HCLTECH — earnings call

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Prepared remarks

OFFICER, HCL TECHNOLOGIES LIMITED · MR.

MR.

SRINIVASAN · SESHADRI

SESHADRI –

GLOBAL · HEAD,

HEAD, FINANCIAL SERVICES, HCL TECHNOLOGIES LIMITED MR. VIJAY GUNTUR – PRESIDENT, ENGINEERING AND R&D SERVICES, HCL TECHNOLOGIES LIMITED MR. MANAN BATRA – SENIOR MANAGER, INVESTOR

RELATIONS, HCL TECHNOLOGIES LIMITED · Management

HCL Technologies Limited April 20, 2023

Moderator · Conference Operator

Ladies and gentlemen, good day and welcome to the HCL Technologies Limited Q4 FY'23 &

Questions and answers

Moderator · Conference Operator

Thank you very much.

We will now begin the question-and-answer session.

First question is from the line of Girish Pai from Nirmal Bang Institutional Equities.

Please go ahead.

Girish Pai

I wanted to know the 6% to 8% guidance you’ve given.

Is this front loaded or backloaded?

And what is the volume size mix that you have?

HCL Technologies Limited April 20, 2023

C. Vijayakumar

At this point, we don’t want to call out how it is going to pan out on a quarterly basis.

But I think the best reference point will be to look at our past years’ performance.

We do believe it will follow a similar trend.

Usually, you see our quarterly growth rates, low in the beginning of the year and it starts from JFM, it’s probably at the lowest and then it keeps going up and it will peak in December.

That’s the trend that you’ve seen in the past and I do think that will reflect.

Girish Pai

And in terms of the volume price angle to your guidance, is it completely driven by volume?

C. Vijayakumar

Yes.

I don’t believe there is going to be a price expansion in this environment, and I don’t think we have baked in that in the revenue or the margins.

It’s primarily due to volume.

Girish Pai

On the margin side, what do you think are going to be the key headwinds in FY24?

Because the general impression has been that there are going to be lot more tailwinds for you to expand margins in FY24, but that doesn’t seem to be kind of coming through?

Prateek Aggarwal

So, I think Girish, we are factoring in the fact that it is a very different macro that we are facing at the beginning of this year as compared to last year.

We do hope and expect to some extent that it will change for the better fairly quickly as it has the last few times that we’ve seen this kind of turbulence.

So, we are factoring all of that and we’ve given you a pretty tight range.

There are tailwinds expected and foreseeable from the supply side.

But at the same time, there are potential headwinds that we might have to factor in.

So, that's all factored into the guidance that we've given.

And we will see how it plays out and see if there's a need to correct later on.

Girish Pai

Just to push this a little bit more.

Besides salary increases, what else do you see as headwinds?

Prateek Aggarwal

I think I don't want to really get that specific, Girish.

I think there is an environment that I already called out.

Beyond that, what do you want me to say?

C. Vijayakumar

Yes.

I mean, apart from regular wage related dynamics, there is also productivity benefits and things like that.

And I think these are the 2 things which we think are significant to be called out, nothing more.

Girish Pai

Lastly, on HCL Software, it seems like you're kind of building in a little bit of decline in FY24. Can you throw some light or color on the product space?

C. Vijayakumar

I don't think we’re building in a decline.

I mean, we do believe it's been a great year for the software business.

From a negative trajectory, we are well into a positive trajectory.

And our general expectation is we will continue that kind of trend.

Obviously, there are always lots of puts and takes, and we provide some kind of easy numbers from a guidance perspective rather than going to the second decimal and things like that.

Moderator · Conference Operator

The next question is from the line of Kawaljeet Saluja from Kotak Securities.

Please go ahead.

HCL Technologies Limited April 20, 2023

Kawaljeet Saluja

Just a couple of questions from my side.

First is on the guidance.

CVK, what gives you the comfort on guidance when you're coming off bookings growth which was just 4% in ACV in FY23?

I remember when you gave guidance for FY23 at the end of FY22, it was coming off of fairly robust bookings including $3.1 billion somewhere in March 2021, whereas the bookings trends are fairly muted at this time around.

So, I just want some qualitative color as to what gives you that comfort.

