was `12.1bn, 1.9% lower qoq (excluding the
one-off revenue in 2Q) and 2.9% lower than our estimates.
In US dollar terms, revenue was US$269m, up 1.6% qoq. TechM saw flat
volume qoq.
Net employee headcount for the quarter was 201 more than in
2QFY11, taking the total to 34,208 (we expected 500 professionals to
be added in 3QFY11). However, utilization stood at 76% as against
our expectation of 78%.
Software Services revenue was US$252m (1.5% higher qoq and 3.3%
lower than we estimated). Also, in dollar terms, BPO was 3.8% lower
than expected (US$17m, 3.2% qoq). Number of employees was 8,489;
the BPO division did not add any employees.
EBITDA margin
EBITDA margin was up 225bps qoq, to 20.6% (125bps lower than our
estimate). It was supported by favorable cross-currency movements.
Non-operating items
Other income – stood at `521m, which was lower than our expectation
of `177m.
Depreciation – Depreciation was as per our estimates.
Effective tax rate – The tax rate for the quarter stood at 14.8% versus
our estimate of 18%.
Net profit
Net profit stood at `2,055m (beating our estimate of `1,907m), an
increase of 10.5% qoq, on account of the higher-than expected ‘other
income’ and lower tax expense.
Prior-period items
TechM has taken its share of profit, of `515m, on account of its holding
in Mahindra Satyam, 1Q and 2QFY11 results of which were declared.
Outlook
Revenue stability in BT; management indicates flat revenue
Management indicated that it is likely to see a stable £70-74m/quarter in
business from BT (~£74m in Q3FY11 versus ~£71m in Q2FY11).
Emerging markets slipped 9.7% qoq. Management commented that this
part of the business is likely to be lumpy, since it has much of the Systems
Integration business. Management maintains it has a good pipeline in the
non-BT business.
Other key points
At end-Dec ’10, the company had forex cover of US$780m (at `47.1
to the US dollar) and £270m (at US$1.71 to the pound) vs. US$670m
(at `47.5 to the US dollar) and £260m (at US$1.74 to the pound) in
Sep ’10.
Debt stood at `13.5bn.
Annualized attrition for the quarter stood at ~30% versus 30% in
2QFY10.
The non-BT part of the business was flat in constant currency terms.
Salary hikes of ~3% were given to onsite employees, with
management yet to take a call on FY12 salary hikes.
Change in estimates
We raise our FY11e earnings 4.1% to `55.1 (to account for higher
forex gains) and lower our FY12e/FY13e earnings 3.2%/3.1% to
`55.3/`64.2 respectively, mainly to account for sluggish telecom
spending and the lower margin forecast. We reduce our target price
to `765 and retain our Hold rating.
Major estimate changes
1. Pricing changes have been necessitated due to the difference in actual
and estimated 3QFY11 prices. The pricing calculation includes `500m
of deal re-structuring revenue in the quarter, inflating it to that extent.
This has been carried out as the extent of expenses corresponding to
this revenue is not known and, hence, cannot be deducted to obtain
pure billing rates for 3Q.
2. For FY11 we have assumed 2,184 employees additions. Utilization
level assumptions have been slightly increased after management
indicated its focus on productivity.
3. The rupee-dollar conversion rate for 3QFY11 was 45. We have
assumed a rate of 44 for 4QFY11 and FY12/13. Hence, the average
rupee-dollar conversion rate for FY11 has changed to 45.20
Valuation
We lower the target price to `765 (10x Mar ’12e EPS, 11x earlier), thus
valuing TechM’s core business at `555. The company holds 501.8m shares
of Mahindra Satyam (a 42.7% stake). This gives TechM a value of `210
per TechM share after providing for a 25% holding-company discount.
We maintain our Hold rating on the stock.
We see no near-term fundamental triggers and believe that the stock
would be range-bound, depending on Satyam’s financial performance.
Risks
High client concentration. Tech Mahindra’s core business continues to
face challenging times. Given the sluggish telecom spend and client
concentration, any lower than-expected ramp-up would dampen earnings.
Satyam turnaround. Better-than expected revenue and earnings from
Satyam could prove an upside risk to Tech Mahindra’s stock price.
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