KPITTech-IDFC-281015

RESU

LT NO

TE KPIT Technologies

For Private Circulation only. “Important disclosures appear at the back of this report”

Shashi Bhusan [email protected] 9122 6622 2631

Abhishek Gupta [email protected] +91 22 66222661

Key financials (quarterly)

(Rs m) 2Q15 1Q16 2Q16 QoQ YoY % var from est

Revenue (US$ m) 125.0 118.3 124.6 5.3 -0.3 3.5

Revenue 7,574 7,583 8,123 7.1 7.2 3.2

Gross profit 2,251 2,129 2,608 22.5 15.9 12.4

SG&A expenses 1,241 1,401 1,469 4.9 18.4 0.9

Depreciation 245 164 167 2.1 -31.6 -1.6

EBIT 765 565 971 72.0 27.0 39.7

EBIT margin 10.1% 7.4% 12.0% 451bp 186bp 313bp

Profit before tax 768 616 1,013 64.6 32.0 43.6 Reported net profit 706 444 757 70.5 7.3 45.0

EPS – FD (Rs.) 3.5 2.2 3.8 69.4 6.8 44.0

Source: Company, IDFC Securities Research

Q2FY16 result highlights

• Strong beat to expectation: Revenues grew +5.3% qoq to US$124.6m

(IDFC est/ Cons. US$120.3m/ US$121.6m) in USD terms, whereas in

INR terms it grew 7.1% qoq to Rs8,123m (IDFC est./ Cons.

Rs7,870m/Rs7,953m). EBITDA margin expanded by ~440bp to 14%

(IDFC est/Cons.: 11%). PAT at Rs757mn (IDFC est/Cons: Rs 522m/Rs

464m), growth of 70.5% qoq.

• Seasonality impact on Q3 outlook, but Q4 growth to re-accelerate:

Due to furloughs, and lower working days, Q3FY16 growth is likely to

be muted, but, Q4FY16 will witness re-acceleration driven by

engineering, platform and SAP.

• Margin to sustain at mid-teens: The company has regained mid-teen

(14%) margins despite wage hike in the quarter driven by various

initiatives like pyramid rationalization, client tail trimming and

utilization. We expect KPIT to sustain its margin at mid-teens as

revenue momentum picks-up in CY16.

Key positives: Strong revenue growth; margin recouped to mid-teens.

Key negatives: Muted guidance for Q3, near term challenges in IES SBU.

Impact on financials: Upgrade FY16-18E EPS by 11-12% on improved outlook.

Valuations & view

KPIT’s improved revenue and steady margin outlook indicate success of multiple initiatives taken by the company over the last 3-4 quarters. The client specific challenges are behind that resulted in sharp earnings cuts and de-rating. However, in-line with our expectation the company has regained mid-teens margins and we expect revenue momentum to 12% CAGR over FY16-18E. KPIT is currently trading at 8x FY17E EPS, and we expect re-rating to follow as visibility improves. We retain our Outperformer rating with a revised target price of Rs160 (10x FY17E EPS) from Rs140.

Strong beat, improving visibility – Re-rating to follow

21 October 2015

BSE Sensex: 27288

Sector: IT Services

Stock data

CMP (Rs) 124

Mkt Cap (Rs bn/USD m) 24.4 /376

Target Price (Rs) 160

Potential from CMP (%) 29.3

Earnings change (%)

FY16E +11.1

FY17E +11.2

FY18E +11.5

Bloomberg code KPIT IN

1-yr high/low (Rs) 233/85

6-mth avg. daily volumes (m) 1.6

6-mth avg. daily traded value

(Rsm/USDm) 173.7/2.7

Shares outstanding (m) 197.2

Free float (%) 78.3

Promoter holding (%) 21.7

Price performance – relative & absolute

(%) 3-mth 6-mth 1-yr

KPIT 16.8 (22.0) (20.0)

BSE Sensex (3.2) (1.4) 2.7

KPIT Technologies

Exhibit 1: Q2FY16 result snapshot

Rs m 2Q15 3Q15 4Q15 4Q15* 1Q16 2Q16 Comments

Net Revenue (US$ m) 125.0 126.4 122.4 122.4 118.3 124.6 Revenue grew 5.3% qoq led by Engineering,

