MindTree 4Q Results- In Line With Expectations  Citi Research

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MindTree (MINT.BO)
4Q Results In Line With Expectations
 In line results — Revenues were $86.3m, up ~1% qoq (CIRA $86.1m) while profits
came in at Rs320m (in line with our estimates of Rs316m). However, EBITDA margins
at 11.2% were below our expectations of 12.6% - the shortfall being made up by lower
depreciation/taxes and higher than expected other income.

 Explaining the slow revenues — In rupee terms, IT Services saw healthy growth of
6% qoq while the Product Engineering Services (PES) was a bit slower at 2% qoq;
however, Next in Wireless (NIW) had a big decline where the revenue more than
halved. This was expected as highlighted in our 15 March 2011 note, MindTree
(MINT.BO) - Management Expects Weak 4Q; A Better FY12.
 The margin shortfall — Management attributed the decline in margins to: (1) Increase
in onsite work – onsite volume was up 8% qoq while offshore volumes were up 1%
qoq. (2) Decline in revenues in NIW (from the Kyocera account). (3) Hiring of
subcontractors to meet the surge in demand.
 Key highlights from the earnings call — (1) Capex expected in FY12 is ~$20-22m.
(2) Expected tax rate for FY12 is ~18%. (3) Forex hedges for FY12 at $115m (average
rate of Rs46). (4) Gross hiring expected in FY12 ~4,000 (~2,400 are campus offers
where the joining ratio is expected to be ~70-75%). (5) Wage hikes of ~10-12% in
1QFY12 to impact ~78% of workforce, the rest (mostly senior employees) get hikes in
2QFY12 – margin pressures to continue in 1HFY12.
 Maintain Sell — Q4 results were in line with our expectations – though the FY11 EPS
is ~7% below consensus estimates. Our estimates for FY12-13 are ~11-13% below
consensus – we see downside risks. What could make us more constructive: (1) ~15-
20% stock correction; (2) sharp bounce-back in business fundamentals? Maintain Sell.


MindTree
Company description
MindTree is a mid-tier Indian IT services company providing offshore-based
services to global organizations in BFSI, Manufacturing, Transportation and Hi-Tech
industries. It offers a range of services including IT and R&D services. In IT
services, its offerings include application development, maintenance, package
implementation, testing and infrastructure management. The company has
consciously stayed away from BPO services. In R&D services, it offers product
design, re-engineering, optimization and support.
Investment strategy
We rate MindTree shares Sell/Medium Risk (3M). Though the business environment
for IT Services has been improving, Mindtree has a higher proportion of application
development work (~45% of revenues) - so risks are higher, in our view. In IT
Services, the tier-one players have done better than the industry, and we expect this
to continue. In addition MindTree has the additional overhang of investments in its
wireless business. We expect revenue and EPS CAGRs of ~17% and ~(6)% over
FY10-13E.
Valuation
Our Rs380 target price is derived from 10x Jun'12E EPS. This is in line with mid cap
IT Services multiples and factors management's decision to enter and then exit the
telecom products business within a short span of time. With the Founder and
Chairman deciding to move on from MindTree, this multiple also excludes the
Promoter premium that the stock used to enjoy.
Risks
We rate MindTree shares Medium Risk which is in line with other mid caps under
our coverage, despite our quant risk rating system suggesting Low Risk. Upside
risks to our target price are: (1) faster than expected recovery in the US/global
economy; (2) earlier/higher than expected pricing increases; (3) INR depreciation;
and (4) clarity around the wireless business.