MOSL: HEXAWARE TECHNOLOGIES (Sell)-Continued traction, but not enough to justify valuations

Hexaware Technologies: Continued traction, but not enough to justify valuations

(hexw IN, Mkt Cap USD2.0b, CMP INR451, TP INR390, 14% Downside, Downgrade to Sell)

• 1QCY18 profitability marginally lower: HEXW’s 1QCY18 CC revenue growth of 3.3% QoQ was in line with our expectation (+3%). EBITDA margin shrunk 40bp QoQ to 15.5%, below our estimate of 16%. The company reinvested gross profits in S&M early in the year in anticipation of continued traction. PAT grew 11% QoQ to INR1.34b (in-line). On a YoY basis, USD revenue grew by 12.1% (CC revenue 10.1%), EBITDA by 0.2% and PAT by 17.8%.
• Retains guidance for now: HEXW had a strong start to the year, and reiterated benefits of seasonality that it expects to accrue in 2Q/3QCY18. The ask rate to meet the guided band stands at 2.7-3.9%, which is achievable and perhaps the reason why HEXW intends to wait for at least another quarter before revisiting the guidance. It expects earnings growth for the year to mirror revenue growth.
• Valuation view – steep multiples drive downgrade: HEXW’s CMP discounts forward earnings by 20x. Our CY17-19 USD revenue/earnings CAGR stands at 13/12.6%. We see following challenges to sustenance of valuations at current levels:

[1] HEXW plans to grow revenue in ‘teens’ while retaining current profitability. If achieved, this will be a healthy performance, but, in our view, does not warrant a multiple in excess of the peer group (comprising the likes of TCS, MTCL and LTI).

[2] The company may not benefit as much as peers in the near term from a depreciating INR, given that it is heavily hedged. Management confirmed the same via its CY18 commentary of EPS growth mirroring revenue growth irrespective of currency.

[3] Dividend yield, which was elevated in earlier years, is now below 2% for payout of INR8/share in CY18.