Organic growth to sustain as guided, no big bang acquisitions planned– HCLTECH

Update on the Indian Equity Market:

On Tuesday, NIFTY50 ended its 7-day winning streak to close at 18,419 (-0.3%), dragged down by REALTY (-4.7%), PSUBANK (-3.7%), and FMCG (-3.2%). The sectoral gainers were IT (2.2%), and FINANCIAL SERVICES (0.2%). Among the stocks, TECHM (+4.3%), LT (+3.3%), and INFY (+1.8%) led the gainers while ITC (-6.3%), TATAMOTORS (-4.9%), and EICHERMOT (-4.5%) were the top laggards.

HCLTECH missed the street estimates in the declared earnings for the quarter ended 30^th September 2021. Mr. C Vijayakumar, Chief Executive Officer, and Mr. Prateek Aggarwal, Chief Financial Officer at HCL Technologies discussed the quarter gone by and reaffirmed its annual FY22 guidance in an interview with CNBC-TV18 on 18^th October 2021:

• The Products and Platforms business has been a laggard in FY22, with quarterly slippages affecting the guidance of the segment but the impact is immaterial to the top-line growth, where the company has reaffirmed its EBIT margin guidance of 19-21%.
• Q2FY22 was the best quarter for the company with unprecedented growth in client mining, large deal wins, and total headcount. The company has introduced a formal dividend pay-out policy on the back of its commitment to rationalise capital allocation.
• The Company has rolled out the first tranche of wage hikes in Q2FY22 and expects the second tranche to be rolled out in Q3FY22. It expects the slippages in the Products and Platforms business to be recovered in the upcoming quarter.
• The company had a track record of a high dividend pay-out until FY20. With a significant outflow due to an acquisition, the pay-outs were subdued over the past few quarters. With a recovery in free cash flows and demand from investors, the company has decided to come up with a formal dividend policy with higher pay-outs.
• The current demand environment has established momentum in the organic business. The company plans to focus on executing current demands rather than go all-in after a major acquisition. The company may add small tuck-ins to expand capabilities or geographies.
• In Q2Fy22, the company had a strong deal win rate. The pipeline in Q1FY22 was at the highest level ever, it slightly moderated because the company closed a lot of deals.
• The pipeline has a good mix of mid-size and large deals. There is also a lot of momentum in existing accounts, where customers are ramping up on several digital initiatives, with smaller ticket transformational projects are being taken up by the company.
• The company expects to exceed its initial guidance on hiring 20,000-22,000 freshers on the back of robust demand and backfilling attrition in the recent quarters.
• Momentum is seen across all verticals with BFSI and Manufacturing being the leaders. The manufacturing vertical is seeing an uptick in engineering services with various transformational deals and projects being undertaken.

Asset Multiplier Comments

• COVID-19 pandemic has unmistakably created a paradigm shift in the ITES Industry, with a strong focus on digitisation around the world across both size and verticals will result in a high growth period for the industry.
• HCL Tech like its peers will also continue to face supply-side crunch and attrition problems. The situation is expected to improve over the next few quarters which will help to reduce the margin pressures.

Consensus Estimate: (Source: market screener website)

• The closing price of HCLTECH was ₹ 1,232/- as of 19-October-2021. It traded at 25x/ 22x/20x the consensus earnings estimate of ₹ 49/ 56/ 63. for FY22E/FY23E/FY24E respectively.
• The consensus target price of ₹ 1360/- implies a PE multiple of 22x on FY24E EPS of ₹ 63/-.

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