FY17 could be a year of revenue growth February 08, 2016 Govind Agarwal govindagarwal@plindia.com +91 22 66322300 Rating Accumulate Price Rs440 Target Price Rs510 Implied Upside 15.9% Sensex 24,617 Nifty 7,489 (Prices as on February 05, 2016) Trading data Market Cap. (Rs bn) 92.3 Shares o/s (m) 209.9 3M Avg. Daily value (Rs m) 110.3 Major shareholders Promoters 60.48% Foreign 20.41% Domestic Inst. 8.33% Public & Other 10.78% Stock Performance (%) 1M 6M 12M Absolute (10.6) 2.5 24.0 Relative (6.8) 15.3 38.7 How we differ from Consensus EPS (Rs) PL Cons. % Diff. 2017 37.4 39.3 4.8 2018 39.9 42.5 6.1 Price Performance (RIC:MBFL.BO, BB:MPHL IN) (Rs) 600 500 400 300 200 100 0 Feb 15 Apr 15 Jun 15 Source: Bloomberg Aug 15 Oct 15 Dec 15 Feb 16 Mphasis Q3FY16 performance was overall in line with expectations. Revenue drop was led by divesture of India BPO business (~2.5%), impact of seasonality and decline in HP business. Company has reported YoY USD revenue decline for last four years due to sharp decline in HP revenues. HP is now only 24% of revenues, down significantly from ~66% in FY11. We expect FY17 could be a year of USD revenue growth for Mphasis, albeit low single digit. Retain Accumulate with a TP of Rs510. Overall in line results: Mphasis reported USD revenue drop of 3.4% QoQ to $229.m (PLe: $230.0m, Cons.: $231.0m). Revenue in INR terms dropped by 2.6% QoQ to Rs15,122m (PLe: Rs15,257m, Cons.: Rs15,348m). EBITDA Margin contracted by 72bps QoQ to 14% (PLe: 13.7%, Cons.: 14.4%) due to wage hikes, Chennai floods and annual client shutdowns. EBITDA margin decline is, however, lower than expected and as a result, EBITDA came 1.5% ahead of our estimates. Net profit came in line with our estimates. Adj. EPS declined by 8.6% QoQ to Rs8.3 (PLe: Rs8.2, Cons.: Rs8.5). Growth in Direct International; HP continues to decline: Overall Direct International revenues grew by 2.3% QoQ to US$161.2. HP Channel, on the other hand, continues to decline as revenue declined by 11.8% QoQ to US$55.5m on account of client ramp downs and annual client shutdown. HP contribution, which has been declining since FY12, is now only 24%. Deal wins remain healthy: Deal wins continue to be healthy, with US$61m worth deals signed in Q3FY16 in Direct International (Q2FY16: US$90m, YTD FY16: US$230m). BFSI contribution to the YTD deal wins is 65%. Company signed five new clients in Q3FY16, out of which, three have the potential of becoming a strategic account. Company has maintained medium term EBIT margin guidance of 14 16%. However, FY17 EBIT margins are expected to be in 13 15% range. Valuation & Recommendation Accumulate with TP of Rs510 based on 13x Dec 17 EPS: FY17 could be a year of revenue growth, aided by low HP contribution and growth in Direct International business. Stock is inexpensive at 11.4x FY17 EPS, dividend yield of ~4.5% provides support to stock price. Key financials (Y/e March) 2015 2016E 2017E 2018E Revenues (Rs m) 57,803 60,769 64,155 69,412 Growth (%) (8.5) 