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Strong 4Q and guidance; valuation leaves little room for upside

Robust FY22 performance priced in

* Coforge Ltd (COFORGE) reported industry-leading revenue growth of 7.1% QoQ (USD) in 4QFY21, above our estimates. This was driven by deal rampups in the EMEA region (+19% QoQ). The company reported yet another quarter of strong order intake of USD201m, implying 1.2x book-to-bill (consistent over the last four quarters).

* The EBITDA margin (pre-RSU and acquisition expense) remained stable at 18% despite selective wage hikes and one-time bonuses rendered to 85% of employees. Margins were aided by the highest ever utilization of 81% (+190bp QoQ) and an increase in offshoring (+100bp).

* The management’s FY22 organic revenue growth guidance of ~17% YoY CC indicates the company’s strong topline performance would continue. Guidance is aided by a strong deal pipeline and expected rebound in the Travel vertical – the company is seeing signs of recovery in the segment, with two large wins reported in 4Q.

* The recent acquisition of SLK Global is expected to grow faster than overall growth, adding c11% inorganic growth in FY22. We estimate Coforge to deliver consolidated growth of 30% in FY22, leading to an FY21–23 USD organic revenue CAGR of 20%.

* Coforge is confident of delivering an FY22 EBITDA margin (pre-RSU) of 19% – above the earlier long-term guidance of 18% – as favorable operating leverage would compensate for higher employee additions and wage increases on account of a supply-constrained environment.

* However, the impact of higher EBITDA would be offset by an increase in depreciation and the impairment of the SLK Global acquisition. We expect the FY22 EBIT margin to improve 50bp YoY, resulting in 33% YoY PAT growth.

* The stock currently trades at 26.2x FY23E EPS, a 60% premium to its fiveyear P/E of 16x. This fairly factors in strong growth delivery from Coforge.

* We upgrade our FY22–23E EPS estimates by 6–12%. Our TP of INR3,240/share implies 25x FY23E EPS. Maintain Neutral on fair valuations.

Operationally above estimates; growth led by EMEA

* Coforge reported revenue (USD) / adj. EBIT / adj. PAT of 11%/12%/9% YoY v/s our expectation of 9%/5%/1% YoY. For FY21, the company reported revenue (USD) / adj. EBIT / adj. PAT growth of 6%/6%/1% YoY.

* Coforge’s revenues grew 7.1% QoQ to USD172.4m, above our estimate of USD169m. CC revenue growth for the quarter was 5.1%.

* Growth was led by EMEA (+19% QoQ), while other geographies were flat.

* Non-core verticals contributed to the majority of the growth in the quarter (+17.8% QoQ).

* The adj. EBITDA margin post RSU stood at 17.2%, in line with estimates.

* The EBITDA margin (excl. RSU and acquisition-related cost) was at 18%, in line with the company guidance.

* Consequently, adj. PAT was up 9% YoY and 13% QoQ to INR1,376m as a result of higher operational and other income.

* Utilization stood at 81% (+190bp QoQ) and the offshoring mix at 39% (+100bp QoQ).

* Attrition was flat QoQ at 10.5%.

* 4Q order intake was USD201m – USD520m would be executable over 12M.

* Cash and bank balances were up by INR3,026m over 4Q and stood at INR8391m. DSO stood at 70 days.

* The company reported OCF growth of 157% and OCF/EBITDA of 97%. FCF grew 205% in FY21 and FCF/PAT was 150%.

Key highlights from management commentary

* The company won two significant deals in the quarter, both in the Travel segment. Furthermore, an increase is seen in the deal size that the company is pursuing, with three deals in the pipeline being greater than USD50m. The management alluded to the rebuilding of and revival in the Travel segment. Clients in the segment have started migrating to the cloud, and Coforge believes in FY22, the Travel vertical would be the fastest growing business.

* The management has guided for ~17% (CC) organic growth for FY22. SLK is expected to see higher growth and margins v/s the organic business. The guidance has an upside bias, and the management expects 1HFY22 to be strong.

* The EBITDA margin in 4Q was impacted by one-time bonuses given to ~85% of the employees and selective wage hikes to niche skilled employees. Wage hikes for FY22 have already been rolled out w. e. f 1st April 2021. For FY22, the management has guided to expand its EBITDA margins in the organic business to 19%. This is attributable to the reversal of travel discounts, revenue growth, operational efficiencies, and increased offshoring.

Valuation and view – fairly priced

* Strong deal wins, a robust deal pipeline, and good consistency in large deal wins (2–3 large deals every quarter), despite the COVID-led disruption, are encouraging.

* The recent rally in the stock price indicates industry-leading growth and increasing margins, which have already been priced into current valuations. The execution of the guidance would be key to sustaining current multiples.

* The stock currently trades at 26x FY23E earnings. We value the company at 25x FY23E EPS. Maintain Neutral on fair valuations.

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