MindTree to Undeperform – SSKI Research

India’s over hyped IT consulting firm MindTree consulting will under perform the IT sector performance according to research initiated by SSKI. They have set a target price of Rs 510, potential downside of 12% from current levels.

Kindly read about MindTree’s Management and Business Operations in our coverage during IPO. MindTree experienced slow revenue growth of 31.5% yoy in FY07 against and 82% in FY06, 89% in FY05 and 58% in FY04. MindTree has the lowest billed employees per client at just 15 while Satyam and Wipro have the highest at 51. MindTree’s EBITDA margins, at 18.6% in FY07, appear quite low compared to those of peers. At 65% of revenues in FY07, the share of development revenues is high for MindTree compared to peers.

At 65% of revenues in FY07, the share of development revenues is high for MindTree compared to peers. A high share of development services leads to lower utilization. A 100-people team, working on creating IP, is not billed. IP licensing revenues constituted only 1.2% of the overall revenues in FY07.

Due to lower margins and a higher tax rate, the strong revenue growth would result in only 15% CAGR in net profit. The management to cut its original net profit guidance of $25.1m-25.2m (25.9-26.4% yoy growth) to $22.5m-22.6m, a growth of just 14%. MindTree revised its EPS guidance to Rs 24.5 for FY08.

Tech Mahindra is expected to post net profit CAGR of 43% over FY07-09 while MindTree would post an 11% CAGR (for better comparison, taking into account Bloomberg estimates for MindTree as well). However, MindTree trades at 17.4x FY09E earnings compared to 13.5x for Tech Mahindra (superior growth prospects). SSKI recommends an Underperform rating on MindTree with a target price of Rs 510.