Larsen & Toubro Infotech Ltd Admirable metamorphosis

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1 Vol th INITIATION Company Note Alpha series IT Services India March 1, 2018 India ADD Consensus ratings*: Buy 15 Hold 3 Sell 0 Current price: Rs1,05 Target price: Rs1,575 Previous target: N/A Up/downside: 12.1% CIMB / Consensus: 13.% Reuters: Bloomberg: Market cap: Average daily turnover: LRTI.NS LTI IN US$3,722m Rs21,507m US$3.87m Rs29.0m Current shares o/s: 171.8m Free float: 16.3% *Source: Bloomberg Key changes in this note N/A 1,600 1,00 1,200 1, Source: Bloomberg Price performance 1M 3M 12M Absolute (%) Relative (%) Major shareholders % held Larsen and Toubro Limited 83.7 Auburn Limited 2.8 Insert Price Close Relative to SENSEX (RHS) Mar-17 Jun-17 Sep-17 Dec Larsen & Toubro Infotech Ltd Admirable metamorphosis Following the major transformation in its sales and delivery, we think LTI is well poised to outperform industry growth in sales and earnings starting in FY18F. Strong traction in its diversified digital services and consistent large deal wins are key differentiators that help LTI to scale up its sales profitably. We expect LTI to post industry-leading CAGRs of 16% for US$ sales and EPS over FY18F-20F with much higher RoE vs. peers; we think it deserves premium valuations. Initiate coverage with Add and TP of Rs1,575. We prefer LTI to Mindtree and Mphasis. Major transformation LTI has a strong parent company and expertise in various industry segments, with scalable IT services offered to marquee clients (it has 50+ Fortune 500 clients). To leverage on this strength optimally, LTI underwent major transformation under the current CEO (recruited from Infosys in 2HCY15). The company revamped its sales (replaced 50%+ of its sales team over last 2-3 years) and delivery efforts to create a robust system to win deals. As a result, its industry ranking improved significantly over last 2-3 years. Strong traction in digital services a key differentiator We believe LTI differentiates itself not only through scalable digital services (33% of 3QFY18 sales, with higher sales growth than local peers, as shown in Figures 21-22), but also by diversification (Figure 20) with strong traction in cloud, mobility, data analytics, software as a service (SaaS), internet of things (IoT), blockchain etc. We believe it has created a strong digital services sales/delivery system that helps it to win new business. Winning large deals consistently another differentiator We believe that for a mid-sized IT company like LTI to scale revenue up to become a large IT services company, it needs to win large deals consistently. Many mid-sized vendors are not successful in this regard but we note that LTI has a focused approach to pursuing large deals. Over the past 6-7 quarters, it has won large deals that total above US$300m (Figures 15-16). During its 3QFY18 results conference call, it indicated it was chasing deals worth more than US$800m (Figure 17). Improving sales visibility and EBIT margin defence We believe LTI has higher organic sales visibility than most of its peers. As for EBIT margins (excluding sales-related forex income), we expect some improvement starting in FY19F, considering its various levers. LTI follows disciplined capital allocation policy with M&As to add capability. We expect LTI s dividend payout ratio to rise to 37-2% in FY18-20F (FY17: c.35%). LTI deserves P/E valuation premium over its local peers Considering the commoditisation of many traditional IT services and higher sales growth in the fragmented digital services market, we do not think it is easy for all vendors to post consistently-high sales growth. However, we see LTI as potential long-term winner and expect it to post US$ sales (largely organic) and EPS CAGRs of 15.6% and 16.1%, respectively, over FY18F-20F (higher than most local peers and much higher than the industry average). We think its FY18-19F RoEs and EBIT margins will beat most peers. Initiate coverage with an Add; prefer LTI to Mindtree and Mphasis Initiate coverage on LTI with an Add. We believe it deserves to trade at 15-25% premium over our average 1-year forward target P/E for its mid-sized peers (Figure 51), which translates into target P/E of 18x and TP of Rs1,575. A potential re-rating catalyst is strong sales/earnings in FY19F. Any selling pressure to fulfil minimum public shareholding is a buying opportunity, in our view. High client concentration, steep dip in forex income and any high attrition of senior employees/management are downside risks. Analyst(s) Sandeep SHAH T (91) E sandeep.shah@cimb.com Financial Summary Mar-16A Mar-17A Mar-18F Mar-19F Mar-20F Revenue (Rsm) 58,6 65,009 72,276 8,89 97,26 Net Profit (Rsm) 8,363 9,707 11,173 13,013 15,285 Core EPS (Rs) Core EPS Growth 8.3% 11.8% 1.2% 15.% 16.6% FD Core P/E (x) Price To Sales (x) DPS (Rs) Dividend Yield 2.8% 1.18% 1.3% 1.76% 2.18% EV/EBITDA (x) P/FCFE (x) Net Gearing (9.0%) (2.0%) (3.0%) (9.3%) (5.2%) P/BV (x) ROE 0.3% 36.8% 31.7% 30.0% 29.0% % Change In Core EPS Estimates CIMB/consensus EPS (x) IMPORTANT DISCLOSURES, INCLUDING ANY REQUIRED RESEARCH CERTIFICATIONS, ARE PROVIDED AT THE END OF THIS REPORT. IF THIS REPORT IS DISTRIBUTED IN THE UNITED STATES IT IS DISTRIBUTED BY CIMB SECURITIES (USA), INC. AND IS CONSIDERED THIRD-PARTY AFFILIATED RESEARCH. Powered by the EFA Platform