5.1 5.6 8.2 EBITDA (Rs m) 8,555 8,940 9,855 10,554 PAT (Rs m) 6,746 7,243 7,866 8,389 EPS (Rs) 32.1 34.5 37.4 39.9 Growth (%) (7.1) 7.4 8.6 6.7 Net DPS (Rs) 16.0 18.0 20.0 21.0 Profitability & Valuation 2015 2016E 2017E 2018E EBITDA margin (%) 14.8 14.7 15.4 15.2 RoE (%) 12.7 12.8 13.1 13.1 RoCE (%) 11.6 11.6 11.9 12.0 EV / sales (x) 1.5 1.3 1.2 1.1 EV / EBITDA (x) 9.9 9.1 8.0 7.3 PE (x) 13.7 12.7 11.7 11.0 P / BV (x) 1.7 1.6 1.5 1.4 Net dividend yield (%) 3.6 4.1 4.5 4.8 Source: Company Data; PL Research Q3FY16 Result Update Prabhudas Lilladher Pvt. Ltd. and/or its associates (the 'Firm') does and/or seeks to do business with companies covered in its research reports. As a result investors should be aware that the Firm may have a conflict of interest that could affect the objectivity of the report. Investors should consider this report as only a single factor in making their investment decision. Please refer to important disclosures and disclaimers at the end of the report
Exhibit 1: Q3FY16 Results Revenue on line, Margin beat estimation Y/e March Q3FY16 Q2FY16 QoQ gr. Q3FY15 YoY gr. Consensus PLe Variance Consolidated Sales (US$ m) 229.0 237.0 3.4% 226 1.1% 231 230 0.3% Consolidated Sales (Rs m) 15,122 15,519 2.6% 14,082 7.4% 15,348 15,257 0.9% EBITDA (Rs m) 2,121 2,289 7.3% 2,040 4.0% 2,207 2,090 1.5% EBITDA Margin 14.0% 14.7% 72 14.5% 46 14.4% 13.7% 33 PBT (Rs m) 2,402 2,583 7.0% 2,264 6.1% 2,417 2,345 2.4% Tax (Rs m) 666 683 2.5% 645 3.3% 632 610 9.2% Tax Rate 27.7% 26.4% 128 28.5% 76 26.1% 26.0% 173 Adj. PAT (Rs m) 1,736 1,900 8.6% 1,619 7.2% 1,785 1,736 0.0% EPS (Rs) 8.3 9.0 8.6% 7.7 7.2% 8.5 8.2 0.0% Source: Company Data, Bloomberg, PL Research Exhibit 2: Revenue growth led by Banking & Capital Market; ICE saw a sharp decline Revenue (US$ m) Q3FY16 Q2FY16 QoQ gr. Q3FY15 YoY gr. Banking and Capital Market 113.8 111.1 2.5% 89.6 27.0% Insurance 36.0 36.0 0.1% 33.8 6.3% Information, Comm. & Ent. (ICE) 22.9 30.2 24.1% 38.3 40.2% Emerging Industries 56.3 59.8 5.7% 64.8 13.0% % of Total Banking and Capital Market 49.7% 46.9% 284 bps 39.6% 1014 bps Insurance 15.7% 15.2% 52 bps 14.9% 76 bps Information, Comm. & Ent. (ICE) 10.0% 12.7% 273 bps 16.9% 690 bps Emerging Industries 24.6% 25.2% 62 bps 28.6% 400 bps Exhibit 3: Direct International revenues grew QoQ By Secondary Market (US$ m) Q3FY16 Q2FY16 QoQ gr. Q3FY15 YoY gr. HP Channel 55.5 62.9 11.8% 78.4 29.2% Direct International 161.2 157.6 2.3% 129.5 24.4% Others 12.4 16.5 25.0% 18.6 33.5% Exhibit 4: BPO realizations improved aided by divestiture of India BPO Price Movement(USD/hr) Q3FY16 Q2FY16 QoQ gr. Q3FY15 YoY gr. Onsite Applications 72 72 0.0% 70 2.9% Onsite ITO 63 66 4.5% 62 1.6% Offshore Applications 21 21 0.0% 21 0.0% Offshore BPO 10 7 42.9% 7 42.9% Offshore ITO 19 21 9.5% 20 5.0% February 08, 2016 2
