29th April, 2011

The markets opened on a positive note but immediately slipped into the red and traded in a tight range for most of the morning session. The markets slipped further in the afternoon session but recovered some of the losses and ended on a weak note amidst volatility. All the Sectoral indices ended in the red with Realty, Metals & IT losing the most while Healthcare ended with minor losses. Among the Sensex stocks ONGC (1.99%) & ICICI Bank (0.92%) were amongst the gainers while RCom (5.13%), Cipla (2.77%) and DLF (2.71%) were among the losers. The Sensex lost 157 points or 0.81% to close at 19,292 while Nifty lost 48 points or 0.83% to close at 5,785.

Total traded turnover stood at Rs 2,42,192 cr. In equities FIIs were net sellers of (Rs 833 cr) while DIIs were net buyers (Rs 533 cr). On the derivatives side, FIIs were net buyers in Index Futures (Rs 191 cr), Index Options (Rs 493 cr) while they were net sellers in Stock Futures (Rs 59 cr) and Stock Options (Rs 15 cr).

The US markets ended positive despite mixed economic news and diverse earnings reported by companies. The Dow Jones gained 72 points or 0.57% to close at 12,763 while NASDAQ gained 3 points or 0.09% to close at 2,873.

The Asian markets are trading mixed. Nikkei is trading higher by 1.63% while Hang Seng is trading lower by 0.28%. Once again the markets closed on a weak note after remaining volatile in the late session. The markets may open on a soft note amidst mixed cues from Asian peers. Adopt a stock specific strategy.

The trend deciding level for the day is 5805, If NIFTY trades above this level then we may witness a further rally up to 5835‐5880‐5905 levels. However, if NIFTY spot trades below 5805 levels then we may see some profit booking to initiate in market, it may correct up to 5755‐5725‐5700.

HCL Technologies : BUY

Back-to-Back Strong Quarters Led by Volumes

HCL Tech reported another quarter of EBITDA improvement (despite one-offs from the Tsunami in Japan) led by robust volume growth, higher utilization rates and a strong market share gain / execution in BFSI. Lower DSO days (down by 4 days QoQ) & curtailment of peak BPO losses are added positives. HCL Tech declared consol. rev of Rs 41.4 bn (~6% QoQ & ~35% YoY), EBITDA of Rs 7.2 bn (~13% QoQ & ~18% YoY), & PAT of Rs 4.7 bn (~17% QoQ & ~36% YoY) in Q3FY11.

Key highlights

• Sales: Software svcs grew 6% QoQ. Revenues from IMS grew 9% QoQ and that from BPO rose 1% QoQ.  Blended volume growth was 4.8% with currency contributing ~1% to drive  5.8% QoQ growth in USD terms. Pricing was stable for the quarter.
• EBITDA: Led by SG&A efficiency & reduced losses in BPO segment.
• PAT: Operating profit offset the impact of higher tax outgo. Market share gains/efficient client mining drove operating performance: This quarter saw a blend of client additions and client mining with: (1) closure of 11 large transformational deals; & (2) healthy upgrades esp. across key client buckets of USD 5 / 10 / 20 / 30 mn. HCL Tech showcased strength across key verticals (BFSI, Mfg, E&U* & Public Sector with aggregate rev share of ~61%) and service offerings (Enterprise Apps, IMS & Custom Apps with aggregate rev share at ~77%).
• While rev momentum is strong, we believe following operating levers would offset headwinds from lateral hiring, currency fluctuations and salary hikes: (1) lower BPO losses – mgmt guided for a reduction in peak qtrly BPO losses from USD 7 mn earlier to USD 6 mn; (2) utilization rates at ~76% in Q3FY11 (ample headroom given peak levels of ~79%); and (3) offshore revenue transition.

Valuations

We have revised our FY12E EPS est. upwards by ~6% & now assign a higher PE of 18x (vs. 17x earlier) and rate the stock as a BUY. CAGR btw FY11-FY13E at topline / EBITDA /PAT levels remains strong at 23% / 25% / 27% resp. We have revised our Target Price upwards to Rs 594 (14% upside from CMP).

Tata Consultancy Services : BUY

Raising the Bar

TCS’ FY11 performance (Rev up ~24% YoY & PAT up ~26% YoY, despite INR appn) exemplifies its strategy of “growth with a margin focus”.  FY12E  to  mark  another  year  of  growth  with  23  units  being carved out that have strong leadership team, profitability focus and rev potential of USD 1 bn each over next few years (TCS’ FY11 topline: USD 8.2 bn). We are mainly enthused by its strong deal pipeline, mgmt confidence on growth, power focus on non-linear initiatives & execution capabilities to manage ~80-84% utz rates.

Q4FY11 marked a perfect finish with broad based growth (vols. in int’l. biz up 3.3% QoQ) despite Q4 seasonality and margin headwinds from higher onsite revs, lower utz rates and ~19,300 employee addns.

Key highlights: Q4FY11

• Sales:  Led by blended volumes (+2.9% QoQ), pricing (+0.8% QoQ in const currency), currency benefit (1.3% QoQ) & onsite shift (0.1% QoQ)
• EBITDA:  Despite decline in utz – currency benefit (58 bps), improved realizations & SG&A efficiency helped to maintain EBITDA % QoQ
• PAT: Higher other income helped offset higher tax Continued improvement in revenue visibility; margin confidence high: Our confidence in rev visibility is further strengthened by: 1) Robust 18% QoQ growth in Enterprise Solns (Q4 rev share at ~11%) – a key indicator of discretionary spend; 2) Strong deal pipeline (closed 7 large transformation deals in Q4 and currently pursuing 20 deals), & 3) Gross hiring target of 60K for FY12E (campus offers at ~37K).
• Positive commentary on pricing & utz (target to maintain utz ex-trainees in the range 80-84% range) is added positive from a margin standpoint. Addl. margin levers include: 1) volumes from verticals / geos like Telecom / Continental Europe that are showing signs of improvement; 2) better offshore rev %; 3) margin increase in GDCs/ EMs (5% rev share); & 4) better trajectory from non-linear offerings (e.g. its SMB platform, iON had 225+ clients in its first quarter of launch).

Valuations

Our FY12E EPS est. remains largely at ~Rs 53; with FY13E EPS est. at ~Rs 62. Our BUY rating with TP of Rs 1,330 at 25x FY12E EPS.