2 Admirable metamorphosis Investment summary Major transformation to improve LTI s market positioning LTI has a strong parent company and domain expertise in various industry segments, with scalable IT services offered to marquee clients (it has 50+ Fortune 500 clients). To leverage on this strength optimally, it underwent a major transformation under the current CEO, Mr Sanjay Jalona (recruited from Infosys in 2HCY15). LTI revamped its sales (replaced 50%+ of its sales team over the last 2-3 years) and delivery efforts (reskilled its employees) to create a robust system to win deals. Apart from building professional teams, under whose leadership, the company s organic sales growth is improving, LTI has improved retention measures by introducing another employee stock ownership plan (ESOP) in 2HCY15 and increasing the number of employees covered by the employee stock option schemes. Diversified digital services and improving large deal wins key differentiators We believe LTI differentiates itself not only through the scalable digital services offered (33% of 3QFY18 sales, with higher sales growth than local peers, as shown in Figures 21-22), but also through diversification (Figure 20) with strong traction in cloud, mobility, data analytics, software as a service (SaaS), internet of things (IoT), blockchain offerings etc. We believe that for a mid-sized IT company (with annual revenue of less than US$5bn) like LTI to scale revenue up to emerge as a large IT services company (annual revenue above US$5bn), it needs to win large deals consistently. Many mid-sized vendors are not successful in this regard. However, we note that LTI has a focused approach to pursuing large deals. Over the past 6-7 quarters, it has won large deals that total more than US$300m (Figures 15-16). During its 3QFY18 results conference call, LTI indicated that it was chasing deals worth more than US$800m (Figure 17). Its transformation exercise is bearing fruit, not only in the form of greater deal wins, but also improvement in industry rankings (Figure 8 and 19). Well poised to leverage on improving demand tailwinds We believe the demand tailwinds for the IT services industry are rising, with the management of most large IT services companies turning incrementally positive about improving conversion of deal pipeline in the past few quarters. Recent research from Information Services Group (ISG) indicates that deal awards in terms of both total contract value (TCV) and annual contract value (ACV) (Figures 8-9). Furthermore, we think improving macroeconomic conditions in the US and Europe are likely to result in better global IT services spending (Figure 50). This augurs well for LTI, which outperformed industry sales growth consistently in FY17F. Industry-leading sales growth with higher margin/roe justifies LTI s P/E valuation premium over peers Considering the commoditisation of many traditional IT services and higher sales growth in the fragmented digital services market, we do not think it is easy for all vendors to post consistently-high sales growth. However, we see LTI as a potential long-term winner and expect it to post US$ sales and EPS CAGRs of 16% over FY18-20F, (higher than most peers and much higher than the industry average CAGR of high single digit, based on our estimates for all the stocks in the Indian IT services sector under our coverage). We also expect its FY18F- 19F RoEs and EBIT margins to beat most peers. Considering the above arguments, we initiate coverage on LTI with an Add rating. We believe LTI deserves to trade at a 15-25% premium over our average 1-year forward target P/E for its mid-sized peers (Figure 51), which translates into a target 1-year forward P/E of 18x and target price of Rs1,575. 2

3 Key company-specific downside risks Key company specific downside risks include: 1) LTI s high client concentration, 2) selling pressure from parent company/promoter to fulfill regulatory minimum public shareholding requirement, although this could improve the stock's liquidity in the medium to long term, 3) any major dip in its high level of forex income, ) high attrition of its senior management, and 5) integration-related challenges to any M&As. Brief company background Figure 1: Revenue segmented by industry, service and geography (3QFY18) LTI was incorporated in 1996 via parent company Larsen & Toubro Ltd s (LT IN, Add, TP: Rs1,565) spin-off of its information system division. LTI is one of the leading Indian information technology services companies with more than US$1bn revenue in FY18F, based on our estimates. The company has more than 23,000 employees/associates and offers services to more than 280 clients spread across diverse industry segments worldwide (North America contributed 67% of its 3QFY18 sales). LTI is focused on the export market (with more than 90% of its 3QFY18 sales coming from exports) and hence, is exposed to currency risk. We note that LTI follows a well-thought-out hedging policy that helps to protect its net margins from adverse currency movements. Revenue by industry 3QFY18 Revenue by services 3QFY18 Revenue by geography 3QFY18 BFS* 27.1% ADM* 33.5% North America 67.3% Insurance 19.% Enterprise solutions 26.% Europe 18.0% Manufacturing 17.2% Infrastructure management 10.8% India 8.% Energy & Utilities 11.8% Testing 8.3% RoW (rest of world) 6.3% CPG, Retail and Pharma 9.2% Analytics, AI* & Cognitive 10.8% Hi-Tech, Media & Entertainment 10.6% Enterprise integration,mobility 6.7% Others.6% Platform based solution 3.5% Note: *BFS stands for banking and financial services, ADM stands for application development and maintenance and AI stands for artificial intelligence. SWOT analysis We believe that LTI is better placed than most of its peers in terms of diversification in most of the service and/or industry segments it operates in. In line with its mid-sized local peers, LTI faces risks like high client concentration, some gaps in service offerings and market presence. However, we believe that LTI s strong focus on organic sales growth will help to compensate for these risks going forward. Figure 2: SWOT analysis Strengths Rich client base with presence amongst large clients (it has 50+ Fortune 500 clients). Diversified revenue stream - diverse services offering with reasonable scale across many industries. Reasonable high and diversified revenue scale in digital services (33% of its 3QFY18 sales). Opportunities Improving macro outlook in key markets including North America and Europe. Increasing traction in the industry demand through speedier conversion of deal pipeline in deal awards. Increasing green shoots for discretionary IT spending. Increasing adoption of digital technologies by most clients. Weakness High client concentration and therefore exposed to client-specific issues. Lower presence in the UK relative to the rest of Europe. Lower presence in business process outsourcing (BPO) services and telco relative to other industry segments/services. Threats Increasing commoditisation of traditional outsourcing services and resulting pricing pressure. Increasing regulations relating to outsourcing and visas especially from North America. Increasing currency-related volatility. Increasing scale of global vendors and client-captive centres in India. 3

