HCL Tech: a firm whose business fundamentals are still strong

The HCL Technologies (HCL) stock has been rather choppy of late, correcting by about 12 per cent over the last three months.

This decline is partly due to the company’s announcement that its revenue would be impacted to the tune of 200 basis points in the December quarter. Given that this projection was influenced by expectations on currency movements and not business fundamentals, heightened concerns on the company’s prospects may not be warranted.

Seasonally, the December quarter is weak for most IT firms. In any case, the firm is expected to bounce back in subsequent quarters and recoup the ground lost in the first half of FY15 (HCL follows a July-June calendar).

Infosys’ recent quarterly numbers, too, inspire confidence on the demand environment and client spends of IT companies.

Investors with a two-year horizon can buy HCL Tech shares at these levels.

At ₹1,545, the stock trades at about 15 times its likely per-share earnings for fiscal year 2015, which is lower than the valuation multiple of its peers with lower growth, such as Infosys and Wipro (around 17-18 times), and much lower than TCS (20 times). The company’s revenue growth rates have generally been ahead of the industry average (12-13 per cent) in dollar terms over the last two-three years.

Healthy client additions, growth in key verticals such as financial services and manufacturing, sustained leadership in its infrastructure business, and increased focus on fixed-price contracts to augment margins are the key positives for HCL Tech.

In fiscal year 2014, HCL Tech’s revenue grew 27.8 per cent to ₹32,917 crore, while net profit rose 58.3 per cent to ₹6,359 crore. The company has now become a top-tier firm with its consistent performance.

Over the last year, HCL added one client in the $100-million category and four in the $50-million bucket. The company has increased its focus on the more lucrative deal range of $10-40 million, where it has added 29 customers.

In recent times, large-sized contracts have been won — $500 million from Pepsi and another $250 million deal from Alcatel-Lucent. Earlier, HCL Tech bagged a contract worth $400 million from Norway’s DNB Bank.

Financial services and manufacturing, which account for over 60 per cent of its revenue, have been the growth drivers, as also public services and retail.

HCL Tech’s IT infrastructure services continue to expand. This business contributes nearly a third of its revenue and is an area where it is well ahead of its peers.

Geography-wise, while contributions from North America have been slowing, they have been more than made up for by the traction in Europe. HCL derives 32.3 per cent of its revenue from Europe, a proportion much higher than its competition.

The slowdown in the Euro Zone has not affected IT spends or outsourcing. In recent quarters, revenue from Europe has grown 20-24 per cent year on year.

At 82.7 per cent, utilisation, a key margin lever, is among the highest in the industry and close to the levels achieved by TCS and Infosys.

Attrition, though declining, is still at 16.1 per cent.