Systematix Institutional Equities

Systematix Institutional Equities 21 October, 2015 Sector: IT CMP: Rs460 RESULT UPDATE Rating: Buy Target Price: Rs600 Stock Info Sensex/Nifty 27,270/8,241 Bloomberg MPHL IN Equity shares (mn) 211 52-wk High/Low Rs474/331 Face value Rs10 M-Cap (Rs bn)/($ bn) Rs98bn/$1.5bn 3-m Avg volume $0.8mn Financial Snapshot (Rs mn) Y/E March FY15 FY16e FY17e Net sales 57,949 61,496 66,921 EBITDA 8,701 8,962 10,613 PAT 6,746 7,074 9,002 EPS (Rs) 32.1 33.7 42.8 PE (x) 14.3 13.7 10.7 EV/EBITDA (x) 8.3 7.8 6.2 P/B (x) 1.8 1.7 1.6 RoE (%) 12.7 12.7 15.3 RoCE (%) 13.6 13.9 16.6 Dividend yield (%) 3.7 4.3 4.9 Shareholding pattern (%) Sep 15 Jun 15 Mar 15 Promoter 60.5 60.5 60.5 Pledged - - - FII 20.4 22.9 24.3 DII 8.3 5.8 5.0 Others 10.8 10.9 10.2 Stock Performance (1-year) Rahul Jain rahuljain@systematixshares.com +91 22 6704 8025 New deal TCV of $90mn, OPM improves by 120bps, Re-rating on cards Results beat estimates: declared strong 4.1% revenue growth for the quarter driven by strong traction in the direct international business (up 7.9% qoq). EBIT grew by 14% qoq, with an OPM gain of 120bps qoq. PAT grew by 18% qoq, ahead of estimates, on strong operating performance and ETR normalised to 27% (29.5% in 1Q). Results were good on all factors and may lead to estimate upgrades and eventual re-rating for the stock. Con-call highlights: Management maintained strong commentary and confidence on business going forward driven by strong deal TCV addition and deal traction in its key focus segment of GRC/Digital/IMS (contributed 70% of new deal add). It has been adding deals in the digital risk portfolio both in the origination (recurring) and forensic/quality check (project driven). The management has indicated better OPM for 2HFY16 with revised band of 13-15% (up 100bps) despite wage hikes effective 3QFY16. The confidence on profitability is driven by improved business traction, exit from low margin India voice BPO business (decline in wage base in BPO business would cover up for the salary hikes to be effective in 3Q) and recovery in the digital risk segment. View: We believe the sustained traction in the direct channel revenue as evident from strong deal TCV addition of $90mn ($440mn+ in the last six quarters) and eight client adds during the quarter would cover up for the decline in HP revenue streams (given its declining client concentration risk at 27% in 2QFY16 and would go below 23% by FY17e) and would help it gain in profitability on improved revenue mix. We maintain a positive view on the stock given robust deal flow, improved profitability and relative economical valuations (PE 10.7x, EV/EBIT 6.2x and EV/sales 1.1x on FY17e). Table 1: Quarterly financial statement Quarter-ended Particulars (Rs mn) 2QFY16 1QFY16 qoq (%) 2QFY15 yoy (%) Revenues 15575 14964 4.1 14649 6 Cost of services 11542 11245 2.6 10953 5 Gross Profits 4033 3719 8.4 3696 9 Selling Expenses 981 1024 (4.2) 1166 (16) G&A Expenses 886 797 11.2 631 EBIT 2166 1898 14.1 1899 14 Foreign Exchange Gain/(Loss) 65 15 333.3 39 Other Income 427 549 (22.2) 400 (81) Interest Cost 75 67 11.9 91 (17) Exceptional expense 53 179 0 PBT 2530 2216 14.2 2247 292 Income tax expense 683 653 4.6 645 (57) PAT 1847 1563 18.2 1602 (12) Equity Capital 2101 2101 2102 EPS (Diluted) 8.79 7.44 18.1 7.62 (32) EBIT Margins(%) 13.9 12.7 13.0 Tax Rates (%) 27.0 29.5 28.7 Net Margins (%) 11.9 10.4 10.9 Investors are advised to refer through disclosures made at the end of the research report.