Revenue 7,574 7,798 7,630 7,630 7,583 8,123 SAP, and Product & platforms

Direct costs 5,324 5,374 5,705 5,405 5,454 5,514 Cross currency headwind 30bp

Gross profit 2,251 2,424 1,925 2,225 2,129 2,608 Growth in Automotive/ E&U

Gross margin 29.7 31.1 25.2 29.2 28.1 32.1

SG&A 1,241 1,338 1,581 1,581 1,401 1,469 EBITDA 1,241 1,338 1,581 1,581 1,401 1,469 Margin headwind from wage hike (200bp)

EBITDA margin 13.3 13.9 4.5 8.4 9.6 14.0 was more than offset by correction in employee

Depreciation 245 219 225 225 164 167 pyramid, utilization and INR depreciation

EBIT 765 866 119 419 565 971 EBIT margin 10.1 11.1 1.6 5.5 7.4 12.0 Forex gain of Rs67m (Rs86m in Q1)

Profit before tax 768 841 146 446 616 1,013 Provision for taxation 63 187 -357 -5 172 256 Effective tax rate at 25.3%

Profit after tax (recurring) 706 653 503 451 444 757 Minority interest/ EO items 0 0 0 0 0 0 Reported net profit 706 653 503 451 444 757

Reported EPS (Rs.)

- basic 3.72 3.44 2.64 2.37 2.33 3.93 - diluted 3.52 3.26 2.52 2.26 2.22 3.76 Source: Company, IDFC Securities Research

Improving revenue and margin visibility – A precursor for re-rating

The management has undertaken various initiatives over the last 3-4 quarters to improve revenue and margin visibility.

• Improving profitability: The company has undertaken measures to retrace margin to mid-teens:1)

pyramid rationalization – added 585 fresher although net headcount reduced by 321, 2) tail trimming

initiative to get rid of low margin clients, and 3) utilization improvement – onsite and offshore

utilization improved by 400bp and 300bp qoq respectively. The management expects margin to

sustain at mid-teen level.

• Better revenue predictability: The capricious performance in the past has been the key concern for

the investors. The management cognizant of the fact has taken measures to improve the

predictability: 1) taken revenue and cost predictability measures across all SBUs to improve people

utilization, 2) standardized operating frameworks and business reviews across all levels, and 3)

reduced revenue leakage through non-availability of right resources.

• Focus on growth: The key strategic focus over the last two quarters was to recoup margins. After

achieving the same, the focus now shifts to strengthening the growth momentum. The efforts made

by the management 1) investment in account managers, 2) focus on product platforms, 3) investment

in digital technologies, and 4) curtail long tail in-order to improve focus.

What it means for growth and profitability?

We expect the management endeavour to fully reflect in revenue growth and profitability in CY16. We are factoring 12% revenue CAGR over FY16-18, and build in margin expansion of 360bp over FY15-18E. The revenue momentum would be aided by: 1) stability in Cummins account, 2) completion of ramp-down in top hi-tech account, 3) strong deal wins in engineering and product & platform, and 4) deal wins in SAP. Moreover, the margin visibility improved: 1) early signs of turnaround in SAP (mid-single digit margin in Q2FY16 is expected to be 8-10% in Q4FY16, 2) pyramid rationalization, 3) tail trimming, 4) operating leverage due to improved revenue momentum. We are factoring in 18% earnings CAGR over FY15-18E.

2 | IDFC SECURITIES 21 October 2015

KPIT Technologies

Balance sheet and other details

• Company had cash & equivalents of Rs4.4bn as of September 2015 and gross debt of Rs4.48bn,

including Rs3.66bn of working capital loan.

• Total headcount saw a net decrease of 180 employees (-1.7% qoq and TTM hiring of +7.3%). KPIT has rationalized lateral hiring and further improved pyramid through 415 fresher hires during the quarter (585 in H1FY16); pyramid correction and people rationalization has primarily driven the gross margin expansion of 680bp over last two quarters.

