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Tech Mahindra surprised with an indication of likely re-bid for revenues from its largest client BT
post 1Q12. Besides this, continuing margin pressure is likely to result in downgrades in our
estimates. We expect pressure on the stock post 1Q12 results.
Downside risk in revenues from BT to persist
Despite just 0.6% cqoq revenue growth from largest client British Telecom (BT) over last nine
quarters, Tech Mahindra (TechM) indicated for likely re-bid of some of its revenues from BT
post 1Q12. BT still contributes 40% of Tech Mahindra's revenues.
TechM indicated that currently the likely re-bid portion is not the significant part of the
revenues from BT, however it can increase going forward. TechM even indicated that re-bid
for work of other vendors of BT will also likely start post 1Q12. We believe that TechM's
advance notice indicates caution relating to some downside in revenues from BT for TechM
going forward.
However, we believe that the re-bid is likely to result in further pricing pressure versus any
major risk of Tech Mahindra losing any significant volumes to competitors considering
TechM's relatively high competitive pricing versus peers. With slowdown in volume growth
from BT over last three years, we believe that further declines would lead to additional margin
pressure for TechM.
Other large vendors of BT from India include Infosys, HCL Tech, TCS and Wipro amongst the
large caps. However, for most of these vendors, contribution of revenues from BT has come
down materially in past few years due to growth challenges within BT as well as much faster
growth outside BT.
Margins in 1Q12 were lower than our estimates
TechM registered 4.1% qoq growth in revenues to US$290mn which was in line with our
estimate. However, the volume growth was lower at 2% and cross currency benefit was
higher for TechM due to its higher invoicing in GBP/Euro. Growth within IT services was lower
at 2.4% qoq despite favorable currency movement.
Revenue growth from BT was flat qoq in constant currency. Revenue growth from markets
outside US/Europe was higher at 10.6% qoq (due to 23% growth in BPO driven by ramps ups
in Bharti-Africa deal as well as in deal from Philippines) with revenues from US grew 4.1%
qoq and from Europe at 2.1% qoq.
Revenue growth outside BT was healthy at 5.8% qoq, which was led by higher growth in Non
Top-10 clients at 9% qoq.
EBITDA margins were down by 183bp qoq to 18.7%, versus our estimate of 50bp decline.
Gross margins were down qoq by 277bp due to decline in utilisation rates by around 300bp to
71% and shift in revenue mix towards low margin BPO business. However, saving in SG&A
cost of around 90bp led to lower decline in EBITDA margins.
Reported PAT (excluding Satyam) was at Rs1.81bn (down 12.6% qoq) versus our
expectation of Rs1.88bn. Lower than expected PAT was largely due to lower EBITDA as
explained above. Other income (excluding Interest expense) was up by 45% qoq with forex
gain of US$8mn. Contribution of other income to PBT has increased to 19.8% in 1Q12 versus
13.4% in FY11. However, other income continues to remain volatile for TechM on qoq basis.
Company added 4517 employees (net) versus our expectation of more than 3000 employee
addition. However higher addition was due to 2793 employees added in BPO (which would be
largely due to transfer of employees from Bharti Africa call centre). According to
management, 1100 employees were rebadged from Bharti-Africa call centre during 1Q12.
The management expects more employees to rebadge in 2Q12 (our estimate of more than
300 in 2Q12)
Besides margin disappointment in 1Q12, margin in coming quarters are likely to remain under
pressure considering i) wage inflation due in 2Q12 with offshore wage hikes of 12% and
onsite wage hikes of 2.5%. Impact on margins from wage hikes is likely to be higher for
TechM versus peers given higher offshore delivery, ii) volume growth challenges from BT, iii)
likely higher growth in low margin BPO business and from revenues outside US/Europe.
Company now guided for a tax rate of 22-23% in FY12 versus earlier guidance of 24-25%
given during 4Q11 results.
Our view
With likely downside to revenues from BT in coming quarters as well as continuing margin
pressure, we expect some downgrades in our estimates and will revise our estimates soon.
With upside witnessed in the stock on qoq basis (though partly led by some run up in Satyam
Computers), we expect stock to witness pressure post 1Q12 results.
