Firstsource Solutions (FIRSOU) : El Clasico!

Initiating Coverage
December 3, 2013
Rating matrix Rating Target Target Period Potential Upside YoY Growth (%)
FY12 Net Sales EBITDA Net Profit
[
: : : :
Buy | 29 15-18 months 34%
Firstsource Solutions (FIRSOU)

El Clasico!
FY15E 8.7 27.4 53.4
| 22
FY13 25.0 51.0 136.3
FY14E 7.5 32.2 33.4
9.7 -36.1 -55.2
Current & target multiple
FY12 PE (x) EV to EBITDA(x) Price to book (x) Target PE Target EV/EBITDA Target P/BV
[
FY13 7.6 8.4 0.8 10.2 10.2 1.1
FY14E 7.4 6.4 0.7 9.9 7.7 0.9
FY15E 4.8 5.0 0.6 6.5 6.1 0.8
15.0 12.7 1.0 20.2 15.4 1.4
Stock Data
Bloomberg/Reuters Code Sensex Average Volumes (yearly) Market cap (| crore) Debt (Sep-13) Cash (Sep-13) 52 week H/L (|) Equity capital Face value DII Holding (%) FII Holding (%) FSOL IN EQUITY / FISO.NS 20855 629433 | 1447 crore | 1060 crore | 150 crore 24 / 9 | 670 crore 10 5.0 1.1
Comparative return matrix (%)

Returns (%) FSOL HGS EXL Genpact
[
1M 3.9 12.4 -10.7 -9.3
3M 75.5 83.7 -3.5 -6.1
6M 96.3 48.8 -12.3 -7.7
12M 79.9 37.9 -4.2 12.9
Price movement
200 150 100 50 0 Nov-11 Nov-12 Mar-12 Mar-13 May-12 May-13 Nov-13 Sep-11 Sep-12 Sep-13 Jan-12 Jan-13 Jul-12 Jul-13
Firstsource Solutions (FSL) scripted an ideal turnaround narrative, from reeling under FCCB weight to successfully repaying it along with a change in management. Operationally, FSL appears to be doing everything right from 1) consolidating facilities, 2) eliminating operational silos, 3) realigning sales function, 4) renegotiating unviable service agreements (SLAs), 5) repaying debt and 6) trimming excess flab for margin expansion, to aligning itself to capture the impending healthcare opportunities. Though FY14E revenue growth could be soft (7% in constant currency vs. 15% in FY13), we believe growth could return in FY15E (10% in CC) led by top client mining, demand uptick for customer management services for providers and likely improvement in offshoring for UK BFSI piece. Though valuations have doubled since May 2013, they continue to be reasonable, relative to global peers, given the debt repayment and margin improvement roadmap. This makes FSL an attractive story for value investors. We initiate coverage with a TP of | 29. ObamaCare induced spends may be key drivers for healthcare vertical ObamaCare, as it is popularly known, mandates that Americans purchase health insurance in 2014 or else face penalties. This could bring ~30 million Americans into the insurance net and implies incremental volumes for both hospitals and insurers. Broadly, we believe, regulations could drive spends to reduce costs, raise member enrolments, billings, claims administration and data analytics. Net debt neutral by FY16E end, plausible At the current repayment rate, FSL would repay $135 million of its debt by FY16E and end with ~$50 million of cash, resulting in a net debt of $12-13 million assuming no accelerated payments. However, back of the envelope EBITDA calculations suggest accelerated repayments are plausible if FSL manages to improve the EBITDA to FCF conversion ratio to an average ~85% vs. 57% in FY13. Debt repayment may translate to Mcap gains FSL continues to be an attractive story for value investors given the debt repayment roadmap, which itself could translate to Mcap gains even if the enterprise value were to remain the same. We value the stock at | 29 i.e. at 5x FY15E EV/EBITDA multiple. The target multiple implies a 34% discount to its five-year historical (FY08-13) average multiple of 7.6x. The discount is warranted, despite debt repayment schedule, as revenue growth and margins have moderated relative to the historical average and are inferior relative to the peers.
Exhibit 1: Key financials
FY11 Income from operations (| crore) EBITDA (| crore) Net profit (| crore) EPS (|) - diluted PE (x) EV to EBITDA(x) Price to book (x) RoNW (%) RoCE (%) 2055 290 139 2.9 7.4 8.1 1.0 9.7 7.0 FY12 2255 185 62 1.4 15.0 12.7 1.0 4.3 3.6 FY13 2819 280 147 2.8 7.6 8.4 0.8 9.3 7.5 FY14E 3029 370 195 2.9 7.4 6.4 0.7 10.1 10.5 FY15E 3292 471 300 4.5 4.8 5.0 0.6 13.0 13.3
[
Nifty
Firstsource
Analysts name Abhishek Shindadkar abhishek.shindadkar@icicisecurities.com Hardik Varma hardik.varma@icicisecurities.com
Source: Company, ICICIdirect.com Research
ICICI Securities Ltd | Retail Equity Research
Shareholding pattern (Q2FY14)

Shareholder Promoters FII DII Others Holding (%) 56.8 1.1 5.0 37.1
Company background
Firstsource Solutions (FSL), incorporated in December 2001, is a leading global provider of business process management (BPM) services and is among Indias top three pure play BPM companies. FSL offers the full suite of BPM services across the customer life cycle customer acquisition, customer care, transaction processing, billing & collections as well as business research & analytics and has over 30,000 employees. Its 75+ clients include six Fortune Global 500 banks, two Fortune Global 500 telecommunication companies and three Fortune 100 healthcare companies. FSL provides services to companies in the healthcare, telecom & media, banking & financial services and insurance verticals from its 47+ facilities spread across the US, UK, Europe, Philippines, India and Sri Lanka.
FII & DII holding trend (%)

60 48 % 36 24 49.5 7.3 49.5 7.3 56.9 7.6 56.8 7.9 0 56.8 6.1 12
Business description
FSLs current business structure has been realigned taking into account the three dimensions of vertical market across geographies, horizontal services and delivery, with sales and marketing, client engagement aligned to verticals. The company primarily focuses on four business units (BU) viz. healthcare payer BU, healthcare provider BU, collections BU, and customer management BU.
Q2FY13
Q3FY13
Q4FY13
Q1FY14
Q2FY14
Promoters
FII & DII
Healthcare provider
Solutions offered: Premier Partnership Services, Program, Receivables MedAssist Eligibility
Management, Member Enrolment Services, Innovative Staffing Solutions, Patient Financing (Map), Physical Enrolment and Contact Centre Solutions
Exhibit 2: Provider business overview

Provider Patient services
FSL provides revenue cycle management solutions including eligibility services (80% of provider), enrolment and other recovery solutions to over 730 hospitals and health systems across 35 states and helps maximise reimbursement systems, increase cash flow and reduce bad debt. The provider business generates about two-third of FSLs healthcare BU revenues and has ~1600 employees (100% US delivery) spread across 13 US regional service centres. Generally, pricing is outcome based as FSL earns commissions while the order book as on Q2FY14 end stood at ~$105 million. Major competitors include Emdeon, Accretive, Conifer and Parallon Solutions.
Eligibility service Receivables management Collections services
Hospitals
Patient contact and registration Insurance verification and certification Patient visit management
Physician Groups
Medicaid review and management - Assisting patients with secondary Medicaid coverage Charity assistance - Handling all aspects of providing charity assistance Self pay conversion MedAssist Advantage Plan (MAP) - Innovative hospital credit card in conjunction with US Bank
Ongoing and clean-up projects for all Payor classes - Initial billing, follow-up & denials management Self-Pay Early-Out Cash Acceleration - Management of patient interaction to ensure maximum recovery Management of provider enrolment and billing for Outof-Primary-State Medicaid Receivables Credit Balance Resolution
Custom Telephone Collection Campaign Small Balance Collections Skip-tracing Services Cash Acceleration Services Attorney Services
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Healthcare payer
The payer business provides BPM solutions to the insurance industry and accounts for about a third of the healthcare business. With ~2500 employees, FSL processes claims for leading healthcare payers including many Blue Cross & Blue Shield plans, third-party administrators and primarily provides 1) front-end office & mailroom solutions, 2) data conversion, 3) claims processing/adjudication, 4) claims auditing & 5) member enrolment & eligibility services solutions. Delivery generally is a combination of onsite & offshore while pricing is output based. Major competitors include ACS, Xerox, CSC, HOV Services, Hinduja Global Services (HGS) & BPO divisions of Indian vendors like Wipro & Cognizant.
Data conversion Member enrolment Claims Processing & adjudication Member & provider eligibility Service line verification Allocation of benefits Earner liability processing Bundling & duplicate analysis Claims repricing Client support IT support
Exhibit 3: Payer business overview

