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Presentation

Genpact Limited beats earnings expectations. Reported EPS is $0.68, expectations were $0.65.

Operator: Good day, ladies and gentlemen. Welcome to the 2023 First Quarter Genpact Limited Earnings Conference Call. My name is Gigi, and I will be your conference moderator for today. [Operator Instructions] As a reminder, this call is being recorded for replay purposes. The replay of the call will be archived and made available on the IR section of Genpact’s website. I would now like to turn the call over to Roger Sachs, Head of Investor Relations at Genpact. Please proceed.

Roger Sachs: Thank you, Gigi, and good afternoon, everybody, and welcome to our first quarter earnings call to discuss results for the period ended March 31, 2023. We hope you had a chance to review our earnings release, which was posted to the IR section of our website, genpact.com. Speakers on today’s call are Tiger Tyagarajan, our President and CEO; and Mike Weiner, our Chief Financial Officer. Today’s agenda will be as follows: Tiger will provide an overview of our results and an update on our strategic initiatives. Mike will then walk you through our financial performance for the quarter as well as provide our current thoughts and our outlook for the full year 2023. Tiger will then come back for some closing remarks, and then we will take your questions.

We expect our call to last about an hour. Some of the matters we will discuss in today’s call are forward looking and involve a number of risks, uncertainties and other factors that could cause actual results to differ materially from those in such forward-looking statements. Such risks and uncertainties are set forth in our press release. In addition, during today’s call, we will refer to certain non-GAAP financial measures that we believe provide additional information to enhance the understanding of the way management views the operating performance of our business. You can find the reconciliation of these measures to GAAP in today’s earnings release posted to the IR section of our website. And with that, let me turn the call over to Tiger.

Tiger Tyagarajan: Thank you, Roger. Good afternoon, everyone and thank you for joining us today for our first quarter 2023 earnings call. Today, I’ll talk to you about our financial results for the first quarter of 2023 and about how we believe we are uniquely positioned to partner with our clients in leveraging generative AI, large language models or LLMs and broad AI and machine learning technologies. So first, our results for the first quarter were solid and reinforce the powerful interlinkage between our Data-Tech-AI and Digital Operations services that leads to many new opportunities to continue to create value for clients and growth for us. One of the most exciting was the record level of first quarter bookings we signed in the quarter and near-record pipeline we entered the second quarter with.

In the first quarter of 2023, we delivered on a constant currency basis total revenue of $1.089 billion, up 4% year-over-year; Data-Tech-AI service revenue of $485 million, up 6% year-over-year; and Digital Operations services revenue of $604 million, up 3% year-over-year. Additionally, we delivered adjusted operating income margin of 16.4%, expanding 140 basis points year-over-year, and adjusted diluted earnings per share of $0.68, up 13% year-over-year. Over the last 60 days, I have had the opportunity to speak to a 150-plus C-suite executives of large global enterprises, and I’m hearing a consistent set of themes. They all face the reality of having to do more with less, so they remain focused on cost takeout and cash flow improvements.

At the same time, they want to allocate resources to their most critical long-term transformational programs, including starting to think about ways to leverage generative AI, LLM and, more broadly, AI in their business. It is this backdrop against which we set the net new record for our first quarter bookings, including 5 large deals, with total contract values greater than $50 million. While almost three-quarters of our bookings were from our priority accounts, we also added 17 new logos this quarter with an average contract value of about $6 million compared to the $3 million level for the full year 2022. Let me give you some color on the 5 large deals because there are some consistent themes there. First, for a leading technology platform provider in the automotive industry, we are modernizing their application stack, moving it all to AWS cloud, redesigning their finance, sourcing, procurement and customer service operations to improve efficiency, and more importantly, access clean data that can be orchestrated to leverage AI-based solutions.

The strategic objective is cost reduction, but also improvement in end-to-end dealer and customer experience that will drive growth. For one of the largest global consumer goods companies, we will redesign, transform and run their full order-to-cash and source-to-pay services end-to-end across 100 plus countries to dramatically reduce costs and improve working capital. Even more importantly, using our AI and cloud-based Cora AP platform, we will standardize and automate master data management and contracting, which will then allow use of AI for better decisioning on buying supplier choices and sustainability as well as customer segmentation and customer credit. For a large industrial equipment manufacturer with a very fragmented technology landscape across 50 plus countries, we will redesign and run their end-to-end global finance processes and thus enable them to fully separate into two listed entities.