FINANCIALS (CONSOLIDATED) Profit & Loss Statement YE: Mar (Rs mn) FY14(5M)* FY15 FY16e FY17e Net Sales 25,939 57,949 61,496 66,921 Total Income 25,939 57,949 61,496 66,921 Total Expenditure 22,046 50,228 53,298 56,715 COR 18,600 42,540 45,395 49,032 G&A 1,591 3,603 3,868 4,067 S&M 1,351 3,105 3,271 3,209 Other Expenses - - - - EBIDTA 4,397 8,701 8,962 10,613 Depreciation 504 980 764 1,776 EBIT 3,893 7,721 8,198 10,206 Other Income 500 1,967 2,071 2,345 Interest 111 280 282 219 PBT 4,282 9,408 9,987 12,332 Extra Ordinary Exps/(Income) (64) (32) (232) - Tax Expenses 1,191 2,630 2,681 3,330 Net Profit bfr MI 3,027 6,746 7,074 9,002 Minority Interest - - - - Net Profit 3,027 6,746 7,074 9,002 Balance Sheet YE: Mar (Rs mn) FY14(5M)* FY15 FY16e FY17e Sources of Funds Equity Capital 2,101 2,101 2,101 2,101 Other Reserves 49,048 52,696 54,852 58,323 Net Worth 51,150 54,798 56,954 60,424 Unsecured Loans 4,715 3,161 3,036 2,911 Loan Funds 4,716 3,161 3,036 2,911 Total Capital Employed 55,865 57,959 59,990 63,335 Applications of Funds Gross Block 11,511 12,014 13,164 14,214 Less: Acc Depreciation 9,274 10,254 11,018 12,794 Net Block 2,237 1,760 2,146 1,420 Capital Work in Progress 1 - - - Goodwill 21,865 21,781 21,781 21,781 Investments 18,154 14,431 14,431 14,431 Current Assets, Loans & Advances Sundry Debtors 7,883 6,306 5,556 5,706 Cash and Bank Balance 4,583 13,208 15,292 19,213 Loans and Advances 6,377 6,715 7,815 8,700 Other Current Assets 7,833 9,139 10,251 10,906 sub total 26,675 35,368 38,913 44,525 Less : Current Liabilities & Provisions Current Liabilities 9,372 9,875 11,775 13,315 Provisions 3,695 5,507 5,507 5,507 sub total 13,067 15,382 17,282 18,822 Net Current Assets 13,608 19,986 21,631 25,703 Total Assets 55,865 57,959 59,990 63,335 Cash Flow YE: Mar (Rs mn) FY14(5M)* FY15 FY16e FY17e Profit before tax 4,283 9,408 9,987 12,332 Depreciation & w.o. 501 894 764 1,776 Net Interest Exp (385) (1,359) (1,789) (2,126) Direct taxes paid (1,300) (2,793) (2,681) (3,330) Chg in Working Capital (1,212) (201) 438 (150) CF from Opt Activities 1,975 6,165 6,719 8,502 Capex {Inc./ (Dec.) in FA n WIP} (339) (571) (1,150) (1,050) Free Cash Flow 1,636 5,594 5,569 7,452 Inc./ (Dec.) in Investments 2,302 (3,433) - - Other (includes acquisition cost) 239 340 1,789 2,126 CF from Investing Activities 2,201 (3,664) 639 1,076 Inc./(Dec.) in Debt (4) 83 (125) (125) Interest exp net (107) (225) 1,789 2,126 Dividend Paid (Incl. Tax) (4,178) (1,722) (4,917) (5,532) Cash Flow from Financing (4,243) (1,998) (3,996) (3,505) Net Change in Cash (67) 503 2,083 3,921 Opening Cash balances 3,599 3,532 13,208 15,292 Closing Cash balances 3,532 4,035 15,292 19,213 Ratios YE: Mar FY14(5M)* FY15 FY16e FY17e Measures of Performance (%) EBIT Margin 15.0 13.3 13.3 15.3 Tax/PBT 27.8 28.0 26.8 27.0 Net Profit Margin 11.7 11.6 11.5 13.5 As Percentage of Net Sales COR 71.7 73.4 73.8 73.3 S&M 6.1 6.2 6.3 6.1 G&A 5.2 5.4 5.3 4.8 Measures of Investment EPS (Rs.) 14.4 32.1 33.7 42.8 DPS (Rs.) 7.0 17.0 20.0 22.5 Cash per share 108.2 131.5 141.4 160.1 Dividend Payout (%) 48.6 53.0 59.4 52.5 Book Value (Rs.) 243.4 260.8 271.0 287.5 RoANW (%) 14.5 12.7 12.7 15.3 RoACE (%) 16.8 13.6 13.9 16.6 Valuation Ratios CMP (Rs.) 460 460 460 460 P/E (x) 13.3 14.3 13.7 10.7 Market Cap. (Rs. Mn.) 96,665 96,665 96,665 96,665 MCap/ Sales (x) 1.6 1.7 1.6 1.4 EV (Rs. Mn.) 78,644 72,187 69,979 65,933 EV/Sales (x) 1.3 1.2 1.1 1.0 EV/EBIT (x) 7.5 8.3 7.8 6.2 P/BV (x) 1.9 1.8 1.7 1.6 Dividend Yield (%) 3.7 3.7 4.3 4.9 2

Conference call takeaways Deal traction strong across the key segment of GRC (26%)/AMS (19%)/IMS (25%). Added new deal TCV of $90mn for the quarter. Eight new client wins, seven of them in Direct channel. India voice business, that has been sold to Hinduja Global/Karvy data services, had revenue of ~Rs360mn during 2QFY16 for a period of two months. Thus, a similar amount would not feature in 3Q numbers. From a cost perspective, the operating cost will be lower by ~Rs800mn on business exit, adjusted for salary/other variable and severance paid during 2Q (the company has seen a reduction in headcount by over 10,000 employees in 2Q on a qoq basis). Salary hikes would be effective by 3QFY16 and would have an impact of ~170bps