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Edited Transcript of HCLTECH.NSE earnings conference call or presentation 23-Oct-19 1:00pm GMT

Q2 2020 HCL Technologies Ltd Earnings Call

Noida Oct 26, 2019 (Thomson StreetEvents) -- Edited Transcript of HCL Technologies Ltd earnings conference call or presentation Wednesday, October 23, 2019 at 1:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* C. VijayaKumar

HCL Technologies Limited - President & CEO

* Darren Oberst;Corporate Vice President - Products & Platforms

* Prateek Aggarwal

HCL Technologies Limited - CFO

* Rahul Singh

HCL Technologies Limited - President of Financial Services

* Sanjay Kumar Mendiratta

HCL Technologies Limited - VP & Head of IR

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Conference Call Participants

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* Ashwin Mehta

IDFC Securities Limited, Research Division - Director

* Diviya Nagarajan

UBS Investment Bank, Research Division - Executive Director and Research Analyst

* Nitin Padmanabhan

Investec Bank plc, Research Division - Analyst

* Pankaj Kapoor

JM Financial Institutional Securities Limited, Research Division - Director of India IT Services and Software Equity Research

* Parag Gupta

Morgan Stanley, Research Division - Executive Director

* Sandeep Shah

CIMB Research - VP

* Sumeet Jain

Goldman Sachs Group Inc., Research Division - Equity Analyst

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Presentation

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Operator [1]

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Ladies and gentlemen, good day and welcome to the HCL Technologies Limited Q2 FY '20 Earnings Conference Call. (Operator Instructions) Please note that this conference is being recorded. I now hand the conference over to Mr. Sanjay Mendiratta, Head, Investor Relations, HCL Technologies Limited. Thank you, and over to you, sir.

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Sanjay Kumar Mendiratta, HCL Technologies Limited - VP & Head of IR [2]

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Thank you so much. Good evening, and good morning, everyone, and welcome to the earnings call and presentation of HCL Tech for the quarter 2 financial year 2020.

We have with us Mr. C. VijayaKumar; Mr. Prateek Aggarwal; Mr. Apparao; and the entire HCL leadership to participate at the call. We would be discussing the key result highlights and also making a presentation. And the first 2 slides would have Mr. C. VijayaKumar talking about the performance highlights for the year -- for the quarter, and then we have Mr. Prateek Aggarwal also highlighting and emphasizing on the robust performance for the quarter.

I now hand over the call and proceedings to Mr. C. VijayaKumar to take this forward. Thank you very much.

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C. VijayaKumar, HCL Technologies Limited - President & CEO [3]

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Thank you, Sanjay. Good evening, and good morning to all of you, and thank you for joining us for our second quarter fiscal '20 earnings commentary.

Overall, it's been a fantastic quarter for us. Our revenues came in at $2.49 billion, close to $2.5 billion. On a constant currency basis, there's a 6% quarter-on-quarter growth and a 20.5% year-on-year growth.

Our EBIT almost touched $0.5 billion, to be precise $496 million, which was again an 18.8% growth over the same period last year. The most important performance highlight is our EBIT margin came at 20%, which was close to 287 basis points higher than the last quarter and about 10 basis points higher than the same period last year. What's also very important is our Mode 2 and Mode 3 grew significantly. The mix now stands at 33%. In fact, 3 years back we've highlighted that our strategy will drive us to deliver 35% to 40% of revenues from Mode 2 and Mode 3 and a very rigorous execution of strategy helped us achieved 33% of our revenue profile in Mode 2 and Mode 3.

If you look at the revenue performance by geography and vertical, there are 2 cuts that we have provided. Additionally, we classified the IT partnership revenue and HCL software revenue as 1 client because almost the other revenues came from the royalty route from our technology partner. So they were classified under Americas, and they were also classified under Technology & Services vertical. But from this quarter, a lot of client contracts have been signed directly with us. So we have also provided a card where the customers are classified in their respective geographies and their respective verticals. If you are going to look at a like-to-like comparison, that's what you'll see in Slide 7.

Americas grew 5.5%; Europe, 7%; and ROW, a little over 7%. The highlights of the quarter was also that financial services grew for the robust 7.4% on the back of number of ramp ups in some of the existing clients and the project work that we had that's helped us grow 7.4% quarter-on-quarter. Technology vertical, of course, a lot of it was contributed by the uptick in revenue due to the HCL software business and other verticals also grew quite well.

In summary, 4 of the 7 verticals have had double-digit growth and the remaining 3 also had a good high single-digit growth.

If you look at Slide 8, this gives the character of geographies and verticals after classifying the HCL Software revenue under the respective geographies and verticals. What this highlights is our portfolio has become more diversified. If you look at our Europe contribution has gone up, it's now 28.2% of our revenue and Americas at the 64.4% and rest of the world is about 7.5%. What is very notable is our financial services mix has increased from 20-plus percent to 22.4%, which indicates that the number of customers for HCL Software are some of the large financial services clients and that gives us a good opportunity to deliver a more complete set of services and solutions, including software for a large financial services clients. If you look at other verticals as well, you'll see a pretty uniform increase. For example, Public Services has been a big uptick because a lot of government clients have been using the products that we acquired and that has given us -- the mix has increased on that segment as well.

Moving on from a business segment and mode wise performance. Our IT and Business Services, which is our infrastructure application, and Business Services grew 0.9%. On a year-on-year basis, it's about 17%. Our engineering and R&D services delivered a stellar performance. On the back of a very good revenue performance last quarter, this quarter, they delivered a revenue as well as EBIT margins of 5.4% constant currency quarter-on-quarter growth and EBIT margins significantly improved to be 21%-plus.

Of course, Products and Platforms was significantly helped by the contribution from the HCL Software business. Over $100 million came from the business, of which created a 57% quarter-on-quarter growth.

As I highlighted before, the Modes 2 and 3 contributes to 33%. What's also notable in our margins in mode flow has increased from the 13% range to 14%, and the Mode 2 revenue grew 3% quarter-on-quarter and about 36% plus from a year-on-year perspective. And Mode 3 grew 42%, delivering an overall 6% growth on a constant currency basis.

