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Demand headwinds in BFS (largest vertical) persist, but the same is not reflected in valuations; reiterate SELL

We attended Mphasis analyst meet wherein the company outlined its future growth strategies: 1) focus on expanding non-BFS verticals, 2) continuing strategy of proactive large deal wins, and 3) increasing the number of clients with high revenue potential (USD 100mn+ annually). However, our near-term view on the company has not changed, hence we maintain SELL. Our concerns are: 1) weak near-term growth outlook in BFS (~50% of revenue); 2) non-BFS verticals have grown at lower-than-company average and are at sub-scale size (

Key concerns on the stock are:

Weak growth outlook in BFS:

* Uncertainty around recession and macro weakness has slowed down discretionary tech spends in Mphasis’ largest vertical BFS (~50% of revenue) with no signs of revival in the near term.

* Mphasis has not been able to expand wallet share within its top client (belonging to BFS vertical) in last 4 years (Exhibit 1). However, BFS portfolio (ex-top client) has grown at a healthy 19% CAGR over FY19- FY23.

* Mortgage applications have not picked up (Exhibits 2, 3) and there could be near-term growth challenges in this business (6.3% of revenue in Q1FY24) given that initial pickup in mortgage volumes is catered by captives.

* We had highlighted in our BFS tech spend outlook report (Link) that a few banks (Citi, Deutsche India, Royal Bank of Scotland) have called out shift to IT insourcing in terms of building GCCs (Global Capability Centres) in India (Link1 , Link2).This will give rise to more competition between thirdparty IT services and captives. Mphasis management also acknowledged that GCCs are here to stay over the longer term.

* We believe competition on large deal wins in the BFS vertical will increase, especially from TechM and Cognizant, given their renewed rigour with recent CEO changes.

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