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HCL Technologies Ltd
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Good day, ladies and gentlemen, and a very warm welcome to the HCL Technologies Limited Q3 FY '19 Earnings Conference Call. [Operator Instructions] Please note that this conference is being recorded. I'm now glad to hand the conference over to Mr. C. VijayaKumar, President and CEO of HCL Technologies Limited. And over to you, sir.
Good evening, and good morning to all of you. Welcome to our commentary on our third quarter performance of fiscal '19. Today, I'm joined by our CFO, Prateek Aggarwal; our CHRO, Apparao; Darren Oberst, who is our P&P business; Kalyan Kumar, who's our CTO; and Rahul Singh, who is Financial Services. Let me start with a quick update on last quarter's performance. As you would have seen, we delivered solid revenue growth of 5.6% quarter-on-quarter and 13% year-on-year, and a consistently good margin performance of 19.6%, which is within our guided range. In terms of deals booked, this is the second quarter within the current fiscal where we recorded another new high, primarily driven by Financial Services, Technology & Services vertical and manufacturing verticals. Our year-to-date booking in FY '19 is 40% more than the booking in -- for the similar period in FY '18. We brought home about 17 transformational deals, reflecting a broad base of verticals, services and geographies, which will contribute to our future organic growth. From our Mode 1-2-3 perspective, Mode 1 grew 3.9%, Mode 2 grew by a whopping 13.1% and Mode 3 grew 6.2% in this quarter. Our Mode 2 business crossed a milestone of $1.5 billion run rate. Two years back, we were about $890 million. We've had a stellar cumulative annual growth rate of greater than 30% in our Mode 2 offerings. Our combined Mode 2 and Mode 3 revenues now constitute 29% of our revenues. Before I get into a little more detailed business commentary, I want to tell you how well HCL is prepared to address the healthy demand environment for technology services that we're seeing in the market today. Our investments over the last 10 years in establishing global delivery centers outside of India and being close to our clients gives me a lot of confidence in our ability to service the accelerating demand. Today, we have 134 centers outside India and 61 centers with capacity of 100 plus and some with 1,000 plus. Of this 61 centers, 23 are in U.S., positioning us well to service the demand in our largest market. We also have one of the highest localization ratios in almost all geographies. This helps us address the fluctuating supply and demand scenarios that arise due to economic, geopolitical and other broader macro trends. We're also continuing to invest aggressively, both in training and workforce, on emerging technology and injecting fresh talent, both in India and in delivery centers across the globe. In Mode 1, our Infrastructure Services business delivered a solid double-digit sequential growth of 10.4% quarter-on-quarter and 16.5% year-on-year. A pickup in growth in Infrastructure business is in line with our expectations. The numbers reflect the view we've been sharing with you over the past few quarters. Our Engineering and R&D Services business grew 5.1% Q-o-Q and 17.4% year-on-year, which is also consistent in solid performance. The growth momentum was enabled by scaling up of some of the large transformational deals, which have moved into execution phase. I must call out a large deal we signed in Financial Services this quarter, which has a combination of business services and IT services. As a part of this engagement, we've been selected to manage end-to-end reconciliation services as well as design and implement future state operating model to enhance process efficiency and provide superior client experience. RPA and process-led transformation are creating a differentiated positioning for us in integrated deals. In Mode 2, our team of investment and innovation continue to keep us ahead of the game. In our Digital and Analytics business, we continue to see strong acquisition, and that's reflected in the double-digit growth that we've demonstrated in Mode 2. We are seeing significant increase in scale digital-led RFPs and conversations and an increased demand for ASM and AD deals. You would have read about our preferred services partnership with Broadcom signed early December. This deal will enable Broadcom's 600-plus enterprise customers to have preferred access to HCL's technology expertise, including our digital transformation, security, cloud and infrastructure portfolios. We've also signed a deal with one of the world’s leading consumer product companies for Infrastructure and Engineering Services, S/4HANA support, automation and migration of workloads to cloud and leveraging the overall HCL's cloud management platform. We were selected by one of the top global consumer credit reporting agencies to provide technology-led integrated digital operations and application support for multiple business clients and a digital omnichannel ecosystem to provide superior client experience to the own customers. On Cloud Native business, as we've pointed out earlier, cloud is becoming a critical deal broker for us in both infra apps and integrated deals. We are working very closely with an ecosystem of partners representing hyperscalers, like Google, AWS and Microsoft; hybrid cloud enablers, like VMware and IBM; and Cloud Native platforms, like Pivotal and Red Hat. We're also seeing the fast ecosystem evolving across our partnership with SAP Cloud Microsoft Dynamics, O 365, ServiceNow and Salesforce. IoT WoRKS, along with core engineering, is helping us enter niche spaces in industrial and manufacturing clients, and continue to bring home many interesting and innovative deals. In this quarter, we launched, in partnership with Impinj, a new RFID-led IT asset tracking solution that helps enterprises realize significant cost savings and operational efficiencies in tracking and managing their IT assets. This quarter, we were also rated as a leader in the Forrester Global IoT Wave. This is the first time Forrester has done an assessment on IoT services, and we are happy that HCL