We will combine digital partner technologies with our domain depth and process expertise, which will then allow data to be leveraged for AI and generative AI, delivering savings and commercial benefits. A leading global med tech company changed its strategy of many years running their own global captives through now partnering with Genpact. Their motivation was to leverage the latest AI, generative AI and LLMs, for which they’d first need access to clean data consistently across 80-plus countries. We are taking over their global captives to not only drive costs down, but also deliver a commercially competitive advantage to drive their growth. And finally, for a global beverage company, we are taking over their European capital operations and they, too, have decided to shift strategy to leverage our know-how in process and domain to be able to embed AI solutions by rapidly modernizing their processes that deliver AI-driven insights to improve cost, experience and outcomes.

Many of these deals incorporate non-FTE-based commercial models, particularly transaction-based pricing that aligns all our goals to drive rapid leverage of new technologies, including generative AI, machine learning and LLMs. Data-Tech-AI services, where we design and build solutions to transform our clients’ businesses, grew 6% on a constant currency basis. This was driven by ongoing momentum for our emerging services, including supply chain, sales and commercial and risk that collectively grew 9%, partially offset by a slowdown in the discretionary portion of our shorter-cycle advisory work, as we had expected. Digital Operations services, where we digitally transform and run our clients’ operations continued to deliver steady results in the first quarter, growing 3% on a constant currency basis.

We have made great progress on all 5 of our initiatives to deliver our long-term goal of 10% plus organic top line growth and expanding our AOI margin at a more meaningful pace than historical levels through 2026. First, revenue from our priority accounts grew 3% during the quarter and represented approximately 62% of total revenue. Despite seeing some near-term macro pressure, our investments in these clients are paying off as the majority of our first quarter bookings were from our priority accounts. Second, we continue to deepen our relationships with our cloud technology partners with whom we co-innovate and create joint IP and AI solutions. For example, with ServiceNow, we have embedded our domain and data depth to help transform and automate manual processes in areas such as procurement, accounts payable and risk management.

The strength of this partnership is evidenced by our co-sponsorship of ServiceNow’s flagship event, Knowledge ‘23, taking place next week, where we will present our procurement-as-a-service offering. And with Kinaxis, we have expanded our preferred partner status with capabilities in Europe and Asia to more effectively sell clients with critical supply chain solutions globally. Third, we are investing in new operating centers in Tier 3 cities, particularly in India, giving us access to great talent pools. We have 2 centers fully operational and a third one getting ready for quarter 3 launch. Fourth, we continue to drive outcome and transaction-based commercial models that now represent 13% of total revenue on our path towards 20% by 2026.

In fact, 28% of our bookings in quarter 1 had non-FTE pricing. And lastly, we’ve expanded our large deals team to take advantage of increasing number of large deal opportunities, and the results are showing in large deal bookings as well as pipeline strength in large deals. As expected, our attrition continues to drop, now at 24% during the first quarter. We saw this positive trend across the company at all levels, skill sets and geographies. Adjusting for involuntary attrition and employees with less than 3 months of service, our attrition was even lower at 19%. During the quarter, we hired 8,000 new team members across the globe. It is clear that the opportunity to learn new skills and solutions and work on digital, generative AI and machine learning technologies in many of our client engagements is a talent attractor and is also driving attrition down.

Now, let me step back and talk about the rapid evolution in the last 5 months of generative AI and why we believe we are one of the best positioned in our industry to take advantage of this next wave of AI. While AI has been in our DNA for years, generative AI and the recent breakthrough is an exciting next wave, which will further leverage our capabilities. As we look back over the last 5 years, it is important to emphasize how central a role AI has played in our success with clients. Over these years, we have developed and refined our AI capabilities, enabling us to create innovative, industry-specific solutions for our clients. We believe this has positioned us as one of the leaders in the AI space in our industry, giving us a competitive advantage for long-term growth and margins.

Some of the key milestones on this journey include the following. In March 2017, we made our big move into AI when we acquired RAGE Frameworks that allowed us to bring natural language processing and natural language generation technologies into our services. This helped us launch our AI-driven solutions for financial services using the technology to read financial statements that we then deployed in our loan processing operations and financial reporting services, delivering a 60% reduction in cycle time for loans and a 40% cost reduction. We then built and deployed AI for demand forecasting and inventory optimization solutions for the CPG sector, reducing stock-outs and inventory holding costs. Three years back, we deployed AI-driven predictive maintenance solutions for a number of our large manufacturing clients where we run these operations, leading to a 30% reduction in maintenance costs and improved equipment effectiveness.

