2QFY2017 Result Update | IT

October 25, 2016

HCL Technologies

BUY

CMP

`811

Performance Highlights

Target Price

`1,000

(` cr) - Consl.

2QFY17 1QFY17

% chg (qoq) 2QFY16

% chg (yoy)

Investment Period

12 Months

Net revenue

11,519

11,336

1.6

10,097

14.1

EBIT

2,318

2,333

(0.6)

1,957

18.4

Stock Info

Adj. EBITDA margin (%)

20.1

20.6

(46)bps

19.4

74bps

Sector

PAT

2,014

2,047

(1.6)

1,726

16.7

Market Cap (` cr)

114,383

Source: Company, Angel Research

Net Debt (` cr)

(101,878)

HCL Technologies (HCL Tech) announced its results and they are more or less in

Beta

0.6

line with expectations. The company posted a 1.9% sequential growth in USD

52 Week High / Low

890/707

revenues to US$1,722mn (V/s US$1,726mn expected and V/s US$1,691mn in

Avg. Daily Volume

195,755

1QFY2017). On Constant Currency (CC) basis, the company posted a revenue

Face Value (`)

growth of 2.8% qoq. The EBIT margins came in at 20.1% (V/s 20.0% expected), a

BSE Sensex

28,179

dip of ~46bp qoq. Consequently, the PAT came in at `2,014cr (V/s `1,979cr), a

Nifty

8,709

dip of 1.6% qoq. For FY2017, the company gave a revenue growth guidance of

Reuters Code

HCLT.BO

12.0-14.0% in CC terms, which translates into an 11.2% to 13.2% growth in US$

Bloomberg Code

HCLT@IN

terms. The operating margin (EBIT) for FY’2017 is expected to be in the range of

19.5% to 20.5%. We maintain our Buy rating on the stock.

Quarterly highlights: For 2QFY2017, the company posted a 1.9% sequential

Shareholding Pattern (%)

growth in USD revenues to US$1,722mn (V/s US$1,726mn expected and V/s

Promoters

60.4

US$1,691mn in 1QFY2017). In terms of verticals, the CC qoq growth was driven

MF / Banks / Indian Fls

10.1

by Life Sciences & Healthcare at 8.2%, Retail & CPG at 7.7% and Financial

FII / NRIs / OCBs

26.2

Services at 5.6%. USA posted a CC qoq growth of 5.5%, ROW posted a CC qoq

Indian Public / Others

3.3

growth of 2.0%, and Europe posted a CC qoq de-growth of 2.1%. On the

employee front, the attrition in IT services (LTM) was 18.6%, while the blended

utilization rate came in at 85.3% (V/s 85.8% in 1QFY2017). The EBIT margins

Abs.(%)

3m 1yr

3yr

came in at 20.1% (V/s 20.0% expected), a dip of ~46bp qoq. Consequently, the

Sensex

1.4

2.6

36.0

PAT came in at `2,014cr (V/s `1,979cr), a dip of 1.6% qoq.

HCL Tech

11.2

(5.1)

54.5

Outlook and valuation: We expect HCL Tech to post a USD and INR revenue

CAGR of 16.0% and 18.0%, respectively, over FY2016-18E. On back of strong

3-year price chart

order book and given the attractive valuations, we recommend a Buy on the stock.

1,200.0

1,000.0

Key financials (Consolidated, US GAAP)

800.0

Y/E March (` cr)

FY2015

FY2016

FY2017E

FY2018E

600.0

Net sales

37,061

30,781

49,242

57,168

400.0

% chg

12.6

(16.9)

60.0

16.1

200.0

Net profit

7,253

5,643

7,862

9,037

0.0

% chg

17.2

(22.2)

39.3

14.9

EBITDA margin (%)

23.5

21.5

20.5

EPS (`)

51.4

40.0

55.7

64.1

Source: Company, Angel Research

P/E (x)

16.2

20.8

14.9

13.0

P/BV (x)

4.7

4.2

3.0

2.3

RoE (%)

