Roads disappointed with HCL, TCS Q1 results

The similarity in the first quarter results of HCL and TCS has left investors uneasy. Both the companies disappointed the market on key factors. Ebit (earnings before interest and tax) margins for both TCS and HCL fell to several-year lows in the first quarter of FY13, which did not hit consensus estimates. HCL’s Ebit margin fell nearly 90 basis points sequentially to 17%. One basis point is 0.01%.

The Street had penciled in margin contraction for IT services companies in Q1FY23 due to the impact of pay hikes and retention bonuses. However, a higher attrition rate means higher sub-contract costs and thus, a higher toll on margins. HCL’s attrition rate for the last 12 months (LTM) increased to 23.8%, which is 190 bps sequentially. TCS’s LTM attrition increased from 17.4% in Q4FY22 to 19.7%.

“Comments from some companies over the past two quarters indicated that they expected attrition to peak. However, the level of leaving the job continues to rise. Were expecting,” said Rakesh.

HCL added 2,089 employees in the first quarter of FY13, much lower than the average addition of around 9,600 seen per quarter in FY12. TCS hired a net 14,136 employees in Q1FY23. According to Prabhudas Lilladher, this is less than the average addition of around 26,000 per quarter in FY22.

There are some positive ones too. HCL management is bullish on near-term demand and deal pipeline. Management does not expect a reduction in customer spend. HCL expects margins for FY13 to be at the lower end of its guided band of 18-20%. It has maintained constant currency revenue growth guidance of 12-14% for fiscal 2013.

However, investors were not impressed, dragging HCL stock to 52-week low 905 on the NSE on Wednesday. “Clearly, there is some difference between what the management is saying and the ground reality. There is no clarity on whether there will be a recession in the US or a soft-landing. Therefore, comments of IT companies need some more acceptance on global macros,” said an analyst with a multinational broking firm, who sought anonymity.

After HCL and TCS earnings report cards, analysts said IT investors need to be prepared for disappointment on margins and attrition by larger peers. If that happens, the fall in earnings could further intensify, putting pressure on IT stocks.

Analysts said many stocks have cooled from recent highs but are still trading at a premium to their five-year and 10-year averages. The trend in price-to-earnings (PE) multiples and earnings projections is something that IT investors should pay attention to, especially given the major concern of slowdown in stock market demand.

“The PE multiples for Tier-1 IT stocks have declined by nearly 30% from the recent peak due to bearish fears. However, the consensus cut for companies in FY13 has been to the extent of only 2-3%. Unlike in the past, there is a sharp disconnect between earnings estimates and valuations,” said Amit Chandra, Institutional Research Analyst, IT, HDFC Securities. Meanwhile, IT stocks may see a fall of 8-10% from here, said Chandra. warned.

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