Rating Update: Stock Rating C-Neutral (6/11/19)-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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With future capital returns forecasted to exceed the cost of capital, MHH is expected to continue to be a Value Builder.

Mastech Digital has a current Value Trend Rating of C (Neutral).
The Value Trend Rating reflects very contradictory signals from PTR’s two proprietary measures of a stock’s attractiveness. Mastech Digital has a good Appreciation Score of 85 but a poor Power Rating of 18, with the Neutral Value Trend Rating the result.

Mastech Digital’s stock is selling well below targeted value. The current stock price of $5.00 compares to targeted value 12 months forward of $13.
Mastech Digital’s very high appreciation potential results in an appreciation score of 85 (only 15% of the universe has greater appreciation potential.)
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Mastech Digital has a Power Rating of 18. (This poor Power Rating indicates that MHH only has a better chance of achieving attractive investment performance over the near to intermediate term than 18% of companies in the universe.)
Factors contributing to this poor Power Rating include: recent price action has been unfavorable; and is in a slightly weakened position current.

INVESTMENT PROFILE

MHH’s financial strength is high. Financial strength rating is 89.
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Relative to the S&P 500 Composite, Mastech Digital Inc has neutral Growth/Value characteristics; its appeal is likely to be to Capital Gain-oriented investors; the perception is that MHH is normal risk. High expected growth is a positive for MHH. High earnings variability is a relative weakness for MHH. MHH’s valuation is low: low dividend yield, low P/E ratio, and low price/book ratio. MHH has unusually low market capitalization.

CURRENT SIGNALS

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

Mastech Digital’s current technical position is very weak. The stock price is in a 3.5 month down move. The stock has declined 27.3% from its prior high. The stock price is below its 200 day moving average which is in a downtrend.

ALERTS

The stock is currently rated C.
Mastech Digital Inc (NYSEAMERICAN: MHH) stock suffered a major decline of -10.2% on 6/11/19. The shares closed at $0.08. Trading volume in this decline was normal. The stock has been extremely weak relative to the market over the last nine months and has declined -2.0% during the last week.

CASH FLOW

In 2018, Mastech Digital experienced a very significant reduction in cash of -$1.18 million (-48%). Sources of cash were much lower than uses. Cash generated from 2018 EBITDA totalled +$13.35 million. Non-operating sources contributed +$1.42 million (+11% of EBITDA). Cash taxes consumed -$2.72 million (-20% of EBITDA). Re-investment in the business amounted to -$12.04 million (-90% of EBITDA). On a net basis, debt investors withdrew -$1.62 million (-12% of EBITDA) while equity investors contributed +$0.43 million (+3% of EBITDA).
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Mastech Digital’s Non-operating Income, %EBITDA has experienced a 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 third quartile and top quartile. Currently, Mastech Digital is upper quartile at +11% of EBITDA (+$1.42 million).

Mastech Digital’s Cash Taxes, %EBITDA has exhibited a minor 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 lower quartile and third quartile. Currently, Mastech Digital is at the lower quartile at -20% of EBITDA (-$2.72 million).

Mastech Digital’s Business Re-investment, %EBITDA has suffered a volatile 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 substantially below median at -90% of EBITDA (-$12.04 million).

Mastech Digital’s Debt Investors, %EBITDA has experienced a volatile 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 second quartile and top quartile. Currently, Mastech Digital is below median at -12% of EBITDA (-$1.62 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. In most years, Mastech Digital was in the top quartile and second quartile. Currently, Mastech Digital is substantially above median at +3% of EBITDA (+$0.43 million).

Mastech Digital’s Change in Cash, %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. In most years, Mastech Digital was in the top quartile and lower quartile. Currently, Mastech Digital is substantially below median at -9% of EBITDA (-$1.18 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 +1%.

PROFITABILITY

Mastech Digital’s return on equity has improved significantly since 2009 accelerating very sharply after the 2017 level.
Mastech Digital’s very strong negative trend in pretax operating return significantly offset by a very strong positive trend in non-operating factors is a significant analytical factor.
The productivity of Mastech Digital’s assets declined over the full period 2009-2019: asset turnover has suffered a very strong overall downtrend even as it experienced a very sharp recovery after the 2017 low.
Partially offsetting this trend, however, pretax margin enjoyed a volatile overall uptrend that accelerated very sharply from the 2017 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 (17.7%) for the four quarters ended March, 2019.
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Operating performance (pretax return on assets) is upper quartile (8.9%) reflecting asset turnover that is at the upper quartile (1.81X) and slightly above median pretax margin (4.9%).
Tax “keep” rate (income tax management) is at the lower quartile (71.3%) resulting in after tax return on assets that is at the upper quartile.
Financial leverage (leverage) is at the upper quartile (2.79X).

