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Tech Mahindra: Margins sink lower - Views on News from Equitymaster
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Tech Mahindra: Margins sink lower
Oct 27, 2010

Tech Mahindra has announced its 2QFY11 results. The company has reported a 35% QoQ growth in sales and a 4% QoQ growth in its net profit. Here is our analysis of the results.

Performance summary
  • Net sales grew by 35% QoQ during 2QFY11. Sales for the quarter however included one-time revenue of Rs 3 bn of third party hardware and software purchased for a customer. Excluding this, sales grew by around 9% QoQ.
  • Operating margins declined by 0.4% QoQ, to 18.4%, during the quarter.Excluding the pass through revenue, operating margins improved to 21.7%.
  • Bottomline grew by 4.4% QoQ mainly due to higher other income as well as loss from associate Mahindra Satyam, which has been consolidated in the results from this quarter onwards.
  • The company's employee base stood at around 34,000 as at the end of September 2010.
  • Added 7 new clients during the quarter taking the total number of active clients to 124.

Consolidated Financial Snapshot
(Rs m) 1QFY11 2QFY11 Change  1HFY10 1HFY11 Change 
Sales      11,337          15,339 35.3%       22,548      26,676 18.3%
Expenditure        9,210          12,521 35.9%       16,818      21,730 29.2%
Operating profit (EBITDA)        2,127   2,818 32.5%         5,730         4,946 -13.7%
Operating Profit Margin (%) 18.8% 18.4%   25.4% 18.5%  
Other income 253  83 -67.0%   9   336 3590.1%
Interest  264      270 2.4%          1,414   534 -62.3%
Depreciation  354      347 -2.0%   608   701 15.3%
Profit before tax        1,762  2,285 29.7%         3,717         4,047 8.9%
Tax  312       419 34.0%    613   731 19.2%
Minority interest     (6) 7      (13)   2  
Profits from associates      -      (367)        -   (367)  
Exceptional income / (losses) - -   (85) -    
Profit after tax/(loss)        1,443  1,507 4.4%         3,006          2,951 -1.8%
Net profit margin (%) 12.7% 9.8%   13.3% 11.1%  
No of shares (m)         124.1  125.7            124.1         125.7  
Diluted earnings per shares*#   57.2     55.3  
P/E ratio#   13.7     14.2  
# On a trailing 12-months earnings basis

What has driven performance in 2QFY11?
  • Tech Mahindra recorded a 35% QoQ growth in its sales during the quarter. Sales for the quarter however included one-time revenue of around Rs 3 bn of third party hardware and software purchased for a customer. Excluding this, revenues grew by 8.9% QoQ. Its ‘telecom equipment manufacturer' (TEM) witnessed a growth of 38.3% QoQ during the quarter. The ‘telecom service provider' (TSP) segment and the BPO segments saw a growth of 17.3% QoQ and 15.3% QoQ respectively. The ‘others' segment witnessed a muted growth of 2.2% QoQ during the quarter.

  • During the quarter, Tech Mahindra derived 25%, 43% and 32% of its revenues in from the US, Europe and ROW (rest of the world) regions respectively. The performance in the European market saw another quarter of bad performance as revenues fell by around 21.8% QoQ, thus underpinning the slow turnaround in the telecom industry in the region. Business from US also witnessed a decline of 21.9% QoQ. Sales from the ROW region surged by 146.2% QoQ during the quarter. The company has increased its engagement with its current clients thus taking the number of ‘greater than US$ 10 m' clients to 14.

    Revenue breakup
    (Rs m)  1QFY11   2QFY11  Change 
    On the basis of segments      
    Telecom service provider (TSP) 9,896   13,691 38.3%
    Telecom equipment manufacturer (TEM)     584 684 17.3%
    BPO service      669 771 15.3%
    Others     188  193 2.2%
    Total 11,337  15,339 35.3%
    On the basis of geography      
    US 4,908     3,835 -21.9%
    Europe 8,436     6,596 -21.8%
    Rest of the world 1,994     4,908 146.2%

  • Tech Mahindra’s operating margins fell by 0.4% QoQ during the quarter due to an increase in operating expenses. Excluding the pass through revenue, operating margins improved to 21.7%. Operating margins were boosted by higher utilization rates, currency benefits as well as savings on the SG&A front.

  • The company’s utilization levels improved to 75% as against 69% in 1QFY11.

  • Tech Mahindra’s net profits grew by 4.4% QoQ during the quarter. The growth in sales was offset by a 67% QoQ decline in other income and lower operating margins. From this quarter onwards, the company has started consolidating the results of its associate Mahindra Satyam. During the quarter, the company has booked a loss of Rs. 367 m on account of loss from its associate.

What to expect?
At the current price of Rs 789, the stock is trading at a multiple of 9.5 times our estimated FY13 earnings. Going forward, the company’s management expects volumes to keep growing. This is on the back of demand seen across all geographies especially from the 'rest of the world'. On the pricing front, the management expects it to remain stable. The management did add that based on discussions with clients in some geographies, they are seeing a positive trend in pricing. The company currently has US$ 50 m of cash on its books. While there has been some clarity on Mahindra Satyam, we believe that it is still too early to form a definite view on the company.

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