I want to move on to a few more highlights. A very important landmark this quarter was HCL Software business unit came to life with close to 15,000-plus customers across verticals and geographies. We reach out to these clients through multiple channels. We onboarded close to 1,300 business partners, over 1,500 sales transactions completed, which is a combination of renewals. When I say renewals, it's where the customers have been using our products, but we have to establish new contracts on HCL paper with almost all of them. So that was a humongous exercise and also several new license sales and this happened across the globe, close to 50 countries where we've transacted. Darren will provide a little more detail in the subsequent section on this.

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our Q2 saw 15 transformational deals. Last quarter, I highlighted that our booking was a little soft, followed by 3 quarters of peak. I'm happy to note that second quarter was also very good quarter from a booking perspective.

We continue to expand our geographic footprint. ANZ as I called out was a focus area. So now we've set up a delivery center in New Zealand and Hamilton. Proactively, it will kind of drive some large transactions in that geography. We also expanded our -- what we call is the newest (inaudible) footprint by acquiring a large campus, which helps us to expand in Nagpur, which is a very attractive delivery location for us from multiple dimensions. We've also announced the Sankalp Semiconductors, an addition to our Engineering and R&D Services business, primarily driving momentum in the semiconductor space, which we see as a fast growing vertical segment for our Engineering Services. We also got recognized by ISG in a number of areas, technologies, industries and regions, as you can see here.

Next slide captures the key wins. Obviously, we're not able to cover all the wins but some highlights, a very large oil and gas major, U.S.-based, expanded their relationship with us significantly. And the portfolio of what we are offering to them includes significant IPs that we have and it was in modernizing the digital workplace landscape. This was a good win in a U.S.-based oil and gas major. We also had a good win in a leading U.S.-based pharmaceutical and biotech company. This was all around digital transformation. They chose us to be the scaled agile digital transformation partner are helping them transform the product landscape and modernizing their platforms through an API-first and microservices-based approach. And of course, the underlying theme was to enhance the user experience while we upgrade the legacy technology platform.

We also won a digital transformation deal with a U.S.-based financial services company. Here, we are -- the engineering partner for transforming their digital transaction platform. Here, HCL will help them transform from a traditional company to a platform-based digital enterprise. It's really an end-to-end transformation program, and we are very proud to participate and partner with this client. We also won a U.S.-based Life Sciences client, which is largely an infrastructure deal. We will be responsible for end-to-end Infrastructure Services, but we also expanded our relationship due to mergers and acquisition in one of our clients to drive higher service profile with the client as a part of our client partner strategy. We also won a deal, large deal in a U.S.-based high-tech company, which is around semiconductor design and silicon development lifecycle, which is, again, a very strategic engagement in our a large client with significant potential to scale.

With that opening commentary, I will request Darren Oberst to take you through -- sorry, before Darren, I would request Prateek to talk through the financials, then Darren will talk about the products business.

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Prateek Aggarwal, HCL Technologies Limited - CFO [4]

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Thank you, CVK. So I'll take you through the -- some of the key numbers. Slide #13 shows you the last 12-month September '19 revenue at $9,328 million, $9.3 billion. And as you can see, the 3-year CAGR from YTD September '16 to YTD September '19, LTM September, '19 is of the order of 12.4%. And just giving you the longer-term health ratios.

And as you can see, all the 4 graphs on the table are solid double-digit cumulative annual growth rate. EBITDA at about 13.2% and cash net income or what I basically call OCF before CWC, which is operating cash flow before change in working capital. So it comes straight from the cash flow statement and that has grown at a CAGR of 11.2% over the last 3 years. And that number which is OCF before CWC, if you just divide it by the diluted number of shares, gives you the cash EPS that we've been talking about last few quarters. And going forward, that has been growing at 14.7% over the last 3 years on a cumulative CAGR basis.

Moving on, we have few updates for you on the acquisition purchase price accounting that we shared with you last quarter. During this quarter, we got some more data. We got some provisional data at the time we consummated the deal and did the accounting. And this quarter, we have some updates. So Slide 18 shows -- sorry, Slide 14 shows the number at $1,743 million, which is the total present value of the amount. It's gone up by about $7 million versus the number we showed you last time. That's new to our number of moving parts, which I'll cover in the subsequent slide.

So here you can -- in the next slide, you can see the $1,743 million which is the present value of purchase price plus the unamortized present value of the IP assets that were in the balance sheet for the 5 products out of 7, which we were already holding, total of $2.17 billion and the split of that is given in the -- the new split of that is given in the yellow boxes. And for reference, the numbers we gave you last quarter are also mentioned in the white boxes. So as you can see, the goodwill number has gone up by about $16 million. Conversely, the customer relationship number has come down a bit, about $19 million.

Technology asset continues to be the same and the other one is really the deferred revenue versus the recoverable from the seller, which has come down to negligible kind of levels.

Moving to the next slide, let me explain this to you and in the next slide, it is verbalized as well. But first, column A on this slide is what we reported amounts as last quarter, the provisional amounts as per the numbers available with us at that time. And this is, of course, the future amortization schedule for all the amortized -- amortizable intangible assets that we have, not only for the IBM products but all the other previous intangibles as well. So that was the number of $2,023 million broken up into $196 million in the balance 3 quarters of FY '20 and for the next several years after that. The numbers you will see, the disclosures this quarter, which is column B shows that, that number has come down a bit to $1,965 million and most of that change is in the current fiscal year and that has now become that $196 million is now at $145 million.

There is an element of exchange rates there. So column C is nothing but the new reported number of $145 million and $1,965 million. And in total, restated at the June exchange rate, just to make it apple-to-apple comparison. So as you can see, therefore, from $2,023, it has reduced to $2,003, so a reduction of about $20 million in the overall intangible and that is coming from the previous page which is the customer relationship really. And the year ending 31st March 2020, this is the current fiscal '20 has reduced from $196 million to $147 million adjusted for exchange rate and that is reduction of $49 million which obviously has 2 components. Number one, Q2 amortization itself has been on the lower side and Q3 and 4 is slated to be of the order of $107 million. Therefore, making up the total at $145 million.

