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Streams of headwinds in the quarter, but profitability maintained: Buy

On cross-currency headwinds and the ramp-down in a key UK government healthcare account, Mastek’s Q1 was weak. For the last three quarters, its US revenue was flattish, reflecting slower deal wins/execution. Management aims at acceleration in both regions by H2. The order backlog was a healthy $191m, up 21% y/y. In FY23, ~18-20% EBITDA margins would be maintained, primarily via better utilisation. We lower our organic FY23e/ FY24e, but integrate the acquisition, resulting in a slight change to estimates. We retain a Buy on anticipated recovery in H2, driven by its order backlog & better execution. However, we lower our target to Rs2,710 (20x FY24e), a 20% cut, reflecting the weak organic performance and cross-currency headwinds.

UK healthcare a drag, UK private picks up pace. Mastek’s Q1 revenues were down 4.7% q/q, but y/y up 4.8%, to $74m. A large UK healthcare account ramped down and the company was faced with delays in deal wins and execution in some of the other accounts. UK private grew and is looking better. Overall, UK was flattish in CC. US was slow, with the focus, to support growth, shifting to the newly acquired Salesforce capability (to be integrated from Q2).

Acquires Metasoftech, US revenue to reach 26-27%. Mastek acquired Metasoftech Solutions for $115m ($80m upfront; $35m earn-out), valuing it at 4.7x EV:sales (FY22) and ~3x FY24e EV:sales. Margins are likely to be similar to those of Mastek, given its India operations. It is the largest independent Salesforce consulting partner in the American Southwest (~320 employees) and operates in the Healthcare, Public Sector and Manufacturing verticals

EBITDA margins resilient, 18-20% outlook maintained. The Q1 FY23 margin was 19.2% (down 160 bps q/q, 268bps y/y) hurt by slow growth, crosscurrency and all-time low 68.7% utilisation. Some of these factors are levers for margin defence. Wage hikes are planned for Q2 and attrition started cooling (25%, vs 28% in Q4).

Organic estimates lowered, TP Rs2,710 (20x FY24e). We have lowered our FY23e/FY24e ~2%/5%, reflecting the weak revenue performance (down 5- 7%). This gets offset by the Metasoftech integration. The stock now trades at 15x FY24 P/E, which we find attractive. Risk: M&A integration-related.

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