Tech Mahindra Ltd. delivered a second consecutive weaker than expected quarter, both from a revenue growth and Ebit margin perspective. The weak performance of communication, media and entertainment and banking, financial services and insurance verticals (QoQ) was accentuated by a business rationalisation exercise initiated in the quarter, that led to the termination of business with certain non-core clients leading to one-off revenue and margin impacts.
This will continue into Q3 FY24 too but may not impact Q4.
We expect reported Ebit margin in Q3 FY24 to be around the 4.7% of Q2 FY24 and then improve significantly from Q4 and beyond and go back to the FY19 number of ~15% in FY26 (which in our view will still be ~900-1000 bps lower than that of tax collection at source).
While there was no specific guidance given on financial goals of the new team (which it promised will be conveyed in April 2024), the broad contours were spelt out by Mohit Joshi. The reorganised team will take over officially from January 1, 2024.
While Tech Mahindra has had a patchy track record from both a fundamental and stock price perspectives in the last decade, we think the likely near-term weakness in the stock presents an opportunity to buy into a large cap stock which could give material outperformance vis-a-vis its peer set over a 24-month investment horizon purely driven by improvement in its margins from current record low levels.
We are willing to give the new team of Mohit Joshi the benefit of the doubt and believe that it will be able to deliver industry matching growth in FY26 and take Ebit margins back to FY19 levels of 15%, if not higher.
We continue to believe that the worst on the U.S macro front is ahead of us, and customer spending will remain constrained. Hence, we are cautious on the Information technology sector and Tech Mahindra revenue prospects in FY24/FY25.
Post Q2 FY24 we have cut employee pension scheme estimates across FY24-FY26 on lower revenue and margins (especially in FY24).
We reiterate ‘Accumulate’ on Tech Mahindra with a lower target price of Rs 1,229, based on a target price to earnings multiple of 16 times on its September-2025E earnings per share, 20% discount to sector benchmark – Tata Consultancy Services Ltd.
Nirmal Bang Tech Mahindra Q2 FY24 Result Update.pdf
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