Tech Mahindra Rating: Buy – A strong performance by the firm in Q1FY22

We raise our revenue estimates by 3-4%, Ebit margins by 10-30bp and EPS estimates by 6% over FY22-23F led by the strong beat in Q1.

TechM reported a strong quarter with (i) revenue growth of 3.9% q-o-q in CC, ahead of our expectation of 2.5%, led by ramp-up in deals won in the prior quarter, strength in BPO (~11% q-o-q growth) and acquisitions; (ii) Ebit margin of 15.2%, ahead of our expectation of 14.5%, was down 130bp q-q due to impact from wage hikes (~160bp), visa costs (~40-50bp), seasonality and higher subcontractor costs (~100bp), offset by operational efficiencies and lower SGA; (iii) strong net deal wins of $815 mn (on the back of $1 bn in deal wins in Q4), grew 2.8x y-o-y, led by a large healthcare and a large BPO deal.

Management continues to guide for double-digit organic revenue growth in FY22F; however, we see potential for it to grow ~13% y-y given this implies an achievable 3% CQGR over Q2-Q4FY22F. This is driven by: (i) strong deal wins over the past two quarters – which will ramp up in Q2 – and robust pipeline; and (ii) benefits from retail BPO seasonality in Q3. Similarly, while TechM continues to guide for ~15% Ebit margin in FY22F, we see the potential for TechM to outperform, owing to tailwinds from improving revenue growth, offshoring, and efficiencies from portfolio companies.

We build in ~15.1%/14.9% Ebit margins for FY22F/23F. Overall, we expect a USD revenue/EPS CAGR of 11.4%/14.5% over FY21-23F. This compares with 14.3%/15.7% for INFO, 12.3%/15.0% for TCS and 10.8%/9.3% for HCLT, on our estimates. We reiterate our Buy rating given: (i) potential catalysts from 5G-related spending at clients; (ii) improved positioning in Digital led by organic investments and M&A; (iii) better ability to defend margins; and (iv) an improved pay-out ratio (~90% of PAT in FY21).

Q1 was above estimates: Positives– (i) Broad-based q-o-q growth across verticals; (ii) deal wins were strong and the pipeline is robust, led by 5G; (iii) top 10 clients led growth at 4.6% q-o-q and TechM added 1 client in each bucket of $50 mn+, $20 mn+ and $10 mn+. Negatives: (i) Quality of growth is weak led by BPO (~11% q-o-q); (ii) attrition inched up to 17% vs 13% in Q4.

EPS up by ~6%; TP increased to Rs 1,350
We raise our revenue estimates by 3-4%, Ebit margins by 10-30bp and EPS estimates by 6% over FY22-23F led by the strong beat in Q1. We value TechM on a higher multiple of 19x (vs 17x previously) 1-year forward EPS of Rs 71.2 to arrive at our TP. The higher multiple is due to (i) comfort on growth and (ii) better ability to defend Ebit margins. Downside risks: inability to participate aggressively in 5G opportunity or sustain Ebit margin levels.

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