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Tech Mahindra throws a 410-bps margin surprise in Q2FY21

Tech Mahindra's operating margins came at 14.2 per cent compared to 10.1 per cent in the previous quarter, largely on the back of demand and supply recovery, improvement in utilisation rates, off-shoring and lower sub-contract rates

Rukmini Rao | October 26, 2020 | Updated 21:12 IST
Tech Mahindra throws a 410-bps margin surprise in Q2FY21
Tech Mahindra

Mid-sized IT firm Tech Mahindra, which announced its second quarterly numbers for FY21 registered revenues of $1.27 billion, a sequential growth of 2.9 per cent in constant currency terms with all verticals seeing positive growth compared to last quarter. However, what came as a surprise to most analysts was a strong improvement in the operating margins of the company. Tech Mahindra's operating margins came at 14.2 per cent compared to 10.1 per cent in the previous quarter, largely on the back of demand and supply recovery, improvement in utilisation rates, off-shoring and lower sub-contract rates.

"Our Repair, Rally and Rise strategy has helped the company emerge stronger as we journey towards a post-COVID world," says CP Gurnani, CEO. He further adds, "We are witnessing demand revival across multiple segments, as customers have accelerated their pace of digital transformation." Tech Mahindra also saw an improvement in the number of receivable days, lowest in nearly 15 quarters now at 97 days, with cash conversion rate at 164 per cent.

Following the management commentary, Motilal Oswal in its report stated that supply side constraints that were present in the previous quarter seemed to have cleared up and there was an increased demand momentum. With the conversion of funnel back to previous levels, a larger set of medium-sized deals is also in sight. "Also, while the company has delivered robust improvement in EBITDA margin, it has maintained the 15 per cent guidance band (although with the upside bias). In our view, there is limited room for EBITDA margin expansion (v/s FY21 guidance) as the company needs to invest back into the business (utilisation, employee wage hikes, etc.) after keeping a tight leash on them during 1HFY21," the report states.

ICICI Securities in its research note stated that although it expects FY21 revenues to be under pressure, with improving digital deal wins, 5G in enterprise and pruning of low return geographies could help in an improved performance in FY22E & FY23E. "In the long term, we believe Tech Mahindra will be a key beneficiary of 5G opportunities. This, coupled with improving margin trajectory led by cost rationalisation prompt us to revise EPS estimates upwards," the note states.

However, Nomura research noted that while most numbers posted by the company beat their estimates, the quality of the growth was heavily skewed towards BPO (53 per cent of the incremental revenues) and growth in IT outsourcing was impacted by a slower than expected revival in the network services, weakness in Europe and Manufacturing and also softness in telecom clients spends. "We expect EBIT margins of 14 per cent over FY22/23F (below medium-term guide of 15 per cent). We now expect revenues to decline 2.3 per cent in FY21F and forecast a 9 per cent USD CAGR over FY21-23F," says the report, with the downside risk being in lower than expected growth in Telecom and Enterprise.

Also read: Tech Mahindra Q2 results: Profit falls 5% to Rs 1,065 crore; board declares special dividend

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