We also created at that time our AI center of excellence, focused on driving innovation, talent development and building new solutions with scale and industry partners. We then expanded our suite of AI solutions to include natural language understanding, NLU. This allowed us to have AI-powered customer service chatbot solutions for the banking, insurance and the high-tech industries as part of our end-to-end services. This improved customer experience drove up retention and renewal rates for our clients as well as cross-sell and upsell for them. In every one of my 150-plus C-suite client conversations that I referenced earlier, we talked about generative AI and how all our clients are challenged with where to start, how to prioritize, what steps to take and how to maximize value.

The biggest realization for most enterprises is that their highly fragmented and distributed data sets and processes will prevent them from starting this journey. We saw the exact same thing happen when RPA and low-code workflow on the cloud became prime time 7 years back. We embraced these technologies, built capabilities and incorporated all of them into our services and operations. We now have close to 8,000 bots running in our operations and deployed by us on client sites. We also have more than 250 clients whose operations run on Genpact’s Cora platform, our AI cloud-based digital platform that on the average, handles more than 20 million transactions a month. We’re now seeing the same co-innovation journeys in AI to consolidate processes and data, clean them up, standardize them and then deliver services with these AI solutions built into them.

This is clearly one of the big drivers for the surge in our inflows and bookings, the urgency all our clients have to get to the stage of being able to leverage these technologies to create value. They often need to fix their basics, their legacy technology, processes and data in order to be able to leverage AI. Our differentiated value proposition as their transformation partner is built on five pillars of strength. First, domain expertise. Our deep understanding of various industries has allowed us to create industry-specific AI solutions that address unique challenges and understand all exceptions and edge cases. Second, scalable AI solutions. The AI solutions we develop can be easily adopted and scaled across different industries and functional areas.

Third, continuous innovation. We believe that continuous and rapid innovation cycles are key to maintaining an AI and generating AI advantage. We invest consistently in R&D to ensure that we are constantly experimenting with AI and generative AI use cases with our clients. Fourth, talent development. Our AI center of excellence has a talented team of data scientists, engineers and domain experts. And our 3-year-old data-abridged reskilling program had 70,000 people get certified last year. This provides the base talent pool to build our expertise in a talent-short market. And finally, strategic partnerships. We have established strategic partnerships with leading technology providers to enhance our AI capabilities. Our domain process and data expertise make us a uniquely differentiated strategic partner for many of them.

Let me share two specific examples of how these five pillars and our history have made us the partner of choice for finding ways to leverage AI. We built and deployed an AI-powered customer churn prediction model for a leading Software-as-a-Service company. This model uses machine learning algorithms to analyze customer behavior data, product usage patterns and other relevant factors to predict the likelihood of a customer churning. As a result, we identified at-risk customers and have now implemented targeted retention strategies in our operations, leading to a 30% reduction in churn and a significant increase in customer lifetime value for our client. For another client, we went back to 10 years of customer sentiment data that was being captured to build a very powerful Net Promotor Score prediction engine that we then used to drive specific, tailored marketing campaigns using generative AI to aid in customer service.

For a global manufacturing company, we used AI-driven predictive analytics to generate more accurate revenue and expense forecast as part of our FP&A services, considering various internal and external factors such as market trends, economic indicators and historical financial data. This improved accuracy enabled the company to make better informed strategic decisions, optimize resource allocation and ultimately achieve a 25% reduction in forecast tariffs, leading to increased operational efficiency and financial performance. We are still in the early days of this current wave of use cases using generative AI and are in rapid prototype and experimentation mode with our clients. The initial wave of opportunities, are concentrated in help desks, customer service and research work particularly in unregulated industries.

As we have demonstrated with technologies such as RPA, dynamic workflows and even earlier iterations of AI, every technology wave expands our total addressable market and allows us to do more complex work for our clients. With that, let me turn the call over to Mike for a detailed review of our first quarter results.

Mike Weiner: Thank you, Tiger, and good afternoon, everybody. Today, I’ll review our first quarter results and provide you with an update for our full year 2023 financial outlook. Total revenue was $1.089 billion, up 2% year-over-year or 4% on a constant currency basis. Data-Tech-AI services revenue which represents 45% of total revenue, increased 4% year-over-year or 6% on a constant currency basis, largely driven by continued growth in our cloud-based data and analytics solutions across our focused areas, including supply chain, sales and commercial and risk services. Digital Operations services revenue, which represents 55% of total revenue, was flat year-over-year or up 3% on a constant currency basis, primarily due to deal ramps from existing and recent wins.