is the only Indian-origin service provider to be rated as a leader in this analysis. Cybersecurity is becoming a sweet spot in many of our transformational deals and helping us differentiate in our client to value propositions. In Mode 3, our revenues grew 6.2% quarter-on-quarter in constant currency. And for the fourth straight quarter, our Products And Platforms business released a set of HCL-branded products. We are on a roll with our Products business, further establishing HCL as a leading global technology company. Our organic IPs are also continuing to move in the right direction, as we incubate ideas across technology and vertical domain opportunities. Also the top headline on this business was a deal that we announced to acquire select IBM products for $1.8 billion. This transaction is expected to close by mid-2019, subject to regulatory approvals. This and our other recent acquisitions have been well received by our market analysts, existing HCL clients and acquired future clients. On the organic IP side, our DryICE portfolio focused on 3 core areas, autonomic, service orchestration and business flow monetary, and is now being recognized as the AI foundation for our clients' enterprise solutions. From vertical perspective, core verticals grew greater than 20% year-on-year. Energy, Utility and Public Services posted a decent 8.1% year-on-year constant currency growth. FS and Manufacturing had a muted performance on a year-on-year basis, which is expected to reverse course and improve in 2019. FS witnessed, as we had pointed out earlier, a couple of client-specific issues in Europe, which we believe will settle down in 2019. In terms of geographies, we have delivered a double-digit growth on a year-on-year perspective across all geographies. Even ROW has delivered a double-digit growth, excluding India. So all geographies are growing well, in line with the overall growth of the company. A big part of our growth in the U.S. came from Life Sciences, Retail & CPG, Telecom and Technology Services. I also want to take a minute to talk about what we saw and shared with the global community at the World Economic Forum in Davos last week. We unveiled our theme of HCL 2030, where HCL provides the platform, together with our ecosystem of customers and partners, to debate and create the future of business and society at the intersection of technology and humanity. I invite all of you to go through the information on our website and social channels to get a more in-depth perspective. Overall, it's been a very satisfying performance. I'm very confident that HCL has got a great mix of services and products that are well positioned to address the needs of the global enterprises. As we move forward, we expect to deliver revenues for FY '19 around the high end of our guidance of 9.5% to 11.5%. With this broad commentary, I'll request Prateek to provide a little more details on the financials of this quarter.
Good evening, and good morning to all of you. I'm not going to repeat what's already covered in the investor release that we did earlier today. I'll focus on some of the key metrics, like cash EPS, return on equity and return on invested capital. We believe these are very important numbers, and I want to be clear with the definitions with all of you. So starting with cash EPS, we have taken the net income, plus all -- added back all the noncash items in the P&L and reduced the deferred income taxes, the MAT that we pay here in India, the minimum alternate tax, so that is what has gone into the numerator of what we call cash EPS. The denominator is the number of diluted shares, like in EPS, and that is how the INR 82 per share has been calculated for the last 12 months, which is basically calendar year 2018. And that INR 82 a share is increase of 11.4% over the calendar year 2017 number, and that's a number we will keep -- we're talking about as we move forward. I think that's a very healthy number that we should keep track of. The second metric, return on equity, is well understood, I think. But for the purpose of completeness, the numerator is the profit after tax, the net income number. And on the denominator, we have the total shareholder equity, and we are taking the last 5 quarter average to basically do that calculation for return on equity. We continue to have a 25% plus return on equity over the last several quarters. And this quarter, the -- for the last 12 months, the number is at 25.1%. The third metric I want to call out is return on invested capital. And the formula we are using there is the numerator is EBIT after tax, so EBIT multiplied by 1 minus the effective tax rate. And the numerator, again, on a last 5 quarter average, is equity, plus long-term debt, minus the treasury investments. So that is how the number of 28.7% is calculated and that's a healthy close to 29% return on -- capital that is invested in the business, leaving out the treasury investments. The other highlight I would like to call out right upfront is the $0.5 billion of EBITDA for the quarter, which is $2 billion run rate EBITDA on an annualized run rate basis. Quick color on the margin movement on a quarter-on-quarter basis. So we were at 19.9%. We are at 19.6% this quarter. We did have a benefit of about 15, 1-5, basis points this quarter based on the exchange rate movements across various currencies. And therefore, 45 points is really what we lost largely because of the wage, the scheduled and planned wage increases during the quarter, offset, to some extent, by the productivity that we generated during the quarter. On the payout ratio, we continue to be at 50% plus. As we have stated several times before, we continue to have a capital allocation policy, which talks about a payout ratio of 50% plus. And -- for -- including the buyback that we did at the beginning of this quarter, in the beginning of October month, that adds up to about 52%. And the last thing is on the hedge book, we have a $2.1 billion hedge book, about $0.5 billion of balance sheet hedges. The balance, $1.6 billion -- close to $1.6 billion of cash flow hedges. With that, operator, we can open the line for questions.
[Operator Instructions] The first question is from the line of Ankur Rudra from CLSA.