• Wage hike of 2% for onsite and 8% for offshore employees effective 1st July 2015 had a gross margin impact of 200-225bp in Q2FY16.

• Blended utilization improved by 350bp qoq to 73.1% (onsite up 410bp to 91.2%; offshore up 340bp to 69.8%).

• Capex in Q2FY16 was Rs290m (Rs656m in H1FY16; Rs825m in FY15).

• The company had total outstanding hedges of US$38.7m maturing in FY16 at an average rate of Rs66.69.

Maintain Outperformer with target price of Rs160

Why re-rating just round the corner?

KPIT capricious performance and weak cash conversion have been the key reason for discount to peers. However, measures taken by the management to improve predictability and profitability along with better DSO (aspire to range in 78-80 days), which would improve the cash conversion, would result in multiple re-rating. We believe KPIT is at cusp of re-rating, if the company shows steady performance over the next 2-4 quarters.

FY16-18E EPS has been raised by 11-12% on better revenue visibility and healthier margin outlook. We build in ~9% USD revenue CAGR and ~18% INR EPS CAGR over FY15-18E (INR/ USD of Rs65/ Rs67/ Rs67 for FY16/ 17/ 18E).

Exhibit 2: Change in estimates

Year to 31-Mar FY16E FY17E FY17E

Revenue (US$ m) - New 497 561 631

- Old 488 533 600

Change (%) 1.9 5.4 5.2

Net income - Recurring (Rs m) - New 2,626 3,201 3,899

- Old 2,352 2,859 3,475

Change (%) 11.6 12.0 12.2

Recurring EPS - Fully diluted (Rs) - New 13.1 15.9 19.4

- Old 11.8 14.3 17.4

Change (%) 11.1 11.2 11.5


KPIT’s improved revenue and steady margin outlook indicate success of multiple initiatives taken by the company over the last 3-4 quarters. The client specific challenges are behind that resulted in sharp earnings cuts and de-rating. However, in-line with our expectation the company has regained mid-teens margins and we expect revenue momentum to 12% CAGR over FY16-18E. KPIT is currently trading at 8x FY17E EPS, and we expect re-rating to follow as visibility improves. We retain our Outperformer rating with a revised target price of Rs160 (10x FY17E EPS) from Rs140.


