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Steady topline growth: margin pressure to soften

Tech Mahindra Ltd. develops and markets software for TEM (Telecommunications equipment manufacturers), telecom service providers, software vendors, and systems integrators.

• Tech Mahindra Ltd posted Q1FY23 revenue of Rs. 12,708cr (+24.6% YoY). Consolidated PAT stood at Rs 1,132cr, down 24.8% QoQ and 16.4% YoY

. • EBIT margin dipped 220bps QoQ to 11.0% owing to partial wage revision, lower utilization, and normalization in SG&A.

• We expect topline to grow steadily, driven by healthy deal wins. Margins may temporarily come under pressure in the near term owing to subcontracting costs. However, the long-term outlook remains positive with company benefiting from large deal wins, and a strong dollar. We retain our BUY rating on the stock with a revised target price of Rs. 1,199 based on 16x FY24E adj. EPS.

Broad-based growth across verticals drives topline

Revenue expanded to Rs. 12,708cr in Q1FY23 (+24.6% YoY) with balanced growth across the IT and BPO segments. Revenue from the BPO segment grew 35.9% YoY to Rs 1,606cr and that from the IT business grew 23.1% YoY to Rs 11,102cr. In dollar terms, TECHM reported revenue of $ 1,632mn, up 3.5% QoQ CC in Q1FY23. Vertical-wise, revenue growth was led by Manufacturing, which grew 3.9% QoQ. The Retail and Technology verticals logged growth of 5.5% and 6.4% QoQ, respectively, while Communications and BFSI were laggards with a mere growth of 1% and a decline of 2.6% QoQ, respectively.

Margins under pressure

EBIT margin dipped 220 bps QoQ to 11.0% owing to partial wage revision, lower utilization, and normalization in SG&A. EBIT margin was crimped by 100 bps owing to higher salary, sub-contractor cost and large deal transition cost; by 80 bps because of visa cost, by 100bps owing to normalization of SG&A, and mitigated by 50 bps on account of higher pricing. The company recorded EBITDA of Rs 1,880cr (+0.2% YoY). However, EBITDA margin declined by 360bps YoY to 14.8%. Employee benefit expenses rose 26.9% YoY and 8.3% QoQ. PAT declined by 16.4% to Rs 1,132cr YoY, impacted by lower other income.

Key concall highlights

• Tech Mahindra reported TCV of $ 802mn in Q1FY23, down 21% QoQ.

• During the quarter, total headcount stood at 158,035, an increase of 6,862 QoQ. Attrition rate declined to 22% (vs. 24% in Q4FY22). Utilization level at 82.8%

. • Total number of active clients rose to 1,262

. • 5G spend remains robust and company is focused on capacity building and carrier addition

. • The management aims to raise margin by 100-150bps sequentially every quarter.

Valuation

We expect the margin pressure to continue in short term due to increased subcontracting costs, lower utilization and healthy deal wins. Traction seen across verticals led by investments in 5G, automation, network, and cloud will aid its long-term performance. We reiterate our BUY rating on the stock with a revised TP of Rs. 1,199, based on 16x FY24E adj. EPS.

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