4 Geared up to improve organic sales visiblity Undergone major transformation We believe LTI has strong domain expertise (discussed later on in this report), especially in the manufacturing, energy, banking financial services (BFS) and insurance and hi-tech, media and entertainment industry segments, given the wide breadth of the IT services offered. LTI is also differentiated from most of its local peers by its parent company, Larsen & Toubro s strong engineering pedigree. However, we do not think LTI has leveraged on this sufficiently in the past in terms of cross-selling to a larger set of clients and upselling by mining its existing clients to generate predictable and scalable revenue, which is important for a mid-tier IT services company like LTI. Furthermore, the changing technology trends and resulting pressure on sales growth for certain traditional IT services means that an IT services company must have a strong position in digital services across various industry segments and reskill its employees to remain relevant to its clients. In our view, LTI s efforts in the past 2-3 years to address these challenges via the metamorphosis of its operations major revamp in sales, marketing and delivery is admirable as this has led to its improved positioning in the IT services market, both in traditional and digital services. Furthermore, its transformation has boosted LTI s sales visibility by improving its order pipeline and wins. LTI s recruitment of industry veterans with hands-on experience in managing bigger portfolios at large peers for senior management roles (including the appointment of ex-infosys executive vice-president Mr Sanjay Jalona as Managing Director and CEO effective Aug 2015, Mr Sudhir Chaturvedi as Head of Sales and executive member of the board effective Sep 2016, Mr Aftab Zaid Ullah as Chief Operating Officer (COO) in Feb 2016) is a step in the right direction, in our view. We believe that under the leadership of Mr Sanjay Jalona, LTI s growth strategy is becoming more relevant to its established marquee clients through outcome-based services offerings. Current CEO, Mr Sanjay Jalona, has clearly mandated that LTI s objective is to remain relevant to its clients in a world where the physical and digital are converging by embracing technology, not just as a support function, but also as an enabler of improvement in the sales and efficiency of its IT services clients to help them transform and compete effectively in the digital world and prevent them from being the victims of disruption. The CEO started on LTI s journey towards achieving this objective by transforming the company's sales and delivery teams. Figure 3: LTI s transformative journey under the leadership of current CEO Sales & marketing, delivery and workforce SOURCE: CGS-CIMB RESEARCH, COMPANY

5 Sanjay Jalona (CEO & MD) IT Services India in sales and marketing Under the new leadership, LTI started on its journey of transformation from a strong domain-led organisation to a nimbler, client-centric organisation, with a focus on scaling up revenues (emphasising on organic sales growth) while keeping its net margins largely stable and healthy. Given its objective, LTI reorganised the structure of its sales and marketing (S&M) team (as shown in Figure ), to increase the focus of its digital offerings, with the launch of the Mosaic platform to accelerate service delivery in areas of analytics, IoT, automation, customer experience, artificial intelligence (AI) and blockchain offerings, to help its clients remain relevant in the digital world. Figure : LTI s sales organisation under the leadership of current CEO Banking and financial services Insurance USA Industry segment wise Manufacturing CPG, Media and Hi- Tech Sudhir Chaturvedi Wholetime Director, President-sales Europe Geography wise Energy and utilities Nordic Europe (ex - Nordic) Others Geography wise Emerging markets SOURCE: CGS-CIMB RESEARCH, COMPANY In Figure 5, we highlight some of the key changes initiated by LTI to improve its sales efficiency and boost organic sales. Figure 5: Sales transformation Parameters Measures taken Sales leadership Sales review Sales retention New client addition In the last 2-3 years, LTI has changed 50-60% of its sales team, with many additions from tier 1 IT companies to solidify its leadership and position in the IT services market Introduced comprehensive review process based on parameters including sales, margin, customer satisfaction (CSAT), days sales outstanding (DSO) and success in selling digital offerings to clients To motivate the sales team, LTI included a higher number of employees in the employee stock option plan Created dedicated team of hunters for adding must-have clients SOURCE: CGS-CIMB RESEARCH, COMPANY LTI has also revamped its sales and marketing strategy by introducing various sales programmes (as shown in Figure 6) to achieve key performance indicators (KPIs) and sales efficiency. 5

