IDirect PersistentSystems IC

Initiating Coverage
April 9, 2013
Rating matrix Rating Target Target Period Potential Upside YoY Growth (%) : : : : Buy | 600 12 months 11%
Persistent Systems (PERSYS)

Long haul!
FY15E 14.5 16.9 17.4 11.3 4.7 10.7
| 540
FY12 Net Sales EBITDA Net Profit

[
FY13E 29.8 45.8 30.3
FY14E
28.9 44.8 1.6
Current & target multiple
FY12 PE (x) EV to EBITDA(x) Price to book (x) Target PE Target EV/EBITDA Target P/BV
[
FY13E 11.7 5.1 2.2 13.0 5.8 2.4
FY14E 10.6 4.9 1.9 11.7 5.5 2.1
FY15E 9.0 4.2 1.6 10.0 4.7 1.8
15.2 7.4 2.6 16.9 8.4 2.9
Stock Data
Bloomberg/Reuters Code Sensex Average Volumes (yearly) Market cap (| crore) Debt (Dec-12) Cash (Dec-12) 52 week H/L (|) Equity capital Face value DII Holding (%) FII Holding (%)
Comparative return matrix (%)
PSYS IN Equity/PERS.NS 18226 20673 | 2085 crore | 0 crore | 387 crore 591/319 | 39 crore 10 22.2 11.7
Returns (%) Persistent Infotech Ent. KPIT Cummins Mindtree

[
1M (6.4) (2.1) (11.3) (2.8)
3M 0.7 (6.5) (12.2) 20.2
6M 25.5 (11.6) (21.2) 29.8
12M 62.4 5.7 24.1 69.6
Price movement
Persistent Systems (PSL) continues to grow rapidly in the evolving outsourced product development (OPD) space. Concerted efforts to stay relevant and in sync with its customers sales strategy continue to feed its non-linear IP-led acquisition strategy as well as generate downstream OPD revenues. Technology investments, ahead-of-time, have led to a 2x growth in IP revenue contribution in the last five quarters while quarterly revenue CQGR of 4.4%, during Q1FY11-Q3FY13, 38% faster than employee growth, demonstrates considerable success of this strategy. We expect IP contribution to rise to ~26% in FY15E, led by recent deal wins, which could be gross and EBITDA (peer leading by now and tier-I comparable) margin accretive. Healthy balance sheet metric and 19% EPS CAGR over FY12-15E merit premium valuation. However, 65% stock price appreciation in TTM demands cautious accumulation given valuations at 10.6x FY14E EPS look full and consensus earnings expectation are not low as they factor 15% growth. We initiate coverage on PSL with BUY. Stay relevant stay hungry Persistent unveiled the 4 x 4 x 4 matrix to become more relevant to the clients, increase focus on emerging verticals and define the concentration of operating verticals. In addition to traditional Sell-To (OPD) model, PSL launched two more market positioning or how to sell strategies: 1) Sellwith selling to customers customer, and 2) IP led partner/co-create IPs along with customers. PSL has successfully opened 20+ new logos adding business worth $15 million in FY12. We believe PSL stays relevant and in sync with its customers sales strategy which in turn helps to 1) generate downstream OPD revenues and 2) identify and acquire nonstrategic customer products, feeding its IP acquisition strategy. OPD exports could grow 3.8x in the next seven years Having grown 17% YoY to reach $1.4 billion in FY13E, OPD exports continue to evolve rapidly and now account for 12.5% of ER&D exports vs. 11.8% in FY12. Assuming ER&D market potential in 2020 ($42 billion) and similar contribution suggests OPD exports could be a $5.3-billion opportunity, 3.8x it current size. Long horizon bet We are modelling revenue, PAT CAGR of 18.3%, 19.2% respectively, during FY12-15E. Though EBITDA margins could decline 154 bps in FY14E led by investments in new deal wins, we expect average 24.4% margins during FY13-15E. We value the stock at | 600 i.e. at 10.4x CY14E EPS estimate of | 57.8.
Exhibit 1: Key financials
FY11 Net Sales (| crore) EBITDA (| crore) Net profit (| crore) 776 158 140 34.9 15.5 10.7 2.9 19.9 17.4 FY12 1000 229 142 35.4 15.2 7.4 2.6 17.8 20.3 FY13E 1298 334 185 46.2 11.7 5.1 2.2 20.2 19.8 FY14E 1445 350 204 51.1 10.6 4.9 1.9 19.2 20.0 FY15E 1654 409 240 60.0 9.0 4.2 1.6 19.5 20.0
200 150 100 50 0 Nov-11 Aug-11 Aug-12 Nov-12 Feb-11 Feb-12 May-11 May-12 Feb-13
EPS (|) - diluted PE (x) EV to EBITDA(x) Price to book (x) RoNW (%) ROCE(%)
[
Nifty
Persistent
Analysts name Abhishek Shindadkar abhishek.shindadkar@icicisecurities.com Aishwariya KPL aishwariya.kpl@icicisecurities.com
Source: Company, ICICIdirect.com Research
ICICI Securities Ltd | Retail Equity Research
Shareholding pattern (Q3FY13)

Shareholder Promoters FII DII Others Holding (%) 39.0 11.7 22.2 27.2
Company background
Persistent Systems Ltd (PSL), founded in 1990 (IPO in 2010) and headquartered in Pune, is a global company specialising in software product & technology solutions and provides the same to customers in technology, telecommunication, life science, healthcare, banking and consumer product sectors across North America, Europe and Asia. The company has deep domain expertise on next-generation cloud, business intelligence & analytics, collaboration as well as mobility-based computing platforms. PSL has ~6,700 associates with overseas offices spread in the US, UK, Canada, Netherlands, Singapore, Malaysia, etc.
FII & DII holding trend (%)

42 36 % 30 39.0 32.8 39.0 33.0 39.0 33.6 39.0 34.7 24 39.0 33.9
Business description
PSLs business model and solution positioning concentrates on 1) outsourced product development (OPD, ~70% of Q3FY13 revenues) traditional product engineering services (PES) business, intellectual property (IP, ~18%) and platforms (~12%). Segregating IP revenues yields royalty revenues (34% of IP), license (13%), annual maintenance charges (18%) and others (35%). From an offering perspective, PSL focuses on key technology growth areas of cloud computing (~11.4%), enterprise collaboration (12.9%), analytics (8.4%) and mobility (12.9%). Together, they contributed ~$80 million or 45.8% of Q3FY13 revenues. The company serves industry verticals like life sciences (11% of Q3 revenues), infrastructure and systems (63%) and telecom & wireless (26%). Total 73% of revenues (excluding IP) are time & material based while 8% are fixed bids. Generally, fixed bid billings are PES projects while platform billings are time and material based but with higher bill rates than the traditional business.
Exhibit 3: while it operated at a healthy 23.9% (avg) EBITDA margin
50 29.1 1.2 1000.3 424.9 593.8 601.2 775.8 28.9 40
| crore 250 200 150 100 178.8 146.4 158.3 229.3 91.3 50 0 21.5 24.3 30.1 20.4 22.9 40 30 20 10 0 % FY12
Q3FY12
Q4FY12
Q1FY13
Q2FY13
Q3FY13
Promoters
FII & DII
Exhibit 2: Revenues grow at 24% CAGR during FY07-12