KPIT Technologies

Other result tables Exhibit 3: Revenue mix by geography

(US$ m) 2Q16 1Q16 QoQ 2Q15 YoY

US 83.4 82.4 1.2% 83.1 0.4

Europe 22.7 19.8 14.7% 17.2 32.3

Rest of World 18.4 16.1 14.6% 24.8 -25.6

% of Total US 67.0 69.7 -269 bps 66.5 52 bps

Europe 18.2 16.7 149 bps 13.7 450 bps

Rest of World 14.8 13.6 120 bps 19.8 -502 bps


Exhibit 4: Revenue mix by industry verticals


Automotive & Transportation 46.5 43.9 5.8 46.4 0.1

Manufacturing 41.4 42.3 -2.1 39.5 4.9

Energy & Utilities 26.5 22.1 19.8 27.1 -2.3

Others 10.2 10.0 2.2 12.0 -14.9

% of Total Automotive & Transportation 37.3 37.1 19 bps 37.1 18 bps

Manufacturing 33.3 35.8 -251 bps 31.6 165 bps

Energy & Utilities 21.3 18.7 257 bps 21.7 -43 bps

Others 8.2 8.4 -25 bps 9.6 -140 bps


Exhibit 5: Revenue mix by service portfolio


Integrated Enterprise Solutions 46.1 46.1 -0.1 47.6 -3.1

Product Engineering Services 33.5 30.7 9.2 24.3 38.2

Products & Platforms 6.1 5.0 21.5 13.3 -54.5

SAP 27.3 25.0 9.5 28.2 -3.2

Enterprise Solutions 11.5 11.5 0.3 11.6 -0.6

% of Total Integrated Enterprise Solutions 37.0 39.0 -199 bps 38.1 -105 bps

Product Engineering Services 26.9 26.0 96 bps 19.4 751 bps

Products & Platforms 4.9 4.2 65 bps 10.7 -579 bps

SAP 21.9 21.1 84 bps 22.6 -65 bps

Enterprise Solutions 9.3 9.7 -46 bps 9.3 -2 bps


Exhibit 6: Revenue mix by project type


Fixed Price 89.9 86.2 4.2% 81.4 10.4

Time & Material 34.7 32.1 8.1% 43.6 -20.4

% of Total

Time & Material 72.1% 72.9% -72 bps 65.1 704 bps

Fixed Price 27.9% 27.2% 72 bps 34.9 -704 bps



KPIT Technologies

Exhibit 7: Revenue mix by delivery location


Onsite Revenues 68.6 65.4 4.9% 63.8 7.5%

Offshore revenue 54.9 51.7 6.1% 54.6 0.6%

SI 1.0 1.2 -13.0% 6.6 -84.7%

% of Total Onsite 55.1 55.3 -19 bps 51.1 403 bps

Offshore 44.1 43.7 36 bps 43.7 43 bps

SI 0.8 1.0 -17 bps 5.3 -446 bps


Exhibit 8: Key HR and Execution metrics

2Q16 1Q16 QoQ 2Q15 YoY

Development Team - Onsite (Avg) 1,568 1,564 0.3 1,456 7.7

Development Team - Offshore (Avg) 8,416 8,514 -1.2 7,518 11.9

Onsite FTE 1,430 1,362 5.0 1,327 7.8

Offshore FTE 5,870 5,654 3.8 5,383 9.0

Development (at Quarter end) 9,883 10,062 -1.8 9,191 7.5

Gen Management / Support 578 585 -1.2 572 1.0

Marketing (Subsidiaries) 198 192 3.1 170 16.5

Total 10,659 10,839 -1.7 9,933 7.3

Onsite Utilization 91.2% 87.1% 413 bps 91.1% 11 bps

Offshore Utilization 69.8% 66.4% 334 bps 71.6% -185 bps


Exhibit 9: Client data

Client Details 2Q16 1Q16 QoQ 2Q15 YoY

No of Active Customers 212 210 1.0 203 4.4

No of Customers Added 2 2 0.0 2 0.0

US$1m+ Clients 88 87 1.1 84 4.8

Client buckets (US$ m) Top Customer 17.7 16.8 5.4 18.6 -5.2

Top 5 Customers 37.0 36.4 1.8 40.1 -7.7

Top 2-5 Customers 19.4 19.6 -1.2 21.5 -9.9

Top 10 Customers 51.7 50.0 3.5 53.5 -3.3

Top 6-10 Customers 14.7 13.6 7.9 13.4 9.6

Non-Top 10 Customers 72.9 68.4 6.6 71.5 1.9

% of Total Top Customer 14.2 14.2 1 bps 14.9 -72 bps

Top 5 Customers 29.7 30.7 -101 bps 32.1 -236 bps

Top 10 Customers 41.5 42.2 -72 bps 42.8 -129 bps

DSO (daus) 82 85 -3.5% 80 2.5%



KPIT Technologies

Income statement Year to 31 Mar (Rs m)

FY14 FY15 FY16E FY17E FY18E

Net sales 26,940 29,899 32,224 37,595 42,294

% growth 20.3 11.0 7.8 16.7 12.5

Operating expenses 22,588 26,629 28,049 32,294 36,172

EBITDA 4,353 3,270 4,175 5,301 6,122

% change 19.1 (24.9) 27.7 27.0 15.5

Other income (74) 352 288 161 281

Net interest (287) (286) (203) (258) (177)

Depreciation 540 851 679 775 847

Pre-tax profit 3,452 2,485 3,580 4,428 5,378

Deferred tax 0 0 0 0 0

Current tax 941 115 955 1,227 1,479

Profit after tax 2,511 2,370 2,626 3,201 3,899

Preference dividend 0 0 0 0 0

Minorities 0 0 0 0 0

Adjusted net profit 2,511 2,370 2,626 3,201 3,899

Non-recurring items 0 0 0 0 0

Reported net profit 2,511 2,370 2,626 3,201 3,899

% change 26.2 (5.6) 10.8 21.9 21.8

Balance sheet As on 31 Mar (Rs m)


