Mahindra Satyam (Q1 FY13)

CMP Rs84, Target Rs100, Upside 19.1% 

• In Q1 FY13, the consolidated dollar revenues for Mahindra Satyam grew 2.9% qoq - slightly higher than our expectation. The growth during the quarter was supported by the partial revenue consolidation of Vcustomer (BPO solutions company acquired in Q4 FY12) which contributed ~US$2mn to the revenues. On an organic basis the dollar revenues grew at 2.1% qoq. On a constant currency basis the revenues grew 4.6% qoq with cross currencies negatively impacting by 1.7% qoq. Rupee revenues grew 12.8% sequentially supported by strong rupee depreciation. On the pricing front, though its remained largely stable, management alluded to material increases in competitive pressures in the market place – a factor that could impact realization in near term.
  
• Growth during the quarter was concentrated across certain verticals, clients and geographies. Within verticals Manufacturing (+6.1% qoq) and Healthcare (+20.1% qoq) drove most of the growth. BFSI growth at 2.9% was decent considering the weak demand signals emanating from this vertical. Amongst services, BPO was the highest contributor, making up for ~40% of incremental revenues.  Within clients, Top client grew significantly at 23.5% qoq in dollar terms leading the growth. Across geographies, growth was led by USA which grew 7% sequentially in dollar terms. Africa and Middle East continue to grow robustly albeit on a smaller base.
  
• The major positive surprise from the Q1 FY13 performance was the substantial beat to the OPM expectation. Against our expectation of ~100bps expansion the margin for Mahindra Satyam expanded 418bps to 21.7%. Even after excluding the 300bps positive impact due to rupee depreciation, the margin expansion is commendable against the headwinds of higher visa expenses as well absence of one-off reversal seen in Q4 FY12. Correction in employee pyramid (bulge mix improved from 32% to 33.7% qoq), improved utilization and SG&A leverage (rental and legal costs reduced marginally) were the prime reasons for the better than expected OPM.  Resultantly the PAT came in materially higher than expected at Rs3.52bn (versus expectation of Rs2.83bn).
  
• Employee addition, on a consolidated basis, was robust growing 8% qoq. This was both due to addition of employee base from Vcustomer (~1400 employees) and organic addition of 1200 odd employees. The technical employee headcount increased materially by 4% sequentially. Company expects hiring to be just-in-time going forward (FY13) with most of the fresher requirement to be met on an off-campus basis. Conscious attempts to improve the employee pyramid has resulted in the 0-3 year experienced employee band to have increased in proportion from 27% in Q2 FY12 ro 33.7% of the total employee base now. 
  
• We like the Q1 FY13 results for Mahindra Satyam especially on the improved margin profile due to commendable operational improvement. Continued growth in the top clientele, expanding client base, improved pipeline and the overall ‘back to business normalcy’ are enthusing. On the opposite side, management commentary is a bit cautious with respect to slowed down decision making cycles as well as toughened competitive environment. To that effect, we build in slower dollar revenue growth 9%/10% growth for FY13/FY14E. Valuations at ~8x one year forward remain inexpensive. We maintain BUY with 9-month TP of Rs100.