>MINDTREE (ICICI SECURITIES)

Green shoots to full bloom

MindTree enjoys strong management bandwidth versus other mid-caps and provides an attractive alternative to Fortune-500/1000 clients besides large vendors. However, the company can witness continued growth volatility given higher project-based revenues. With signs of recovery in global economy, we expect growth beyond FY10 to be healthy for MindTree given expected pick-up in discretionary spend for the industry and resulting margin uptick for MindTree as most of the margin pressure is bottoming out. Despite the stock’s run up recently, we initiate coverage with BUY and Rs725 target price. Our target FY11E P/E is at ~30% discount to Infosys’ target P/E, which we believe is fair considering MindTree’s quality management, better corporate governance and EBITDA & EPS CAGR of 20% and 12% respectively through FY10E-12E.

■ Client mining – Steps in the right direction. Earlier, MindTree underperformed peers on client mining despite a marquee client list. But recently it has addressed these by: i) recruiting lateral account managers from large global IT companies (account manager strength rose to ~10-12 from 2-3 YoY), ii) exiting ~50 client accounts given scale-up issues due to limited scope and iii) multi-service offerings to clients. These investments are likely to yield better results on revenues & margins, when global IT spending is showing signs of recovery even on discretionary/project-based spend, which forms a material part of revenues.

■ Margin-related pressure bottoming out. With likely recovery in IT spending in H2FY10/FY11, we expect MindTree’s EBITDA margin to improve hereon considering: i) utilisation (including trainees) touched a bottom of 61.1% in Q1FY10 from 70% in Q2FY09, ii) billing rate, post Aztecsoft’s consolidation, reduced 5-8% from Q3FY09 levels (Q3FY09, the first quarter to reflect full consolidation of Aztec), iii) Q1FY10 SG&A at 19.5% (similar to pre-IPO levels) versus 16-18% in FY08-09. Besides, we believe, incremental investment in S&M is likely to be lower.

■ Well positioned to outperform with quality management & marquee clients. Given MindTree’s quality management and marquee client list – Volvo, Unilever, LSI Logic, Symantec, United Technologies, Microsoft etc – which acts as a big differentiator versus other mid-cap peers, the company is likely to outperform after FY10. We expect 19% & 20% revenue & EBITDA CAGR in FY10E-12E post 1% & 30% decline in FY10E dollar revenues and rupee EBITDA respectively.

To see full report: MINDTREE

>SECTORAL CHARTSCAPE (ICICI SECURITIES)

We have compiled interesting charts across key sectors, which we believe have compelling stocks & key takeaways.

Some significant takeaways are:
■ IT Services look well poised as western economies recover and Indian IT Services are strongly correlated with these economies. We favour Tata Consultancy Services the most among larger companies as its revenue mix is ideal (it has the highest exposure to BFSI, which is recovering well, and the lowest to Manufacturing, which is still struggling). We also prefer HCL Technologies’ (HCLT) emerging verticals, which will fuel the company’s growth in the next 10 years; HCLT will benefit from this through Axon.

■ We reiterate BUY on Ranbaxy, which remains a contrarian call. We are currently valuing Ranbaxy’s first-to-file (FTF) ANDAs at 3x (present value of EPS), compared to 4-9x given by market to top tier pharma companies during product announcements. Prospective FTF launches over the next six months can trigger consensus rating upgrades and the FTF multiple.

■ We believe aluminium prices are well poised as they are still hovering around the cost curve. Significant destocking has been seen in the US and Europe, and this can absorb any demand shock from China. Global steel capacity utilisation is at a 25-year low; significant discipline will be required from producers to ensure that the positive price trends continue, which will be difficult.

■ Increasing market share of new operators coupled with new aggressive tariff plans reinforce a cautious stance on the telecom sector. Idea’s incremental market share has been hit significantly, making it a SELL for us. Bharti is our preferred pick in the sector as it continues to gain revenue share in the face of increasing competition.

■ Our composite real estate sector index is now trading close to NAV versus 60%+ discount 9-10 months ago, indicating that the sector is fairly valued. Using the discount to NAV as a basis, Sobha and HDIL are relatively more attractive, while DLF and Unitech are not.

■ Jagran has witnessed significant earnings revision and the steep fall in newsprint prices in the past 12 months has been a reason. While newsprint prices are inching up now, we believe positive consensus earnings revisions will continue (our FY10E estimates are 15% higher than consensus). Sun’s valuation premium to Zee has contracted over the past three years; we expect
its market leadership to drive that premium up again.

■ We are cautious on refiners due to our expectations of muted GRMs. Oil PSUs are hostage to policy changes; we are concerned on OMCs as we believe they will bear higher-than-expected subsidy sharing.

To see full report: SECTORAL CHARTSCAPE

>QE Sep-09 Earnings Preview: A Mixed Bag (MORGAN STANLEY)

Quick Comment: MS analysts expect aggregate earnings for the 94 companies in MS coverage universe to rise 39% for the QE Sep-09, compared to a 7% increase in Jun-09. Excluding the volatile energy sector, earnings are expected to decline 3% (this would be a fourth consecutive quarter of declining earnings). Based on our analysts’ estimates, the BSE Sensex earnings
are likely to decline 3% YoY compared to a 1% fall in the QE Jun-09.

What's new: The aggregate of our analysts’ estimates reveals that revenues for the MS coverage stocks could fall 10% YoY – revenues could therefore be down for a third consecutive quarter. Ex-energy, our analysts expect revenues to grow 6% YoY (compared to 8% growth in the previous quarter). The sample’s aggregate EBITDA margins are likely to rise by 624bps YoY.
Ex-energy EBITDA margins are forecast to fall 34bps (a likely fall for the fifth consecutive quarter). Six out of the 10 sectors are likely to see margin expansion with energy leading the set and materials seeing the sharpest contraction in margins. The strongest earnings growth is likely in energy (as the public sector oil companies are likely making profits vs. losses a year ago) followed by consumer discretionary (mainly autos) and healthcare whereas materials and telecoms appear distinctly weak. If we exclude the energy, financials and materials sectors, earnings are forecast to be up 8% YoY for our sample. Our analysts expect 13 companies to report 50% or more fall in earnings while 12 of them are expected to deliver 50% or more earnings growth.

Implications: We expect earnings to surprise on the upside ahead of our analyst expectations (as has been the case for the past two quarters) with the broader market outpacing the narrow market in terms of growth. The broad market earnings were up 7% versus a 1% fall in Sensex earnings in the previous quarter (QE Jun-09).

To see full report: INDIA STRATEGY

LARSEN & TOUBRO, SHIV-VANI OIL & GAS, GRASIM & ULTRATECH CEMENT, Q2FY2010 IT EARNINGS PREVIEW

INDEX

■ Stock Update >> Larsen & Toubro
■ Stock Update >> Shiv-Vani Oil & Gas Exploration Services
■ Sector Update >> Cement (Grasim Industries & UltraTech Cement)
■ Sector Update >> Pharmaceuticals
■ Sector Update >> Automobiles
■ Sharekhan Special >> Q2FY2010 IT earnings preview

To see full report: INVESTOR'S EYE 05/10/09