1QFY2017 Result Update | IT

August 10, 2017

Tech Mahindra

BUY

CMP

`495

Performance Highlights

Target Price

`700

(` cr)

1QFY17

4QFY16

% chg (QoQ)

1QFY16

% chg (YoY)

Investment Period

12 Months

Net revenue

6,921

6,884

0.5

6,294

10.0

EBITDA

1,029

1,151

(10.6)

935

10.1

Stock Info

EBITDA margin (%)

14.9

16.7

(185)bps

14.9

1bps

Sector

Adj. PAT

750

858

(12.6)

676

10.9

Market Cap (` cr)

48,116

Source: Company, Angel Research;

Net Debt (` cr)

(6,370)

For 1QFY2017, Tech Mahindra’s revenue came in at US$1,032mn V/s

Beta

0.8

US$1,027mn expected and V/s US$1,023mn in 4QFY2016, a QOQ growth of

52 Week High / Low

582/408

0.9%, driven by USA (which was 49.0% of sales V/s 46.8% in 4QFY2016), while

Avg. Daily Volume

184,948

ROW, constituting ~22.8% of sales V/s 24.7% in 4QFY2016 was a drag. On the

Face Value (`)

operating front, the EBIT margin came in at 12.0% V/s 12.3% expected and V/s

BSE Sensex

28,078

13.7% in 4QFY2016, QoQ dip of 161bp. Thus, the Adj. net profit came in at

Nifty

8,683

`750cr V/s `816cr expected and V/s `858cr in 4QFY2016, a QoQ de-growth of

Reuters Code

TEML.BO

12.6%. We maintain our Buy.

Bloomberg Code

TECHM@IN

Result highlights: The company posted sales of ( in US$ terms ), of US$1,032mn

V/s US$1,027mn expected and V/s US$1,023mn in 4QFY2016, a QoQ growth

Shareholding Pattern (%)

of 0.9%, driven by USA (which was 49.0% of sales V/s 46.8% in 4QFY2016),

Promoters

36.3

while ROW (constituting ~22.8% of sales V/s 24.7% in 4QFY2016) was a drag.

MF / Banks / Indian Fls

12.4

In terms of industries, Manufacturing and BFSI were the key drivers of the top-line

FII / NRIs / OCBs

40.3

of the company. Manufacturing constituted ~18.1% of sales V/s 17.1% in

Indian Public / Others

11.0

4QFY2016, while BFSI contributed ~11.3% of sales V/s 10.6% in 4QFY2016.

On the operating front, the EBIT margin came in at 12.0% V/s 12.3% expected

and V/s 13.7% in 4QFY2016, QoQ dip of 161bp. Thus, the Adj. net profit came

Abs.(%)

3m 1yr

3yr

in at `750cr V/s `816cr expected and V/s `858cr in 4QFY2016, a QoQ

Sensex

11.3

(0.4)

46.5

de-growth of 12.6%.

Tech Mahindra

12.0

(12.4)

73.0

Outlook and valuation: We expect a CAGR of 10.6% and 12.8% in USD and

INR revenue respectively over FY2016-18E.The PAT is expected to grow at a

3-year price chart

CAGR of 13.2% over FY2016-18E. We maintain our Buy on the stock.

800

700

Key financials (Consolidated, Indian GAAP)

600

Y/E March (` cr)

FY2015

FY2016

FY2017E

FY2018E

500

Net sales

22,621

26,494

30,347

33,685

400

300

% chg

20.1

17.1

14.5

11.0

200

Net profit

2,628

3,118

3,633

3,999

100

% chg

(10.4)

18.7

16.5

10.1

EBITDA margin (%)

18.4

16.3

17.0

EPS (`)

27.1

32.2

37.5

41.3

P/E (x)

18.2

15.4

13.2

12.0

Source: Company, Angel Research

P/BV (x)

3.9

3.3

2.9

2.5

RoE (%)

21.5

21.7

21.8

20.7

RoCE (%)

24.0

20.8

22.4

21.9

Sarabjit kour Nangra

EV/Sales (x)

