Forbes India 15th Anniversary Special

HCL Tech's $1.8 billion software play gets off to modest start in Q2

Analysts say that revenue for the software unit, with products acquired from IBM, may have fallen short of projections

Harichandan Arakali
Published: Oct 24, 2019 03:33:36 PM IST

HCL Tech's <img.8 billion software play gets off to modest start in Q2Image: Shutterstock

HCL Technologies’ fiscal second-quarter earnings results, while released after trading hours, pleased the markets on October 23, as shares rose on October 24. The performance was helped by a newly formed software business unit, which included seven software products bought from IBM Corp. for a handsome $1.8 billion.

HCL reported strong double-digit growth in its September-quarter revenue, and increased its sales forecast for the full year that ends March 31, 2020. The software unit’s performance, however, was modest, pointed out analysts, in comparison with the projections that the company had made in December 2018. HCL is India’s third-largest software services provider.

The software business unit was announced on July 1, shortly after HCL completed the purchase of the IBM products. The unit is part of HCL’s Products and Platforms business, which the company calls its Mode 3 business. Mode 1 is the core IT outsourcing services business, accounting for about two-thirds of the company’s revenues; Mode 2 comprises a clutch of new-age digital technologies. Mode 2 and 3, however, represent the future, and are growing at a faster clip.

The Products and Platforms business recorded incremental revenues of $107 million over the previous quarter, largely led by the contribution from the acquired IBM products, analysts at Mumbai brokerage Motilal Oswal pointed out. “This was significantly lower than the quarterly run-rate expected from these products,” the analysts, Anmol Garg and Mohit Sharma, wrote in a note to clients on October 24.

The analysts were basing their remarks on projections provided by HCL’s CFO Prateek Aggarwal in December 2018, when HCL announced the IBM products acquisition. The projection was that in the first year of operations post acquisition, the products would bring in revenues of about $625 million. With the September quarter being the first three months after completion of the acquisition, the analysts expected revenues from the products to be $156 million.

The analysts added that the difference between their expectation and the $100 million that came in Q2 from the IBM products (out of the software unit’s total of $107 million) can be due to the adjustment in deferred revenue or lower renewals in existing contracts. “While the former is not reflective of the operating performance, the latter can further raise concerns about the product strategy,” they wrote.

The IBM products have thousands of customers around the world. One will have to wait for a full cycle of renewals to be completed for a fuller picture to emerge, the analysts said. They maintained their “neutral” rating on the company’s stock.

The products include AppScan for secure application development, BigFix for secure device management, Unica (on-premises) for marketing automation, Commerce (on-premises) for omni-channel eCommerce, Portal (on-premises) for digital experience, Notes & Domino for email and low-code rapid application development, and Connections for workstream collaboration.

HCL Tech reported that its second quarter revenue rose 18.4 percent to $2,486 million from the year-earlier period. The increase was 20.5 percent in constant currency. Profits rose 5.5 percent to $376 million.