C. Vijayakumar

So, Kawal, first is that $3.1 billion has really kind of contributed to the growth in FY22. And if you look at the bookings during FY22, I think on a year-on-year basis, it has grown probably about 10% or just in that range.

As you know, we report only net new deals.

So, renewals are not counted.

So, net new deals really, technically, they add to the overall revenue.

But the headwind there is, there could be project completions and there could be ramp downs and things like that.

Now, what gives me the confidence, I think, even from an exit perspective in the services business, I think we would have a tailwind of about 2.8%.

So, with that kind of an exit, 6% to 8% really factors in a very modest sequential growth rate.

Even if you assume Q1, which is a little soft for us.

Even if I factor this in, Q2 to Q4 is a very manageable kind of sequential growth rate for upper and lower end of the guidance.

Kawaljeet Saluja

I understand that CVK.

But that's just math, right?

Because for 4Q, in December, you called out a growth rate of 1.5% to 3% and you came in at 0.5%.

So, this definitely can change depending on the environment.

But okay, nonetheless, I’ll drop this topic.

I mean, the other aspect and basically just a couple of related question is that the first is you mentioned the time to recovery could be shorter this time around.

Now what gives you that comfort, any data points, any anecdotes basically which you can relate to the past cycles, which gives you that comfort that time to recovery should be shorter.

And a question for Prateek that does this quarter include, I mean, does Q1 revenue include that contribution from mega deal or has that contribution come in in the fourth quarter itself?

C. Vijayakumar

So, Kawal, let me first address the first one.

See, first is in our business, we feel Financial Services will continue to deliver strong growth.

So, let's keep the outlook for Financial Services outside this.

So, the recovery is really focused on Tech because Tech is the vertical where we saw ramp downs in the last two quarters.

And usually, I mean, what we've seen in Tech is, there is obviously significant layoffs and things like that which happened.

And then when projects needs to be done, we see customers using lot of external vendors.

And we've already started to see that in some pockets.

And that's at least in 1 very large kind of client, like in those kind of clients we’re already seeing.

They start consolidating.

Where they cannot hire, they use external providers like us.

And usually, I think this kind of trend as you've seen in one or two quarters, we keep seeing this thing coming, not only when there is a cyclical thing.

Even if one particular client goes through some restructuring, we've just seen in 3 to 4 months, lots of external service providers are used.

So, I think that's the basis and we are also seeing some of that visible vendor consolidation opportunities in big Tech, which is one of our forte, and we believe that's definitely going to help us.

HCL Technologies Limited April 20, 2023

Kawaljeet Saluja

There was a mega deal signed which was supposed to contribute in 1Q.

Is it slated to contribute in 1Q or has the contribution come in 4Q itself?

Prateek Aggarwal

So, Kawal, there are actually multiple mega deals.

So, just to refresh, there was 1 mega deal we talked about at the end of September, which is what I think you're referring to which we said would start towards the fag end of Q4, which has started pretty much exactly on the dot where it was planned.

So, yes, that has come in in this quarter itself, albeit for the last month of the quarter.

So, the next quarter is going to be the full quarter impact of that.

Also, you will remember there were large deals in Financial Services that we had talked about in the December quarter.

So, those are going to be starting now and going pretty much as per plan.

And that will again come in the Q1 of FY24.

Kawaljeet Saluja

Just a final question actually.

Thanks a lot, Prateek, for those additional disclosures on products.

I mean, I see that subscription and support has that quarterly volatility.

Is it largely consumption- based volatility on a sequential basis?

Or is there more to that of quarterly volatility in subscription and support, which is an annuity-based revenue in products?

Prateek Aggarwal

So, the volatility comes from the revenue recognition principles as per ASC 606 and the similar IFRS 15 kind of standards, which is why we’ve started producing the ARR metric for which we’ve given a definition, which I'm sure you would look at, but to put it very simplistically, it is more like an (ACV) Annual Contract Value, which is a term all of us are familiar with.

So, that volatility is more related to the revenue recognition principles.

But ARR is more like ACV just to put it very simplistically.

Moderator · Conference Operator

The next question is from the line of Ravi Menon from Macquarie.

Please go ahead.

Ravi Menon

Your revenue margins have come in below expectations and probably that's behind why the margin guidance doesn't seem to factor in your ambition to get back to pre-COVID margins.

So, do you see a pause to that over the next few quarters?