2.1

1.7

1.4

1.2

+91 22 3935 7800 Ext: 6806

EV/EBITDA (x)

11.4

10.3

8.3

7.1

[email protected]

Source: Company, Angel Research; Note: CMP as of August 5, 2016

Please refer to important disclosures at the end of this report

Tech Mahindra | 1QFY2017 Result Update

Exhibit 1: 1QFY2017 performance (Consolidated, Indian GAAP)

(` cr)

1QFY17

4QFY16

% chg (qoq)

1QFY16

% chg (yoy)

FY16

FY15

% chg (yoy)

Net revenue

6,921

6,884

0.5

6,294

10.0

26,494

22,621

17.1

Cost of revenue

4,881

4,780

2.1

4,451

9.7

18,323

12,911

41.9

Gross profit

2,040

2,103

(3.0)

1,843

10.7

8,172

9,710

(15.8)

SG&A expense

1,011

952

6.2

908

11.4

3,853

5,558

(30.7)

EBITDA

1,029

1,151

(10.6)

935

10.1

4,318

4,152

4.0

Dep. and amortization

202

218

(7.2)

173

16.7

762

611

24.7

EBIT

827

933

(11.4)

762

8.5

3,556

3,541

0.4

Interest

(17.0)

128.3

220.3

Other income

246

160

53.3

137

79.4

557

106

425.1

PBT

1,046

1,061

(1.4)

887

17.9

4,017

3,617

11.1

Income taxes

247

181

210

17.5

860

960

(10.4)

PAT

799

880

(9.2)

677

18.0

3,157

2,657

18.8

Minority interest

(46)

(23)

106.4

(100.0)

PAT after minority interest

752

858

(12.3)

675

11.5

3,157

2,628

20.1

Profit from associates

(2)

Exceptional item

Reported PAT

750

858

(12.6)

676

10.9

3,118

2,628

18.6

Adj. PAT

750

858

(12.6)

676

10.9

3,118

2,628

18.6

Diluted EPS

7.8

8.9

(12.6)

7.0

10.9

32.4

27.3

18.6

Gross margin (%)

29.5

30.6

(108)bp

29.3

20bp

30.8

42.9

(1208)bp

EBITDA margin (%)

14.9

16.7

(185)bp

14.9

1bp

16.3

18.4

(206)bp

EBIT margin (%)

12.0

13.6

(161)bp

12.1

(16)p

13.4

15.7

(223)bp

PAT margin (%)

10.8

12.5

(162)bps

10.7

10ps

11.8

11.6

15bp

Source: Company, Angel Research

Exhibit 2: 1QFY2017 - Actual Vs Angel estimates

(` cr)

Actual

Estimate

% Var

Net revenue

6,921

6,880

0.6

EBITDA margin (%)

14.9

15.3

(43)bps

PAT

750

816

(8.1)

Source: Company, Angel Research

Revenue growth led by USA

For 1QFY2017, the company posted sales of `6,921cr V/s `6,880cr expected and

V/s `6,884cr in 4QFY2016, a QoQ growth of 0.5%. In US$ terms, revenues came

in at US$1,032mn V/s US$1,027mn expected and V/s US$1,023mn in

4QFY2016, a QoQ growth of 0.9%.

The top-line growth was driven by USA (which was 49.0% of sales V/s 46.8% in

4QFY2016), while ROW was a drag, constituting

~22.8% V/s

24.7% in

4QFY2016. In terms of industries, Manufacturing and BFSI were the key drivers of

top-line. Manufacturing constituted ~18.1% of sales V/s 17.1% in 4QFY2016,

while BFSI contributed ~11.3% of sales V/s 10.6% of sales in 4QFY2016.

During the quarter, the Communication vertical’s revenue was flat despite

seasonal strength in Comviva. The company is in the process of cutting down on

non-core/non-profitable businesses in LCC, which caused a decline in run-rate to

~USD320mn compared to ~USD400mn when the company was acquired.

Growth in the Manufacturing vertical (0.8% QoQ) continued to remain weak on

account of pressure in the oil & gas sector.