6 Figure 6: Ongoing efforts to drive sales efficiency Focus area Program Comments Top-50 accounts Minecraft With two-in-a-box approach with dedicated account manager and delivery head; having implemented this successfully for its top-20 clients, this is now extended to top-50 clients. New logo TAL (target account list) Formed a dedicated team of around 20 employees to oversee this function across industry segments with strict guidelines to target this. Proactive pipeline generation Aspire Extending tie up with various industry advisors/consultants Tail accounts Million dollar club Continuous addition and rationalisation to migrate clients to larger revenue bucket Digital offering Agile pre-sales ADEA (analytics and digital in every account) Customer success team Currently specific to top clients to build competitive edge Pro-active leads with consulting led approach Best place to learn and grow Dream team For employee retention across high rise team, client partners, account managers, sales enablement team Frictionless sales Sales helpdesk Knowledge repository on clients/industry segments/technology trends etc. SOURCE CGS-CIMB RESEARCH, COMPANY as well as delivery and reskilling of employees As for delivery, LTI has started to reskill/upskill its employees to make them digital-ready, while remaining nimble and proactive in responding to client issues in order to achieve its objectives of helping clients embrace digital technologies and to remain relevant to its clients. In Figure 7, we highlight various initiatives implemented by LTI to improve delivery. Figure 7: Delivery transformation Parameters Design-driven delivery Transforming existing traditional services Near-shore centers New ways of working Reskilling of employees and MOSAIC academy Mosaic Experience centre Strong ecosystem through alliance and partnerships M&A Building ecosystem Comments Delivery processes across application development, management and support are made more design-oriented. Customised methodology integrating design, agile, lean, DevOps (development and operation) & automation Improving domain focus with consulting-led approach. Within Infrastructure services, focusing more on cloud services. For quicker turnaround and enhanced client satisfaction, LTI has opened many near-shore centres outside India. LTI applications to perform key internal processes and functions with a quick turnaround time on the move. MOSAIC academy is a cloud-based virtual, social and collaborative e-learning platform to upskill, cross-skill and multiskill employees in digital technologies. More than 11,500 employees have been trained by MOSAIC academy so far To provide value added client experience by leveraging technologies. Now opened in Mumbai as well as outside India. By leveraging on its strong alliance programme, the company offers niche solutions to clients, which helps with client mining Focused on building capabilities horizontally (like "AugmentIQ" for big data analytics) and vertically (like "Synchordis" for core banking) Developing new partnerships and alliances to solve client problems. LTI already has tie-ups with more than 300 startups and 10+ top academic institutions SOURCE: CGS-CIMB RESEARCH, COMPANY Increasing focus on large deals Unlike many of its local peers, LTI has created a dedicated team to pursue large deals on an ongoing basis. This team is a part of its business development team and has a dedicated finance team to ensure pricing and profit margin discipline on a portfolio basis. The large-deal team s responsibility is to pursue deals in cooperation with the heads of the respective service/industry segments/markets. The incentive structure for this team is well defined. Under the current management, LTI has also started forging relationships with industry advisors and consultants. This has resulted in significant recognition of LTI by various industry analysts/advisors in the past 2-3 years compared to the 6

7 Figure 8: LTI s key industry rankings Date Research Organisation Description IT Services India negligible recognition before then. This, in our view, is essential for any IT services vendor that participates in the request for proposals (RFPs) for large deals. Mar-18 Everest Group LTI has topped the list of Challengers in the Everest group s peak matrix IT service provider of the year Challengers are companies with less than US$2bn revenue and are positioning themselves as challengers to leading players and credible alternatives for enterprises by focusing on specific solution segments, geographies, and/or industries. Further, peak matrix service provider of the year rankings were based on consistent performance across many segments/services amongst others. Feb-18 IDC* LTI mentioned as a major player in IDC marketscape for worldwide IT strategic consulting for manufacturing customer experience in 2018 vendor assessment Jan-18 ISG Ranked in Americas sourcing standout and EMEA sourcing standout category as one of the breakthrough 15 list of vendors Nov-17 Everest Group LTI positioned as a major contender in Everest's peak matrix for risk and regulatory compliance application services in BFS (banking, financial services) Nov-17 Everest Group LTI recognized as a major contender in Everest's assessment on application modernization peak matrix ADM (application development and maintenance) services Nov-17 Everest Group 'Major contender' in insurance (also star Performer), property & casualty insurance and for life and pensions insurance peak matrix Oct-17 Gartner LTI as one of the large system integrators mentioned in report: market guide for agile & DevOps services Jun-17 IDC 'Contender' in the IDC marketscape on worldwide bank datacenter transformation system implementation services Jun-17 Everest Group Major Contender in Everest's capital markets and banking application outsourcing (AO) peak matrix, 2017 Jun-17 Everest Group Major Contender and star performer in Everest's life sciences IT application services and independence testing peak matrix assessment 2017 Apr-17 Everest Group Major Contender in Everest's automation in application services peak matrix RFI (request for information) 2017 SOURCE: CGS-CIMB RESEARCH, COMPANY, EVERREST GROUP, IDC, INFORMATION SERVICES GROUP (ISG), GARTNER Rich client base and efforts to improve it further Another key differentiating factor for LTI is the quality of its clients in each industry segment, and it has large clients in most of the segments. Currently it has more than 50 Fortune 500 clients spread across various industry segments. Generally, this is one of the most difficult tasks to achieve for mid-sized players in the competitive IT services market. LTI has relationships of more than five years with most of its top 20 clients (by 2QFY18 sales). Hence, we believe that compared to its mid-cap peers, LTI is in a much stronger position in a difficult IT services market. Figure 9: LTI s number of top 20 clients (2QFY18 sales) by length of relationship Figure 10: LTI's number of Fortune 500 clients by industry segment (2QFY18) Others, 1 10 BFS, 13 8 Hi-Tech, Media & Entertainment, Insurance, 5 2 CPG, Retail and Pharma, 5 0 < 5 years 5-10 years > 10 years Energy & Utilities, 11 Manufacturing, 7 No of clients Note: BFS stands for banking financial services and CPG stands for consumer-packaged goods. Results of transformation now visible Following the transformation in its sales, delivery, IT solutions/services and digital services, LTI has been winning deals (especially large deals on a consistent basis), mining existing clients and consistently adding new clients across various industry segments. In the past 6-7 quarters, LTI has won more 7