India Equity Research Reports, IPO and Stock News
Visit http://indiaer.blogspot.com/ for complete details �� ��
Tech Mahindra surprised with an indication of likely re-bid for revenues from its largest client BT
post 1Q12. Besides this, continuing margin pressure is likely to result in downgrades in our
estimates. We expect pressure on the stock post 1Q12 results.
Downside risk in revenues from BT to persist
Despite just 0.6% cqoq revenue growth from largest client British Telecom (BT) over last nine
quarters, Tech Mahindra (TechM) indicated for likely re-bid of some of its revenues from BT
post 1Q12. BT still contributes 40% of Tech Mahindra's revenues.
TechM indicated that currently the likely re-bid portion is not the significant part of the
revenues from BT, however it can increase going forward. TechM even indicated that re-bid
for work of other vendors of BT will also likely start post 1Q12. We believe that TechM's
advance notice indicates caution relating to some downside in revenues from BT for TechM
going forward.
However, we believe that the re-bid is likely to result in further pricing pressure versus any
major risk of Tech Mahindra losing any significant volumes to competitors considering
TechM's relatively high competitive pricing versus peers. With slowdown in volume growth
from BT over last three years, we believe that further declines would lead to additional margin
pressure for TechM.
Other large vendors of BT from India include Infosys, HCL Tech, TCS and Wipro amongst the
large caps. However, for most of these vendors, contribution of revenues from BT has come
down materially in past few years due to growth challenges within BT as well as much faster
growth outside BT.
Margins in 1Q12 were lower than our estimates
TechM registered 4.1% qoq growth in revenues to US$290mn which was in line with our
estimate. However, the volume growth was lower at 2% and cross currency benefit was
higher for TechM due to its higher invoicing in GBP/Euro. Growth within IT services was lower
at 2.4% qoq despite favorable currency movement.
Revenue growth from BT was flat qoq in constant currency. Revenue growth from markets
outside US/Europe was higher at 10.6% qoq (due to 23% growth in BPO driven by ramps ups
in Bharti-Africa deal as well as in deal from Philippines) with revenues from US grew 4.1%
qoq and from Europe at 2.1% qoq.
Revenue growth outside BT was healthy at 5.8% qoq, which was led by higher growth in Non
Top-10 clients at 9% qoq.
EBITDA margins were down by 183bp qoq to 18.7%, versus our estimate of 50bp decline.
Gross margins were down qoq by 277bp due to decline in utilisation rates by around 300bp to
71% and shift in revenue mix towards low margin BPO business. However, saving in SG&A
cost of around 90bp led to lower decline in EBITDA margins.
Reported PAT (excluding Satyam) was at Rs1.81bn (down 12.6% qoq) versus our
expectation of Rs1.88bn. Lower than expected PAT was largely due to lower EBITDA as
explained above. Other income (excluding Interest expense) was up by 45% qoq with forex
gain of US$8mn. Contribution of other income to PBT has increased to 19.8% in 1Q12 versus
13.4% in FY11. However, other income continues to remain volatile for TechM on qoq basis.
Company added 4517 employees (net) versus our expectation of more than 3000 employee
addition. However higher addition was due to 2793 employees added in BPO (which would be
largely due to transfer of employees from Bharti Africa call centre). According to
management, 1100 employees were rebadged from Bharti-Africa call centre during 1Q12.
The management expects more employees to rebadge in 2Q12 (our estimate of more than
300 in 2Q12)
Besides margin disappointment in 1Q12, margin in coming quarters are likely to remain under
pressure considering i) wage inflation due in 2Q12 with offshore wage hikes of 12% and
onsite wage hikes of 2.5%. Impact on margins from wage hikes is likely to be higher for
TechM versus peers given higher offshore delivery, ii) volume growth challenges from BT, iii)
likely higher growth in low margin BPO business and from revenues outside US/Europe.
Company now guided for a tax rate of 22-23% in FY12 versus earlier guidance of 24-25%
given during 4Q11 results.
Our view
With likely downside to revenues from BT in coming quarters as well as continuing margin
pressure, we expect some downgrades in our estimates and will revise our estimates soon.
With upside witnessed in the stock on qoq basis (though partly led by some run up in Satyam
Computers), we expect stock to witness pressure post 1Q12 results.
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