MindTree

Investors with a two-year horizon can consider buying the shares of MindTree, a software and R&D services provider, given the overall improvement in IT spending from clients and a revival in the US.

The company has showed a robust improvement in key operating metrics, most importantly through the increase in per-hour realisations over the past two to three quarters.

A ramp-up in its top clients, revival in the number of large-deals and a heavy thrust on fixed-price contracts allow for revenue and margin visibility.

At Rs 539, the stock trades at a modest valuation of 10 times its likely FY11 earnings. This valuation is at a slight discount to comparable mid-tier IT companies. MindTree's share price was knocked down (15.6 per cent) over the last three weeks, largely due to the fact that the company would invest $10-11 million towards developing ready-to-brand 3G smartphones to be launched in the US and India.

Considering that any further investment by the company would only be made based on the performance of this product, the price correction may be unreasonable and present an attractive point for investors to enter.

In FY10, MindTree's revenue increased 4.7 per cent to Rs 1,296 crore, while the net profit trebled to Rs 214.8 crore. This is much better than several mid-tiers that had to contend with revenue declines last fiscal.

The company has seen an increase in realisations of close to 7.7 per cent onsite and 2.3 per cent offshore over the course of the last few quarters, thus aiding its margins. MindTree's top five clients have increased contribution to revenues, suggesting that ramp-up in volumes is well under way, a fact reinforced by a repeat business proportion of 99.1 per cent. The company has also seen an addition of large clients ($10 million) over the course of the last fiscal.

There has also been a steep increase in fixed-price contracts — that ensure better realisations, to 31.2 per cent of MindTree's revenues.

The company also has an enviable revenue-mix with 71.9 per cent revenues from services delivered from offshore locations (largely India) and ensures cost-optimisation. This proportion is among the best in the industry. MindTree hopes to better the Nasscom projected growth rate of 13-15 per cent in IT exports for 2010-11.

With its key segments of operation such as the US geography and verticals such as BFSI (Banking, Financial Services and Insurance) and travel and transportation stabilising, the company appears well-paced to achieve this growth on the revenue front.

A wage hike of 13-15 per cent may affect margins in the near-term, while a spurt in attrition (14 per cent) is a key execution risk.