Moving to the next slide, this slide seeks to provide you perhaps too much detail but I thought this was important for you to understand and I'll go through that if there are any questions we can take that later, of course, but basically the way purchase price accounting PPA works is I'm going to the second bullet straight away because the first bullet we more or less covered in the earlier chart. So as we get into the revenue recognition in an acquisition scenario, there are 2 sources of revenue recognition in any quarter. As the quarters begin, the very first quarters would tend to be much heavier on the source of revenue being from the deferred revenue which is taken over from the seller and as the quarters go by the direct billing to the customers would come under larger and larger proportion of the total revenue that you are able to recognize and that is where -- as per U.S.

GAAP this is how the accounting has to be done. And there is a charge which is recorded as a reduction from revenue, technically it's called recognizing revenue at fair value from the opening balance of the deferred revenue.

And in the second case is where you can recognize 100% of what you've sold but in the first case there is a reduction there. And therefore, in the very first quarter, after deals consummation a large portion of the revenue will be recognized from deferred revenue and this sort of keeps on -- that percentage keeps on reducing every quarter as we move into the next quarter. And on the revenue that is recognized from deferred revenue since there is already a charge taken the amortization does not need to be taken on that for the simple reason, you can't have 2 charges for the same source revenue and that's why the revenue, the amortization charge in this quarter is pretty much same as the last quarter, $38 million, $38 million, totaling up to $76 million for the first half.

And as you can see the second half we have shown it clearly in the balance sheet and in the previous slide, $107 million is the balance going to come in the second half. And on a total fiscal '20 basis, therefore, it will be $145 million versus the $196 million as we also spoke about.

Moving on to the last slide of my section here is the constant currency guidance, which we have increased from 14% to 16%, which we guided at the beginning of the financial year and reiterated last quarter as well. We have increased that by 1% on both the lower end and the top end. And the organic part of that is at 10% to 11%. So solid double-digit organic growth is what we are guiding for the fiscal. And the balance, which is 5% to 6% is really then the inorganic part.

Our margin guidance on the EBIT margin continues to be 18.5% to 19.5%. And we -- in the first half, we are already at 18.56% or thereabout. So we are already within the range as we expected, kind of spoke about it in the previous quarter as well. And we remain confident that we will end the fiscal year within the range that we have guided.

To give you a few more data points before I hand it over to Darren, number one is the quarter-on-quarter EBIT margin walk and the biggest portion of that walk, 290 basis points in total, is 210 basis points from pretty much where we expected P&P products and platforms delivering about 115, 1-1-5 basis points, which is what we have talked about that all the investments that we have done to make sure that we hit the ground running. And once the revenue has started flowing in this quarter that margins are showing up.

ERS, the Engineering and R&D Services as well, which had a low number last quarter has made up smartly. There is a lot of productivity benefits there plus some revenue which could not be recognized last quarter has come in this quarter. They have been ramping up and a lot of that revenue flew in this quarter. Apart from that, even the ITBS, IT and business services has also delivered handsome gains. So that is about total of 210 basis points. The second item which obviously has also delivered good margin benefit for us is the SG&A line. And obviously, we had a lot of people joining in from IBM and people joining from outside as well during the quarter. So in the P&P business, SG&A certainly went up. And there were increments in that -- I mean in all the businesses in SG&A as well.

So that has been more than offset by the savings that we could bring in some of the SG&A spend areas like marketing, travel et cetera. Forex helped as well. And there were some one timers in the last quarter, some incentives, which got paid out et cetera in that quarter apart from visa costs as well. So SG&A also delivered a good 70-plus basis points.

And the third moving factor there was we did give out incentives for a large portion of our population and that amounted to about 45 basis points for this quarter. The fourth item there is really small things, which -- exchange impact of about 23 basis points, and we had a visa cost hit of 9 basis points last quarter. So that about sums it up, 15 basis points from amortization as well, but that is how the quarter-on-quarter walk looks like.

I do want to point out that the profit after tax or net income you will see a difference in the net income that you see in the U.S. GAAP accounts versus the Ind AS, the Indian GAAP accounts and that is for the simple reason there is a difference of about INR 70 crores, $10 million, which is basically arising out of the GAAP treatment of the tax cuts or tax changes that the government of India has done. So under U.S. GAAP, we can take that into the books only once it has been enacted by the parliament in this case. But in Ind AS, the GAAP's requirement is that we need to take it into account once it has been, what we call, substantially enacted. So that's the reason for the 2 GAAP statements to have a different profit after tax and the Ind AS one is about INR 70 crores or $10 million higher for that reason.

Cash EPS for the quarter is up by about 19% and 17% year-on-year. And as I mentioned in my quote, it is at a level of INR 88 plus per share in cash EPS terms.

The third thing I want to flag off is in the P&P business, we have been used to and you have also got used to seeing a certain seasonality which was largely driven by IBM sales cycle and their seasonality. So they are being calendar year company, they used to be -- the heaviest quarter for the year used to be December quarter. To some extent, it would be soon for us as well in terms of renewals, but in the terms of license revenue, which is really the one that makes a seasonality difference in terms of quarterly seasonality that is something we are in the process of ramping up. We just have 1 quarter under the belt. And as Darren will walk you through in much more detail, we have had a great start to that business and every week, we continue to get better and better in just doing those. We might call it renewals but it's really as far as HCL and those customers are concerned it's really practically a new contract that we are signing with thousands of customers every month and every quarter.

We have also -- because of the P&P segment and that includes not only P&P but also the ERS segment, we have started showing R&D investment separately as a P&L line item. This is below the gross margin and obviously above EBITDA. That is a meaningful number. And as we have talked about in several contexts, that's a number which reflects the investment we are bringing into the product every quarter, close to $50 million every quarter is what we are putting into those products. So we are calling that out separately. And you can see on a quarter-to-quarter and on a year-to-year basis, those numbers are going up quite a bit.

My last comment is the Board decided to give a Diwali gift to all the shareholders and that's in the form of 1:1 bonus issue. That bonus issue since we have announced it today, we have about 60 days to complete all the legal and regulatory compliances, and we hope to have those as double the number of shares, the extra 1:1 bonus shares in the hands of investors, the latest by 22nd December. So that reflects our confidence in the numbers going forward. We've been calling it out in cash EPS terms. We have been calling it out in the out guidance on the top line, and we are confident that will translate into good net income and free cash flow as well. And the Board is reflecting that confidence by giving out that 1:1 bonus issue.

