Rating Update: Stock Rating F-Lowest (3/21/19)-Mastech Digital Inc (MHH).

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BUSINESS

Mastech Digital, Inc. provides digital transformation IT services to large and medium-sized organizations in the United States. It operates through two segments, Data and Analytics Services, and IT Staffing Services. The company offers data management and analytics services, including project-based consulting services in the areas of master data management, enterprise data integration, big data and analytics, and digital transformation by using onsite and offshore resources. It also provides a range of IT staffing services in the areas of cloud, mobility, social, automation, business intelligence/data warehousing, Web services, enterprise resource planning and customer resource management, and e-business solutions. In addition, the company offers digital transformation services, such as staffing and project based services through Salesforce.com, SAP HANA, and digital learning methods.
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INVESTMENT RATING

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MHH is expected to continue to be a modest Value Eraser reflecting capital returns that are forecasted to be below the cost of capital.

Mastech Digital has a current Value Trend Rating of F (Lowest Rating).
This rating combines consistent signals from two proprietary PTR measures of a stock’s attractiveness. Mastech Digital has a poor Power Rating of 23 and a very low Appreciation Score of 8, producing the Lowest Value Trend Rating.

Mastech Digital’s stock is selling significantly above targeted value. The current stock price of $6.20 compares to targeted value 12 months forward of $2.
Mastech Digital’s very low appreciation potential results in an appreciation score of 8 (92% of the universe has greater appreciation potential.)
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Mastech Digital has a Power Rating of 23. (MHH’s poor Power Rating indicates that it only has a higher likelihood of achieving favorable investment performance over the near to intermediate term than 23% of companies in the universe.)
Factors contributing to this poor Power Rating include: recent price action has been unfavorable; and is currently in an unfavorable positi.

INVESTMENT PROFILE

MHH’s financial strength is above average. Financial strength rating is 62.
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Relative to the S&P 500 Composite, Mastech Digital Inc has both Growth and Value characteristics; its appeal is likely to be to Capital Gain-oriented investors; the perception is that MHH is higher risk. High expected growth is a positive for MHH. Relative weaknesses include: low forecasted profitability, low financial strength, and low historical growth. MHH’s valuation is high: low dividend yield, high P/E ratio, and moderate price/book ratio. MHH has unusually low market capitalization.

CURRENT SIGNALS

Mastech Digital’s current operations are strong. Return on equity is rising, reflecting: widening pretax margins; rising tax keep rate; and rising leverage.

Mastech Digital’s current technical position is mixed. The stock price is in a 1.9 month up move. The stock has appreciated 30.5% from its prior low. The 200 day moving average is in a downtrend. The stock price is above its 200 day moving average.

ALERTS

Important negative changes in Mastech Digital Inc (NYSEAMERICAN: MHH) investment behavior have recently occurred: negative upside/downside volume developed.
Mastech Digital Inc (NYSEAMERICAN: MHH) has benefited from small positive changes in fundamentals: significant quarterly earnings acceleration occurred.
The stock is currently rated F.
Mastech Digital Inc (NYSEAMERICAN: MHH) stock enjoyed a major increase of 15.2% on 3/21/19. The shares closed at $1.52. Moreover, above average trading volume at 124% of normal accompanied the advance. The stock has been weak relative to the market over the last nine months and has declined -8.1% during the last week.

CASH FLOW

In 2017, Mastech Digital generated a very significant increase in cash of +$1.65 million (+199%). Sources of cash were much larger than uses. Cash generated from 2017 EBITDA totalled +$8.04 million. Non-operating uses consumed -$2.02 million (-25% of EBITDA). Cash taxes consumed -$1.35 million (-17% of EBITDA). Re-investment in the business amounted to -$36.56 million (-455% of EBITDA). On a net basis, debt investors supplied +$27.08 million (+337% of EBITDA) while equity investors supplied +$6.45 million (+80% of EBITDA).
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Mastech Digital’s Non-operating Income, %EBITDA has experienced a minor downtrend over the period. This downtrend was accompanied by stability for the Mastech Digital Inc Peer Group. (Since 2014 Non-operating Income, %EBITDA has accelerated sharply.) In most years, Mastech Digital was in the second quartile and third quartile. Currently, Mastech Digital is lower quartile at -25% of EBITDA (-$2.02 million).

