Stock Market Result Update on Tech Mahindra for 1QFY2012

Stock Market Result Update on Tech Mahindra for 1QFY2012 with an Accumulate recommendation and a Target Price of `783 (12 months).

For 1QFY2012, Tech Mahindra reported mixed results. The company’s revenue was almost in-line with our estimates, but its operating margin and core PAT came in below expectations. Growth came from the non-BT business yet again, which grew by 5.8% qoq with BT at 1.5% qoq due to cross-currency gain. BT has now started retendering its work; this poses risk to Tech Mahindra’s revenue run rate of £70mn–72mn quarterly. However, due to the company’s stake in Mahindra Satyam, we maintain our Accumulate view on the stock.

Result highlights: For 1QFY2012, Tech Mahindra reported revenue growth of 4.1% qoq to US$289.8mn due to 2.0% qoq volume growth. In INR terms, revenue came in at `1,292cr, up 2.4% qoq. OPM slipped to 18.7%, down 183bp qoq, due to higher employee cost related to 1,638 employees (largely trainees) added in IT services, which pulled down utilisation by 300bp qoq to 71%.

Outlook and valuation: The company’s five-year multi-million dollar deals bagged in 4QFY2011 from Vodafone are expected to ramp up in from 2QFY2012. We expect the non-BT business to grow at a CQGR of 4.5% and 4.6% in FY2012E and FY2013E, respectively, with BT’s quarterly revenue likely to be flat at US$116mn. Thus, we expect a 13.4% revenue CAGR over FY2011–13E. Core operating margin is expected to fall due to impending wage hikes and utilisation remaining a limited lever because of strong fresher hiring. Core EPS is expected to grow at a mere 1.5% CAGR over FY2011–13E. The only potential upside is due to the company’s stake in Mahindra Satyam, which is improving its overall profitability (33% to PAT). We continue to value the company at 55% discount to Infosys’ target PE i.e., at 9x company’s consolidated EPS of `87 and maintain an Accumulate rating with a target price of `783.