Buy Persistent Systems; target of Rs 710: Prabhudas Liladher

Prabhudas Liladher's research report on Persistent Systems

Recent acquisition of PARX aims at strengthening its Salesforce competency in Europe (especially DACH region). Persistent is also focusing on IoT deals, especially in Automotive/Manufacturing vertical through its partnership with IBM. Overall IBM IoT deal revenues (US$47mn in FY17) are expected to grow by 10% in FY18 and Persistent is likely to get additional US$3mn revenues (v/s US$5mn guided earlier) from SI deals in IoT. IBM IoT deal which is loss‐making as of now will reach breakeven only in FY19 (v/s earlier guidance of breakeven by 2HFY18 in this deal). For Q2FY18, Digital SBU (18% of revenues as on Q1) will show strong bounce back delivering double‐digit sequential growth and remain key driver for consolidated revenue growth. However, we note that PARX acquisition would be consolidated for two months and hence, would aid in strong growth in Digital SBU for Q2FY18. Persistent is showing waning margin trajectory over the past few quarters which is a concern. IBM’s IoT deal led to a ~220bps YoY EBITDA margin drop in FY17 (EBITDA margin at 15.8% for FY17). We note that Q1FY18 EBITDA margin at 14.3% is at a multi‐quarter low. Traction in Digital‐led offerings might also necessitate higher onsite‐led delivery which could be a margin headwind. Management guided that margins could expand sequentially over the next three quarters of FY18 (which is already built in our estimates).

Outlook

We model Persistent’s USD revenues to grow by 11.3/13.1% for FY18/FY19E and EBITDA margins to 15.5/16.5% for FY18/FY19E (v/s 15.8% EBITDA margin in FY17). Our EPS estimates are at Rs41.1/47.5/sh for FY18/FY19E. Stock trades at 13.4x FY19E EPS which is at premium to select large cap stocks. While Persistent is showing revenue growth momentum, margin discipline is key in our view. Our TP is retained at Rs710/sh (14x June19E EPS). Net cash on balance sheet is at Rs8.8bn (Rs111/sh) which is ~17.2% of Mcap. Retain “BUY”.

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