Mphasis stock has corrected ~15% since reporting Q2FY19 results in October 2018 on concerns regarding 1) potential weakness in the DXC channel driven by revenue weakness and leadership changes in DXC Americas, and 2) expected weakness in Digital Risk (DR) driven by sharp correction in US residential mortgage volumes. Mphasis was able to absorb DR weakness very well in Q3FY19 with overall revenues increasing by 2.6% q-o-q in dollar terms (3.1% in CC) despite a 20% q-o-q decline in DR revenues.
Within DXC, wallet share of Mphasis is still less than 10% (considerably lower than certain strategic accounts within direct core) providing opportunities for continued growth with MSA renewal only in September 2021. With the worst in DR being behind and broadbased opportunities across DXC, Blackstone and Direct Core channels, we upgrade Mphasis to ‘buy’ with a target price of `1,110 based on 16x December 20E EPS. Margins should have an upward bias in FY20 with change in hedges being a 100 bps margin lever by itself.
Revenues from the Blackstone channel are expected to contribute 5% of overall companywide revenues in Q4FY19. Mphasis has been able to add 10 logos in the Blackstone channel, thus far having added five logos in 9MFY19 and three in Q3FY19. As a reminder, deal intake from the Blackstone channel was strong at $158 million in FY18, which is helping revenue accretion in FY19.
Overall, Direct Core (DC) revenues increased by 6% q-o-q and 16.9% y-o-y in CC terms with growth driven by wallet share gains at key strategic accounts. Accordingly, top 2-5 clients grew significantly faster than the company average constituting 32% of overall revenues in Q3FY19 vs 29% in Q2FY19.
The worst is behind in Digital Risk; there’s potential to get back into the $28-30 million quarterly range in FY20.