And should we think about this margin guidance as conservative and probably factoring in any further ramp downs or unexpected cancellations?

Prateek Aggarwal

So, Ravi, thanks for that question.

Because I think I would like to reiterate, as we have been discussing in the last several quarters, our aspirational range of EBIT continues to be 19% to 20%.

So, let not the guidance that we have given, tone down that medium term expectation and aspiration that we have.

When we give guidance, we are obviously expected to be realistic.

And given the environment that we are going through, especially in the first half of this year or whatever, we have factored all that in into the guidance.

But over the medium term, our aspiration continues to be that 19% to 20% band.

So, there is no walking away from that.

We have to get back to that.

It is only a question of when, not whether.

Ravi Menon

You spoke about ER&D margin recovery being a bit gradual.

So, should we think about this as the pipeline has start converting into revenue as quickly, so redeployment of the people is not easy?

Is that how we should think about ER&D margins and growth?

HCL Technologies Limited April 20, 2023

C. Vijayakumar

If you look at the revenue drop in ER&D this quarter, it is almost flowing into the margins almost entirely, the $19-20 million drop in revenue is almost visible in the bottom line as well.

So, obviously, when customers ramp down or there are certain costs that we continue to carry, and we have various ways to redeploy and attrition backfill and all of that.

So, we have some levers, but it may not be very quick because some of the skills are unique and things like that.

So, there are location intricacies involved in this.

So, it would recover more gradually.

Moderator · Conference Operator

Next question is from the line of Sudheer Guntupalli from Kotak Mahindra Asset Management.

Please go ahead.

Sudheer Guntupalli

On the IT services piece, one of your competitors recently raised an alarm on unprecedented, unexpected and broad-based ramp downs and cancellations, which impacted the March quarter.

Post that the industry perception which got built was that it’s a blanket IT services industry wide trend, some companies may see the impact early on, and some may see later on maybe in the June quarter.

Clearly, your March quarter results do not reflect any such trend.

Two questions on this.

First, apart from a general sense of caution which is quite well known, are you seeing any macro led shocking change in terms of the client behavior versus September and December quarters?

Second, are you worried that if not in March, we may have to see some of it in the subsequent quarters over and above the normal seasonal weakness we usually see in June?

C. Vijayakumar

Sudheer, while I don't want to comment on any specific providers in the industry, I think the biggest indicator of how the spend pattern is going to play out is normally dependent on the client budgets.

And in Q1, most clients have visibility to what their budgets are.

And that's why you would have seen a little muted growth in Q1 because whatever plans that kind of got rolled out, customers were very quickly trying to kind of readjust their spend to be in alignment with their budget.

So, a lot of our planning is informed by whatever visibility that we have, from our clients on the specific programs.

And that's what we have factored in.

And I do think, I mean, most of whatever pain has been factored in their client IT budgets.

And if they had to inform us of some program for which they don't have funding, they would have definitely done it in the first quarter because that saves them more money throughout the year.

So, I think we've done a pretty good analysis, especially in our Tech and Telecom verticals.

We think the budgets have been defined and most likely that will continue.

I think the Financial Services between Banking, Capital Markets and Insurance, we feel very, very confident of the trajectory in both Insurance and Capital Markets.

Banking could be a little muted based on the spend patterns and the understanding that we have.

So, that's what we see.

And I want to just be limited to our commentary at this point, rather than providing an industry outlook.

Sudheer Guntupalli

Just 1 more follow up since you mentioned about budgets.

So, if you look at the budget trends that your customers would have defined in the first quarter and sort of contrasted with what the trends would have been a year ago, so are they significantly different or it's just a bit of moderation?

What exactly you're seeing?

HCL Technologies Limited April 20, 2023

C. Vijayakumar

I think it's moderating for sure.

In some segments, there is more moderation, especially where inflation impact is very high, the moderation is significant.

And that's also the reason you're seeing a lot of big deals in the pipeline.

We have many $0.5 billion plus deals in the pipeline across many verticals- Financial Services/Telecom.

It is actually sectors where we see more pressure is there, we're seeing large deals.

Moderator · Conference Operator

Next question is from the line of Nitin Padmanabhan from Investec.

Please go ahead.

Nitin Padmanabhan

CVK, two questions.

