MOSL: PERSISTENT SYSTEMS (Buy)-Headwinds to near-term profitability, but on track to revive margins

​PERSISTENT SYSTEMS: Headwinds to near-term profitability, but on track to revive margins

(PSYS IN, Mkt Cap USD0.8b, CMP INR649, TP INR740, 15% Upside, Buy)

We discussed with Persistent Systems (PSYS) about its business prospects amid multiple headwinds to profitability. Key takeaways

Three key headwinds to 1QFY18 profitability…

• Three factors challenge the 1QFY18 margin performance at PSYS, the collective impact of which should be up to ~250bp+, in our view:
• ~3.3% appreciation of the INR (~110bp)
• Visa expenses (100-110bp)
• 4Q base of some write-back of bad debt provision (~40-50bp).

… could be partially negated by IBM-IoT seasonality

• ​JFM is the weakest quarter for PSYS' IoT deal with IBM, and in the previous quarter too, it had a shortfall of ~USD3m.
  
• The non-linear nature of the segment means that incremental revenues should contribute positively to the operating margins.
  
• We model USD1.5m incremental revenues from the same in 1QFY18, which implies ~130bp offset to margin headwinds during the quarter.
  
• We are modeling EBITDA margin of 16.5% (-140bp QoQ). This is expansion of 140bp YoY from 15.1% in 1QFY17, implying on-track margin recovery (key thesis for our recent upgrade).