Genpact Limited: Q2 2014 Form 10-Q Summary
Business Context and Reporting Period
Genpact is a global business-process management, analytics, information technology and operations-services provider with more than 66,000 employees in 25 countries. The filing covers the quarter and six months ended June 30, 2014, with comparisons to the corresponding 2013 periods. The interim financial statements are unaudited and prepared under U.S. GAAP.
Key Financial Metrics
| Metric | Three months ended June 30, 2014 | Six months ended June 30, 2014 |
|---|---|---|
| Net revenues | $561.6 million | $1,089.8 million |
| Revenue growth | 5.0% | 4.9% |
| Gross profit | $221.5 million | $425.4 million |
| Gross margin | 39.4% | 39.0% |
| Operating income | $73.1 million | $150.3 million |
| Operating margin | 13.0% | 13.8% |
| Net income attributable to Genpact shareholders | $49.0 million | $99.6 million |
| Net margin attributable to shareholders | 8.7% | 9.1% |
| Diluted earnings per share | $0.22 | $0.43 |
| Cash flow from operations | Not separately provided for the quarter | $93.1 million |
Global Clients represented 78.7% of second-quarter revenue, or $441.8 million, while GE represented 21.3%, or $119.8 million. BPO services generated $424.8 million in second-quarter revenue and IT services generated $136.8 million. Average second-quarter headcount was approximately 63,800.
Cash and cash equivalents were $376.8 million at June 30, 2014, down from $571.3 million at December 31, 2013. Approximately $370.0 million was held by foreign subsidiaries. Long-term debt, excluding capital leases, was $655.7 million, and short-term borrowings were $175.0 million. The company stated that it remained in compliance with financial covenants.
Material Changes Versus Prior Comparable Period
- Second-quarter revenue increased 5.0%; revenue excluding foreign-exchange effects increased 5.6%. First-half revenue increased 4.9%, or 6.1% excluding foreign-exchange effects.
- Global Client revenue increased 6.9% in the quarter and 7.5% in the first half, while GE revenue declined 1.5% and 3.6%, respectively.
- Gross margin improved from 37.8% to 39.4% in the quarter and from 38.0% to 39.0% in the first half, primarily reflecting operational efficiencies and foreign-exchange effects, partly offset by wage inflation.
- SG&A increased 20.5% in the quarter and 14.5% in the first half, reflecting investment in client-facing personnel, sales and marketing, professional services, travel and acquisition-related costs.
- Operating income declined 6.3% in the quarter and 1.1% in the first half. Operating margin declined from 14.6% to 13.0% in the quarter and from 14.6% to 13.8% in the first half.
- Net income attributable to Genpact shareholders declined 23.3% in the quarter and 10.0% in the first half. Foreign-exchange results shifted from gains of $17.2 million and $13.8 million in the 2013 quarter and first half to losses of $3.8 million and $7.4 million in 2014.
- Operating cash flow declined from $107.7 million to $93.1 million for the first half. Investing cash outflow increased to $153.2 million, primarily due to the Pharmalink acquisition and higher capital expenditures.
- The company repurchased and retired 17.3 million shares for approximately $302.6 million in April 2014 at $17.50 per share, reducing shares outstanding from 231.3 million at year-end 2013 to 216.3 million at June 30, 2014.
Acquisition, Outlook, Risks and Unusual Items
In May 2014, Genpact acquired Pharmalink Consulting Limited and Pharmalink Consulting Inc. for cash consideration of $126.5 million, subject to adjustments. The preliminary purchase price, including contingent consideration, was $138.6 million and included $110.0 million of goodwill and $29.9 million of identifiable intangible assets. Pharmalink provides regulatory affairs services to the life sciences industry.
The filing does not provide specific numerical revenue, earnings or margin guidance. Management described expected funding sources as operating cash flow, cash reserves and debt capacity and stated that these resources were expected to be sufficient for operations and growth. Management highlighted investments in sales and marketing, client-facing teams and targeted industry verticals to support future growth.
- Foreign-exchange volatility materially affected reported revenue, operating results, other comprehensive income and derivative valuations. Net derivative liability exposure was approximately $111.0 million at June 30, 2014.
- The company had $22.7 million of unrecognized tax benefits at June 30, 2014, including $21.8 million that would affect the effective tax rate if recognized.
- Indian tax authorities issued a May 2014 assessment relating to transactions in 2009 and 2010. The potential demand was approximately $43 million including interest; Genpact appealed and may have to pay some or all of the amount under protest pending resolution.
- Total contractual cash obligations were approximately $1.14 billion, including $775.3 million of long-term debt obligations, $154.2 million of operating leases and $29.7 million of earn-out consideration.
- Principal risks include client concentration and retention, dependence on the United States and Europe, GE-related revenue, employee attrition and wage inflation, competition, acquisitions and integration, tax-law changes, foreign-exchange movements, LIBOR, technology disruptions, data or security breaches and geopolitical or regulatory changes.
- No material legal proceedings were reported, and management concluded that disclosure controls were effective. The filing states that there were no material changes in market-risk exposure during the first half.
Important Facts for Investors to Verify
- Whether Global Client growth and declining GE revenue continue to shift the company toward a less concentrated customer mix.
- Whether gross-margin improvement can offset higher SG&A investment, wage inflation and subcontractor costs.
- The integration, revenue contribution and final purchase-price allocation of Pharmalink, including contingent earn-out obligations.
- Liquidity after the $302.6 million share repurchase, the $123.7 million acquisition payment and the $175.0 million short-term borrowing draw.
- The outcome and cash-tax consequences of the approximately $43 million Indian tax assessment and other uncertain tax positions.
- Foreign-exchange exposure, derivative liabilities and the potential effect of currency movements on reported earnings and cash flow.
- The company’s ability to sustain operating cash generation while funding acquisitions, capital expenditures and contractual obligations.