29.3

20.1

20.3

17.9

RoCE (%)

23.1

15.6

17.2

15.9

Sarabjit kour Nangra

EV/Sales (x)

2.9

3.5

1.9

1.4

+91 22 3935 7800 Ext: 6806

EV/EBITDA (x)

12.2

16.1

9.2

7.0

[email protected]

Source: Company, Angel Research; Note: CMP as of October 24, 2016

Please refer to important disclosures at the end of this report

HCL Technologies | 2QFY2017 Result Update

Exhibit 1: 2QFY2017 performance (Consolidated, US GAAP)

Y/E March (` cr)

2QFY17

1QFY17

% chg (qoq)

2QFY16

% chg (yoy)

1HFY17

1HFY16

% chg(yoy)

Net revenue

11,519

11,336

1.6

10,097

14.1

22,855

20,438

11.8

Cost of revenue

7,653

7,440

2.9

6,742

13.5

15,093

13,391

12.7

Gross profit

3,866

3,896

(0.8)

3,355

15.2

7,762

7,047

10.1

SG&A expense

1,355

1,375

(1.5)

1,263

7.3

2,730

2,708

0.8

EBITDA

2,511

2,521

(0.4)

2,092

20.0

5,032

4,339

16.0

Dep. and amortization

193

188

2.7

135

43.0

381

288

32.3

EBIT

2,318

2,333

(0.6)

1,957

18.4

4,651

4,051

14.8

Other income

235

253

(7.1)

241

(2.5)

488

596

PBT

2,553

2,586

(1.3)

2,198

16.2

5,139

4,647

10.6

Income tax

538

543

(0.9)

472

14.0

1,081

1,002

7.9

PAT

2,014

2,047

(1.6)

1,726

16.7

4,058

3,645

11.3

Forex gain/(loss)

Adjusted PAT

2,014

2,047

(1.6)

1,726

16.7

4,058

3,645

11.3

EPS

14.3

14.5

(1.6)

12.2

16.7

28.8

25.8

11.3

Gross margin (%)

33.6

34.4

(81)bp

33.2

33bps

34.0

36.8

(279)bp

EBITDA margin (%)

21.8

22.2

(44)bp

20.7

108bps

22.0

24.7

(267)bp

EBIT margin (%)

20.1

20.6

(46)bp

19.4

74bps

20.4

23.3

(293)bp

PAT margin (%)

17.5

18.1

(57)bp

17.1

39bps

17.8

20.5

(270)bp

Source: Company, Angel Research, Note-FY2016 is 12month results for meaningful comparison, From FY2017, company has March ending company

Exhibit 2: 2QFY2017 - Actual Vs Angel estimates

(` cr)

Actual

Estimate

Variation (%)

Net revenue

11,519

11,548

(0.3)

EBIDTA margin (%)

21.8

21.6

1bp

PAT

2,014

1,979

1.8

Source: Company, Angel Research

Sales just in line with expectation

For 2QFY2017, the company posted a 1.9% sequential growth in USD revenues to

US$1,722mn (V/s US$1,726mn expected and V/s US$1,691mn in 1QFY2017). In

INR terms, revenues grew by 1.6% qoq to `11,519cr (V/s `11,548cr expected).

On CC basis, the company posted a revenue growth of 2.8% qoq.

In terms of verticals, the CC qoq growth was driven by Life Sciences & Healthcare

at 8.2%, Retail & CPG at 7.7%, Financial Services at 5.6%, Public Services at -

3.7%, and Telecommunications, Media, Publishing & Entertainment at 6.1%.

USA posted a CC qoq growth of 5.5%, ROW posted a CC qoq growth of 2.0%

and Europe posted a CC qoq de-growth of 2.1%.

The company signed 12 transformational deals this quarter. These deals were led

by the geographies of America and Europe, spanning across service lines and

verticals of manufacturing, life sciences & healthcare, consumer services, financial

services, and energy & utilities.