Payer Mail room
Insurance Companies
Mail handling & document management Scanning and reject handling Indexing Archival Printing
Workflow enabled image management OCR/ICR Technology Capture data with integrated database validations Customized output generation (ANSI837, NS, etc.)
Entry in system Data base maintenance Calls to validate information
Member service Data EHelp Provider Services HIPAA compliance support
Database design Database maintenance Data cleansing System design and support Maintenance and support
Third Party Administrators
Managed Care Organisations
Customer management
Firstsource delivers innovative and value-added BPM services across the customer lifecycle. The company offers a comprehensive suite of customer relationship management services customer acquisition, customer care, complaints management through a combination of deep domain knowledge, strategic alliances and internal competencies backed by the right technology.
Collections management
Firstsource offers innovative collections and recovery solutions providing end-to-end solutions encompassing the entire collections life-cycle from pre-collections delinquency (welcoming calls, reaching delinquent or likely to become delinquent customers), early stage collections (pre charge off first party and third party), late stage collections (post charge off recoveries), legal (pre-legal, litigation, post judgement), to collections support (skip tracing, letters, process excellence).
Transaction processing
FSL offers a range of data processing services including transaction processing outsourcing, back office outsourcing, document management, mailroom services and transaction processing services to the banking & financial services, insurance, telecommunications and healthcare industries.
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Exhibit 4: Company History

Date 2001 2002 2003 2003 2004 2004 2005 2006 2006 2007 2008 2011 2012 Event Established as ICICI Infotech Upstream Ltd by ICICI Bank, India Renamed to ICICI Onesource. Acquires Customer Asset in UK. Acquires FirstRing, a global BPM player, in the US. WestBridge (now managed by Sequoia Capital) invests in the company. Acquires majority stake in Pipal Research and Accounts Solutions group in the US. Strategic investment by Temasek in the company Enters Heatlhcare and Publishing Industries through the acquisition of RevIT India Inks strategic partnership with Metavante & acquired Business Process Management Inc. US Name changed to Firstsource Solutions Ltd. Starts operations in Northern Ireland and Argentina Initial offering in India. Acquires MedAssist to strengthen its presence in Healthcare provider space. Raises FCCB worth $ 275 million. Signs a 5-year, $ 80 million outsourcing deal with BarclayCard US Enters into a joint venture (JV) with Dialog Axiata and enters Sri Lanka. RPG led CESC acquires 56% stake in the company. Repays FCCB obligation worth $ 237 million in December 2012.
Exhibit 5: Revenues have grow at 16.8% CAGR during FY08-13

3000 2600 | crores 2200 1800 1400 1000 FY08 FY09 FY10 FY11 FY12 FY13 1298.8 34.7 1749.4 1970.8 2055.3 2255.0 25.0 2818.5 60 48
Exhibit 6: while average EBITDA margin were 12.9%

320 280 | crores 240 200 233.9 231.1 280.5 289.6 185.1 160 120 % 20 13.2 14.2 14.1 8.2 279.6 9.9 16 12 8 4 0 %
18.0
36 24
12.7
4.3
9.7
12 0
FY08
FY09
FY10
FY11
FY12
FY13
Net Sales
Growth, YoY
Operating EBITDA
EBITDA Margin, %
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Management Profile
Rajesh Subramaniam, Managing Director and CEO: Mr Subramaniam is responsible for driving the companys strategic and corporate initiatives globally and evolving the companys business model towards achieving long term growth, profitability and industry leadership of the organisation. Prior to joining Firstsource in 2011 as Deputy Managing Director and Chief Financial Officer (CFO), he was the Managing Director of Walden India Advisors Pvt Ltd. He was also the CFO of Firstsource between November 2002 to June 2008. He earned his MBA from Richmond College, London and is a commerce graduate from Madras University, India Dinesh Jain, Chief Financial Officer: Mr Jain oversees the companys global finance, banking, accounting and corporate taxation functions. He has been with FSL since inception and was instrumental in consolidating the commercial and finance functions globally. Prior to joining FSL, he was with ICICI Bank, responsible for US GAAP financials and played an important role in the US listing of ICICI and ICICI Bank as well as in the merger of ICICI and ICICI Bank. He holds a bachelors degree in commerce from Jodhpur University, and is also a Chartered Accountant from the Institute of Chartered Accountants of India and a Cost Accountant from The Institute of Cost and Works Accountants of India. Mr Sanjay Venkataraman, President, Customer Management: Venkataraman is the head of Customer Management at Firstsource and focuses on enhancing customer management initiatives. Prior to joining Firstsource, he worked with companies including Mahindra Satyam (as Head of South Asia) and Dell (as Country Manager). He holds a Bachelors degree in Electrical Engineering from Bharathiar University, Coimbatore. David Strickler, President and CEO Healthcare Provider: Mr Strickler is the President and CEO Healthcare Provider Solutions for North America. Prior to Firstsource, he was the SVP-Operations at Accretive Health and also worked with leading corporations in the US including The Advisory Board Company, McKinsey & Company Inc. and Westinghouse Electric Corp. Mr Strickler holds an MBA and a Masters degree in Arts from Cornell University. Stephanie Wilson, Executive Vice-President, European Operations: Ms Wilson is responsible for client engagement and operations in Europe. She has several years of experience in the contact centre industry and has worked with companies such as Teleperformance, TSYS Managed Services and Convergys prior to joining the company. Shalabh Jain, Executive Vice-President, Customer Management Domestic Business: Mr Jain heads the Indian domestic and South East Asia BPO business. Prior to Firstsource, he worked with various organisations including Wipro, Compaq/HP, GE, IBM Daksh and MphasiS. Mr Jain holds a Bachelors in Mechanical Engineering degree from the Indian Institute of Technology, Kanpur, and also holds an MBA (Finance) from the Institute of Management Technology, Ghaziabad. Venkat Raman, Executive Vice-President, Healthcare Payer and Publishing: Mr. Raman is in charge of Firstsources Healthcare Payer and Publishing businesses including P&L responsibilities. Prior to Firstsource, he served with Lason Inc. He is a graduate in Physics and also holds a Certificate in Management Development from the Indian Institute of Management, Ahmedabad, India.
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Satish M, Executive Vice-President, Human Resources: Mr Satish has over 19 years of experience and is responsible for driving the HR strategies. He has been associated with companies like Medall (where he headed the HR and process excellence function), Accenture (where he lead the recruitment for the BPO division), LG Soft India Ltd and Siemens Public Communication Ltd. Mr Satish has done his MBA (HR) from New Port University and Accelerated Management Program from ISB, Hyderabad. Iain Regan, Executive Vice-President, Sales and Client Services: Mr Regan is responsible for global Sales, Marketing and Account Management at Firstsources Telecommunications and Financial Services verticals. He holds an honours degree from Kingston University in Geography and Environmental Science.
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Investment Rationale
Firstsource Solutions scripted an ideal turnaround narrative, from reeling under FCCB weight to successfully repaying it along with a change in management. Operationally, FSL appears to be doing everything right from 1) consolidating facilities, 2) eliminating operational silos, 3) realigning sales function, 4) renegotiating unviable SLAs, 5) repaying debt, 6) trimming excess flab, which aids margin expansion, to aligning itself to capture impending healthcare opportunities. Though FY14E revenue growth could be soft (7% in constant currency vs. 15% in FY13), we believe growth could return in FY15E (~10% in CC) led by top client mining, demand uptick for customer management services for providers and likely improvement in offshoring for the UK BFSI piece. We model revenues to grow 7.5%, 8.7% YoY in FY14E and FY15E, respectively, along with 228 bps, 210 bps expansion in margin to 12.2%, 14.3%, respectively. Though valuations have doubled since May 2013, they continue to be reasonable, relative to global peers, given the debt repayment and margin improvement roadmap and hence makes FSL an attractive story for value investors. We are initiating coverage on FSL with a target price of | 29.
Key drivers for healthcare vertical: spends driven by new regulations