With that I'll hand over the section to Darren to walk us through the most exciting happening during the quarter.

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Darren Oberst;Corporate Vice President - Products & Platforms, [5]

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Very good. Thank you, Prateek and thank you, everyone. This was a pretty exciting quarter for us in the HCL Software business. We launched it as a brand at the start of the quarter. We also launched our operations. And so what I wanted do was to supply a little bit of color commentary to try to bring it to life, to give you sort of a qualitative sense of what were some of the key activities, what were few highlights, what were some of the things that were really notable out of this first quarter. And I really presented in 3 parts. The first is really welcome to HCL Software. And I can't emphasize enough what an exciting quarter it was for us, engaging with thousands of new customers all over the world, in every industry, in every geography and certainly, across every product that's part of this portfolio. So thousands of face-to-face customer meetings with our sales teams, technical teams, product management teams, marketing teams and the key message is, welcome to HCL. We're really excited to have the opportunity to work with you. The messages that we try to bring to all of these customers in these first discussions is yes, we want to make the transition as simple and easy as possible. We provided a lot of online forms, very simple ways to register and start onboarding and working on HCL systems as quickly as possible.

We also emphasized the core HCL value that we'll be transparent through this process. Where there's feedback, where there are issues, we're going to move really quickly to address them and to fix problems as we see them or as we get feedback from customers. And then really the most important one is reiterating out to the market to all of our customers and partners around the world that we're committed to their success. We're committed for those that have deployed these products or working with them or embedding them in their solutions, that we're going to help them to be successful, that they're going to see sustained velocity and investment in the product road maps. And again, as part of our core DNA as a services company, the moment for us is not selling the software, it's helping the customer to derive value from it in implementation.

Now a few metrics that we wanted to capture, just to give you a sense for the scale of the outreach. We had over 50 webinars, outreaching over 8,000 customers. We actually recorded over 200,000 visitors coming to the new HCL Software website that we launched on July 1. We had over 35 trade shows and technical connects, all over the world, bringing power users and customers together. Couple of things in terms of social media outreach. We exploited a wide range of social media channels, both paid and organic, resulting over 10 million impressions in the quarter, just on our software products.

A couple of things that again were just interesting metrics. Over 42,000 videos that we had posted on Facebook, oftentimes coming directly from our engineering or product management teams were viewed out in the market by customers and partners, and about 7,800 videos on Twitter. So that's really the key message that I think we wanted to convey was, this quarter was really all about connecting with customers one on one, connecting with customers in a scale basis, really this whole concept of welcome to HCL Software.

Now if you move to Slide 21, the second key message that we wanted to convey was also about being open for business. And one of the things that we've been building over the course of the last 3 years is a really scalable foundation in terms of people, processes and systems to operate as an end-to-end software value chain. This quarter was when we were open for business and scale. And a few of the key metrics around that. First, in terms of the software sales team. Dedicated software sellers, deployed all over the world over -- a team of over 400 on the ground this quarter. North America, Europe, Asia Pacific, Japan, all across Latin America. It was also a full complement of skills, software client directors who manage accounts, product sales specialists focused on selling competitively their product and the product value proposition, a large global team on customer success and renewals as well as technical specialists for proof of concepts, demos, deeper technical engagements as well as a team focused on partners and resellers.

We also put in place a digital sales team and an e-commerce system to handle the very large volume of low-value transactions. Typically, we'll have many transactions that are as small as $10,000. So we have put a lot of systems in place to make it easy to transact, even for some of the smaller deals. We've registered and again, this is one of the real highlights, I think in terms of this open for business at scale concept. We registered over 1,300 partners and resellers globally, who are all ready to transact and really expand the global reach, bringing our products to their customers as well as embedding our products in their solutions.

It's just a couple of metrics in terms of the customer adoption. We actually had over 9,000 customers already onboard fully and register on our support systems and file support tickets. We had over 6,000 individual software download packages. So these are things like feature releases, fix packs, other code updates actually downloaded through our software licensing system to existing customers.

And then as CVK mentioned in the opening, in terms of the overall scale of the business, we actually executed over 1,500 total direct software transactions in our first quarter, consisting of both renewals and new license deals actually in a total of 61 distinct countries around the world.

Now if you move to the next slide, Slide 22, this is really the third key message, product innovation. And again, once we get past some of the initial welcome messages to customers, some of the basic onboarding in terms of how we work together, how to transact, really what it's all about for us is leading with the investments we're making in the products, the acceleration that we're bringing to our product road maps and some of the really high-impact innovative features that we're bringing to all of these products, over the course of the next several quarters.

Now in the current quarter, we had one major release. And generally speaking, this is something that we'll be sharing in our quarterly updates. It's just a view of the major releases that we had in any given quarter. So this quarter, we released HCL Digital Experience 9.5. And it had 3 major high-impact features. The first was around containerization of the product. For those who are more technical, embracing Kubernetes and Docker is really the foundation of cloudifying a product. And what it will result for a customer of this product is 10x at least faster deployments. We'll also have going forward now a continuous delivery model for future releases and enhancements, making it very easy for our customers to dynamically deploy new code updates.

We also rolled out a very rich set of REST APIs to enable microservices. That will also enhance future delivery to bring new components to market faster as well as really easy integration then with other products and tools in the customer's environment. And then finally, we made a lot of investments to really put a very new look and feel on the product in terms of new UI, their new design templates and really investing in bringing some really beautiful out-of-the-box UI to transform the experience of the user. And I wanted to take a minute to walk through these 3 features because they really embody a lot of the themes in terms of architecture, modernization and innovation that we're going to be bringing across this portfolio each quarter to come.

So hopefully that brings to life some of the things that we've been doing and some of the key accomplishments from our first quarter.

At this point, I'll pause and hand it back to CVK.

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C. VijayaKumar, HCL Technologies Limited - President & CEO [6]

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Thank you, Darren. We now open the session for the question and answers.

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Questions and Answers

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Operator [1]

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(Operator Instructions) The first question is from the line of Pankaj Kapoor from JM Financial.

