MOSL: HCL TECHNOLOGIES (Downgrade to Neutral)-Core growth engines tepid-Future of new investments unclear

​HCL TECHNOLOGIES: Core growth engines tepid; Future of new investments unclear; Downgrade to Neutral

(HCLT IN, Mkt Cap USD19.6b, CMP INR890, TP INR950, 7% Upside, Downgrade to Neutral)

• Organic revenue growth marred by IMS: HCLT’s 1QFY18 CC revenue growth stood at 2.6% QoQ (est. of +3.1%), which implies ~1% QoQ CC organic growth, in our view. IMS’ 9.2% YoY CC growth is disconcerting – it is considered a key growth driver, but remains bogged down by decision delays in large deals. Starting the year at +12.4% YoY CC, HCLT retained its full-year growth guidance of 10.5-12.5%, and we expect it to achieve the lower end of this range (2% CQGR).
• Margin execution remains solid: EBIT margin expanded 10bp QoQ to 20.1%, 50bp ahead of our estimate. This was a function of healthy execution, especially considering the integration of Geometric and the annual restructuring in large IMS deal that ramped up in 1QFY17. PAT grew 7.2% QoQ to INR21.7b, above our estimate of INR20.6b, on account of higher margins, other income and lower ETR.
• Partnership for IBM’s IP-licenses holds key: Investments in licensing IPs from IBM have ballooned to USD0.8b, with another USD140m in a new partnership in 1QFY18 – this time around business solutions in marketing automation space. With core engines of IMS and Engineering Services softening, HCLT has not lacked aggression in exploring new avenues, of which the IBM partnership is so far the biggest bet. Only hefty growth through this channel will justify the price tag in each of the investments (~USD200m annualized revenue rate).