Growth led by Enterprise Retain BUY October 26, 20 Govind Agarwal govindagarwal@plindia.com +91 22 66322300 Hussain Kagzi hussainkagzi@plindia.com +91 22 66322242 Rating BUY Price Rs669 Target Price Rs780 Implied Upside 16.6% Sensex 27,362 Nifty 8,261 (Prices as on October 26, 20) Trading data Market Cap. (Rs bn) 53.5 Shares o/s (m) 80.0 3M Avg. Daily value (Rs m) 60.4 Major shareholders Promoters 38.53% Foreign 16.61% Domestic Inst. 11.75% Public & Other 33.11% Stock Performance (%) 1M 6M 12M Absolute 0.7 (3.3) 0.7 Relative (5.1) (3.0) (1.2) How we differ from Consensus EPS (Rs) PL Cons. % Diff. 2016 37.7 38.9 2.9 2017 44.8 46.2 3.1 Price Performance (RIC: PERS.BO, BB: PSYS IN) (Rs) 1,000 800 600 400 200 0 Oct 14 Dec 14 Source: Bloomberg Feb Apr Jun Aug Oct Persistent Systems (PSYS ) Q2FY16 performance was largely in line. We believe that EBIT margins have bottomed out and IP led revenues which have been soft for past few quarters will benefit from the launch of new product by Q4FY16. Company has been able to significantly scale up revenues from enterprise customers and we see this as a medium term positive. Retain our BUY rating with TP of Rs780. Revenue growth led by Services and RGen; Wage hike impact on margins: Revenue in USD term was up 5.5% QoQ to US$83.0m (PLe: US$ 83.7m, Cons: US$83.4m) led by 8.5% QoQ Services revenue growth. RGen contributed 2.8% to the revenue (US$ 2.3m) implying a 2.6% QoQ organic growth. EBITDA margins contracted by 62bps QoQ to 18.7% (PLe: 18.8%, Cons: 19.2%), due to the impact of wage hike (240bps) and gratuity provision (180bps) partly offset by utilization improvement (110bps), INR depreciation (80bps) and lower visa cost (110bps). EPS for the quarter was Rs9.0 (PLe: Rs9.1, Cons: Rs9.0), up 6.9% QoQ. Strong Core Services growth a positive: Services revenues grew a strong 8.5% QoQ while IP led revenues (16% of revenues) were down 7% QoQ. Growth in services revenue was led by strong 14%/31% QoQ/YoY growth in enterprise customers. We are impressed with the rapid scale up in enterprise business which now contributes ~27% to revenues. Management attributed decline in IP led revenues to the impending launch of a new version of product in Q4FY16 which impacted license sales. IP led business tends to be lumpy across quarters. We believe strong core services growth is a positive and should negate the impact of volatile IP revenue. IP led business has bottomed out in Q2FY16: PSYS acquired Aepona an API centric player, from Intel. Aepona ($10mn run rate) will add to IP revenue in Q3FY16 however will aid EPS from FY17 onwards. Management is hopeful of revenue contribution from IP business post the new product launch and Aepona integration. Valuation & Recommendation Retain BUY with TP of Rs780: We tweak our estimates marginally and roll forward TP to Sep 