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Edited Transcript of EXLS earnings conference call or presentation 7-May-20 2:00pm GMT

Q1 2020 Exlservice Holdings Inc Earnings Call

NEW YORK Jun 13, 2020 (Thomson StreetEvents) -- Edited Transcript of Exlservice Holdings Inc earnings conference call or presentation Thursday, May 7, 2020 at 2:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Maurizio Nicolelli

ExlService Holdings, Inc. - Executive VP & CFO

* Rohit Kapoor

ExlService Holdings, Inc. - Co-Founder, Vice Chairman & CEO

* Steven N. Barlow

ExlService Holdings, Inc. - VP of IR

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Conference Call Participants

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* Ashwin Vassant Shirvaikar

Citigroup Inc, Research Division - Former Director

* Bryan C. Bergin

Cowen and Company, LLC, Research Division - MD & Analyst

* Justin Micahel Donati

Wells Fargo Securities, LLC, Research Division - Associate Analyst

* Kyle David Peterson

Needham & Company, LLC, Research Division - Associate

* Margaret Marie Niesen Nolan

William Blair & Company L.L.C., Research Division - Analyst

* Moshe Katri

Wedbush Securities Inc., Research Division - MD of Equity Research & Senior Equity Research Analyst

* Puneet Jain

JP Morgan Chase & Co, Research Division - Computer Services and IT Consulting Analyst

* Vincent Alexander Colicchio

Barrington Research Associates, Inc., Research Division - MD

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Presentation

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Operator [1]

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Ladies and gentlemen, thank you for standing by, and welcome to the ExlService First Quarter 2020 Earnings Conference Call. (Operator Instructions) I would now like to hand the conference to your speaker today, Steven Barlow. Please go ahead, sir.

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Steven N. Barlow, ExlService Holdings, Inc. - VP of IR [2]

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Thank you, Victor. Hello, and thanks to everyone for joining EXL's First Quarter 2020 Financial Results Conference Call. I'm Steve Barlow, EXL's Vice President of Investor Relations. With me today by telephone are Rohit Kapoor, our Vice Chairman and Chief Executive Officer; and Maurizio Nicolelli, our Chief Financial Officer. We hope that you had an opportunity to review our Q1 2020 earnings release and 8-K we issued this morning. We've also updated our investor fact sheet in the Investor Relations section of EXL's website, which recast 2017 through 2019 revenues and gross margins as our reportable segments have changed. As you know, some of the matters we'll discuss in this call are forward-looking. Please keep in mind that these forward-looking statements are subject to known and unknown risks and uncertainties that could cause actual results to differ materially from those expressed or implied by such statements. Such risks and uncertainties include, but are not limited to, general economic conditions, those factors set forth in today's press release, discussed in the company's periodic reports and other documents filed with the Securities and Exchange Commission from time to time. EXL assumes no obligation to update the information presented on this conference call.

During our call today, we may reference certain non-GAAP financial measures, which we believe provide useful information for investors. Reconciliation of these measures to GAAP can be found in our press release as well as the investor fact sheet.

Now I'll turn the call over to Rohit Kapoor, EXL's Chief Executive Officer. Rohit?

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Rohit Kapoor, ExlService Holdings, Inc. - Co-Founder, Vice Chairman & CEO [3]

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Thank you, Steve. Good morning, everyone. Welcome to our Q1 2020 earnings call. I hope all of you and your families are safe and healthy. As you know, COVID-19 is causing maximum disruption around the world and is impacting our business as well. At EXL, our culture and values are guiding our response to this crisis. Our top priorities are the health and safety of our employees, the continuity of our clients' businesses and ensuring the long-term sustainability of our company. We are demonstrating resilience and creativity as we navigate these unprecedented times.

Today, I would like to talk about, one, our response to the COVID-19 crisis, including our transition to a global work from home operating model. Two, emerging opportunities and risks. Three, our performance for Q1 2020 and guidance for the next quarter. And four, actions we have taken to secure our financial position.

First, I want to acknowledge the speed and ingenuity with which we transitioned to a work from home operating model. Our technology, infrastructure and operations teams rapidly enabled work-from-home solutions throughout our global delivery network. This was a massive shift from our standard operating model.