August 10, 2017

Tech Mahindra | 1QFY2017 Result Update

Exhibit 3: Trend in revenue growth

1,040

9.0%

8.0%

1,030

6.5%

7.0%

1,020

6.0%

1,010

5.0%

1,000

4.0%

990

3.0%

980

2.2%

2.0%

970

0.8%

1.0%

0.5%

0.4%

960

0.0%

1QFY16

2QFY16

3QFY16

4QFY16

1QFY17

Sales ( in US $mn)

qoq (%)

Source: Company, Angel Research

Exhibit 4: Growth in industry segments

Particulars

% to revenue

% growth (QoQ)

% growth (YoY)

Telecom

49.2

(2.5)

(2.6)

Manufacturing

18.1

6.8

10.4

TME

7.5

0.9

7.1

BFSI

11.3

7.5

17.8

RTL

6.5

5.8

4.3

Others

7.3

(4.4)

17.1

Source: Company, Angel Research

In terms of geographies, ROW posted a de-growth of 6.9% QoQ. while Europe

and the US posted a 0.2% QoQ and 5.6% QoQ growth, respectively. The 6.9%

QoQ decline in ROW is owing to decline in Comviva, excluding which momentum

has been picking up.

Exhibit 5: Growth trend in geographies

Particulars

% to revenue

% growth (QoQ)

% growth (YoY)

Americas

49.0

5.6

7.1

Europe

28.3

0.2

0.4

RoW

22.8

(6.9)

3.8

Source: Company, Angel Research

August 10, 2017

Tech Mahindra | 1QFY2017 Result Update

Hiring and client metrics

During the quarter, the company reported a net addition of 1,784 employees,

taking its overall headcount to 1,07,216. The BPO headcount currently stands at

27, 326 and was the only division to witness additions. Attrition (on LTM basis) was

at 21%.

Exhibit 6: Employee metrics

Particulars

1QFY16

2QFY16

3QFY16

4QFY16

1QFY17

Software professionals

71,997

71,657

71,892

72,125

73,590

BPO professionals

24,394

26,513

28,279

27,254

27,326

Sales & support

7,232

7,065

6,966

6,053

6,300

Total employees

1,03,673

1,05,235

1,07,137

105,432

107,216

Attritions (%)

Source: Company, Angel Research

Exhibit 7: Trend in utilization rate

1QFY16

2QFY16

3QFY16

4QFY16

1QFY17

Source: Company, Angel Research

The company added 11 new clients during the quarter, taking the active client

base to 818 V/s 807 in 4QFY2016, with 2 clients added in US$20-50mn+

bracket and other additions mainly in the US$5-10mn+ bracket.

Exhibit 8: Client metrics

Particulars

1QFY16

2QFY16

3QFY16

4QFY16

1QFY17

Total active clients

788

767

801

807

818

US$1mn-5mn

196

195

221

207

197

US$5mn-10mn

US$10mn-20mn

US$20mn-50mn

US$50mn+

Source: Company, Angel Research

August 10, 2017

Tech Mahindra | 1QFY2017 Result Update

Operating margin dips

On the operating front, the EBDITA margin came in at 14.9%, a qoq dip of

185bps, while the EBIT margin came in at 12.0% V/s 12.1% in 1QFY2016, while it

was down qoq 161bps. Margins during the quarter were impacted by seasonal

weakness in Comviva, visa expenses , and positively operational efficiencies.

Exhibit 9: Margin trend (%)

35.3

32.0

31.3

29.3

29.5

16.6

16.9

16.7

14.9

12.0

13.7

14.4

13.6

12.1

1QFY16

2QFY16

3QFY16

4QFY16

1QFY17

Gross margin

EBITDA margin

EBIT margin

Source: Company, Angel Research

Investment arguments

Growth prospects decent; Brexit a near term concern: The Management is more

optimistic about the Communications vertical (excluding LCC, where a lot of

portfolio rationalization has taken place). In the near term, the Management feels

Brexit could cause temporary instability and uncertainty; however it is too early to

call out any immediate business implications. We expect a CAGR of 10.6% and

12.8% in USD and INR revenue, respectively, over FY2016-18E.

