Mindtree rally roars on with strong Q2 show, outlook

However, valuations could cap upside as stock has gained 200% over past year

The Street can’t seem to get enough of mid-cap IT major Mindtree. Despite its stellar rally over the last year, the stock added 7.6 per cent to its tally on Thursday. The stock has now risen over 200 per cent or 3 times its value a year ago.

The trigger for the latest surge has been the best-inclass performance on revenues in the second quarter of financial year 2021-22 (Q2FY22), with margin performance and outlook adding to the optimism. A 12.7 per cent sequential revenue uptick was better than most estimates and was driven by broad-based growth across verticals.

The disappointment was the flattish performance in business from its top client, whose share of revenue now stands at 24 per cent. The positive, however, is that the share has come down from 30 per cent in the year-ago quarter, which has led to a more diversified growth mix. Excluding the top client, growth came in at 17.6 per cent.

The Street also took notice of the margin performance. Despite wage hikes in the quarter, operating profit margins rose 20 basis points (bps) quarter-on-quarter (QOQ) to 20.5 per cent.

Top line led operating leverage and current benefits were able to offset the 140 bps impact of the wage hikes. The company believes it can maintain margins above the 20 per cent mark in FY22 on the back of revenue growth, gains from the work from home shift, higher offshoring and increasing proportion of freshers.

Though deal wins moderated from $504 million in Q1, they were still healthy at $360 million. Additionally, a healthy deal pipeline and expectation of revenue growth across segments gives the management confidence of posting double-digit growth in the current year.

Given the strong Q2 show and robust outlook, most brokerages have raised their profit estimates of the company by over 7 per cent over the next couple of years. However, valuations at over 40 times its FY23 earnings estimates pushes it into expensive territory.

While raising FY22-24 earnings estimates by 6-14 per cent on the back of strong execution, analysts at Kotak Institutional Equities highlight that they are wary of stretched margins that have downside risks. Further, gaps in portfolio of offerings can prevent consistent scale-up across client buckets.

Given the sharp gains, investors could look at corrections and a 3 to 5-year holding period for sizeable gains in the stock.