BPM spends induced by the significant regulatory overhaul of the US healthcare system could be a key driver for the healthcare vertical. ObamaCare, as it is popularly known, mandates that its citizens purchase health insurance in 2014 or else face penalties. This could bring ~30 million Americans into the insurance net and implies incremental volumes for both hospitals and insurers. Note that creation of health insurance exchanges (HIX) in each state, offering a marketplace to compare policies, could create IT-BPM opportunities. Broadly, the changes that aim to a) increase the quality and affordability of health care, b) reduce the number of uninsured through public and private coverage and c) reduce the cost of healthcare could create spending opportunities in 1) IT implementation and support for Electronic Health Record (EHR), 2) business process outsourcing (BPO) to reduce costs, raise member enrolments, billings, claims administration and data analytics services to support fact-based decision-making throughout the healthcare system.
Exhibit 7: Healthcare BPO contracts both in volume and value have risen in 9MCY13
200 160 $ billion 120 80 40 0 11 CY07 10 CY08 6.3 6 2 CY09 3 CY10 4 CY11 9.3 11.7 8.6 2 CY12 6 9MCY13 22.8 149.7 15 12 9 6 3 0
Healthcare contracts awarded
Annual contract value (ACV), RHS
Source: Bloomberg, ICICIdirect.com Research
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Healthcare rebates may drive savings in non-claims costs for payers

The Affordable Care Acts mandatory medical loss ratio (MLR) threshold for insurance companies could drive cost savings initiatives, through outsourcing, in the healthcare payer market. Note that with the aim of improving the care quality, the Act encourages compliance with MLR threshold set at 85% for large group market and 80% for small market and individuals vs. marginally lower earlier and maintenance of uniform rates across states. The threshold ensures insurers spend a certain percentage of premium generated on improving the quality of care. Further, the rebate requirements kicks in estimated at $2.1 billion in 2012 including savings from lower premiums if insurers do not set the premium at levels where they would maintain the MLR threshold by paying generated premiums as benefits. Understandably, a higher MLR ratio yields lower profitability for payers and could help drive cost saving initiatives through outsourcing/offshoring to trim commissions and other administrative expenses to become efficient.
MedAssist had three main service offerings - eligibility services (60-65% of revenues), collections services (1517%) and receivables management (20-25%). For eligibility services, the company maximises the eligibility of the private-pay patients (uninsured) for federal/state and other financial assistance programmes. It also manages their application and reimbursement process for hospitals
MedAssist acquisition: Bane earlier, boon now!

FSL entered the healthcare space through acquisitions. FSL first acquired RevIT, followed by US based BPM Inc. for US$30 million in 2006 and then MedAssist a pan-American revenue cycle management solution provider in August 2007, to expand its healthcare provider business. While the BPM acquisition size was relatively small, MedAssist was huge, at $300 million. The acquisition added 1000 customers, including 800 hospitals, to its roster and gave a strong foothold in the US with ~1400 employees spread across 23 delivery centres. However, FSLs intentions of integrating the payer and provider business, also a reason that drove MedAssist acquisition, never fructified. Further, despite the constructive setup of 1) healthy MedAssist margins (~22-24%), 2) client diversification (top and top 10 contributing 4.3% and 29% of CY06 revenues) - peak cycle valuations (3.3x CY06 revenues and 15x EBITDA), ensuing economic downturn and the corresponding debt [US$275 million line of credit at 250-300 bps above Libor (five-year duration) and remaining US$55 million from internal accruals) overwhelmed FSL. However, this could change with FSL restructuring the top deck at MedAssist by hiring a new CEO, CFO and HR head. David Strickler, the new CEO, worked earlier as SVP Operations at Accretive Health, which had revenues of US$826 million in CY11. At present, the company has a tie-up with 800 out of the 4,500 hospitals (18% marker share) across the US. The company is refocusing on its sales strategy, which could likely yield an improvement in the provider business from Q4FY14E.
A peek into US healthcare landscape

Healthcare spending in the US constitutes $2.7 trillion ($8,680/person) or ~18% of its GDP in 2011, up from $2 trillion in 2005. The centre for Medicare and Medicaid Services (CMS) expects healthcare spending to reach $4.4 trillion by 2020 or ~19.2% of the US GDP. Medicare provides healthcare coverage to ~49.5 million Americans aged 65 or above, and accounts for ~3.7% of the 2012 GDP ($580 billion) and is expected to reach $1.1 trillion by FY20. Similarly, Medicaid, which covers ~56 million low-income Americans, stood at ~$417 billion or 2.7% in 2012. Though Medicare and Medicaid spends are expected to grow 4.7% and 6.7% in 2013, respectively, CMS expects spends to rise at a faster 7.4% and 7.9% to $1.1 trillion and $839 billion, respectively rate between 20152022 driven by higher enrolments, increasing costs, and focus towards care vs. service earlier. Interestingly, despite being one of the largest healthcare systems in the world, various estimates suggest that the US is an inefficient healthcare system, with annual overages ranging between ~$600 and $850 billion, as discussed in detail below.
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Government Accounting Office estimates that the annual healthcare spending overages range between $600 and $850 billion and the waste could exhaust a third of US Healthcare Bill. Prominent overages include: Unnecessary care (~27% of healthcare waste): Excess usage of antibiotics and protection against malpractice exposure through diagnostic lab tests usage, account for ~$190 billion in annual healthcare spending Fraud (~10%): Fraudulent Medicare claims and kickbacks for referrals for unwanted services costs ~$70 billion each year Administrative inefficiency (~25%): huge volumes of paperwork involving claim payments, reimbursement and redundant paperwork accounts for annual spending of ~$175 billion Inefficient delivery of care and inflated prices account for ~31% or $220 billion of healthcare waste while preventive failures account for ~7% or $50 billion Waste reduction through greater use of IT and BPM could reduce healthcare costs without impeding the quality of care given incremental 30 million Americans could be added to insurance net and uninsured percentage falls to 6.9% in 2020 vs. 14.7% in 2011. Finally, the BPM outsourcing opportunity could reach $80 billion vs. $10 billion in 2011.
Exhibit 8: Funding under American reinvestment and recovery act (ARRA)
Date Medicare and Medicaid incentives for EHR adoption ONCHIT Programs Biomedical Research University research facilities Amount $ 17 billion $ 2 billion $ 8.2 billion $ 1.3 billion Purpose To provide incentives for the early adoption and use of qualified, certified interoperable HIT and penalties in future years for providers that have not demonstrated meaningful use of EHRs. To promote the use and exchange of electronic health information in a manner consistent with ONCHIT's strategic plan. This funding is designed to expand jobs in biomedical research to study diseases. For constructing and renovating extramural research facilities and for acquiring shared instrumentation and other capital research equipment To conduct or support research to evaluate and compare clinical outcomes, effectiveness, risk and benefits of two or more medical treatments and services that address a particular medical condition. To support state and local efforts to fight preventable diseases and conditions. To be used for construction, renovation, equipment and acquisition of health IT systems for community health centers.
Comparative effectiveness health research $ 1.1 billion Prevention and wellness Community Health New sites and services grants Workforce training Other health care professionals $ 1 billion $ 1.5 billion
To support new sites and service areas, to increase services at existing sites, and to provide supplemental payments for spikes in the $ 500 million uninsured populations. For training primary health care providers and to pay medical school expenses or repayment of medical school loans for students who $ 300 million agree to practice in underserved communities through the National Health Service Corps. These competitive grants, scholarships and loan repayment programs will be used for all the disciplines trained through the primary $ 200 million care medicine and dentistry program, the public health and preventive medicine program.
Source: Centers for Medicare & Medicaid Services, ICICIdirect.com Research
BFS business may be sluggish; I could be a surprise

