MPHASISNSEQ3 FY 2023January 20, 2023

MphasiS Limited

10,401words

71turns

11analyst exchanges

2executives

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Management on call

Nitin Rakesh

CHIEF EXECUTIVE OFFICER – MPHASIS LIMITED

Manish Dugar

CHIEF FINANCIAL OFFICER – MPHASIS LIMITED

Key numbers — 40 extracted

rs,

ors most exposed to offerings related to operating legacy tech architecture systems and data centers, mainframes and traditional support, etcetera, may find budget in such areas getting squeezed in 20

5.7%

s BFS is thanks to our ability to profitably play such themes. Our Q3 FY '23 revenue represents a 5.7% Y-o-Y growth in constant currency terms. Direct revenue declined 2.8% sequentially and grew 6.4%

2.8%

FY '23 revenue represents a 5.7% Y-o-Y growth in constant currency terms. Direct revenue declined 2.8% sequentially and grew 6.4% year-over- year in constant currency terms. Our mortgage LOB, largely r

6.4%

5.7% Y-o-Y growth in constant currency terms. Direct revenue declined 2.8% sequentially and grew 6.4% year-over- year in constant currency terms. Our mortgage LOB, largely represented by Digital Risk

8.8%

ate market in the US. The contribution of Digital Risk, our mortgage BPS subsidiary now stands at 8.8% of third quarter FY '23 revenue. Within Digital Risk, the contribution of the most vulnerable mor

20%

of the most vulnerable mortgage sub-segment, namely origination and refinancing, has declined to 20% of DR revenue and within 2% of our overall revenue. That being said, DR is a valuable piece of

e sub-segment, namely origination and refinancing, has declined to 20% of DR revenue and within 2% of our overall revenue. That being said, DR is a valuable piece of the business portfolio for the

15%

ding DR wherever appropriate. Excluding DR, our Direct business has grown sequentially as well as 15% year-over-year in constant currency terms. Managing this duality is akin to running on a two-spee

24.5%

umbers here excluding Digital Risk. Our financial year-to-date FY '23 direct revenue growth is at 24.5% in constant currency terms and compares with the FYTD constant currency of overall revenue at 17.

17.3%

.5% in constant currency terms and compares with the FYTD constant currency of overall revenue at 17.3% for Direct business. Our Direct business accounted for 94% of revenue in this quarter. DXC's co

94%

stant currency of overall revenue at 17.3% for Direct business. Our Direct business accounted for 94% of revenue in this quarter. DXC's contribution to our revenue is now less than 5%, at 4.8%, and g

accounted for 94% of revenue in this quarter. DXC's contribution to our revenue is now less than 5%, at 4.8%, and given the low and declining contribution of this business to overall revenue, Direc

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Guidance — 20 items

Nitin Rakesh

opening

“Three, operating within stated target operating margin band, we believe that the margin stance ensures margin stability in a volatile environment, especially in a seasonally weak quarter with significant ramp downs in one part of the business.”

Nitin Rakesh

opening

“We continue to believe that pipeline and TCV will be the lead indicators of outlook going forward.”

Nitin Rakesh

opening

“We also expect to grow several of our top accounts sequentially, sustaining our market share gains, thus, despite being at an all-time quarterly high revenue, they continue to scale.”

Nitin Rakesh

opening

“And given our actions and operational efficiency and productivity, we also intend to continue to invest in growth across the chosen business and technology segments.”

Nitin Rakesh

“The third line of the business that we have in the mortgage servicing side is servicing, which is a little bit more project-based because that involves diligencing loans that are bought and sold either between the government institutions, Freddie and Fannie, or between secondary buyers, from one bank to another or one capital market firm to another.”

Nitin Rakesh

“DocuSign Envelope ID: 5320E003-3D11-4D30-8554-1E7FA9752979 We expect that to come to a head at some point between this quarter and next quarter.”

Nitin Rakesh

“But the known variable is that at least in the short to medium term, we will see some parts of the market start unlocking and activity will start which will lead to opportunities and projects.”

Manish Dugar

“Well, Kawal, we have stated earlier that the objective will be to invest for growth while maintaining margin in a stable narrow range.”

Nitin Rakesh

“I think as this gets fixed, you will see margin expansion opportunities in the short to medium term as well.”

Abhishek Bhandari

“And if you could also highlight what are your hiring plans going forward?”

Risks & concerns — 15 flagged

Our mortgage LOB, largely represented by Digital Risk experienced significant volume ramp down in this quarter, the magnitude of which was unanticipated and unprecedented.

— Nitin Rakesh

While mortgage rates have resumed their decline in the recent times, the market remains hypersensitive to rate movements with purchase demand experiencing large swings relative to minor changes in rate, leading to a freeze up in activity in residential real estate market in the US.

— Nitin Rakesh

The contribution of Digital Risk, our mortgage BPS subsidiary now stands at 8.8% of third quarter FY '23 revenue.

— Nitin Rakesh

Within Digital Risk, the contribution of the most vulnerable mortgage sub-segment, namely origination and refinancing, has declined to 20% of DR revenue and within 2% of our overall revenue.

