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Tech Mahindra: Conference call excerpts - Views on News from Equitymaster

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Tech Mahindra: Conference call excerpts
Feb 10, 2010

Tech Mahindra has become a very active player in the Indian IT industry lately. More so after acquiring the defamed erstwhile Satyam Computers. However, the company has a lot to it beyond its recent acquisition and a lot of debt that it entailed. The company which was initially a joint venture between Mahindra and Mahindra and European telecom major, British Telecom (BT) under the name Mahindra British Telecom has come a long way since then. It is one of the major providers for IT services particularly in the telecommunication industry. It raked in a topline of around Rs 45 bn in FY09, claiming its position as India’s fifth largest software company. Tech Mahindra (TechM) still counts BT as its top client, deriving around 50% of its sales from the same. However, lately the company saw a lot of irregularity with regard to business from its top-client. In the last two fiscal years, the company has seen sequential decline in the revenue contribution from BT.

We recently had a conference call with the management of Tech Mahindra to discuss about the performance of 9MFY10 and the business at BT. Here are the key takeaways from the conference call where the management of Tech Mahindra discussed how the company is structuring its long term relationship with BT.

British Telecom, one of the largest communications company in the world had a tough time fighting the global recession. The telecom company like its global peers was caught in the ‘struggle for existence’ mode. As a result, it embarked on exhaustive cost-cutting plans leading to shrinking of its IT budgets. This impacted Tech Mahindra badly which derived over half of its revenues from BT. The uncertainty in business from BT loomed large on Tech Mahindra’s future. This along with Satyam’s acquisition added to the uncertainty about the company’s long-term prospects. Although, the picture on Mahindra Satyam’s front is still far from clear, BT issues appear to be resolving.

In the recent analyst call, the management of the company discussed about the BT business in detail. In 3QFY10, the company saw a decline of 4% in revenues from Telecom, which itself has been impacted significantly by the global downturn. Nevertheless, Tech Mahindra remains the major outsourcing partner for BT, thereby winning a greater share in the decreased IT budget of its top-client.

As a new development, the company has restructured its long-term contracts with BT, which promises to give a better visibility of the revenue pipeline from the client. It may be noted that after BT entered these long-term contracts with Tech Mahindra, its business needs changed significantly. This mandated it to restructure its commitments on IT contracts. Tech Mahindra as a responsive business partner agreed to changes in the terms and conditions; however at a consideration of £126 m as restructuring charges.

Does this mean that Tech Mahindra will lose on its business from BT? The management does not believe so. According to the top brass of the company, the contracts are valid over the original period, and they carry committed scope and committed volumes which were not there before. But what has actually changed is the rate list that Tech Mahindra charged for different contracts. Previously, the company had different contracts priced at different rates. They were with varying terms and conditions billed to different departments of its top-client. Under the restructuring plan, the company is now expected to provide a harmonized rate list for same IT services across different divisions. So it indeed means that Tech Mahindra will have to charge a lower rate for many of its contracts. However, the management is not very pessimistic about it. It believes that such simplification in contracts will only aid in streamlining the business with different divisions of the top-client. It will help save a lot of cost and time spent on negotiations and re-negotiations. Moreover, more committed volumes will give a better visibility on this business. The management is upbeat about the restructuring fee the company received as a compensation for its initial investment in the project. During the quarter, the company repaid Rs 4.5 bn of debt from the fund worth Rs 9.7 bn generated as contract restructuring fees on certain long-term contracts with BT. The company had a total debt of Rs 17.4 bn on its books at the end of December 2009.

To conclude, though the pain of lower revenue potential from one’s major customer pinches, Tech Mahindra has been prudent in tiding over the hurdle and has been able to maintain its share of the shrinking pie. Given its increased focus on diversifying its client base, the company will recoup its losses in terms of new wins after the economic recovery kicks in. However, as the audited financials of Mahindra Satyam are yet to be disclosed, we retain our cautious view on the stock, despite its reasonable valuations.

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