October 25, 2016

HCL Technologies | 2QFY2017 Result Update

Exhibit 3: Revenue growth trend

1,700

6.6

1,600

1,500

1,400

1,300

1,200

1.9

1.4

1.3

1,100

0.51,545

1,566

1,587

1,691

1,722

1,000

1QFY2016

2QFY2016

3QFY16

1QFY2017

2QFY2017

Revenue (USD)

qoq growth (%)

Source: Company, Angel Research

In terms of services, the Engineering & R&D services (which constituted 17.8% of

sales) posted a growth of 2.3% qoq (CC), while Application services (accounting

for 37.8% of sales) grew by 1.4% qoq (CC). Infrastructure services, another

important segment of the company, which contributes by around 40.3% to overall

sales, posted a growth of 4.4% qoq (CC). Business services, which constituted 4.1%

of sales, grew by 2.1% qoq (CC).

Exhibit 4: Revenue growth trend (Service wise)

% of revenue

% growth CC (qoq)

% growth (yoy)

Application services

37.8

1.4

4.7

Infrastructure services

40.3

4.4

21.4

Business services

4.1

2.1

2.5

Engineering and R&D services

17.8

2.3

5.7

Source: Company, Angel Research

Industry segment wise, the company’s Financial Services vertical (contributed

24.1% to revenue) posted a 5.6% qoq growth in CC terms. The Manufacturing

vertical (contributed 32.2% to revenue) posted a 0.9% qoq de-growth in CC terms.

Public services, Life sciences & Healthcare, and Telecommunication, Media,

Publishing & Entertainment reported a qoq growth of (3.7)%, 8.2%, and 6.1%, all

in CC terms, respectively. Retail & CPG (contributed 10.4% of the revenue), on the

other hand, reported a growth of 7.7% qoq CC terms, during the quarter.

October 25, 2016

HCL Technologies | 2QFY2017 Result Update

Exhibit 5: Revenue growth trend (Industry wise)

% of revenue

% growth (CC qoq)

% growth (yoy)

Financial services

24.1

5.6

5.3

Manufacturing

32.2

(0.9)

7.1

Life sciences & Healthcare

12.6

8.2

15.9

Public Services

10.9

(3.7)

25.0

Retail & CPG

10.4

7.7

21.6

Telecom, MPE

9.4

6.1

14.9

Source: Company, Angel Research

Among geographies, in CC terms, America grew by 5.5% qoq, RoW grew by

2.0% qoq, while Europe de-grew by 2.1% qoq, during the period.

Exhibit 6: Revenue growth trend (Geography wise in CC terms)

16.9

5.6

3.7

5.5

2.0

5.5

(2.4)

2.0

(2.4)

0.7

(3)

(2.1)

1.3

(6)

(3.4)

(9)

(8.4)

(12)

1QFY2016

2QFY2016

3QFY16

1QFY2017

2QFY2017

Europe

Rest of the world

Source: Company, Angel Research

Hiring and utilization

During the quarter, the overall headcount of HCL Tech increased by 9,083 to

1,09,795 employees. The attrition rate in IT Services inched up to 18.6% (V/s

17.8% in 1QFY2017) and the blended utilization level of the company inched up

to 85.3% (V/s 85.8% in 1QFY2017).

Exhibit 7: Hiring trend

Particulars

1QFY16 2QFY16 3QFY16 1QFY17 2QFY17

Technical

96,541

94,652

95,649

98,225

99,897

Support

9,030

9,044

9,247

9,743

9,898

Total employee base

105,571

103,696

104,896

107,968

109,795

Gross addition

7,889

6,234

9,280

10,515

9,083

Net addition

(1559)

(1875)

1200

3,072

2,097

Attrition - IT services (LTM) - %

16.3

16.7

17.3

17.8

18.6

Source: Company, Angel Research

October 25, 2016

HCL Technologies | 2QFY2017 Result Update

Operating margin higher than expectation

On the operating front, the EBDITA margins came in at 21.8% (V/s 22.2% in

1QFY2017), a qoq dip of 44bp; while the EBIT margins came in at 20.1% (V/s

20.0% expected), a qoq dip of ~46bp. Margins beat our estimates on back of

better utilization & lower attrition.

