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Focusing on synergies with LTI integration in 3QFY23E

* Mindtree (MTCL) reported 2QFY23 revenue of USD422m (up 7.2% QoQ in CC), 210bp ahead of our estimate. Reported USD revenue grew 5.7% QoQ, driven by broad-based growth across verticals, with RCM (+2.9% QoQ in CC) back in growth track. Deal TCV in 2QFY23 was strong at USD518m, up 44% YoY, and aided the company surpass USD1b TCV in 1HFY23.

* EBITDA margin contracted 10bp QoQ (50bp ahead of MOFSLe) to 21.0%, despite the full impact of wage hikes during the quarter. The company was able to compensate for this through operational efficiency, currency support and reversal of a one-off cost last quarter. Utilization (down 50bp QoQ) and attrition (decline of 40bp QoQ to 24.1%) were broadly stable.

* MTCL’s management indicated that it has started to witness some softness and caution in parts of the business (especially in Europe), although these appear to be transitory in its opinion. Management remained confident that MTCL will be able to take advantage of the acquired projects that are costsaving in nature, thereby boosting both performance and TCV. Strong commentary in other verticals, deal pipeline, and TCV should help it deliver a solid revenue growth in FY23E, as we expect USD revenue CAGR of 16.5% over FY22-24.

* MTCL should keep its profitability within a narrow range going ahead, which will help it absorb any adverse macro impact. Good revenue growth and stable margin should help it deliver 23% PAT CAGR in INR terms over FY22-24E.

* We maintain our Neutral rating on MTCL due to its fair valuations (based on 22x FY24E P/E), softness in Retail and constrains on management bandwidth because of its impending merger with LTI.

* We raise our FY23/FY24 EPS estimates by 3%/6% due to strong growth and margin beat. As the stock is trading at 22x FY24E EPS, we see limited upside hereafter. Our TP of INR3,350 is premised on 22x FY24E EPS.

Strong 2QFY23 revenue performance and deal wins

* MTCL’s USD revenue grew 7.2% QoQ in CC terms, INR EBIT rose 39% YoY, and INR PAT increased 28% YoY in 2QFY23.

* For 1HFY23, USD revenue/INR EBIT/INR PAT rose 24%/43%/32%, respectively.

* FCF was at INR2.76b translating into ~55% FCF to Net Income conversion; Cash and Investments stood at INR38b.

* The US drove the good performance in 2QFY23 (+7.5% QoQ), while Europe was impacted adversely by currency depreciation.

* MTCL achieved the second-highest deal TCV of USD518m, down 9% QoQ but up 44% YoY; it clocked 1.2x book-to-bill ratio.

* Net profit was up 8% QoQ to INR5.09b (in line) due to lower other income.

Key highlights from the management commentary

* Clients that were earlier focusing on transformation work now prefer efficiency. MTCL is in a sweet spot to service both transformation and efficiency deals. Management also suggested that efficiency deals are generally longer in duration.

* Though macro indicators point to near-term softness, management expects them to be transitory. The current period of volatility is unlikely to be an exception to long-term technology shift.

* Management expects some negative impact in 3QFY23 due to seasonality from furloughs and some slowdown in client projects.

* Margins in 3QFY23 might be hurt by seasonality and currency headwinds.

Valuations fair, upside limited

* The management’s increased focus on annuity revenue and strategic accounts is reflected in its revenue and client mix.

* A strong outlook on strategic accounts, decent deal signings, and the ability to sustain improved margin are key positives for the company.

* The stock is currently trading at 22x FY24E EPS. As the key positives are already factored in, we see limited upside hereafter. Our TP of INR3,350 implies 22x FY24E EPS. We maintain our Neutral rating on the stock.

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