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Pankaj Kapoor, JM Financial Institutional Securities Limited, Research Division - Director of India IT Services and Software Equity Research [2]

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Sir, I actually had a couple of question on the HCL Software. So you mentioned about the migration of contracts from IBM to HCL Software. So are these migration happening on the same time period as what was there in the original contracts? Or when we are migrating, we are looking at a longer phase, longer time duration for these contracts that was one. Second, are the contractual terms also similar as what IBM had with them? Or are we changing any terms in terms of the say upfront payment of licenses or in terms of the mode of charging itself like moving from a upfront payment to say, a SaaS-based kind of a model?

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C. VijayaKumar, HCL Technologies Limited - President & CEO [3]

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Yes. Darren, over to you on this?

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Darren Oberst;Corporate Vice President - Products & Platforms, [4]

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Yes. It's a great question. So generally speaking, we are not changing the terms and conditions. And at least so far and it's still early days, but in our first quarter, we have not seen a lot of pressure from the market or from customers to change the terms and conditions that are in place. Again, anytime you're looking at 1,500 contracts and you're talking about hundreds and thousands of scale, of course, there are exceptions to that. But generally speaking, the terms and conditions are fairly similar. Likewise, in terms of the time durations, most of the contracts that we've renewed are annual contracts and substantially that's what has been renewed is to continue annual basis. There are some customers that have looked for longer-term commitments, and we have entered into longer-term contracts. Again, I think it's probably a little too early to draw a definitive conclusion about what the direction of that will be, but at least that's what I would report out from our first quarter. It's been largely consistent with terms and conditions and duration that were in place previously with IBM.

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Pankaj Kapoor, JM Financial Institutional Securities Limited, Research Division - Director of India IT Services and Software Equity Research [5]

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Sure. And just to clarify, how are we recognizing these revenues? I mean the license revenues, are we taking up front or are we amortizing it over a 4-quarter period, if its annual contract? Just some clarity on that also will help.

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Prateek Aggarwal, HCL Technologies Limited - CFO [6]

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Darren, let me take that. Pankaj, there are 2, 3 types of contracts. And while I don't want to get into the last level of detail on that, in principle, the licensed part of whatever is sold is recognized upfront. And the remaining part goes -- recognized over the next 1 year. And as far as the AMC part, annual maintenance contract part is concerned that is spread over the next 12 months basically, assuming that's a 12-month contract.

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C. VijayaKumar, HCL Technologies Limited - President & CEO [7]

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I want to add one more perspective. While the contracts are getting renewed largely at the same terms and same duration, but given the spread of customer base and the geographies, a lot of customers will need introduction to HCL and that's what our sales teams are meeting with the customers and getting the HCL introduction done. And obviously to kind of redo the contracts in HCL paper is very process driven, a legal kind of a process. So that kind of makes the effort is quite onerous when we are getting started. But as we get into the subsequent quarters while -- until we reach the full customer base, this is going to be a mega effort. But after that, it would be business as usual.

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Pankaj Kapoor, JM Financial Institutional Securities Limited, Research Division - Director of India IT Services and Software Equity Research [8]

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And, CVK, so what would be the duration? Like how much time you think it will take us to complete the full set of migration?

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C. VijayaKumar, HCL Technologies Limited - President & CEO [9]

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Logically, it will be 4 quarters because a large part of the revenue is annual. There is a set of customers who came for renewal in Q2. Now some more will come up for renewal in Q3, Q4. And next year Q1, we would have gone through the full cycle and covered the whole base. There could be a very small percentage of customers where there was a 3-year kind of a contract, so there it may be whenever it comes for renewal. However, for those customers, the deferred revenue is in our books and we will recognize revenue accordingly.

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Operator [10]

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The next question is from the line of Parag Gupta from Morgan Stanley.

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Parag Gupta, Morgan Stanley, Research Division - Executive Director [11]

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Just two questions. Firstly, on the products business, you did talk about the renewal cycle and I can understand that it's early days, but have there been any conversations with respect to synergy revenues, incremental revenues on top of what you've already called out in the past? So that's the first. And the second is, just on your core business per se, going into second half, would you like to call out any kind of headwinds in any part of your business that we should watch out for?

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Prateek Aggarwal, HCL Technologies Limited - CFO [12]

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Parag, thank you. Both are very nice questions. In terms of cross-sell, there are 2 types of cross-sell that we anticipate in this customer base. One is -- I mean all of these are product -- software product relationships. So we have other software products in our portfolio. That could be 1 area where we could upsell. The second is the broader set of HCL services could be sold to these clients. The focus and intensity in the last quarter and even in the current quarter is going to be getting the renewals done, and the emphasis on cross-sell was a little low. However, even without any shot put as we see a huge number of leads for some services or products that we have in our portfolio. For example, a retailer in Australia, a very large retailer in Australia who was a client of our Commerce product, once he knew about HCL owning this product, they gave us work to do all the integrations, which is not just a product but all the integration services, which was a good $20 million deal, which is a very, very encouraging sign of what we can do. And a number of geographies like Japan, LATAM, even in Germany, our presence is now very meaningful because of this business. In fact, with this business, in Japan, we will potentially be the second largest India-heritage player in that geography. So I think there's a lot of good signals of what we can do, and we remain very confident and optimistic of leveraging this big opportunity ahead of us.

The second question you asked was about the commentary on the industry or the market in the second half. While we share lots of concerns on the macros, fortunately for us, we had a good booking in the last quarter, and the outlook for the second half, we continue to forecast some level of growth, which is what is giving us confidence to increase our guidance.

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Operator [13]

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The next question is from the line of Sandeep Shah from CGS-CIMB.

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Sandeep Shah, CIMB Research - VP [14]

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Congrats on good execution. I just wanted to understand when you pitched for the renewal of the HCL Software which used to be earlier an IBM software, is it the branding impacted you wherein the client has actually not renewed? Is there any such instances which you have seen in the first quarter?

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C. VijayaKumar, HCL Technologies Limited - President & CEO [15]

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Darren?