Maybe on the beginning of the year, when you were check out for the guidance at 9.5% to 11.5%. I think, at that time, you've highlighted a breakup between what you thought would have been organic growth and inorganic growth. Could you maybe elaborate where is -- based on your new target, where is the breakup of organic and inorganic? How has it progressed over the -- from beginning of the year to now, perhaps. your organic growth is accelerating?
Yes, Ankur. Ankur, the guidance, when we gave it right at the beginning of the financial year, we said, if you take the midpoint of the guidance, 10.5%, that was kind of evenly split between organic and inorganic. As the year has progressed, that inorganic portion has actually trended a little down, more due to the timing factor, practically speaking. And -- so you see what would just sort of round out the rough edges, it would maybe be around some 5% kind of a number is what you're talking about inorganic. And now, since our revised guidance, with 3 quarters under the belt, is towards the higher end of the range. And if I was to sort of just -- for number purposes just say somewhere between 11%and 11.5%, the balance bleeding out 5%. So 6% to 6.5% is therefore where the inorganic range would lie.
Okay. That's helpful. Maybe, CVK, you could elaborate on -- you'd mentioned in your commentary that this is one of the strongest deal wins that you've seen so far. I think you've said it a few quarters ago as well. But it sounds like there's more optimism on growth momemtum given the performance this quarter and the guidance for last quarter. What has changed now versus the last time you saw based on deal win?
Yes. I think, Ankur, this is the second time we are calling out that it's the highest booking in this fiscal. And we had called out once in the last year as well. So if you look at the last 5 quarters, we had 3 peaks. And each of the peaks have been higher than the previous peak. So it's a good enhancing curve that I can see in increasing bookings, and it's been driven by performance across geographies and service lines. Of course, in this quarter, one large deal in Financial Services, which is a combination of technology and business services is what is the -- contributed to the peaking again on the booking side. And our pipeline also is at the highest. In spite of closures, we have built more new pipelines, which is also helping us. When we look at the overall pipeline -- qualified pipeline, it is again at the highest level. And I do believe, our booking performance and the growth in the next quarter would also be good based on what -- all what has happened. And overall, I think it's -- I think our mix of services, while we continue to invest and grow our Mode 2 services, we have not lost focus on our core Mode 1. And there is so much of opportunities to bring in more automation, to have a very differentiated end-to-end IT services solution. And that's also generating a lot of interest and there is -- that's also reflected in the pickup in our core Infrastructure business. And our Engineering business is also doing well, a couple of quarters of very good growth. So all our business is setting us up quite well to have a great year-end. And obviously, that forms a tailwind to FY '20. So I think, broad-based optimism, it's really based on all these things that we are seeing on the ground in terms of how we are executing our conversion ratios and how well our proposition is received. And what I'm most excited about is a 13% quarter-on-quarter growth in our Mode 2 services. Pretty much, all of that is in the organic growth, which means we've added substantial revenues in the new services that we've launched. And it's a combination of digital...[Technical Difficulty] So Ankur, I don't know where I dropped, but broadly, I think, we're very optimistic due to several things in terms of our momentum in core services, momentum in our Mode 2 business. All of that is giving us optimism.
Sure, sure. That's helpful. I just had one follow-up in terms of acquisition. On your deal that you'd highlighted in the December, the acquisition of IBM software assets, IBM in their quarterly earnings last week highlighted that these software assets, as the part of the deal were -- had booking revenues of $1.2 billion. And I believe in the December, you had highlighted that your incremental revenue target was $650 million. Perhaps, you could explain why such a big difference. What are we missing?
Okay. I guess, it will be a good question to IBM than us, but it could be due to number of factors, of course or, maybe, there is a good surprise waiting for us. We don't know. At this point, what we believe, we will deliver $625 million of incremental revenue. Potentially, I really don't want to comment on what contributed to the number that was quoted in IBM's conversations at this point.
The next question is from the line of Srini Rao from Deutsche Bank.
I have 2 questions. First, just going back on the deal, a couple of them, if you can highlight what is the state of integration. One is your Actian acquisition, which you did some time back. So has that been partly responsible for the IMS growth, which you have mentioned? That would be helpful if you can talk about that. Secondly, for this quarter, I believe you would have the H&D acquisition contributing to the numbers. So any feedback on how much that impact would be solid at quarter-on-quarter? Maybe that would be helpful. And finally, on the IBM acquisition, if you have any more feedback to share on. I mean, you had given us any details, what you call, color on how the various [ passes ] of portfolio you're working. Is there anything, which you think has changed or they are trending in line with what you were expecting when you took over the acquisition?