on OPM. However, we expect the overall wage impact to be very soft given the lower base of employees in 3Q compared to 2Q. has revised its expected OPM band for 2HFY16 to 13-15% despite the wage headwind in the quarter up by 100bps (earlier band was 12-14%), on improved revenue mix and momentum. The commentary is confident on business across parameters. Key financial highlights reported revenue grew by 4.1% qoq to Rs15.6bn ahead of our estimates. The revenue included two-month revenue from the BPO business that it spun off during the quarter. Direct international revenue grew by 7.9% in reported terms driven by strong growth in the digital risk revenue (up by 10.3% qoq at $42mn for the quarter) and sustained momentum in the organic channel (up 7.1% qoq). Digital risk revenue has almost come to its peak revenue run rate of $44mn despite lower project related revenue (earlier large forensic projects were driving the momentum). HP channel revenue declined by 4% qoq at Rs4.1bn, contributing 27% of revenue. The revenue decline was in line with expectations on account of sustained weak trends in project renewals by HP s clients and client rampdowns. We expect the quarterly revenue run rate to remain in the narrow band of $55-60mn over the next couple of quarters. The company added seven new clients in the direct channel (one in HP) during the quarter. Client additions were five in BCM and three in Emerging industries. It added ~$90mn in new TCV during the quarter, which is the best-ever new deal TCV addition (ahead of its run rate of $75mn in the last five quarters). Operating profit for 2QFY16 was ahead of estimate at Rs2.1bn (our estimate Rs2bn), up 14.1% qoq -- OPM up 120bps qoq at 13.9% for the quarter. We believe the OPM performance will improve gradually over the next few quarters on account of India voice BPO business exit, declining HP revenue share and strong volume traction in the direct international business. PAT grew by 18% qoq at Rs1.85bn, ahead of estimates. 3

Valuation: We expect strong revenue/ebit CAGR of 8/15% with improved profitability (OPM gain of 200bps to 15.3%) would lower various concerns, leading to the stock s re-rating. We remain positive on due to the strong deal/pipeline, clear focus on niche capabilities (GRC/Digital), expected OPM gains on mix change, strong cash generation (FCF yield of 6%) and economical valuations (PE of 10.7x earnings and EV/EBIT of 6.2x on FY17e). We maintain as our top pick in the mid-tier IT space with a Buy rating and target price of Rs600 (raised from Rs520), valued at 14x FY17e earnings (in line with the current discounting). Chart 1: HP and Direct channel quarterly revenue ($ mn) trends Chart 2: Sequential revenue growth and OPM trends 4

Institutional Equities Team Nikhil Khandelwal Managing Director +91-22-6704 8001 nikhil@systematixgroup.in Equity Research Analysts Industry Sectors Desk-Phone E-mail Jaspreet Singh Arora - Head of Research Cement, Building Material, Construction +91-22-6704 8062 jaspreet@systematixshares.com Rahul Jain IT, E-commerce +91-22-6704 8025 rahuljain@systematixshares.com Priya Ranjan Auto & Auto Ancs +91-22-6704 8067 priyaranjan@systematixshares.com Salil Utagi Capital Goods, Engineering, Consumer Durables +91-22-6704 8064 salilutagi@systematixshares.com T. Ranvir Singh Pharma, Healthcare, Agrochem +91-22-6704 8016 ranvirsingh@systematixshares.com Ajit Agrawal BFSI +91-22-6704 8066 ajitagrawal@systematixshares.com Ankit Gor Mid Caps +91-22-6704 8028 ankitgor@systematixshares.com Divyata Dalal Cement, Building Material, Construction +91-22-6704 8059 divyatadalal@systematixshares.com Bibhishan Jagtap Auto & Auto Ancs +91-22-6704 8068 bibhishanj@systematixshares.com Rahul Khandelwal Mid Caps +91-22-6704 8003 rahul@systematixgroup.in Birendrakumar Singh Technical Research +91-22-6704 8024 birendrasingh@systematixshares.com Equity Sales & Trading Name Desk-Phone E-mail Pankaj Karde Head - Institutional Sales & Sales Trading +91-22-6704 8061 pankajkarde@systematixshares.com Jitendra Marchino, CFA Asia Sales +91-22-6704 8085 jitendramarchino@systematixshares.com Dhanesh Padhya Sales +91-22-6704 8090 dhaneshp@systematixshares.com Dinesh Bajaj Sales +91-22-6704 8065 dineshbajaj@systematixshares.com Jigar Kamdar Sales +91-22-6704 8060 jigarkamdar@systematixshares.com Bhavik Shah Sales Trading +91-22-6704 8053 bhavikshah@systematixshares.com Vinod Bhuwad Sales Trading +91-22-6704 8051 vinodbhuwad@systematixshares.com Vahila Thoomu Assistant Manager +91-22-6704 8055 vahila@systematixshares.com Sugandha Rane Support Back office +91-22-6704 8056 sugandha@systematixshares.com Production Ramesh Nair Editor +91-22-6704 8071 rameshnair@systematixshares.com Mrunali Pagdhare Production +91-22-6704 8057 mrunalip@systematixshares.com 5