8 US$ sales growth (%) Number of clients Average annual US$ sales (US$ m) IT Services India than US$300m worth of large deals in total, including one deal worth above US$100m. Figure 11: Number of clients by US$ sales in last twelve months Client mining is improving Figure 12: Average US$ sales p.a. by client ranking Also improving US$1m clients 33 US$5m clients US$10m clients 9 13 US$20m clients 3 1 US$50m clients 1 US$100m clients Top 5 clients Top 5-10 clients Top clients 1QFY16 3QFY18 FY16 FY17 9MFY18* SOURCE: CGS-CIMB RESEARCH, COMPANY Note: *Based on annualised sales SOURCE: CGS-CIMB RESEARCH, COMPANY Figure 13: Healthy sales growth across client buckets mitigates client-specific issues Figure 1: Robust new client addition in QFY17-3QFY18 25 Industry segment New cliens (no.) Comments 21.2 BFS 1 20 Insurance Manufacturing 6 Energy & Utilities 11 * Most of the 65 new clients were for digital services and enterprise solutions CPG/Retail/Pharma 17 Hi-Tech/Media/Entertainment 7 * Several of the 65 new clients opened accounts with LTI with deal sizes above US$1m 0 For Top 20 clients For Clients outside Top 20 Consolidated US$ sales Others 2 FY16 FY17 9MFY18 Total 65 8

9 Figure 15: Key LTI large deal (mostly bigger than US$15m) wins (1QFY17-2QFY18) Consistent momentum Period Client details Amount Tenure Deal description 1QFY17 Central Board of Direct Tax (CBDT) of India US$100m Multi year Awarded project insight by CBDT to provide comprehensive big data, analytics and surveillance solution across India. It is a outcome based programme. 1QFY17 Elkjøp Nordic Large deal Multi year LTI will provide end-to-end infrastructure management and datacenter services. Under this partnership, LTI will transform data centre capabilities of Elkjøp by migrating its current environment to an Infrastructure-asa-Service ('IaaS') mode 3QFY17 International institution Large deal Multi year LTI won a strategic transformation deal to provide end-to-end infrastructure-managed services and cloud enablement. It is one of the biggest new account opening deal in LTI s history outside of India and in infrastructure space. The same deal was also coveted by larger peers 3QFY17 Fortune 10 energy corporation Large deal Multi year LTI was selected to provide end-to-end application-management services for its upstream businesses 3QFY17 French transnational company Large deal Multi year LTI selected as an exclusive partner for its critical and strategic ERP transformation. LTI will help the client with complete infrastructure transformation from an on premise to AWS infrastructure. The project also involves maintenance support of AWS infrastructure and SAP applications. The client operates in more than 0 countries. This deal has come from different geographies including N.America, Europe and Australia. 1QFY18 US based Retailer US$25m Multi year Won multi-year deal from US based Retailer to successfully migrate its SAP infrastructure to AWS 2QFY18 Leading African Bank Large deal Multi year LTI will provide applications development and support services. 2QFY18 European CPG US$50m 5 year This is a new client for LTI and is a world leader in fashion and cosmetics business and LTI is selected as a global SAP MS partner, covering over 17 locations and providing support across 8 different languages. SOURCE: CGS-CIMB RESEARCH, COMPANY Figure 16: Summary of LTI s large deal wins from 1QFY17 to 2QFY % of these wins are from new clients No. of US$100m+ deals No. of US$30m-100m deals No. of US$10m-30m deals Figure 17: LTI s deal pipeline (as of 3QFY18) Remains robust and diversified Particulars Size/Description Comments / Source Deal pipeline > US$1.5bn Discussed in the analyst meeting in Dec 2017 Proposal stage 59% Discussed in the analyst meeting in Dec 2017 Digital services 36% This is of the total deal pipeline and given in the analyst meeting of Dec 2017 Pipeline from new logos 20% This of the total pipeline including the new logos opened in the last months and given in the analyst meeting of Dec 2017 Pipeline from new prospects 12% This is of the total deal pipeline and given in the analyst meeting of Dec 2017 Qualified pipeline > US$800m Discussed in earnings call for 3QFY18 results in Jan 2018 Note: There is overlap between categories shown for percentage composition of deal pipeline SOURCE: CGS-CIMB RESEARCH, COMPANY 9

10 Success in digital services LTI began its digital services journey before FY15 by aligning its existing areas of expertise and developing capabilities in emerging digital technologies. However under the leadership of current CEO, these technologies were reorganized and are offered under a platform named MOSAIC. MOSAIC was adopted by LTI as a service delivery method for analytics, Internet of things (IoT), automation, experience, artificial intelligence (AI) and blockchain to help its clients stay relevant in the digital world. Figure 18: Current MOSAIC overview Mosaic Ecosystem Mosaic Things Mosaic Decisions Mosaic AI Mosaic Automation Mosaic Experience IoT platform Analytics-asa-Service offering Cognitive AI platform Robotic process automation Design, deliver and manage digital user experiences Machine learning Softwaredefined everything Design thinking SOURCE: CGS-CIMB RESEARCH, COMPANY LTI focuses on scaling up digital services, including artificial intelligence (AI), cognitive intelligence, analytics, SaaS, cloud-related services, IoT, blockchain and enterprise mobility. This helps to differentiate LTI from its mid-sized peers, in our view. As a result, the company has a more holistic approach to digital services. In our view, LTI s organisational set-up for digital services is comprehensive, helping it to drive sales growth of digital services and move up the value chain in digital IT services, which should lead to more consistent deal wins versus peers. LTI has also started receiving several industry rankings/recognitions from various industry analysts/consultants for its digital services. Hence, we believe that LTI s success in digital services is also one of its key differentiators and could be a key growth driver for both existing and new clients. Figure 19: Broad-based industry recognition of LTI s digital services* Date Research Organisation Recognition Jan-18 Nelson Hall LTI positioned as an 'Innovator' for S/HANA. LTI has been rated highly for its ability to meet future client requirements. Dec-17 Everest Group LTI featured as a major contender in Everest Group for cloud enablement services market trends and services PEAK matrix assessment 2018 Nov-17 HFS research For Blockchain - placed in high performers category in top 8 Oct-17 Gartner LTI was one of the very few companies listed in Gartner s market guide for data science and machine learning service providers. Aug-17 Zinnov LTI in 'Leadership Zone' for internet of things technologies services, system integration, managed services, big data management, analytics segments Note: *Key industry rankings mentioned 10