Actian has 0 contribution to the Infrastructure business. It's a product business, so all of the revenues is consolidated in our Engineering Services and in our Mode 3 business. So almost all of the -- all of Infrastructure business is driven by a pickup in 2 or 3 big deals that we had announced, some big and some midsized deals. The H&D acquisition contributed to approximately 1% of our revenue growth this quarter, $21 million approximately. And half of that has gone into Infrastructure business. $11 million or something like has gone into -- something in that range has gone into Infrastructure business and the rest would be in our -- a little bit in the apps and little bit in the Engineering business. In terms of all these acquisitions we're doing, like C3i, we almost finished 3 quarters. We're into the fourth quarter. It's -- the projections are pretty much on track. All the synergies, as we had expected, we are in the process of integration, providing -- creating some level of optimization as well as some early signs of some access in synergies that will come out of our incremental access to Life Sciences and Consumer Services. Actually, the C3i acquisition offers one more unique opportunity with the acquisition of Unica, which is a marketing automations product, and the marketing operational services, which C3i was delivering to several CPG customers. It's just made a perfect sense to create another service offering for marketing automation and marketing as a service. And I think we will have some compelling case studies as we get into market for the overall marketing automation deals. So there is a nice set of synergies playing out there. Actian acquisition is very well on track. This is the first full quarter of Actian. We had closed it sometime in middle of August, so there is a little bit incremental revenue, $5 million, $6 million incremental revenue this quarter of Actian. And H&D has just begun, very early days, but we are pretty confident that it will -- it has given us a significant footprint in Germany, and that should help us really scale our business in Germany. In terms of the IBM deal that we have announced, it's on track for closing mid of the year. June, July is the time frame when we expect it to close, and revenues will start flowing subsequently.
The next question is from the line of Diviya Nagarajan from UBS securities.
Two questions, CVK. You've spoken about how there's been a surprise on the organic revenue. Could you run us through what's really driving that surprise? How much of it is really the technology transformation demand in the market? Was this bottom up initiatives that you've put in? That's question number one? Number two, Mode 2, as you'd pointed out, is now trending very nicely in terms of revenue at about $1.5 billion. When should we expect margins to kind of start scaling up? Are we still in deep investment in Mode 2? We seem to have dropped over 10% margins there. So just trying to understand what is the ramp-up on margins on Mode 2.
Yes. You see these Mode 2 margins, trying to look at it quarter-on-quarter, is a little difficult for us to predict because when we invest in PoCs, we invest in skill additions and -- see, there are some areas where we have strong capabilities in -- like design thinking, customer experience, organizational change, management. However, in some areas and such, we believe, we need to continue to invest and create better capabilities and scale and also presence in some additional geographies. I think the investments would be, more or less, similar to what we have done in the past. And we -- you should see some increasing margins. But I would not really count on a quarter-on-quarter improvement. But I think FY '20 should deliver better margins in Mode 2 than more -- than the current margin levels. And talking about your question on what has helped pickup of the organic business. I think we traditionally had very strong presence in Infrastructure and Engineering Services. But both of them -- I mean, Infrastructure Services I said was going to pick up in the first quarter because we had a -- in 2017, we had some different booking, and there was some softness. And we were very clear that was going to impact us for some time. And then it was quite visible that we will recover from the first quarter of FY '19. And that's why last quarter was good and this quarter has been a blockbuster quarter for Infrastructure business. And we continue to feel positive, in spite of this 10% quarter-on-quarter growth. The next quarter is also going to be good, which will give us a very good exit run rate, even in the Infrastructure business. And we will only continue to build on top of it. And of course, Engineering Services, while -- again, there is a big deal momentum, it's somewhat patchy in Engineering Services, but a lot of technology companies are transforming some of their platforms. And as we had mentioned in the earlier calls, ISV is becoming -- converting their platforms into SaaS, cloudification of some of the software products. All of that is creating a good momentum across multiple customers. And we are quite embedded in that vertical segment, and we are really capitalizing on that to grow.
Got that. And just a follow-up question on how you're seeing the macro impact in customer conversations. Is there any impact that you've seen so far? And what's your outlook for how spending is likely to build up in 2019?
Yes. So I think, from a micro perspective, generally, there is a lot of conversation around a slowdown. And in fact, we have heard some customers talking about impact to their business due to a slowdown in China and things like that. However, there is one field, which is very strongly coming across is -- they are not going to cut down on the digital transformation spend because a lot of them are seeing some early success in their digital initiatives. And they strongly believe that they should continue their digital transformation spend. So I do believe most forward-looking enterprises are not going to cut down on digital spend, in spite of some pressure in their business because they believe this is no longer a discretionary spend, and it is very critical for them to continue to evolve their business model. The second way to look at it is the overall outsourcing penetration is less than 50%. There's a lot of customers who have not outsourced in a big way, and that's also true in the markets where we have played. So any slowdown will only kind of accelerate them towards looking at more efficient ways of delivering on the business services. So whichever way you look at it, I feel pretty confident, whatever is the emerging macro situation, our mix of services and the differentiation we have in both the efficiency-led services and the transformation-led services, will help us weather the storm in either of the business situations.
[Operator Instructions] The next question is from the line of Surendra Goyal from Citigroup.
If we could just had a couple of question. Firstly, on Financial Services, are these client-specific situations going to take some time? Or are we kind of done with the major part of the ramp downs?
