RBS:: Tech Mahindra – Increasing risk

Please Share:: India Equity Research Reports, IPO and Stock News
Visit http://indiaer.blogspot.com/ for complete details �� ��


Besides TechM's business-specific risk, increased macro headwinds will likely
put pressure on earnings visibility going forward. We reduce our adjusted
FY13/14 EPS forecasts by 5%. We reiterate Sell and continue to prefer Satyam to
TechM.


Elevated macro headwinds likely to further increase revenue growth challenges
Despite factoring in company-specific business risks as well as some macro headwinds in
our 1Q12 results update, we believe elevated macro concerns (especially in Europe, which
contributes 52% of TechM’s revenues) will put further pressure on TechM’s revenue visibility.
Therefore, increased risk within its top client British Telecom plc (BT, still 40% of TechM’s
revenues), increased macro headwinds from US/Europe (83% of its revenues), and
continuing demand weakness from Telecom (about 100% of its revenues) clearly signal that
growth challenges are likely to escalate for TechM, in our opinion. Even some of TechM’s
recent deal wins (including in BPO and in markets outside the US/Europe) are unlikely to
provide a major defence to its increased earnings risk.
Margins likely to remain under pressure
Besides increased risk on revenues, we believe TechM’s margins will experience downward
pressure given headwinds that include 1) wage inflation due in 2Q12 (likely to affect TechM
more than its peers due to its higher proportion of offshore deliveries); 2) growth challenges
from top client BT (with pricing pressure likely); 3) required higher investment to increase
revenues from clients outside the top 10 (which contribute as much as 78% of its revenues);
and 4) likely higher growth in low-margin services and markets outside the US/Europe.
We reiterate Sell; we continue to prefer Satyam
We cut our adjusted EPS forecasts (ex amortisation of deferred revenue from BT and
including Satyam profits) for FY13/14 5% to factor in the aforementioned increased risks to
revenues and margins. We also reduce our target price for Satyam to Rs86 from Rs94, and
accordingly we reduce our SOTP-based target price for TechM to Rs593, implying an FY13F
PE of 10x for adjusted EPS (set at a discount of about 45% to our sector benchmark,
Infosys, to factor in higher earnings risk, lower revenue and lower EBITDA margins). We
prefer Satyam to TechM given Satyam’s relatively lower earnings risk, in our view.