Accumulate HCL Technologies; target Rs 566: AB Money

Aditya Birla Money is bullish on HCL Technologies and has recommended accumulate rating on the stock with a target price of Rs 566 in its April 23, 2012 research report.

"HCL Tech posted a decent topline growth of 2.5% to $1048 mn from $1022 mn on sequential basis and an increase of 14.6% from $914 mn on YoY basis. It posted a volume growth of 2.9% (software services) and rupee term de-growth of 0.6%. On service basis, the strong growth in Enterprise Application Services (EAS 4.6%) for the second consecutive quarter, back on track Infrastructure management services (IMS 5.2%) after 3% blip in Q2 and surprisingly back to black BPO (7%) led the growth (in $ terms). Telecom (10.2%) and other emerging verticals (Life Science 8.5%, Energy & Utilities 9% and Media 7.4%) led the show, whereas BFSI remained soft. On geographical mix, Europe & APAC expanded by 5.6% & 11.8% respectively, whereas US remained soft -1.1%. (in $ terms, QoQ)

EBITDA  marginally declined by 1.1%% to Rs9.6 bn from Rs9.7 bn and margin remained at 18.4% (QoQ). On YoY basis, EBITDA improved by 33.9%.

PAT increased by 5.2% to `6.03 bn  from Rs5.73  bn (QoQ) and 28.7% growth on YoY basis.

Highest ever deal win worth $1.5 bn in Q3 ($2.5 bn TCV deals in last 2 quarters): HCL signed Total Contract Value (TCV) worth more than $1.5 bn across 14 clients, its highest ever in a quarter, taking the TCV deals worth $2.5 bn in the last 2 quarters. Out of $2.5 bn worth of TCV, HCL has signed 40% of deals in Financial services followed by Manufacturing (23%). More importantly 88% of $2.5bn worth deal wins came from Fortune500/Global 2000 companies. This has helped HCL to improve the quality of customers and now HCL Tech has top 10 clients from Fortune 500 companies. In geographies, Europe led  the pie with 54% share, followed by US with 44% share.

Client addition: HCL’s well-proven strategy of firstly, gaining market share got reflected in a yet another quarter of strong client addition (52 clients added),  helped active client relationship to remain at 516 clients and client mining - increase in number of clients by 2, 2, 2, 1 and 1 in $20 mn, $30 mn, $40 mn, $50 mn & $100mn respectively. Top 5 client grew by 4.5%. Interestingly, the company is likely to give more emphasis on execution part for the next 6 months, before getting aggressive in 2HCY12.

Outlook & Valuations: Broadly, the results were slightly above estimates. During this quarter, HCL tech witnessed series of milestones such as a) highest ever new deals signed worth $1.5 bn, b) achieved $4 bn revenue mark in LTM basis, c) ITO touched $1 bn run rate and d) BPO back to black. We believe the company’s proven strategy of entering into clients accounts with aggressive pricing and mining more after that would be crucial to win new logos in the unfavorable environment. We revise our earnings modestly upwards by 1.5% and 0.9% for FY13E and FY14E.

On the back of the attractive valuation during Q212, industry’s leading revenue growth, one of the few potential candidate to win upcoming large restructuring deals, stable margin, improving cash generation and absolute underperformance made the stock rally ~20% post Q2 results. Currently, HCL trades at a consolidated P/E of 12.6x and 11.2x on its FY13E and FY14E earnings of `39.9 and 45.1 respectively. We continue to remain positive on HCL Tech based upon industry leading growth, strong revenue visibility, stable operating margin (which was key concern for the investors) and comfortable free cash flow generation. We continued to value HCL at 13x on FY14E (implying a valuation of 14.2x on FY13E earnings).  We reiterate our Accumulate rating with revised target price of Rs. 566.4," says Aditya Birla Money research report.

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