Mastech Digital’s Cash Taxes, %EBITDA has exhibited little to no overall change over the period. This stability was accompanied by a downtrend for the Mastech Digital Inc Peer Group. (Since 2014 Cash Taxes, %EBITDA has experienced very sharp improvement.) In most years, Mastech Digital was in the lower quartile and third quartile. Currently, Mastech Digital is slightly above median at -17% of EBITDA (-$1.35 million).

Mastech Digital’s Business Re-investment, %EBITDA has suffered a very strong overall downtrend over the period. This downtrend was accompanied by a similar trend for the Mastech Digital Inc Peer Group. In most years, Mastech Digital was in the top quartile and lower quartile. Currently, Mastech Digital is lower quartile at -455% of EBITDA (-$36.56 million).

Mastech Digital’s Debt Investors, %EBITDA has experienced a very strong overall uptrend over the period. This improvement was accompanied by stability for the Mastech Digital Inc Peer Group. In most years, Mastech Digital was in the top quartile and second quartile. Currently, Mastech Digital is upper quartile at +337% of EBITDA (+$27.08 million).

Mastech Digital’s Equity Investors, %EBITDA has enjoyed a volatile overall uptrend over the period. This improvement was accompanied by an opposite trend for the Mastech Digital Inc Peer Group. (Since 2012 Equity Investors, %EBITDA has accelerated very sharply.) In most years, Mastech Digital was in the top quartile and lower quartile. Currently, Mastech Digital is upper quartile at +80% of EBITDA (+$6.45 million).

Mastech Digital’s Change in Cash, %EBITDA has experienced a volatile overall downtrend over the period. This downtrend was accompanied by a similar trend for the Mastech Digital Inc Peer Group. (Since 2015 Change in Cash, %EBITDA has experienced a very sharp recovery.) In most years, Mastech Digital was in the top quartile and lower quartile. Currently, Mastech Digital is upper quartile at +21% of EBITDA (+$1.65 million).
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Mastech Digital’s Cash, %Revenue has experienced a small downtrend over the period. This downtrend was accompanied by stability for the Mastech Digital Inc Peer Group. In most years, Mastech Digital was in the lower quartile and second quartile. Currently, Mastech Digital is lower quartile at +2%.

PROFITABILITY

Mastech Digital’s return on equity has eroded modestly since 2008.
The key to the story for MHH is a very strong negative trend in pretax operating return significantly offset by a very strong positive trend in non-operating factors.
The productivity of Mastech Digital’s assets declined over the full period 2008-2018: asset turnover has suffered a very strong overall downtrend that accelerated very sharply after the 2013 level.
Non-operating factors (income taxes and financial leverage) had a very significant positive influence on return on equity.
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Mastech Digital’s return on equity is upper quartile (20.1%) for the four quarters ended September, 2018.
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Operating performance (pretax return on assets) is at the upper quartile (10.2%) reflecting asset turnover that is at median (1.80X) and pretax margin at the upper quartile (5.7%).
Tax “keep” rate (income tax management) is at the lower quartile (67.9%) resulting in after tax return on assets that is at the upper quartile.
Financial leverage (leverage) is upper quartile (2.90X).

GROWTH RATES

There are no significant differences between Mastech Digital’s longer term growth and growth in recent years.
Mastech Digital’s historical income statement growth has been lower than balance sheet growth. Revenue growth has fallen short of asset growth; earnings growth has fallen short of equity growth.

Annual revenue growth has been 3.2% per year.

Total asset growth has been 15.3% per year. (More recently it has been 39.4%.)

Annual E.P.S. growth has been -0.8% per year. (More recently it has been -21.0%.)

Equity growth has been 6.7% per year. (More recently it has been 21.7%.)
No consensus growth rate forecast is available for Mastech Digital.
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Relative to the Mastech Digital Inc Peer Group, Mastech Digital’s historical growth measures are generally third quartile. Total asset growth (15.3%) has been upper quartile. Revenue growth (3.2%) has been below median. E.P.S. growth (-0.8%) has been substantially below median. Equity growth (6.7%) has been below median.