Surendra, I think we are close to the end of whatever ramp downs. I do believe FY '20 will be good, and we will not -- and I think we don't expect the situation to continue into FY '20. However, I want to highlight that we have very good broad-based momentum is Financial Services outside of couple of client-specific situations in Europe, and that's what is giving us confidence that the broader trend and broader success is very good, and a lot of customers are growing. But obviously, some of these clients are large clients. And it has a disproportionate impact to the overall revenues. And I see that moderating as we get into '20.
Sure. And just 1 follow-up on the Engineering segment. So if I take out some of the acquisitions and again, taking out some of the IP deals and I know you guys take IP deals as organic, but I am just trying to understand that this was a segment where there was always a believe that this could outgrow the market. And if I take all this out, to me, it looks like a little light over the past few quarters. Is that understanding incorrect? And like, any thoughts on that would be welcome.
Yes, I think -- see one trend in Engineering Services is, when we had some structured reductions over the last couple of years in some of the big deals that we had signed in 2015 and '16, these were all year-on-year planned reductions that we had, which I think GH also mentioned in one of the calls earlier. So in terms of getting new business and our ability to win, there's lots of work happening in technology transformation. And we are definitely a participant in that, and we're gaining from it. But, of course, some of that got offset by some structured reductions that we have in large deals, which we did a few years back. I think some of that is also stabilized. So we should see a good momentum in the core Engineering Services as well moving forward.
The next question is from the line of Sandip Agarwal from Edelweiss.
So, CVK, I have 2 questions, which a part of them you've already answered. So first, extending the question, which was asked by the earlier participant, while you mentioned that, probably, you are at the back end of the ramp down. Two, if you can give little bit more clarity that let's say, out of 100% of that business, which was shrinking, are we at 80%, 90% of the business, which has already stabilized and only 10%, 20% is left, which needs to be stabilized, and if it stabilized, do you see a perspective or opportunity to grow there? And second question, while, we classify business in Mode 1, 2 and 3, and we know broadly where digital gets classified, is there a sense that where you can tell us approximately, what kind of proportion will digital exactly be within this division? Overall proportion would be how much? And what kind of growth we can predict? Because the question is that in -- it is very hard to do a comparison to understand where we are going on the overall growth. Obviously, our business is slightly different in the MSI versus others. So it becomes very difficult to understand apple-to-apple comparison versus the industry. So if you can give us some comparative analysis, and this is not -- if not possible in the numbers, at least, if you can tell us how to relate to that?
Yes, Sandip. Rahul, why don't you take the first one on financial services, some specificity around ramp down, and then I can take the broader question.
Yes, sure. Thanks, CVK. So if -- I think in financial services, we are seeing 2 trends very specifically. One is that most of our clients are adapting digital in a big way, and essentially what we call as Mode 2. So all clients, where we have a digital footprint, Mode 2, we've been seeing good growth. And that has been happening through the last couple of quarters. Of course, the total appears to be muted in terms of growth rate because of 2 large clients, where we're seeing -- there has been a declining trend. Correct? So it was offsetting. So while there was underlying growth happening in the digital work, it was being offset by declines happening in 2 large accounts. So therefore, there was a muted growth all through the year. Now if you were to project it out into the future, we think we have reached the end of the cycle in terms of the decline on the 2 large accounts. So hopefully, that should be part of the past now. Also as CVK mentioned, we've had significant bookings this year, especially -- specifically in this quarter. And the bookings are on the back of a lot of transformational work that the customer is expecting from us, including in what we're calling as integrated deals. Integrated deals essentially mean, where the customer has brought business process and application services as a joint offering from HCL, where the digital content and the ability to provide a higher amount of outcome is higher. So we've seen some large wins of that also happening this quarter and also in the previous quarter, so that will go -- do good for us as we go ahead. So I think in summary, to answer your question, the 2 large accounts have been causing some headwinds for us in the last 4 quarters that has more or less come to its end, and the digital and integrated nature of new business coming in should hold us in good state in the future.
Yes, yes. And, Sandip, just talking about digital and how should you be looking at our digital growth. I mean as far as definition for digital is evolving and as we see some of the industry players classify the digital revenues. And if I were to just compare our services and product footprint, we have digital revenues in Mode 1, 2 and 3. While all of Mode 2 is definitely a 100% digital, but there are several components in Mode 1, which is significantly new technologies. I'm not just talking about a private cloud but a whole lot of work that we do in the -- in implementing software-defined data centers, digital workplace, SDN, all of that is just modernizing the landscape into new technologies, which is available, but we classify them as Mode 1. But there is a good component of what industry is calling as digital in Mode 1. Similarly, in Mode 3 all our automation products and lot of SaaS components in Mode 3, they all -- the industry is broadly classifying them as digital. So at this point, I mean, I would really encourage all of you to look at the overall growth and our Mode 2 is primarily, we've classified a few technology and few solutions, which we believe are highly scalable, where there is very big market opportunity, and we've created some service offerings, which are -- which we are defining as next-generation services and put them under Mode 2. In terms growth, Mode 2 should continue to see similar growth rates because there is a lot of momentum in the market. And Mode 1, largely led by Infrastructure Services, I think, we've had some challenges earlier, but I think, we are -- those challenges are behind us. Our bookings have been good in infrastructure business, and our pipeline is good and there isn't some new element, which is coming in. Our renewals have been on track. The level of productivity benefits that we expected to provide our clients are -- that was also more or less stabilized. So I see a good prospect ahead for our Infrastructure and Engineering Services. So overall, quite bullish about the growth ahead that's possible.