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Darren Oberst;Corporate Vice President - Products & Platforms, [16]

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No, we have not. We have not. So, again, it's early days, but no. We have not seen any impact. We have not seen any customer come back and say, "I'll only work with IBM." or "I was an IBM customer and I'm not interested in bringing on a new vendor. I'm not interested in working with HCL." We haven't seen a single case of that yet.

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C. VijayaKumar, HCL Technologies Limited - President & CEO [17]

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I also want to add to what Darren said. A lot of customers want to understand what is your road map for the product, what is your strategy around upgradation -- upgrading of the products. That is the crux of the conversations that we've had. But what is also notable is there are a number of clients who had stopped paying support services for these products, have reinstated their support services with us after learning the road map that our teams have put forward to these clients. So that's a very, very encouraging trend that we've seen right from the beginning of the last quarter.

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Sandeep Shah, CIMB Research - VP [18]

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Okay. Okay. And just, CVK, in terms of the large deals, last year you had a solid year in terms of mega deal wins. This year first quarter being soft, 2Q is good. How do you see the second half? You believe if the deal wins are not equivalent to last year or higher than that, the growth rates on organic front may slightly slowdown in the next year?

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C. VijayaKumar, HCL Technologies Limited - President & CEO [19]

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I think it's a little early to kind of take a view on the growth rates for the next year, Sandeep. But I think our pipeline is pretty much the same or maybe marginally slower than what it was at the end of last quarter. And we do have big deals in the pipeline. And we see -- the whole opportunity landscape, I think, is ripe for disruption with both traditional players and some emerging players. All of them are having some challenges in one way or another. I think HCL is very well placed to really harness the broader opportunity of capturing market share. And I'm pretty positive that it will play out across many verticals. That's a midterm kind of a view that I have. Of course, a lot will depend on the bookings in Q3 and Q4. We will keep you updated on that.

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Sandeep Shah, CIMB Research - VP [20]

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Just last two. In terms of the IMS, CVK, your earlier comment is the pressure to renewal deals is likely to come down from second half of coming financial year or maybe FY '21, whether that trend is getting tested in your renewal trends with the client as a whole?

And second, I think Prateek has said in the December quarter, though that is a seasonally heavier quarter for products and platforms, but as we are in the first year, this time, the seasonality may not be that great, and as we move into coming years, the seasonality come back to original level. Is it the right way of looking at it?

And at the lower end of the implied guidance for the third and the fourth quarter, we are actually guiding for a decline of 0.6%. But CVK, you also said that we can foresee some growth. So is it more like the lower end is more conservative and the midpoint or the upper end could be the reality?

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Prateek Aggarwal, HCL Technologies Limited - CFO [21]

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Okay. A lot of questions, Sandeep, so we will attack it one by one, right? Infra business. Obviously, I would say the answer is a little bit mixed. There are clients where we're seeing renewal pressure is quite high, so the expectations of reductions are high. However, we are getting a lot of surround revenues. Actually, a lot of customers are looking at modernizing data centers. And modernizing data centers can also give us an opportunity to modernize the application landscape. So that's a completely new source of incremental revenue that we are seeing. And then the new deal momentum is also very good. The traditional players are really suffering due to various challenges and that kind of augurs quite well for us to capture a bigger market share. And the opportunity pipeline is good. Overall, infrastructure business, even if you take the top 20 players, it's a 125 billion annual contract value. That's the installed base. And we have maybe 3% to 4% market share, so I think that trend is going to be intact. There will be pressure in existing customers, but if you continue to do well, execute well then more plans will move to us. That's number one.

The second question was on the seasonality for the software business. I don't think it will revert back to the seasonality that used to be there when the products were with IBM and that's for the very simple reason, every week as we get better and better on both the renewal and new licenses, I would expect at least for the next 3 to 4 quarters, to be sequential increases rather than going up and down in the seasonality that we used to see earlier. So that's the expectation. It's early days and very difficult to give you a trajectory so early in the day.

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C. VijayaKumar, HCL Technologies Limited - President & CEO [22]

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And pertaining to the guidance, we definitely are foreseeing growth in the next 2 quarters on the organic basis. On the software, HCL Software, you would see that we have delivered about 106 million incremental revenue. I think the ramp-up in Q2, Q3, Q4 -- I mean, from a contract-year perspective for the HCL Software, I think the ramp-up is going to happen gradually. So that might kind of not add up in your math and that's why you're looking at a negative growth to meet the lower end of guidance. On an organic basis, we will continue to grow. That's our expectations.

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Operator [23]

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The next question is from the line of Diviya Nagarajan from UBS.

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Diviya Nagarajan, UBS Investment Bank, Research Division - Executive Director and Research Analyst [24]

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Congrats on the launch of HCL Software business. Two questions. One on the product side. You've talked about the rollout that you've had during the quarter. And I believe that this was -- you're also planning to share the future releases that you had planned. But in terms of the key products that you have acquired, could you just give us an initial idea of what we should expect in terms of releases? And more specifically, the impact that we should see in financials because of those releases in terms of the seasonality or the timing of those releases. That's question number one. And number two, on the bookkeeping side, Prateek, I thought you referred to the Indian taxes. The current tax rates are below 25%. Could you just clarify what you meant by that statement, please?

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C. VijayaKumar, HCL Technologies Limited - President & CEO [25]

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Maybe we will have Darren respond to the product releases and the impact of that and then Prateek will take the tax rate question.

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Darren Oberst;Corporate Vice President - Products & Platforms, [26]

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Yes. So on releases, this is a core part of our strategy, and so for each product, we've rolled out a release schedule as part of the road maps with major releases, major enhancements to the product. So that's rolling over the course of the next 4 quarters, and that will be for each of the acquired products as well as several additional products that will have these major releases for. Those are definitely events that we'll be doing a lot of marketing, a lot of selling. It will be an opportunity to go back to existing customers, so a lot of the cycle of our business will be driven around those releases. Now to the -- I think the real question you're asking is, what will be the financial impact and how should we be modeling that. I think it's too early to say that. I don't think we have a track record yet to establish what we would anticipate whether that's concurrently with or after or what the flow would be of the financial value capture around each of these releases. So at this point, we're not giving any guidance around it. Again, it will also be very dependent, the product by product. Some of these products, a lot of the release and those enhancements will be solidifying the commitment from existing customers. For others of these products, a lot more of it will be measured in terms of new logos and significant growth. So, unfortunately, I just can't give you a general answer to the question at this point.

