Sluggish growth continued during the March ’09 quarter with most outsourcing companies showing marginal declines in their revenues qoq. However, the quarter marked a revival of confidence as companies were able to close some deals which were stalled for the past few quarters. While the telecom, healthcare and media verticals are expected to do well, the BFSI businesses will remain flat or decline marginally in the next year.

	Firstsource+		WNS		EXL*		Genpact		HOV Services+
Quarter ended	Dec-08	Mar-09	Dec-08	Mar-09	Dec-08	Mar-09	Dec-08	Mar-09	Dec-08	Mar-09
Op. revenue ($m)	93.8	99.7	134.0	132.5	43.7	41.0	281.8	265.8	49.8	48.6
QoQ growth (%)	4.5%	6.3%	(10.5%)	(1.1%)	(5.9%)	(6.2%)	4.1%	(5.7%)	3.9%	(2.5%)
Total Revenue ($m)	93.6	99.7	129.9	132.8	43.7	41.0	281.8	265.8	49.8	48.6
EBIT ($m)	3.4	6.9	6.5	7.8	2.0	3.0	47.6	35.9	5.6	7.0

+ results are reported in INR and have been converted to USD @ 47.35
* EXL revenues exclude discontinued operations
Source: Company filings, ValueNotes Research

Revenues
All the companies, except Firstsource Solutions, recorded a marginal decline in revenues (in the range of 1-6%) during the March ’09 quarter. Firstsource showed stable growth, while Genpact and EXL declined by ~6% qoq.

• Firstsource recorded an encouraging revenue growth of 6.3% qoq, primarily due to strong growth in its telecom business revenues. The company is now banking on its growth from India. This is evident from the revenue contribution of business from India, which grew by 200 bps qoq.
• WNS revenue represented a marginal decline of 1% over the December ’08 quarter, but increased on a yoy basis aided by the Aviva Global Services (AGS) and Call 24/7 Limited acquisitions.
• Revenues of both Genpact and EXL declined qoq by ~6%. EXL’s decline was largely due to a 27% qoq decline in transformation services revenues, while HOV’s revenues declined by 2.5% qoq primarily due to de-growth in its telecom vertical. The decline mirrors the current economic conditions - delayed decision-making and clients cutting back on their discretionary spend.

Operating margins

• While Genpact and HOV showed stable EBIT margins over the last 4 quarters, volatile margins for EXL and Firstsource indicate their high exposure to the BFSI segment and US markets.
• Genpact’s EBITDA margins declined qoq primarily due to a sharp spurt in SG&A expenses. While this affected the margins in this quarter, it will have a deferred accretive effect on revenues in the quarters going forward.
• The operating EBIT of Firstsource grew by ~80% qoq as a result of a ramp up in its domestic businesses, growth in its Account Receivable business, and also due to the reduction of 950 employees.
• Though HOV’s revenues declined, EBITDA increased because of a tight control over operating costs, particularly due to integrating and rationalizing its global operations.

Operating metrics

Due to the fear of job losses worldwide, job mobility as well as attrition levels declined. In the March ’09 quarter, FSL was the only company which had laid-off 950 employees. Genpact added 300 employees to its headcount primarily to strengthen its sales and marketing team.

Guidance and client wins

Despite the uncertain business environment, the companies were able to close some of the incomplete deals in the March ’09 quarter.

• Firstsource expects to have positive growth in its telecom and media segments, and in its Asia Business Unit in FY10. In this quarter, the company added two delivery centers in India, and shut down one center in North America.
• WNS has guided net revenues of $385m-$390m for FY10, reflecting both volume and currency pressures and new business opportunities. The adjusted net income for FY10 is expected to be $50m-$52m.
• During the quarter, EXL withstood its FY09 guidance for revenues of $170m-$175m and now expects adjusted operating margin to be ~12%. Apart from winning a new contract of $100m from a top-10 US insurance company, it also renewed a strategic outsourcing contract with its largest client - Centrica, PLC (British Gas).
• Genpact is still aiming for its original guidance of 10%-15% and to sustain its margins. The company believes that the BFSI and healthcare sectors will remain stable, but is worried about the manufacturing segment, particularly the auto sector, which is going through turmoil.

Valuations showing improvements

Valuations of outsourcing companies have declined in tandem with the overall market movement. While some of them may appear to be attractive investment opportunities, we believe that HOV presents a good investment opportunity.

 At current levels, HOV is the cheapest of the lot and warrants a better valuation owing to its consistent performance over the past quarters. Its Mcap/sales multiple does not reflect its true earning power. For the last four quarters, it has maintained its margins and a decent average growth of 4% despite the uncertain economic environment. While WNS has also shown good performance, a high PE multiple in the absence of strong growth potential, at least for the next few quarters, does not make it an attractive investment case. Genpact is moderately priced at a PE of ~14x. Being one of the stronger companies with an established client base and stable margins, the company is a good long term investment bet.

Hence, we believe that investments in both Genpact as well as HOV Services should generate better investment returns with adequate diversification over the next 15-18 months.