The year 2016 was bad for the Indian IT industry. Growth lost momentum with slower spending by clients. Donald Trump’s win in the US Presidential elections was also a negative, given his promises to bring back jobs lost to H1B visas.

But since Indian IT companies are filling the skill gap in the US and Trump’s speech was toned down after his victory, the fear seems exaggerated. However, it makes sense to pick up stocks of only those IT companies that are relatively insulated to the challenging times and the demand slowdown in the traditional IT services space.

Tech Mahindra, unlike most other Indian IT companies, has been aggressive on the M&A front. Its recent acquisitions in the digital space should start to pay off soon.

In the September quarter, the company’s revenue grew 5 per cent sequentially in constant currency terms, of which 2.5 per cent growth was contributed by new acquisitions. The company’s strong deal pipeline, the revival in communications business and opportunities for margin expansion, post integration of the newly acquired businesses, are arguments in favour of the stock. The stock is also trading at a cheap valuation. On expected earnings of 2017-18, at the current market price of ₹488, the stock trades at 12.7 times. HCL Tech trades at 13 times and Infosys at 14.7 times. TCS discounts its likely earnings for 2017-18 by 16.5 times.

Tech Mahindra reported total deal wins of $325 million in the September quarter, up from the previous quarter’s $300 million.

Telecom revs up

After a few quarters of muted growth, Tech Mahindra’s communications vertical (that contributes half the overall revenue) saw growth bounce back in the September quarter. The sequential dollar revenue growth was 2.27 per cent in the September quarter versus a 2.5 per cent decline in the June quarter.

This is thanks to the strong performance in the core communications business on higher spends by clients. Many of the company’s top clients were into M&A deals and they have started to spend on integration of the acquired businesses now.

Some large M&A deals in this space include BT’s acquisition of EE (Everything Everywhere — the UK’s largest mobile phone operator) and Hutchison acquiring O2. Further, the September quarter was also a seasonally strong quarter for Comviva, a company acquired by Tech Mahindra in 2012, which is into providing mobile value added services.

The December and March quarter may be even stronger for the company’s telecom business. Recently, the company unveiled a new strategy for growing the network services business.

Also, the worst is behind for Lightbridge Communications Corporation (LCC), says the company’s management as the restructuring is over. LCC, a global network services company, was acquired by Tech Mahindra in 2014.

The enterprises business (the non-telecom verticals) too did well in the September quarter boosted by inorganic growth. The company acquired Target - a BPaaS (business process as a service) provider to BFSI customers in May and Bio Agency – a digital company in June. Both are UK based companies.

Revenues from Pininfarina, acquired in December 2015, was also fully consolidated with Tech Mahindra’s during the quarter. The sequential dollar revenue growth was 5.6 per cent, up from 4.4 per cent in the June quarter. Within enterprises, the stronger growth was from manufacturing (10.3 per cent) and retail, travel and logistics (8.9 per cent) verticals.

The organic growth is likely to return in the December and the March quarter, said the management. The company’s focus on digital solutions under all its service offerings should accelerate growth.

Margins to improve

The operating profit margin for the September quarter was 14.9 per cent, unchanged compared to the previous quarter. But for the non-recurring restructuring cost of about $13 million, the margin would have been more than 16 per cent.

There is scope for the company to further improve its margins, with integration of recent acquisitions and completion of restructuring at LCC.

comment COMMENT NOW