1200 900 | crore 600 300 0
39.8
30 20 10 0 % FY11 % growth FY12
FY08
FY09 Revenue
FY10
FY08
FY09
EBITDA
FY10
FY11
% margins
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Exhibit 4: Telecom & life sciences grow at 8.1% and 5.1% CQGR, faster than company average of 4.4%
% Telecom & wireless Infrastructure & systems Life Sciences & healthcare $ million Telecom & wireless Infrastructure & systems Life Sciences & healthcare Growth, QoQ Telecom & wireless Infrastructure & systems Life Sciences & healthcare FY10 23.1 65.7 11.3 FY10 28.8 83.1 14.0 FY10 Q1FY11 18.5 71.7 9.8 Q1FY11 7.3 28.3 3.9 Q1FY11 -2.4 10.2 5.0 Q2FY11 20.0 69.4 10.6 Q2FY11 8.1 28.1 4.3 Q2FY11 10.9 -0.7 11.0 Q3FY11 23.0 65.4 11.6 Q3FY11 9.9 28.3 5.0 Q3FY11 22.7 0.5 16.7 Q4FY11 20.5 68.3 11.2 Q4FY11 9.7 32.1 5.2 Q4FY11 -2.9 13.7 4.7 FY11 20.5 68.7 10.8 FY11 35.0 116.8 18.4 FY11 Q1FY12 Q2FY12 Q3FY12 22.2 22.0 20.4 67.9 67.4 67.1 9.9 10.6 12.5 Q1FY12 Q2FY12 Q3FY12 11.1 11.3 10.5 34.0 34.7 34.7 5.0 5.5 6.5 Q1FY12 Q2FY12 Q3FY12 15.0 2.1 -7.0 5.7 2.3 -0.2 -5.7 10.3 18.2 Q4FY12 21.0 67.6 11.4 Q4FY12 11.4 36.6 6.2 Q4FY12 8.2 5.6 -4.3 FY12 21.4 67.5 11.1 FY12 44.4 140.0 23.0 FY12 Q1FY13 Q2FY13 24.2 28.0 64.3 62.4 11.5 9.6 Q1FY13 Q2FY13 13.3 16.8 35.3 37.5 6.3 5.8 Q1FY13 Q2FY13 16.5 26.4 -3.6 6.1 2.2 -8.7 Q3FY13 26.1 63.4 10.5 Q3FY13 15.9 38.5 6.4 Q3FY13 -5.6 2.8 10.6
Exhibit 5: New technology vs. old technology revenue break-up

120 60 50 40 30 40 12.9 0 22.6 Social 8.4 14.7 Analytics 11.4 20.4 Cloud YTDFY13 revenues (US$) 12.9 20.7 Mobility 97.3 Old technology % 20 10 0 %
54.5
80 $ million
Exhibit 6: Revenue break-up by contract type

90 75 60 45 30 15 0 Q1FY11 Q2FY11 Q3FY11 Q4FY11 Q1FY12 Q2FY12 Q3FY12 Q4FY12 Q1FY13 Q2FY13 Q3FY13 9.8 10.7 13.9 15.5 14.1 12.0 11.8 8.1 7.5 7.9 8.5 % 81.3 81.1 78.6 79.8 80.4 79.0 79.8 78.6
74.2
73.2
73.3
Time & material
Fixed priced projects
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Persistent derives 18% of its revenues from IP solutions. IP revenues grew ~120% YoY on TTM basis. IPs include:
Exhibit 7: IP revenue breakup
6 5 4 $ million 3 2 1 0 Royalty License fees Q1FY13 Q2FY13 AMC Q3FY13 Others 1.1 1.4 1.8 1.4 3.1 4.8 3.8 3.1 2.0 2.2 1.5 3.9

