Can HCLTech’s ER&D strength offset slowing traditional IT services in FY26?

HCLTech’s (NSE: HCLTECH, BSE: 532281) Q1 FY26 results highlighted the growing importance of its engineering and R&D (ER&D) services division as a key margin stabilizer and growth engine. For the quarter ended June 30, 2025, the ER&D segment posted revenue of ₹5,174 crore, up 16% year-on-year (YoY), far outpacing the growth of its traditional IT and business services (IBS) segment.

This rapid expansion has shifted investor focus toward how ER&D could help HCLTech weather cyclical headwinds in discretionary IT spending and wage inflation, particularly at a time when IBS—the company’s largest division—has seen muted growth.

How is ER&D reshaping HCLTech’s revenue and margin profile in FY26?

The ER&D business contributed a segment profit of ₹916 crore in Q1 FY26, while IBS, which remains the largest contributor by revenue at ₹22,454 crore, delivered ₹3,393 crore in segment profit. While IBS still anchors HCLTech’s scale with its strong presence in application services, infrastructure management, and digital workplace solutions, the ER&D segment offers higher margins and greater pricing power, helping the company preserve profitability even when broader demand softens.

HCLTech’s ER&D portfolio spans next-generation product engineering, embedded software, chip design, and AI-led platform modernization. The segment’s clients—spanning industries like automotive, telecom, aerospace, and industrials—tend to engage in multi-year transformation programs that provide better revenue visibility.

“In industries like automotive and telecom, product cycles are accelerating as companies pivot toward AI-enabled, connected solutions,” one institutional investor observed. “This dynamic is creating demand for engineering partners who can manage hardware, software, and systems integration at scale. HCLTech’s ER&D strength positions it well to capture this spend.”

The performance of ER&D is especially notable against a backdrop of slower IBS growth. IBS revenue rose only modestly YoY, reflecting pressure in the BFSI and consumer verticals where discretionary digital transformation budgets are tightening. While cloud migration and managed services pipelines remain active, the pricing environment in IBS is more competitive, which weighs on margins.

How does HCLTech’s ER&D stack up against peers like TCS, Infosys, and Wipro?

Indian IT majors have all identified digital engineering as a strategic growth area, but HCLTech has historically maintained a deeper focus on ER&D compared to peers. TCS, for instance, has been expanding its Digital Engineering unit aggressively and has invested in GenAI-enabled product design, but its ER&D revenue is estimated to be smaller in absolute terms.

Infosys’ ER&D practice, anchored by the Topaz AI platform, has seen incremental growth but still lags HCLTech in terms of breadth of client coverage in core engineering domains. Wipro, which acquired Capco and Rizing in recent years, is also pushing into engineering services, but its margin profile remains more dependent on consulting and traditional IT services.

HCLTech’s ER&D business benefits from long-standing relationships with global product companies and its ability to deliver end-to-end capabilities—hardware design, embedded software, and platform integration—under a single umbrella. This comprehensive delivery model is hard to replicate and gives the company a competitive advantage in winning large transformation deals.

Can ER&D and HCL Software offset margin pressures from rising employee costs?

HCLTech reported total expenses of ₹25,616 crore in Q1 FY26, up from ₹23,453 crore a year earlier. Employee-related costs alone accounted for ₹17,598 crore, reflecting lateral hiring, retention initiatives, and reskilling programs in cloud, AI, and cybersecurity.

Even as talent costs rise, ER&D’s strong operating leverage, coupled with HCL Software’s recurring licensing revenue, has helped preserve margins. HCL Software contributed ₹2,721 crore in revenue and ₹633 crore in segment profit in the quarter, underscoring the complementary role its IP-led portfolio plays alongside ER&D.

Operating margins held steady despite inflationary pressures, thanks to these high-margin businesses. Analysts believe that further scaling ER&D could allow HCLTech to maintain margin stability in FY26 even if IBS revenue remains subdued.

“ER&D is inherently less sensitive to wage inflation because it carries stronger pricing power and is often embedded in clients’ core product roadmaps,” analysts tracking the sector noted. “That stickiness will be critical for HCLTech as macro uncertainty persists.”

What is the outlook for ER&D-led growth in the current environment?

Looking ahead, HCLTech’s ER&D pipeline appears robust, with demand coming from industries undergoing fundamental product reinvention. The automotive sector is a standout opportunity, as original equipment manufacturers invest in software-defined vehicles, autonomous systems, and connected mobility platforms. Similarly, telecom and industrial clients are expanding digital engineering budgets to accelerate 5G rollouts and IoT adoption.

However, sustaining this growth momentum will require ongoing investment. HCLTech has been hiring aggressively for engineering talent and expanding its IP partnerships with semiconductor, cloud, and software vendors. These initiatives will be critical as competition intensifies from global engineering specialists like Capgemini Engineering, EPAM Systems, and Cognizant’s digital engineering arm.

If ER&D continues to grow at a mid-teens pace through FY26, it could contribute a larger share of HCLTech’s total revenue and significantly buffer earnings against fluctuations in IBS. Institutional investors are watching for further evidence of this shift as the company’s Q2 FY26 pipeline materializes.