With a market capitalisation of €1.5bn, Indra is definitively a minnow within the European IT services sector. In comparison, the behemoth Capgemini has a market cap of €32.0bn. Indra is a medium-sized player (revenue expected above €3.6bn at constant currency in 22) with a major exposure to Spain (c.50% of revenue). Furthermore, the Spanish State-owned SEPI is taking more of a hold on Indra which has a strategic position in defence & security (18% of revenue estimated in 22).

The stock outperformed the IT services sector ytd (-11% vs -19%) benefiting from investors’ interest in defence. Nevertheless, the share price has been on a negative trend since the unexpected removal of five independent board members (under the company’s criteria) at the shareholders’ meeting on 23 June 22 and the resignation of another board member two days later. These moves raise questions about the Spanish State’s say over Indra’s future strategy. For now, investors stand back.

Negative trend of the share price on governance concerns

Company’s governance and strategy issues

In our previous Idea Kicker dated 3 June 21, we highlighted a political move with the appointment of Marc Murtra, candidate from SEPI, as non-executive Chairman of the Board of directors. In June 22, SEPI increased its stake in Indra by acquiring the remaining Corporation Financiera Alba’s interest in the company and was authorized by the Council of Ministers of the Spanish government to raise its ownership to 28% of the capital (vs c.25% currently). SEPI has an ally with SAPA Placencia Holding which owns 5% of the shares and its CEO Jokin Aperribay who was appointed board member on 23 June 22. The unexpected removal of five independent directors at the shareholders’ meeting was strange and suggests a willingness of the Spanish State to weigh more on Board decisions. Since July 22, Indra has been working on a new structure for its Board of directors (half independent directors out of a total of 14 members, gender diversity) with the organizational consulting company Korn Ferry in charge of the selection process for the new directors. Going forward, we are doubtful about the real independence of the new Board of directors.

Indra is under pressure when it comes to its strategic priorities. The Spanish State is pushing for the entry of a Spanish partner (Indra is often mentioned in the press) into the capital of ITP, an airplane engine components manufacturer. Such an investment does not fit with Indra’s acquisition policy of bolt-on operations in IT services. Management recently said that it was not looking at a minority stake or a financial investment in ITP.

Strong business performance in 2022 nevertheless

In July 22, management raised its 2022 revenue guidance above €3.6bn on constant currency (vs > €3.55bn previously) and EBIT above €280m (vs > €270m previously). Following a strong Q1 22 with organic revenue growth of +11% and an EBIT margin of 7% of revenue (+1.8pt), Q2 22 showed contrasts between Transport & Defence and Minsait. Organic revenue grew by +7% driven by Minsait (+12% vs -3% for T&D due to Transport and Air traffic) and the EBIT margin declined to 6.6% of revenue (-0.5pt) due to wage inflation and higher other costs at Minsait. Indra is confident for H2 22 given that there is  no sign of a deceleration of demand in IT services and a slowdown of wage inflation. In addition, Indra had strong order intake in H1 22 (+24% on contant currency o/w +31% in T&D, +21% in Minsait).

For 2022, our estimates include organic revenue growth of +7.7% and an EBIT margin of 7.6% of revenue (+0.5pt). For 2023, we factored a cautious estimate for organic revenue growth of +3% and EBIT margin of 7.4% of revenue (-0.2pt). There is a risk of a weaker economic environment that could lead customers to slow some investments in IT services while inflation puts pressure on wages. Our assumptions contrast with Gartner’s forecast (July 22) of +8.3% growth in IT services worldwide (vs +6.2% in 22, +12.8% in 21).

ROCE more or less in line with the sector average

Following its huge restructurings in 2015, Indra’s ROCE reverted to the sector average except for 2020 when Indra was severely impacted by the COVID-19 pandemic with travel restrictions preventing tests and certifications in the defence & security activities and international projects. Its 2022-24.ROCE is assumed to be in line with the sector averages.

ROCE back to the IT services sector average

An upside of 27%

The significant upside derives from the NAV (€11.5/share) and most comparison-based metrics. In the NAV based on the EV/Revenue multiple, we applied a higher multiple for T&D (1x) than for IT services (Minsait) (0.8x) considering that T&D should benefit from the increase in defence budgets in various European countries as a result of the war in Ukraine. The stock is not expensive (PE22-23 in the range of 9.5-9.6x). The main concern is the increasing influence of the Spanish State which is clouding the prospect of an Indra shifting cogs toward a less Iberian-centric profile.