Discussions suggest the BFSI business continues to face multiple headwinds from lower credit card issuances, outstanding loans and a decline in charge off rates. Further, the Credit Card Act includes several provisions on limiting the card companys ability to charge consumers (but does not include price controls, rate caps and fees). As a reminder, FSL earns a commission depending on its ability to recover bad debt. However, the outstanding credit card portfolio has declined to ~$800 billion vs. $1 trillion before the financial crisis while charge off rates have declined to 2.5% vs. peak rates of 9.9% in March 2010, reflecting an overall improvement in the portfolio quality. We believe BFSI vertical revenue growth could be below the companys average given collections
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Exhibit 9: BFSI business overview

Financial Services Customer service & fulfilment
contribute ~50% of revenues while financial services institutions account for 75% of the collections business and healthcare for the remaining.
Transaction processing Collections
Credit Cards
Custody
Retail banking
Mortgage
General & life insurance
Account maintenance - Activation & authorisation - Account closure - Lost and Stolen cards Query management - Transaction related - Payment related - Product related - Helpdesk activities Interactive services (Email/Web chat) - Up selling - Cross selling - Disputes & complaint resolution
Check, remittance and item processing Funds transfer and forex transactions Custody operations & fund service - Portfolio valuation and reconciliations - Contract note generation - Settlements - Corporate actions - Billing support - Performance audit
Mortgage - Origination - Loan vault conversion - Collateral review - Underwriting - Loan booking Insurance - Application processing - Policy amendments - Policy amendment/ cancellation - Data and trend analysis
Early stage collections - 1st party - Pre-charge off Late stage collections - 3rd party collections - Skip trace
Exhibit 10: Credit card liabilities and charge-off rates are off their peak
850 840 830 $ billion 820 810 800 790 780 Oct-06 Jul-07 Apr-08 Jan-09 Oct-09 Credit card loans Jul-10 Apr-11 Jan-12 Oct-12 Jul-13 US Net Charge-off 12.0 10.0 8.0 6.0 4.0 2.0 0.0 %
30 284.2 142.2 19 CY07 21 CY08 10 CY09 153.2 53.5 11 CY10 16 CY11 6 14 24 80.4 18 12 6 0
Exhibit 11: Banking contract ACVs have moderated YoY

450 360 $ billion 270 180 90 0 31 CY07 17 CY08 10 CY09 18 CY10 220.2 425.6 280.4 100.2 62.2 8 CY11 100.7 9 101.8 10 35 28
Exhibit 12: But insurance ACVs saw demand uptick relative to CY12
450 360 $ billion 270 180 90 0 413.3 366.4
21 14 7 0
CY12 9MCY13
CY12 9MCY13
Banking contracts awarded
Insurance contracts awarded
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FSL recently won the outsourcing partnership award from its top customer in the Europe call centre and customer service awards
Client mining strategy driving telecom and media business

The telecom and media business continues to be driven by top and top 10 customers. We estimate that seven of the top 10 customers are from this space. This list includes the top customer, to whom FSL provides customer service and technical support for the latters 10 million+ customers spread across TV and broadband services. Further, last year, FSL extended its existing 10 year relationship for three years, which could see it expanding its 1000 staff, single location delivery to ~1900 staff spread across three locations. Finally, as a reflection of the success of FSLs mining strategy, top and top 5 clients revenues have grown faster (11.5% and 6.2% CQGR during Q4FY12-Q2FY14) than company average (4.1%) along with 640 bps and 510 bps increase in revenue contribution, respectively.
Customer service Billing / Helpdesk support Invoice requests and complaints Billing disputes Process queries for charges Billing Billing issues Technical support Manage receivables/ collections Overdue collections Credit limit/ expiry Inbound internal handoff calls High usage management Saves / Win back
Exhibit 13: Telecom business overview

Telecom & Media Sales and marketing Account setup and activation
Mobile / Wireless
Inbound sales Outbound sales
Provision Order and returns Logistics coordination Porting support Credit vetting Order input Account administration Internal actioning requests
General enquiries Information requests Customer service Welcome calls Account management Technical support Help desk
Dispute resolution Increasing customer awareness for chosen plan Increase tolling Billing issues
Broadband/ High speed internet
Lead generation Cross sell/up
Fixed / Wireline
DTH/ Pay TV
Exhibit 14: Telecom ACVs saw healthy demand uptick

300 240 $ billion 180 120 60 0 7 CY07 18 CY08 13 CY09 7 CY10 6 CY11 116.7 34.9 28.0 4 CY12 11 9MCY13 100.8 149.4 275.1 268.6 20 16 12 8 4 0
Telecom contracts awarded
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Trimming excess flab, good for margins

FSLs EBITDA margin which declined to 8.2% in FY12 vs. 14.2% in FY10 and 18% in FY08 performance was impacted by a variety of reasons including the rise in delinquencies, investments in India operations, decentralised corporate functions and timing of big acquisitions. Note, the credit card collections business, which includes student loans, contributes ~7.5% of revenues and had peak operating margins closer to teens. However, increased job losses and subsequent delinquencies reduced the margin to almost mid single digit. FSL also invested ~| 100 crore during FY07-09 to set up ~14 new delivery centres for its domestic business (90% telecom, 10% FSI). Further, excessive verticalisation led to FSL operating as silos with decentralised corporate functions, leading to duplication of work and costs overruns, in turn, impacting margins. However, under its three year restructuring plan FSL has: 1) optimised facility usage through consolidation project revival launched and detailed subsequently, 2) created a centralised organisational structure, 3) realigned its sales strategy and 4) renegotiated unviable service level agreements (SLA) with its clients.
Chugging along its three year strategy

Following the revenue deceleration in FY12 led by internal organisational restructuring and FCCB overhang, FSL put in place a three year strategy of recovery in FY13, revenue and margin stability in FY14E and growth in FY15E. Though constant currency revenues grew 15% YoY in FY13 (25% in reported), in H1FY14E they are up a modest 2% led by telecom (13.4% YoY), healthcare (7.5%) and others (6.3%) while BFSI was soft (-1.5%). However, EBITDA margins improved 140 bps to 11.3% in Q2FY14 vs. 9.9% in FY13 led by costs saving initiatives. FSLs facility optimisation programme likely saved ~$12 million while letting go non-profitable domestic clients and price hikes through renegotiated SLAs for others added another couple. Discussions suggest the India business is operating at low single digit margins led by the India telecom piece and FSL is aggressively pushing customer and employee rationalisation efforts there. For FY15E, growth could return led by top client mining, demand uptick for customer management services for providers (two-third of healthcare, ~22% of total) and likely improvement in offshoring for the UK BFSI piece. We model reported revenues to grow 7.5%, 8.7% and expect margins to improve 228 bps to 12.2% and 210 bps to 14.3% in FY14E, FY15E, respectively.
Exhibit 15: Revenues could grow at 8% CAGR of during FY13-15E
3500 3000 | crores 2500 2000 1500 1000 FY08 FY09 FY10 FY11 Net Sales FY12 FY13 FY14E FY15E 1298.8 1749.4 1970.8 12.7 4.3 2055.3 34.7 2255.0 2818.5 3028.9 40 30 20 9.7 7.5 8.7 10 0 % 3292.4 50
25.0
Growth, YoY
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Exhibit 16: EBITDA margins may improve 438 bps during FY13-15E
470 410 | crores 350 290 233.9 230 170 FY08 FY09 FY10 FY11 FY12 FY13 FY14E FY15E 231.1 280.5 289.6 8.2 185.1 279.6 9.9 14.2 13.2 14.1 369.5 12.2 16 14.3 14 12 10 8 6 % 186 CAGR 8% 147 156 164 56 CY13E
Operating EBITDA
EBITDA Margin, %
Sales focus is not just offshoring but a combination of multi-sourcing models (onshoring, near shoring and offshoring) albeit with differential pricing
Sales strategy and function has also been realigned

FSL realigned its silo business independent UK and the US sales operation and a common delivery head in India into four strategic business units with P&L responsibility while the sales engine was realigned along verticals to better client engagement and satisfaction. Further, the management, in conjunction with the sales force now ensures that deals signed meet a certain predefined margin threshold. Finally, overall cost savings initiatives including sales force realignment led to a 471 bps reduction in the other costs as a percentage of revenue ratio to 19.6% in Q2FY14 vs. 24.3% in FY12.
Market sizing of BPM industry

