HCL Tech – Axon Bid Analysis

We first reported about HCL Tech’s bid for Axon on the 4th of Sept. However, subsequently the company denied but we knew from our sources that it was only negotiating with the bankers.

HCLT intends to fund the all-cash GBP441mn ($818mn) deal through a GBP400mn loan and rest from internal cash. If all goes well, the process should complete by 1Q CY09. HCLT’s ERP business is the smallest amongst the top Indian IT services companies, and the acquisition could provide an opportunity to break into the big league in enterprise solutions. Without any doubt there will be short term impact on HCLT’s EPS while the company can expect a significant positive leverage in the long term.

The key for HCL Tech is that its enterprise business is $218mn, and is much smaller than that of peers Satyam ($1.1bn) and Infosys ($1.1bn). The acquisition could help propel HCLT into the big league in enterprise business solutions, with Axon’s 2000 strong SAP consultants.

This is not a done deal as the risk of a counter bid from Infosys is still ON. In addition, foreign vendors may compete. While companies do run a risk of overpaying in short term, the bigger dividend would come from a significant leverage impact of this acquisition on the overall company. Unfortunately, markets are currently focused on short term results and historically HCL Tech has had patchy record on acquisition integration. The stock is likely to UNDERPERFORM.