Today, the vast majority of our employees around the world are working on the safety of their homes. This is no small achievement. It took hundreds of individuals who programmed computers, developed new IT processes and mounted a mammoth logistics exercise to transport equipment to their colleagues. I am deeply grateful for the outstanding commitment and hard work of our employees around the world.

Because of this tremendous effort, I am pleased to report that today we are fulfilling over 95% of our clients' demand, and our clients are very appreciative of our rapid response. Additionally, this crisis has reaffirmed the extraordinary strength of our partnership with our clients, and I want to thank them for their support. We are working hand-in-hand with our clients to prioritize critical functions and to develop innovative solutions. Through this, we have developed an even deeper level of trust and forged stronger bonds.

The COVID-19 pandemic has introduced many challenges, but it has also created opportunities to develop solutions to help our clients address issues that have emerged from this crisis. For example, in our health care business, our Analytics team has developed a solution that predicts emerging COVID hotspots by analyzing data on preexisting conditions and other health indicators. A large health care system and a regional health care payer are already using the solution to anticipate resource needs and better manage patient volumes.

We are also supporting a number of our banking clients with the implementation of the Small Business Authorities' Paycheck Protection Program, or SBA PPT, which will grant over $650 billion in loans to U.S. small businesses. The program has led to large volumes of loan applications and lenders need to scale their operations quickly. We have leveraged our small business banking domain knowledge, operations expertise and digital tools to set up customized loan processing capabilities for our clients. Our solutions help clients significantly reduce the processing time and the manual effort to deliver timely relief to small businesses.

We are cognizant of the issues that our clients face and have built the solutions necessary to support demand surges with accuracy and speed. Innovation born out of a direct response to COVID-19 will deliver immediate value and help our clients address their challenges and take advantage of new opportunities.

While we are helping our clients with new solutions, the uncertainty associated with this pandemic is likely to continue. The global economy is stressed, and certain industries are being impacted much more than others. Governments across the world are actively responding to this crisis and the efforts of those actions on our business are currently unpredictable. However, this crisis is likely to accentuate the following 4 trends. Number one, the digital agenda will become more central to our clients' business strategy as end customers migrate to a more touchless and online experience. Two, migration to the cloud for enterprise-wide data and analytics capabilities will accelerate. Three, cost pressures will create a higher demand for global operation management services. And four, the need for diversification to improve operational resiliency will further the demand from global partners like EXL.

While these trends have been emerging for some time, the current crisis will significantly accelerate their adoption. Because we have been investing in these capabilities for the last several years, we feel confident that we are well positioned to capitalize on these trends in the longer term.

Now I would like to discuss our Q1 20 performance. Despite the impact from COVID-19 in the second half of March, we had a healthy first quarter following the strong momentum we had built up as we exited 2019. For the first quarter, we generated $246 million in revenue, which represents an annual growth rate of 5.1% on a constant currency basis. Operations management grew 4.2%, and Analytics revenue increased by 6.6%.

We estimate that around $10 million of revenue in Q1 was not realized due to the disruption caused by the pandemic. Our adjusted EPS for the quarter was $0.81. Despite the loss of revenue, and higher expenses due to our COVID response, we were still able to grow our adjusted EPS year-over-year.

In view of the current business environment, we are not providing guidance for the full year. We expect our revenue in Q2 to be around 15% lower than Q1. This is due to the anticipated reduction in client volumes and our fulfillment capacity. We expect an adjusted EPS in the range of $0.20 to $0.40 for the quarter. We realized the need to take immediate actions to deal with the uncertainty of the situation and better align our cost base to our revenue outlook. As part of this effort, today, we announced a temporary reduction of compensation for our senior management and nonexecutive directors. These reductions were effective May 1.

We have always chosen to contribute to communities that we are a part of. During these times, we are working with organizations across the world to support health care workers who are at the front line and members of dislocated workforces that are facing hardship due to sudden lockdowns. We are proud to contribute towards providing food and critical supplies in our let's-do-it-together spirit.

Now I would like to comment on our plans to return to office and the role of remote work in our operations going forward. As countries ease restrictions, we expect a staggered return to our facilities. With employee health as our top priority, we will work with employees, clients, local government and the industry to carefully manage this return while maintaining flexibility, safety and security.