Global BPM sourcing contribution has risen 2 percentage points (pp) as the global organisations aim to rationalise costs, access local market and adopt robust business continuity models. Note, the sourcing market could grow at a CAGR of 10.6% during CY10-CY13E vs. 8.1% for global BPM spends. Indias competitive edge over other emerging nations continues to be driven by its cost efficiencies and talent pool and is reflected in the ~2% improvement in its global sourcing market share to 35.4% in FY12 vs. 33.5% in FY10.
Exhibit 17: Sourcing now forms ~30% of BPO spends vs. 28% in CY10
200 160 $ billion 120 80 40 41 0 CY10 CY11 Global BPM sourcing CY12 Global BPM spends CAGR 11% 49
45
Source: NASSCOM, ICICIdirect.com Research
Page 13
Exhibit 18: India's market share has likely risen to 35.4% in FY12 vs. 33.5% in FY10
50 40 $ billion 30 20 10 0 FY10 FY11 India BPM exports FY12 Global BPM sourcing FY13E 12.4 CAGR 13% 14.2 15.9 17.8 37 CAGR 11% 45 49
41
Exhibit 19: Indian BPM exports may grow at 13% CAGR during FY13-20E
45 36 $ billion 27 18 9 0 FY07 FY08 FY09 FY10 FY11 FY12 FY13E 7.6 1.1 9.9 1.6 CAGR - Exports 15%, Domestic 19% 11.7 1.9 12.4 2.3 14.2 15.9 17.8 7.4 2.8 3.1 3.1 13% FY20E CAGR - Exports 13%, Domestic 13% 42.3
India BPM exports
India BPM domestic
Exhibit 20: FSLs addressable market across verticals

160 128 $ billion 96 64 32 0 Healthcare Telecom & Media CY11 CY20E BFSI 30 10 16 27 CAGR 26% 80 CAGR 21% 150
CAGR 7%
Page 14
Indian BPM vendors likely focusing on high-end offerings

Nasscom estimates a 10% market share loss for Indian vendors in the last five years but predominantly in the voice segment. This could be viewed as a shift by Indian vendors towards higher value business segments or offshoring shift to other low cost destinations such as Philippines or China. Noticeably, Philippine is facing similar challenges as India, be it high attrition, skill staff scarcity and currency fluctuation. Interestingly, cost/FTE in India continues to be the lowest vs. its contemporaries and suggests efficiency gains achieved by Indian vendors.
Exhibit 21: India continues to be cost-effective destination
100 90 80 70 60 50 40 30 20 10 0
$ thousand
81.9 79.7 38.5 22.7 17.7 17.9
83.2 80.1 34.5 25.7 20.4 18.8
84.4 68.7 28.5 25.0 18.6 14.3
85.5 68.6 32.6 25.1 19.7 15.7
89.7 72.2 33.3 27.7 19.0 16.5 CY11
CY07
CY08 U.S. U.K.
CY09 Mexico China
CY10 Philippines
India
Net debt neutral by FY16E end, plausible

Recall that FSL repaid its outstanding FCCB obligation worth $237 million in December 2012 through a combination of working capital loan (US$15 million), external commercial borrowings ($20 million) and capital infusion ($50 million). As of Q2FY14, FSL had debt of ~$177 million vs. $200 million at March 2013 and $22 million cash. At the current repayment rate, FSL would repay $135 million of its debt by FY16E and end with ~$50 million of cash, resulting in a net debt of $12-13 million assuming no accelerated payments. Debt repayment could be supported by healthy FCF generation of | 355 crore and | 409 crore in FY14E, FY15E, respectively. However, back of the envelope EBITDA calculations suggest, possible accelerated repayments if FSL manages to improve the EBITDA to FCF conversion ratio. To illustrate, FSL could generate cumulative EBITDA of ~$230 million between FY14 and FY16E and could be adequate to repay entire debt ($200 million) along with interest ($27-28 million) assuming average 85% EBTIDA conversion to FCF vs. 57% in FY13.
89.7 73.1 33.2 29.2 19.7 14.6 CY12
Page 15
Exhibit 22: FCCB repayment schedule

Internal cash accruals | 810 crore ($150 million)
Issue fresh equity | 275 crore ($50 million)
Repayment of FCCB | 1280 crore ($237 million)
Raise new ECB loan | 108 crore ($20 million)
Working capital adjustment |81 crore ($15 million)
Exhibit 23: Debt repayment to be supported by healthy FCF generation

480 420 360 300 | crores 240 180 120 60 0 -60 FY10 FY11 FY12 FY13 FY14E FY15E 115.1 -46.9 202.6 159.7 355.0
409.0
Free Cash Flow
Exhibit 24: Net debt neutral, plausible by FY16E

200 160 $ million 120 80 40 0 17 FY13 21 FY14E Outstanding Cash 34 FY15E Net debt 183 134 200 155 110 76 65 12 53 FY16E
Page 16
Key Financials
Modelling FY14E, FY15E revenues to grow 7.5%, 8.7%, respectively We expect FY14E and FY15E rupee revenues to grow 7.5% and 8.7% YoY to | 3,029 crore and | 3,292 crore, respectively. Growth would be driven by top client mining, demand uptick for customer management services for providers and likely improvement in offshoring for UK BFSI piece.
Exhibit 25: Revenues may grow at 8% CAGR during FY12-15E
3500 3000 | crores 2500 2000 1500 1000 FY08 FY09 FY10 FY11 Net Sales
[
3292.4 34.7 1970.8 12.7 4.3 2055.3 2255.0 2818.5 3028.9
50 40 30 20 %
25.0
1749.4 1298.8
9.7
7.5 FY13 FY14E
8.7 10 0
FY12
FY15E
Growth, YoY
Modelling average 13.3% EBITDA margins in FY14E, FY15E For FY14E, we expect EBITDA margins to improve 228 bps led by 1) cost rationalisation initiatives, 2) reduction in non-profitable clients and 3) price hikes from other existing domestic customers. For FY15E, we expect EBITDA margins to increase 210 bps primarily led by pick-up in healthcare provider business & margins (~100 bps), rupee depreciation, higher overall revenue growth and full year impact of cost optimisation efforts.
Exhibit 26: EBITDA margins may improve 228 bps, 210 bps in FY14E, FY15E, respectively
470 410 | crores 350 290 233.9 230 170 FY08 FY09 FY10 FY11 FY12 FY13 FY14E FY15E 231.1 280.5 289.6 8.2 185.1 279.6 9.9 14.2 13.2 14.1 369.5 12.2 16 14.3 14 12 10 8 6 %
Operating EBITDA
[
EBITDA Margin, %
Modelling average 7.8% PAT margins in FY14E, FY15E

We are modelling average PAT margins of 7.8% between FY13 and FY15E (FY08-13 average PAT margins of 5.7%) that translates to a CAGR of 43% during FY13-15E. Improvement in PAT margins could be led by EBITDA margin expansion, lower interest outgo partially offset by rising tax rates. We expect RoEs to improve 371 bps during FY13-15E to 13% vs. 9.3% led by improving profitability.
Page 17
Exhibit 27: PAT margins to improve led by EBITDA margin beat

300 240 | crores 180 120 62.0 60 0 FY08 FY09 30.7 1.8 FY10 FY11 FY12 FY13 FY14E FY15E 2.8 3 1 131.6 299.8 10.1 6.9 136.1 6.7 138.5 146.6 5.2 195.5 6.5 11
9.1 9 7 5 % 13.0 10.1 FY15E
Operating PAT
PAT Margin, %
Exhibit 28: Expect RoE uptick going into FY14E and FY15E
15 12 9 % 6 3 0 FY09 FY10 FY11 FY12 RoE FY13 FY14E 4.3 2.2 9.7 9.7 9.3
Balance sheet health improving

