Sell Tech Mahindra - Disclosures to be patchy - Elara Capital

• Tech Mahindra
• Rating : Sell
• Target Price : INR700
• Downside : 10%
• CMP : INR776 (as on 27 September 2010)

Disclosures to be patchy; move to Sell

While we continue to believe that the Satyam numbers will be in-line with the current bullish expectations in the market, managements of both Tech Mahindra and Satyam look all set to continue their average track record in terms of disclosures (implied by the imminent delisting of ADRs). We now move to a Sell on the stock with a target price INR700 with a downside of 10%.

Satyam numbers – Our expectations from Sept 29 update

We believe that the sharp run-up in the Satyam stock factors in a FY10 EPS of around INR6 at an EBIT margin of around 12%. Any disclosure below this number will materially impact stock prices. The other key metrics to watch out for in the release on 29th would be the attrition number as it remains one of the most significant challenges of Satyam. To us, any number below the late twenties is acceptable. We do not expect any quarterly granularity from Satyam in this update. With the delisting from the ADRs now a certainty and with most ADR investors unlikely to hold the stock in the OTC exchanges, it would come under some immediate pressure.

Core Tech Mahindra marginally worse off since our last update

Since our last update, Tech Mahindra CEO Sanjay Kalra has left Tech Mahindra while the attrition has likely worsened. Channel checks indicate that Tech Mahindra is finding it extremely difficult to get non-BT clients at its current average billing rates. We have reduced the value of core Tech Mahindra in our SOTP to INR422.

Too soon to gauge scenarios for swap ratios

We think that stock prices of both Satyam and Tech Mahindra will only settle down after the Satyam numbers are out and dissected. At current markets capitalizations, a Satyam takeover over of Tech Mahindra (prima facie the more sensible option) means a swap ratio of 8.1 Satyam shares for 1 share of Tech Mahindra.

Risks to our call

In our view, the merger of Tech Mahindra and Satyam will be through before the end of FY11. We understand that there will be significant savings in the form of overheads. We, however, think that such gains are at least a couple of quarters away. Moreover, news flow on Satyam has and will remain extremely volatile during this period of uncertainty. We believe that investors are better off not holding the stock after the current run-up.

Source : Equity Bulls

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