16. Key financials (Y/e March) 2014 20 2016E 2017E Revenues (Rs m) 16,692 18,913 21,970 25,448 Growth (%) 28.9 13.3 16.2.8 EBITDA (Rs m) 4,303 3,906 4,287 5,078 PAT (Rs m) 2,493 2,906 3,020 3,585 EPS (Rs) 31.2 36.3 37.7 44.8 Growth (%) 32.9 16.6 3.9 18.7 Net DPS (Rs) 5.9 5.9 11.9 14.9 Profitability & Valuation 2014 20 2016E 2017E EBITDA margin (%) 25.8 20.7 19.5 20.0 RoE (%) 22.3 22.1 20.0 20.7 RoCE (%) 21.2 21.7 19.8 20.5 EV / sales (x) 3.2 2.8 2.3 1.9 EV / EBITDA (x) 12.3 13.4 12.0 9.8 PE (x) 21.5 18.4 17.7 14.9 P / BV (x) 4.4 3.8 3.3 2.9 Net dividend yield (%) 0.9 0.9 1.8 2.2 Source: Company Data; PL Research Q2FY16 Result Update Prabhudas Lilladher Pvt. Ltd. and/or its associates (the 'Firm') does and/or seeks to do business with companies covered in its research reports. As a result investors should be aware that the Firm may have a conflict of interest that could affect the objectivity of the report. Investors should consider this report as only a single factor in making their investment decision. Please refer to important disclosures and disclaimers at the end of the report
Exhibit 1: Largely in line quarter: Revenue touch softer, Margins in line (Rs m) Y/e March Q2FY16 Q1FY16 QoQ gr. Q2FY YoY gr. Cons PLe Var (Act. Vs PLe) Sales ($ m) 83.0 78.6 5.5% 76.3 8.7% 83.4 83.7 0.9% Period Average Rate 65.4 63.7 2.8% 60.8 7.6% 65.0 65.0 Sales 5,427 5,004 8.5% 4,642 16.9% 5,423 5,442 0.3% EBITDA 1,018 969 5. 957 6.4% 1,039 1,020 0.3% EBITDA Margin 18.7% 19.4% 62 20.6% 186 19.2% 18.8% 0 PBT 964 940 2.5% 994 3. 945 1,014 5. Tax 245 268 8.4% 281 12.6% 225 284 13.6% Tax Rate 25.5% 28.5% 305 28.2% 278 23.8% 28. 255 PAT 718 672 6.9% 713 0.7% 720 730 1.6% EPS (Rs) 9.0 8.4 6.9% 8.9 0.8% 9.0 9.1 1.6% Source: Company Data, Bloomberg, PL Research Exhibit 2: Software service revenue trend over the past few quarters Exhibit 3: IP led revenues have been soft 70 65 60 55 50 45 47 49 50 51 54 55 57 58 58 61 64 66 64 70 16 12 8 40 Q1FY13 Q2FY13 Q3FY13 Q4FY13 Q1FY14 Q2FY14 Q3FY14 Q4FY14 Q1FY Q2FY Q3FY Q4FY Q1FY16 Q2FY16 8 11 11 11 10 13 12 14 14 14 13 4 Q1FY13 Q2FY13 Q3FY13 Q4FY13 Q1FY14 Q2FY14 Q3FY14 Q4FY14 Q1FY Q2FY Q3FY Q4FY Q1FY16 Q2FY16 Exhibit 4: Telecom continues it s decline from the previous quarter Telecom 13.2% 6.5% 14.1% Infrastructure and Systems 54.7% 6.5% 6.2% Life Sciences & Healthcare 14.4% 6.3% 16.8% Financial Services 17.7% 12.5% 38.4% Exhibit 5: Strong growth in America largest revenue contributor America 86.2% 7.8% 8.8% Europe 6.8% 13.9% 17.3% APAC 7. 20.6% 0.1% October 26, 20 2