Exhibit 8: Margin profile

34.4

34.6

34.9

34.4

33.6

22.2

21.5

21.8

20.9

20.8

20.0

20.6

20.1

19.6

1QFY16

2QFY16

3QFY16

1QFY17

2QFY17

Gross margin

EBITDA margin

EBIT margin

Source: Company, Angel Research

Client pyramid

The company signed 12 transformational deals this quarter. These deals were led

by the geographies of America and Europe, spanning across service lines and

verticals of manufacturing, life sciences & healthcare, consumer services, financial

services, and energy & utilities.

Exhibit 9: Client pyramid

Particulars

1QFY16

2QFY16

3QFY16

1QFY17

2QFY17

US$1mn-5mn

262

267

262

245

259

US$5mn-10mn

US$10mn-20mn

US$20mn-30mn

US$30mn-40mn

US$40mn-50mn

US$50mn-100mn

US$100mn plus

Source: Company, Angel Research

October 25, 2016

HCL Technologies | 2QFY2017 Result Update

Investment arguments

Robust outlook: The company’s engineering services has been seeing lumpy

growth over the last few quarters. However, on back of the deals on hand, the

company gave a revenue growth guidance of 12-14% in CC for FY2017. The

revenue guidance is based on FY2016 (April to March 2016) average exchange

rates. The above constant currency guidance translates to 11.2-13.2% in US$

terms based on June 30 2016 exchange rates. The operating margin (EBIT) for

FY’2017 is expected to be in the range of 19.5% to 20.5%.

We expect HCL Tech to post a USD and INR revenue CAGR of 16.3% and 18.0%,

respectively, over FY2016-18E (inclusive of the acquisition of Geometric Software

and Volvo deals).

Healthy pipeline: HCL Tech signed 12 transformational deals this quarter, across

service lines and industry verticals. The broad-based business wins were driven by

next-generation integrated offerings - Next-Gen ITO, BEYONDigital, and IoT

WoRKS, reflecting investments in Internet of Things, digital technologies, cloud,

automation and artificial intelligence.

Outlook and valuation

On the operating front, HCL Tech’s EBIT margin has been around 20.1% in

FY2016, a dip of 317bp over the previous financial year. With the acquisition of

Geometric Software and Volvo, we expect the EBIT margin to be under pressure.

We expect the EBIT and PAT to post a 10.0% and 7.6% CAGR, respectively, over

FY2016-18E. At the current market price, the stock is trading at 14.9x FY2017E

and 13.0x FY2018E EPS. We recommend a Buy, with a price target of `1,000.

Exhibit 10: One-year forward PE (x) chart

1,200

1,000

800

600

400

200

Price

18x

15x

12x

Source: Company, Angel Research

October 25, 2016

HCL Technologies | 2QFY2017 Result Update

Exhibit 11: Recommendation summary

Company

Reco

CMP Tgt Price Upside

FY2018E FY2018E

FY2016-18E

FY2018E

(`)

(%)

EBITDA (%)

P/E (x)

EPS CAGR (%)

EV/Sales (x)

RoE (%)

HCL Tech

Buy

811

1,000

23.4

20.5

12.6

9.6

1.8

17.9

Infosys

Buy

1,029

1,249

21.4

27.0

14.8

8.4

2.5

21.6

TCS

Accumulate

2,428

2,867

7.9

27.6

16.7

8.5

3.3

33.1

Tech Mahindra Buy

428

700

38.6

17.0

10.4

13.2

0.9

20.7

Wipro

Buy

484

590

22.0

18.1

12.1

5.3

1.7

19.3

Source: Company, Angel Research

Company Background

HCL Tech is India's fifth largest IT services company, with over

1,00,000

employees catering to more than 450 clients. The company's service offerings

include Enterprise Application Services (EAS), Custom Applications, Engineering

Research & Development (ERD), and Infrastructure Management Services (IMS). In

December 2008, HCL Tech acquired UK-based SAP consulting company - Axon,

which now contributes

~10% to its consolidated revenue. Recently, during

3QFY2016, the company acquired Geometric Software.