At Q2FY14 end, cash balance stood at | 150 crore vs. | 687 crore in Q2FY13, as FSL repaid the outstanding FCCB. Receivables (13.5% CAGR during FY08-13) have grown slower than revenue (16.8%) while unbilled has grown faster (27.8%). Days sales outstanding (DSO) have improved to 44 days in Q2FY14 vs. 54 in Q1FY12. Generally, balance sheet metric has improved. We expect FSL to end FY15E with cash balance in the range of ~$28-34 million.
Page 18
Exhibit 29: FCCB repayment drives cash balance lower

700 560 | crores 420 280 140 0 FY08 FY09 FY10 FY11 Cash FY12 FY13 FY14E FY15E 102.5 96.7 121.8 90.1 91.1 324.4 166.6 682.9
Exhibit 30: Receivables have grown slower than revenue growth

400 360 | crores 320 280 240 200 FY09 FY10 FY11 A/R growth, YoY 15.9 237.9 34.7 12.7 261.1 9.7 4.3 238.9 -8.5 FY12 FY13 Net Sales growth, YoY 9.7 25.0 351.5 47.1 386.6 60 40 20 0 -20 %
% 24 12 0.5 FY12 FY13 Net Sales growth, YoY 0
10.0
Accounts Receivables
Exhibit 31: While unbilled have grown faster

150 120 | crores 90 60 30 0 FY09 FY10 12.7 11.2 FY11 Unbilled growth, YoY 4.3 9.7 51.2 103.7 34.7 60.5 67.3 54.0 104.2 31.0 25.0 136.4 60 48 36
Unbilled revenues
Page 19
Exhibit 32: DSO improvements likely driven by client rationalisation efforts

55 52 49 46 43 40 Q1FY12 Q2FY12 Q3FY12 Q4FY12 Q1FY13 Q2FY13 Q3FY13 Q4FY13 Q1FY14 Q2FY14 FY14E FY15E DSO 48 48 47 54 51 52 49 49 46 44 46
48
Scope for improvement in CFO/EBITDA The CFO/EBITDA conversion is significantly lower than its global peers and suggests significant room for improvement.
Exhibit 33: CFO to EBITDA conversion may improve
CFO/EBITDA EXL Services Genpact Solutions WNS Global Average CY11 87.4 90.5 107.2 95.0 FY12 Hinduja Global Firstsource Solutions 81.6 3.1 CY12 79.4 83.4 84.5 82.4 FY13 47.9 71.3 CY13E NA 62.2 91.4 76.8 FY14E NA 104.2 CY14E NA 69.0 86.2 77.6 FY15E NA 93.2
Source: Bloomberg estimates, Company, ICICIdirect.com Research
Exhibit 34: Higher EBITDA to FCF conversion, including lower capex, may aid debt repayment
FCF/EBITDA EXL Services Genpact Solutions WNS Global Average CY11 57.2 78.3 77.5 71.0 FY12 Hinduja Global Firstsource Solutions (183.6) (25.4) CY12 56.7 59.1 56.9 57.6 FY13 (7.4) 57.1 CY13E NA 48.7 68.7 58.7 FY14E NA 96.1 CY14E NA 51.9 60.9 56.4 FY15E NA 86.9
Page 20
Valuations
Apart from macro headwinds, FSL was impacted by a variety of reasons including acquisition timing, FCCBs and India expansion for telecom clients. However, we are enthused by the considerable success demonstrated by the new management with its three-year restructuring strategy. At current levels, on the EV/revenue metric, the stock is trading at 0.8x and 0.7x its FY14E and FY15E sales, respectively, lower than global peer average of 1.9x and 1.7x but higher than its domestic peer HGS. On EV/EBITDA metric, FSL is trading at 6.4x and 5.0x its FY14E and FY15E EBITDA, also lower than its global peer group average of 9.7x and 8.9x, and higher than 3.5x and 3.2x for HGS, respectively. That said, on P/E metric, FSL is trading at 7.4x and 4.8x its FY14E and FY15E earnings, significantly lower than its global peers (14.7x and 13.9x) and in line/below HGS at 6.8x and 5.9x, respectively). Though the significant discount to global peers was warranted given debt overhang, earnings & margin deceleration, we expect the discount to narrow given the new management has laid the foundation of the rebuilding exercise with likely pay-offs over the longer term. The company plans to 1) repay its outstanding debt through operating cash flows, 2) focus on margin expansion in FY14E and 3) accelerate growth in FY15E. Hence, we believe a likely re-rating is possible as debt repayment alone could translate to Mcap gains even if the enterprise value were to remain the same. We are initiating coverage on the stock with a BUY rating and a target price of | 29.
Exhibit 35: Current enterprise value break-up Exhibit 36: Likely FY16E enterprise value break up
Net Debt, | 910 crores
39% 61% Market Cap, | 1447 crores
Potential market cap gain, | 772 crores 61% 7% Net Debt, | 165 crores Market Cap, | 1447 crores
Source: Company, ICICIdirect.com, Research

At current levels, FSL is trading at 7.4x and 4.8x our FY14E and FY15E diluted EPS estimate of | 2.9 and | 4.5, respectively
Source: ICICIdirect.com, Research
Exhibit 37: One year forward PE(x) chart

50 40 30 | 20 10 0 Sep-12 May-09 May-10 May-11 May-12 May-13 3 Sep-08 Sep-09 Sep-10 Sep-11 Sep-13 Jan-09 Jan-10 Jan-11 Jan-12 Jan-13
Price
11
Page 21
Exhibit 38: 60% discount to global peer group average on EV/revenue metric appears unjustified
EV/ Revenue EXL Services Genpact Solutions WNS Global Average CY11 1.8 2.7 2.2 2.2 FY12 Hinduja Global Firstsource Solutions 0.6 1.0 CY12 1.4 2.3 2.2 2.0 FY13 0.5 0.8 CY13E 1.4 2.0 2.2 1.9 FY14E 0.4 0.8 CY14E 1.3 1.8 1.9 1.7 FY15E 0.4 0.7
Exhibit 39: and 25% on EV/EBITDA metric too

EV/EBITDA EXL Services Genpact Solutions WNS Global Average CY11 10.0 14.8 14.3 13.0 FY12 Hinduja Global Firstsource Solutions 5.0 12.7 CY12 7.7 12.7 13.3 11.3 FY13 3.6 8.4 CY13E 7.0 11.5 10.8 9.7 FY14E 3.5 6.4 CY14E 6.9 10.4 9.4 8.9 FY15E 3.2 5.0
Exhibit 40: FSL cheaper than HGS on P/E metric

Mcap/Profit EXL Services Genpact Solutions WNS Global Average CY11 22.4 21.9 82.7 42.3 FY12 Hinduja Global Firstsource Solutions 8.2 23.3 CY12 18.6 22.7 48.4 29.9 FY13 9.7 9.9 CY13E 13.2 16.1 14.8 14.7 FY14E 6.8 7.4 CY14E 13.4 15.4 13.1 13.9 FY15E 5.9 4.8
We value the stock at 5x FY15E EV/EBITDA multiple. Our target multiple implies 44% discount to global peer group average and 34% discount to its five-year historical (FY0813) average multiple of 7.6x. The discount is warranted, despite the debt repayment roadmap, as revenue growth and margins have moderated relative to historical average and are inferior relative to peers
Exhibit 41: EV/EBITDA trend

4000 3200 2400 | 1600 800 0 Sep-12 May-09 May-10 May-11 May-12 May-13 3 Sep-08 Sep-09 Sep-10 Sep-11 Sep-13 Jan-09 Jan-10 Jan-11 Jan-12 Jan-13
EV
11
Page 22
Risk & concerns

BPO units of IT firms growing faster than standalone BPO firms
BPO units of top Indian IT companies grew twice as fast as standalone BPO firms in the last few years and reflect the growing demand for bundled services or integrated offerings. The healthier balance sheet of domestic tier-I vendors, their ability to invest in platforms and ability to offer integrated services could translate into market share gains against traditional BPO vendors.
Exhibit 42: Revenue of pure-play BPO companies
Revenue ($ million) EXL Services Genpact Solutions WNS Global (| crores) Hinduja Global Firstsource Solutions CY09 191.0 1,120.1 582.5 FY10 892.3 1,970.8 CY10 252.8 1,259.0 616.3 FY11 1,073.2 2,011.0 CY11 360.5 1,600.4 474.1 FY12 1,554.3 2,254.9 CY12 442.9 1,902.0 460.3 FY13 1,983.4 2,844.0
Source: Bloomberg, Company, ICICIdirect.com Research
Exhibit 43: BPO revenues of tier-I companies

