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Strong 2QFY23 performance; FY23 demand outlook healthy????

Merger remains the key focus area; maintain Neutral on rich valuations

* L&T Infotech (LTI) reported 4.6% QoQ growth in CC terms in 2QFY23 (est. 3.5%). ENU (14%), BFS (5%) and Insurance (4.5%) drove the growth while HiTech saw a muted quarter (-4.7%) in CC terms. EBIT margin expanded 10bp QoQ to 16.1% and was in-line with our estimate of 16.2%. The company announced net new large deal TCV of USD80m and guided at a strong 3QFY23.

* Excluding Hi-Tech, which was hurt by a large account moving to global delivery structure, LTI’s 2QFY23 revenue momentum was broad based and did not indicate any impact from the macro slowdown, despite a higher exposure to the BFSI industry. While there is some caution among clients in manufacturing and macro environment remains challenging, it has not started impacting the deal pipeline or the decision cycle adversely as tech budgets remain intact. The management reiterated LTI’s industry-leading growth guidance for FY23.

* We expect LTI to deliver a strong 3Q and 2HFY23, given the good deal win traction and strong pipeline of >USD2b, leading to a full-year USD revenue growth of 16.6% and FY22-24E USD revenue CAGR of 14%. LTI’s robust employee addition in 1HFY23 and its target to hire over 6,500 freshers in FY23E adds to the demand visibility.

* LTI’s solid margin delivery, growing fresher additions, and favorable pricing should help it deliver an EBIT margin of 16.6% in FY23E, a dip of only 70bp YoY, despite elevated attrition and higher supply cost. This should allow the company to keep its PAT margin in the middle of its 14-15% guidance band.

* Though LTM attrition inched up by 50bp QoQ to 24.3% in 2QFY23, the management suggested that it should start moderating in coming quarters.

* We raised our FY23/FY24 EPS estimates by ~3% each on higher growth. Our margin estimate remains in line with the management’s guidance. Our TP of INR4,720 implies 25x FY24E EPS and pose limited upside potential. Hence, we maintain our Neutral rating on the stock.???

Beat on topline, strong performance continues

* LTI’s revenue from IT Services grew 4.6% QoQ and 21.6% YoY in CC terms, INR EBIT grew 20% YoY, and INR PAT grew 22% YoY in 2QFY23.

* For 1HFY23, USD Revenue/INR EBIT/INR PAT grew 20.6%/23.7%/25.3% YoY, respectively.

* In CC terms, ENU (14%), BFS (5%) and Insurance (4.5%) registered strong growth in 2QFY23, while Hi-Tech (-4.7%) declined.

* Cash & investments stood at INR32.6b and OCF-to-Net income was at 53%.

* PAT rose 23% YoY to INR6.8b, in-line with our estimates.

Key highlights from the management commentary

* Despite the challenging macroeconomic indicators, the decision cycles are still faster than pre-pandemic period. LTI has not seen any impact from weak macro yet, but it is seeing some caution from clients that may impact spending in CY23.

* There are no cancellations, though clients are willing to spread out investments.

* The number of deals with Mindtree has increased and there are now 80+ joint pursuits.

* A lot of margin pressure was coming from high-backfilling costs. These costs are now cooling off.

Industry leading growth to underpin rich valuations

* LTI’s deep domain capabilities, strong partnerships with hyperscalers, and a robust sales engine will continue to result in industry leading growth rates. We expect USD revenue CAGR of ~14% over FY22-24, which is at the top end of our Tier II IT Coverage Universe.

* We continue to expect strong growth and offshoring to drive margin resilience. We maintain our PAT margin estimate within the management’s guided range of 14-15% as LTI’s focus is on driving growth with stable margin.

* While we are confident of the management’s execution capabilities, we remain on the sidelines for the stock, due to a significant valuation re-rating. We value the stock at 25x FY24E EPS. Our TP is INR4,720, which presents limited upside from current levels. Hence, we maintain our Neutral rating on the stock.

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