The next question is from the line of Ashwin Mehta from Nomura.
In terms of -- one question that I had was on our guidance. Like the fourth quarter requirement at the top end is just about 1.7%. So are there any factors that are holding us back from raising our guidance?
I don't think the math is right. Possibly, I think the way we look at it is, if we are flat, we will be at 10.8%. And if you get to 2.4% growth, we'll be at the higher end. So Ashwin, I am not sure if we're missing a point here.
Okay. Sure, I'll maybe cross-check that. The second question is in terms of the revenues from our earlier-signed IT partnerships. Are all of them there in the revenues, or there is something that's left to be integrated or paid for?
Darren.
Yes, so all the deals at this point have fully transitioned. They are reflected fully in the revenue.
Okay, okay. And just the last one in terms of there's a $48 million payout for IPR this quarter. What does this -- is that some incremental investment or is it related to the earlier IPs?
So Ashwin, those numbers are basically some deferred payments that we have on some of the earlier IPDs. To your earlier question, there is some small amount still left for some of the last deals that we did, practically, the ones that we did in June and December. But otherwise, most of it is already been paid for.
Okay.
In the cash flow, obviously, you -- in the cash flow, you obviously see it as and when the payments are made.
The next question is from the line of Ravi Menon from Elara Securities.
Just wanted to check about the seasonality of your ICs. How much do you think that would have helped your revenues for Q3? And should we expect that to be a slight headwind going into Q4?
Sure. So there typically is seasonality in the Product business. The seasonality was not as pronounced in the December quarter, as we've seen in some prior years. Some of these 6.2% quarter-to-quarter is also a reflection of the fact that we had a pretty strong 2Q. So in terms of the seasonality, we would ordinarily expect the weakest quarter to be that September quarter in the summer months typically, pretty weak in terms of capital spending on new software licenses, then coupled with very strong December. In this case, what we've experienced over the last few quarters, it's probably an average seasonality in the December quarter, it was not as strong, as we've seen in the past, combined with actually a stronger September. So where we had expected, probably, more weakness and more of the seasonality effect in 2Q, we didn't experience that. In terms of what that means going forward, I think we would expect some seasonality to continue. As usually, the first calendar quarter of the year, which will be our fourth quarter, is typically a little bit weaker. At this point, that's probably all that we can say. We wouldn't expect it to be a big effect, but there probably will be some small normal seasonal effects [ to weather ] this quarter.
Great. And secondly, on I think, CVK, you spoke about the productivity gains for IMS about being largely behind us, so should we see closer link between revenue growth for IMS and headcount as well?
Very marginally, because the business is at a certain scale, and we probably have significant headcount in Infrastructure business, so I expect the margins in Infrastructure business to be stable, and I don't expect it to go up due to the loan linearity and things like that.
All right. Great. And one last thing about utilization attrition, close to record high, should we expect utilization to start coming down in FY '20 and factor some margin impact towards that?
Actually, we don't track utilization so closely because if you see, a very large percentage of our business comes from managed services. So I would not read too much into that number about peaking utilization. I don't know if, Apparao, you want to comment anything.
No, I don't think so. A marginal fluctuation of 50 basis points could be there. But we don't expect dramatic changes there.
I think, apart from the utilization number, I think, Ravi, what you should look at is 3 consecutive quarters of net hiring of about 4,000 people. I think that reflects the confidence that we've been talking about on the growth projection for the fiscal.
Keep in mind, some of the headcount addition this quarter was also due to integration of H&D.
All right. And the transformation deals in financial services, you talked about the [indiscernible]. So is that platform something that we can use potentially for other financial services clients as well?
We don't want to and we're not allowed to talk about the details of this deal. So I want to leave it at this. I won't be able to give you more details, Ravi. Sorry.
The next question is from the line of Viju George from JP Morgan.
I had 2 questions. I think you had mentioned that a large part of your Mode 2 is digital related, but the same time, you also asked us not to compare your digital contribution to that of peers, point taken. But given the relatively tepid growth in apps, I'm just wondering, whether your digital hits a lot of offerings outside of apps, is that the right interpretation? Maybe, it hits IMS or whatever? Is that true? Because generally, we thought that apps is getting a revival because of digital.
See, there is basically 4 offerings. Almost all of Digital and Analytics 100% was into apps. And -- so the cloud and security are still smaller components because we're really calling out public cloud components only under Mode 2 cloud. And IoT is also a small component. Some of IoT revenues would get classified under Engineering because of the nature of the work that we do and a little bit in the apps. So in -- overall, I would think a big part of Mode 2 would be in apps and smaller part will be in infra. I don't have the exact number, but maybe sometime later we can provide you that. However, if you look at our apps business, we had 3 components. One is a traditional ASM AD, less of AD, traditional ASM; second one is on the packaged apps; and the third is largely around modern applications and digital analytics and things like that. I think the first 2 components. The first one is more or less flat. We still have some declines in the SAP component and these are being overcompensated by what we're doing on the digital side.
