Mindtree: Maintain ‘sell’, impressed with cost management, efficiency improvement

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January 20, 2021 12:10 AM

However, elevated margins may not sustain as wage revisions, decline in utilisation and increase in costs start seeping its way through in the coming quarters.

We take cognisance of impressive operational performance and FX gains and raise FY2021-24E EPS by 9-14%.We take cognisance of impressive operational performance and FX gains and raise FY2021-24E EPS by 9-14%.

Flex of levers drives an 11-year high margin but unsustainable. Mindtree reported good revenue growth of 4.6% QoQ in c/c. Cost control combined with sharp utilisation increase led to ebit margin expansion of 290 bps QoQ, impressive. However, elevated margins may not sustain as wage revisions, decline in utilisation and increase in costs start seeping its way through in the coming quarters. We take cognisance of impressive operational performance and FX gains and raise FY2021-24E EPS by 9-14%. The stock at 20.3X FY2023E EPS is expensive. Maintain ‘sell’ rating.

Mindtree reported sequential revenue growth of 5% to $274 million (4.6% in c/c) led by—12.6% Q-o-Q growth in travel and transportation and 5%+ growth in communications, media & technology and retail, CPG & manufacturing verticals. The top client grew 3.5% QoQ and constitutes 28.5% of revenues. EBIT margin was up 290 bps QoQ and 760 bps YoY and beat our estimate by a huge margin. A few factors aided margins — 430 bps increase in utilisation rate at an all-time high of 83.1%, increase in offshore component of revenues and tight leash on costs. Mindtree’s financials suggest that it has made an additional provision in respect of EPF though the non-recurring component, which is not clearly spelled out. Underlying ebit margin for the quarter is higher than reported 19.6%. Net profit of Rs3.3 billion (+28.7% QoQ and 65.7% YoY) beat our estimate by 13% driven by outperformance at the ebit level and higher-than-expected Fx gain of Rs258 million.

We are impressed with cost management and efficiency improvement that have led ebit margin to an 11-year high of 19.6%. A couple of other factors also helped—decline in discretionary and travel costs. However, there are certain aspects that worry. Mindtree’s utilisation rate stands at 83.1% (~86-87% on comparable basis with peers), higher than some of the large companies and not an optimum level against the backdrop of demand revival. Companies are running at peak utilisation that can lead to scramble for talent and increase in attrition. It has announced wage revision that has gross impact of 270 bps (with possibility of another round of wage revision in FY2022E). Other costs elements will also start inching up. We forecast EBIT margin to decline to 16.4% in FY2022E and 15.5% in FY2023E from 19.6% in 3QFY21.

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