Buy HCL Tech; target of Rs 840: Nirmal Bang

“RDA, a key client of HCLTech has filed for Chapter 11 bankruptcy with the US Bankruptcy Court in the southern district of New York. RDA, owner of the popular magazine, Reader’s Digest, is reeling under a high debt burden and will restructure it to finally emerge with a debt of around US$100mn, around US$465mn lower. It should be noted that this is the second time since August 2009 that RDA has filed for bankruptcy. RDA’s international operations are not part of the filing.”

“RDA had signed a seven-year, US$350mn deal with HCLT in March 2009, encompassing application development and infrastructure management services spanning 45 countries across North America, Latin America and Asia. Thus, annualised deal revenue amounts to US$50mn.  In our view, an important event to watch out for is RDA’s emergence from bankruptcy. In our view, a worstcase scenario would be RDA shutting down, in which case HCLT would lose the contract and write down receivables to the tune of US$4.3mn. There could also be uncertainty regarding RDA’s IT strategy after emerging out of bankruptcy, in which case HCLT’s revenue from RDA could also decline.”

In a worst case scenario of HCLT losing the RDA contract, we expect revenue impact of 0.9%, EBITDA margin impact of 50bps and EPS impact of 2.5% in FY14E. Currently, in the wake of stronger-than-peer revenue growth, healthy EPS CAGR of 28.8% over FY12-FY14E and reasonable valuation at 12.2 FY14E EPS, we have retained our buy rating on HCLT with a target price of Rs840,” says Nirmal Bang research report.

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