BNP Paribas: Satyam Computers -Signs of improvement ; TARGET INR78

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Satyam Computers -Signs of improvement 

• ƒ 3Q ahead on revenue, EBITDA. Other income also helps EPS beat
• ƒ Employee pyramid optimization remains biggest margin driver 
• ƒ Negatives: Legal cases could stretch, TECHM merger on hold 
• ƒ Retain HOLD pending evidence 3Q gains can be replicated 

3Q results better than expected
Satyam’s 3Q results were ahead of our
and Street’s expectations and showed the
company is making progress in its
transformation programme. INR revenue
was up 3% q-q at INR12.8b (BNPP:
INR12.2b). The EBITDA margin improved
50bps to 6.4% (BNPP: 5.9%) on revenue
gains. The outperformance at the EBITDA
level and in significant other income gains
pushed pre-exceptional profits to INR1.1b,
much higher than our INR0.6b estimate.  

Operations improving
Operational disclosures remain sketchy,
but broadly speaking, Satyam’s metrics are improving: 1) 3QFY11 USD
revenue expanded a healthy (considering Satyam’s circumstances) 4.4%
q-q, and it appears Europe and financial services clients drove growth. 2)
The company added three new clients, and 764 employees, and attrition,
despite being high at 25%, seems to be stabilizing. 3) Employee costs
still remain at a high 71% of revenue. But if revenue growth continues,
higher fresh graduate hiring could optimize the employee pyramid and
present a major lever for margin improvement.
No update on legal liabilities, TECHM merger on hold
But some investor worries still remain, especially those concerning potential
legal and other liabilities (which we are factoring in at USD221m or INR8/
share). The prolonged probe into the past accounts also means that the
planned merger with Tech Mahindra (HOLD, CP: INR635) has been put on
hold until mid-2011. This can only be a negative, in our view, because it
delays potential synergies that the merger was intended to bring.
What would it take for us to turn more positive?
Our calculations show that the current share price factors in about 15%
revenue growth in FY12 and FY13 (compared to about 20-25% for peers)
and an EBITDA margin improvement of about 8ppts to 15% by FY13,
assuming a fair multiple of 10xFY13E P/E (in line with mid-cap peers).
These figures are not unachievable, in our view. To build a positive case
for the stock, we would need more evidence, in the next few quarters,
that Satyam can significantly better them. Note, Satyam’s current cash
balance of USD670m forms about 45% of its market cap, and should
provide some downside support for the stock, hence our HOLD rating