Sure. So then, CVK, is there a ballpark number that you can put to what contribution comes from the first 2 sub-segments within the overall apps? Would it be a large portion of the apps piece?
I don't have the exact numbers. Maybe, we could provide you that offline, Viju, if you don't mind.
No problem. And the other question I had was on this observation that your bookings Y-to-D is 40% higher than the same time last year. Now I don't know what percentage of this is renewals versus new. But given the confidence that you're seeing that ramp downs are, sort of, largely behind us -- getting to be largely behind us. Does that mean that we should see a stronger correlation of this better booking growth into revenue growth going forward?
So 2 points. I mean, as always, our booking numbers does not include renewals. We keep renewals outside booking. So all of this is growth in existing customers or net new bookings, that's number one. Second one is, this is the gross bookings, the new bookings that we do that could always be some accounts where there could be declines. So that somewhat offsets, create a net booking number. But since it is a healthy 40% higher than last year, it definitely augurs well for an increasing momentum from an organic growth perspective.
The next question is from the line of Sandeep Shah from CGS-CIMB.
Yes. CVK, just on the higher end of the guidance, if I annualize that 2.4%, 2.5% ask rate, the annualized growth rate comes to close to around 5%. So is it fair to say directionally entering into FY '20, your organic growth rates could be in line with some of your large peers, directionally, I am saying.
So you're doing the exit quarter into 4% and seeing what the -- what the growth that is already there?
Yes, so it comes to as big as 4.8%.
If we hit the higher end of the guidance, right, so...
Yes, yes.
Okay. There are lots of variables. We'll see how this quarter pans out, but I think, technically, what you're saying is right. I mean, we're going to exit strong, which sort of -- which is going to provide tailwind into FY '20 revenue growth and the bookings that we have done should also give decent incremental quarter-on-quarter growth. So I will leave it there, and maybe we should leave some things for the next quarter conference call as well. And, maybe, that is the time for us to get some more -- being more specific on what the FY '20 looks like.
Okay. Just follow-up to that, if you look at the growth pattern for the last 2, 3 years, there is a lumpiness in your business or a concentration to some of your traditional services, where the deal wins to some extent are lumpy as well as the productivity gains were hampering the growth. So going forward, you believe that these issues, to some extent, would be getting addressed because of the diversification? Point number A. Point number B, also you believe that the renewal pressure entering into FY '20 would be negligible, so these issues going forward will not be there in terms of volatility of organic growth, it could be a slightly stable scenario post-FY '19?
No, we cannot assure on a stable quarter-on-quarter growth. But if we look at the year-on-year perspective, I think it should be fairly stable, and I would say that. Productivity benefits, of course, I mean, there were some big pieces, which were there in FY '19, it'll be slightly lesser in FY '20. So all of that we will factor in when we provide you the guidance for the next year. At this point, we're very focused on executing and ensuring we have a strong exit. And also, the deal pipelines -- the pipeline is very good. And so it also depends on what kind of closures happen in this quarter. So we'll be in a better position to give you all the dynamics that goes behind FY '20 in the next quarter.
Yes, fair enough. Just last question. Prateek, just the book keeping. If I look at the licensed IPRs, which has been shown in the fixed asset scheduled, this quarter it is close to $1,245 million versus last quarter it was $1,188 million. So on a Q-on-Q basis, this capitalization has gone up by $57 million. So is there another deal, which we have done on the licensed IPR in this quarter?
No, Sandeep. There is no incremental or additional deals that we have done. I think somebody asked me this question last time around also. This is purely exchange related because we keep the books in rupees and as the fluctuation, I mean, just September-end was at INR 74 or close to that number. So if you multiply the number in September end by INR 74 and, kind of, divide it by the number whatever was the closing was December, that is where that number should be on a gross basis. Of course, we keep amortizing every quarter. So that reduction would be there in the net number.
Okay. Got it.
It's just exchange rates.
The next question is from the line of Nitin Padmanabhan from Investec.
So if I look at the Mode 3, this quarter excluding Actian, I think it's been a little soft despite seasonality, and I think Darren sort of mentioned the reasons for that. But that said, I think, if we just looked at considering that Q2 was seasonally better versus historic, it still appears that margin seems to be trending down every quarter in Mode 3. So I just wanted your thoughts on what's driving that. And what's been the experience over the -- in terms of products overall? And what's your thought process in terms of what proportion of this portfolio can you convert towards that Saas-based offering at -- maybe at some point?
So I think, don't read too much into these quarterly variations. I think it's too early to kind of start looking at the variation and profitability from a Mode 3 perspective. And in terms of how products are doing, maybe Darren can provide a little more color to all of you.
