Published on 13/08/2019 11:06:39 AM | Source: Prabhudas Lilladher Ltd

Hold Persistent Systems Ltd For Target Rs.520 - Prabhudas Lilladher


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Ongoing transition to weigh on performance

Persistent reported weak numbers in Q1FY20 due to a sequential decline in its Digital (-6% QoQ; ~23% of sales) and Accelerite (-40% QoQ; ~4% of sales) businesses. Overall, revenues in USD terms grew 1.1% QoQ, while normalized EBIT margins fell 190bps QoQ to 11.0%. EBIT margins declined due to visa costs (-70bps), utilization drop (-50bps) and INR appreciation (- 30bps). Going ahead, it expects a 250-275bps wage hike headwind in Q2FY20.

Persistent has not been able to scale up its digital business as compared to others midcap IT players. For a firm that was prompt in identifying the Digital opportunity and signed a promising IOT deal, is witnessing a slow down to single digits while other larger peers are accelerating- this is a sign of severe execution weakness. We believe its project based nature & lack of strong sales engine has led to poor sales performance. Quarterly fluctuations are inherent in products & IP led business. Management sees revenue trajectory improving in FY20E. We expect the IBM/IP segment to see revenue acceleration from FY21E. Although the new leadership is expected to take measures to revive the company’s growth, FY20 could continue to be a year of transition. Persistent is currently trading at 12.2x & 10.9 FY20/21E EPS respectively. Due to volatility in revenue performance, Persistent will continue to trade on lower multiples. We expect revenue CAGR of 5% from FY19-FY21E & our revised TP stands at Rs. 520 (11x FY21E EPS) (earlier: Rs. 618). We have Hold rating on Persistent & stock trades at 12.2X/ 10.9X on EPS of Rs. 45/ Rs. 47 for FY20E/21E.

* Weak Revenue performance led by IBM/IP business: Persistent reported flat growth in revenues of 1.1% QoQ , -3.2% YOY to USD 119. We saw a weak growth momentum from digital & Accelerite business declining at 6% & 40% QoQ respectively. ISV/Enterprise/IP revenue grew flat by -0.4%/ +3.0% / +0.6% QoQ. Vertical-wise, BFSI revenue rose by a healthy 3.7% QoQ and Tech & Emerging Verticals by 1.1% QoQ, while Healthcare & Life Sciences declined by 2.5% QoQ.

* Margins remained under pressure: EBIT margins declined due to visa costs (-70bps), utilization drop (-50bps) and INR appreciation (-30bps). Going ahead, it expects a 250-275bps wage hike headwind in Q2FY20, while the absence of visa costs and utilization improvement scope should act as tailwinds. However, the absence of visa costs and scope of utilization improvement should help protect margins to some extent in Q2FY20E, in our view.

* Digital revenue growth continues to disappoint: Digital revenues for the June quarter declined 5.9% QoQ in dollar terms, a sharp contrast to the industrywide trend of strong digital growth. Moreover, revenue growth was limited to the top 5 clients, with the top 6 to 10 accounts declining 20.7% QoQ and non-top 10 client revenues down 3.8% QoQ (in dollar terms). Decline in Digital revenue was a major disappointment


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