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Weak Q3 but order backlog reflects increasing momentum; Buy

Mastek’s Q3 was weaker than expected on dollar organic growth (down 1.7% q/q, 4.8% y/y) but the order backlog was a strong $206m, reflecting good deals won in Q3. Meta Soft was fully integrated in Q3, and is likely to boost US growth in FY24 (lower organically in Q3). Overall, Mastek should return to growth in Q4 and cross-currency along with greater utilisation would help it regain margin momentum. We retain our FY24e/FY25e EBIT but lower other income leading to a ~4% cut in EPS. The TP we accordingly revise to Rs.2,180 (16.5x FY25e) from Rs.2280 earlier

Weak Q3; return to growth likely in Q4. Mastek’s Q3 growth was soft, continuing the last three-quarter trend, taking 9M revenues to $232m, up 7% y/y and flat organically in dollar terms. In CC, FY23 growth is likely to be ~9% organic. Management is positive on government (largely UK but also US and ME now) and Manufacturing & Tech verticals ahead, while quarterly growth rates were not comparable. The positive in Q3 was a rise in the order backlog, which suggests that Mastek would return to growth in Q4. US declined ~10% y/y organic but the managed services portion of the business has improved, providing stability to the business ahead.

Margins holding up despite revenue shortfall. The Q3 FY23 margin was 17.3%, flat q/q despite a drop in organic revenues and an additional month of the Meta Soft integration. In the last one year, the company lost ~420bps on higher employee costs, acquisition integration (100-150bps est.), and cross currency. Of the three, two factors have turned positive, leading to margin tailwinds ahead. Overall, we expect margins to hold near the upper end (18-19%) of management’s 17-19% guidance.

Estimates, target lowered ~4%. Adjusting for the weak organic performance we reduce our FY24e/FY25e ~4%. The reduction in sales estimate was offset by the better margin performance and, hence, EBIT level changes are not much. However, lower other income feeds into lower EPS estimates. The stock now trades at 13x FY25 P/E, which we find attractive. Our target is based on 16.5x FY25e EPS, unchanged, suggesting ~30% potential. Risks: M&A integration-related, worsening environment in the UK.

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