Business context and reporting period
Genpact Limited filed its Form 10-K for the fiscal year ended December 31, 2011, with quarterly information for the fourth quarter of 2011. The company provides business process management, analytics, re-engineering, risk management, and information technology services through 57 delivery centers in 16 countries. It served more than 600 clients and employed approximately 55,400 people at year-end.
Genpact operated as a single reportable segment. GE remained the largest client, although its revenue concentration declined as Global Client revenue expanded.
Key financial metrics
| Metric | FY2011 | FY2010 | Change |
|---|---|---|---|
| Total net revenue | $1,600.4 million | $1,259.0 million | 27.1% increase |
| Gross profit | $595.5 million | $470.4 million | 26.6% increase |
| Gross margin | 37.2% | 37.4% | Down 0.2 percentage points |
| Income from operations | $216.2 million | $177.9 million | 21.6% increase |
| Operating margin | 13.5% | 14.1% | Down 0.6 percentage points |
| Net income | $191.1 million | $149.0 million | 28.2% increase |
| Net income attributable to Genpact shareholders | $184.3 million | $142.2 million | 29.6% increase |
| Diluted earnings per share | $0.81 | $0.63 | 28.6% increase |
| Cash flow from operating activities | $266.6 million | $163.1 million | 63.5% increase |
| Cash and cash equivalents | $408.0 million | $404.0 million | 1.0% increase |
Fourth-quarter 2011 revenue was $442.7 million, compared with $341.5 million in the fourth quarter of 2010. Fourth-quarter operating income was $61.9 million and net income attributable to Genpact shareholders was $61.1 million, compared with $59.9 million and $46.0 million, respectively, in the prior-year quarter.
Business process management revenue increased to $1,251.9 million from $1,083.7 million. Information technology revenue increased substantially to $348.6 million from $175.3 million, primarily reflecting the Headstrong acquisition and growth in Global Client services.
Material changes versus the prior comparable period
- Global Client revenue increased 43.2% to $1,116.7 million, representing 69.8% of total revenue versus 62.0% in 2010.
- GE revenue increased only 1.0% to $483.8 million, and GE’s share of total revenue declined from 38.0% to 30.2%.
- Headstrong, acquired in May 2011, contributed $173.6 million of revenue and $5.7 million of net income from acquisition through year-end. The acquisition was funded with cash and new borrowings.
- Cost of revenue increased 27.4%, slightly faster than revenue, while SG&A increased 26.9% and remained 22.4% of revenue.
- Income tax expense more than doubled to $70.7 million, and the effective tax rate increased to 27.7% from 19.4%, primarily because the Indian STPI tax holiday expired on March 31, 2011 and Headstrong had a higher-tax jurisdictional mix.
- Foreign exchange gains increased to $35.1 million from $1.1 million, materially benefiting pretax earnings.
- Goodwill increased to $925.3 million from $570.2 million, largely due to acquisitions, including approximately $390.0 million recorded for Headstrong. No goodwill impairment was recorded.
Cash flow, debt and liquidity
- Operating cash flow was $266.6 million, compared with $163.1 million in 2010.
- Investing cash outflow was $535.1 million, including $577.2 million for acquisitions and $35.8 million for property, plant and equipment.
- Financing activities generated $326.1 million, including $252.0 million of net short-term borrowings and $80.0 million of net long-term debt proceeds.
- Total debt under the credit facility was approximately $357 million at year-end, consisting of approximately $105 million of term debt and $252 million drawn on the revolving facility. The debt bears variable interest linked to LIBOR.
- Debt covenants include interest coverage, leverage, and positive-net-worth requirements for the Indian business. The company reported compliance with its covenants at December 31, 2011.
- Contractual cash obligations totaled $806.9 million, including $252.0 million of short-term borrowings, $102.9 million of long-term debt, $179.2 million of operating leases, and $229.1 million of other long-term liabilities.
Guidance, outlook, commentary and risks
The filing does not provide a specific numerical revenue, earnings, or margin guidance outlook. Management described the economic environment as uncertain and cited potential demand declines, pricing pressure, currency movements, client financial distress, and legislative changes affecting offshore outsourcing.
- GE’s master services agreement extends through 2016, but minimum annual commitments decline to $250 million in 2014, $150 million in 2015, and $90 million in 2016. The December 2011 amendment added productivity guarantees, price reductions, revised payment terms, and revised termination provisions.
- Key operating risks include dependence on U.S. clients and GE, employee attrition and wage inflation, competition, long sales and implementation cycles, fixed-price contract execution, regulatory restrictions on offshore services, and technology or data-security failures.
- Approximately 72% of revenue was denominated in U.S. dollars while most costs were incurred in Indian rupees and other foreign currencies. Management uses foreign exchange hedges, but hedging may not fully offset currency volatility.
- A 5% appreciation of the Indian rupee against the U.S. dollar was estimated to increase annual rupee-denominated expenses by approximately $29 million before hedging effects.
- Employee attrition for employees employed at least one day was approximately 30% in 2011.
- Accounts receivable totaled approximately $423.0 million, net of doubtful-account reserves, including $143.8 million owed by GE. A $6.3 million doubtful-debt provision included $4.6 million related to two clients that filed for bankruptcy protection.
- The company reported no material pending legal proceedings and received unqualified audit opinions on its financial statements and internal control over financial reporting. Management excluded Headstrong and Empower Research from the internal-control assessment; those acquired businesses represented $641.3 million of assets and $175.2 million of revenue in the consolidated financial statements.
- Material unusual items included acquisition-related costs, a $5.3 million impairment of property and capital work in progress, significant foreign exchange gains, and the expiration of Indian tax benefits.
Important facts for investors to verify
- Whether Global Client growth remains strong after separating organic growth from Headstrong and revenue reclassifications related to former GE businesses.
- The sustainability of the $35.1 million foreign exchange gain and the effect of future Indian rupee movements on margins and cash flow.
- The integration, profitability, and final purchase-price allocation of Headstrong and other 2011 acquisitions, including contingent consideration.
- The effect of the expired Indian tax holiday and other expiring tax concessions on the effective tax rate and free cash flow.
- GE’s future purchasing levels, pricing concessions, productivity guarantees, and the declining contractual minimum commitments through 2016.
- Liquidity and refinancing risk associated with the $252.0 million revolving-facility draw and other variable-rate debt.
- Changes in employee attrition, wage inflation, utilization, pricing, and operating margins.
- Potential impairment risk relating to $925.3 million of goodwill and $113.3 million of acquired intangible assets.