October 25, 2016

HCL Technologies | 2QFY2017 Result Update

Profit and loss statement (Consolidated, US GAAP)

Y/E Mar (` cr)

FY2014

FY2015

FY2016

FY2017E

FY2018E

Net sales

32,908

37,061

30,781

49,242

57,168

Cost of revenues

20,209

23,798

20,235

32,549

37,788

Gross profit

12,699

13,263

10,546

16,693

19,380

% of net sales

38.6

35.8

34.3

33.9

SG&A expenses

4,070

4,563

3,940

6,598

7,661

% of net sales

12.4

12.3

12.8

13.4

EBITDA

8,629

8,700

6,606

10,095

11,719

% of net sales

26.2

23.5

21.5

20.5

Depreciation and amort.

753

451

393

640

740

% of net sales

2.3

1.2

1.3

EBIT

7,876

8,249

6,213

9,454

10,979

% of net sales

23.9

22.3

20.2

19.2

Other income, net

492

912

756

Profit before tax

8,369

9,161

6,969

10,211

11,736

Provision for tax

1,629

1,908

1,364

2,349

2,699

% of PBT

19.5

20.8

19.6

23.0

PAT

6,739

7,253

5,605

7,862

9,037

Share from equity invest.

Forex loss

(549)

ESOP charges

103

Reported net profit

6,190

7,253

5,643

7,862

9,037

Fully diluted EPS (`)

43.9

51.4

40.0

55.7

64.1

Note: FY2016 Numbers are 9 month figures

October 25, 2016

HCL Technologies | 2QFY2017 Result Update

Balance sheet (Consolidated, US GAAP)

Y/E Mar (` cr)

FY2014 FY2015 FY2016 FY2017E FY2018E

Cash and cash equivalent

1,021

1,352

729

6,950

13,473

Account receivables, net

5,684

6,563

7,721

8,504

9,873

Unbilled receivables

2,024

2,923

3,002

2,955

3,430

Deposit with banks

8,370

9,670

10,587

15,587

20,587

Deposit (one year with HDFC ltd)

Invest. securities, available for sale

609

767

537

2,250

Other current assets

2,125

2,338

2,410

2,710

3,010

Total current assets

19,833

23,613

24,986

38,956

52,624

Property and equipment, net

3,147

3,820

4,323

4,623

4,923

Intangible assets, net

5,149

5,204

6,419

Deposits with HDFC Ltd.

Fixed deposits with banks

Investment securities HTM

160

Investment in equity investee

Other assets

2,346

3,066

3,879

4,780

Total assets

30,490

35,711

39,768

54,939

68,906

Current liabilities

8,197

9,232

9,509

13,199

15,323

Borrowings

751

469

973

Other liabilities

1,462

1,259

1,264

2,077

2,078

Total liabilities

10,409

10,960

11,745

16,249

18,374

Minority interest

Total stockholder equity

20,081

24,751

28,022

38,690

50,532

Total liab. and stock holder equity

30,490

35,711

39,768

54,939

68,906

Note: FY2016 Numbers are 9 month figures

October 25, 2016

HCL Technologies | 2QFY2017 Result Update

Cash flow statement (Consolidated, US GAAP)

Y/E Mar (` cr)

FY2014

FY2015

FY2016

FY2017E

FY2018E

Pre tax profit from operations

7,797

7,253

5,643

7,862

9,037

Depreciation

733

451

393

640

740

Expenses (deffered)/written off/others

(584)

(168)

(48)

Pre tax cash from operations

7,946

7,536

5,988

8,455

9,729

Other income/prior period ad

572

912

756

Net cash from operations

8,518

8,448

6,744

9,211

10,485

Tax

(1,547)

(1,908)

(1,364)

