 "LTIMindtree")
The stock of the country’s fourth largest listed IT services company, LTI Mindtree, is down over 17 per cent from the start of January on concerns related to integration challenges, senior management exits and near term demand slowdown. It is the worst performing large cap IT company over the last three months with the underperformance compared to the Nifty IT index at over 20 percentage points.
Key issues faced by the company are related to integration and senior management exits. Over the last year and a half, over a dozen senior management personnel have left the company in the run-up to the merger of L&T Infotech and Mindtree.
Given the overlap, some exits were expected, but the process has taken more time than expected. Say analysts led by Kawaljeet Saluja of Kotak Securities, "We would have liked quick changes, restricting the pain to 1-2 quarters. However, management’s accommodative stance to reduce risks has paradoxically turned into a riskier policy, leading to frequent senior management exits and associated instability. These likely impacted focus on driving revenue growth and realisation of merger synergies."
Muted demand environment is another concern. The company reported a weak sales growth of 0.7 per cent sequentially on a constant currency basis which was half of what brokerages expected. The growth was impacted by more furloughs than expected and a continued slowdown in discretionary spending. The management has indicated that 4Q growth will mirror 3Q due to persistent pressure on clients’ spending.
After weak Q2FY24 and Q3FY24, revenue growth would remain muted in Q4FY24 and Q1FY25, as discretionary tech spending remains soft and clients remain cautious with regard to evolving macroeconomic conditions, highlights Piyush Pandey of Centrum Institutional Research. Deal wins were, however, strong at $1.5 billion higher by 15 per cent sequentially with the deal pipeline too being robust.
Despite the increase in multi-year deals, the total contract value to revenue conversion has been weak. Further margins too, were muted over the last couple of quarters led by higher sales, general and administration costs, says Centrum Research.
The margins in the quarter declined by 60 basis points sequentially to 15.4 per cent and missed street estimates. Despite a drop in employee strength, profitability was impacted by higher furloughs and pass-through revenues. The company indicated that the guidance of 17 per cent margin at the EBIT or earnings before interest and taxes level by Q4FY24 would be delayed by a few quarters.
The positives on the margin front for the company are falling attrition, lower employee headcount with a focus on improving utilisation and some gains as hybrid model continues. Centrum Research believes that the company has sufficient operating levers that will help it report a higher margin in FY25 vs FY24, led by falling attrition, productivity measures, lower subcontracting cost and improvement in employee pyramid structure
While valuations have corrected, they do not completely factor in the risk. Valuations at 23 times its FY2026 earnings estimates do not still price in integration and demand risks, says Kotak Securities. Stock trades at 28 times one-year forward price to earnings, 20 per cent above the mean. A further 10 per cent correction in price can make the stock interesting, says Kotak Securities.
Axis Securities, which has a reduce rating on the stock, says that expensive valuations are a risk amid a tough macro and notwithstanding the targeted merger synergies.
