HCL Tech: Betting big

With the strategy of chasing large deals paying off, HCL Tech puts up a decent show in the June quarter.

HCL Technologies had a reasonably decent quarter ended June 2006. Its revenues increased 11.8 per cent q-o-q to Rs 1,253.8 crore in the June quarter. Infrastructure management services reported growth of 20 per cent, while IT services grew 11.4 per cent.

Though direct costs went up 14 per cent, other costs "� selling, general and administrative "� stayed at the same levels in March 2006 and, as a result, the company was able to see its EBITDA margin nudge up 10 basis points to 22.4 per cent in the June quarter.

For the year ended June 2006, HCL Tech's sales were about $24 million short of its targeted $1 billion. However, its strategy of chasing large orders seems to be paying off. It bagged multi-million, multi-year deals from EXA, Skandia and DSG International.

According to the management, infrastructure management has been the entry point for the company to win large orders in many cases, despite the fact that applications (IT services) dominate the contract.

Company officials also clarified that the margins on the large deals are identical to those on smaller projects. In the IT services segment, its operating margin fell 30 basis points q-o-q to 23.2 per cent.

In BPO, its margins improved by 130 basis points. Infrastructure management margins improved by over 240 basis points owing to a better sales mix but are still low at 17.44 per cent.

HCL's employee addition in FY06 at 9 per cent was lower compared with other tech companies, and it plans to ramp it up this year. The key to the company's growth is how able it is to execute large orders and improve utilisation rates.

At the current price, the HCL Tech stock trades at about 19 times estimated FY07 EPS and 16 times FY07 EPS, and investors seem to have adopted a 'wait-and-watch' approach before the impact of its large deals becomes evident over the next few quarters.

Shoppers' Stop: Metro bias

Shoppers' Stop's revenue growth of 35 per cent y-o-y in the June quarter is a trifle subdued compared with Trent's growth of 45 per cent.

However, both gross margins and operating margins of the company improved, while in the case of Trent, they both fell. With 20 stores across 10 cities, Shoppers' Stop has built up a fairly strong franchise across the country and is among the top preferred destinations.

It hopes to triple its space, across formats, from the current 1 million sq ft by FY08. However, while its high-end department store model may work in metros, it does not appear to be scalable for tier-II towns where value may be the better proposition.

Besides, competitive pressures will only intensify, thanks to the increasing number of malls in tier-I cities. Also, a good 80 per cent of its revenues come from brands, unlike at Trent where most of the revenues are derived from store labels, which results in better margins in the long run.

The retail chain recently launched its hypermarket, again ostensibly positioned for metros. With competition imminent in this space too, margins are bound to be under pressure, though the company has an edge in the sense that it can draw upon the group's real estate expertise.

Further, the partial ownership of Shoppers' in the hypermarket segment is a cause for concern. At the current price, the stock trades at 42 times estimated FY07 earnings and 34 times FY08 earnings, and the valuations factor in near-term growth leaves little room for error.