(2,349)

(2,699)

Cash profits

6,971

6,540

5,381

6,863

7,786

(Inc)/dec in current assets

(1,749)

(1,991)

(1,309)

(1,036)

(2,144)

Inc/(dec) in current liabilties

1,654

1,035

277

3,690

2,124

Net trade working capital

(95)

(956)

(1,033)

2,654

(20)

Cashflow from operating activities

6,875

5,584

4,348

9,517

7,766

(Inc)/dec in fixed assets

(1,094)

(674)

(503)

(300)

(Inc)/dec in intangibles

(248)

(55)

(1,215)

(Inc)/dec in investments

(4,688)

(1,458)

(687)

(6,714)

(5,000)

(Inc)/dec in minority interest

Inc/(dec) in non current liabilities

(54)

(203)

814

(Inc)/dec in non current assets

(107)

(214)

(72)

(300)

Cashflow from investing activities

(6,191)

(2,602)

(2,473)

(6,500)

(5,600)

Inc/(dec) in debt

Inc/(dec) in equity/premium

ESOP charges

(25)

(103)

Dividends

(296)

(1,651)

(2,805)

Others

(129)

(208)

2,385

621

7,692

Cashflow from financing activities

(396)

(1,962)

(523)

(2,287)

4,784

Cash generated/(utilised)

289

331

(623)

6,221

6,523

Cash at start of the year

732

1,021

1,352

729

6,950

Cash at end of the year

1,021

1,352

729

6,950

13,473

Note: FY2016 Numbers are 9 month figures

October 25, 2016

HCL Technologies | 2QFY2017 Result Update

Key ratios

Y/E Mar

FY2014

FY2015

FY2016

FY2017E

FY2018E

Valuation ratio (x)

P/E (on FDEPS)

18.9

16.2

20.8

14.9

13.0

P/CEPS

16.9

15.2

19.4

13.8

12.0

P/BVPS

5.8

4.7

4.2

3.0

2.3

Dividend yield (%)

1.7

2.0

EV/Sales

3.3

2.9

3.5

1.9

1.4

EV/EBITDA

12.5

12.2

16.1

9.2

7.0

EV/Total assets

3.5

3.0

2.7

1.7

1.2

Per share data (`)

EPS (Fully diluted)

43.9

51.4

40.0

55.7

64.1

Cash EPS

49.2

54.6

42.8

60.3

69.3

Dividend

14.0

17.0

Book value

142

175

199

274

358

Dupont analysis

Tax retention ratio (PAT/PBT)

0.8

Cost of debt (PBT/EBIT)

1.1

EBIT margin (EBIT/Sales)

0.2

Asset turnover ratio (Sales/Assets)

1.1

1.0

0.8

0.9

0.8

Leverage ratio (Assets/Equity)

1.5

1.4

Operating ROE

33.6

29.3

20.0

20.3

17.9

Return ratios (%)

RoCE (pre-tax)

25.8

23.1

15.6

17.2

15.9

Angel RoIC

38.4

34.5

22.4

31.5

33.8

RoE

30.8

29.3

20.1

20.3

17.9

Turnover ratios (x)

Asset turnover (fixed assets)

11.2

10.6

7.6

11.0

12.0

Receivables days

Note: FY2016 Numbers are 9 month figures

October 25, 2016

HCL Technologies | 2QFY2017 Result Update

Research Team Tel: 022 - 39357800

E-mail: [email protected]

Website: www.angelbroking.com

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Disclosure of Interest Statement

HCL Technologies

1. Financial interest of research analyst or Angel or his Associate or his relative

2. Ownership of 1% or more of the stock by research analyst or Angel or associates or relatives

3. Served as an officer, director or employee of the company covered under Research

4. Broking relationship with company covered under Research

Ratings (Based on expected returns

Buy (> 15%)

Accumulate (5% to 15%)

Neutral (-5 to 5%)

over 12 months investment period):

Reduce (-5% to -15%)

Sell (< -15)

October 25, 2016