DISCLOSURES/ APPENDIX I. ANALYST CERTIFICATION I, Rahul Jain, hereby certify (1) that the views expressed in this research report accurately reflect my personal views about any or all of the subject securities or issuers referred to in this research report, (2) part of my compensation was, is, or will be directly or indirectly related to the specific recommendations or views expressed in this research report by Systematix Shares & Stocks (I) Limited or its Group/associates companies. (3) has taken reasonable care to achieve and maintain independence and objectivity in making any recommendations. Disclosure of Interest Statement Analyst holding in the stock Served as an officer, director or employee Update II. ISSUER SPECIFIC REGULATORY DISCLOSURES, Unless specifically mentioned in Point. 9 below: 1. The Research Analyst(s), Systematix Shares & Stocks(I) Limited (SSSIL), Associate of Analyst or his relative does not have any financial interest in the company(ies) covered in this report. 2. The Research Analyst, SSSIL or its associates or relatives of the Research Analyst affiliates collectively do not hold more than 1% of the securities of the company (ies) covered in this report as of the end of the month immediately preceding the distribution of the research report. 3. The Research Analyst, his associate, his relative and SSSIL do not have any other material conflict of interest at the time of publication of this research report. 4. The Research Analyst, SSSIL and its associates have not received compensation for investment banking or merchant banking or brokerage services or for any other products or services from the company(ies) covered in this report, in the past twelve months. 5. The Research Analyst, SSSIL or its associates have not managed or co-managed in the previous twelve months, a private or public offering of securities for the company (ies) covered in this report. 6. SSSIL or its associates have not received compensation or other benefits from the company(ies) covered in this report or from any third party, in connection with the research report. 7. The Research Analyst has not served as an Officer, Director or employee of the company (ies) covered in the Research report. 8. The Research Analyst and SSSIL has not been engaged in market making activity for the company(ies) covered in the Research report. 9. Details SSSIL, Research Analyst and its associates pertaining to the companies covered in the Research report: Sr.. 1 2 3 4 5 Particulars Whether compensation has been received from the company(ies) covered in the Research report in the past 12 months for inv estment banking transaction by SSSIL Whether Research Analyst, SSSIL or its associates or relatives of the Research Analyst affiliates collectively hold more than 1% of the company(ies) covered in the Research report Whether compensation has been received by SSSIL or its associates from the company(ies) covered in the Research report SSSIL or its affiliates have managed or co-managed in the previous twelve months a private or public offering of securities for the company(ies) covered in the Research report Research Analyst, his associate, SSSIL or its associates have received compensation for investment banking or merchant banking or brokerage services or for any other products or services from the company(ies) covered in the Research report, in the last twelve month Yes /. 