Consensus growth forecast is unavailable.
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PRICE HISTORY

Over the full time period, Mastech Digital’s stock price performance has been volatile and slightly below market. Between September, 2008 and March, 2019, Mastech Digital’s stock price rose +104%; relative to the market, this was a -17% loss. Significant price moves during the period: 1) January, 2018 – August, 2018: +112%; 2) April, 2014 – June, 2016: -61%; 3) May, 2013 – April, 2014: +202%; 4) September, 2011 – March, 2012: +119%; 5) February, 2009 – October, 2009: +193%; and 6) September, 2008 – October, 2008: -80%.
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TOTAL INVESTMENT RETURNS

Current annual total return performance of 56.7% is upper quartile relative to the S&P 500 Composite.
In addition to being upper quartile relative to S&P 500 Composite, current annual total return performance through January, 2019 of 56.7% is at the upper quartile relative to Mastech Digital Inc Peer Group.

Current 5-year total return performance of 2.2% is lower quartile relative to the S&P 500 Composite.
Through January, 2019, with lower quartile current 5-year total return of 2.2% relative to S&P 500 Composite, Mastech Digital’s total return performance is at the lower quartile relative to Mastech Digital Inc Peer Group.
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VALUATION BENCHMARKS

Relative to S&P 500 Composite, MHH’s overall valuation is quite low. The highest factor, the ratio of enterprise value/assets, is below median. Ratio of enterprise value/earnings before interest and taxes is lower quartile. Price/equity ratio is near the lower quartile. Price/earnings ratio is lower quartile. The lowest factor, the ratio of enterprise value/revenue, is lower quartile.
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Mastech Digital has a large value gap compared to the median. For MHH to achieve median valuation, its current ratio of enterprise value/revenue would have to fall from the current level of 0.62X to 0.55X. If MHH’s ratio of enterprise value/revenue were to fall to 0.55X, its stock price would be lower by $-1 to $5.
For MHH to achieve upper quartile valuation relative to the Mastech Digital Inc Peer Group, its current ratio of enterprise value/revenue would have to rise from the current level of 0.62X to 0.85X. If MHH’s ratio of enterprise value/revenue were to rise to 0.85X, its stock price would increase by $3 from the current level of $6.20.

VALUE TARGETS

MHH is expected to continue to be a modest Value Eraser reflecting capital returns that are forecasted to be below the cost of capital.
Mastech Digital’s current Price Target of $2 represents a -62% change from the current price of $6.20.
Mastech Digital’s very low appreciation potential results in an appreciation score of 8 (92% of the universe has greater appreciation potential.)
Reinforcing this low Appreciation Score of 8, the low Power Rating of 23 contributes to an Value Trend Rating of F.
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Mastech Digital’s current Price Target is $2 (+9% from the 2017 Target of $2 but -62% from the 03/21/19 price of $6.20). This slight rise in the Target is the result of a +9% increase in the equity base and a +0% change in the price/equity multiple. None of the Value Drivers has an impact on the price/equity multiple. The forecasted increase in growth has no impact on the multiple. The forecasted increase in cost of equity also has no impact and the increase in return on equity didn’t either.
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PTR’s return on equity forecast is 5.9% — in line with our recent forecasts. Forecasted return on equity exhibited a modest, erratic increase between 2009 and 2017. The current forecast is significantly below the 2013 peak of 30%.

PTR’s growth forecast is 23.0% — slightly above our recent forecasts. Forecasted growth enjoyed a dramatic, erratic increase between 2009 and 2017. The current forecast is significantly above the 2014 low of 3%.

PTR’s cost of equity forecast is 7.7% — in line with recent levels. Forecasted cost of equity suffered a dramatic, erratic increase between 2009 and 2017. The current forecast is above the 2010 low of 4.4%.
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At Mastech Digital’s current price of $6.20, investors are placing a positive value of $24 on its future investments. This view is not supported by the company’s most recent performance that reflected a growth rate of 20.0% per year, and a return on equity of 5.5% versus a cost of equity of 7.6%.
PTR’s 2019 Price Target of $2 is based on these forecasts and reflects an estimated value of existing assets of $-64 and a value of future investments of $66.

About John Lafferty 47332 Articles
During his career, John has developed valuation and stock rating methodologies, managed institutional portfolios and mutual funds, and provided equity research to institutional investors on thousands of companies. He has been Director of Research at PTR since its inception in 2004.

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