Yes, the performance of the products as an aggregate portfolio has been in line with and ahead of our expectations in our deals business cases. Of course, there are some variances on a quarter-to-quarter basis. Of course, there are some variances among individual products in that portfolio. But in terms of the overall trends, through the course of this year, the performance has been in line with what our expectations are. As I mentioned earlier, the Q1 and Q2 were stronger. They were ahead of those expectations. In 2Q, in particular, we saw the opposite of seasonal trend. We had a very strong 2Q. And that muted then some of the seasonal type that you would expect this quarter. This quarter was average, it was not an especially strong seasonal effect. So it wasn't as if we had one of those big hockey stick in the December quarters, which does happen sometimes in the product business. In terms of your question and in terms of rolling out SaaS, what we've communicated in the past, what remains our strategy is, really embracing a lot of architectural modernization as well as simplified commercial models around the products niche portfolio. And so where we're focused and what we're driving across all of these products is a containerization strategy, micro services strategy, really enabling these products then for deployment across multiple cloud environments. And in fact, we see that as a compelling advantage that we can bring to the market is just being agnostic, not trying to lock our customers into any particular cloud. And then, just supporting whatever their cloud choice is, including on-premises, more hybrid clouds or other options that we still see very strong demand in many of our enterprises choosing us to play that environment. So again, I'd probably reframe your question, but it's really about how do we continue to modernize and innovate across these products and bring the right type of cloud architectural principles across the portfolio.
Sure. CVK, what I was asking on the margins was that considering the positive seasonality in Q2, we did not actually see a bump in margins there, but over 3 quarters, it's just faded down. Are you suggesting that because there are investments involved in the initial phase, we should not look at margins for now? And that's why the seasonality didn't reflect in higher margins, is that how you want us to look at it?
I mean, last quarter was also -- I mean, we mentioned about some investments that we made. And even in P&P this quarter, as we prepare to, kind of, get control of the potential closures that will happen in the next quarter, there are some preparatory works and investments which are going on. I would take a more annual view on this. And even the overall seasonality of the P&P business, we've probably seen only one, and this is possibly the second cycle, and at a slightly larger scale. I would wait for a couple of more years to really, kind of, get a better grip on the seasonality in this business because it's also that mix of portfolios also which is very important to see, which one has seasonality, which one is more like a subscription revenue and things like that. So I think we'll learn as we go.
The next question is from the line of Dipesh Mehta from SBICAP Securities.
A couple of questions. Can you help us understand about -- or provide outlook for 2, 3 business verticals. First, about manufacturing, I think it premiered for quite some time, so, if you can provide this quarter some [indiscernible] indicator, so if you can provide some outlook there? Second about communication. Is it largely driven this quarter by acquisitions or -- we have seen some organic growth -- some significant uptick kind of thing? And how you look it going forward and the retail one. And the second question I have is about what kind of headwinds you see entering into calendar '19? I think broadly, you indicated positive effect, but if you can see some of the headwind as we enter into '19?
Okay. Manufacturing, based on the bookings that we have done, we do believe this softness will definitely improve. We should see better growth. Even in this quarter from a quarter-on-quarter perspective, we have done well in manufacturing, but I know year-on-year is a little soft. I think this will get addressed and I'm not concerned at all. The second one on retail CPG. I think, broadly the growth momentum is very strong. A lot of digital transformation work in the retail segment is what we are participating in a number of our clients and then some of the prospects. Which was the third vertical that you referenced?
Communication.
Communication, yes. Telecom communication -- I think this was -- there was no contribution from inorganic. It is all organic. And of course, the big part of it is contributed by the large deal that we had announced. However, there are 3 deals, 1 in Europe and 2 in U.S. One is an existing customer and 2 of them are new clients that we acquired. All of them got into full execution in this quarter. And that's why you will see a very strong quarter-on-quarter growth and year-on-year growth in telecom. And we had highlighted that this was something to be expected based on how we were looking at the market.
And the second, entering into calendar '19, what kind of headwind we are...
Broadly, I mean, as I think I answered the macro scenario, right, discretionary spend is really no longer discretionary in most areas. So the client projects that we are engaged in and in some things where we are willing. We feel it will continue to get the attention of the leadership of clients and they will perceive it to be very important for them. So I don't see that impacting us. And of course, if there is some slowdown, I do believe some of the efficiency led and robotic process automation and all the deals that we are winning around DryICE, all of that will only find some tailwinds if there is some softening in the economics situation.
So no company specific factor you foresee entering into '19, which can impact our growth trajectory?
No.
Understand. Last is about, can you help us what would be the expected tax rate going forward?
Dipesh, we would expect our expected effective tax rate to be around 21 to 22 percentage points.
Due to time constraints, that was the last question. I now hand the conference over to Mr. VijayaKumar for closing comments.
Yes. Thank you. And overall, we've had a fantastic quarter. And the bookings this quarter continues to give us the optimism and the pipeline continues to give optimism for the next year. So we look forward to talking to you in the next quarterly conference, which will also be our annual, and we will have an opportunity to share our FY '20 plans. Thank you for joining and good night.
Thank you. Ladies and gentlemen, on behalf of HCL Technologies Limited, that concludes this conference call for today. Thank you for joining us, and you may now disconnect your lines.