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In-line operating performance

* Mphasis delivered in-line operating performance in Q1. Gross revenue grew by 1.2% QoQ to USD435.9mn, reflecting some growth moderation due to the weakness in the mortgage and Europe businesses, though it came in broadly in line with our expectations. EBITM expanded by 10bps QoQ to 15.3%, 10bps above our estimate.

* Direct segment revenues grew 5.0% QoQ (2.4% CC) to Rs31.7bn. Broad-based demand, healthy new-deal wins (USD302mn in Q1) and a robust deal pipeline should help sustain revenue growth. Management is confident of sustaining healthy growth in Direct in FY23.

* DXC revenues declined by 4.4%/34.6% QoQ/YoY (CC 6.7%/36.7%) to ~Rs1.6bn. The company expects increasing convergence of overall revenue growth with that of Direct going forward, as the share of DXC revenue falls below mid-single digits.

* We cut FY23/FY24/FY25E EPS by 0.7%/1.5%/1.4%, factoring in the Q1 performance. The weakness in the mortgage business should weigh on near-term revenue growth trajectory. We maintain Buy with a TP of Rs2,800 (25x Jun’24E EPS), considering continued wallet share gains and a steady expansion in addressable markets with competency build-up.

What we liked? Healthy deal intake (USD302mn); strong deal pipeline (up 6%/10% QoQ/YoY); and steady progress across client buckets

What we did not like? Softness in BFS and Insurance.

Revenue growth momentum in Direct business moderates due to weakness in Mortgage and Europe: Gross revenues rose 4.5% QoQ to Rs33.9bn, driven by continued healthy demand for cloud migration, core modernization and customer experience initiatives. Revenue growth was driven by Emerging industries (10.7% QoQ); Logistics and Transportation (6.0); and TMT (5.5%). Geographically, growth was led by the Americas (5.6% QoQ) and India (6.8%), while EMEA saw a sequential decline of 4.8%. Mphasis signed net new deals worth USD302mn (84% of the deal wins in the new-gen services), including 1 large deal. Management indicated that the company won over USD60mn TCV cloud transformation deal in July. It expects tech spends to remain resilient despite macro uncertainties and cost focus amid high inflation. The mortgage business is seeing headwinds from an uptick in interest rates in the US. Management has refrained from giving exact exposure to the mortgage business, but indicated that the refinancing business is less than half of the overall mortgage business currently. Mphasis registered improvements across client buckets in Q1 on the back of wallet share gains and a proactive deal-constructing approach. Despite challenges in Mortgage and Europe, management is confident about sustaining healthy revenue growth momentum in the Direct business, supported by healthy demand, continued market share gains across clients, robust spending plans of its high-quality client base, expansion of the addressable market with competency build-up, solid deal wins, healthy deal pipeline, steady progress in client mining across buckets, and consistent new client wins

EBITM expanded 10bps QoQ to 15.3%; retained 15.25-17% EBITM guidance for FY23: EBITM expanded by 10bps QoQ to 15.3% in Q1. After adjusting for M&A-related charges, it was down by 10bps QoQ to 15.8%. Mphasis has guided for EBITM to be in the range of 15.25-17% through all 4 quarters of FY23, considering the benefits accruing from employee pyramid correction, higher utilization, offshoring, pricing benefits, and lower ESOPs and amortization charges, which should offset headwinds emanating from wage hikes, backfilling costs, planned investments in capability augmentation, and geographic expansion

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