Over the longer term, we will build on the lessons learned during this time. The work-from-home model has significant potential in terms of economic value, access to more diverse talent pools and higher employee satisfaction and retention. By incorporating remote work as part of our ongoing delivery model, we can ensure greater resilience and flexibility in serving our clients' needs. Our teams are engaged in thoughtful planning towards this objective. Over the past 2 decades, EXL has successfully navigated formidable challenges. Through each such experience, we have evolved and emerged stronger. We expect this time to be no different.

With that, I will turn the call over to Maurizio.

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Maurizio Nicolelli, ExlService Holdings, Inc. - Executive VP & CFO [4]

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Thank you, Rohit, and thanks, everyone, for joining us this morning. I will provide insights into our financial performance for the first quarter of 2020, followed by our revised outlook for the business.

As Rohit mentioned, we had a solid quarter through mid-March. The first 2 months were on plan, and we were pleased with the outlook for the first quarter and achievement towards our financial and strategic goals for 2020. Our reported revenue was $246 million, up 3.4% year-over-year on a constant currency basis, and adjusted EPS was $0.81. As you are aware, we announced on our last call and in our 10-K filing, we changed our segment reporting to 4 reportable segments: Insurance, Healthcare, Analytics and Emerging in order to align with certain operational and structural changes inherent in our business.

All revenue growth numbers mentioned hereafter are on a constant currency basis. My discussion of all year-over-year growth, percentages or improvements will be excluding health integrated for 2019 for a true comparison with 2020 performance, unless mentioned otherwise.

For the quarter, we generated revenue of $246 million, up 5.1% year-over-year. For the quarter, the impact of COVID-19 on our revenue was approximately $10 million, a headwind of 430 basis points on our growth rate. Revenue from our operations management business, as defined by 3 reportable segments, excluding Analytics, was $153.6 million, up 4.2% year-over-year. This growth was driven by the Healthcare and Insurance operating segments.

Healthcare showed strong improvement, with revenue of $27 million, increasing 47.1% over the prior year period. This growth was driven by the ramp-up of new client wins in 2019 and the expansion of existing client relationships in the area of clinical services.

Insurance had revenue of $83.7 million, which amounted to a growth rate of 4.1% over the prior year, driven by expansion in existing client relationships. Emerging reported revenue of $42.8 million, which was a year-over-year decline of 11.9% due to lower volumes.

Analytics continued to perform well, with revenue of $92.4 million, up 6.6% year-over-year. This growth was the result of new client wins and the expansion in existing client Analytics revenue from Insurance clients.

Adjusted operating margin for the quarter was 14.8%, up 30 basis points year-over-year, driven by incremental operating leverage. This adjusted operating margin includes a onetime COVID expense headwind of 80 basis points.

Excluding the COVID expense headwind, our adjusted operating margin would have been 15.6%. Our adjusted EBITDA for the quarter was $44.7 million, up 15.2% year-over-year on a reported basis. Our GAAP income tax rate for the quarter was 20.7%. Excluding the impact of a discrete item related to excess tax benefits on stock-based compensation, our normalized income tax rate was 27%.

Our adjusted EPS for the quarter was $0.81, up 14.1% year-over-year on a reported basis. During this pandemic period, liquidity and cash conservation remains our primary focus. We exited the quarter with a very strong balance sheet. We ended March with $367 million in cash and short-term investments and borrowings of $335 million, resulting in a net cash position of $32 million.

In April, we repaid $100 million of amounts previously drawn from our credit facility in March to address cash needs due to the COVID-19 pandemic. We continue to have $200 million available from our credit facility. This facility has a maturity date of November of 2022. As of March 31, our net leverage ratio, which is net debt divided by last 12 months of EBITDA, stands at 1.48x, which is well within covenant limits, which has a maximum of 3x.

Now moving on to the outlook for the year. The disruption in our business has been felt across all of our business segments and in all delivery locations. Given the uncertainty of this situation, including the unknown duration and severity of the pandemic and overall impact to our services, we are not providing annual guidance at this time. As the economic environment remains unclear and the responses of our clients to their business challenges continue to evolve, we have proactively initiated certain cost-saving measures.

