Shares of HCL Technologies Ltd rose by 8.6% after it announced better-than-expected results for the March quarter. Both revenue growth and profitability were above consensus estimates.

Revenue grew by 5.1% sequentially in dollar terms, much higher than consensus estimates of a 2-3% growth. Volumes grew by as much as 7.2% sequentially. Besides, operating margin fell by 1.4 percentage points, while the street was expecting a larger decline owing to the company’s larger exposure to the European region. Around 30% of the company’s revenue comes from Europe, and with the pound and the euro appreciating by 6-7% last quarter, analysts were expecting a slightly larger decline in margins.

While the results were better than expected, they alone aren’t responsible for the sharp jump in HCL’s shares. The shares had underperformed considerably since it announced its December quarter results, which came as a disappointment as revenue growth and profitability fell short of its peers. Since then, the company’s shares have underperformed and its valuation discount to Infosys Technologies Ltd widened to more than 37% just prior to the March quarter results announcement.

The high volume growth and relatively steady margins seem to have addressed the markets’ concerns, and hence the sharp rise in HCL’s shares. The valuation discount to Infosys has now narrowed considerably to 32%.

For the past four quarters, its infrastructure management services business has played a large role in driving overall growth. The business accounted for 20% of its total revenue on an annual basis, but accounted for 55% of incremental revenues in the last four quarters.

When compared with its peers, HCL has leveraged well on the business, but some analysts are concerned that growth in this segment can be lumpy at times, owing to a hardware component included in this service. The segment has grown by 15%, 7.8%, 14.4% and 25.4%, respectively, in the last four quarters.

In this context, it’s heartening to note that the engineering and research and development services division (19% of total revenue) grew by an impressive 11% last quarter. At least it’s not just one segment that’s driving growth. Having said that, the enterprise application services segment, which captures the performance of the Axon business HCL acquired in end-2008, hasn’t performed as well. This segment grew revenues by just 0.5% last quarter.

According to an analyst, for HCL shares to be re-rated, the Axon business needs to turn around. But even while the wait for that continues, the fact that HCL is the cheapest stock among top-tier companies should lead to some outperformance in the near term.

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