HCL Technologies: Overweight raising target price: Good quarter; says HSBC

Visit http://indiaer.blogspot.com/ for complete details 􀂄 􀂄


HCL Technologies (HCLT)
OW, removing V-flag, raising target price: Good quarter;
margins likely to improve from the bottom
 Good broad-based growth in fiscal 1Q11 (Sep), with a strong
outlook for the next three quarters
 Margins appear to have hit bottom and should rise in
2HFY11 and FY12
 We are raising our target price to INR495 from INR455, for a
value of 15x our FY12e EPS, and reiterating our Overweight
rating but removing the volatility indicator from it


HCLT continued its strong revenue growth momentum in 1QFY11 (September) as
the top line grew 9% q-o-q, led by a robust growth of 9% in IT services and 9% in
Infrastructure services. Growth was broad-based, with Europe coming back strongly, 18%
q-o-q. Double-digit growth in the newer markets such as Retail and Healthcare is
particularly noteworthy, underscoring the expanding addressable market for Indian
companies. SAP services also grew, 5% q-o-q, and representing 22% of total revenues,
notwithstanding a strong base. We expect the SAP market to continue expand as clients
buy new-edge applications and optimize their ERP installations. Also, BPO saw 5%
growth in the latest quarter and appears likely to contribute positively to the top line,
despite continued losses on the EBITDA level due to high S&M spend.
Margins: The EBITDA margin declined by 240bps q-o-q; we had estimated a 250bp
decline. Though this was modestly better than our expectation, the EBITDA margin has
consistently declined in the past few quarters, and we believe it reached a bottom in the
latest quarter. We expect margins to expand to 18.9% in FY12, led by a reduction of
losses in the BPO division, a broadening employee pyramid, an improvement in
utilization, and SG&A optimization.

Valuation: The stock is trading at c15x on our FY11e EPS (excluding the hedging
losses). We value the stock on a PE multiple basis, and we expect it stock to continue to
trade at a 15x multiple (a 30% discount to Infosys) on our FY12e EPS of INR33; our
FY12 estimates are 10% above consensus.
Risks to the downside, in our view, include a slowdown in the macroeconomic recovery,
significant margin pressure due to wage inflation and supply-side constraints, and currency
fluctuations. A potential catalyst for the share price is growth in clients’ IT spending.