Exhibit 5: HP channel under pressure Customer Size Distribution Q3FY16 Q2FY16 QoQ gr. Q3FY15 YoY gr. >1m 102 100 2.0% 100 2.0% >5m 35 39 10.3% 42 16.7% >10m 18 19 5.3% 17 5.9% >20m 8 7 14.3% 8 0.0% Exhibit 6: Offshore BPO headcount decline due to exit from India Voice BPO business People Management Q3FY16 Q2FY16 QoQ gr. Q3FY15 YoY gr. Onsite Applications 2,311 2,370 2.5% 2,317 0.3% Onsite BPO 1,564 1,675 6.6% 1,159 34.9% Onsite ITO 195 167 16.8% 199 2.0% Offshore Applications 8,423 8,488 0.8% 8,136 3.5% Offshore BPO 3,730 6,159 39.4% 16,853 77.9% Offshore ITO 6,019 3,953 52.3% 5,078 18.5% Total Headcount Onsite 4,070 4,212 3.4% 3,675 10.7% Total Headcount Offshore 18,172 18,600 2.3% 30,067 39.6% Sales and Marketing 313 327 4.3% 327 4.3% General and Administration 957 994 3.7% 1,073 10.8% Overall Headcount 23,512 24,133 2.6% 35,142 33.1% Utilization (excluding Trainees) Blended Application 83.0% 87.0% 400 bps 85.0% 200 bps BPO 94.0% 80.0% 1400 bps 76.0% 1800 bps ITO 95.0% 93.0% 200 bps 91.0% 400 bps Exhibit 7: Degrowth across all geographies except Europe Geo Spread Q3FY16 Q2FY16 QoQ gr. Q3FY15 YoY gr. America 174.7 178.1 1.9% 157.4 11.0% Europe 23.5 22.0 6.8% 29.3 19.7% India 17.0 22.6 25.0% 23.8 28.7% Rest of World 13.7 14.3 3.7% 15.9 13.8% Total 229 237 3.4% 226 1.1% % of Total America 76.3% 75.1% 117 bps 69.5% 680 bps Europe 10.3% 9.3% 98 bps 12.9% 266 bps India 7.4% 9.5% 213 bps 10.5% 310 bps Rest of World 6.0% 6.0% 2 bps 7.0% 104 bps Total 100.0% 100.0% 0 bps 100.0% 0 bps February 08, 2016 3
Exhibit 8: Growth in AMS. Customer service decline largely due to BPO business exit Practices Q3FY16 Q2FY16 QoQ gr. Q3FY15 YoY gr. Application Maintenance & Services 75.0 71.7 4.6% 67.5 11.1% Application Development 51.9 56.9 8.9% 55.6 6.7% Costumer Service 5.3 10.2 48.5% 13.8 61.9% Service/Technical Help Desk 3.9 4.4 9.9% 7.0 44.3% Transaction Processing Services 15.9 16.0 0.3% 13.2 20.4% Infrastructure Management Services 34.1 35.5 3.9% 42.3 19.5% Knowledge Process + Licenses 42.9 43.2 0.7% 35.2 22.1% % of revenue Application Maintenance & Services 32.8% 30.3% 249 bps 29.8% 295 bps Application Development 22.7% 24.0% 137 bps 24.5% 189 bps Costumer Service 2.3% 4.3% 201 bps 6.1% 379 bps Service/Technical Help Desk 1.7% 1.8% 12 bps 3.1% 140 bps Transaction Processing Services 7.0% 6.7% 22 bps 5.8% 111 bps Infrastructure Management Services 14.9% 15.0% 8 bps 18.7% 381 bps Knowledge Process + Licenses 18.7% 18.2% 51 bps 15.5% 322 bps Exhibit 9: Strong growth in Top client Q3FY16 Q2FY16 QoQ gr. Q3FY15 YoY gr. Customer Concentration Top Customer 22.9 21.3 7.4% 18.1 26.4% Top 5 84.7 85.3 0.7% 79.3 6.9% Top 2 5 61.8 64.0 3.4% 61.1 1.1% Top 6 10 48.1 47.4 1.5% 49.8 3.5% Top 10 109.9 111.4 1.3% 111.0 1.0% Non Top 10 customers 119.1 125.6 5.2% 115.5 3.1% Top Customer 10.0% 9.0% 100 bps 8.0% 200 bps Top 5 37.0% 36.0% 100 bps 35.0% 200 bps Top 10 48.0% 47.0% 100 bps 49.0% 100 bps Non Top 10 customers 52.0% 53.0% 100 bps 51.0% 100 bps February 08, 2016 4
