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L&T Infotech-Mindtree: Swap ratio appears fair


The L&T Infotech (LTI) and Mindtree merger was always a question of ‘when’ and not ‘if’ from the time L&T bought a majority stake in Mindtree and became its promoter in 2019.

Amongst other things, IT services is also a scale business — larger companies tend to  have better operating margins, scope for larger deal wins and better client mining capabilities. Scale begets scale in the industry. To that extend this merger announced last Friday, is a long term positive for both companies.

At the same time investors need to note that the merger which is subject to requisite approvals is likely to take  9 to 12 months to conclude and the benefits — in terms of revenue and cost synergies will take time to play out post that.

In the mean time both companies need to deal with global macro and geopolitical headwinds that may pressure business trends a couple of quarters down the line, although for now the momentum remains strong.

How successful the merger is will also depend on how quickly the new management upon merger is able to deal with cultural differences between the two companies and integrate. Being a business primarily based on human capital, this will be a very important factor.

Swap ratio appears fair

As per deal terms. Mindtree shareholders will receive 73 shares of LTI for every 100 shares they own. This is almost on par with the ratio of the closing price of the two stocks on Friday. Thus it is largely in sync with market assigned valuations. The valuation and financial metrics of both companies are also largely similar.

Both were trading at around 29 times FY23 estimated EPS (Bloomberg consensus). In terms of growth, based on consensus estimates, FY22-24 EPS of Mindtree is expected to grow at CAGR of 17 per cent, while for LTI it is at 19 per cent. EBITDA margins for both are estimated at close to 20 per cent for FY23.

Balance Sheet strength is also largely similar with net cash at around 5 per cent of Friday’s market cap for Mindtree and 4 per cent for LTI.

Fifth largest?

There were news reports highlighting how the deal will catapult the combined entity to the fifth largest IT services.

While this holds good for now in terms of market cap, in terms of revenue and scale of business, Tech Mahindra retains the fifth spot by a wide margin. Tech Mahindra’s FY22 revenue is around 70 per cent higher than that of LTI-Mindtree combined, and estimated to be 63 per cent higher for FY23.  

Market caps can gyrate with market volatility and thus it might be too early to assign fifth spot to the merged entity. To get there, lot more scale and growth needs be built post merger.

Published on May 09, 2022

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