Exhibit 6: IP revenue continues to be volatile Software Service Revenue 83.8% 8.4% 13.3% IP related Revenue 16.2% 7.1% 10.2% Exhibit 7: Strong growth in onsite courtesy RGen acquisition Onsite 29.5% 16.2% 30.9% Offshore 54.3% 4.6% 5.6% IP Led 16.2% 7.1% 10.2% Exhibit 8: Revenue growth led by Non Top 10 clients Top Client 17.6% 2.6% 0.7% Top 5 Clients 35.4% 3.8% 6.6% Top 10 Clients 44.7% 3.5% 8. Non Top 10 Clients 55.3% 7.3% 9.3% Exhibit 9: The company added highest number of clients during the quarter Client Distribution Q2FY Q3FY Q4FY Q1FY16 Q2FY16 PES 281 273 268 277 311 IP Led 376 349 326 310 299 By Scale Large > $ 3Mn 14 14 14 17 Medium > $ 1Mn, < $ 3Mn 41 41 48 52 46 Exhibit 10: Strong uptick in Utilization provided margin cushion Employee Details Q2FY Q3FY Q4FY Q1FY16 Q2FY16 Sales & Business Development 212 208 224 216 208 Support 408 424 421 428 432 Technical 7,447 7,664 7,861 7,810 7,905 Total 8,067 8,296 8,506 8,454 8,545 Net Addition 191 229 210 52 91 Attrition LTM (%) 14.1% 14.7%.5% 16.4% 17.1% Utilization (Calculated) Blended 70.3% 74.3% 74.7% 72.9% 77.8% October 26, 20 3
Exhibit 11: An overview of the company s operating metrics Revenue by verticals (%) Q3FY14 Q4FY14 Q1FY Q2FY Q3FY Q4FY Q1FY16 Q2FY16 Telecom 18..3% 18.5% 16.7% 16. 16.3% 14.9% 13.2% Infrastructure and Systems 68.9% 71.6% 54.6% 56. 55.3% 54.5% 54.2% 54.7% Life Sciences & Healthcare 13.1% 13.1% 13.1% 13.4% 13.6% 14.3% 14.3% 14.4% Financial Services 13.8% 13.9%.1% 14.9% 16.6% 17.7% Revenue by geography (%) America 83.1% 85.4% 85.9% 86.1% 84.7% 85.4% 84.4% 86.2% Europe 6. 6.1% 6.5% 6.3% 7.1% 6.8% 6.3% 6.8% APAC 10.9% 8.5% 7.6% 7.6% 8.2% 7.8% 9.3% 7. Revenue by business (%) Software Service Revenue 82.2% 80.4% 80. 80.4% 81. 81.9% 81.6% 83.8% Onsite 20.5% 21.4% 23.1% 24.5% 25.1% 26.2% 26.8% 29.5% Offshore 61.7% 59. 56.9% 55.9% 55.9% 55.7% 54.8% 54.3% IP related Revenue 17.8% 19.6% 20. 19.6% 19. 18.1% 18.4% 16.2% Revenue by clients (%) Top Client 19.8% 21.1% 20.8% 19. 17.5% 16.5% 18.1% 17.6% Top 5 Clients 36.9% 39.4% 38.7% 36.1% 35. 34.1% 36. 35.4% Top 10 Clients 46.9% 48.5% 49. 45. 44.2% 43.2% 45.6% 44.7% Non Top 10 Clients 53.1% 51.5% 51. 55. 55.8% 56.8% 54.4% 55.3% Billing rates (USD/p.p.m) Onsite 14,510 14,355 14,905 14,864 14,862,9,321,075 Offshore 4,179 4,241 4,219 4,271 4,201 4,199 4,146 4,251 Billed person months Onsite 989 1,083 1,128 1,259 1,343 1,383 1,374 1,621 Offshore 10,321 10,100 9,797 9,995 10,573 10,616 10,390 10,605 TOTAL 11,310 11,183 10,925 11,254 11,916 11,999 11,764 12,226 Others DSO Days 63 63 69 65 65 68 67 68 Repeat Business 82.7% 85.2% 86.7% 83.6% 84.1% 85.6% 88.7% 86.2% October 26, 20 4
Exhibit 12: USD revenue growth trend Revenue (US $) QoQ YoY Exhibit 13: INR revenue growth trend Revenue (INR mn) QoQ YoY 86 84 82 80 78 76 74 72 % 5% 5% 5,600 5,400 5,200 5,000 4,800 4,600 4,400 4,200 20.. 10. 5. 0. 5. Q2FY Q3FY Q4FY Q1FY16 Q2FY16 Q2FY Q3FY Q4FY Q1FY16 Q2FY16 Exhibit 14: Declining EBITDA margin trend over the past few quarters Exhibit : PAT growth trend over the past few quarters EBITDA Margin QoQ YoY QoQ YoY 21% 21% 19% 19% 18% 18% 5% 5% % % 5% 5% % Q2FY Q3FY Q4FY Q1FY16 Q2FY16 Q2FY Q3FY Q4FY Q1FY16 Q2FY16 Exhibit 16: Persistent PE Band chart Exhibit 17: PER chart 1200 1000 800 600 400 200 0 Apr 10 CMP 7x 11x 16x 20x 24x Oct 10 Apr 11 Oct 11 Apr 12 Oct 12 Apr 13 Oct 13 Apr 14 Oct 14 Apr Oct 30 25 20 10 5 0 Apr 10 PER Mean Mean +1SD Mean 1SD Apr 11 Apr 12 Apr 13 Apr 14 Apr October 26, 20 5
