While the Satyam acquisition is accretive by 18% on FY10E reported numbers (assuming 42% stake), the market has ignored the extant BTGS issue that continues to dog the Satyam Tech Mahindra combine.
We expect the BT issue to take centre stage again which will bring valuation back to peerset levels.
As core BT contracts wind down, BTGS was supposed to ramp up to fill the void. However, with BTGS breakeven not in sight, ramp ups in BTGS will be hard to come by.
Our research indicates that capex and expansion plans for BT has entered a phase of secular decline across BT retail, wholesale and global services divisions.
With these challenges at hand, Tech Mahindra will have to garner new clients in a bleak end market. We also see Tech Mahindra contracts with BTGS heading the way BTGS’ contracts with its external clients have turned out.
Our Satyam estimates are burdened with potential liabilities of Rs20 billion (against our FY10 PAT estimate of Rs6bn) and risks of attrition as clients wake up to risks of longer term engagement with the Satyam Tech Mahindra franchise.
We see the next two quarters to be volatile for Satyam in terms of profitability and renewal of long term master service agreements.
At combined revenue of around $2.4 billion in FY10, valuation at premium to HCL Tech (a revenue and margin equivalent) is unwarranted.
Besides the big three of Infosys, Wipro and TCS, rest of our coverage universe trades at a mean of 11.2x FY10 against Tech Mahindra’s 14.3x FY10 consolidated adjusted EPS.
With the euphoria in the stock price of Tech Mahindra running its course, we would like to position our investors on the side of caution as we expect high variability in quarterly margins on BT woes.
We maintain a SELL recommendation.