Genpact Limited — Form 10-Q Summary
Business context and reporting period
Genpact designs, transforms, and operates technology-enabled business processes, including business process outsourcing (BPO), information technology (IT), consulting, finance and accounting, insurance, life sciences, and regulatory affairs services. The company operated in 25 countries with more than 67,500 employees and hundreds of long-term clients as of the filing. This unaudited Form 10-Q covers the quarter and nine months ended September 30, 2014, with comparisons to the same periods in 2013.
Financial performance and key metrics
| Metric | Q3 2014 | Q3 2013 | 9M 2014 | 9M 2013 |
|---|---|---|---|---|
| Net revenues | $588.1 million | $534.9 million | $1,677.9 million | $1,573.5 million |
| Gross profit | $233.6 million | $205.6 million | $659.0 million | $599.8 million |
| Gross margin | 39.7% | 38.4% | 39.3% | 38.1% |
| Income from operations | $72.9 million | $86.0 million | $223.2 million | $237.9 million |
| Operating margin | 12.4% | 16.1% | 13.3% | 15.1% |
| Net income attributable to Genpact shareholders | $46.7 million | $70.3 million | $146.3 million | $180.9 million |
| Diluted EPS | $0.21 | $0.30 | $0.65 | $0.77 |
| Cash flow from operations | Not separately provided | Not separately provided | $178.8 million | $233.2 million |
Q3 revenue increased 9.9%, while nine-month revenue increased 6.6%. BPO revenue grew 11.2% in Q3 and 6.9% year to date; IT revenue grew 6.1% and 5.8%, respectively. Global Client revenue increased 12.9% in Q3 and 9.4% year to date, while GE revenue declined 0.6% and 2.6%, respectively. GE represented 19.9% of Q3 revenue and 20.7% of nine-month revenue.
Gross margin improved because of operating efficiencies and foreign-exchange effects, partly offset by wage inflation. Profitability declined because SG&A increased 30.9% in Q3 and 20.0% year to date, reflecting investments in client-facing personnel, subject-matter experts, sales and marketing, strategic initiatives, and higher wage costs. Foreign exchange results also shifted from gains in 2013 to losses in 2014.
Balance sheet, debt, liquidity, and cash flow
- Cash and cash equivalents declined to $399.2 million at September 30, 2014 from $571.3 million at December 31, 2013. The company also held $25.0 million of short-term deposits.
- Approximately $376.6 million of cash was held by foreign subsidiaries; management expected cash from operations, reserves, and debt capacity to fund operations and expansion.
- Long-term debt, excluding current maturities, was $650.4 million; current debt was $4.3 million. Short-term borrowings were $165.0 million at September 30, 2014, versus none at year-end 2013.
- The $675.0 million term loan matures in August 2019 and bears interest at LIBOR, subject to a 0.75% floor, plus a 2.75% margin. The $250.0 million revolving facility expires in August 2017 and bears interest at LIBOR plus 2.50% on funded borrowings.
- Management reported compliance with all financial covenants during the nine months ended September 30, 2014.
- Operating cash flow declined 23.3% to $178.8 million. Investing cash use increased to $196.3 million, primarily due to the Pharmalink acquisition, capital expenditures, and short-term deposits. Financing cash use was $152.6 million, including $302.6 million for share repurchases.
- Total contractual cash obligations were $1.26 billion, including $768.2 million of long-term debt obligations, $169.2 million of short-term borrowing obligations, $143.4 million of operating leases, and $116.4 million of other long-term liabilities.
Material changes, outlook, risks, and unusual items
- In May 2014, Genpact acquired Pharmalink Consulting for preliminary consideration of $138.6 million, including $125.9 million of cash consideration and $12.7 million of estimated contingent consideration. The acquisition added regulatory affairs capabilities in life sciences and generated $110.0 million of preliminary goodwill.
- Genpact repurchased and retired 17.3 million shares for approximately $302.6 million, or $17.50 per share, through a modified Dutch auction. Shares outstanding declined to approximately 216.6 million at September 30, 2014 from 231.3 million at December 31, 2013.
- The company purchased the remaining noncontrolling interest in Genpact Netherlands B.V. during Q3, resulting in 100% ownership and a substantial reduction in noncontrolling-interest income.
- Foreign exchange results changed from a $10.8 million gain in Q3 2013 and a $24.6 million gain for 9M 2013 to a $4.7 million loss and a $12.1 million loss, respectively, in 2014. The company used foreign-exchange forward contracts and cash-flow hedges; aggregate derivative balance-sheet exposure was a net liability of $86.7 million at September 30, 2014.
- A May 2014 Indian tax assessment order totaled approximately $43 million. Genpact is appealing the assessment, and the Indian government withheld $9.6 million of tax refunds in partial satisfaction of the order.
- Unrecognized tax benefits were $22.3 million at September 30, 2014, including $21.3 million that could affect the effective tax rate if recognized.
- Management highlighted risks involving client retention and concentration, dependence on GE and clients in the United States and Europe, wage inflation, employee hiring and attrition, competition, acquisitions and integration, tax policy, foreign exchange, LIBOR and financing terms, technology disruptions or breaches, regulatory changes, and global economic conditions.
- The filing provides no quantitative full-year revenue or earnings guidance. Management stated that it expected operating cash flow, cash reserves, and debt capacity to be sufficient for operations and growth.
- There were no legal proceedings believed likely to have a material adverse effect, no defaults upon senior securities, and no material changes in market-risk exposure. Disclosure controls were deemed effective.
Most important facts for investors to verify
- Whether Global Client growth can offset the expected decline in GE-related BPO revenue and reduce customer concentration.
- Whether elevated SG&A investment converts into sustained revenue growth without further operating-margin compression.
- The integration, performance contribution, and final purchase-price allocation of Pharmalink, including contingent earn-out exposure.
- The resolution and cash impact of the approximately $43 million Indian tax assessment and related withheld refunds.
- Liquidity and refinancing capacity given $165.0 million of short-term borrowings, the large 2019 term-loan maturity, and total contractual obligations of $1.26 billion.
- Sensitivity of earnings, cash flow, and derivative valuations to foreign exchange movements, wage inflation, interest rates, and client demand.