— Nitin Rakesh

In keeping with the duality theme, we are providing some growth numbers here excluding Digital Risk.

— Nitin Rakesh

Excluding Digital Risk, the DocuSign Envelope ID: 5320E003-3D11-4D30-8554-1E7FA9752979 US grew at 17% Y-o-Y in constant currency.

— Nitin Rakesh

While the overall numbers are impacted by the decline in the mortgage LOB, excluding DR, Direct BFS grew 2% sequentially and 17.6% year-over-year in constant currency terms.

— Nitin Rakesh

Our Top 6 to 10 clients, ex-Digital Risk grew at 40% constant currency on LTM basis.

— Nitin Rakesh

Coming to our financial metrics, our margin philosophy affords us the flexibility to manage our profitability in this volatile environment.

— Nitin Rakesh

These actions have helped manage margins despite the significant Digital Risk revenue drop.

— Nitin Rakesh

Three, operating within stated target operating margin band, we believe that the margin stance ensures margin stability in a volatile environment, especially in a seasonally weak quarter with significant ramp downs in one part of the business.

— Nitin Rakesh

Coming to our fourth quarter '23 outlook, it is about focusing on the micro in an uncertain macro.

— Nitin Rakesh

Uncertain macro may well weigh on the market business in the near term.

— Nitin Rakesh

But given just the total freeze in the market right now, we are also seeing a decline in volumes in the home equity business.

— Nitin Rakesh

We've seen big brunt of the origination decline already happen.

— Nitin Rakesh

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Q&A — 11 exchanges

Let me start with the mortgage part of the business, how should we see this in the near term? I know the visibility is fairly low right now. But obviously, and you have in earlier quarters also indicated that this is bottoming out before the shock, which we saw this quarter with the environment which is there in US. How should we see this business beyond maybe next one to two quarters? Is this something which is now coming close to stabilizing, or again, visibility is low here?

Nitin Rakesh

So Mukul, I think, first, let me explain to you the structure of our mortgage business as well as the State of the Union when it comes to the residential real estate market in the US. If you look at our current business, it's primarily made up of three buckets of services. First bucket is originations that used to be the only business we were in a few years ago. Just to give you a sense, we've seen a volume drop between refinance and new purchases of about 80% in the last four quarters. And that is because the market for new purchases is completely seized up in the US given where the mortgage

Happy New Year, Nitin. A couple of questions. First, Nitin, is that when you look at our performance in the last three quarters, it has been fairly muted. Is it entirely due to mortgage exposure, or were there any areas in which Mphasis could have done better?

Nitin Rakesh

I think Kawaljeet, we've broken out the whole mortgage segment in granularity this quarter because I thought that was the right thing to do for you to get an understanding of what level of DocuSign Envelope ID: 5320E003-3D11-4D30-8554-1E7FA9752979 extent of decline that's provided. I think there are a couple of other pockets of weaknesses. None of them are not unknown to you. So, they're all well understood. We called out the weakness in some segments in Hi-Tech last quarter. I think we had an unexpected furlough in Q2 and that continued in Q3 in that segment. We've also seen one or two of our

Nitin, I just had a question on your employee count and the hiring outlook. So this quarter, we have seen some bit of reduction on your employee headcount by almost 1,200 people, both on- site and offshore. Is it mostly to do with the continued attrition? Or there has been some involuntary attrition as well, keeping in mind what kind of demand outlook we have at least for the next few quarters? And if you could also highlight what are your hiring plans going forward?

Nitin Rakesh

So, I think firstly, Abhishek the headcount reduction obviously is in line with the optimization that we talked about. The biggest metric that I want you to focus on is record fresher adoption, both in absolute and percentage terms, given our track record since we have been tracking it. What that means is that we have the ability to then optimize our lateral bench, both onshore and offshore because that gives us the ability to actually do upward movement from within the company and do a lot more fulfillment from within the company and hence our aging of bench has reduced, and our percentage of

So, post the Q1 earnings call, the guidance was that revenue growth should pick up as the year progresses. But on the contrary, we have seen that the gap between TCV and revenue growth have widened with every quarter. And this is despite the TCV ramping up from the average $250 million that we used to do last year to almost $400 million now. So I mean, the numbers are kind of speaking for themselves. So, how bad do we think it can get in the short term before things actually start to look up? DocuSign Envelope ID: 5320E003-3D11-4D30-8554-1E7FA9752979 My second question is on the margins. So, i

Manish Dugar

So Nitin, let me take the second part first, Manish here. The margins are reported margins after adjustment of dilution because of M&A. We did say that there is northward bias to the margins. And we have had events which has happened post those discussions leading to the expansion not happening. For example, the Fed increasing the interest rate twice by 0.75% is completely unprecedented, which had an impact on the mortgage business as Nitin was explaining, leading to a significant decline in revenue. And while we had not just one, but multiple levers firing from an operating margin improvement

I don’t know, we lost him. Why don't we move to the next question.