While taking these actions, we have retained the flexibility to scale up our support to our clients' businesses as required. This morning, we announced a temporary salary cut of 50% for our CEO and 30% for other named executive officers. We have significantly reduced hiring across the globe, and we are looking to optimize other operational costs, including stringent control on discretionary spending. We have also instituted a program to conserve our cash. We are focusing on client receivable collections and minimizing our discretionary capital and operational spending. We repurchased 176,000 shares totaling $12 million in the first quarter and have currently suspended buying back our shares. Our capital spending plan at this juncture is expected to be approximately $32 million to $38 million, which is significantly less than our previous estimate of $40 million to $45 million.

We expect the effective tax rate to be in the range of 25.5% to 26.5%. Based on our current visibility, we expect second quarter revenue to decline approximately 15% compared to the first quarter of 2020 and adjusted EPS between $0.20 and $0.40.

In conclusion, the EXL operating model has shown tremendous resilience during past crises, and we have not only adapted but grown to significant higher levels of revenue and profitability. We are comfortable with our current financial position as we have a healthy balance sheet, and we are making significant adjustments to our cost base to better align with our current revenue outlook.

Now Rohit and I would be happy to take your questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) And our first question will come from the line of Maggie Nolan from William Blair.

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Margaret Marie Niesen Nolan, William Blair & Company L.L.C., Research Division - Analyst [2]

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I wanted to talk about that $10 million headwind that you saw in the first quarter related to COVID-19. Was that primarily related to difficulties delivering against commitments to your clients as you shifted to work from home? And then is there any heavier weight towards analytics versus operations management when we consider that $10 million figure?

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Rohit Kapoor, ExlService Holdings, Inc. - Co-Founder, Vice Chairman & CEO [3]

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Sure, Maggie. So that $10 million of revenue loss for us was entirely driven by our inability to fulfill the demand and from the supply side. We got impacted primarily in the last 2 weeks of March. And as you know, there were lockdowns imposed in the Philippines and in India. And that's what resulted in the shortfall of revenue and the impact to our first quarter.

The split of that was roughly a lot more on the operations management side because we were planning for a fair amount of growth and we had a huge amount of momentum that we had built up in the third quarter and the fourth quarter of 2019. And as you know, our operations management business was growing close to double digits and the drop off in demand was -- drop off of supply was really impacted out there. Our Analytics business also had an impact. But it was a bit less than the Operations Management effect.

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Margaret Marie Niesen Nolan, William Blair & Company L.L.C., Research Division - Analyst [4]

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And would you say that, that was a kind of a similar impact to what you've been seeing now in April, in May? And then if you could comment as well on, kind of, incremental expenses over that time frame that you incurred in relation to the pandemic and whether or not some of those roll off and what other levers you may have to manage expenses going forward?

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Rohit Kapoor, ExlService Holdings, Inc. - Co-Founder, Vice Chairman & CEO [5]

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Sure. So first of all, our analytics business, in terms of our ability to fulfill demand, is incredibly resilient, and the ability to satisfy the demand is fully in place. So we don't really expect there to be any shortfall in terms of our ability to fulfill demand on analytics in the second quarter or going forward because we can operate on a work-from-home model pretty seamlessly as we could as work from office.

In terms of the expenses and the higher expenses that we incurred, those expenses pertain to higher amount of bandwidth and telecom costs, higher amount of technology costs and higher amount of hotel expenses that we needed to incur to make sure that we kept our employees safe and secure. Those higher expenses will depend upon how the COVID-19 pandemic plays out and how each geography and each country eases some of the restrictions that have been imposed.

In terms of the cost structure, we've got multiple levers in terms of managing those. And we've already been very proactive and taken quick action on those levers that are very easy and very flexible for us to be able to influence, and then we will take longer-term actions as needed and as the situation develops.

Steve and Maurizio, can you hear me?

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Steven N. Barlow, ExlService Holdings, Inc. - VP of IR [6]

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We can hear you. I got -- I just have a message here from the operator that his line went down. So I would ask everyone to hold on, please. He's trying to establish the line again, and then we'll get back to the Q&A.

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Maurizio Nicolelli, ExlService Holdings, Inc. - Executive VP & CFO [7]

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Yes. We're still here.

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Operator [8]

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And our next question comes from the line of Ashwin Shirvaikar from Citi.

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Ashwin Vassant Shirvaikar, Citigroup Inc, Research Division - Former Director [9]

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The question I have is to -- could you provide us maybe a closer look at the kind of weeks in April and heading into May? How sort of your conversations with clients have evolved? Are you now able to, say, for example, ramp the contracts that you won? Are you talking about new deals already? Are clients beginning to refocus on running their business, things like that? If you can provide some underlying color that would be great.