11 Figure 20: Digital service type as % of digital services revenue (3QFY18#) LTI offers widespread digital services Figure 21: Digital revenue and % of total revenue Consistent growth in proportion of digital revenues 2% % 33% 35% 35% % 28% 28% 29% % 28% % % 20% 21% % 1% 30 10% 7% % 0% Software as a services and AD* Cloud related services Anatytics, AI, Cognitive Enterprise integration and mobility Platform based services 0 1QFY17 2QFY17 3QFY17 QFY17 1QFY18 2QFY18 3QFY18 Digital revenue (US$m) - LHS % of revenue (RHS) 0% Note: # based on our estimates; *AD stands for application development SOURCE: CGS-CIMB RESEARCH, COMPANY SOURCE: CGS-CIMB RESEARCH, COMPANY Figure 22: Digital services as % of US$ sales (3QFY18) and digital services sales growth, yoy % chg (9MFY18) LTI vs. Mindtree and NIIT Tech Digital services as % to US$ sales - 3QFY18 Growth from Digital services (%) - 9MFY18 (yoy) LTI Mindtree NIIT Tech Figure 23: LTI s digital services organisational and sales set-ups Well-planned organisation for digital services Organisational set up for digital services Separate leaders for individual services within digital services reporting to COO Organised as a horizontal service unit with mix of consultants (domain experts) and solutioning/architecturing team Sales set up for digital services Increasing recruitment of engineers from Tier I colleges for solutioning. Launched programme called ADEA (analytics and digital for each account) This program is for all clients but largely focuses on selling digital services to Top-50 clients Increasing recruitment from Tier I business colleges for sales and pre-sales roles. SOURCE: CGS-CIMB RESEARCH, COMPANY 11

12 Figure 2: Snapshot of LTI s digital services deal wins (3QFY17-3QFY18) Period 3QFY17 3QFY17 QFY17 1QFY18 1QFY18 Client Nordic financial services company US based global leader in automotive seating USA based provider of private labeled credit card Fortune 500 multi-specialty Bank and Insurance US based Global CPG manufacturer Digital Technology Size Particulars Blockchain NA Engagement with a Nordic financial services company in the area of Blockchain technology for enhancing data security in online transactions RPA NA Robotic Process Automation for a US-based global leader in automotive seating Cloud services NA LTI was selected by a US-based provider of private label credit cards, loyalty programmes and marketing services to consolidate its on-premise IT tools to the cloud Digital transformation 1QFY18 US based Retailer SAP to AWS cloud 1QFY18 US based, medical devices Cloud based company Oracle ERP 3QFY18 3QFY18 Fortune 100 Global Pharmaceutical corporation Saudi Arabia based Petrochemical company NA Multi-year application portfolio rationalisation, production support and digital transformation deal with a Fortune 500 multi-specialty Bank and Insurance company in the US SAP S/ HANA NA LTI was selected by a US-based consumer packaged goods (CPG) manufacturer to digitise its operations using SAP S/ HANA US$25m NA Won multi-year deal from US-based retailer to migrate its SAP infrastructure to Amazon web services (AWS) A US-based medical devices company selected LTI for implementation and support of cloud-based Oracle enterprise resource planning (ERP) solution SAP analytics NA Fortune 100 Global Pharmaceutical corporation selected LTI for a SAP Analytics engagement AI based chatbots NA Digital Consulting for Applications Portfolio Rationalisation and creation of AI-based Chatbot for User support for a Saudi Arabia-based Petrochemical company SOURCE: CGS-CIMB RESEARCH, COMPANY Examples of LTI s digital IT services in client applications MOSAIC AI: LTI used MOSAIC AI to shorten the client onboarding process for a large Asian bank from 2-3 days to two hours, by using chatbots (to let customers know when to hand over documents) and back-office AI process assistants (for optical character recognition, OCR, to analyse and verify the documents). MOSAIC AI helped to speed up the introduction of new models in car manufacturing. LTI has claimed a 25% improvement in time taken for testing by optimising auto makers car testing, while considering various parameters such as the availability of laboratory resources, as well as collecting and analysing diagnostic data by real-time streaming data from the cars being tested. In trade finance, large volumes of unstructured documents need to be scanned and read by analysts to identify data for transaction processing and to identify names of various parties involved. This can be done automatically by using MOSAIC AI s OCR and natural language processing (NLP) technology [Sources for above three examples: company reports, 51 Research.] Operational Analytics (OPERA): LTI s cloud-based platform that assimilates, manages, analyses, and visualises the data. It is a decision support application system that enables real-time analysis. OPERA was applied in a solar energy project to control and operate solar farms. L&T Solar deployed supervisory control and data acquisition (SCADA) to process parameters, alarms, events and other real-time data needed to effectively monitor and control the solar panels. The data was transferred to OPERA through the cloud using the OPERA gateway, which was used for analysis, reporting and monitoring of service level agreement (SLA) metrics in the OPERA framework. L&T Solar engaged with LTI, and leveraged on its information technology skills to implement OPERA with cloud computing at several solar farms. Key benefits of the project were reduced project risk, predictive maintenance (ability to reduce maintenance cost by 50%) and higher profitability (reduced operating expenditure by up to 10%). [Sources: company reports, ARC advisory group.] Industrial Internet of Things (IIoT): LTI s client was a multinational resource company. The client faced several issues such as legacy process control equipment, guesswork in maintenance scheduling and unplanned downtime. LTI employed an end-to-end IIoT approach by gathering data from sensors mounted on remote offshore equipment to generate alerts before problems occur. Key benefits achieved were no production time lost due to unscheduled downtime, US$20m in savings via preventive analytics and downtime reduced by 10%. [Source: company reports.] 12