[
Exhibit 8: Overview of owned and acquired IPs

IP Paxpro TLALOC Device Monitoring System Radia Client Automation Software ChemLMS ViewMOR Mail delivery system e2G Migrator DriverCentral CLAP eMee Exploriments Enterprise Community Portal Enterprise search Enterprise search Exalead Skype on Embedded System Cloud Assessment Tool Description cloud based and mobile enabled BPM solution for CPG brands cloud based tools for managing and delivering consistent Quality of Service (QoS) for internet-scale web applications application for monitoring network infrastructure operations manageability tool for highly complex, distributed devices and applications solution for tracking of samples; automates routine laboratory tasks add-on context-based search tool for email search tool to migrate user accounts from Microsoft Exchange server to organisations provisioned account on Google Apps portal for driver purchases and support cloud infrastructure to load-test applications, websites, web-services and cloud applications gamification platform enabling online engagements mobile science learning apps enhancing overall experience solution that leverages internally and externally stored information tool for overcoming challenges related to accessing information witihin enterprise a platform for Search Based Applications solution to bring Skype voice and video calling feature to embedded devices addresses common cloud enablement related challenges
From a geographic perspective, US contributed 85% of Q3FY13 revenues and grew at 26.6% CAGR during FY10-12. Europe contributed 6.1% in Q3 vs. 8.9% in Q4FY09 and grew at 21% CAGR during FY10-12. The AsiaPacific contribution has risen steadily to 8.8% vs. 4.1% in Q4FY09 and grew at 54.7% CAGR during FY10-12.
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Exhibit 9: North America, Asia-Pac grow 4.4% and 4.9% CQGR, respectively, faster than company average of 4.4%
% North America Europe Asia-Pacific $ million North America Europe Asia-Pacific Growth, QoQ Telecom & wireless Infrastructure & systems Life Sciences & healthcare FY10 84.8 8.4 6.9 FY10 106.7 10.3 8.8 FY10 NM NM NM Q1FY11 85.1 6.5 8.4 Q1FY11 33.6 2.6 3.3 Q1FY11 4.8 8.8 36.3 Q2FY11 85.5 6.0 8.5 Q2FY11 34.6 2.4 3.4 Q2FY11 3.1 -5.3 3.8 Q3FY11 85.4 5.3 9.3 Q3FY11 36.9 2.3 4.0 Q3FY11 6.5 -5.8 16.7 Q4FY11 86.3 5.8 7.9 Q4FY11 40.6 2.7 3.7 Q4FY11 10.0 19.5 -7.8 FY11 85.6 5.9 8.5 FY11 145.7 10.0 14.5 FY11 NM NM NM Q1FY12 Q2FY12 Q3FY12 82.8 82.0 82.9 7.4 7.8 7.2 9.8 10.2 9.9 Q1FY12 Q2FY12 Q3FY12 41.4 42.3 42.8 3.7 4.0 3.7 4.9 5.2 5.1 Q1FY12 Q2FY12 Q3FY12 2.0 2.1 1.3 35.2 8.9 -7.7 32.3 6.8 -2.3 Q4FY12 82.4 6.8 10.8 Q4FY12 44.7 3.7 5.9 Q4FY12 4.3 -0.9 14.5 FY12 82.5 7.3 10.2 FY12 171.2 15.1 21.1 FY12 NM NM NM Q1FY13 Q2FY13 84.4 84.6 6.9 7.4 8.7 8.0 Q1FY13 Q2FY13 46.3 50.8 3.8 4.4 4.8 4.8 Q1FY13 Q2FY13 3.8 9.6 2.8 17.3 -18.4 0.6 Q3FY13 85.1 6.1 8.8 Q3FY13 51.7 3.7 5.3 Q3FY13 1.8 -16.6 11.3
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Management Profile
Dr Anand Deshpande Chairman, Managing Director & CEO: Dr Deshpande founded Persistent Systems in 1990 and is responsible for overall leadership & management of the company and drives the sales and technology efforts. He is also a member of the Association of Computing Machinery (ACM), Institute of Electrical and Electronics Engineers (IEEE), Institution of Engineers (India) and Computer Society of India. He is a member of the Executive Committee of Nasscom and serves on the Deans Advisory Council of the School of Informatics of Indiana University. In recognition of his contribution to the information technology sector he was awarded the Entrepreneur Award at the Brihan Maharashtra Mandal Convention held in Atlanta, US, 2005. He is the recipient of the CSI Fellowship Award in 2007 for outstanding achievement in the field of information technology. He was awarded the career achievement award of the School of Informatics at Indiana University, Bloomington in 2009. Dr Deshpande holds a B Tech (1984) in Computer Science and Engineering from IIT Kharagpur and a Masters (1986) & PhD (1989) in Computer Science from Indiana University, Bloomington (US). Hari Haran, President: Mr Haran is responsible for global sales, marketing and business development efforts. He also heads the Persistent US subsidiary. He has over 22 years of experience primarily in the telecom, wireless, broadband, convergence and professional services. Prior to Persistent, he was the SVP of Worldwide Field Operations at Openwave Systems heading the global sales, services and support. He also served as the President and CEO of Longboard, SVP of Global Sales and Marketing for Littlefeet, and CEO of Penbase. He has worked with Lucent Technologies where he was the Vice President and Manager of the EMEA region. He attended the executive management programme at the Wharton School of the University of Pennsylvania. He holds an MS in Computer Science from the Illinois Institute of Technology. He also holds an MBA from the University of Louisiana, Monroe and a BS in Engineering from the Indian Institute of Technology, Kharagpur. Nitin Kulkarni, Executive Director & Chief Operating Officer: With over 20 years of experience, Mr Kulkarni is the Chief Operations Officer and Executive Director on the board of Persistent. He held a variety of senior positions including CXO roles, heading offshore development centres, driving integration of companies post M&A, strategic account management and heading quality process teams in organisation such as Infosys, Siemens Information Systems Ltd, and Nelco (a Tata company). He earned a Bachelor's Degree in Engineering in Electronics from Mumbai University in 1988 and a Master's Degree in Engineering in Electronics from VNIT, Nagpur University in 1991. Rohit Kamat, Chief Finance Officer: As CFO, Mr Kamat is responsible for treasury, financial reporting, taxation and internal controls at Persistent Systems. He has been with Persistent since 2001 and has held various important positions in the finance and internal audit departments. He has around 30 years of experience in the areas of corporate finance, accounts, international and domestic taxation and management accounting and has worked with leading Indian and multinational IT companies such as Tata Unisys Ltd, L&T Infotech Ltd and Syntel Software. Mr Kamat is an associate member of the Institute of Chartered Accountants of India as well as the Institute of Company Secretaries of India. He is a B Com (Honours) from the University of Mumbai and a qualified cost and works accountant.
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Sameer Bendre, Chief People Officer: Mr Bendre is responsible for PSL's Global HR practices, People Engagement, Talent Acquisition and Development initiatives. He joined Persistent in August 2003 and brings with him over 20 years of experience in a variety of roles in technology, finance and operations. He was responsible for setting up the Nagpur and Hyderabad centres and was the Head of Operations for Nagpur before taking over as the Chief People Officer. Prior to Persistent, he was an entrepreneur running his own industry Nagpur Motors Pvt Ltd, manufacturing electric motors. He holds a Bachelors degree in Electronic Engineering from Nagpur University and has attended executive management programmes at IIM Ahmedabad. He is also a certified ISO lead auditor. Dr R Venkateswaranawan, Chief Technology Officer: As the CTO of Persistent Systems, Mr Venkateswaranawan is responsible for the technology roadmap of the company, covering high-end technology consulting business, innovation, learning and competency development and IP-related investments. He joined Persistent in 2002 and has undertaken various roles over the years, including that of Head of Telecom Business and Strategic Initiatives around BI/analytics, cloud computing, enterprise collaboration and mobility & embedded systems. Prior to Persistent, he worked for seven years as a researcher at Bell Laboratories and also as the CTO office at Lucent Technologies. Mr Venkateswaranawan has earned his B Tech (1988) and M Tech (1992) in Computer Science from IIT Bombay and has a PhD in Computer Science from Washington State University (1997). Dr Sridhar Jagannathan, Chief Innovation Officer: Dr Jagannathan is responsible for leading products, solutions and services advancement at PSL. Based in Santa Clara, California, he brings with him over 17 years of experience in software engineering, strategy and technology ventures from Intuit, Symantec, Softbank and Oracle. Prior to Persistent, he served as Vice President, CTO Office at Intuit, Inc, where he was responsible for leading Intuit's technology strategy, global engineering and technology M&A diligence. Other leading positions held include Managing Director for Symantec's India Development Centre for consumer products, Vice President of Technology for Softbank Emerging Markets and Technical Director for Internet & e-commerce at Oracle Corporation.
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Investment Rationale
Persistent continues to grow rapidly in the evolving outsourced product development (OPD) space. Concerted efforts to stay relevant and in sync with its customers sales strategy continue to feed its non-linear IP-led acquisition strategy as well as generate downstream OPD revenues. Technology investments, ahead-of-time, have led to 2x growth in IP revenue contribution in the last five quarters while quarterly revenue CQGR of 4.4%, during Q1FY11-Q3FY13, 38% faster than employee growth, demonstrates considerable success of this strategy. We expect IP contribution to rise to ~26% in FY15E, led by recent deal wins, which could be gross and EBITDA (peer leading by now and tier-I comparable) margin accretive. On the Mcap/sales metric, the stock is trading at 1.4x and 1.2x its FY14E and FY15E sales, modestly higher than peer group average of 1.2x and 1.1x, respectively. That said, the EV/EBITDA metric is lower at 4.7x and 3.9x its FY14E and FY15E EBITDA vs. peer group average of 4.9x and 4.3x, respectively. Finally, though FY14E and FY15E P/E (10.1x and 8.6x) is modestly expensive relative to peer group average (8.3x and 7.4x), a healthy balance sheet metric and 19% EPS CAGR over FY12-15E merits premium valuation. We are initiating coverage with a BUY rating and | 600 target price.
OPD exports may grow 3.8x in the next seven years

Persistent is a niche player in the outsourced product development (OPD) space, which is a sub-segment of engineering R&D (ER&D) exports. OPD exports could reach $1.4 billion in FY13E, YoY growth of 17%, accounting for 12.5% of ER&D exports vs. 11.8% in FY12. As a reminder, ER&D exports could reach ~$42 billion in 2020 vs. $11.2 billion in 2013, representing a CAGR of 20.8% during 2013-20. Assuming similar contribution suggests OPD could be a $5.3-billion market in 2020, 3.8x its current size.
Exhibit 10: Indian ER&D may reach $42 billion in 2020
50 50
Exhibit 11: while OPD exports could grow 3.8x in seven years
5.6
>3x the current size
40
billion $ billion
CAGR : 20.8%
20
5.2 5.2 9.0 9.0
$ billion
30 10 10 0 0
7.0 7.0
11.2 11.2
10.2 10.2
42.0 42.0
0.9
1.1
1.2
1.4
7.9 7.9
0.0 FY07 FY08
FY07 FY07
FY08 FY08
FY10 FY10
FY11 FY11
FY12 FY12
FY13E FY13E FY2020E FY2020E
FY10
FY11
FY12
FY13E FY2020E
ER&D ER&D exports exports
OPD exports
Source: Nasscom estimates, ICICIdirect.com Research
Source: Nasscom estimates, ICICIdirect.com Research
With zero debt and | 380 crore of cash, PSL could continue its IP-led acquisition strategy, which could help increase non-linear revenue contribution
Differentiated acquisition strategy to help achieve $500 mn in FY16E revenues

