Can Tech Mahindra become an IT giant?

After lagging behind peers for years, the company changes tack to achieve ambitious revenue target of $5 billion in two years.

It is no secret that IT-service company Tech Mahindra has fallen behind its peers when it comes to growth. 

While the big four players in the sector have risen to become global behemoths in the last five years, logging annual growth rates of over 13 per cent and more, Tech Mahindra (along with merged Satyam) has barely managed to expand its revenues, thanks to its focus on one vertical, telecom, and one company, British Telecom.

Now Tech Mahindra is striving to change that. After its acquisition of Mahindra Satyam, which was formally integrated on June 24, Tech Mahindra is trying to leverage its wider service offering that covers manufacturing, healthcare, retail and banking and financial services (BFSI) industry-a domain expertise of erstwhile Mahindra Satyam-to catch up with the top players. 

The company has set an ambitious revenue target of $5 billion by FY 2015 - from about $3 billion now of the merged entity. 

In India, at present, only three IT companies - TCS, Infosys and Wipro - have revenues of over $5 billion, while HCL Technologies is close to getting there, at around $4.3 billion.

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The company says having an ambitious growth target serves two purposes: One, it helps set goals for the various verticals, and two, it fires the team with enthusiasm.

Says Milind Kulkarni, chief financial officer, Tech Mahindra: "While we have set a target of $5 billion in revenues, it largely should be looked at as aspirational. This will help us to settle on various targets for different segments and work on achieving these goals."

At its present internal growth rate of 21 per cent, which is faster than the average 12-13 per cent for the IT sector this year, Tech Mahindra could probably touch about $4 billion in revenue by 2015, with acquisitions expected to meet the rest of the targeted revenue. 

While expanding its business through acquisitions will become the cornerstone of Tech Mahindra's growth strategy in the coming two years, the company says it is unlikely to follow an aggressive buy-out strategy unless there is a strategic fit to its present suite of services.

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Strategic moves

Tech Mahindra has nearly Rs 3,000 crore (Rs 30 billion) in cash which it plans to use for such acquisitions. This year so far, it has acquired four companies, in the US and South America.

Its acquisition strategy is largely focused on areas where it can boost its technological edge and capabilities or where it can add clients and expand its customer base.

For instance, the company recently acquired a 51 per cent stake in Comviva, which is into mobile value-added services and mobile payments in South Africa and the US. In some measures, this is an extension of its present telecommunications vertical considering that data and other services on hand-held devices are increasing exponentially.

However, analysts have a different take on the company's growth strategy. They feel growth focused on acquisitions could be a risky venture. 

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A recent report by financial services firm Barclays says: "In order to meet its target, such an acquisition would have to be of a higher ticket size ($1 billion), which would be a risky proposition in our view. Our analysis suggests that an acquisition strategy for the industry as a whole has not tended to be a successful avenue for growth."

Still, many have an upbeat outlook about the company. Says Sashi Bhusan, senior research analyst, Prabhudas Lilladher: "Acquisition-led growth is possible as Tech Mahindra has done a few in the past. It should be able to find companies that are a strategic fit. Besides, it can also leverage its balance sheet for these acquisitions."

In addition to acquisitions, Tech Mahindra is also focusing on building a strong brand around its name. The company has been winning quite a few deals lately after it dropped Satyam from its name and re-branded the entire company. 

Says Indraneel Ganguli, global head (brand), Tech Mahindra: "We have received good response for the Tech Mahindra brand and we are winning a host of new deals solely under the new brand. We will position Tech Mahindra as a leading IT solutions provider across verticals, and cross-sell our services."

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Cross-selling is another thing that the company is banking on to win large deals. For instance, the manufacturing solutions vertical can gain more leverage if the company bundles it with its telecom services business.

To be sure, not many IT services companies have such a wide service range which can straddle telecommunications and IT, infrastructure management, network management and value-added services.

Aided by these initiatives, the company is expecting to grow faster than the industry average. As it grows, it is gaining traction in its offerings which, in turn, is helping the company win larger deals. 

The company has bagged a few large deals of over $50 million and this trend could continue. Besides, invitations to participate in larger deals have also increased. Says Kulkarni: "The business environment has been improving in Europe and the US. Deal flows have been improving in manufacturing and banking and financial services industry."

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Branching out

Tech Mahindra's growth strategy will also be helped by diversification. For some time now, the company has been trying to move away from the telecommunications space, which generates about 48 per cent of its revenues, and de-risk its business.

This becomes even more important as telecommunication companies have been curtailing their expenditure in the wake of their lacklustre growth prospects.

As the reliance on telecom wanes, manufacturing gains prominence in the company's scheme of things, followed by retail, healthcare and banking and financial services. In banking and financial services, the company has won a few large deals lately, and this segment is expected to contribute around 6 per cent in the near future compared to 3-4 percent now with the increase in regulatory spending in the US.

Besides venturing into new verticals, Tech Mahindra is also looking at shedding some of the businesses which are not profitable in a bid to improve operating margins. While deal pricing has been robust for the company, the tailwind of a falling rupee should help keep margins intact.

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However, Tech Mahindra's wage bill could rise in the future as the company is in the process of rationalising salaries because of cost differences between the two amalgamated, companies Satyam and Tech Mahindra.

This will raise its already-high salary cost to around 65 per cent of revenues. While the company is hiring to maintain its growth trajectory, it is keen to improve productivity of its present staff. Says Kulkarni: "The entire industry is focused on improving productivity from existing staff, and it's not as it was in the past."

There's no doubt Tech Mahindra's new vision has come a long way from being a pure telecommunication-services provider to being a diversified-IT company.

Its perception has also improved among analysts and the stock market. From single-digit valuations, it now trades at around 15 times earnings. That perception will only get a boost if the company can achieve its targeted growth of $5 billion in revenues in two years.