Revenue (| crores) TCS Infosys Wipro HCL Tech FY10 3,471.9 1,391.8 2,147.9 995.6 FY11 4,216.2 1,471.2 2,279.1 883.1 FY12 5,384.2 1,760.3 2,470.6 960.9 FY13 7,865.8 2,570.0 2,936.1 1,127.8
Source: ICICIdirect.com Research
Exhibit 44: BPO units of IT companies growing faster than traditional BPO companies
Revenue growth, YoY EXL Services Genpact Solutions WNS Global Average CY09 5.1 7.6 8.0 6.9 FY10 Hinduja Global Firstsource Solutions 11.9 12.7 CY10 32.3 12.4 5.8 16.8 FY11 20.3 2.0 CY11 42.6 27.1 (23.1) 15.6 FY12 44.8 12.1 CY12 22.9 18.8 (2.9) 12.9 FY13 27.6 26.1
Source: Bloomberg, Company, ICICIdirect.com Research
Exhibit 45: Tier-I BPO growth likely driven by bundled transformational deals
Revenue growth, YoY TCS Infosys Wipro HCL Tech Average FY10 74.7 7.0 19.8 (12.5) 22.2 FY11 21.4 5.7 6.1 (11.3) 5.5 FY12 27.7 19.7 8.4 8.8 16.1 FY13 46.1 46.0 18.8 17.4 32.1
Source: ICICIdirect.com Research
Page 23
Offshoring of ObamaCare related spends may be lower than thought

The rollout of ObamaCare has been plagued by problems and could result in delayed spending. Further, breakdown of its main website, Healthcare.gov has already raised concerns over the implementation of the Bill. Finally, offshoring related concerns could result in lower participation by non-US companies in Government IT contracts. That said, FSLs provider business delivery is 100% from the US.
Attrition continues to be concern

Domestic and offshore attrition have risen to 85.6% and 57.3% in Q2FY14 vs. 56.8% and 35.8% in FY09, respectively, led in part by employee rationalisation. Higher attrition continues to be a key concern given it raises employee acquisition and retention cost, which, in turn, impacts margins.
Rupee appreciation may be key margin headwind

The rupee has depreciated 14.4% YTD, thus creating margin tailwinds while a significant appreciation could create headwinds. However, 67% onshore delivery ensures a natural hedge to currency fluctuations.
Miss on quarterly debt repayment may jeopardise investor trust

Though FSL has a debt repayment roadmap, any miss on the same for unforeseen reasons could jeopardise investor trust and may have repercussions on our estimates and valuation.
Next 12 month hedges reflect lower f/x gains

The company has booked forward contracts of $27 million at | 60, 46 million at | 94 and AU$5 million at | 59 for the next 12 months. FSL could incur lower f/x gains or f/x losses were the rupee to stay at current levels or depreciate further.
Goodwill impairment, if any, may create P&L headwinds

As of Q2FY14, FSL had a goodwill of | 2707 crore largely related to the acquisitions. Impairment, if any, could create P&L headwinds though noncash in nature.
Page 24
Tables and ratios

Exhibit 46: Profit & loss account
(| crores) Total Revenues Growth (%) Total Operating Expenditure EBITDA Growth (%) Depreciation & Amortization Other Income Interest PBT before Exceptional Items Growth (%) Tax PAT before Exceptional Items Exeptional items PAT before MI Minority Int & Pft. from associates PAT Growth (%) EPS EPS (Growth %) FY11 2,055 4.3 1,766 290 3.2 89 (4) 21 175 9.4 35 140 140 2 139 1.8 2.9 2.8 FY12 2,255 9.7 2,070 185 (36.1) 89 (12) 8 76 (56.7) 14 62 62 0 62 (55.2) 1.4 (50.6) FY13 2,819 25.0 2,539 280 51.0 88 (12) 20 159 109.5 13 146 146 (0) 147 136.3 2.8 97.2 FY14E 3,029 7.5 2,659 370 32.2 76 1 80 214 34.7 19 195 195 (0) 195 33.4 2.9 3.0 FY15E 3,292 8.7 2,822 471 27.4 83 1 60 329 53.5 30 300 300 (0) 300 53.4 4.5 53.4
Source: Company, ICICIdirect.com Research,
Exhibit 47: Balance sheet

(| crores) Equity Reserves & Surplus Networth Minority Interest Long term Liabilties & provisions Source of funds Net fixed assets Goodwill Other non current assets Loans and advances Current Investments Debtors Cash & Cash equivalents Other current assets Current liabilities Provisions Application of funds FY11 431 992 1,423 0 1,500 2,923 228 2,045 118 38 132 239 324 118 299 21 2,923 FY12 431 999 1,430 1 1,004 2,435 196 2,311 162 37 78 351 683 114 1,468 29 2,435 FY13 658 1,056 1,714 1 934 2,648 156 2,360 181 35 387 90 142 695 9 2,648 FY14E 658 1,492 2,150 1 765 2,916 110 2,707 181 41 379 91 176 757 12 2,916 FY15E 658 1,792 2,450 1 491 2,941 57 2,707 181 44 415 167 198 815 13 2,941
Page 25
Exhibit 48: Cash flow statement

(| crores) Net profit before Tax Depreciation & Amortization WC changes Other non cash adju. CF from operations Capital expenditure in investments Other investing cash flow CF from investing Activities Issue of equity in debt funds Dividends paid Other financing cash flow CF from Financial Activities in cash and cash bank balance Effect of exchange rate changes Opening cash Closing cash FY11 175 89 (0) 33 246 (43) (23) 6 (60) 2 42 (27) 17 203 122 324 FY12 76 89 (58) (57) 6 (53) 63 (486) (476) 0 370 (37) 333 (137) 324 187 FY13 159 88 (72) 43 199 (40) 85 538 583 266 (1,081) (66) -881 (99) 187 89 89 91 FY14E 214 76 34 79 385 (30) 1 (29) (275) (80) -355 1 (275) (60) -335 75 91 167 FY15E 329 83 (3) 59 439 (30) 1 (29)
FY12 and FY13 closing cash excludes investments, Source: Company, ICICIdirect.com Research
Exhibit 49: Key ratios