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Prateek Aggarwal, HCL Technologies Limited - CFO [27]

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And, Diviya, taking your next question on India's tax rate impact, let me go into a little bit of more detail. So you are absolutely right. India's stand-alone tax rate, effective tax rate, is quite lower compared to the 25% and therefore, for several years into the future, we don't expect to go for the 25% concessional tax rate, which also requires giving up a lot of pent-up tax benefits, which are in the balance sheet, bank credit and all that. But the $10 million impact which I spoke about is basically on the DTL, the Deferred Tax Liability, that we started creating last quarter, and that is a long-term deferred tax liability as we discussed. It's actually not going to be payable to anybody in the foreseeable future at all. But what that tax rate does is instead of taking -- making the deferred tax liability provision at 35% beyond the date, then we will switch to 25% tax rate, instead of taking it at 35%, which is what we were doing until -- before the tax rate cut. For that period in the future, we'll now take it at 25%. So that is the change which has come into effect already in India and will come into effect in the U.S. GAAP.

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Operator [28]

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The next question is from the line of Sumeet Jain from Goldman Sachs.

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Sumeet Jain, Goldman Sachs Group Inc., Research Division - Equity Analyst [29]

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So Prateek, first question for you. I remember when we announced this IBM acquisition, we had a view of clocking $625 million in the first year of acquisition. Now given this quarter, we have clocked around $100 million. And it is still quite early days and we are trying to renew a lot of contracts. So what visibility do we have at this stage to complete that vision of $625 million?

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Prateek Aggarwal, HCL Technologies Limited - CFO [30]

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Yes, Sumeet. So, Sumeet, given what I've described to you on the amortization, I'm sure you would have made out that purchase price accounting does affect the revenue recognition. But if you were to sort of adjust for that, we would be well over the number that you talked about. Having said that, we don't really intend to give separate guidance on any segment. We had given that guidance at the time the deal was done to sort of explain the deal in that sense. You will have visibility to the P&P segment numbers. That's the reason starting this fiscal year, we carved it out as a separate segment. And from the EBITDA and EBIT, you can make out that we are well on track to deliver those numbers, though the revenue number in it -- in that, as reported since, may not exactly match up to that number, but the EBITDA and EBIT certainly would.

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Sumeet Jain, Goldman Sachs Group Inc., Research Division - Equity Analyst [31]

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Right. That's helpful, Prateek. And secondly, on the SG&A front, I just wanted to understand what kind of level are you going to have in the coming quarters given that -- I mean, we did quite a lot of initiatives to market that product. And I don't know at what levels will you operate, so if you can give some clarity out there.

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Prateek Aggarwal, HCL Technologies Limited - CFO [32]

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If I understood your question correctly, you are talking about SG&A only in the P&P segment?

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Sumeet Jain, Goldman Sachs Group Inc., Research Division - Equity Analyst [33]

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I mean in the P&P and as well as on the overall basis. So is there any one-off in this quarter because of it? Maybe SG&A expense as a percentage of sales was lower than what we had in the previous 2 quarters.

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Prateek Aggarwal, HCL Technologies Limited - CFO [34]

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I don't think there is any significant onetimer. I mean, in any quarter, there would be 1 or 2 small onetimers, plus or minus. But as far as the number this quarter is concerned, it already takes into account all the upfront investment we had done in the P&P business. It takes into account the additional investment that has come in at this quarter. So it is steady state, though I would expect it to inch up a little bit because being a startup, all said and done, while we've substantially fulfilled all the positions we wanted to, there might be some people who joined in the middle of the quarter. The full quarter impact would come and so it might trend up marginally upwards, but it would be in the same -- a similar kind of ballpark, I would expect.

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C. VijayaKumar, HCL Technologies Limited - President & CEO [35]

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I also want to add that last quarter, there was some one-off cost that hit the SG&A line items, which was not there this quarter.

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Prateek Aggarwal, HCL Technologies Limited - CFO [36]

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Yes, that I mentioned.

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Operator [37]

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The next question is from the line of Nitin Padmanabhan from Investec.

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Nitin Padmanabhan, Investec Bank plc, Research Division - Analyst [38]

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CVK, I think last time you did mention about traditional players sort of weakening and you mentioned the same thing this time as well, and there potentially being room for renew peak and deal wins potentially in Q3. Do you still stand by that thought process?

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C. VijayaKumar, HCL Technologies Limited - President & CEO [39]

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Yes, Nitin. We have some large deals in the pipeline. I'm only hoping that they will all conclude as we have planned, but if some of that slips early next year then it may not play out exactly. But I can tell you there are good pipeline of deals from incumbents who were getting a little weaker and you are also seeing us proactively expand some of our footprint there, in some of the geographies, to kind of support that growth. So we remain confident of addressing that opportunity to our benefit.

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Nitin Padmanabhan, Investec Bank plc, Research Division - Analyst [40]

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Sure. But did you think -- relative to last quarter, this time do you think the macro is sort of impacting these worries, the timing of these closures? Is that what you think? Or it could be longer than what you originally anticipated in terms of closures?

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C. VijayaKumar, HCL Technologies Limited - President & CEO [41]

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You see, I think there are 2 types of businesses. One is digital transformation and legacy modernization. There, I think, the timing could be a little bit impacted by some broader industry situation and things like that. The renewals, it also depends on when the renewals are coming to an end for the incumbents. And a lot of times customers initiate a renewal process well ahead of time. So once they reach a certain level in their evaluation process, they will kind of time that closure to when they really need to close and transition. So I think there are a few dynamics which comes into play. So I would want you to interpret my commentary as something which is more of a medium-term trend rather than the next quarter peak in booking.

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Nitin Padmanabhan, Investec Bank plc, Research Division - Analyst [42]

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Sure, sure. And just lastly, I think, excluding the Products business, if we look at the Financial Services, Retail, what would your thoughts be on the services side for these 2 businesses?

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C. VijayaKumar, HCL Technologies Limited - President & CEO [43]

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Rahul, you want to provide color on the Financial Services?

