Genpact Limited — 2017 Q3 Form 10-Q Summary
Business context and reporting period
Genpact Limited is a Bermuda-based global professional services firm providing digital-led innovation, analytics, business process outsourcing and information technology services. The company employed more than 77,000 people in over 20 countries. This unaudited Form 10-Q covers the three and nine months ended September 30, 2017, compared with the corresponding 2016 periods.
Financial performance and position
| Metric | Q3 2017 | Q3 2016 | Change |
|---|---|---|---|
| Net revenue | $708.8 million | $648.8 million | 9.3% increase |
| Gross profit | $279.6 million | $256.4 million | 9.1% increase |
| Gross margin | 39.5% | 39.5% | Stable |
| Operating income | $97.5 million | $87.1 million | 11.9% increase |
| Operating margin | 13.7% | 13.4% | 30 basis-point increase |
| Net income attributable to common shareholders | $73.7 million | $68.9 million | 7.0% increase |
| Diluted EPS | $0.38 | $0.33 | Increase |
| Metric | Nine months 2017 | Nine months 2016 | Change |
|---|---|---|---|
| Net revenue | $2,002.5 million | $1,889.0 million | 6.0% increase |
| Gross profit | $774.7 million | $740.0 million | 4.7% increase |
| Gross margin | 38.7% | 39.2% | 50 basis-point decrease |
| Operating income | $256.6 million | $242.7 million | 5.7% increase |
| Operating margin | 12.8% | 12.8% | Stable |
| Net income attributable to common shareholders | $196.0 million | $193.4 million | 1.4% increase |
| Diluted EPS | $0.99 | $0.91 | Increase |
- Global Client revenue increased 13.0% in Q3 and 11.5% for the nine-month period, while GE revenue declined 15.4% and 26.0%, respectively. GE represented 10.2% of Q3 and nine-month revenue, down from 13.2% and 14.6% in the prior-year periods.
- BPO revenue increased 9.9% in Q3 and 7.9% year to date. IT services revenue increased 6.2% in Q3 but declined 2.0% for the nine-month period.
- Management reported constant-currency revenue growth of approximately 10% in Q3 and 7% for the nine-month period.
- Q3 net interest expense increased to $8.7 million from $4.9 million; nine-month net interest expense increased to $24.1 million from $11.2 million, primarily due to new senior notes, higher LIBOR and revolving-credit borrowings.
- Q3 effective tax rate was 18.4%, compared with 19.8% in the prior-year quarter. The nine-month effective tax rate was 18.4%, compared with 18.5%.
- Net cash provided by operating activities was $263.7 million for the nine months, up from $236.0 million. Capital expenditures for property, plant and equipment and intangibles were $56.5 million.
- Cash used in investing activities was $332.9 million, primarily reflecting $277.5 million of net cash paid for acquisitions. Cash and cash equivalents were $440.1 million at September 30, 2017, compared with $422.6 million at December 31, 2016.
- Accounts receivable increased to $670.7 million from $615.3 million at year-end 2016.
Debt, liquidity and capital allocation
- Total debt was approximately $1.22 billion at September 30, 2017, consisting of $160.0 million of short-term borrowings, $39.2 million of current long-term debt, and $1.02 billion of long-term debt excluding the current portion.
- The company issued $350.0 million of 3.70% senior notes in March 2017. The notes had a carrying value of $347.6 million at September 30, 2017 and mature April 1, 2022.
- The term loan carrying value was $708.0 million and matures June 30, 2020. The revolving credit facility had $160.0 million of funded borrowings outstanding against a $350.0 million facility.
- Management stated that the company was in compliance with its financial covenants and expected operating cash flow, cash reserves and debt capacity to fund operations, growth, dividends, debt service and potential share repurchases.
- The company paid $35.1 million in dividends during the first nine months and intended to pay a regular quarterly dividend of $0.06 per share, or a planned annual dividend of $0.24 per share.
