Deal pipeline, strong Q3 put Tata Elxsi on top gear

Firm well-placed to maintain margins at 25% levels on annual basis

The Tata Elxsi stock has gained 20 per cent over the last couple of trading sessions, thanks to better-than-expected December quarter results, its strong deal pipeline, as well as recovery in the engineering, research and development (ERD) segment.

Led by the embedded product design segment, which accounts for over 88 per cent of its revenues, the company reported 13 per cent growth in revenues as compared to the year-ago period.

On a sequential basis, growth was led by the industrial design and visualisation segment, which registered growth of 27 per cent.

Given the management commentary on growth across segments and geographies, brokerages have increased their revenue and margin estimates. Analysts at Spark research raised their revenue estimates by 11 per cent for FY22.

While the company has highlighted accelerated growth in the health care as well as the media and entertainment segments — which recorded 24-34 per cent growth in constant currency terms — the recovery in transportation segment could be a key growth driver.

The auto segment accounts for 41 per cent of revenues (down from nearly 49 per cent a year ago), and was one of the most affected segments due to the coronavirus pandemic.

Analysts at Sharekhan expect the company to be among the key beneficiaries of a strong recovery in the auto segment, pick-up in deals in the ERD segment, rising adoption of digital engineering, and long-term outsourcing opportunities.

While revenue growth trends are strong, the Street will also keep an eye out for margin gains. The company posted a 300-basis-point sequential improvement in operating profit margins (YOY gains at 800 bps) led by higher utilisation, improving offshore-onsite mix, and growth in the health care vertical that fetches higher margins.

Analysts believe that the company has adequate levers to maintain margins at the 25 per cent level on an annual basis, despite wage hikes.

While revenue and profitability are expected to be strong, the sharp run-up in share prices — up 56 per cent since the start of December — has factored in these gains.

At the current price, the stock is trading at 34x its FY22 earnings estimates; investors will have to seek out better entry points.