So, one is we seem to be seeing a very different trend in your results compared to those who have reported so far.

So, the US appears to be very strong while, Europe seems to be weak.

What's driving that differential?

That is one.

And the second is I remember in the last quarter, you basically said that the way discretionary spends will move is anybody's guess.

What are your thoughts on that now?

And do you think that should sort of turn at some point.

So, just wanted your thoughts on both?

And finally, on the margins, earlier, I think well, you did mention, Prateek, that it is not a question of whether it will happen, but when it will happen.

For this year, is it more driven by the cost take out and large deals?

Is that why you are relatively maybe a little more cautious versus what we thought maybe last quarter?

These are the 3 questions.

C. Vijayakumar

So, maybe I'll take the first 2 and Prateek will take the third question.

So, I think why Europe is weaker than the US.

I think I did call out last quarter and even in the previous quarter, the booking has been stronger in the US than Europe then some of the decision making has been slower in Europe.

And I did call out that that will start reflecting in revenue slowdown in Europe, and that's what you're seeing.

I think it will take another quarter.

I mean, we still have a good pipeline.

I don't have a lot of near-term confidence on some huge bookings in Europe, but maybe the second quarter, we’re likely to see something.

But the US continues to remain very strong.

Different trends compared to other industry players.

I don't want to comment and as I said, I'm looking at my pipeline, my clients, the programs which we are working on, are they going to continue on those programs during this year.

So, we have a good feel of projects which are ramping down and at least part of that is in the JFM numbers.

Discretionary spend, yes.

Last quarter, definitely we had a lack of clarity on where things will move.

But as we started working through this quarter, looking at our top 50 clients and all the key programs, there some ramp downs have been there and some comfort that other programs will continue has also been there.

And then added to that are the large deals that we won in the last two quarters.

So, I think some of this is all playing into our slightly better growth outlook for the coming year.

Prateek Aggarwal

Nitin, on your third question.

The simple answer is yes.

Yes, we are banking on cost take out projects and large deals.

So, some of that is also reflected in the margin guidance that we have given.

HCL Technologies Limited April 20, 2023

Moderator · Conference Operator

Next question is on the line of Gaurav Rateria from Morgan Stanley.

Please go ahead.

Gaurav Rateria

So, a couple of questions.

Firstly, if you could deconstruct for us the outlook within Financial Services in US versus Europe, are there different trends?

Secondly, you mentioned about market share gain.

Have you seen any benefit from vendor consolidation opportunities?

And is it specific to any 1 or 2 key verticals?

And last question.

You also mentioned about run the business being very resilient versus discretionary spending.

Any color on what part of our business is more akin to run the business versus discretionary?

C. Vijayakumar

We have our Head of Financial Services, Srini Seshadri, on the call.

Srini, would you like to respond to this.

SRINIVASAN · SESHADRI

So, I think CVK mentioned already the Financial Services results are on the back of good execution that we've done over the last 2 quarters.

Prateek also mentioned that things went as per plan.

So, we've already had significant successes in North American Financial Services.

And Europe is also showing good signs right now, the pipeline despite what the macroeconomics might be is showing good signs.

North America is definitely leading Financial Services.

Europe probably is trailing.

But we still see a good sense from there as well.

C. Vijayakumar

You talked about market share gains.

So, which verticals we have gained market share?

At least two good call outs.

Financial services, definitely we are gaining market share based on the two large wins that we had announced.

And even in this quarter, I mean, at least three wins have been in Financial Services actually in three different geographies, so it's more broad-based.

And also, in one of the large Capital Markets players, we are consolidating another provider who is at least 1/3rd of our presence.

So, that's, again, a very large consolidation in Financial Services.

The second vertical where we are gaining some market share from a wins perspective, it's still not reflected in revenue is Retail-CPG, where we had some wins.

So, now it's going to start reflecting in revenue during this year.

And Tech and Telecom, I think in both we're already in the midst of a number of consolidation opportunities, some of them consolidation from a number of small vendors into 1 large vendor.

And again, it's not just vendor consolidation.

It's also about how can we bring some of the newer automation levers in providing much better cost structures for the client is really a good challenge some of our clients have kind of given us and we are working through some of them and we are seeing some encouraging results.

Telecom- In all the large players, there are definitely big opportunities which we are participating in.

