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Smart Alpha: Reiterate long HCLT

We believe HCL Technologies’ (HCLT) is likely to outperform NIFTY IT in short term and therefore, we reiterate long call on HCLT.

* We expect HCLT to deliver highest sequential revenue growth of ~3.8% QoQ in US$ terms among Tier 1 peers in Q3FY23 aided by seasonal strength in products business and strong revenue momentum in services business (IT+ER&D).

* HCLT’s growth is likely to be second highest in services business in FY23 among Tier-1 IT given revenue guidance of 16-17% YoY CC for services and healthy deal wins.

* HCLT’s improved capital allocation policy to payout minimum ~75% of net income cumulatively over FY22-26 takes away risk of investing in acquisitions with lower ROI (last big acquisition was done 3.5 years ago). It did 88% payout in FY22.

* ROIC of HCLT Services business is strong at 36.2% on LTM basis as on Sep-22.

We believe that HCLT now deserves a higher multiple and increase it to 20x (13%/20% discount to INFY/TCS target multiple, prior: 17x) and arrive at a revised price of Rs. 1,199 (earlier: 1022) because 1) risk-reward has become favourable, 2) ROIC is expected to improve (charts 2&3), average OCF/NI at ~120% over FY18-22, 2) improved capital allocation and dividend yield limits downside risk. Refer our Q2FY23 result note for more details (link). Stock is currently trading at 19x/17x on FY23/24E EPS of Rs. 54/60 with USD Revenue/EPS CAGR of 8.4%/9.7% over FY22-24. Re-iterate ADD. We remain neutral on mid-cap IT at these levels.

Key downside risks: 1) Impact on tech spends due to worsening macro 2) Pricing pressure 3) Unfavourable currency movement

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