HCL Technologies Limited analyst Q&A

Thank you very much. We will now begin the question-and-answer session.

Our first question comes from the line of Abhishek Pathak from Motilal Oswal. Please go ahead.

Hi, team. Thank you for the opportunity and congrats on a solid quarter. CVK, very encouraging to see Advanced AI revenue broken out. Quite curious to know how are these revenues being offered to clients? Are they mostly through standalone POCs or standalone projects or are they embedded into a bread - and-butter business? That's one. And secondly, how do you see HCL Tech's revenue mix evolve over the next 3 to 4 years? Do we expect IPs to contribute more and more percentage of our revenues? And if that's the case, how do you see our R&D expenses go up considering we will be competing head -on with a lot of the rich world OEMs in their own backyard? And lastly, a question on margins for Shiv. On the res tructuring charges, would we expect a similar sort of quantum of hit over the next couple of quarters as well? That's all from my side. Thank you.

Thank you, Abhishek, for a lot of interesting questions and first is Advanced AI. It's got a number of different ways of billing. For example, a lot of inference silicon build work are more fixed price projects which we take with clients and deliver. It has got a lot of scaling and reusable components. That's number one. And for example, for the AI Factory, the implementation could be even time and material, but there is a run piece which is based on per rack. Then there are a lot of custom AI solutions that we are building for our clients, which is continuing to be contracted in the traditional ways. Most of them in some kind of a fixed price model, because we also leverage some solution accelerator there. But there could be a number of time and material also. On top of it, there is an IP element. Like, for example, AI Force is being used in the SDLC transformation. The AI Force has got a licensing price list, and that's what we are considering as Advanced AI revenue. All the services that are being delivered is not considered in this category. There are a couple of small products in HCL Software. They are also being sold as IPs. So, right now, the IP component is small. Now, going into your next question, on what do we expect our IP trajectory to evolve. We believe this industry will have to evolve from being a pure labor - based service provider to people plus IP and platform -based service provider. When you have the platform as a third -party platform, there is very little leverage, very little stickiness that we can build. And we can really deliver very good quality vertical IP solutions, which can be replicated across customers. So, that is why we are investing. However, the investment that is required to create that intelligence layer, that's not something we are taking on ourselves. We are leveraging the intelligence layer created by OpenAI and Llama and other tech companies. We are creating IPs, which make this intelligent layer a lot more usable, scalable and relevant for the enterprise. This is the sweet spot we are focused on, and everything goes through a rigorous exercise. We are open to invest. We don't have a full picture on how much investment this will need , but this is required for the long -term vibrancy of the business and is a very good investment to make. We have already identified a few products. AI Force is, what I would strongly call , the killer app, which is really making a lot of big deals happen. We are competing head-on with all the big players who have a lot of AI mindshare. We have been able to showcase the technical depth of the product. Especially when the client evaluates by getting their hands dirty, we come out winners. So, it's a strong proposition. It's a big strategic initiative for us. We will not hesitate to make the right investments to make this a big success. I don't have a revenue number as to what our IP will be, but for sure, it is going to consistently increase in our services portfolio.

That's very helpful.

So, regarding restructuring, Abhishek, in July, we announced around 40 basis point impact of restructuring for the full year. We expect this to be slightly on the higher side for the full year based on visibility we have right now. As you would have notice d, we started this exercise in Q2, and this will continue through Q3, and we expect to have some spillover in Q4 as well.

Got it. Perfect. Thank you.

And the list of IPs is already called out in our Investor Release for your reference.

Our next question comes from the line of Ravi Menon from Macquarie. Please go ahead.

Hi. Thank you and congrats on pretty broad-based growth. So, the first question is on the EBIT margin. When adjusted for that 55 basis points of restructuring , you are almost back at your 18% to 19% range, and you should surely get some cost benefits from restructuring going into next year. The question I had is how much will the benefit be once you finish the restructuring? On a structural basis, how much margin improvement should we factor in because of the restructuring?

As we said, we have given the guidance for this year, 17% to 18%. At the time of lowering the guidance last quarter, we talked about one-offs which are hurting us. We also clarified that we are not structurally lowering our margin band. But in terms of what it is going to be next year, we would like to address that question when we give our next year guidance in April.