From a vertical perspective, financial services increased 9% year-over-year, largely due to continued strong demand in our risk management services, leveraging data, analytics and AI. Consumer and Health Care declined 4% year-over-year, largely driven by lengthening large deal cycles, lower Data-Tech-AI services revenue and the impact from a recent divestiture of a business we had previously classified as held for sale in 2Q 2022. High Tech and Manufacturing increased 3%, primarily driven by new deal ramps, partly offset by a notable reduction in operational scope of a priority high-tech account. During the year, we grew the number of client relationships with annual revenue greater than $5 million from 150 to 175. Clients with more than $25 million in revenue increased from 31 to 36, including a recent expanded relationship that brings a number of clients with over $100 million in annual revenue from 3 to 5 in the same period last year.

Adjusted operating income margin expanded 140 basis points year-over-year to 16.4%. This better-than-expected performance was largely due to timing of sales and marketing investments that we expect to pick up during the remainder part of the year as well as general operating leverage. As a reminder, our adjusted operating income margin during the first quarter of 2022 included the impact of the business designated held for sale that was recently divested. Gross margins in the quarter was 34%, down from 35.8% during the same period last year, primarily due to higher-than-normal severance costs related to workforce reductions related to our discretionary portion of our short-cycle advisory work, higher travel costs and investments supporting new deal activities.

Excluding the severance charge I just mentioned, gross margin for the quarter would have been more in line with the level we reported during the fourth quarter of 2022. SG&A as a percentage of revenue was 19.9%, down 230 basis points year-over-year, largely due to timing of investments that we expect to ramp up through the remainder of the year and overall G&A leverage. Adjusted EPS was $0.68, up 13% year-over-year, from $0.60 in the first quarter of last year. This $0.08 increase was primarily driven by higher adjusted operating income of $0.08 as well as the impact from lower outstanding share counts and lower net interest expense of $0.01, partially offset by a $0.02 impact of year-over-year changes in FX remeasurements. Our effective tax rate was 23.4%, in line with 23.5% rate last year.

Turning to cash flows and balance sheet. During the quarter, we utilized $34 million of cash from operations compared to utilizing $114 million during the same period last year that was in part driven by a significant expansion in DSOs in the first quarter of 2022, reflecting clients reverting to historical payments to take advantage of interest rates. Year-over-year, our DSOs expanded by 1 day to 83 days. We expect our DSOs to remain in the low 80-day range for the remainder of the year. Cash and cash equivalents totaled $552 million compared to $647 million at the end of fourth quarter 2022, reflecting our annual incentive compensation payouts that occurred in the fourth quarter and the return of $55 million to shareholders. At the end of the quarter, our net debt-to-EBITDA ratio for the last 4 rolling quarters was 1.4x, in line with our preferred 1x to 2x range.

With the undrawn debt capacity, the existing cash balances, we have ample flexibility to pursue growth opportunities and execute on our capital allocation strategy. During the quarter, we continued to execute on our program of more regular cadence of share repurchases and bought back 631,000 shares for a total cost of $30 million at an average price per share of $47.57. We also paid out a total of $25 million in dividends. Capital expenditures as a percentage of revenues equated to approximately 1% in the quarter. We anticipate a higher level of investment activity throughout the remainder of the year related to new large deal signings as well as opening of new operational centers associated with our hybrid delivery model. Finally, let me provide you with an update on our full year outlook.

We continue to expect to have revenue between $4.64 billion and $4.71 billion, representing year-over-year growth of 6% to 7.5% and 6.5% to 8% on a constant currency basis. We continue to expect our full year 2023 adjusted operating income margin to be approximately 16.8%, aligned with our outlined strategy of driving margin expansion at a faster pace than we’ve done historically. I want to take a moment to provide some additional color on our gross margin for 2023. We are expecting our underlying gross margin to improve approximately 30 basis points in 2023, primarily due to scaling of our Data-Tech-AI services as well as the impact of off-cycle pricing increases we obtained last year. However, this benefit will be offset by the impact of our recent large deal wins that have an onshore delivery that has inherently a lower gross margin in the early years of such contracts.

Therefore, we are anticipating gross margin to be relatively to slightly down for 2023 compared to the 2022 level. While these new large deals inherently have a lower gross margin than the company average, over time, as we digitally automate solutions, leverage resources, we expect their profitability to increase over the contract period. Over the deal terms for these agreements, we expect overall adjusted operating income margin to be in line with the total company level due to lower SG&A investment required to support delivery. We now expect our full year 2023 effective tax rate to be at the higher end of our prior 24% to 25% range due to lower level of discretionary tax benefits available than initially anticipated in the overall jurisdictional earnings revenue mix.

