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FY20E likely to be weak…
Mastek is a leading IT player with global operations providing enterprise solutions to government, retail and financial services organisations worldwide. The company has a major presence in the UK (71.5%) followed by the US (26.6%) and Rest of the world (1.9%). Acquisition of TaisTech in January 2017 opened the doors for its expansion in US geography and retail segment. Over H1FY20, slowdown in UK government business (39.6% of revenue) on the back of Brexit concerns have led to overall muted H1 and would likely lead to sluggish FY20E revenue and profitability performance. However, the performance is expected to improve in FY21E and beyond.
Weakness in UK government business to impact FY20E
During FY16-19, the company’s rupee revenue has grown at a healthy 25.2% CAGR. Acquisition of TaisTech got consolidated in FY18 for full year. However, in the near term (H1FY20), deferral of projects and delay in deal closures due to Brexit in UK had led to weak H1. Owing to major proportion of revenues coming from UK geography and government, we expect FY20E to report a revenue decline. The weakness would flow down to EBIT margin and profitability front. Though improving sentiments in UK government business, rising proportion in US business along with cost optimisation measures would led to improving profitability in FY21E. In addition, for uplifting growth, the management intends to go for inorganic route by way of certain acquisitions. However, we have not factored it in any acquisition.
EBIT margins to see dip in FY20E
The EBIT margin for the company is likely to see a dip in FY20E (compared to FY19) on the back of pressure on revenues. However, we expect it to see a marginal improvement in FY21E. Hence, we expect EBIT margins of 10.6%, 10.8% in FY20E, FY21E, respectively.
Valuation & Outlook
The company’s acquisition in the US has suffered on both the revenue and profitability front. Although the US operations have shown some signs of an improvement, it will still take time for a complete turnaround. In addition, the company’s aim to further grow through acquisition poses a risk to profitability and balance sheet. Further, elevated attrition levels (24.1% in Q2FY20) and high dependence on top clients are also near term challenges. At the CMP, the stock is trading at an attractive valuation of ~9x FY21E EPS. While valuations appear to be cheap optically, it is largely on account of weak near term growth outlook coupled with acquisition led strategy. Hence, we recommend REDUCE on the stock with a target price of | 345/share.
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