And we do believe we will gain some market share in Telecom this year.

So, four verticals, FS, Retail-CPG, Tech and Telecom is where we expect to gain market share during this year.

I think we have RTB spend across all 4 service offerings.

Whether it is infrastructure, a lot of applications also.

In fact, see, a lot of customers have expanded their digital landscape, and today they're looking at how can they optimize their digital landscape.

Like, some of them have 200 plus SaaS providers providing lot of niche vertical solutions.

So, can that be rationalized?

It's HCL Technologies Limited April 20, 2023 very similar to what you will see in a traditional landscape, we're seeing that in digital landscape as well.

Similarly, what are the ways to optimize the Cloud consumption spend and the operating costs around that.

So, I think this means sometimes it's a small, fine-tuning program.

But quite often, it's about making some significant changes in the applications to see how the consumption can be more optimized, which means there is a one-time program.

Or sometimes they are even signing up ongoing fin ops where financial operations of the cloud spend which is contracted as a percentage of the cloud consumption to kind of provide some good revenue visibility.

So, those types of opportunities are there.

Even though it's cloud consumption, we still see that as run the business kind of spend where we have a play in it.

And similarly, in the engineering services, the product, sustenance, product professional services, all of them, we treat them as RTB, and we see some good opportunities there as well.

Gaurav Rateria

Thank you for the detailed answer.

If I can squeeze in 1 more.

The deferral in discretionary spend that you mentioned, which happened probably towards the end of the quarter in March, is this something which is still continuing and kind of likely to have the impact in June quarter as well?

C. Vijayakumar

So, I think largely that is in ER&D, you will see that in Tech and Telecom is where we had this challenge.

We think in some clients, the pain is behind us, there is a little bit more in a couple of clients.

We expect that to stabilize during this quarter based on all the ramp ups and execution that's happening.

And some of this is also related to offshoring.

While we continue to have people onshore delivering services, we have a commitment to kind of transition this to offshore and some of the higher end work does take some time.

So, that also has some impact on this.

Moderator · Conference Operator

Next question is from line of Manik Taneja from Axis Capital.

Please go ahead.

Manik Taneja

Just wanted to prod you further with regards to that ER&D weakness that you've seen.

When you have highlighted that hi-Tech and Telecom essentially have accounted for the bulk of the decline in the current quarter, how should we be thinking about other segments within ER&D?

C. Vijayakumar

I have Vijay Guntur who is the President of our Engineering and R&D services.

I will ask him to provide a little more color.

Vijay Guntur

The spend in technology and Telecom, these are the 2 areas where we've seen some softening of that spend, mostly discretionary spend that we have seen softening in.

And that's in specific accounts and areas.

Some of it has been expected and we factored it most of that I would say.

There will be a little more continuing in that in specific accounts this quarter.

Other verticals, I don't think there is a big discretionary spend that we see coming in and getting hurt by softness.

We think those are reasonably good.

HCL Technologies Limited April 20, 2023

Moderator · Conference Operator

Ladies and gentlemen, due to paucity of time, that will be our last question for today.

I now hand the conference over to Mr. C.

Vijayakumar, for closing comments.

Thank you, and over to you, sir.

C. Vijayakumar

Thank you for joining the call.

In FY23, we delivered the industry leading services growth with the lowest dilution in EBIT margin, a number of our people metrics has come in much superior to our industry peers.

In FY24, it's our aspiration to drive towards delivering industry leading growth.

In the current macro environment and also if the macro environment improves, we want to be prepared to make sure we are able to capture all the opportunities and deliver superior organic growth with an improving margin profile.

And we want to do all of this by being efficient in how we use capital, focus on organic growth, improving margins trajectory, right sizing our cost structures, continuous focus on all the 3 levers that we have, at least two major levers which is around continuing adoption of freshers and improving utilization and kind of streamlining the pyramid.

So, we will continue to work on all of this.

And we remain pretty confident of our outlook for FY24. And thank you for your support.

I am looking forward to connecting with all of you in the subsequent quarters.

And thank you for joining us today.

Prateek Aggarwal

Thank you very much.

Moderator · Conference Operator

Thank you very much.

Ladies and gentlemen, on behalf of HCL Technologies Limited, that concludes today’s call.

Thank you all for joining us.

And you may now disconnect your lines.