Income Statement (Rs m) Net Revenue 16,692 18,913 21,970 25,448 Raw Material Expenses Gross Profit 16,692 18,913 21,970 25,448 Employee Cost 9,517 11,317 13,397,478 Other Expenses 2,872 3,690 4,286 4,892 EBITDA 4,303 3,906 4,287 5,078 Depr. & Amortization 1,026 939 936 1,030 Net Interest Other Income 0 932 814 864 Profit before Tax 3,427 3,900 4,165 4,911 Total Tax 934 993 1,145 1,326 Profit after Tax 2,493 2,906 3,020 3,585 Ex Od items / Min. Int. Adj. PAT 2,493 2,906 3,020 3,585 Avg. Shares O/S (m) 80.0 80.0 80.0 80.0 EPS (Rs.) 31.2 36.3 37.7 44.8 Cash Flow Abstract (Rs m) C/F from Operations 2,808 3,116 2,376 3,929 C/F from Investing (1,958) (2,3) (659) (763) C/F from Financing (516) (645) (528) (1,190) Inc. / Dec. in Cash 334 5 1,189 1,976 Opening Cash 499 833 988 2,177 Closing Cash 833 988 2,177 4,3 FCFF 1,789 3,050 1,594 3,166 FCFE 1,561 2,767 1,594 3,166 Key Financial Metrics Growth Revenue (%) 28.9 13.3 16.2.8 EBITDA (%) 28.4 (9.2) 9.8 18.4 PAT (%) 32.9 16.6 3.9 18.7 EPS (%) 32.9 16.6 3.9 18.7 Profitability EBITDA Margin (%) 25.8 20.7 19.5 20.0 PAT Margin (%) 14.9.4 13.7 14.1 RoCE (%) 21.2 21.7 19.8 20.5 RoE (%) 22.3 22.1 20.0 20.7 Balance Sheet Net Debt : Equity (0.1) (0.1) (0.2) Net Wrkng Cap. (days) Valuation PER (x) 21.5 18.4 17.7 14.9 P / B (x) 4.4 3.8 3.3 2.9 EV / EBITDA (x) 12.3 13.4 12.0 9.8 EV / Sales (x) 3.2 2.8 2.3 1.9 Earnings Quality Eff. Tax Rate 27.3 25.5 27.5 27.0 Other Inc / PBT 4.4 23.9 19.5 17.6 Eff. Depr. Rate (%) 12.0 10.0 9.6 9.8 FCFE / PAT 62.6 95.2 52.8 88.3. Balance Sheet Abstract (Rs m) Shareholder's Funds 12,223 14,055 16,123 18,519 Total Debt 426 142 142 142 Other Liabilities Total Liabilities 12,649 14,197 16,266 18,661 Net Fixed Assets 4,362 4,093 3,403 3,136 Goodwill 620 1 1 1 Investments 4,895 6,735 6,735 6,735 Net Current Assets 2,512 2,906 5,663 8,325 Cash & Equivalents 957 1,416 2,177 4,3 Other Current Assets 4,340 5,038 6,737 7,737 Current Liabilities 2,785 3,549 3,251 3,565 Other Assets 260 313 313 313 Total Assets 12,649 14,197 16,265 18,661 Quarterly Financials (Rs m) Y/e March Q3FY Q4FY Q1FY16 Q2FY16 Net Revenue 4,946 4,975 5,004 5,427 EBITDA 995 1,005 969 1,018 % of revenue 20.1 20.2 19.4 18.7 Depr. & Amortization 246 227 227 236 Net Interest Other Income 245 181 198 182 Profit before Tax 994 958 940 964 Total Tax 249 198 268 245 Profit after Tax 745 761 672 718 Adj. PAT 745 761 672 718 Key Operating Metrics Revenue (US$ mn) 274 309 338 392. October 26, 20 6
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