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Rahul Singh, HCL Technologies Limited - President of Financial Services [44]

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Right. So let me just talk about Financial Services. So basically when we're looking at the Financial Services market, essentially, there are 2. You can break them up into 2 or 3 segments. Number one is one which is seeing a huge amount of digital work. If you look at the retail space -- I'm talking about retail banks here, not retail industry, but retail banks. We are seeing a lot of pickup happening in digital transformation, which is driving our growth and also growth for the retail banks. Now the retail financial services require almost a front-to-back kind of digital transformation. There's an element of UX, UI. There's an element of microservices. There's also an element of data and analytics which goes into this transaction. So our retail banks are seeing that kind of momentum which we, as called out earlier, we defined these services under Mode 2.

When I look at the capital market side of the house, that is where most capital market banks are facing a lot of pricing pressure. The interest rates are very low and so on and so forth plus, now, some of the capital market firms globally are also seeing a certain amount of consolidation and reduction of work. So we are seeing a little bit of compression there. However, within the capital market firms -- banks, if you focus on segments like the regulatory segment, reporting, where again data and analytics can play a big role, we are seeing a certain amount of digital transformation happening there as well.

So I think, in summary, if you choose the areas within the Financial Services segment to focus on, you can be a little bit impactful especially with Mode 2 services. On the Mode 1 service, yes, we have a certain amount of pressure in some of our existing accounts, but as we'd called out earlier, I think we have enough business coming on the Mode 2 side, digital side, which is offsetting some of that. So we are seeing good growth especially, as I mentioned earlier, in Mode 2, digital retail segment of our portfolio.

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C. VijayaKumar, HCL Technologies Limited - President & CEO [45]

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And commenting on Retail & CPG, while the first half was reasonably good in terms of bookings and revenue translation, this quarter will be a little bit soft because a lot of projects are either completed or customers are on a freeze from that, but the broader commentary from a medium-term perspective will remain quite positive. And there is also going to be some influence because of the Commerce product itself will help us open up a few more opportunities. That will also help us to be in a very strategic element of our clients' business landscape. So I see that as a differentiator for us moving forward.

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Rahul Singh, HCL Technologies Limited - President of Financial Services [46]

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I also want to just add to what CVK mentioned. In the banking space, there are lot of the banking -- what you may call as OEMS, large platform companies, which are a good client base for us, from our Engineering Services perspective as well. And last quarter it says, we had some wins in the Financial Services space. More in the OEMs or financial products companies, which make platforms for other companies.

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Operator [47]

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The next question is from the line of Ashwin Mehta from IDFC Securities.

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Ashwin Mehta, IDFC Securities Limited, Research Division - Director [48]

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I have just 1 question in terms of our Products and Platforms business. So on the IBM products and platforms that we've acquired, what proportion of business or customers have we now contracted with HCL? And what is the level of attrition that we've seen in terms of renewals with these customers? Is it largely in line with expectations? Any surprises there?

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C. VijayaKumar, HCL Technologies Limited - President & CEO [49]

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Darren?

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Darren Oberst;Corporate Vice President - Products & Platforms, [50]

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So it's still a relatively small part of the total customer base. And so this is not an aggregate value statement, but we shared the 1,500 transactions. Again just to give you kind of a rough denominator, it's around 25,000 total customers. So that can give you a sense of -- it's still a relatively small base of the total customers and some of that is seasonality. Typically, the summer months are pretty low transactional volume. We'll certainly see a much larger percentage in the upcoming quarter, with the end of the calendar year.

In terms of the attrition trends, of course, any time you have such a large base of contracts, there will be some non-renewals. There will be some customers that have moved off the product. So, again, it's early days, but the trend that we've seen so far is in line with what our expectations were, what we've modeled in the business case.

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Ashwin Mehta, IDFC Securities Limited, Research Division - Director [51]

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And Darren, in terms of period over which we think realistically we should be able to transfer most of these customers onto our roll, what would be your assessment of that?

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Darren Oberst;Corporate Vice President - Products & Platforms, [52]

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Is the question just how long it will take to complete that process?

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Ashwin Mehta, IDFC Securities Limited, Research Division - Director [53]

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Yes.

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Darren Oberst;Corporate Vice President - Products & Platforms, [54]

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Yes, it will be -- CVK had walked through -- it would be linked to the timing of those renewals. So those renewals will happen every quarter over the first year, of the first anniversary will pick up the overwhelming majority of those transactions. And then there are relatively small number but some that are larger in size, that are 2-, 3-year contracts. So every quarter, you are going to see a significant new block of customers moving over -- onto HCL paper directly and that will be very heavy over the next 4 quarters and then it'll be a tail that will extend in the quarters beyond that.

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Ashwin Mehta, IDFC Securities Limited, Research Division - Director [55]

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And typically, can you give us an idea in terms of from licenses to implementations to AMC perspective, how does the portfolio look in terms of, say, AMCs? What proportion of the license are typically for these products?

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Darren Oberst;Corporate Vice President - Products & Platforms, [56]

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Sure. We would call it Support and Subscription, but it's the exact same concept as an AMC. It's typically 20% of the license value on an ongoing annual basis. There are some exceptions, but that's the general rule.

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Operator [57]

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Ladies and gentlemen, this was the last question for today. I now hand the conference over to Mr. C. VijayaKumar for closing comments. Over to you, sir.

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C. VijayaKumar, HCL Technologies Limited - President & CEO [58]

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Yes, in summary, we've had a fantastic performance. We remain fairly positive about our momentum going forward. So thank you, everyone, for joining this call and wishing you a happy holiday season ahead. I look forward to seeing all of you or most of you in the Investor Day early next month, and I'm sure we will have a very rich set of messages and offerings that will be showcased to you. I look forward to seeing all of you and have a good evening or a good day, wherever you are in the world. Thank you.

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Prateek Aggarwal, HCL Technologies Limited - CFO [59]

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Thank you.

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Operator [60]

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Thank you very much, members of the management.

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Darren Oberst;Corporate Vice President - Products & Platforms, [61]

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Thank you.

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Operator [62]

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Ladies and gentlemen, on behalf of HCL Technologies Limited, that concludes this conference call. Thank you for joining us. And you may now disconnect your lines.