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Rohit Kapoor, ExlService Holdings, Inc. - Co-Founder, Vice Chairman & CEO [10]

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Sure, Ashwin, I would be happy to address it. So first off, we were heavily impacted in terms of our ability to fulfill demand in the second 2 weeks of March. And we made very rapid progress in terms of bringing up our ability to fulfill demand in the month of April. And as we said, we are now at 95% of our ability to fulfill demand. So that's been very strong. And our expectation is that this will continue to inch upwards closer towards 100%.

The conversation with clients also certainly evolved. In the first week of March, when this all began, the conversation was all about business continuity planning and figuring out how we could perform some of the work from home. We were extremely proactive in terms of reaching out to our clients well before some of the advisories were announced in the local jurisdiction to help our clients prepare for this eventuality. And I think because of that proactive stance that we took, the impact to our clients' business and our ability to fulfill the demand was actually really, really helped because of that action that we took. There's obviously a much greater level of communication and interaction that we have with our clients at this point of time. And the dialogue has shifted from being able to take some of the emergency actions to fulfill immediate demand to where now the demand is pretty much in a much more stable scenario and we are able to fulfill and provide services on a much, much more stable basis. And therefore, the conversation has shifted towards new areas of immediate opportunity that our clients face. So we gave you the examples of the SBA PPP program that we saw with some of our banking clients or some of the analytics needs that were there with our Healthcare clients, those are immediate opportunities that we are fulfilling right now.

And then the last piece is the growth of our business, which was already planned and some of the deals that we had won, many of those programs were temporarily put on hold by our clients because they could no longer send in subject-matter experts for training and for coaching our employees on these new programs. Those conversations have now restarted, and we are seeing an engagement with our clients where we are figuring out how we can leverage remote training and remote learning to onboard more employees and more work to be done in a remote location out here. So actually, we've been very positively encouraged by the shift in conversation that's taking place, and there's a lot more dialogue on an ongoing planning for the future conversation that's now taking place.

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Ashwin Vassant Shirvaikar, Citigroup Inc, Research Division - Former Director [11]

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Got it. And as a follow-up, as I look at the specific Q2 outlook, could you help sort of parse it out by the new segments, both from a revenue and gross margin expectation by segment basis?

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Rohit Kapoor, ExlService Holdings, Inc. - Co-Founder, Vice Chairman & CEO [12]

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Sure. So first of all, we expect Q2 revenues to be down sequentially 15% from Q1. This drop from Q1 to Q2 is fundamentally broken up into a reduction in temporary demand from our clients and a slippage because of our inability to fulfill 100% of the demand. Like we have said, we expect the fulfillment part of it to be approximately 5% of the total demand that we have and the rest of it is a temporary reduction in demand.

When we take a look at this across the 4 segments that we've got, which is Insurance, Healthcare, Analytics and Emerging, the revenue demand shortfall is about the same in Insurance, Healthcare and Analytics. And it's a little bit higher in Emerging because we do have clients in the travel industry vertical in the Emerging portfolio, and that has been impacted a lot more.

From a margin and profitability standpoint, the biggest driver is, of course, the revenue and an adjustment to the cost structure that we have and that's something which we've given you a range in terms of what that EPS might look like in Q2. We're going to see how that plays out, and we are trying to best manage and align our cost structure to the new revenue that we expect there.

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Ashwin Vassant Shirvaikar, Citigroup Inc, Research Division - Former Director [13]

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Okay. But on a margin perspective, there isn't anything -- just my last question, a clarification, there isn't anything different as we look across segments, now that you're at 95%, and from a delivery perspective, you're kind of evened out?

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Rohit Kapoor, ExlService Holdings, Inc. - Co-Founder, Vice Chairman & CEO [14]

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Yes. The comment that I would make on that, Ashwin, is if you take a look at our Q1 margin excluding some of the COVID expenses that we had to incur, which are onetime in nature, actually, our adjusted operating margin moved up quite nicely as per plan. In fact, a little bit better than planned. So the margin moved up quite nicely. If you take a look at our analytics business, as we've been explaining this to you and to the others, we have been consciously working on improving the margin profile of our analytics business, and that was also a very good improvement that we saw in Q1. So frankly, the underlying trends of the margin structure of our business were moving exactly as per plan and as what we had anticipated. And now we're going to best deal with this new situation that we have and the hand that we've been dealt with.