- The company repurchased shares for $219.8 million during the first nine months, including $200.0 million under an accelerated share repurchase agreement. Final settlement of that agreement was expected in January 2018.
- Approximately $434.4 million of cash was held by foreign subsidiaries; management intended to permanently reinvest $334.9 million of that amount.
Material changes and unusual items
- Revenue growth was driven by Global Clients, BPO services and acquisitions, partly offset by the expected decline in GE-related revenue following GE Capital dispositions.
- Nine-month gross margin declined because of wage inflation, higher operational headcount, acquisition-related costs and infrastructure expenses. Q3 gross margin remained stable at 39.5%.
- Q3 2016 included a $5.4 million intangible-asset impairment charge; the nine-month 2016 period included $11.2 million of impairment charges. No comparable impairment was recorded in 2017.
- Q3 2017 included a $5.2 million provision for an expected loss on divestiture of a non-strategic portion of the company’s legacy European IT support business. Q3 2016 included a $5.2 million gain on a different divestiture.
- Goodwill increased to $1.315 billion from $1.069 billion at December 31, 2016, primarily due to acquisitions and foreign-exchange effects. Net intangible assets increased to $138.2 million from $78.9 million.
- The company completed several acquisitions in 2017, including RAGE Frameworks, BrightClaim, the Fiserv image-processing business, OnSource, certain Birlasoft IT assets, and TandemSeven. These transactions expanded digital, artificial intelligence, insurance, financial services and industry-specific capabilities.
- The company adopted ASU 2016-09 and restated certain 2016 income tax, net income, cash flow, equity and EPS amounts. The filing states that adoption did not materially affect consolidated results.
- The company expects adoption of the new revenue-recognition standard on January 1, 2018 using the cumulative-effect method. Management expected little impact on revenue but anticipated changes in the timing of certain contract-cost recognition.
Outlook, risks and contingencies
The filing does not provide a clear numerical revenue or earnings guidance range for 2017. Management described continued investment in digital, analytics and domain capabilities and expected cash resources and financing capacity to support growth and acquisitions.
- Key risks include client retention and new-business wins, dependence on U.S. and European clients and certain industries, competition, pricing and utilization, employee hiring and attrition, wage inflation, acquisitions and integration, and the ability to convert bookings into revenue.
- Foreign-exchange exposure is significant across numerous currencies. The company uses forward contracts and interest-rate swaps; interest-rate swaps covered $438.3 million of notional exposure at September 30, 2017.
- Additional risks include changes in LIBOR and credit ratings, debt covenant compliance, tax-law changes, restrictions on employee visas, technology disruptions, cybersecurity and data-protection breaches, natural disasters, regulatory developments and adverse global economic conditions.
- Unrecognized tax benefits were $23.0 million at September 30, 2017, including $22.0 million that could affect the effective tax rate if recognized.
- Contractual obligations totaled approximately $1.648 billion, including $1.165 billion of long-term debt, $203.3 million of operating leases, $161.1 million of short-term borrowings and $20.1 million of earn-out consideration.
- Management reported no legal proceedings expected to have a material adverse effect and concluded that disclosure controls were effective. Internal-control testing excluded acquisitions completed during the nine-month period.
Investor verification points
- Verify whether Global Client growth continues to offset the planned decline in GE revenue and monitor GE concentration.
- Assess whether wage inflation, headcount growth and acquisition costs pressure gross margin.
- Track integration performance, revenue contribution and goodwill or intangible-asset impairment risk from the 2017 acquisitions.
- Review debt maturities, floating-rate exposure, LIBOR sensitivity, covenant compliance and the April 2022 senior-note maturity.
- Evaluate cash availability given foreign-subsidiary cash restrictions, dividends, share repurchases and acquisition spending.
- Monitor the January 2018 settlement of the accelerated share repurchase agreement and the company’s continuing repurchase authorization.
- Confirm the effects of the January 1, 2018 revenue-recognition adoption on contract costs, revenue timing and disclosures.