Given the outlook I just provided, we continue to expect adjusted operating income per share for the full year 2023 to be between $2.92 and $2.99. Lastly, let me share some thoughts on the expected revenue and adjusted operating income margin cadence throughout the remainder of the year. We now expect revenue for the year to be more back-end loaded than we initially thought due to deal ramp activity related to new large engagements, offsetting the slowdown in advisory work that we anticipated will continue in the near-term. Therefore, we continue to look for low single-digit quarter-over-quarter growth for the second quarter, expanding to mid to high single-digit growth during the latter part of the year. For a year-over-year perspective, we continue to anticipate growth in the back half of 2023 will be relative to the first half due to the ramp-up profile of the recent deal wins for an easier comparison.

Given the strong adjusted operating income margin we generated in the first quarter, we believe we’re in a better position to expand our adjusted operating income margin to 16.8%. This outlook includes absorbing higher levels of both R&D and sales and marketing expenses throughout the balance of 2023 and investing the savings related to cost actions we took in the first quarter to support new deals. In terms of progression through the year, we continue to expect adjusted operating income margin to flow through our typical pattern of expanding sequentially with revenue, however, at a less acute increase during the second half than in our previous expectations. Our full year outlook, informed by our visibility into the second half of 2023 with accelerated growth driven by large deal bookings as well as our robust pipeline, gives us confidence in our ability to achieve our multiyear strategy of driving sustainable 10% plus organic revenue growth and expanding adjusted operating income margin more meaningful pace than we have in the past throughout ‘22 through 2026.

With that said, let me turn the call back to Tiger.

Tiger Tyagarajan: Thank you, Mike. As we look at the way our 2023 has started and the momentum we see, it is clear that the capabilities we built organically and added inorganically over the years are even more relevant for our clients. Every new technology breakthrough that has become available has only increased the need for partners like us to help our clients leverage these technologies to add value to them at scale. We’ve already seen a greater urgency and desire in our clients and new targets to transition to new operating models, get their arms around their data that is clean, well defined and well understood, that then becomes capable of feeding these models to create outsized value. In summary, every one of the 150 plus clients I’ve met in the last 60 days expressed interest and intention to have Genpact be their partner in using and implementing AI and generative AI.

We started our journey in AI with the acquisition of Rage in 2017, and that spurred a number of AI and machine learning services and solutions. Three, we view AI as both an opportunity for internal efficiency and margin enhancement and expansion of services to clients with an increasing TAM. Since the announcement of ChatGPT and other generative AI, our pipeline intensity have gone up. We’re already working with a number of real use cases with clients in our operations and their operations as well. That is why, despite some near-term pressures in the small portion of our advisory business that is more discretionary, overall demand for our services could not be more robust. I’m pleased to share that we recently published our 2022 Sustainability Report, which is available on our website, highlighting the ongoing progress we have made across our ESG initiatives that support our long-term financial targets.

And at the same time, we are helping many of our clients make progress on their ESG goals using our solutions. With that, let me turn the call back to Roger.

Roger Sachs: Thank you, Tiger. We’re now ready to take your questions. Gigi, can I please ask you to give the instructions?

Operator: [Operator Instructions] Our first question comes from the line of Tien-Tsin Huang from JPMorgan.

Operator: Thank you. [Operator Instructions] Our next question comes from the line of Keith Bachman from BMO.

Operator: Thank you. [Operator Instructions] Our next question comes from the line of David Koning from Baird.

Operator: Thank you. [Operator Instructions] Your next question comes from the line of Maggie Nolan from William Blair.

Operator: Thank you. [Operator Instructions] Our next question comes from the line of Ashwin Shirvaikar from Citi.

Operator: Thank you. [Operator Instructions] Our next question comes from the line of Sam Salvas from Needham & Company.

Operator: Thank you. [Operator Instructions] Our next question comes from the line of Bryan Keane from Deutsche Bank.

Operator: [Operator Instructions] Our next question comes from the line of Bryan Bergin from TD Cowen.

Operator: Thank you. [Operator Instructions] Our next question comes from the line of Surinder Thind from Jefferies LLC.

Operator: Thank you. I would now like to turn the conference back over to Roger Sachs for closing remarks.

Roger Sachs: Thanks everybody for joining us on our call today, and we look forward to speaking to you again next quarter.

Operator: Thank you. This concludes today’s conference call. Thank you for participating. You may now disconnect.