10. There are no material disciplinary action that been taken by any regulatory authority impacting equity research analysis activities. STOCK RATINGS BUY (B): The stock's total return is expected to exceed 20% over the next 12 months. ACCUMULATE (A): The stock's total return is expected to be within 10-20% over the next 12 months. HOLD (H): The stock's total return is expected to be within 0-10% over the next 12 months. SELL (S): The stock's total return is expected to give negative returns over the next 12 months. NOT RATED (NR): The analyst has no recommendation on the stock under review. INDUSTRY VIEWS ATTRACTIVE (AT): Fundamentals/Valuations of the sector are expected to be attractive over the next 12-18 months. NEUTRAL (NL): Fundamentals/Valuations of the sector are expected to neither improve nor deteriorate over the next 12-18 months. CAUTIOUS (CS): Fundamentals/Valuations of the sector are expected to deteriorate over the next 12-18 months. III. DISCLAIMER The information and opinions contained herein have been compiled or arrived at, based upon information obtained in good faith from sources believed to be reliable. Such information has not been independently verified and no guaranty, representation of warranty, express or implied, is made as to its accuracy completeness or correctness. This document is for information purposes only. This report is based on information that we consider reliable, but we do not represent that it is accurate or complete, and one should exercise due caution while acting on it. Descriptions of any company or companies or their securities mentioned herein are not complete and this document is not, and should not be construed as an offer or solicitation of an offer to buy or sell any securities or other financial instruments. Past performance is not a guide for future performance, future returns are not guaranteed and a loss of original capital may occur. All opinions, projections and estimates constitute the judgment of the a uthor as on the date of the report and these, plus any other information contained in the report, are subject to change without notice. Prices and availability of financial instruments a lso are subject to change without notice. This report is intended for distribution to institutional investors. 6

This report is not directed to or intended for display, downloading, printing, reproducing or for distribution to or use by, any person or entity that is a citizen or resident or located in any locality, state, country or other jurisdiction where such distribution, publication, reproduction, availability or use would be contrary to law or regulation or what would subject to SSSIL or its affiliates to any registration or licensing requirement within such jurisdiction. If this report is inadvertently send or has reached any individual in such country, especially, USA, the same may be ignored and brought to the attention of the sender. Neither this document nor any copy of it may be taken or transmitted into the United State (to U.S.Persons), Canada, or Japan or distributed, directly or indirectly, in the United States or Canada or distributed or redistributed in Japan or to a ny resident thereof. Any unauthorized use, duplication, redistribution or disclosure of this report including, but not limited to, redistribution by electronic mail, posting of the report on a website or page, and/or providing to a third party a link, is prohibited by law and will result in prosecution. The information contained in the Report is intended solely for the recipient and may not be further distributed by the recipient to any third party. SSSIL generally prohibits its analysts, persons reporting to analysts, and members of their households from maintaining a financial interest in the securities or derivatives of any companies that the analysts cover. Additionally, SSSIL generally prohibits its analysts and persons reporting to analysts from serving as an officer, director, or advisory board member of any companies that the analysts cover. Our salespeople, traders, and other professionals or affiliates may provide oral or written market commentary or trading strategies to our clients that reflect opinions that are contrary to the opinions expressed herein. Our proprietary trading and investing businesses may make investment decisions that are inconsistent with the recommendations expressed herein. The views expressed in this research report reflect the personal views of the analyst(s) about the subject securities or issues, and