Sunday, April 24, 2011

Investment Focus: HCL Technologies - Buy

Investors with a two-year horizon can buy the shares of HCL Technologies in the light of the improvement in its operating metrics, continuous reduction in forex losses, and the revival in its BPO business.

At Rs 518, the stock trades at 17 times its likely per share earnings for FY12. This is at a discount to its peers. Investors may consider accumulating it on declines.

Forex losses that ate into profits earlier have steadily been on the decline with the recent quarter witnessing just over Rs 11-crore erosion. Even for the whole year, losses are likely to be only a fifth of earlier levels. In 2008-09 and 2009-10, HCL had to contend with forex losses of Rs 529 crore and Rs 475 crore, due to hedges taken earlier.

HCL has been ahead of its peers in terms of revenue growth and over the last three-four quarters has been optimising costs. It is set to grow its profits too at a healthy clip. This is to be done through levers such as utilisation, increasing offshore component and focusing on higher yielding fixed-price contracts. While volume (man-months billed) growth has been robust at over 5 per cent for the past several quarters, realisations too have improved recently.

The company's service-mix too is changing in favour of higher-billed services. Infrastructure services (23.4 per cent of revenues), where the company is well ahead of peers, and thanks to the Axon acquisition, enterprise application services (21.4 percent) have increased contribution, which is likely to show up on the margin front as well.

HCL has also managed to cross-sell or up-sell to Axon's clients, its other bouquet of services, which additionally allows the company to optimise selling expenses.

In terms of segments of operations too, HCL has increased its focus on the BFSI segment. From accounting for less than a quarter of revenues, it now contributes 26.2 percent to the overall pie. It has also grown its manufacturing vertical at a healthy pace, though telecom continues to be anaemic (as with most IT peers). Client addition continues to be robust with 39 clients added over the last one year in the $10-50 million category. With attrition levels at 17 per cent, wage hikes may have to be ahead of peers such as TCS that have announced 12-14 per cent increase. This could have some impact on margins.


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