(Year-end March) Per share data (|) EPS-diluted Cash per share BV Operating profit per share Operating Ratios (%) EBITDA/Total Revenues PBT/Total Revenues PAT/ Total Revenues Return Ratios (%) RoNW RoCE RoIC Valuation Ratios (x) P/E EV / EBITDA Price to Book Value EV/Total Revenues MCap/Total Revenues Total Revenues/ Equity Turnover Ratios Debtor days Creditors days Solvency Ratios Total Debt / Equity Current Ratio Quick Ratio Debt / EBITDA 1.0 2.7 2.7 5.0 0.7 0.8 0.8 5.2 0.6 0.9 0.9 3.6 0.4 0.9 0.9 2.3 0.2 1.0 1.0 1.2 7.4 8.1 1.0 1.1 0.7 1.4 42 27 15.0 12.7 1.0 1.0 0.6 1.6 57 29 7.6 8.4 0.8 0.8 0.5 1.6 50 18 7.4 6.4 0.7 0.8 0.5 1.4 46 19 4.8 5.0 0.6 0.7 0.4 1.3 46 20 9.7 7.0 7.8 4.3 3.6 3.7 9.3 7.5 8.1 10.1 10.5 9.6 13.0 13.3 12.3 14.1 8.5 6.7 8.2 3.4 2.8 9.9 5.6 5.2 12.2 7.1 6.5 14.3 10.0 9.1 2.9 4.8 21.2 3.0 1.4 2.8 21.3 1.4 2.8 1.3 25.6 2.9 2.9 1.4 32.1 4.4 4.5 2.5 36.6 5.8 FY11 FY12 FY13 FY14E FY15E
Page 26
RATING RATIONALE
ICICIdirect.com endeavours to provide objective opinions and recommendations. ICICIdirect.com assigns ratings to its stocks according to their notional target price vs. current market price and then categorises them as Strong Buy, Buy, Hold and Sell. The performance horizon is two years unless specified and the notional target price is defined as the analysts' valuation for a stock. Strong Buy: >15%/20% for large caps/midcaps, respectively, with high conviction; Buy: > 10%/ 15% for large caps/midcaps, respectively; Hold: Up to +/-10%; Sell: -10% or more;
Pankaj Pandey
Head Research ICICIdirect.com Research Desk, ICICI Securities Limited, 1st Floor, Akruti Trade Centre, Road No. 7, MIDC, Andheri (East) Mumbai 400 093 research@icicidirect.com
pankaj.pandey@icicisecurities.com
ANALYST CERTIFICATION
We /I, Abhishek Shindadkar MBA, Hardik Varma MBA research analysts, authors and the names subscribed to this report, hereby certify that all of the views expressed in this research report accurately reflect our personal views about any and all of the subject issuer(s) or securities. We also certify that no part of our compensation was, is, or will be directly or indirectly related to the specific recommendation(s) or view(s) in this report. Analysts aren't registered as research analysts by FINRA and might not be an associated person of the ICICI Securities Inc.
Disclosures:
ICICI Securities Limited (ICICI Securities) and its affiliates are a full-service, integrated investment banking, investment management and brokerage and financing group. We along with affiliates are leading underwriter of securities and participate in virtually all securities trading markets in India. We and our affiliates have investment banking and other business relationship with a significant percentage of companies covered by our Investment Research Department. Our research professionals provide important input into our investment banking and other business selection processes. ICICI Securities generally prohibits its analysts, persons reporting to analysts and their dependent family members from maintaining a financial interest in the securities or derivatives of any companies that the analysts cover. The information and opinions in this report have been prepared by ICICI Securities and are subject to change without any notice. The report and information contained herein is strictly confidential and meant solely for the selected recipient and may not be altered in any way, transmitted to, copied or distributed, in part or in whole, to any other person or to the media or reproduced in any form, without prior written consent of ICICI Securities. While we would endeavour to update the information herein on reasonable basis, ICICI Securities, its subsidiaries and associated companies, their directors and employees (ICICI Securities and affiliates) are under no obligation to update or keep the information current. Also, there may be regulatory, compliance or other reasons that may prevent ICICI Securities from doing so. Non-rated securities indicate that rating on a particular security has been suspended temporarily and such suspension is in compliance with applicable regulations and/or ICICI Securities policies, in circumstances where ICICI Securities is acting in an advisory capacity to this company, or in certain other circumstances. This report is based on information obtained from public sources and sources believed to be reliable, but no independent verification has been made nor is its accuracy or completeness guaranteed. This report and information herein is solely for informational purpose and may not be used or considered as an offer document or solicitation of offer to buy or sell or subscribe for securities or other financial instruments. Though disseminated to all the customers simultaneously, not all customers may receive this report at the same time. ICICI Securities will not treat recipients as customers by virtue of their receiving this report. Nothing in this report constitutes investment, legal, accounting and tax advice or a representation that any investment or strategy is suitable or appropriate to your specific circumstances. The securities discussed and opinions expressed in this report may not be suitable for all investors, who must make their own investment decisions, based on their own investment objectives, financial positions and needs of specific recipient. This may not be taken in substitution for the exercise of independent judgment by any recipient. The recipient should independently evaluate the investment risks. The value and return of investment may vary because of changes in interest rates, foreign exchange rates or any other reason. ICICI Securities and affiliates accept no liabilities for any loss or damage of any kind arising out of the use of this report. Past performance is not necessarily a guide to future performance. Investors are advised to see Risk Disclosure Document to understand the risks associated before investing in the securities markets. Actual results may differ materially from those set forth in projections. Forward-looking statements are not predictions and may be subject to change without notice. ICICI Securities and its affiliates might have managed or co-managed a public offering for the subject company in the preceding twelve months. It is confirmed that Abhishek Shindadkar MBA, Hardik Varma MBA, research analysts and the authors of this report have not received any compensation from the companies mentioned in the report in the preceding twelve months. Our research professionals are paid in part based on the profitability of ICICI Securities, which include earnings from Investment Banking and other business. ICICI Securities or its subsidiaries collectively do not own 1% or more of the equity securities of the Company mentioned in the report as of the last day of the month preceding the publication of the research report. It is confirmed that Abhishek Shindadkar MBA, Hardik Varma MBA research analysts and the authors of this report or any of their family members does not serve as an officer, director or advisory board member of the companies mentioned in the report. ICICI Securities may have issued other reports that are inconsistent with and reach different conclusion from the information presented in this report. ICICI Securities and affiliates may act upon or make use of information contained in the report prior to the publication thereof. This report is not directed or intended for distribution to, or use by, any person or entity who is a citizen or resident of or located in any locality, state, country or other jurisdiction, where such distribution, publication, availability or use would be contrary to law, regulation or which would subject ICICI Securities and affiliates to any registration or licensing requirement within such jurisdiction. The securities described herein may or may not be eligible for sale in all jurisdictions or to certain category of investors. Persons in whose possession this document may come are required to inform themselves of and to observe such restriction.
Page 27

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Firstsource Solutions (FIRSOU) : El Clasico!

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Initiating Coverage

Buy | 29 15-18 months 34%

Firstsource Solutions (FIRSOU)

FY13 25.0 51.0 136.3

FY14E 7.5 32.2 33.4

9.7 -36.1 -55.2

Current & target multiple

FY13 7.6 8.4 0.8 10.2 10.2 1.1

FY14E 7.4 6.4 0.7 9.9 7.7 0.9

FY15E 4.8 5.0 0.6 6.5 6.1 0.8

15.0 12.7 1.0 20.2 15.4 1.4

Comparative return matrix (%)

1M 3.9 12.4 -10.7 -9.3

3M 75.5 83.7 -3.5 -6.1

6M 96.3 48.8 -12.3 -7.7

12M 79.9 37.9 -4.2 12.9

Analysts name Abhishek Shindadkar abhishek.shindadkar@icicisecurities.com Hardik Varma hardik.varma@icicisecurities.com

Source: Company, ICICIdirect.com Research

ICICI Securities Ltd | Retail Equity Research

Shareholding pattern (Q2FY14)

FII & DII holding trend (%)

FII & DII

Exhibit 2: Provider business overview

Source: Company, ICICIdirect.com Research

ICICI Securities Ltd | Retail Equity Research

Exhibit 3: Payer business overview

Entry in system Data base maintenance Calls to validate information

Member service Data EHelp Provider Services HIPAA compliance support

Third Party Administrators

Managed Care Organisations

Source: Company, ICICIdirect.com Research

ICICI Securities Ltd | Retail Equity Research

Exhibit 4: Company History

Source: Company, ICICIdirect.com Research

Exhibit 5: Revenues have grow at 16.8% CAGR during FY08-13

Exhibit 6: while average EBITDA margin were 12.9%

Source: Company, ICICIdirect.com Research

Source: Company, ICICIdirect.com Research

ICICI Securities Ltd | Retail Equity Research

ICICI Securities Ltd | Retail Equity Research

ICICI Securities Ltd | Retail Equity Research

Key drivers for healthcare vertical: spends driven by new regulations

Healthcare contracts awarded

Annual contract value (ACV), RHS

Source: Bloomberg, ICICIdirect.com Research

ICICI Securities Ltd | Retail Equity Research

Healthcare rebates may drive savings in non-claims costs for payers

MedAssist acquisition: Bane earlier, boon now!

A peek into US healthcare landscape

ICICI Securities Ltd | Retail Equity Research

Source: Centers for Medicare & Medicaid Services, ICICIdirect.com Research

BFS business may be sluggish; I could be a surprise

ICICI Securities Ltd | Retail Equity Research

Exhibit 9: BFSI business overview

General & life insurance

Source: Company, ICICIdirect.com Research

Source: Bloomberg, ICICIdirect.com Research

Exhibit 11: Banking contract ACVs have moderated YoY

Banking contracts awarded

Annual contract value (ACV), RHS

Insurance contracts awarded

Annual contract value (ACV), RHS