13 Poised to scale up Unlike its peers, LTI has a well-diversified mix of services LTI has an extensive portfolio of scaled IT services that span consulting, IT services, infrastructure management services (IMS) and software platformbased services to digital IT services. In our view, this is important for any midsized IT services company to expand their client relationships and scope of work, improve client satisfaction and scale up revenues. In our view, its varied IT service offerings is a key factor that differentiates LTI from its local peers, many of whom have failed to raise revenue organically beyond a certain level. In our view, LTI s ability to address a diverse and dynamic range of business needs is key to its success in today s digital world. Figure 25: LTI has a more well-balanced portfolio of services compared to its local peers (annualised sales based on Oct-Dec 2017 quarter) Figure 26: LTI s 3QFY18# US$ revenue breakdown by service type LTI offers a wide range of digital IT services 700 2% % % 21% 1% 7% 0 LTI Mindtree Hexaware Mphasis NIIT Tech ADM (US$m) IMS (US$m) Enterprise Solutions (US$m) 0% Software as a services and AD* Cloud related services Anatytics, AI, Cognitive Enterprise integration and mobility Platform based services Note: For Mphasis, data for enterprise solutions are not available Note: # Based on our estimates; * AD stands for application development. SOURCE: CGS-CIMB RESEARCH, COMPANY.catering to various industries LTI not only offers a diverse range of service offerings with reasonable scale, it also has presence in various industry segments, with greater scale in large industry segments. We believe that LTI employs an effective strategy of initially focusing on a niche area, before ramping up expertise in other areas within the segment and thus, creating scale. Furthermore, its presence with large clients in each segment and/or its parent company s expertise in certain segments, help to promote the LTI brand image and presents competitive advantage over its peers and large IT services vendors. Banking and Financial Services (BFS, 27% of 3QFY18 sales) Despite high client concentration, LTI s prospects in this sector are improving Within the banking and financial services (BFS) sector, LTI s expertise lies in corporate banking, risk and compliance, capital markets and investment banking, wealth and asset management. LTI provides enterprise IT and digital services, as well as a number of solutions designed specifically for investment funds and asset management, based on its Unitrax product platform (LTI acquired this product from Citigroup in 2011). In addition, its product line includes Investortrax and Advisortrax, which provide investors and advisors with real-time account information, as well as web-based and encrypted access. Although LTI s revenue concentration in a few clients in this segment is greater than in other segments, the company is confident about its future BFS revenue growth through deeper client mining, upselling and cross-selling opportunities to other large corporations. LTI is witnessing strong traction in the build-up of its order book over last 6-7 quarters until 3QFY18. One of LTI s largest clients 13

14 US$ sales growth from BFS - % chg qoq IT Services India currently is Citigroup Inc (C US, Not Rated), to which it provides services for corporate banking, risk, compliance and investment banking. We do not expect LTI to see major demand headwinds from any regulatory reforms in the US as its work with Citigroup revolves around core regulatory processes like the Comprehensive Capital Analysis and Review (CCAR), which, in our view (based on various media reports), are unlikely to be revoked for large banks like Citigroup. Also, given the expectations of stable growth in Citigroup s operating profits (based on Bloomberg consensus estimates) and LTI s improving client-mining/cross-selling capabilities byleveraging on its experience, we believe that the growth outlook for LTI for BFS revenues is unlikely to deteriorate materially moving forward. By leveraging on its success with large clients like Citigroup, to attract other large clients, LTI gained two new large clients (among Fortune 100) in FY17. We also believe that general data protection regulations (GDPR) in Europe, which are likely to go into effect by late May 2018, could be growth drivers for IT services vendors like LTI. We believe that LTI is well positioned to leverage this demand due to its expertise in managing risk and compliance work for large global banks/clients; it is also relatively better positioned for markets outside the UK but within Europe, in our view. According to LTI, it has already started working on many proof-of-concepts (POC) and small projects relating to GDPR to help clients navigate this effectively. Also, we believe the recent acquisition of Syncordis should help LTI build and leverage capabilities within core banking for the retail banking segment (LTI is stronger in wholesale banking) through Syncordis proficiencies in the Temenos core banking solution. LTI also hopes to diversify its presence in Europe through this acquisition. Figure 27: BFS snapshot (as of Dec 2016) Figure 28: LTI s BFS sales growth has been outperforming despite high client concentration Quality of client base 30% of clients from Fortune 500 list 10 Consultants/Employees 500+ Revenue contribution 27% of 3QFY18 sales New client logos opened 1 new logos opened from QFY17-3QFY Marquee client base 3 of top 10 global banks 3 of top 10 asset management companies in US 2 of top 5 banks in UK 2 of top 5 banks in Europe 2 of top 5 banks in South Africa 180 fund houses using LTI TA platform on cloud - (2) () (6) (8) (2) (1) (2) (3) (3) (6) 3QFY17 QFY17 1QFY18 2QFY18 3QFY18 Intellectual Property Unitrax, AdvisorTrax, InvestorTrax LTI Hexaware Mphasis NIIT Tech Infosys 1

