Summary
- Mastech Digital is a small-cap company with steady growth and a solid balance sheet to capitalize on M&A opportunities when they present themselves.
- The company has beaten EPS estimates by the third quarter in a row. Recent results have demonstrated the efficient working way of management and the resilience of the business model.
- Despite the recent rise in valuation, the company still has a significant upside potential due to its ability to continue growing regardless of the tough challenges in the industry.
Article Thesis
The coronavirus crisis is having a devastating effect on employment and the tough situation will continue in the months to come. The drop in labor demand creates significant challenges for companies in the staffing sector. Amid the current uncertainty, investors have been avoiding stocks related to this industry – at least until there is more clarity in the economy. However, the pessimistic outlook has created interesting opportunities in the sector due to much lower valuations. I have recently analyzed an interesting firm in the staffing industry and today I want to talk about another one; Mastech Digital (MHH). This small-cap company has a high growth rate, a solid balance sheet and a new growing segment related to data and analytics services – much more profitable than the staffing segment. Despite the strong rise in valuation since mid-March lows, the stock still offers a significant upside potential below $23.
Company overview
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Mastech Digital is a provider of IT staffing services and data and analytics services across different industries such as, among others, financial services, government, healthcare and retail. It was established in 1986 and began operating as an independent public firm in 2008 after a spin-off from iGATE. The company is largely owned by Sunil Wadhwani and Ashok Trivedi, co-founders of MHH, who hold approximately 62% of the outstanding shares. Although MHH has different clients in Europe, the Middle East and the Asia-Pacific region, almost 99% of the company’s revenue is generated from customers located in North America. In 2019, its top ten clients accounted for approximately 45% of sales.
MHH business is composed of two segments
MHH’s revenue is generated from two business segments: IT staffing services and data and analytics services. Each segment has its separate sales and marketing organization.
- The IT staffing segment delivers a range of services in digital and mainstream technologies – currently just in the US. The company works with businesses and institutions with significant IT staffing needs as well as smaller organizations with temporary IT staffing requirements. As is common in this sector, the company does not enjoy exclusivity concerning a client’s contractor needs and its service must be very efficient in terms of quality, time and price. The IT staffing is MHH's most relevant segment in terms of sales – it represented 86.2% of revenue in 2019. Unfortunately, it is the least profitable of both segments due to the highly competitive environment in the industry. Although the gross margin has improved in recent years, it was only 21.3% in 2019.
- The data and analytics services segment, known as Mastech InfoTrellis, offers project-based consulting services in the areas of Data Management, Data Engineering and Data Science, which can be delivered using onsite and offshore resources. The service aims to support clients in the realization of discontinuous business performance in areas such as revenue growth, operating costs, data management effectiveness and risk. The segment has been growing substantially in recent years as a percentage of MHH total sales - during the last fiscal year, it accounted for 13.8% of revenue. Management aims to continue growing this service due to its much higher profitability, which had a gross margin of 46.7% in 2019 and above 50% in the most recent quarter. Looking forward, the data and analytics market provides fertile ground to continue growing - it is estimated to be $275 billion by 2023, growing at a 12% CAGR.
(Source: Mastech Digital annual report 2019)
