HCL Tech: Strong revenue visibility

Robust volumes, margins and strong deal wins enhance revenue growth outlook, boost sentiment

Investor sentiment swung positive for HCL Technologies after it reported strong deal wins during the December 2011 quarter totalling a $1 billion. With an estimated $2 billion in new deals signed this year, the company has strong visibility for 20 to 30 per cent revenue growth for FY13, estimates Pankaj Kapoor of Standard Chartered Research. This was in contrast to the relatively disappointing guidance from Infosys last week and more muted tone in earlier quarters from HCL Tech itself, say analysts.

Operationally, strong volume growth and better than expected margin performance in the December quarter also boosted sentiment paving the way for upgrades and possible rerating of the stock, which has remained flat and underperformed its larger peers, TCS and Infosys since September 30, 2011.

Reported revenue growth at 2 per cent sequentially (over September quarter) to Rs 5,245 crore, was along expectations though lower than the 3.7 per cent constant currency revenue growth impacted by adverse cross currency moves. The company was able to garner strong business from client in US and Europe, reflecting in the 6-7 per cent revenue growth in these regions.

The rupee depreciation, however, boosted gross margins by 260 basis points, helping it gain a net 150 basis points to 33 per cent. The gains would have been higher had the company not channelled part of it towards employee bonus payouts and higher selling and general expenses. HCL, thus, reported a good 10.5 per cent sequential growth (49 per cent year-on-year) in profit after tax to Rs 553 crore.

More importantly, total volume growth was strong at 4.9 per cent on a sequential basis in its IT services. Though pricing, at about $67.8 per hour for onsite effort and $18.7 per hour for offshore, was about 1.3 per cent lower compared to the September quarter, HCL’s CFO Anil Chanana says, “adjusting for cross currency moves, pricing was stable”.

The slowdown in India though has curbed HCL’s growth. Infrastructure management services revenues fell by 3 per cent because of softness in the India business where some public sector deals became unviable due to the rupee depreciation according to CEO Vineet Nayyar. This, however, was more than offset by Enterprise Application revenues which boosted software services revenues by 5.3 per cent sequentially. A major deal win saw the healthcare vertical revenues rebound strongly, up 15 per cent sequentially even as Banking, Financial Services & Insurance (BFSI), manufacturing and retail continued to show healthy growth ranging between 5-8 per cent.

HCL added two $100 million clients which takes it closer to its top peer Wipro, which added just two such clients, taking its tally to five. Besides, HCL also added 10 clients contributing more than $10 million this quarter. The management suggests that while the IT budgets are flat to marginally lower, quoting Gartner Research, global vendor churn and consolidation in Europe still offers significant growth opportunity. Nearly a third of the estimated $40 billion market could be up for grabs but management acknowledges that the discretionary spending environment is tough and could vary from quarter to quarter.

The stock, up 4.7 per cent to Rs 425.15, trades at 11.5 times FY13 consensus EPS estimates against 15-18 times for the top three.