Like its peers, even Persistent has been acquisitive. However, its acquisition strategy is unusual as it acquires non-strategic, but with perceptible prospects, products hived off by its customers. Note, Persistent over time has developed in excess of 5,000 products. Such acquisitions are not only fruitful but inexpensive as well. The rationale is that a majority of these acquisitions involve only transition related expenses and royalties with minimal or no up-front payments. Concurrently, rising contribution of IP (non-linear) revenues helps cushion
5.3
1.1
0.6
0.7
CAGR : 20.8%
4.5 3.4 2.2
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EBITDA margin headwinds. Finally, having co-developed along with customer and implemented the acquired platforms, we believe, Persistent 1) has deep domain understanding of the same, 2) has access to rich clientele and 3) comprehends the scalability of the platform in entirety.
Exhibit 12: Select acquisitions over time
March 2011: Infospectrum India, OPD business Description- Product Development Client Infospectrum.
May 2011: Software & Marketing business Client Agilent Corp., France.
Jan 2013: NovaQuest Description - 3D experience and PLM Applications Client Dassault Systemes.
Feb 2013: HP Client Automation Description Lifecycle management solution Client HP
Oct. 2009: Paxpro Description-IP Packaging & Branding Solution Client MeadWestvaco Corp.
April 2011: JV (26%) with Sprint Nextel Corp Description: Telecom services for Indian Customers Client Sprint Nextel
Feb 2012: Location Service Description: IP Location Identification service Client Openwave
Oct. 2012: R-cloud Description: IP Cloud based solution Client Doyenz
Case Study: Acquired lifecycle management IP could be a significant opportunity and help sustain revenue growth momentum
Recall, Persistent recently acquired the lifecycle management solution from a technology giant in the US which helps large enterprises automate routine client management tasks such as operating system deployments and upgrades. PSL is working on the roadmap to enhance the current desktop/laptop compatible offering and to provide Mac support and mobile device management (MDM). Noticeably, the solution would be marketed by the personal computer maker under Persistents brand. Currently, the platform has 400 customers across matured geographies while incremental revenues could accrue from 1) new deal wins, 2) cross-selling, 3) product customisation, and 4) exclusive rights to upgrade, maintain and support the product. Though transition related costs could create EBITDA margin headwinds in the near term non-linear revenue contribution could accelerate over time, which could be grossmargin accretive in the long run.
Case study 2: Acquired Openwaves location business IP tracking ahead of estimates

In February 2012, PSL acquired the location business unit (LBU) from Openwave Systems Inc. The LBU provides commercial and emergency location based services infrastructure to wireless operators. PSL would work on product roadmap and maintain the same over longer horizon. The company acquired the product at 1x TTM sales. Discussions suggest the company has already achieved 150% of the yearly targeted revenues in the first year after acquiring LBU.
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Market sizing of location based services revenues Rising adoption of GPS based handsets and smart phones in the US and Europe has been an enabler of location based services and could lead to demand uptick for downstream services such as location based advertising, secure authentication and analytics. Estimates suggest the smart phone installed base has surpassed 55% and 45% of the total handsets in the US and Europe, respectively. Note, 40% of all mobile users in Europe and 50% in the US access LBS for local search, social networking and navigation services. Noticeably, ~30-35% of worldwide mobile operators have some basic form of LBS platforms installed but that is set to rise as government mandates could drive incremental deployments and upgrades. This could lead to LBS revenues in the US reaching $1,295 million in 2017 vs. $ 835 million in 2012, growing at 9.2% CAGR while those in Europe could reach 825 million in 2017 vs. 325 million in 2012, growing at 20.5% CAGR.
Sales strategy in sync with that of customers to help achieve revenue growth
Persistent unveiled the 4 x 4 x 4 matrix to become more relevant to clients, increase focus on emerging verticals and define the concentration of operating verticals. In addition to the traditional Sell-To (OPD) model, PSL launched two more market positioning or how to sell strategies: 1) Sell-with selling to customers customer, and 2) IP led partner/cocreate IP along with customers. PSL has successfully opened 20+ new logos selling technology solutions to enterprises on its customers product platforms while its new selling strategy added business worth $15 million in FY12. Further, the company has 12 high-end (mostly PhDs) technology consultants helping customers around next generation platform based solutions and delivered as a Cloud service, integrating analytics and mobility solutions. We believe PSL stays relevant and in sync with its customers sales strategy. This, in-turn, helps the company to 1) generate downstream OPD revenues and 2) identify and acquire non-strategic customer products, feeding its IP acquisition strategy.
Exhibit 13: PSLs selling strategy
Business Model
Service offering
Vertical Concentration
IP Led Business
Enterprise Mobility
Banking & Finance
Technology Consulting
Enterprise Collaboration
Infrastructure & Systems
Sell with partnerships
Analytics
Life sciences
Product Engineering (OPD)
Cloud computing
Telecom
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Exhibit 14: Snippets related to technology focus areas of PSLs
Cloud Computing
Cloud and CRM to drive spending in 2013 and 2014 with worldwide Public Cloud Service market to grow 18.5% in 2013 to $ 131 billion Gartner. Global spending on hosted private cloud based information technology services is expected to top $ 24 billion in 2016, (i.e. CAGR > 50% in FY2012-2016) IDC 72% sees Open source as key to cloud.
BI & Analytics
Enterprise Data is expected to increase 650% over next 5 years. Gartner Market for Big data Technology is expected to reach $ 16.9 billion by 2015 IDC. 42% of IT leaders spend in Big Data or plan to do within a year - Gartner, March 2013. BI only in Middle East & N.Africa to reach $ 182 million by 2013 Gartner.
Mobility
Mobility is reshaping consumer gadget spending and behaviour with movement from PCs and laptops to smart phones Gartner. Worldwide Mobile revenue to reach $ 11.4 billion in 2013 and $ 24.5 billion in 2016 from $ 9.6 billion in 2012 Gartner. 1/3rd of consumer brands will integrate payment into their branded mobile apps - Gartner
40% of large enterprises will have corporate social network by 2015
Enterprise Collaboration
Improvement in client mining, average revenue/customer to yield revenue growth

PSLs revenue growth continues to be driven by mining of top 1 and nontop 10 clients. During FY07-13E, top and non top-10 client revenues could grow at 40.2% and 22.3% CAGR, respectively, vs. company average of 22.6%. During the same period, top 2-5 client revenues could grow at 15.3% while those for top 6-10 could grow at 15.9%. Further, the number of customers contributing annual revenues in excess of $1 million has risen to 43 in Q3FY13 vs. 26 in Q4FY09 and implies client mining is improving. That said, there is room to grow given, 1) Persistents revenue/client and revenue/employee metric are the lowest relative to its peers, 2) annualised 9M average revenue/top 10 customers was a modest $11 million and annualised 9M average revenue/customer was a meagre $758,000 despite PSL working with all top-50 independent software vendors (ISV) with revenues in excess of $1 billion.
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Exhibit 15: Growth continues to be driven by top 1, 2-5 and non-top 10 clients
120 90 $ million 60 30 6.2 8.4 11.9 14.3 27.3 33.3 15.8 19.5 22.0 28.5 38.6 44.3 0 11.2 12.6 15.0 14.7 19.0 23.3 Top 6-10 FY10 FY11 FY12
743.4 566.0 645.5 720.1
CAGR : 25.7% CAGR : 40.2% CAGR : 15.3% CAGR : 15.9% 36.9 65.2 79.0 68.4 85.4 106.4 Non-top 10 clients
758.2 800 600 400 $ ('000) 200 26.9 FY07 40.3 FY08 36.6 FY09 37.0 FY10 39.0 FY11 38.3 FY12 41.3 FY13E 0
Top 1
Top 2-5
FY07
FY08
FY09
Exhibit 16: Improvement in average rev/customer from current $758k to aid revenue growth
45 36 $ million 27 18 9 0 615.2 476.0
Revenue/non-top 10 clients
Revenue/customer ('000)
Exhibit 17: Annualised 9M average revenue/top 10 customers at modest $11 million

50 45 40 35 30 25 20 15 10 5 0 Average revenue/client ($ million)
6.2 8.4 11.9 14.3 27.3 33.3 46.7
3.9 4.9 5.5 7.1 9.6 11.1 9.3 Top 2-5
Top 1 FY07 FY08 FY09
FY10
FY11
FY12
2.2 2.5 3.0 2.9 3.8 4.7 5.4 Top 6-10 FY13E
Page 12
Exhibit 18: Comparable revenue/client metric

