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Tech Mahindra and Mahindra Satyam: Merger Analysis - Views on News from Equitymaster
 
 
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  • Oct 4, 2012

    Tech Mahindra and Mahindra Satyam: Merger Analysis

    This article focuses on analyzing the benefits expected from the merger of Tech Mahindra and Mahindra Satyam announced on March 21, 2012.

    Introduction: Tech Mahindra is a leading global systems integrator and business transformation consulting organization, focused primarily on the telecommunications industry. Tech Mahindra expanded its Information Technolgy (IT) portfolio in 2009 by acquiring Satyam Computer Services, which post-acquisition got renamed as Mahindra Satyam. While Mahindra Satyam remained as a distinct entity with an independent listing on the BSE-Sensex and NSE-Nifty, it was envisaged by the Boards of Tech Mahindra and Mahindra Satyam that a merger of both the companies, would be the way to go forward.

    Benefits expected from the merger:

    The following benefits are expected as a result of the merger:

    • Enhancement of capabilities across verticals,

    • Well-balanced geographic exposure,

    • Well-balanced client mix,

    • Other profitability related synergies.
    Let's examine each of these benefits one by one.

    Enhancement of capabilities across verticals: Tech Mahindra as pointed out earlier is focused mainly on, and derives almost 96% of its revenue from the telecommunications industry. Mahindra Satyam on the other hand, offers services across a range of verticals like Manufacturing (32% of FY12 revenue); Banking, Financial Services and Insurance(BFSI), which contributed to 19% of FY12 revenue; Tech, Media and Entertainment(21% of FY12 revenue); Retail (11% of FY12 revenue), etc.

    Following the merger, the expected mix in terms of verticals should be as follows:

    Table1: Expected contribution from respective verticals post merger
      Revenue Contribution
      Post-merger Pre-merger
    Verticals Combined Entity Tech Mahindra Mahindra Satyam
    Telecom 47% 96%  
    Manufacturing 17%   32%
    BFSI 11%   19%
    Tech, Media and Entertainment 10%   21%
    Retail 5%   11%
    Healthcare and Life Sciences 3%   6%
    Others 7% 4% 11%
    Source: Company data

    While the table above reflects the quantitative mix in terms of proposed revenues (without considering potential synergies), the quality of revenue is also expected to be high as it would come from:
    • 12 out of top 20 global wireless telecom service providers,

    • 4 out of top 10 retail banks,

    • 2 out of top 3 card based payment processing companies,

    • 5 out of top 10 motor vehicles and auto parts companies.
    Well-balanced geographic exposure: Tech Mahindra, given its legacy relationship with British Telecom (BT) derives 45% of its revenue from Europe; 32% from America and 23% from the Rest of the World. Mahindra Satyam on the other hand derives 50% of its revenue from America, and 25% each from Europe and the Rest of the World.

    Post-merger, the expected geographic mix should be as follows:

    Table 2: Expected contribution from geographies post merger
      Revenue Contribution
      Post-merger Pre-merger
    Geographies Combined Entity Tech Mahindra Mahindra Satyam
    America 43% 32% 50%
    Europe 35% 45% 25%
    Rest of the World 22% 23% 25%
    Source: Company data

    The above table clearly reflects that post the merger, the combined entity's business model would be essentially de-risked to a good extent with balanced exposure across geographies.

    Well-balanced client mix: Tech Mahindra derives 35% of its revenues from BT, its topmost client, while the next four biggest clients contribute 32% of the total revenue. For Mahindra Satyam, there is less reliance on the top five clients as the biggest client contributes 17% of the revenue, while the next big four contribute 20%.

    Post merger, the expected client revenue contribution mix should be as follows:

    Table 3: Expected client revenue contribution post merger
      Revenue Contribution
      Post-merger Pre-merger
    Clients Combined Entity Tech Mahindra Mahindra Satyam
    Number 1 17% 35% 11%
    Number 2 to Number 5 20% 32% 16%
    Number 6 to Number 10 10% 10% 14%
    Number 11 to Number 20 12% 23% 17%
    Others 41% 42%
    Source: Company data

    As the above table shows, post merger, the combined entity of Tech Mahindra and Mahindra Satyam is expected to become well diversified in terms of revenues from clients.

    Other profitability related synergies: While Tech Mahindra's expertise is restricted to the Telecom vertical, its services cover enterprise mobility, security solutions, managed services, cloud services and BPO. Mahindra Satyam on the other hand caters to many verticals such as Manufacturing, BFSI, Technology, Retail and Healthcare and its expertise is primarily in enterprise solutions. Through the proposed merger the following opportunities will be pursued to enhance profitability:
    1. Wider portfolio of service offerings to existing Telecom clients of Tech Mahindra,

    2. Focus on growth verticals such as Manufacturing and BPO,

    3. Focus on emerging markets,

    4. Right sizing of the workforce by leveraging on economies of scale,

    5. Co-innovation with an aim to continue dominance in mature practices and accelerate new service offerings involving cloud services, etc.
    Contingent liabilities associated with Mahindra Satyam:

    These include cases filed by the US and the UK branches of Aberdeen Asset Management, claims made by the family of Ramalinga Raju (erstwhile Chairman of Satyam) along with other contingent dues to the Government with respect to Income Taxes and other regulations. Wherever these contingent liabilities could be quantified, Mahindra Satyam's management made provisions in the books of accounts based on their best possible estimates, as stated clearly in the FY12 Annual Report.

    Conclusions:

    While investors tend to be suspicious of the expected benefits and synergies resulting out of any merger, Tech Mahindra 's capabilities in turning around Mahindra Satyam post the 2009 acquisition have been amply demonstrated, which is clearly evident from the robust financial and qualitative performances of Mahindra Satyam. We thus hope that the expected benefits and synergies from the merger can actually fructify.

    Based on FY12 results, the pro-forma combined revenue of Tech Mahindra and Mahindra Satyam is US$ 2.4 bn, making it the fifth largest Indian IT services company after TCS, Infosys, Wipro and HCL Tech (together known as the Big 4). The economies of scale, diverse offerings and balanced geographic exposure, can give the combined Mahindra entity the strength to compete head to head with the Big 4; while that may not happen immediately, given the usual lag associated with the integration process connected with any merger, the combined Mahindra entity can be expected to become quite formidable within 2-3 years post the merger. However, as indicated above, an investor should also note the contingent liabilities associated with Mahindra Satyam.

    For the latest quarterly results of companies in the Indian IT sector in our coverage, click here.

     

     

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