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Why one should look at Persistent after its huge fall

While the stock has corrected post a very disappointing quarter, we draw comfort from the commentary and the inexpensive valuation of 10.5X FY20e earnings.

October 23, 2018 / 01:09 PM IST
 
 
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Persistent had a difficult FY18, a modest start to FY19 and a very disappointing Q2FY19. While the failure to deliver on promises makes investors cautious, the significant correction in stock prices has rendered the valuation attractive. We take comfort from the management’s rather positive commentary even after the big miss.

The Persistent stock has been one of the worst performers in the IT pack, down 20 percent year to date compared to a 1.8 percent decline in the Nifty and a rise of 26.5 percent in the IT Index.

Persistent reported a very weak Q2 FY19. Revenue at revenue at $118.23 mn – down 4.3% sequentially (quarter on quarter) and flat year on year. While IP-led revenue declined on account of seasonality, there was a decline of service revenue as well.

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The management cited early closure of a project (due to mismatch of expectations between client and company), the shift of some projects offshore and supply constraints as the reasons for the revenue miss.

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The growth (year on year) of the digital revenue was also muted at 5% as against the heady growth in the thirties reported in the earlier quarters. The digital business de-grew by 1.7% sequentially.

The Alliance business was impacted by seasonality and de-grew by 12% quarter on quarter whereas the Accelerite business showed a sequential growth of 5%.

In the quarter under review, the company saw 40 basis points sequential margin improvement to 17.2% despite pay hike implemented in the quarter on account of a slight improvement in utilisation and gains from currency depreciation (+110 basis points).

Strong outlook but issues on the supply side

Persistent cited buoyancy in demand, but challenges in execution across sales, delivery and supply. The company made several changes over the past few quarters, these including merging Services and Digital, changing sales incentives that led to higher attrition from that team in the quarter, sharpening its product portfolio, created sales velocity team to drive focus and sales, and ramped up hiring. These should result in better performance, albeit gradually.

The company is looking to a much better second half of FY19 compared to the first half. Management reiterated that its pipeline is strong. Market demand growth and activity on new project is high. Deal sizes are also improving. The management expects 25 percent-30 percent uptick in deal pipeline.

But fulfilling the demand is a challenge. The issue on the supply side is to get the right people at the right time. We are more concerned about the supply side issues as the restrictive visa regime and dearth of talent in new technologies can significantly impact performance of smaller companies.

The company also mentioned about its Rs 43 crore exposure to IL&FS Group by way of Inter Corporate Deposits. However, given the strong Balance Sheet, any future impairment charges may be absorbed without much difficulty.

Persistent’s strategy is to focus on collaborative innovation/co-creation model to build new business models and revenue streams. It has already successfully created a new digital solution in collaboration with its existing clients. Going forward, the co-creation model should start showing results.

We remain positive on the growth potential of the company despite the volatility in earnings as it has strengthened its digital capabilities and migrated from pure effort based business to value based business (IP driven). Further, it is focusing on key service areas - Data, Digital and IoT (Internet of Things) for its targeted verticals – Financial Services, Healthcare and Industrials (IoT only) which has huge growth potential.

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The stock’s underperformance provides a good opportunity to buy it for the medium to long term.
Madhuchanda Dey
first published: Oct 23, 2018 01:09 pm

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