FY10 Top Client Persistent Infotech Enterprises KPIT Cummins* Mindtree Top 5 Clients Persistent Infotech Enterprises KPIT Cummins* Mindtree Top 10 Clients Persistent Infotech Enterprises KPIT Cummins* Mindtree Others Persistent Infotech Enterprises KPIT Cummins* Mindtree 14.3 NA 46.4 19.9 42.8 78.9 NA 74.7 57.5 109.0 89.3 108.7 68.4 80.5 64.5 163.6 Q1FY11 5.4 NA 11.0 5.4 15.1 19.8 NA 20.7 19.4 27.3 24.7 30.9 20.1 22.2 20.3 46.0 Q2FY11 6.6 NA 11.7 5.6 15.4 21.9 NA 21.6 19.8 30.2 27.9 32.9 20.7 26.5 22.9 49.5 Q3FY11 6.2 NA 14.5 5.9 15.9 22.9 25.3 21.8 20.7 30.7 30.9 34.3 22.5 30.9 29.5 51.0 Q4FY11 9.1 NA 13.9 6.0 19.5 23.0 28.1 21.3 24.8 32.5 34.8 33.2 22.2 31.4 33.2 53.0 FY11 27.3 NA 51.1 22.9 65.9 87.7 94.9 85.4 84.8 120.7 116.7 131.3 85.4 111.0 107.4 199.6 Q1FY12 7.6 NA 14.5 6.5 18.8 22.9 26.7 23.0 24.1 33.2 34.5 36.5 25.9 34.2 35.6 56.1 Q2FY12 8.2 NA 15.9 7.1 19.9 24.4 27.3 28.4 25.5 37.0 33.9 42.6 26.1 37.7 36.5 58.8 Q3FY12 8.2 NA 17.6 8.5 19.1 25.7 27.5 31.8 25.0 39.0 34.6 45.6 26.7 39.0 38.9 58.1 Q4FY12 9.3 NA 18.6 7.9 19.8 27.2 31.5 33.0 26.4 40.5 40.3 47.9 27.8 37.2 55.1 57.1 FY12 33.3 NA 66.5 30.0 77.6 100.2 108.3 116.2 101.0 149.7 134.9 172.5 106.4 148.0 174.4 230.1 Q1FY13 9.8 NA 20.2 8.0 18.4 29.1 35.5 35.3 24.9 43.3 43.2 49.7 30.0 37.7 54.9 55.8 Q2FY13 12.4 NA 20.4 8.7 21.8 29.8 36.4 36.2 28.2 43.7 45.2 50.2 31.8 42.0 58.2 57.1 Q3FY13 12.8 NA 19.8 9.0 22.7 29.7 38.1 37.0 30.0 42.7 46.8 51.8 30.7 42.4 56.7 58.1
Exhibit 19: Revenue/employee metric lowest among peers

$ ('000) Revenue/Employee Persistent Infotech Enterprises KPIT Cummins* Mindtree FY10 27.0 27.9 34.3 36.5 Q1FY11 8.0 7.7 9.2 10.6 Q2FY11 7.7 8.5 9.3 11.6 Q3FY11 7.9 9.0 10.5 12.5 Q4FY11 7.4 8.9 11.3 11.6 FY11 26.8 32.3 37.4 42.4 Q1FY12 7.6 9.4 11.6 12.1 Q2FY12 7.5 9.5 11.7 12.1 Q3FY12 7.7 9.6 11.9 11.7 Q4FY12 8.2 9.5 13.5 11.7 FY12 31.3 37.2 43.7 45.4 Q1FY13 8.4 9.2 13.6 11.9 Q2FY13 9.4 9.3 13.9 12.1 Q3FY13 9.0 9.3 13.6 11.1
Source: Company, ICICIdirect.com Research, * includes acquisitions
Exhibit 20: and so it cost/employee but yield better margins

| ('000) Cost/Employee Persistent Infotech Enterprises KPIT Cummins* Mindtree FY10 791.0 752.5 913.5 1043.3 Q1FY11 248.1 216.6 266.7 271.3 Q2FY11 225.5 245.7 275.8 287.8 Q3FY11 232.6 249.4 312.5 288.4 Q4FY11 227.0 250.3 331.7 308.5 FY11 805.5 912.0 1100.3 1144.8 Q1FY12 229.4 270.2 350.3 308.2 Q2FY12 236.5 267.8 354.3 307.7 Q3FY12 245.1 288.3 403.5 315.7 Q4FY12 243.4 284.4 450.5 307.7 FY12 966.7 1088.5 1405.0 1181.7 Q1FY13 270.0 302.7 485.7 334.7 Q2FY13 295.0 296.5 497.2 354.1 Q3FY13 303.2 303.3 486.6 363.6
Source: Company, ICICIdirect.com Research * includes acquisitions
Growth could be driven by rising IP contribution

We expect overall revenues to grow 13.4% CAGR during FY12-15E led by IP revenues. We expect IP revenue contribution to rise to 25.7% in FY15E vs. ~18% in FY13E led by acquired IPs. Further, we estimate, gross margins could be the highest for IP (~55%) followed by platforms (50%) while traditional PES business could be lower than platforms. Finally, rising contribution of non-linear revenues and rationalisation of employee pyramid could help offset margin headwinds.
Rising IP contribution to mitigate EBITDA margin headwinds

The EBITDA margin declined 563 bps to 17.4% in Q1FY12 vs. 23.0% in Q2FY11 as it gave three consecutive wage hikes in April, December 2010 and July 2011 to contain attrition. However, margins bounced back sharply to 25.7% in Q3FY12 as average rupee depreciated ~12% while IP revenue contribution rose ~100 bps to 9.2% of total revenues vs. 8.1% in Q2FY11. Further, IP revenues grew at 7.7% CQGR during the same
Page 13
period, faster than revenue CQGR of 5.0%. We expect IP revenues contribution to top 25% in FY15E vs. ~18% in Q3FY13 and continue to be the principal driver for sustaining EBITDA margins in the targeted 23-25% range.
Exhibit 21: Margins have improved over time with increasing IP contribution
30 25 20 15 10 5 0 Q4FY09 Q1FY10 Q2FY10 Q3FY10 Q4FY10 Q1FY11 Q2FY11 Q3FY11 Q4FY11 Q1FY12 Q2FY12 Q3FY12 Q4FY12 Q1FY13 Q2FY13 Q3FY13
25.7 22.1 22.2 18.7 15.4 16.9 9.9 FY08 FY09 NIIT Tech FY10 KPIT Cummins 18.0 20.4 18.9 20.7 22.9 19.5 14.9 11.8 FY11 Mindtree FY12 Persistent 16.9 14.5 15.3
22.3 19.0
23.0
25.7 21.9 17.9 8.9 17.4 8.9 18.7
28.4
26.8
27.2
24.7
24.3 20.9 12.1 13.9
23.7 18.9
25.2 18.2
9.1
6.1
5.7
7.8
8.1
7.5
10.3 6.1
7.6
9.2
EBITDA margins (%)
IP contribution (%)
Exhibit 22: EBITDA margins significantly higher than peers and comparable to tier-I vendors
35 30 25 20 15 10 5
%
30.1 24.3
EV/EBITDA, Mcap/CFO (+), Mcap/revenue (=), P/E, PE/G (-)

On the Mcap/sales metric, the stock is trading at 1.4x and 1.2x its FY14E and FY15E sales, modestly higher than peer group average of 1.2x and 1.1x, respectively. That said, the EV/EBITDA metric was lower at 4.7x and 3.9x its FY14E and FY15E EBITDA vs. peer group average of 4.9x and 4.3x, respectively. On Mcap/operating cash flow basis, PSL is trading at 13.1x multiple vs. peer group average of 15.9x. Finally, though FY14E and FY15E P/E (10.1x and 8.6x) are modestly expensive relative to peer group average (8.3x and 7.4x), FY15E PE/G at 0.5x is inexpensive. This coupled with a healthy balance sheet metric and 19% EPS CAGR over FY12-15E merits premium valuation.
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Exhibit 23: Peer valuation

