MOSL: KPIT TECHNOLOGIES (Neutral)-Riding high on the optionality of demerger benefits

KPIT TECHNOLOGIES: Riding high on the optionality of demerger benefits; Reinstating our Neutral rating

(KPIT IN, Mkt Cap USD0.8b, CMP INR289, TP INR320, 9% Upside, Neutral)

• Earlier this year, KPIT announced a demerger of its Engineering business and a merger of the remainder (IT services) with Birlasoft, which is likely to be executed this year.
• However, because of the earlier non-availability of the financial performance of Birlasoft, we chose to be on the sidelines and put our rating under review.
• With some clarity on Birlasoft's financial performance, we now reinstate our Neutral rating, valuing separately the three pieces: (a) KPIT's IT business, (b) Birlasoft and (c) KPIT Engineering.
• Our price target of INR320 discounts forward IT Earnings by 12x and forward Engineering earnings by 18x. We reckon the optionality from demerger benefits is captured at current levels.

 Separating the two businesses

• After several years of coping with integration issues and legacy pressures in its IT services business, KPIT announced that it would demerge its Engineering business and merge the IT services bit with Birlasoft.
• KPIT would focus on Automotive Engineering, while Birlasoft would be an IT services player with offerings across ADM, ERP, IMS and Digital.
• The transaction was announced in January 2018; got approved by the CCI and triggered an open offer in April, and is expected to get executed by the year-end.