Deal pipeline healthy: Tech Mahindra remains confident of improving revenue

growth, citing healthy deal pipeline along with pick up in discretionary spending,

primarily in the US. The Management sounded confident of demand from BFSI,

Healthcare, Manufacturing and Retail. Tech Mahindra is following a two-pronged

strategy to expand its enterprise business ie providing end-to-end offerings in

leadership areas like Manufacturing and following a niche offerings-led entry

strategy in areas like BFSI where it is a challenger. Better cross-sell of services can

help grow marquee accounts post the recent acquisitions. We expect the enterprise

segment growth to be led by broader revival in the markets and deepening of

existing relationships. During 1QFY2017 the company won deals worth TCV of

US$300mn. The pipeline has grown by 20% QoQ and includes multiple mid-large

deals. The maximum growth in pipeline has been from out of the Americas. APAC

too has been showing increasing traction.

Inorganic growth initiatives to augment well for company: The company has been

active in the M&A space, with it having acquired Satyam a few years back, to

acquiring LCC and Softgen recently. Softgen’s and LCC’s acquisition was

consolidated in 4QFY2015. LCC is one of the world’s largest independent global

providers of network engineering services to the telecommunications industry with

August 10, 2017

Tech Mahindra | 1QFY2017 Result Update

an estimated annual revenues of more than US$400mn (CY2014), with workforce

of over 5,700 network professionals across five continents and more than 50

countries. With this acquisition, Tech Mahindra will also be addressing a rapidly

growing market opportunity as telecommunications companies and enterprises

accelerate their network upgrade cycle.

Outlook and valuation

Given the recent acquisitions and healthy order pipeline, the company is expected

to post a healthy US$ and INR CAGR of 10.6% and 12.8%, respectively, over

FY2016-18E. However, the acquisition of LCC will be margin dilutive in the near

term, leading the FY2016 EBDIT margin to drop to 16.3% from 22.2% in FY2014.

The company, given its success in turnaround of its earlier acquisition - Satyam,

believes it would be able to do the same with the recent acquisitions and would be

able to get close to achieving the 20% EBIT levels in future. The company is one of

the fastest growing IT companies. Given the conducive valuation on EV/sales front,

where it trades at a significant discount to its peers, we believe the stock should

witness uptrend once the profitability returns to its mean average. We recommend

a Buy rating on the stock.

Exhibit 10: Key assumptions

FY2017E

FY2018E

Revenue growth (US$)

10.3

11.0

USD-INR rate (realized)

67.5

Revenue growth (`)

14.5

11.0

EBITDA margin (%)

17.0

Tax rate (%)

23.4

EPS growth (%)

16.5

10.1

Source: Company, Angel Research

Exhibit 11: One-year forward PE (x)

800

600

400

200

Price

20x

17x

14x

11x

Source: Company, Angel Research. Note: P/E includes profits of Mahindra Satyam from FY2012

August 10, 2017

Tech Mahindra | 1QFY2017 Result Update

Exhibit 12: Recommendation summary

Company

Reco

CMP Tgt Price Upside

FY2018E FY2018E

FY2016-18E

FY2018E FY2018E

(`)

(%)

EBITDA (%)

P/E (x)

EPS CAGR (%)

EV/Sales (x)

RoE (%)

HCL Tech

Buy

822

1,000

21.7

20.5

12.8

9.6

1.4

17.9

Infosys

Accumulate

1,067

1,370

28.4

27.5

14.8

10.4

2.6

22.3

TCS

Buy

2,649

3,004

13.4

27.3

17.6

13.0

3.6

35.5

Tech Mahindra

Buy

495

700

41.4

17.0

12.0

13.2

1.1

20.7

Wipro

Buy

545

680

24.8

17.9

14.8

9.9

2.1

19.6

Source: Company, Angel Research.

Company Background

Tech Mahindra was founded in 1986 as a joint venture between Mahindra Group

and British Telecom (BT) to service the latter. Later on, the company started

servicing other external clients as well (solely in the telecom industry).In June 2009,

Tech Mahindra acquired a 42.7% stake in erstwhile Satyam Computers (now

Mahindra Satyam) and now the latter is entirely merged with the company.