That is fair, but just trying to understand what's the benefit that you're expecting to get- is it 20 bps, 30 bps?

It's difficult to call out. Some of the one-offs we talked about, we have recouped the benefits . The restructuring process is still on. We have just started this exercise in this quarter. It's going to continue for next quarter and maybe it is going to spill over to Q4 also. So, it's difficult to exactly pinpoint the benefit we are going to get.

Ravi, we will definitely transparently call this out during the Q4 numbers because there are a lot of moving parts. So, we will definitely provide transparency around that.

Thank you. I understand that only part of it is employees and part of it is rentals and things like that. The other question is, a lot of people have been worried about the impact of AI on the existing book of business. If I understood correctly, the most impact is happening in the area of development where Gen AI plays a really significant improvement in productivity of coding. But in the more IT outsourcing side of things, whether it's infrastructure or application maintenance, do we see a significant pressure on the existing book of business?

I called it out in the Investor Day. We think the biggest impact is on the BPO business, which could be as much as 40% to 50%. In SDLC, 25% to 30% is what we think is doable with a lot of maturity. In IT Ops, application support and maintenance, it will be 10% to 15%, but it also depends on where you are in the automation journey. In the infrastructure and application operations, a lot of work can be automated by the traditional machine learning , AI and rule-based automation. But if you have fully leveraged the existing machine learning and rule-based automation, then incremental impact can be 10% or 15%. So, this is the direction and you know the mix of our business . Some of this will play out over a longer period of time. Like with software development, even if we are able to deliver 25% to 30% , but to scale for the entire 1000 or 2000 people in large setups, it take s significant amount of time. It could run into a couple of years. So, this productivity will be realized over a period of time. But certainly, there is a good headroom in improving either velocity or productivity, whichever way you want to look at it.

Thank you again. Are you seeing, where you have passed it on, is there enough elasticity in the demand to more than offset it?

I think the biggest demand elasticity is in modernization. While discretionary spend is whatever it is, we are seeing a number of programs which are coming up based on legacy modernization. Like we call ed out a very large legacy modernization program for Ericsson in our Investor Release and a very large European retailer as well. They were probably not even looking at these programs a year ago. With a lot of conviction and proof point on what can be done, they are much more open. And now these are close to $100 million plus programs, which is quite big from a discretionary spend perspectiv e. This is where the demand might open up as we see more and more success.

Thanks a lot once again One last clarification. I know that you do not include renewals in your TCV, but even with a scope expansion, do you even include the expansion of scope, like say, the renewal of Volvo, would any scope enhancement be factored into the TCV?

Yes. Any new revenue coming in scope expansion gets added into booking numbers.

Thanks so much. Best of luck.

Thank you. The next question comes from the line of Sudheer Guntupalli from Kotak Mahindra Asset Management. Please go ahead.

Hi, CVK and team. Congrats on a good quarter. As the largest IMS player globally, how do you see the need for enterprise data center refresh as we go through the AI upgrade cycle? And what would our play be in this value chain? Will we continue to focus only on the managed services piece or are we willing to now offer services on co-location and cloud service provider modes as well?

We strongly believe in an asset light business model. There are enough opportunities in the current world to do a very good asset -light business scale up. Our direction is actually going slightly in the reverse. We are going to build more IPs and monetize IPs. Of course, this AI Factory is all about servicing large, mega, & giga data centers that are being set up by large tech players. That in itself is a huge services opportunity. It is getting very specialized and, fortunately, we have one big program, which we are managing for one of the large tech companies. It can expand and there are at least 20 such players and sovereigns and some enterprises who are building this. So, that can be a big opportunity without having to invest in big assets and data centers and real estate.

Sure, sir. And just a follow up. So, if you look at the IMS cycles, they have their own rhythm, a little bit different from the app development and modernization. So, do you see the next up cycle in the IMS space beginning anytime soon, partly led by this CPU to GPU upgrade of the existing data centers?

