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Creation of three distinct entities likely to be value-accretive

The separation process will take time

We attended the Quess Corp (QUESS) investor meet. This was organized to provide more details about the plan to unlock value for investors by splitting the company into three independent and standalone entities – Remain Co (Quess Corp, including the Workforce Management segment), Resulting Co 1 (Digitide, including BPM and Customer Experience) and Resulting Co 2 (Bluspring, including FMS, Industrial Services and Investments). The management also formulated its targets for the three divisions, including improving return on equity (RoE), expanding international presence, and achieving market leadership in all segments. While we await more detailed data on the respective balance sheets, we see clear benefits for QUESS from this focused approach, which should help each division concentrate on its strengths and attract a suitable investor profile. We continue to monitor the progress of the demerger process (to be completed in 12-15 months), and reiterate our Neutral rating on the stock due to the near-term industry headwinds. Following are the key takeaways from the investor meet.

Value unlocking

* The management resource would be dedicated to derive incremental growth and efficiency, which would lead to value unlocking for each of the individual entities.

* The corporate structure would be more simplified and would allocate individual accounting responsibilities.

* Management believes that each of the standalone entities would create more value than the value that the company would generate as a combined entity

Three-pillar architecture

* The three-way demerger of its diversified business segments would result in three listed entities with a dedicated presence. Each of these entities would have independent senior-level resources with an individual capital allocation policy.

* Management firmly believes that QUESS and Bluspring will derive sustainable organic growth without any meaningful investments, while Digitide will require investment for inorganic growth to achieve the USD1b revenue milestone.

* Foundit (under Bluspring) is treated from an investment perspective, where management expects the capital receipts to happen within the 3-5 year timeframe, while the other two are pure-play architecture entities.

Current valuation remains attractive

* Though QUESS should benefit from the medium-term tailwinds of formalization and labor reforms, the growth has already been factored into its valuations.

* We expect a gradual recovery in margins over FY24 and FY25, which should support earnings.

* We reiterate our Neutral rating on the stock due to its full valuations, taxation concerns, and weak macro. Our TP of INR600 implies 13x FY26E P/E.

Unlocking value through the demerger

* Management believes that each of the standalone entities would create more value than the value that the company would generate as a combined entity.

* The corporate structure would be more simplified and would allocate individual accounting responsibilities.

* The management resource would be dedicated to derive incremental growth and efficiency, which would lead to value unlocking for each of the individual entities.

* Capital allocation would be at an individual entity level. Digitide would require more capital allocation than the other two entities, as its growth would be supported by bolt-on acquisitions to achieve its aspiration of USD1b revenue milestone. Additionally, the individual entities would have their own dividend payout policy.

* Lastly, the independent entities would provide more clarity to the investors with individual ground to compare on a like-for-like basis.

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