Name Mindtree Ltd Hexaware Technologies Ltd* KPIT Cummins Infosystems Ltd Eclerx Services Ltd NIIT Tech Ltd Infotech Enterprises Ltd Average Persistent Systems Price (|) 858 92 97 630 284 170 Dil. EPS (|) FY14E FY15E 86.6 94.7 9.1 10.9 12.0 13.9 72.2 82.1 41.0 46.0 21.4 24.0 FY13E 11.1 10.0 9.0 10.8 7.8 8.4 9.5 11.2 P/E (x) FY14E 9.9 8.4 8.1 8.7 6.9 7.9 8.3 10.1 FY15E 9.1 7.6 7.0 7.7 6.2 7.1 7.4 8.6 FY13E 6.5 9.2 4.7 6.5 4.4 3.9 5.9 4.8 EV/EBIDTA (x) FY14E FY15E 5.9 5.3 5.8 5.2 4.1 3.6 5.8 5.1 3.9 3.4 3.6 3.2 4.9 4.3 4.7 3.9 FY14E 0.8 0.4 0.8 0.4 0.6 1.4 0.7 0.9 PEG (x) FY15E 1.0 0.7 0.4 0.6 0.5 0.6 0.6 0.5 FY13E 1.5 1.9 0.8 2.8 0.8 1.0 1.5 1.5 Mcap/Rev (x) FY14E FY15E 1.3 1.2 1.3 1.1 0.7 0.6 2.5 2.2 0.8 0.7 0.9 0.8 1.2 1.1 1.4 1.2
540
51.1
60.0
Source: Company, ICICIdirect.com Research,*consensus estimates
Exhibit 24: Trading at 0.9x PEG based on FY14E estimate; above peer group average of 0.7x
2.0 1.4 1.0 0.8 0.4 0.9 0.6 0.4
0.8
0.0 Mindtree Ltd Hexaware Kpit Cummins Eclerx Niit Tech Ltd Technologies Infosystems Services Ltd Ltd Ltd Infotech Enterprises Ltd Persisten Systems
Page 15
Key Financials
Modelling FY14E and FY15E dollar revenue growth of 15% and 16.3% YoY to $ 273.5 million and $ 318.2 million, respectively
Modelling FY14E, FY15E | revenues to grow 11.3%, 14.5%, respectively We expect FY14E and FY15E rupee revenues to grow 11.3% and 14.5% YoY to | 1445.4 crore and | 1654.4 crore, assuming average |/$ rate of | 52.9 and | 52, respectively. Revenues are expected to be driven primarily by IP that is expected to grow 40.2% YoY & 36.2% YoY, in FY14E and FY15E, respectively.
Exhibit 25: Revenues may grow at 18.3% CAGR during FY12-15E
1800 1500 1200 | crore 900 600 1000.3 1298.2 424.9 593.8 601.2 775.8 300 0 1.2 11.3 1445.5 50 40 30 14.5 1654.4 20 10 0 % FY11 Revenue
[
39.8 29.1 28.9 29.8
FY08
FY09
FY10
FY12
FY13E % growth
FY14E
FY15E
Modelling average 24.9% EBITDA margins during FY13-15E For FY14E, we expect EBITDA margins to decline 152 bps led by 1) transition cost related to the recently acquired lifecycle management (LM) IP and 2) likely appreciating rupee. For FY15E, we expect EBITDA margins to increase 50 bps led by steady state revenue contribution of LM IP, which could led to non-linear revenue contributing ~26% of overall revenues vs. ~18% now. That said, an appreciating rupee remains a concern as every 100 bps movement in the rupee impacts margins by 60 bps. Higher sensitivity is to account for offshore effort, which is ~95%. Significant appreciation or depreciation of the rupee could lead to estimate revisions.
Exhibit 26: EBITDA margins could decline 152 bps in FY14E but may rise 50 bps in FY15E
500 400 | crore 300 200 178.8 146.4 158.3 229.3 334.2 349.9 408.8 100 0 91.3 10 0 21.5 30.1 20.4 22.9 25.7 24.2 24.7 30 20 % 24.3 40
FY08
FY09
FY10
FY11 EBITDA
FY12
FY13E
FY14E
FY15E
% margins
Page 16
Modelling average 14.3% PAT margins during FY13-15E

We are modelling average 14.3% PAT margins during FY13-15E period, which translates to 19.2% PAT CAGR during FY12-15E period. PAT margins are lower than the preceding three year average of 17.1% as average tax rates could rise to 28.9% in FY13-15E vs. average 14.2% during FY10-FY12. We expect average 19.7% RoE during FY13-FY15E vs. average 18.5% during FY10-FY12.
Exhibit 27: Modelling PAT margins of 14.1% and 14.5%, respectively, in FY14E and FY15E
300 250 200 | crore 150 100 115.0 139.6 141.8 184.8 204.5 240.2 90.2 69.0 50 0 11.6 21.2 18.0 14.2 14.2 14.1 14.5 20 % 10 0 FY10 FY11 PAT FY12 FY13E FY14E FY15E % margins
20.2 19.2 19.5 17.8 FY12 FY13E ROE FY14E FY15E
19.1
30
FY08
FY09
Exhibit 28: Expect stable RoE going in FY14E
21 20 19 % 18 17 16 FY11 19.9
Healthy balance sheet metrics

At Q3FY13 end, Persistent had cash & cash equivalents of ~| 380 crore, higher compared to peers, despite consistent IP acquisitions over time. Though days sales outstanding (DSO) have deteriorated to 68 days in Q1FY13, they are lower compared to peers and comparable to tier-I. Further, though Average Receivables (A/R) has grown faster than revenue growth (28.5% vs. 23.9% CAGR), at 12% CAGR, unbilled have grown slower. Note, RoCE and RoE have been higher than peers backed by stronger EBITDA margins. The company has been paying consistent dividends since listing and had a payout of 17% (| 6/ share) in FY12. That said, the company paid an interim dividend of | 6/share in FY13E. This
Page 17
validates management talk that dividends could gradually rise towards PSLs 30% payout policy and address the low yield concerns.
Exhibit 29: At 28.5% CAGR, A/R growth has been faster than revenue growth
250 200 | crore 150 100 50 0 38.8 39.8 FY09 A/R growth, YoY 31.8 1.2 FY10 16.1 29.1 FY11 28.5 28.9 FY12 Accounts receivables 136.3 103.4 158.2 203.3 45 36 27 18 9 0 % Revenue growth, YoY
14.1 12.0 10.5 50 40 30 20 44.4 39.8 4 0 FY09 Unbilled growth, YoY FY10 FY11 Revenue growth, YoY FY12 Unbilled revenues -6.8 1.2 -12.8 29.1 34.3 28.9 10 0 -10 -20 % 67 Q3FY13 67 Q3FY11 62 Q4FY11 63 Q1FY12 66 Q2FY12 68 Q3FY12 65 Q4FY12 68 Q1FY13 64 Q2FY13 DSO
Exhibit 30: That said, unbilled was rescuer, growing slower than revenue growth
16 12 | crore 8 12.9
Exhibit 31: Debtor days better than peers and comparable to tier-I
72
66
60 61 Q1FY11 60 Q2FY11
54
Page 18
Exhibit 32: Dividends gradually could rise towards PSLs 30% payout policy
28 22.1 21 14 7 0 FY10 FY11 FY12 DPS FY13E Dividend Payout (%) FY14E FY15E 15.8 8.5 5.5 2.0 16.9 12.5 9.0 6.0 25.7
23.6
16.0
Cash flow generation generally healthy but FCF volatile Analysing data since FY08 suggests PSL converted an average 71.5% of its EBITDA to cash flow from operations higher than any of its peers such as KPIT (54.2%), NIIT Tech (62.9%) and Infotech (59.5%) but lower than MindTree (81.5%). That said, FCF conversion has been volatile while FY12 FCF was impacted by acquisition.
Exhibit 33: FCF conversion could improve
CFO/EBITDA Persistent Infotech Enterprises NIIT Tech KPIT Cummins Mindtree FCFF/EBITDA Persistent Infotech Enterprises NIIT Tech KPIT Cummins Mindtree FY09 39.1 86.2 85.2 68.4 147.3 FY09 11.7 33.7 19.8 40.2 117.1 FY10 84.6 60.5 78.1 66.6 92.5 FY10 52.1 43.8 52.9 52.0 73.3 FY11 99.5 56.7 23.0 42.3 24.4 FY11 38.1 20.7 2.5 14.7 -22.7 FY12 62.6 46.1 61.7 46.1 70.6 FY12 -3.1 46.5 26.9 18.4 54.0 Average 71.5 62.4 62.0 55.8 83.7 Average 24.7 36.1 25.5 31.3 55.4
Page 19
Valuations
At current levels, on the Mcap/sales metric, the stock is trading at 1.4x and 1.2x its FY14E and FY15E sales, respectively, modestly higher than peer group average of 1.2x and 1.1x, respectively. That said, the EV/EBITDA metric is lower at 4.7x and 3.9x its FY14E and FY15E EBITDA vs. peer group average of 4.9x and 4.3x, respectively. Finally, though FY14E and FY15E P/E (10.1x and 8.6x) is modestly expensive relative to peer group average (8.3x and 7.4x), healthy balance sheet metric and 19% EPS CAGR over FY12-15E merits premium valuation. We are initiating coverage on the stock with a BUY rating and target price of | 600.
At current levels, PSL is trading at 10.1x and 8.6x our FY14E and FY15E diluted EPS estimate of | 51.1 and | 60, respectively
Exhibit 34: One year forward PE(x) chart

