Tech Mahindra: In-Line Performance; On Track For Medium-Term Objectives

BUY

Information Technology   

Result Update   

October 20, 2024

TARGET PRICE (Rs) : 1,700

Tech Mahindra reported broadly in line operating performance. Revenue grew 1.9% QoQ to USD1.59bn (CC 0.7%), in-line with expectations. Growth was broad-based with 5 of the 7 verticals seeing QoQ increase. EBITM rose by 110bps QoQ to 9.6%, in sync with our estimate. Management indicated that demand environment and discretionary spends remained similar to previous quarter. Deal intake was steady at USD603mn (534mn QoQ). Management continues to prioritize margin over growth in the near term, and is therefore selectively participating in large deals. Although the demand environment remains soft, the company continues to focus on strengthening client relationships and expanding partner ecosystem, leading to steady progress on Vision 2027. We tweak FY25E EPS ~6% (factoring in one-off gain from sale of land in Q2) while largely retaining FY26E and FY27E EPS. After the strong rally (10%/42% in 3M/12M; 4%/10% outperformance over Nifty IT index), we expect the stock to consolidate; maintain ADD with TP of Rs1,700 at 22x Sep-26E EPS.

Results Summary

Revenue grew 1.9% QoQ (0.7% in CC) to USD1.59bn, broadly in line with our estimates. Revenue for IT Services and BPS verticals grew 1.8% and 2.4% QoQ. Following five of the seven verticals saw sequential growth: Hi-Tech and Media (5.7% QoQ), Retail, Transportation and Logistics (5.6%), BFSI (2.4%), Communications (2.7%), and Others (7.8%); whereas Manufacturing and Healthcare & Lifesciences declined 4% and 1.8% QoQ, respectively. Among geographies, Europe and ROW grew 4.5% and 5% QoQ, respectively, while Americas declined 0.7%. EBITM expanded by 110bps QoQ to 9.6% (third quarter of margin expansion) on the back of operating efficiencies through Project Fortius (70bps) and currency benefits (40bps). Net-new deal wins improved sequentially to USD603mn. Total headcount grew 4.5% QoQ/2.4% YoY to 154,273, largely driven by addition in the BPO headcount. Attrition inched up to 10.6% (vs 10.1% in Q1). What we liked: Improved operating performance, steady deal intake. What we did not like: Softness in manufacturing, HLS, and Americas; continued weakness in Top-5 clients.

Earnings Call KTAs

i) Manufacturing reported weak performance in Q2 on the back of softness in Auto (exposure is skewed toward Americas) and weak discretionary spending. ii) Key telecom clients continue to prioritize cost savings, and spending on discretionary projects is constrained. Interest rate cut will provide some relief to telcos which may lead to some stability in spending. Management maintained that company has retained its wallet share; they also indicated that reduction in spending is due to budget cut and insourcing in some cases. It is seeing stabilization in APAC and Europe markets, while Americas is likely to turn around in sometime. iii) BFSI maintained momentum on the back of growing relationship with existing clients and addition of new logos. BFSI is also seeing some improvement in demand and spending particularly in insurance, asset management, and payments. However, it will face some impact of furloughs in Q3. iv) Q3 growth is likely to be impacted by seasonality (furlough and lower working days). v) The management believes levers are in place for margin improvement like subcon optimization, offshoring, automation-led efficiencies in fixed-price projects, pyramid correction, and pricing. Investment in Project Fortius is expected to be slightly higher in H2. vi) It added 2,000 freshers in Q2 and is on track to add 6,000 in FY25. vii) TechM and Google cloud platform partnered to boost GenAI adoption and lead digital transformation for various M&M group entities.