Management

So a couple of questions, actually. The first is, do you think the pace of decline that we saw this time, do you think the worst is in terms of the pace is sort of over and things should incrementally moderate? So, that's the first one. And maybe on an overall basis, do you think the overall impact on the portfolio wherein we saw a decline on a sequential basis, you think things should start gradually improving on a sequential basis from here on? The second bit is, if you look at the mortgage business, you spoke about how the origination piece has anyway dropped 80% in volumes. And then the ho

Nitin Rakesh

Let me take the DR question first. I think, yes, the decline in originations at 80% seems to have taken a large beating. I think there definitely is some residual risk in the current book of business because we can't forecast what we control, which is the environment. But as I said, the counter to that is that the market cannot stay ceased up for a very long time because this is the key part of the US economy. So, that will give us opportunities that will continue to provide some cushion to the decline. But the reason we broke out contribution of revenue is because we want you to get a sense o

Sir, one question outside BCM vertical and more related to service line breakup also. So, on the Application service side, what is your outlook if you exclude this whole BPM piece? And the second part, which is related is, if I adjust for BCM, in other verticals, how do you see growth panning out, say, over the next few quarters, given your TCV pipeline, etcetera?

Manish Dugar

Mohit, we looked at the pipeline data by vertical, if you look at it this time. And that talks about most TCV wins as well as pipeline growing at an overall level, plus growing for the non-BFSI segment at a faster clip. We have had some large deal wins which are outside of the BFSI segment as well. And specifically, healthcare and insurance, we see the TCV conversions to be very healthy. So, as we go forward, the growth by the BFSI segment should continue to see DocuSign Envelope ID: 5320E003-3D11-4D30-8554-1E7FA9752979 growth. The non-BFSI segment also has reasonable wins and the pipeline to

I just had two very broad questions. First one is, what is our book-to-bill right now?

Nitin Rakesh

I think, traditionally, book-to-bill includes the renewals in the overall TCV number. We only report net new TCV numbers, and hence we report the correlation. So, I think you can make a... Okay, got that. So, if I invert that broadly, that will either the book-to-bill? ..number based on those. Yes. Sure. And a couple of other broad questions is what would be our aspirational utilization level over the medium term? And this correlation number since we are speaking about that, we've been at 90-plus previously, so, can we assume that, that would be our aspiration in the medium term? I think we st

I have two quick questions. First, do you see any deviation in deal ramp-up compared to planned one, particularly given the macro environment? DocuSign Envelope ID: 5320E003-3D11-4D30-8554-1E7FA9752979

Nitin Rakesh

So, I think we addressed that briefly. In select cases, yes, we are seeing that clients are taking longer to ramp up a deal given the scrutiny and the internal processes that they have to go through in some cases. I think the year-end budgeting cycle also sometimes interferes with that. We're still early in the New Year, we are still seeing some clients take a very cautious approach. There are instances, kind of one-off, but there are instances where clients have asked for a couple more months before they engage in a longer-term renewal and I think we are continuing to kind of work through tho

So Nitin, you talked about the consolidation possibilities as you go forward. So, by when do you see the revenue impact of those consolidation possibilities and which segments are where you are seeing those consolidation opportunities? And my second question was to Manish. Manish, we had around INR 294 million loss because of hedges, which was taken to the revenue line this quarter. So, when do we start to see participation in terms of rupee depreciation on margins because that seems to be also depressing your margins?

Manish Dugar

So Ashwin, Manish here, I'll take the second question first. As you know, our treasury policy has been to assure us of certainty of currency rather than operate on a profit center basis and the stated policy was coverage of 80% for the next four quarters, maybe 100% for the next four quarters. And then on a gradual scale, reducing for the next four quarters. Three quarters back, we started seeing the exchange rate significantly strengthening, dollar strengthening. And we were already covered for four quarters. And the gap between the hedge and the spot, became very high this quarter when we en

Thank you, all. In a way, we're still living through some interesting times. Despite the headwinds we are seeing in some parts of the business, we continue to have operating leverage needed to invest in the business for growth, which means we have to continue to make strategic investments, both in farming and in hunting. I think we'll continue to focus intensely on executing our strategies and supporting our clients in this complex environment, we're planning conservatively and are prepared for all environments and I thank you for continued interest in Mphasis and your sustained investments an

Management

Speaking time

Nitin Rakesh

Moderator

Manish Dugar

Kawaljeet Saluja

Nitin Padmanabhan

Abhinav Ganeshan

Ashwin Mehta

Mukul Garg

Abhishek Bhandari

Mohit Jain

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Opening remarks

Nitin Rakesh

Thank you, Aman. And thanks, everyone, for joining us today. I know it's a busy day with multiple earnings calls and we appreciate your interest in Mphasis. I trust everybody has had a chance to review our earnings release documents, including the presentation. Though the macro environment has progressively gotten more challenging over the past few months, we continue to see interest in strategic areas of technology transformation. Enterprises continue to prioritize investments in areas such as cloud adoption, data engineering and strategic data assets, as well as areas like cyber security and customer experience and support transformation, as the latter also leads to a significant cost takeout opportunity given the high-cost base for customer support operations. We see specific themes resonating across industries in 2023, including banking and insurance, themes that facilitate accelerated transformation and digitalization. Despite the resource environment easing up over the past coupl

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