Stock review: Tech Mahindra

TECH Mahindra's scrip has faired poorly not only during the current stock market rally but also over the past one year. Investors' concernes emanate from the fact that the company's topline has been witnessing pressure for the past several quarters due to currency fluctuations and a slowdown in global telecom sector, its only business vertical.

   With a sequential drop in revenue, the company's June 2010 financials do not look promising. What could, however, offer some solace to investors is the fact that Tech Mahindra (TechM) has continued to beef up its headcount across functions such as IT services, BPO and sales. This reflects the management's optimism about a pick-up in demand in future.

   TechM's stock has barely budged in the past one month compared to the 7% gain in the benchmark Sensex and nearly 5% returns of the ET Infotech index. Its shareholders have lost over one-fifth of their investment in one year. Had they invested in the Sensex, they would have gained 17%, or better still they would have earned a robust 27% return.

   A major concern for investors would be the sluggish trend in the dollar-denominated topline. Revenue in dollars tends to portray a fair picture since it does not reflect the impact of the rupee-dollar fluctuations. Its quarterly revenue had plummeted from the levels of $ 270 million in the June 2010 quarter to $212 million in the March 2009 quarter on account global economic slowdown. Since then though it has recovered, it is still lower than the levels seen two years ago. In the June 2010 quarter, it reported a revenue of $251 million.

   In contrast, its bigger peers including TCS, Infosys, and Wipro have reported an impressive turnaround in revenue growth in the past three quarters. Diversification in terms of verticals has helped these companies to steer back to higher volumes. TechM on the other hand depend solely on the global telecom players fro revenues, which are taking some more time to show a meaningful turnaround. TechM offers IT solutions to telecom service providers, equipment manufacturers, software vendors and systems integrators.

   Another worry for TechM is that its operating costs have not seen a proportionate decline, which has compressed its margins. Its personnel cost and other operating expenses continued to increase in the June 2010 quarter though sales declined sequentially.

   Amid the gloom, one indicator of future growth is TechM's expanding employee base. Over the past three quarters, it has increased headcount by 16%. Though on a relatively small employee base, the growth is much faster than 4-10% shown by its bigger peers.

   At the current price level of over 711, TechM's stock trades at 12.4 times its trailing 12-month earnings. Its September quarter result would play a crucial role in providing a hint of its future growth trajectory.