Yes, we are seeing some traction. From an enterprise side, it's still not picked up in a big way. But there are some Edge use cases , where we see Edge Compute with GPUs becoming relevant. I think it's early days to look for a large cycle of enterprise upgrade of CPUs to GPUs.

Sure, sir. Thanks, and all the very best for the future.

Thank you, Sudheer.

Thank you. We have our next question from the line of Abhishek Kumar from JM Financial Limited. Please go ahead.

Hi, good evening, and good insight on our AI strategy and progress. I have one question on bookings. CVK, you mentioned that we are proactively cannibalizing the existing business and also in some of the SOWs that we have got renewal, the existing SOWs seem to have been offset through new scope, etc. Now, in that context, I just want to understand how relevant is the net new number? Because it is coming at the expense of renewals, so maybe some color on how has the overall deal bookings grow th has been? And if we can, going ahead, provide full TCV that would give us the full picture of renewal plus net new. That is the only question from myself.

We track renewals very closely internally, but we are not ready with the numbers to share. But from a growth perspective, it is the net new booking, which matters. And obviously, there is dependence on some ramp downs, which has been quite stable. We don't see anything unusual now. So, our net new booking will be a very good correlation for growth. Now, the renewal deflation, I call ed out last quarter in 8 of the 9 deals, we got additional business. This time, we called out among the top 10, only 5 of them gave us additional business. Other 5 of them had specific SOWs, which saw some deflation. But what is comforting is these are large clients of us. One segment of the work, there is some deflation. And there is a lot of book of business that we can consolidate with these large clients based on the proof points of proactively delivering AI-led productivity. I think that is a very good indicator for you to see how things are playing out.

Sure, maybe just quick follow up on this. So, net new has been around $2 billion for a couple of years. Now, compared to the past, where probably the deflation was not as much in renewal, should we look at slightly higher net new run rate to assume similar growth as we have seen in the past?

Yes, we had mentioned that we want to up our run rate from $2 billion to in and around $2.5 billion. That is something which we have been working with a lot of rigor and science behind it. We think we will get there soon. This quarter obviously was $2.6 billion without a mega deal. Pipeline is good. Our win ratios are good, and we are well set up for a $2.5 billion kind of run rate. Of course, this can always have spikes sometimes. But on a run rate basis, we feel good about achieving.

Sure. Thank you and all the best.

Thank you.

Thank you. Our next question is from the line of Vibhor Singhal from Nuvama Equities. Please go ahead.

Yes, hi. Thanks for taking my question. And congrats on a solid performance. CVK, just a couple of questions from my side. Just wanted to pick your brains on the auto vertical. I think the manufacturing vertical seems to have kind of lifted a bit from the last quarter, but where exactly do we see that? Do you still see weakness in the auto segment, especially in European markets? And what is our outlook for that segment, let us say within the next 2 -3 quarters, do you think the weakness will persist? I will just follow -up that to the next question if you can answer that?

Yes, auto vertical pipeline continues to look very strong. But decision making is just not happening. It is taking its own time. Some of the opportunities are replacing incumbents. So, they are all taking a long time. But given the stress in the industry, it is only a matter of time when we see some large outsourcing possibilities, but we have to wait it out.

Got it. So, nothing around the corner at least at this point of time as we see it?

Yes, I would agree with you.

Sure. Just my last question on the headcount numbers. Given, we were the first one to have started calling out our AI revenues, how do you see the overall headcount evolve, let us say for the company or for the industry, over the next, not just quarter, over the next 2 -3 years with the advent of AI? Do you thi nk we will be able to do more with less? Do you think the headcount number where we are today could actually be the same number we might be looking at maybe 2 or 3 years down the line with very limited net new additions from the current levels. If you can give some color on that, that would be really great?

Yes, it is directly a factor of growth. If you see our revenue in the last couple of years, we have grown 4% -5% and our headcount has not grown. So, that gives you a sense there is some non-linearity playing out. Even this quarter, in revenue growth and headcount, there is at least 1.5% or 1% difference. And when you take a year-on-year, there is a 1.8% increase in revenue per employee. So, that is the kind of upt ick that we expect to see. It should gradually improve as we create more platfo rms, more IP, more solution and Services-as-a-Software propositions with Agentic and other tools . We believe there is certain non - linearity. Even if you are able to achieve 1% differential every quarter, it will start adding up to a meaningful non-linear pattern.