1200 900 600 300 0 Oct-10 Oct-11 Jan-11 Jan-12 Oct-12 Jul-10 Jul-11 Jul-12 Jan-13 4 Apr-10 Apr-11 Apr-12 Apr-13 Mar-13 |
Price
20
16
12
Exhibit 35: Trading at 14.7x TTM EPS above its historical average of 10.9x
20
15 x 10 5 Dec-11 Sep-10 Feb-11 Apr-10 May-12 Oct-12 min Jul-11 P/E average
max
Page 20
Risk & concerns

Growth in ER&D spends from Corporate China could be largest in 2020
Competition from China R&D outsourcing, testing and product development has been a success for Chinese outsourcing vendors. They continue to offer comparable services at relatively cheaper prices. Majority of companies (both from the US, Europe and Japan) outsource these services to China.
Exhibit 36: Global corporate ER&D spend
120 90 60 34 30 26 0 2011 China Europe US Other 3
%
37
32 29 23 16 2020
MNC captives could capture incremental market share if rupee continues to depreciate
MNC captives continue to be an important source of Indian ER&D exports accounting for >50% of the market. Though captive cost structures are higher than third-party OPD service providers, the business model has turned attractive post the sharp depreciation in the rupee.
Large start-up client base leads to revenue fluctuation

Of the total 309 billed clients, 86% or 266 clients account for <$1 million in annual revenues with a majority of their outsourcing sponsors being start-ups and/or VC funded companies. Though start-ups help technology innovation, their spends are generally volatile and lead to revenue fluctuations.
Exhibit 37: Variation in repeat business impacts sustainable revenue growth
110 100 90 80 70
Q1FY11 Q2FY11 Q3FY11 Q4FY11 Q1FY12 Q2FY12 Q3FY12 Q4FY12 Q1FY13 Q2FY13 Q3FY13 %
98.9 99.4 98.3 98.4 98.5 99.0 99.5 99.6 98.8 99.4 98.9
98.8 94.6 92.7 89.4
97.0 92.8 88.2 83.9 90.3 81.7 81.4
Persistent
Mindtree
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Rising S&M costs may exert EBITDA margin pressure

PSL currently spends < 8% of its revenues as sales and marketing expenses, lower than peers, which could increase over time. The product acquisition strategy generally entails capex spends related to employee takeover while higher visa rejection could lead to elevated onsite costs.
Utilisation and offshore shift margin levers peaking out

At 79.5%, utilisation is at its historical (Q2FY07-Q3FY13) peak while 9MFY13 average utilisation (77.1%) is ~400 bps higher FY12 average of 73.1%. Further, PSL delivers 95% of its effort offshore resulting in higher sensitivity to rupee fluctuations. Every 1 percentage point change in rupee impacts EBITDA margins by 60 bps vs. average 30-40 bps for peers.
Significant currency volatility may impact operating margins

The average rupee depreciated ~13.5% in FY13YTD vs. FY12 and could have created margin tailwinds of ~400 bps assuming 30 bps relief for every 100 bps change in rupee. That said, similar tailwinds may not be available, going forward, while significant currency volatility from current levels could have a material impact on operating margins.
Rise in attrition may lead to higher-than-industry-average wage inflation

At 16%, PSLs attrition is better than MindTree and KPIT but higher than NIIT Tech, which has the lowest among peers. A significant rise in attrition could necessitate higher than industry average wage inflation to retain domain experts.
Exhibit 38: Attrition better than peers but not best
30 25 20 15 10
18.4 19.0 22.5 25.6 15.8 17.7 18.1 20.0 21.7 13.4 17.4 19 17.2 19.4 12.5 18.3 17.5 17.2 18.2 12.1 18.9 14.3 17.1 17.0 12.4 16.9 15.2 20.5 16.3 12.7 16.0 15.5 17.2 16.3 12.5 %
5 0
Q1FY12
Q2FY12 Persistent
Q3FY12
Q4FY12 KPIT
Q1FY13 Mindtree
Q2FY13 NIIT Tech
Q3FY13
Infotech Enterprises
Higher dependence on US geography

PSL derives ~85% of its revenues from the US. A significant slowdown could impact the product development spending, generally discretionary, capability of its clients.
Page 22
Tables and ratios

Exhibit 39: Profit & loss account
(|crore) Total Revenues Growth (%) Employee & Subcontracting costs Total Operating Expenditure EBITDA Growth (%) Depreciation & Amortization Other Income Interest PBT before Exceptional Items Growth (%) Tax PAT before Exceptional Items Exeptional items PAT before MI Minority Int & Pft. from associates PAT Growth (%) EPS EPS (Growth %) FY11 776 29.1 512 618 158 8.2 42 34 150 21.2 11 140 140 140 21.3 34.9 8.8 FY12 1,000 28.9 641 771 229 44.8 61 29 197 30.9 55 142 142 142 1.6 35.4 1.6 FY13E 1,298 29.8 775 964 334 45.8 79 5 0 260 32.0 75 185 185 185 30.3 46.2 30.3 FY14E 1,445 11.3 877 1,096 350 4.7 98 36 0 288 10.8 84 204 204 204 10.7 51.1 10.7 FY15E 1,654 14.5 1,003 1,246 409 16.9 116 46 0 338 17.4 98 240 240 240 17.4 60.0 17.4
Source: Company, ICICIdirect.com Research,
Exhibit 40: Balance sheet

