HCL’s Q2 brings cheer. Will premium valuations limit upside?
HCL Technologies' stock rose 7% on Tuesday after select broking firms upgraded their earnings estimates, factoring in the positives in the September quarter (Q2FY27) results. Still, some factors cannot be overlooked amid macroeconomic uncertainty.
Sequential constant currency (CC) revenue grew 2.3%—below consensus estimate of 2.7%. Larger peer Tata Consultancy Services (TCS) clocked sequential CC revenue growth of 0.5% in Q2; Infosys’ results are not out yet.
The drag for HCL came from software business—down 5.8% CC sequentially, while services grew 3%. The quarter had a lower number of multi-year licences due for renewals vis-à-vis last year, which weighed on the software business, the management said, adding that the revenue decline does not accurately reflect the underlying health of that business. Services revenue growth included inorganic contribution from HPE Telco Solutions and Jaspersoft.
Inorganic growth could remain in the driver’s seat for FY27. Services revenue growth guidance was revised to 3-4% year-on-year, from 1.5-4.5%. Overall company guidance was changed to 2.5-4%, from 1-4% and includes an estimated 87 basis points (bps) contribution from inorganic growth.
“Consequently, the guidance midpoint increased by 75 bps to 3.25% from 2.5%. However, after adjusting for inorganic growth, this implies a modest reduction in the midpoint of organic growth guidance,” said Systematix Shares and Stocks (India). The revised range implies a 1.5–3.5% compound quarterly growth rate over Q3–Q4FY27 and Systematix expects HCL to deliver above-industry growth in FY27.
While demand was healthy toward the end of Q2, management remained cautious. The second half for HCL could be slower, partly because the $1.14 billion Mercedes-Benz mega deal won in July could start contributing in Q1FY28. The anticipated weakness in top telecom accounts and a top manufacturing account has played out, but discretionary demand in telecom remains uncertain, HCL said.
New deals TCV (total contract value) improved to $3.26 billion from $2.41 billion in Q1FY27. This was the second-highest deal wins TCV seen in Q2. Deal wins were broad-based across verticals, with AI being a central theme. HCL’s Advanced AI revenue of $219 million now forms around 6% of total revenue and nearly 50% of incremental revenue.
Ebit (earnings before interest and tax) margin sprang a surprise, expanding 130 bps to 18.2% despite restructuring costs, aided by tailwinds of Project Ascent, operating leverage and higher margin of advanced AI offerings.
Ebit margin guidance was retained at 17.5-18.5%, with incremental gains reinvested in growth initiatives. However, wage hikes (pay increases) may have a negative impact of 80 bps in Q3 and 60 bps in Q4, which HCL has already factored into the margin guidance.
HCL’s shares have declined 21% so far in 2026, although TCS and Infosys have seen steeper declines. HCL is trading at FY28 price-to-earnings multiple of 17, a premium to TCS and Infosys, showed Bloomberg data.
HCL is rewarded for its relative earnings edge. Jefferies India notes that HCL is among the few large IT firms to offer 5%+ CC revenue growth visibility in FY28. But with concerns of AI-led deflation lingering, HCL’s valuation could get uncomfortable if growth fails to deliver.
Its strategy of proactively transforming services with a long-term view, even by disrupting existing revenue base, is prudent. However, this will cause near-term pressures similar to peers, said Ambit Capital.