Exhibit 10: Strong growth in revenue from Fixed Price Projects (FPP) Service Delivery Q3FY16 Q2FY16 QoQ gr. Q3FY15 YoY gr. Revenue from T&M 185.1 203.9 9.2% 188.6 1.9% Revenue from FPP 43.9 33.1 32.6% 37.9 15.9% Onsite Revenue 116.3 116.8 0.4% 97.2 19.6% Offshore Revenue 112.7 120.2 6.2% 129.3 12.8% % of Total Revenue from T&M 80.8% 86.0% 519 bps 83.3% 244 bps Revenue from FPP 19.2% 14.0% 519 bps 16.7% 244 bps Onsite Revenue 50.8% 49.3% 151 bps 42.9% 787 bps Offshore Revenue 49.2% 50.7% 151 bps 57.1% 787 bps February 08, 2016 5
Income Statement (Rs m) Net Revenue 57,803 60,769 64,155 69,412 Raw Material Expenses 43,424 45,212 47,454 50,816 Gross Profit 14,379 15,556 16,701 18,596 Employee Cost Other Expenses 5,824 6,616 6,846 8,042 EBITDA 8,555 8,940 9,855 10,554 Depr. & Amortization 980 760 834 902 Net Interest Other Income 1,833 1,741 1,828 1,920 Profit before Tax 9,408 9,922 10,850 11,571 Total Tax 2,630 2,679 2,984 3,182 Profit after Tax 6,778 7,243 7,866 8,389 Ex Od items / Min. Int. 32 Adj. PAT 6,746 7,243 7,866 8,389 Avg. Shares O/S (m) 210.1 210.1 210.1 210.1 EPS (Rs.) 32.1 34.5 37.4 39.9 Cash Flow Abstract (Rs m) C/F from Operations 5,954 8,325 8,220 8,167 C/F from Investing (3,816) (1,207) (1,351) (1,514) C/F from Financing (1,998) 5,292 (4,200) (4,410) Inc. / Dec. in Cash 141 12,411 2,669 2,244 Opening Cash 3,532 4,035 16,446 19,115 Closing Cash 4,035 16,446 19,115 21,359 FCFF 7,584 7,874 6,869 6,653 FCFE 7,941 7,874 6,869 6,653 Key Financial Metrics Growth Revenue (%) (8.5) 5.1 5.6 8.2 EBITDA (%) (25.5) 4.5 10.2 7.1 PAT (%) (7.1) 7.4 8.6 6.7 EPS (%) (7.1) 7.4 8.6 6.7 Profitability EBITDA Margin (%) 14.8 14.7 15.4 15.2 PAT Margin (%) 11.7 11.9 12.3 12.1 RoCE (%) 11.6 11.6 11.9 12.0 RoE (%) 12.7 12.8 13.1 13.1 Balance Sheet Net Debt : Equity (0.2) (0.2) (0.2) Net Wrkng Cap. (days) Valuation PER (x) 13.7 12.7 11.7 11.0 P / B (x) 1.7 1.6 1.5 1.4 EV / EBITDA (x) 9.9 9.1 8.0 7.3 EV / Sales (x) 1.5 1.3 1.2 1.1 Earnings Quality Eff. Tax Rate 28.0 27.0 27.5 27.5 Other Inc / PBT 19.5 17.6 16.9 16.6 Eff. Depr. Rate (%) 9.0 6.7 6.6 6.4 FCFE / PAT 117.7 108.7 87.3 79.3. Balance Sheet Abstract (Rs m) Shareholder's Funds 54,798 58,262 61,928 65,908 Total Debt 5,753 5,753 5,753 5,753 Other Liabilities 500 500 500 500 Total Liabilities 61,051 64,515 68,181 72,161 Net Fixed Assets 1,874 2,321 2,838 3,450 Goodwill 21,781 21,781 21,781 21,781 Investments 14,431 14,431 14,431 14,431 Net Current Assets 22,139 25,156 28,305 31,673 Cash & Equivalents 13,209 16,446 19,115 21,359 Other Current Assets 21,805 22,079 23,303 25,585 Current Liabilities 12,875 13,369 14,114 15,271 Other Assets 826 826 826 826 Total Assets 61,051 64,515 68,181 72,161 Quarterly Financials (Rs m) Y/e March Q4FY15 Q1FY16 Q2FY16 Q3FY16 Net Revenue 14,169 14,919 15,519 15,122 EBITDA 1,894 2,070 2,289 2,121 % of revenue 13.4 13.9 14.7 14.0 Depr. & Amortization 232 217 179 167 Net Interest Other Income 745 542 473 448 Profit before Tax 2,407 2,395 2,583 2,402 Total Tax 630 653 683 666 Profit after Tax 1,777 1,563 1,847 1,736 Adj. PAT 1,777 1,742 1,900 1,736 Key Operating Metrics Revenue (US$ m) 944 935 987 1,052. February 08, 2016 6
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