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 and balance sheet growth have diverged. Revenue growth has fallen short of asset growth; earnings growth has paralleled equity growth.

Annual revenue growth has been 4.5% per year.

Total asset growth has been 17.3% per year. (More recently it has been 32.6%.)

Annual E.P.S. growth has been 12.8% per year.

Equity growth has been 8.5% per year. (More recently it has been 19.9%.)
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 erratic. Total asset growth (17.3%) has been upper quartile. E.P.S. growth (12.8%) has been at the upper quartile. Equity growth (8.5%) has been at median. Revenue growth (4.5%) has been at 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 below market. Between September, 2008 and June, 2019, Mastech Digital’s stock price rose +64%; relative to the market, this was a -34% 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 -34.2% is lower quartile relative to the S&P 500 Composite.
In addition to being lower quartile relative to S&P 500 Composite, current annual total return performance through May, 2019 of -34.2% is substantially below median relative to Mastech Digital Inc Peer Group.

Current 5-year total return performance of -9.4% is lower quartile relative to the S&P 500 Composite.
Through May, 2019, with lower quartile current 5-year total return of -9.4% relative to S&P 500 Composite, Mastech Digital’s total return performance is 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. Four of five factors are upper quartile. The highest factor is the ratio of enterprise value/assets, followed by the ratio of enterprise value/earnings before interest and taxes, then by the price/equity ratio, then by the price/earnings ratio. The lowest factor, ratio of enterprise value/revenue, is lower quartile.
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Mastech Digital has no 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 0.54X to 0.51X. If MHH’s ratio of enterprise value/revenue were to fall to 0.51X, its stock price would be lower by $-1 to $4.
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 0.54X to 0.93X. If MHH’s ratio of enterprise value/revenue were to rise to 0.93X, its stock price would increase by $6 from the current level of $5.00.

VALUE TARGETS

With future capital returns forecasted to exceed the cost of capital, MHH is expected to continue to be a Value Builder.
Mastech Digital’s current Price Target of $13 represents a +154% change from the current price of $5.00.
This very high appreciation potential results in an appreciation score of 85 (only 15% of the universe has greater appreciation potential.)
Notwithstanding this high Appreciation Score of 85, the low Power Rating of 18 results in an Value Trend Rating of C.
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Mastech Digital’s current Price Target is $13 (-17% from the 2018 Target of $15 but +154% from the 06/11/19 price of $5.00). This slight fall in the Target is the result of a +38% increase in the equity base and a -39% decrease in the price/equity multiple. The forecasted decline in return on equity has a very large negative impact on the price/equity multiple and the forecasted increase in cost of equity has a large negative impact as well. Partially offsetting these Drivers, the forecasted increase in growth has a large positive impact.
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PTR’s return on equity forecast is 12.8% — slightly below our recent forecasts. Forecasted return on equity enjoyed a dramatic, erratic increase between 2010 and 2018. The current forecast is significantly below the 2013 peak of 30%.

PTR’s growth forecast is 24.0% — slightly above our recent forecasts. Forecasted growth enjoyed a dramatic, erratic increase between 2010 and 2018. The current forecast is significantly above the 2014 low of 3%.

PTR’s cost of equity forecast is 9.7% — in line with recent levels. Forecasted cost of equity suffered a dramatic, erratic increase between 2010 and 2018. The current forecast is well above the 2010 low of 4.4%.
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At Mastech Digital’s current price of $5.00, investors are placing a negative value of $-1 on its future investments. This view is not supported by the company’s most recent performance that reflected a growth rate of 18.0% per year, and a return on equity of 16.5% versus a cost of equity of 9.1%.
PTR’s 2020 Price Target of $13 is based on these forecasts and reflects an estimated value of existing assets of $5 and a value of future investments of $7.

About John Lafferty 37832 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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