Prabhudas Lilladher remains cautious on HCL Tech
Prabhudas Lilladher has come out with its report on Information Technology (IT) sector update. The research firm see increased competition in IS outsourcing to exert pressure to outdo their rivals in terms of costs and deliverables.
March 21, 2013 / 18:07 IST
Prabhudas Lilladher has come out with its report on Information Technology (IT) sector update. The research firm see increased competition in IS outsourcing to exert pressure to outdo their rivals in terms of costs and deliverables and see risk for the companies increasing due to possible aggressive bidding for Infrastructure Management Services (IMS) contracts.
"Infrastructure Services Outsourcing (IS, IMS, RIM, TIS) has been the key revenue growth driver for Indian IT. All the managements have highlighted that infrastructure-led deals are expected to drive the growth opportunity. We see increased competition in IS outsourcing to exert pressure to outdo their rivals in terms of costs and deliverables. We see risk for the companies increasing due to possible aggressive bidding for Infrastructure Management Services (IMS) contracts. Among peers, HCL Tech has the highest contribution from IMS in their portfolio as well as the highest percentage of incremental revenue contribution from the service line. We cite caution on the increasing risk of the services portfolio for the company.Competitiveness of Global peers at an all-time low: Traditional global majors like HP, CSC, Dell and Xerox have been the traditional leaders in IMS contracts. Low operating margins (high single digit to low teens) and weak cash-flows restrict their ability to offer realization cut on the renegotiated contracts. According to TPI, ~US$100bn deals are up for grabs, largely led by IS Outsourcing. Moreover, increased credibility of Indian IT majors would help them win business critical IS Outsourcing deals.Also Read - Indian IT: Long term growth outlook intact, says AngelIMS - key service for growth: IMS currently contributes ~16% revenue to Tier-1, with HCL Tech deriving ~27% of revenue from the services. IMS has grown at CQGR of 5.5% & 4.9% over the last four and eight quarters, respectively, for Tier- 1 Indian IT companies (8.2% & 6.6% for HCL Tech) compared to overall revenue growth of 2.3% and 3.1%, respectively, for the same period.Is the risk increasing with heightened activity in IS Outsourcing? The new vendors, who bid for the replacement/renewal market, are under pressure to outdo their rivals in terms of costs and deliverables. The aggressive bidding could possibly increase the risk of the overall service portfolio.Risks may not materialize immediately! Most of the Indian IT Services firm are ITIL certified to offer high quality infrastructure services to clients. We do not expect the heightened risk to materialize immediately, but higher contribution of IMS-led work could increase the portfolio risk.Valuation & Recommendation - Continue to prefer balance portfolio: "Faster, better, and cheaper" PICK TWO. Some contracts’ commitment may be trying to bundle all the three, which may put pressure on the profitability of the projects in the long run or may increase risk of the portfolio. Risk to profitability and revenue definitely warrants attention. We stay cautious on HCL Tech, due to higher contribution from Infrastructure-led work. However, HCL Tech has perfected the art of delivering one of the best IMS services among peers," says Prabhudas Lilladher research report.Disclaimer: The views and investment tips expressed by investment experts/broking houses/rating agencies on moneycontrol.com are their own, and not that of the website or its management. Moneycontrol.com advises users to check with certified experts before taking any investment decisions.To read the full report click on the attachment 
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