Zensar Q2 Results Review - Strong Margin Uptick; Growth Outlook Remains Weak: Motilal Oswal

Motilal Oswal Report

Zensar Technologies Ltd. reported Q2 FY24 revenue growth at 0.2% QoQ in constant currency, in line with our estimate. Deal total contract was up 37% YoY at $195 million on account of the timing of deal closures. Zensar once again surprised on the margin front by absorbing the majority of wage hikes, partly due to the reversal of FY23 management bonuses.

While revenue growth in Q2 was in line with our estimate, the management remains cautious about the near-term demand environment, citing persistent challenges in hi-tech vertical. Q3 FY24 is expected to remain weak with slower demand and impact from furloughs. Given the challenging near-term macro outlook, especially in key verticals like hi-tech, manufacturing and consumer, we expect FY24 revenue growth to remain muted (estimate: 0.8% YoY CC). Revenue growth should improve in FY25 as the expanded service portfolio starts delivering on growth. We factor in U.S dollar revenue compound annual growth rate of 5.6% over FY23-25E.

On the margin front, Zensar once again surprised as it was largely able to absorb the impact of wage hikes and took a negligible hit on margins despite wage hikes that were higher than the industry. Strong margin improvement was aided by a 160 bp gain from the reversal of FY23 management bonuses. The management has maintained its Ebitda margin guidance in mid-teens and plans to reinvest above that level for growth. With strong margin improvements in H1 FY24, we expect Zensar to deliver 17.3% Ebitda margin in FY24 and 16% in FY25. This should result in an Rs Earnings per share compound annual growth rate of 34% over FY23-25E (partially on low FY23 base).

The stock has run up meaningfully (2.5 times last year) on margin improvement. Given near-term challenges in a significant portion of its portfolio and limited upside on margins, we see current valuations at 21 times FY25E EPS fair. Our target price of Rs 520 implies 20 times FY25E EPS. Retain 'Neutral'.

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