Margin trajectory waning eClerx :: HDFC Securities

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Margin trajectory waning eClerx’s 3QFY15 USD revenues were inline. However, EBIDTA margin was below estimates. PAT was 3.5% below our estimates led by lower margins. eClerx continues to show higher growth in Emerging accounts (34% of revenues). Revenues from these accounts were up 7% QoQ and 42% YoY. Traction in top 5 clients (~66% of total revenues) continued to remain muted (down 0.4% QoQ and 2.4% YoY). We believe that FY15 is playing out as a year of transition for the company with moderating client concentration as well as tapering EBIDTA margins. eClerx’s margins disappointed for the third quarter in a row. We expect FY15 EBIDTA margin of 35.1% (vs. 42.1% in FY14). Hence, we anticipate a whopping 700bps YoY drop in margins. Higher growth in Cable segment which has comparatively lower margins (vs. Financial / SMS verticals) is weighing on margins. We model USD revenue growth of 10.8/12.4% for FY15/FY16E. Weak margins lead us to downgrade our EPS estimates by 3.1/8% for FY15/FY16E. Aided by rollover to FY17E, our new TP is Rs 1,420/sh (13.5x FY17 EPS). This represents a 3% downgrade in our TP. Retain BUY.  3QFY15 Highlights : eClerx reported revenues of USD 38.9mn, up 2.1% QoQ, which was marginally below our estimates (USD 39.1mn). EBIDTA margin of 33.6% was down 160bps QoQ, and below our expectations (34.7%). EBIT margin came at 28.3%, down 150bps QoQ and below our estimates as well as the company’s guided EBIT margin band (30-35%). Management guided that Cable segment EBIT margins are at ~25% (vs. Financial services and SMS vertical which have an EBIT margin of ~35%). Higher traction in the cable segment is leading to weaker margin trajectory. PAT at Rs 608mn was 3.5% below our estimates.  View : We expect revenues from top five clients to remain flat YoY in FY15. However, Emerging accounts are likely to grow by 42% YoY. This would enable eClerx to deliver 10.8% YoY revenue growth for FY15 (vs. 13.9% for FY14). We believe that eClerx is navigating the transition in revenue mix smoothly, which is a key positive. However, a waning margin trajectory is leading to an EPS downgrade cycle in the stock. However, high FCF generation, net cash of Rs 4.1bn (Rs 137/sh) and strong dividend payout ratio (~42% of PAT) remain positives and could restrict P/E downgrades. Retain BUY.

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