Paid-up capital 371 376 376 376 376

Preference capital 0 0 0 0 0

Reserves & surplus 12,380 12,585 14,929 17,793 21,354 Shareholders' equity

12,751 12,962 15,306 18,169 21,730

Total current liabilities 3,860 4,859 4,834 5,639 6,344

Total debt 4,390 4,457 3,677 2,777 2,277 Deferred tax liabilities

0 0 0 0 0

Other non-current liabilities

233 423 423 423 423

Total liabilities 8,483 9,739 8,934 8,840 9,045 Total equity & liabilities

21,234 22,701 24,240 27,009 30,774

Net fixed assets 2,161 2,328 2,641 3,082 3,467

Investments 0 0 0 0 0

Cash 1,908 3,638 4,006 4,554 6,355

Other current assets 9,989 9,511 10,189 11,789 13,189

Deferred tax assets 0 0 0 0 0 Other non-current assets 7,176 7,224 7,404 7,584 7,764

Net working capital 8,037 8,290 9,361 10,704 13,200

Total assets 21,234 22,701 24,240 27,009 30,774

Cash flow Year to 31 Mar (Rs m)


Pre-tax profit 3,452 2,485 3,580 4,428 5,378

Depreciation (540) (851) (679) (775) (847) Chg in Working capital (1,967) (628) (703) (794) (695)

Total tax paid (941) (115) (955) (1,227) (1,479)

Interest Received 0 0 0 0 0

Ext ord. Items 0 0 0 0 0 Operating cash flow

1,460 3,070 2,805 3,441 4,229

Capital expenditure (2,266) (113) (1,172) (1,396) (1,412) Free cash flow (a+b)

(806) 2,957 1,633 2,045 2,816

Chg in investments 0 0 0 0 0

Debt raised/(repaid) 1,177 67 (780) (900) (500)

Interest Paid 0 0 0 0 0 Capital raised/(repaid)

(15) 5 0 0 0

Dividend (incl. tax) (237) (240) (282) (338) (338)

Other items 129 (1,924) 0 0 0

Net chg in cash (13) 1,730 368 549 1,801

Key ratios Year to 31 Mar FY14 FY15 FY16E FY17E FY18E

EBITDA margin (%) 16.2 10.9 13.0 14.1 14.5

EBIT margin (%) 14.2 8.1 10.8 12.0 12.5

PAT margin (%) 9.3 7.9 8.1 8.5 9.2

RoE (%) 21.5 18.4 18.6 19.1 19.5

RoCE (%) 24.3 13.7 18.8 22.2 23.0

Gearing (x) 0.1 0.0 (0.1) (0.1) (0.2) Net debt/ EBITDA (x)

0.2 0.1 (0.2) (0.4) (0.8)

FCF yield (%) (3.3) 11.9 6.6 8.2 11.3

Dividend yield (%) 0.8 0.8 1.0 1.2 1.2

Valuations Year to 31 Mar FY14 FY15 FY16E FY17E FY18E

Reported EPS (Rs) 12.8 11.8 13.1 15.9 19.4

Adj. EPS (Rs) 12.8 11.8 13.1 15.9 19.4

PE (x) 9.7 10.4 9.5 7.8 6.4

Price/ Book (x) 1.9 1.9 1.6 1.4 1.1

EV/ Net sales (x) 0.9 0.8 0.7 0.6 0.5

EV/ EBITDA (x) 5.8 7.6 5.7 4.3 3.3

EV/ CE (x) 1.4 1.4 1.2 1.1 0.8

Client metrics

Shareholding pattern

As of June 15


KPIT Technologies

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Explanation of Ratings: 1. Outperformer : More than 5% to Index 2. Neutral : Within 0-5% (upside or downside) to Index 3. Underperformer : Less than 5% to Index Copyright in this document vests exclusively with IDFC Securities Ltd.

