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Published on 13/08/2019 11:26:25 AM | Source: Prabhudas Lilladher Ltd

Accumulate Mphasis Ltd For Target Rs.1,042 - Prabhudas Lilladher

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Growth triggers at place

Mpahsis reported revenue growth of 1.8% in dollar terms at $297mn (Ple: $300mn) & cc growth of 2% QoQ (Ple:3.0%). De-growth in insurance & ICE led to slight miss on revenues. EBIT margins declined by 34 bps sequentially to 15.5% and below our expectations (Ple: 15.6%), within their target band of 15%-17%.

HP channel has shown strong performance in FY18/FY19 & contribution of HP channel now accounts to 28.4% of the total revenues. HP channel has posted strong growth of 2.5% QoQ & 16.5% YoY CC driven by continued participation in service transformation deals.

Direct International (68% of the revenues in Q1FY20) grew at 2.2% QoQ & 9.5% YoY CC driven by combination of growth in the new client portfolio & Blackstone portfolio accounts. Digital risk grew at 1% QoQ CC (~$23mn quarterly run rate) & management expects it to grow at ~$27-29mn in coming quarter. On the back of robust deal wins & strong deal win pipeline, management strong growth from Direct International (above industry average).

Revenues from Blackstone portfolio accounted to 6% of Mphasis’s direct core revenues in Q1FY20 (5% in Q4FY19). Management expects Blackstone portfolio companies to reach 10% of its overall revenues over next few quarters.

TCV deal win for the quarter stood at $151mn (vs $146Mn in Q4FY19), 80% of the deal wins in New-Gen Services (Book to Bill ratio of 0.7x). Deal wins have been going strong for MPHL with wins totaling USD616 mn in FY19, up 12% YoY.

We expect Mpahsis to post 11/12% growth in revenues for FY20E/21E & our EBIT margin estimates stands at ~16.6% for FY20E/21E. We believe recovery in digital business will be gradual while direct core business will be the key growth driver. Good growth in the core business and growing revenue contribution from the Blackstone portfolio provide visibility on growth. We have fine tune our estimates & value Mphasis at 15x FY21E earnings to arrive at revised target price of Rs1042. The stock currently trades at attractive valuation of 14.8/12.7x FY20E/FY21E earnings.

* Slight miss on revenues, inline margins: Cons revenues in dollar terms is $297m, growth of 1.8% QoQ below our estimates (Ple: $300.1Mn). In cc terms also, revenue was below estimates at 2.0% QoQ (Ple: 3%). Gross Margin remained flat QoQ and declined 200 bps YoY to 25.9%. Gross margin for the quarter has been impacted by higher US visa processing fees, mid-cycle salary increments, one-time client specific provision for receivables and transition impact of certain large deals. EBIT margins declined by 34 bps sequentially to 15.5% and below our expectations (Ple: 15.6%), within their target band of 15%-17%.

* Growth mainly driven by Direct channel: Direct International revenue grew 0.9% QoQ and 18.8% YoY on a reported and 2.2% QoQ and 9.5% YoY in CC. DXC/HP revenue grew 2.5% QoQ and 17.5% YoY on a reported basis; In CC terms, growth was 2.5% QoQ and 16.5% YoY. Digital risk grew at 1% QoQ CC (~$23mn quarterly run rate) & management expects it to grow at ~$27-29mn in coming quarter. On the back of robust deal wins & strong deal win pipeline, management strong growth from Direct International (above industry average). Also cited that company has significant deals win from this business in the quarter. Management cited Direct channel to be primary driver for long term growth of the company.

* Weak growth in Insurance, ICE: Among verticals, insurance & ICE posted a weak growth. Insurance de-grew 0.8% in $ terms, ICE 2.3%. Banking grew by 2.6% $ terms as compared to 3.8% in last quarter. Management cited that customers are investing for enhancing digital capabilities and as a result driving growth for the BFSI segment. Mphasis plans to expand into the insurance vertical, which is a strong vertical for DXC. The company also plans to expand into other verticals over time.

* TCV continues to remain strong: Deal wins have been going strong for MPHL with wins totaling USD616 mn in FY19, up 12% YoY. TCV deal win for the quarter stood at $151mn (vs $146Mn in Q4FY19), 80% of the deal wins in New-Gen Services. Book to bill ratio stands at 0.7x. Client additions in this quarter moderated, added 7 in banking, 1in insurance & 5 in ICE. Since last 8- 10 quarters revenue contribution from top, top 5 & top 10 clients is increasing, we believe that will help Mphasis to expand their margins.

* Mphasis has capability to grow DXC channel further: DXC reported 4.5% revenue decline in US$ terms in FY2019. The company has increased focus on cost optimization and has indicated cutting down on subcontractor spends and reduction in vendor count. Despite challenges faced by DXC, Mphasis is confident of gaining share and growing in the account. Management mentioned that spend is of $3bn & they are still just at 10% of that spend. They will plan to use multiple levers such as insourcing etc to gain traction. Mphasis also does not expect pricing pressures from expiry of minimum revenue contribution in 2021 as per MSA with DXC due to the strategic nature of relationship.

 

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