no part of the compensation of the research analyst(s) was, is, or will be directly or indirectly related to the specific recommendations and views expressed by research analyst(s) in this report. The compensation of the analyst who prepared this document is determined exclusively by SSSIL however, compensation may relate to the revenues of the Systematix Group as a whole, of which investment banking, sales and trading are a part. Research analysts and sales persons of SSSIL may provide important inputs to its affiliated company(ies). Foreign currencies denominated securities, wherever mentioned, are subject to exchange rate fluctuations, which could have an adverse effect on their value or price, or the income derived from them. In addition, investors in securities such as ADRs, the values of which are influenced by foreign currencies effectively assume currency risk. SSSIL, its directors, analysts or employees do not take any responsibility, financial or otherwise, of the losses or the damages sustained due to the investments made or any action taken on basis of this report including but not restricted to fluctuation in the prices of shares and bonds, changes in the currency rates, diminution in the NAVs, reduction in the dividend or income, etc SSSIL and its affiliates, officers, directors, and employees subject to the information given in the disclosures may: (a) from time to time, have long or short positions in, and buy or sell the securities thereof, of company (ies) mentioned herein or (b) be engaged in any other transaction involving such securities and earn brokerage or other compensation (financial interest) or act as a market maker in the financial instruments of the company (ies) discussed herein or act as advisor or lender / borrower to such company (ies) or have other potential material conflict of interest with respect to any recommendation and related information and opinions. The views expressed are those of the analyst and the Company may or may not subscribe to the views expressed therein. SSSIL, its affiliates and any third party involved in, or related to, computing or compiling the information hereby expressly disclaim all warranties of originality, accuracy, completeness, merchantability or fitness for a particular purpose with respect to any of this information. Without limiting any of the foregoing, in no event shall SSSIL, any of its affiliates or any third party involved in, or related to, computing or compiling the information have any liability for any damages of any kind. The Company accepts no liability whatsoever for the actions of third parties. The Report may provide the addresses of, or contain hyperlinks to, websites. Except to the extent to which the Report refers to website material of the Company, the Company has not reviewed the linked site. Accessing such website or following such link through the report or the website of the Company shall be at your own risk and the Company shall have no liability arising out of, or in connection with, any such referenced website SSSIL shall not be liable for any delay or any other interruption which may occur in presenting the data due to any technical glitch to present the data. In no event shall the SSSIL be liable for any damages, including without limitation, direct or indirect, special, incidental, or consequential damages, losses or expenses arising in connection with the data presented by SSSIL through this presentation. Neither SSSIL, nor any of its other group companies or associates, shall be responsible for any decisions taken on the basis of this report. Investors are advised to consult their Investment and Tax consultants before taking any investment decisions based on this report. CIN : U65993MH1995PLC268414 BSE SEBI Reg..: INB/F011132736 (Member Code: 182) NSE SEBI Reg..: INB/F/E231132730 (Member Code: 11327) MCX-SX SEBI Reg..: INB/F261132733 (Member Code: 17560) Depository Participant: IN-DP-CDSL-246-2004 (DP Id: 34600) PMS : INP000002692 AMFI : ARN - 64917 Research Analyst : INH200000840 Regd. office address: 2nd floor, J. K. Somani Bldg, British Hotel Lane, Fort, Mumbai - 400001 Corporate office address: A 603-606, The Capital, BKC, Bandra (E), Mumbai, India - 400051 7