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Despite MphasiS's push to diversify outside HP channel, we believe stagnant HP channel
revenues and the risk to direct channel revenues from macro headwinds will result in
continuing earnings pressure in the medium term. Even after a material correction in the
stock, we are unable to turn positive at this stage. Hold.
Medium-term challenges to continue as addressing structural issues could take time
The 3Q11 results continued to highlight the ongoing structural issues that plague MphasiS.
HP business revenues stalled (down 0.3% qoq adjusted for one-offs), which management
linked to a slowdown in HP’s global applications practice. Despite diversifying and scaling up
the non-HP business (33% of revenues currently), we believe it would require outsized
investments to make a meaningful impact in the medium term as weak macro environment
threatens its growth target of 3-5% qoq for the non-HP segment. We reduce our target
multiple to 10x from 11x on EPS for the four quarters ending March 2013F to factor a further
increase in pressure on earnings. Despite incorporating Wyde Corp (recently acquired) in our
estimates, we reduce our revenue forecasts 6%/9% and our EPS forecasts 11%/14% for
FY12/13. However, the material stock correction (down 20% in the past three months) and a
healthy net cash balance (US$364m post acquisition payout) limit significant downside. We
reiterate Hold, with a target price of Rs365. In the midcap space, we prefer Satyam, Polaris
Software, NIIT Tech and Hexaware given their better business outlook and/or cheaper
valuations, on our estimates.
3Q11 revenues adjusted for one-offs were below our expectations
3Q11 revenues rose 2.9% qoq to US$290m. Excluding one-offs of US$15m and including
deferred revenues of US$8m (while costs were booked), revenues rose only 0.5% qoq (RBS
forecast: up 3.2%). This factors in a 0.3% qoq drop in HP business revenues (adjusted for these
items) and a 2% qoq increase in direct business. While rates of the HP business were not
compromised, risk related to potential discounts or muted volume growth remains.
Normalised margins take a hit, but reported PAT propped up by one-time items
MphasiS reported EBIT margin of 16.0% in 3Q11, which adjusting for one offs, was at 12.4%
(RBS forecast: 14.6%). Key reasons for muted margin were wage hikes (250bp impact) and IP
development costs (1.3% of top line). However, reported PAT, at Rs1.95bn, exceeded our
forecast of Rs1.74bn due to one-time revenue of US$15m and cost reversals.
India Equity Research Reports, IPO and Stock News
Visit http://indiaer.blogspot.com/ for complete details �� ��
Despite MphasiS's push to diversify outside HP channel, we believe stagnant HP channel
revenues and the risk to direct channel revenues from macro headwinds will result in
continuing earnings pressure in the medium term. Even after a material correction in the
stock, we are unable to turn positive at this stage. Hold.
Medium-term challenges to continue as addressing structural issues could take time
The 3Q11 results continued to highlight the ongoing structural issues that plague MphasiS.
HP business revenues stalled (down 0.3% qoq adjusted for one-offs), which management
linked to a slowdown in HP’s global applications practice. Despite diversifying and scaling up
the non-HP business (33% of revenues currently), we believe it would require outsized
investments to make a meaningful impact in the medium term as weak macro environment
threatens its growth target of 3-5% qoq for the non-HP segment. We reduce our target
multiple to 10x from 11x on EPS for the four quarters ending March 2013F to factor a further
increase in pressure on earnings. Despite incorporating Wyde Corp (recently acquired) in our
estimates, we reduce our revenue forecasts 6%/9% and our EPS forecasts 11%/14% for
FY12/13. However, the material stock correction (down 20% in the past three months) and a
healthy net cash balance (US$364m post acquisition payout) limit significant downside. We
reiterate Hold, with a target price of Rs365. In the midcap space, we prefer Satyam, Polaris
Software, NIIT Tech and Hexaware given their better business outlook and/or cheaper
valuations, on our estimates.
3Q11 revenues adjusted for one-offs were below our expectations
3Q11 revenues rose 2.9% qoq to US$290m. Excluding one-offs of US$15m and including
deferred revenues of US$8m (while costs were booked), revenues rose only 0.5% qoq (RBS
forecast: up 3.2%). This factors in a 0.3% qoq drop in HP business revenues (adjusted for these
items) and a 2% qoq increase in direct business. While rates of the HP business were not
compromised, risk related to potential discounts or muted volume growth remains.
Normalised margins take a hit, but reported PAT propped up by one-time items
MphasiS reported EBIT margin of 16.0% in 3Q11, which adjusting for one offs, was at 12.4%
(RBS forecast: 14.6%). Key reasons for muted margin were wage hikes (250bp impact) and IP
development costs (1.3% of top line). However, reported PAT, at Rs1.95bn, exceeded our
forecast of Rs1.74bn due to one-time revenue of US$15m and cost reversals.
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