Business context and reporting period
ExlService Holdings, Inc. (NASDAQ: EXLS) filed this Form 10-K for the fiscal year ended December 31, 2020. The company provides business process management, operations management and analytics services, with approximately 31,900 employees. Effective January 1, 2020, it reorganized reporting into Insurance, Healthcare, Analytics and Emerging Business; prior-period segment information was recast.
Financial performance
| Metric | FY2020 | FY2019 | Change |
|---|---|---|---|
| Revenue | $958.4 million | $991.3 million | Down 3.3% |
| Gross profit / margin | $334.5 million / 34.9% | $335.9 million / 33.9% | Margin up 1.0 percentage point |
| Operating income / margin | $110.0 million / 11.5% | $76.4 million / 7.7% | Income up 43.9% |
| Net income | $89.5 million | $67.7 million | Up 32.2% |
| Diluted EPS | $2.59 | $1.95 | Up 32.8% |
| Operating cash flow | $203.0 million | $168.4 million | Up $34.6 million |
Q4 2020 revenue was $249.0 million, compared with $256.9 million in Q4 2019; quarterly net income was $32.2 million versus $21.4 million.
Revenue by segment: Insurance $341.8 million (down 1.3%); Healthcare $101.2 million (up 4.0%); Emerging Business $152.7 million (down 19.7%); Analytics $362.7 million (up 1.5%). Emerging Business was the largest source of the annual revenue decline. Revenue was concentrated in the U.S. (85.0%) and U.K. (9.3%); the ten largest clients represented 37.4% of revenue, with no single client above 10%.
Liquidity, debt and capital
Cash, cash equivalents and short-term investments totaled $402.8 million at year-end, including $335.3 million held in foreign jurisdictions that could incur taxes upon distribution. Cash, cash equivalents and restricted cash on the cash flow statement ended at $225.5 million. Accounts receivable was $147.6 million, down from $171.9 million; days sales outstanding improved to 53 from 59.
Year-end debt principal was $239.0 million: $89.0 million drawn on the revolving credit facility and $150.0 million of 3.5% convertible notes due October 2024. The balance-sheet carrying amount of total borrowings was $227.0 million after unamortized discounts and issuance costs. The revolver matures November 2022; the company was in compliance with its covenants. It drew $100 million under the facility in March 2020 and repaid it in full in April. Capital expenditures were $42.2 million; management expected $35–40 million in 2021. FY2020 financing cash outflow included $79.9 million of share repurchases. No cash dividends are anticipated in the foreseeable future.
Material changes and management commentary
COVID-19 materially affected results after the first quarter, reducing client volumes and delaying new-contract execution and implementation. Management cited the shift to remote delivery, customer economic uncertainty and reduced activity in parts of the business. The company estimated it could deliver more than 95% of current client requirements remotely, while noting some sensitive work could not be authorized for remote performance.
Cost controls and lower travel and employee-related expenses helped lift margins despite lower revenue. SG&A fell 12.4%, and 2019 impairment and restructuring charges of $8.7 million did not recur in 2020. Conversely, the effective tax rate rose to 22.2% from 18.3%, including a $1.3 million one-time charge tied to Indian tax-regime elections. Management expects demand for digital, cloud and data-driven services to benefit over the longer term, but provided no specific revenue or earnings guidance in the supplied filing text.
Risks, contingencies and unusual items
- COVID-19’s duration, client demand effects, remote-work costs and operational or cybersecurity risks remain uncertain.
- Client concentration and contracts that clients may terminate without cause expose revenue to loss or volume reductions.
- Competition, wage inflation, employee retention, alternative pricing arrangements and foreign-exchange movements may pressure margins.
- Indian tax authorities have demanded $16.7 million, net of advance payments, in transfer-pricing and permanent-establishment disputes. The company had paid or provided bank guarantees for $8.1 million and had not accrued a liability, believing its positions would more likely than not be sustained.
- Potential retroactive effects of Indian social-security interpretations and new labor codes could increase employee-related costs; the filing says impact and timing were not reliably estimable.
- The company reported no goodwill impairment in 2020, including after interim and annual tests, but goodwill was approximately $349 million and the Healthcare Analytics reporting unit held approximately $181 million. Estimates depend on forecasts and discount rates.
- Convertible notes may create dilution or cash demands upon conversion or a fundamental change. The revolving facility’s LIBOR reference rate also faces transition risk.
- Tax holidays and incentives, including Philippine tax holidays expiring for some centers by 2022, may affect future tax expense. The company reported no material pending-litigation effect expected, but said possible losses could not be reasonably estimated.
Important facts for investors to verify
- Whether revenue and client volumes recover, particularly in Emerging Business, and whether new contracts ramp as planned.
- Whether margin gains persist as temporary COVID-related cost controls unwind and remote-work, wage and technology costs continue.
- Cash conversion, foreign-held liquidity and the use of cash for repurchases, capital investment or debt repayment.
- Developments in Indian tax and social-security matters, and the potential effect of expiring tax incentives.
- Debt maturities, covenant headroom, LIBOR transition arrangements and potential dilution or cash settlement under the convertible notes.
- Goodwill sensitivity to updated forecasts and the company’s ability to sustain growth in analytics and digital services.