15 US$ sales growth from insurance (% chg qoq) IT Services India Figure 29: Citigroup s sales growth vs. its growth in technology/communication spending, based on Bloomberg consensus estimates Figure 30: History suggests a rising interest rate scenario is good for banking, financial services and insurance (BFSI) revenues 20.0% 15.0% 10.0% 5.0% 0.0% -5.0% 15.3% 5.3%.9% 2.3% 1.6% 3.1% bp 100bp 125bp -25bp -50bp bp bp -00bp CY01 CY02 CY03 CY0 CY05 CY06 CY07 CY08 300bp 200bp 100bp 0bp -100bp -200bp -300bp -00bp -500bp -600bp -10.0% CY12 CY13 CY1 CY15 CY16 CY17 CY18F CY19F CY20F Technology/Communication expenses (% growth) Revenue Growth yoy % Incremental BFSI revenues (US$m) of Infosys (LHS) Federal fund rate increase (bps) (RHS) SOURCES: BLOOMBERG Note: For above chart Federal fund rates changes in CY01 corresponds to Infosys s FY02 (March end) incremental BFSI revenues and so on. SOURCES: BLOOMBERG, COMPANY REPORTS Insurance (21% of 3QFY18 sales) Strong domain expertise LTI provides industry-specific insurance offerings across the insurance value chain, with a focus on property and casualty insurance. It also provides services and solutions for life insurance and pensions, health market segments, reinsurance sales, administration and policy matters. Insurance clients include carriers, brokers, reinsurers, intermediaries and independent software vendors. One of its main capabilities in this segment includes package implementation services with expertise across leading solutions like Duck Creek, Guidewire and Insurity. LTI s rich experience and branding in the insurance segment is reflected in the quality of its marquee clients, domain experts/employees at scale and the fact that around 29% of segment revenues coming from digital services. The success of its services and solutions is also implied by the fact that LTI has received recognition and various awards despite stiff competition in the segment, in our view. Figure 31: LTI s insurance snapshot (as of Dec 2016) Figure 32: Insurance segment qoq growth trend Quality of client base Consultants/Employees Revenue contribution New client logos opened Marquee client base Expertise in 25+ software products 31% of clients from Fortune 500 list 19% of 3QFY18 sales 8 new logos opened from QFY17-3QFY18 2 of top 5 global brokers 3 of top 10 Insurers in North America Leading 5 workers compensation Insurers 1 of top 3 global reinsurers Leading Insurers in UK, Canada, South Africa, India Leading Independent Software Vendors (ISV) with P&C Specialty Duckcreek, Insurity, SAP, salesforce, Pega etc (2) () (6) (8) (1) (3) () (5) (6) 1QFY17 2QFY17 3QFY17 QFY17 1QFY18 2QFY18 3QFY18 LTI Mphasis NIIT Tech Infosys Given the extreme weather events in the US in 2HCY17 and LTI s presence in the property and casualty space, we are watchful of growth considering some possible demand headwinds from adverse weather conditions that could put pressure on the near-term earnings growth of many insurance companies in the US (as stated in various media reports). 15

16 2QFY16 3QFY16 QFY16 1QFY17 2QFY17 3QFY17 QFY17 1QFY18 2QFY18 3QFY18 US$ sales from Mfg (% chg qoq) IT Services India Manufacturing (17% of 3QFY18 sales) a widespread portfolio LTI s competitive advantages in the manufacturing segment include 1) its widespread exposure to key sub-segments (including construction, auto, aerospace, plant and equipment, process manufacturing, defense etc.), 2) its parent s rich experience and branding (for example, LTI leverages experience from its parent s heavy engineering division to utilise its business-to-it connect model, which enhances operational efficiencies across the business value chain) and 3) its various industry-specific solutions. For example, within engineering and construction, LTI offers software solutions and consultancy services throughout various phases of the engineering, construction and procurement value chain, from proposal to award, project planning and design to take-off, procurement to payment, execution to delivery and project financials. With these capabilities and a team of experts, LTI is able to provide end-to-end domain-led IT/digital services within manufacturing, including research and development, sourcing and operations, distribution and logistics, sales and marketing, aftersales and customer service. One of the core services within this segment is enterprise solutions (i.e. software package implementation and customisation services). Manufacturing sales growth is likely to be volatile in coming few quarters post 3QFY18 given the completion of a few large projects and some pass-through sales in QFY17 and 3QFY18, coupled with a high base in the past few quarters, in our view. Figure 33: Deep domain expertise in manufacturing* (as of Dec 2016) Process Industry Segments Industrial manufacturing Engineering & Construction Quality of client base Expertise Segments Quality of client base Expertise Segments Quality of client base Expertise Chemicals, Metals & Mining, Paper & Pulp, Agribusiness from top global 2000 list Operations monitoring & optimisation, asset performance management etc Construction & Mining Machinery, Industrial machinery & components 7 from top global 2000 list Asset monitoring, predictive analytics in maintenance Engineering, Procurement, Construction, Maintenance from top global 2000 list E-Connect, market analysis repository, automation, E&A applications Figure 3: Volatile growth in manufacturing (Mfg) segment s sales qoq (5.0) (10.0) (8.5) (11.3) 16.6 Automotive & Aerospace Segments Quality of client base Expertise OEM's, Tier 1, Dealers 10 from top global 2000 list RFID container tracking, warranty analytics, dealer management, packaging and logistics (15.0) Energy and utilities (12% of 3QFY18 sales) strong domain expertise LTI offers end-to-end software solutions and consultancy for the energy segment (including oil and gas, end-to-end, from upstream to downstream, with more services for downstream than other sub-segments) and utilities (for generation, transmission and distribution). Within this segment it provides IT services related to enterprise solutions (more focused on SAP practice), large project management and operations. LTI s energy clients include integrated oil companies, national oil companies, petrochemical and oil field services companies. Since 200, Chevron (CVX US, Not Rated) has been one of its key clients in the energy segment. Due to oil price volatility, LTI is currently witnessing soft growth in this segment as clients are still cautious in terms of IT 16