EXLS

ExlService Holdings, Inc. - Q1 2008 Filing Summary

Business Context and Reporting Period

This Form 10-Q covers the quarterly period ended March 31, 2008. ExlService Holdings, Inc. is a leading provider of transformational outsourcing solutions, including business process outsourcing (BPO), research and analytics, and advisory services. The company primarily serves clients in the United States and the United Kingdom, with significant operations in India and a new facility in the Philippines that became operational in April 2008.

Key Financial Metrics

Margins: Gross margin decreased slightly to 36.5% from 38.6% year-over-year. Operating margin declined to 9.9% from 12.4%.

Debt & Liquidity: Total liabilities were $30.74 million, primarily consisting of current liabilities ($28.57 million). The company holds no long-term debt other than capital lease obligations ($0.37 million total). Liquidity remains strong with $85.7 million in cash and cash equivalents.

Material Changes vs. Prior Period

• Revenue Growth: Total revenues increased 27.8% to $50.95 million, driven by growth in BPO and advisory services, the addition of nine new clients, and a strengthening U.K. pound against the U.S. dollar.
• Expense Increases: Cost of revenues rose 32.2% to $32.36 million, and SG&A expenses increased 35.5% to $10.84 million. These increases were attributed to higher headcount, salary levels, facility expansion in the Philippines, and the appreciation of the Indian rupee.
• Foreign Exchange Impact: The company recorded a foreign exchange gain of $1.82 million (compared to $0.57 million in Q1 2007), significantly boosting net income despite lower operating margins.
• Capital Expenditures: Investing cash outflows increased significantly due to $6.85 million in fixed asset purchases and a $1.70 million business acquisition.

Outlook, Risks, and Contingencies

Guidance and Outlook: Management expects revenues to grow through organic expansion and acquisitions. Capital expenditures for 2008 are projected to be approximately $20.0 million to support facility expansion in India and the Philippines. The company anticipates that cash flow from operations and remaining IPO proceeds will be sufficient to meet needs for the next two years.

Key Risks and Contingencies:

• Tax Disputes: The company is involved in disputes with Indian tax authorities regarding transfer pricing and permanent establishment status. Assessment orders totaling approximately $9.6 million have been issued. The company has deposited $7.2 million against these assessments but believes the probability of loss is remote and has not accrued a liability.
• Client Concentration: Two clients (Centrica and Norwich Union) accounted for 23.5% and 22.3% of total revenues, respectively. Norwich Union holds an option to purchase a specific facility, which could result in revenue loss if exercised.
• Currency Fluctuation: A significant portion of expenses are incurred in Indian rupees while revenues are in U.S. dollars and U.K. pounds. Appreciation of the rupee negatively impacts margins, though the company utilizes hedging strategies.
• Tax Holiday Expiry: Indian subsidiaries benefit from a tax holiday expiring in March 2009 (potentially extended to 2010). Expiry would materially increase tax expenses.

Investor Verification Checklist

• Verify the status of the Indian tax authority disputes and the likelihood of recovering the $7.2 million in deposits.
• Monitor the utilization rates of the new Philippines facility and its impact on operating margins.
• Assess the risk of revenue loss if Norwich Union exercises its option to purchase the Pune facility.
• Review the company's hedging strategy effectiveness against future Indian rupee appreciation.
• Confirm the timeline for the expiration of the Indian tax holiday and the potential impact on future effective tax rates.