(|crore) Equity Reserves & Surplus Networth Minority Interest Long term Liabilties & provisions Source of funds Net fixed assets Net intangible assets Goodwill Other non current assets Investments Debtors Cash & Cash equivalents Other current assets Current liabilities Provisions Application of funds FY11 40 717 757 146 903 221 57 44 251 158 89 100 75 74 903 FY12 40 801 841 77 918 300 72 26 204 203 137 71 88 78 918 FY13E 40 944 984 77 1,062 314 129 26 204 258 206 92 136 101 1,062 FY14E 40 1,101 1,141 77 1,218 334 191 26 204 272 280 104 150 113 1,218 FY15E 40 1,279 1,319 77 1,396 355 255 26 204 317 340 121 167 122 1,396
Page 23
Exhibit 41: Cash flow statement

FY11 PAT Depreciation & Amortization WC changes Other non cash adju. CF from operations Capital expenditure in investments Other investing cash flow CF from investing Activities Issue of equity in debt funds Dividends paid Other financing cash flow CF from Financial Activities in cash and cash bank balance Effect of exchange rate changes Opening cash Other deposits Cash c/f to balance sheet 140 42 5 (6) 158 (97) (168) 12 (253) (42) (28) (2) (71) (167) (0) 190 66 89 FY12 142 61 (60) (16) 144 (150) 29 22 (99) 1 (23) (2) (24) 20 (0) 23 94 137 206 280 340 FY13E 185 79 (4) (5) 255 (150) 5 (145) (41) (0) (41) 69 137 FY14E 204 98 0 (36) 267 (180) 36 (144) (48) (0) (48) 74 206 FY15E 240 116 (35) (45) 276 (200) 46 (155) (62) (0) (62) 60 280
Page 24
Exhibit 42: Key ratios

(|crore) Per Share Data EPS-diluted Cash per share BV Operating profit per share Operating Ratios EBITDA/Total Revenues PBT/Total Revenues PAT/ Total Revenues Return Ratios RoNW RoCE RoIC Valuation Ratios P/E EV / EBITDA Price to Book Value EV/Total Revenues MCap/Total Revenues Total Revenues/ Equity Turnover Ratios Debtor days Creditor days Fixed Asset Turnover ratio Solvency Ratios Debt / Equity Current Ratio Quick Ratio Debt / EBITDA 4.6 4.6 4.7 4.7 4.1 4.1 4.4 4.4 69.3 16.9 3.6 66.0 12.7 3.8 64.0 12.0 4.2 66.0 15.0 4.5 15.5 10.7 2.9 2.2 2.7 1.0 15.2 7.4 2.6 1.7 2.1 1.2 11.7 5.1 2.2 1.3 1.6 1.3 10.6 4.9 1.9 1.2 1.4 1.3 19.9 17.4 28.3 17.8 20.3 33.5 20.2 19.8 45.1 19.2 20.0 42.7 20.4 19.4 18.0 22.9 19.7 14.2 25.7 20.0 14.2 24.2 19.9 14.1 34.9 2.2 189.1 5.0 35.4 3.4 210.1 7.3 46.2 5.2 246.1 10.3 51.1 7.0 285.2 11.2 FY11 FY12 FY13E FY14E FY15E (|) 60.0 8.5 329.8 13.1 (%) 24.7 20.4 14.5 (%) 19.5 20.0 44.5 (x times) 9.0 4.2 1.6 1.0 1.3 1.3 (x times) 64.0 14.0 4.8 (x times) 4.6 4.6 -
Page 25
RATING RATIONALE
ICICIdirect.com endeavours to provide objective opinions and recommendations. ICICIdirect.com assigns ratings to its stocks according to their notional target price vs. current market price and then categorises them as Strong Buy, Buy, Hold and Sell. The performance horizon is two years unless specified and the notional target price is defined as the analysts' valuation for a stock. Strong Buy: >15%/20% for large caps/midcaps, respectively, with high conviction; Buy: > 10%/ 15% for large caps/midcaps, respectively; Hold: Up to +/-10%; Sell: -10% or more;
Pankaj Pandey
Head Research ICICIdirect.com Research Desk, ICICI Securities Limited, 1st Floor, Akruti Trade Centre, Road No. 7, MIDC, Andheri (East) Mumbai 400 093 research@icicidirect.com
pankaj.pandey@icicisecurities.com
ANALYST CERTIFICATION
We /I, Abhishek Shindadkar MBA, Aishwariya KPL, MBA research analysts, authors and the names subscribed to this report, hereby certify that all of the views expressed in this research report accurately reflect our personal views about any and all of the subject issuer(s) or securities. We also certify that no part of our compensation was, is, or will be directly or indirectly related to the specific recommendation(s) or view(s) in this report. Analysts aren't registered as research analysts by FINRA and might not be an associated person of the ICICI Securities Inc.
Disclosures:
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IDirect PersistentSystems IC

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IDirect PersistentSystems IC

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Initiating Coverage

Persistent Systems (PERSYS)

FY12 Net Sales EBITDA Net Profit

FY13E 29.8 45.8 30.3

28.9 44.8 1.6

Current & target multiple

FY13E 11.7 5.1 2.2 13.0 5.8 2.4

FY14E 10.6 4.9 1.9 11.7 5.5 2.1

FY15E 9.0 4.2 1.6 10.0 4.7 1.8

15.2 7.4 2.6 16.9 8.4 2.9

Returns (%) Persistent Infotech Ent. KPIT Cummins Mindtree

1M (6.4) (2.1) (11.3) (2.8)

3M 0.7 (6.5) (12.2) 20.2

6M 25.5 (11.6) (21.2) 29.8

12M 62.4 5.7 24.1 69.6

Analysts name Abhishek Shindadkar abhishek.shindadkar@icicisecurities.com Aishwariya KPL aishwariya.kpl@icicisecurities.com

Source: Company, ICICIdirect.com Research

ICICI Securities Ltd | Retail Equity Research

Shareholding pattern (Q3FY13)

FII & DII holding trend (%)

FII & DII

Exhibit 2: Revenues grow at 24% CAGR during FY07-12

30 20 10 0 % FY11 % growth FY12

Source: Company, ICICIdirect.com Research

Source: Company, ICICIdirect.com Research

ICICI Securities Ltd | Retail Equity Research

Source: Company, ICICIdirect.com Research

Exhibit 5: New technology vs. old technology revenue break-up

Source: Company, ICICIdirect.com Research

Exhibit 6: Revenue break-up by contract type

Time & material

Fixed priced projects

Source: Company, ICICIdirect.com Research

ICICI Securities Ltd | Retail Equity Research

Source: Company, ICICIdirect.com Research

Exhibit 8: Overview of owned and acquired IPs

Source: Company, ICICIdirect.com Research

ICICI Securities Ltd | Retail Equity Research

Source: Company, ICICIdirect.com Research

ICICI Securities Ltd | Retail Equity Research

ICICI Securities Ltd | Retail Equity Research

ICICI Securities Ltd | Retail Equity Research

OPD exports may grow 3.8x in the next seven years

0.0 FY07 FY08

FY13E FY13E FY2020E FY2020E

ER&D ER&D exports exports

Source: Nasscom estimates, ICICIdirect.com Research

Source: Nasscom estimates, ICICIdirect.com Research

Differentiated acquisition strategy to help achieve $500 mn in FY16E revenues

ICICI Securities Ltd | Retail Equity Research

4.5 3.4 2.2

Feb 2013: HP Client Automation Description Lifecycle management solution Client HP

Oct. 2012: R-cloud Description: IP Cloud based solution Client Doyenz

Source: Company, ICICIdirect.com Research

Case study 2: Acquired Openwaves location business IP tracking ahead of estimates

ICICI Securities Ltd | Retail Equity Research

Banking & Finance

Infrastructure & Systems

Sell with partnerships

Product Engineering (OPD)

Source: Company, ICICIdirect.com Research

ICICI Securities Ltd | Retail Equity Research

Exhibit 14: Snippets related to technology focus areas of PSLs

40% of large enterprises will have corporate social network by 2015