Disclaimer


KPIT Technologies

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Annexure to Research Disclosure


KPIT Technologies

www.idfc.com

Analyst Sector/Industry/Coverage E-mail Tel.+91-22-6622 2600

Anish Damania Co-CEO - IDFC Securities, Head - Institutional Equities; Strategy [email protected] 91-22-6622 2522

Shirish Rane Head of Research; Construction, Power [email protected] 91-22-662 22575

Nitin Agarwal Pharmaceuticals, Real Estate [email protected] 91-22-662 22568

Mahrukh Adajania Financials [email protected] 91-22-662 22574

Bhoomika Nair Engineering, Cement, Power Equipment, Logistics [email protected] 91-22-662 22561

Shashi Bhusan IT Services [email protected] 91-22-662 22631

Amit Rustagi Oil & Gas [email protected] 91-22-662 22688

Ashish Shah Construction, Power [email protected] 91-22-662 22560

Deepak Jain Automobiles, Auto ancillaries [email protected] 91-22-662 22562

Vijayaraghavan G Agri-inputs, Midcaps [email protected] 91-22-662 22690

Rohit Dokania Media & Entertainment, Midcaps [email protected] 91-22-662 22567

Abhishek Gupta Telecom, IT services [email protected] 91-22-662 22661

Mohit Kumar, CFA Construction, Power [email protected] 91-22-662 22573

Param Desai Pharmaceuticals, Real Estate [email protected] 91-22-662 22579

Probal Sen Oil & Gas [email protected] 91-22-662 22569

Harit Kapoor FMCG, Retail, Alcoholic Beverages [email protected] 91-22-662 22649

Saumil Mehta Metals, Mining [email protected] 91-22-662 22578

Abhishek Ghosh Engineering, Cement, Power Equipment, Logistics [email protected] 91-22-662 22658

Saksham Kaushal Automobiles, Auto ancillaries [email protected] 91-22-662 22529

Sanketh Godha Financials [email protected] 91-22-662 22657

Jiten Rushi Construction [email protected] 91-22-662 22615

Mehul Desai FMCG, Retail, Alcoholic Beverages [email protected] 91-22-662 22640

Dharmendra Sahu Database Analyst [email protected] 91-22-662 22580

Equity Sales/Dealing Designation E-mail Tel.+91-22-6622 2500

Ashish Kalra Managing Director, Sales [email protected] 91-22-6622 2525

Rajesh Makharia Director, Sales [email protected] 91-22-6622 2528

Nilisha Barbora Director, Sales [email protected] 91-22-6622 2595

Palak Shah SVP, Sales [email protected] 91-22-6622 2696

Varun Saboo SVP, Sales [email protected] 91-22-6622 2558

Hemal Ghia SVP, Sales [email protected] 91-22-6622 2533

Abhinav Rathee VP, Sales [email protected] 91-22-6622 2586

Nirav Bhatt AVP, Sales [email protected] 91-22-6622 2681

Chandan Asrani AVP, Sales [email protected] 91-22-6622 2540

Sneha Baxi Manager, Sales [email protected] 91-22-6622 2537

Kushal Bhammar Manager, Sales [email protected] 91-22-6622 2577

Suryakant Bhatt Director & Head - Sales trading [email protected] 91-22-6622 2693

Mukesh Chaturvedi Director, Sales trading [email protected] 91-22-6622 2512

Viren Sompura SVP, Sales trading [email protected] 91-22-6622 2527

Rajashekhar Hiremath SVP, Sales trading [email protected] 91-22-6622 2516

Alok Shyamsukha SVP, Sales trading [email protected] 91-22-6622 2523

Suketu Parekh VP, Sales trading [email protected] 91-22-6622 2674

IDFC Securities IDFC Capital (USA) Inc, Naman Chambers, C-32, 7th floor, Regus Business Centre G- Block, Bandra-Kurla Complex, 600 Third Avenue, Bandra (East), Mumbai 400 051 2nd Floor, INDIA New York,10016 Tel: +91 22 6622 2600 Tel: +1 646 571 2303 Fax: +91 22 6622 2503 Fax: +1 646 571 2301

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