Tech Mahindra continues to impress with margin expansion, strong FCF generation, healthy deal pipelines, and decent deal win TCVs. Constant currency (CC) revenue grew by 2.8% q-o-q, ahead of Sharekhan's estimates, led by 4.4% qoq growth in the communication segment. The enterprise segment grew by 2.3% q-o-q in CC terms in Q3 FY21. Reported US Dollar revenue grew by 3.4% qoq to $ 1308.7 mn.

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Tech Mahindra EBIT margin expanded by 170 bps qoq to 15.9%, above our expectations, aided by better cost management. Net profit came in at Rs 1310 cr and was ahead of Sharekhan's estimates, led by both revenue and margin beat and higher-than-expected other income. TCVs of large deals bounced back to pre-COVID level at $455 million, in-line with expectations, led by strong deal wins in the enterprise segment.

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Notably, Tech Mahindra has signed around a deal of $50 million TCVs in the 5G rollout space during the quarter. Further, management cited that there were a couple of postponements of deals in the communication space during Q3FY2021 and it expects those deals to flow in the coming months. Given a robust pipeline ($4.5 billion in the enterprise segment) and expected deals in the communication space, net new deal TCVs are expected to accelerate in the coming quarters.

Tech Mahindra’s Management cited that it expects revenue growth on a sequential basis in Q4FY2021 and Q1FY2022. With higher spends on digital transformation by enterprises, modernisation of networks by service providers, and 5G in enterprise, Sharekhan believes Tech Mahindra is well positioned to report strong revenue growth over the next couple of years. On the margin front, management believes expenses related to travel and facility would come back to some extent post normalcy, which would be partially mitigated by revenue growth and portfolio synergies.

Tech Mahindra’s Key positives:

EBITDA margin at 19.6%, exceeding estimates
FCF generation of $ 226 mn (FCF to net profit conversion at 127%) Š
Management expects deal TCVs to accelerate in the coming quarters

Tech Mahindra Key negatives: 

Revenue declined by 4.6% yoy in CC terms compared to a decline of 3% qoq in Q2 FY21 Š
Deal TCVs in the communication space declined by 50% qoq

Tech Mahindra Key Risks:

Any hostile development with respect to the current visa regime would affect employee expenses as a lower proportion of local resources are deployed onsite. Further, a delay in pickup of 5G-related spends would affect revenue estimates.