The company has recently acquired the companies - LCC and Softgen. These two

acquisitions have been consolidated in 4QFY2015. LCC is one of the world’s

largest independent global providers of network engineering services to the

telecommunications industry. LCC is estimated to have annual revenues of more

than US$400mn (CY2014), with workforce of over 5,700 network professionals

across five continents and more than 50 countries.

August 10, 2017

Tech Mahindra | 1QFY2017 Result Update

Profit and loss statement (Consolidated, Indian GAAP)

Y/E March (` cr)

FY2014

FY2015 FY2016 FY2017E FY2018E

Net sales

18,831

22,621

26,494

30,347

33,685

Cost of revenues

12,427

15,920

18,323

20,333

22,569

Gross profit

6,404

6,701

8,172

10,015

11,116

% of net sales

34.0

29.6

30.8

33.0

SG&A expenses

2,220

2,549

3,853

4,856

5,390

% of net sales

11.8

11.3

14.5

16.0

EBITDA

4,184

4,153

4,318

5,159

5,726

% of net sales

22.2

18.4

16.3

17.0

Depreciation and amortization

522

611

762

819

910

% of net sales

2.8

2.7

2.9

2.7

EBIT

3,662

3,541

3,556

4,340

4,817

% of net sales

19.4

15.7

13.4

14.3

Interest expense

Other inc., net of forex gain/(loss)

233

106

557

Profit before tax

3,815

3,618

4,017

4,800

5,277

Provision for tax

752

960

860

1,123

1,235

% of PBT

19.7

26.5

21.4

23.4

PAT

3,063

2,659

3,157

3,677

4,043

Exceptional item

Minority interest

Reported PAT

3,029

2,628

3,118

3,633

3,999

Adjusted PAT

2,933

2,628

3,118

3,633

3,999

Fully diluted EPS (`)

30.3

27.1

32.2

37.5

41.3

August 10, 2017

Tech Mahindra | 1QFY2017 Result Update

Balance sheet (Consolidated, Indian GAAP)

Y/E March (` cr)

FY2014

FY2015

FY2016

FY2017E

FY2018E

Equity capital

234

480

484

Preference capital

Share premium

Profit and loss

8,947

11,768

13,882

16,157

18,796

Other reserves

Net worth

9,182

12,249

14,367

16,641

19,280

Secured loans

309

621

806

Unsecured loans

Total debt

363

675

859

860

861

Other long term liability

376

377

Long-term provisions

414

415

Minority interest

144

160

203

145

Amount pending investigation

1,230

895

Total capital employed

11,709

14,768

17,114

19,333

21,973

Gross block

5,460

7,811

8,811

9,811

10,811

Accumulated dep.

(2,866)

(3,477)

(4,239)

(5,058)

(5,968)

Net block

2,594

4,334

4,572

4,753

4,844

Capital WIP

266

267

268

Total fixed assets

2,861

4,601

4,839

5,020

5,112

Investments

2,103

Long term loans and adv.

914

1,306

1,502

1,727

1,986

Interest in TML benefit trust

Deferred tax asset, net

383

390

Other non-current assets

Inventories

Sundry debtors

4,349

5,206

5,987

6,896

7,980

Cash and cash equv.

4,756

2,405

5,127

6,905

9,118

Loans and advances

2,616

3,813

2,998

2,999

Current investments

Unbilled revenue

Sundry creditors

(1,549)

(1,654)

(1,903)

(2,188)

(2,516)

Other liabilities

(1,415)

(1,627)

(1,871)

(2,152)

(2,474)

Provision

(1,267)

(1,799)

(2,068)

(2,379)

(2,736)

Working capital

7,500

6,368

8,280

10,092

12,382

Total capital deployed

11,709

14,768

17,114

19,333

21,973

August 10, 2017

Tech Mahindra | 1QFY2017 Result Update

Cash flow statement (Consolidated, Indian GAAP)

