EXLS

ExlService Holdings, Inc. - Q1 2009 Filing Summary

Business Context and Reporting Period

This Form 10-Q covers the quarterly period ended March 31, 2009. ExlService Holdings, Inc. is a leading provider of outsourcing and transformation services, primarily serving Global 1000 clients in the insurance, utilities, financial services, and transportation sectors. The company operates delivery centers in India and the Philippines, with clients principally located in the United States and the United Kingdom. The reporting period reflects the sale of the Noida Customer Operations Private Limited (NCOP) unit, which is now classified as a discontinued operation.

Key Financial Metrics

Note: The company reported no long-term debt other than capital lease obligations. Total liabilities were $31.4 million.

Material Changes vs. Prior Period

• Revenue Decline: Total revenues decreased 7.8% to $41.0 million. This was driven by a 7.8% appreciation of the U.S. dollar against the U.K. pound sterling and reduced discretionary spending by clients on transformation services due to the global economic downturn.
• Margin Expansion: Despite lower revenue, gross profit increased 5.3% to $16.6 million, and gross margin improved to 40.6%. This was primarily due to a 14.9% decrease in cost of revenues, driven by the depreciation of the Indian rupee against the U.S. dollar, which reduced salary and personnel costs by approximately $3.7 million.
• Operating Income Surge: Income from operations increased 69.0% to $4.3 million, rising from 5.7% to 10.4% of revenue, due to cost efficiencies and lower operating expenses.
• Foreign Exchange Impact: The company incurred a foreign exchange loss of $1.3 million in Q1 2009, compared to a gain of $1.6 million in Q1 2008. This significant swing was due to currency movements relative to the company's hedged positions.
• Discontinued Operations: The company recorded a loss of $139,000 from discontinued operations (NCOP sale), compared to income of $2.1 million in the prior year.

Guidance, Outlook, and Risks

• Capital Expenditures: The company expects to incur capital expenditures of approximately $10 million to $15 million for the remainder of fiscal year 2009 to support client growth and facility expansion.
• Share Repurchases: The company continues a program to repurchase up to $10 million of common stock through November 2009. Approximately $0.4 million had been repurchased as of March 31, 2009.
• Tax Contingencies: The company is involved in disputes with Indian tax authorities regarding transfer pricing and permanent establishment status. Assessment orders totaling approximately $11.6 million have been issued for tax years 2003-2006. The company has deposited $7.2 million against these demands and is pursuing a Mutual Agreement Procedure (MAP) with U.S. and Indian authorities. Additional bank guarantees of approximately $3.5 million are expected to be required in Q3 2009.
• Client Concentration: The three largest clients accounted for 45.8% of total revenues in Q1 2009. Centrica alone represented 21.2% of revenues.
• Legislative Risks: Negative publicity and proposed legislation regarding offshore outsourcing in the U.S. and U.K. pose a risk to future revenue streams.

Investor Verification Checklist

• Foreign Exchange Sensitivity: Verify the effectiveness of hedging strategies given the significant swing from FX gains to losses and the exposure to the Indian Rupee and U.K. Pound.
• Tax Dispute Resolution: Monitor the status of the Indian tax assessments and the outcome of the Mutual Agreement Procedure (MAP), as further cash outflows or guarantees may be required.
• Client Concentration: Assess the stability of contracts with the top three clients, particularly Centrica, which represents over 20% of revenue.
• Discretionary Spending: Evaluate the impact of the global economic downturn on the "Transformation Services" segment, which is more susceptible to client budget cuts than core outsourcing services.
• Capital Allocation: Review the pace of share repurchases against the $10 million authorization and the necessity of planned capital expenditures in a slowing economy.