Got it. Thank you so much for taking my question and I wish you all the best.

Thank you.

Thank you. Our next question comes from the line of Surendra from Citi. Please go ahead.

Yes, hi. Good evening, CVK. Good evening, Shiv. Good quarter. And thanks for all the details that you shared. I just had a couple of questions. Firstly, this was asked earlier, but you said that out of top 10 renewals, 5 had increased scope, increased ACV. So, possible to give a sense of what the aggregate trend for those 10 deals would have looked like? What kind of growth in ACV would it have translated for all of those 10 deals put together?

Surendra, we don't have the numbers ready, and we didn't intend to share. This was only to give a directional view of our proactive approach of pursuing the clients to implement AI in a very meaningful way. We are also tracking to get some comfort if our hypothesis of proactively driving this , will drive more mindshare and more wallet share. At this point, we feel confident, but the difference is not every service provider is being proactive. A lot of providers are defensive as well, and that in itself is an opportunity for us.

Well, fair enough, CVK. And is it reasonable to say that in the 5 instances where you gained share, it would have come from peers in the industry?

Yes. And maybe some things might have been in -house as well. In Financial services, it is a meaningful gain share, which is reflected in our 11% growth.

Understood. And last question on H1B, as you and your competitors, all try to localize and I understand that you are more localized than your peer group, but everybody tries to localize. Do you expect this to be some kind of a margin headwind as we go into next year?

Yes, it is definitely something to watch out for, because obviously this trend will mean some higher investments in training, local hiring and related aspects . From a wage perspective, there is very little difference, but for availability, we will have to see how we will manage it. Fortunately, the dependence is very low, so that way we feel comfortable.

Our next question comes from the line of Sandeep Shah from Equirus Securities. Please go ahead.

Yes, thanks for the opportunity. CVK, in one of the replies of the AI impact on the different horizontals, you called out it will take another 2 -3 years, because there are new things which need to be done before AI can be scaled up by enterprises like mode rnization and other stuff. So, in that scenario, is it fair to assume that in the next 2-3 years, AI can be additive in terms of demand rather than deflating? And the second question is on EBIT margin. This year, we have a lot of one-offs. So, why we are still not seeing that the next year we can be back to 18%-19% EBIT margin? What holds you back to commit that? Because we are doing better in terms of margin even in this quarter, including one -offs?

So, Sandeep, I think you were a little confused on this modernization thing. Modernization is an independent stream. What I mentioned about scaling in the existing SDLC landscape is to get a small group of people, fully use leverage, train them and measure productivity, ensure that we are getting the productivity and the entire change management for a large software development organization. That is wh y I am saying it is going to take a couple of years. Modernization continues to be a separate motion. A lot of customers are looking at modernization. This is definitely an additive in terms of overall revenue for the industry. Now, with all puts and takes, where will it land depends on what the portfolio one has and you have a sense of our portfolio, so that is broadly where it is.

Just to add, Sandeep, we are on track to recoup the margins we have emphasized in the last quarter, like one -off reversals and improved utilization. However, our clear focus is to cement our position as industry growth leader during this tectonic shift in t he industry. And to that end, we will prioritize investment in AI to help us grow with disciplined margins. As mentioned earlier, we will call out the margins when we do our FY27 guidance in April.

Thank you. Ladies and gentlemen, we will take that as our last question for today. I would now like to hand the conference over to Mr. C. Vijayakumar - CEO and MD- for closing comments. Over to you, sir.

In closing, we are energized by our performance in the quarter gone by, and we are confident of our trajectory for the rest of the year. Thank you for your continued support. Wishing you and your families a very Happy Diwali and joyous festive season ahead. Good evening and take care. Thank you.

Thank you. On behalf of HCLTech, that concludes this conference. Thank you all for joining us. You may now disconnect your lines. (This document has been edited for readability and is not a verbatim record)