Y/E March (` cr)

FY2014

FY2015

FY2016

FY2017E FY2018E

Pre tax profit from operations

3,063

2,659

3,157

3,677

4,043

Depreciation

522

611

762

819

910

Exp. (deffered)/written off/others

Pre tax cash from operations

3,585

3,270

3,919

4,496

4,952

Other income/prior period ad

233

106

557

Net cash from operations

3,818

3,376

4,475

5,053

5,509

Tax

(752)

(960)

(860)

(1,123)

(1,235)

Cash profits

3,066

2,417

3,615

3,930

4,274

Sundry Debtors

(980)

(857)

(781)

(909)

(1,085)

Inventories

(15)

Loans and advances

(1,324)

(1,197)

815

(1)

Sundry creditors

692

105

248

285

328

Others

(623)

212

244

281

323

Net trade working capital

(2,233)

(1,752)

540

(344)

(434)

Cashflow from operating activities

832

665

4,155

3,586

3,840

(Inc)/dec in fixed assets

(369)

(1,740)

(238)

(182)

(91)

(Inc)/dec in investments

(2,067)

(Inc)/dec in other non current assets

104

Cashflow from investing activities

(265)

(3,791)

(238)

(182)

(91)

Inc/(dec) in debt

490

(311)

(185)

(1)

Inc/(dec) in deferred revenue

Inc/(dec) in equity/premium

(2)

Inc/(dec) in minority interest

(9)

(16)

(43)

Addition to reser. on amalgamation

Dividends

(231)

(679)

(1,359)

Others

479

1,781

392

(325)

(176)

Cashflow from financing activities

726

775

(1,195)

(1,626)

(1,535)

Cash generated/(utilised)

1,294

(2,351)

2,722

1,778

2,213

Cash at start of the year

3,463

4,756

2,405

5,127

6,905

Cash at end of the year

4756

2405

5127

6905

9118

August 10, 2017

Tech Mahindra | 1QFY2017 Result Update

Key Ratios

Y/E March

FY2014

FY2015

FY2016

FY2017E

FY2018E

Valuation ratio (x)

P/E (on FDEPS)

16.3

18.2

15.4

13.2

12.0

P/CEPS

13.5

14.8

12.4

10.8

9.8

P/BVPS

5.2

3.9

3.3

2.9

2.5

Dividend yield (%)

1.0

2.4

1.2

1.4

EV/Sales

2.4

2.1

1.7

1.4

1.2

EV/EBITDA

10.6

11.4

10.3

8.3

7.1

EV/Total assets

15.6

10.3

9.2

8.5

7.9

Per share data (`)

EPS

30.3

27.1

32.2

37.5

41.3

Cash EPS

36.7

33.5

40.1

46.0

50.7

Dividend

5.0

12.0

6.0

7.0

Book value

94.9

126.6

148.4

171.9

199.2

Dupont analysis

Tax retention ratio (PAT/PBT)

0.8

0.7

0.8

Cost of debt (PBT/EBIT)

1.0

1.1

EBIT margin (EBIT/Sales)

0.2

0.1

Asset turnover ratio (Sales/Assets)

6.6

4.9

5.5

6.0

6.6

Leverage ratio (Assets/Equity)

0.3

0.4

0.3

Operating ROE (%)

33.0

21.5

21.7

21.8

20.7

Return ratios (%)

RoCE (pre-tax)

31.3

24.0

20.8

22.4

21.9

Angel RoIC

54.8

29.3

30.3

35.7

38.3

RoE

31.9

21.5

21.7

21.8

20.7

Turnover ratios( x)

Asset turnover (fixed assets)

6.6

4.9

5.5

6.0

6.6

Receivables days

Payable days

August 10, 2017

Tech Mahindra | 1QFY2017 Result Update

Research Team Tel: 022 - 39357800

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Tech Mahindra

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Ratings (Based on expected returns

Buy (> 15%)

Accumulate (5% to 15%)

Neutral (-5 to 5%)

over 12 months investment period):

Reduce (-5% to -15%)

Sell (< -15)

August 10, 2017