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Operator [15]

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And our next question come from the line of Puneet Jain from JPMorgan.

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Puneet Jain, JP Morgan Chase & Co, Research Division - Computer Services and IT Consulting Analyst [16]

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My first question, Rohit, on demand impact for this year. So you talked about $10 million impact in Q1 and additional $30 million or so impact in 2Q. And I understand some of that would be supply driven, but how should we think about, like, breakdown of demand impact from potential pricing pressure from increased offshore delays in transition that you talked about and fewer client transactions?

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Rohit Kapoor, ExlService Holdings, Inc. - Co-Founder, Vice Chairman & CEO [17]

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Puneet, let me try and explain this the best way that we possibly can on it. In Q1, we lost $10 million of revenue, and that was entirely supply driven. And so approximately 4% of our revenue fell because of our inability to fulfill the demand that was there.

In Q2, we are saying that our revenue will decline by 15% from Q1. We think a 5% impact is there due to an inability to fulfill the demand, and the balance is because of a temporary reduction in demand. So the temporary reduction in demand is approximately 10%. Now at the same time, the growth that we had anticipated in Q2, that growth is being deferred, and we expect some of that growth to start resuming over the next few months as we engage with clients and we work out different mechanisms of having a knowledge transfer take place and ramp up and support them in those requirements.

And in other pieces, we'll have to wait and see how the COVID-19 pandemic plays out and then reengage with our clients. And that's why it's very difficult for us to be able to provide you with any color pertaining to Q3 and Q4. But for Q2, roughly, the breakup is 5% on account of supply constraints and the balance, 10%, on account of temporary reduction in demand.

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Puneet Jain, JP Morgan Chase & Co, Research Division - Computer Services and IT Consulting Analyst [18]

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Got it. And how should we view EXL's positioning in the BPO world in the post-COVID environment? Your offshore base value-add BPO services should become more relevant, I think. I'd like to hear your thoughts as well on that.

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Rohit Kapoor, ExlService Holdings, Inc. - Co-Founder, Vice Chairman & CEO [19]

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Yes. Absolutely. So first of all, we have a very, very healthy portfolio of businesses. And I think the impact to our portfolio has been much less than what it might have been for others. So the Insurance portfolio, the Healthcare portfolio and the Analytics portfolio, I think these held up extremely well for us and these are stable. Insurance segment is a very stable segment, so is -- and Healthcare is an area where there's going to be a lot more focus in the future, and we think the use of data and analytics is really going to increase. So actually, these segments are very strong operating segments for us.

I think the big thing for us with our global delivery network, where we've got onshore capability as well as offshore capability across multiple jurisdictions is also going to play out very well because as clients seek more diversification and a lower cost structure, they're going to find that our ability to serve them and be a strategic partner to them is going to become more and more important. So we think EXL is very well positioned for these longer-term trends that are likely to take place, greater impact on digital, greater use of data and analytics, more diversification and a much higher focus on the cost base. All of these are very favorable trends for our business.

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Operator [20]

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And our next question comes from the line of Bryan Bergin from Cowen.

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Bryan C. Bergin, Cowen and Company, LLC, Research Division - MD & Analyst [21]

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I wanted to start here on client behavior, a bit of a follow-up. I heard the comments on the temporary demand reductions you anticipate. So I guess that infer it's more so delayed, but I do want to confirm, are you seeing any canceled pipeline opportunities? And then with respect to some of the client concession conversations, can you give us a sense of the duration of some of those agreements?

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Rohit Kapoor, ExlService Holdings, Inc. - Co-Founder, Vice Chairman & CEO [22]

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Sure, Bryan. So we haven't seen any cancellations or any revocation of the work that our clients had given to us. What we've seen is, in the first few weeks we were focused in on making sure that the current existing business was getting up and being on track. And now the focus has shifted towards helping our clients best manage their medium-term and longer-term needs. And so our engagement with them continues to be very active. And we're looking at different ways in which we can help them and support them. There clearly is a deferment of some of the growth opportunities that we had, but I think these will come back, and this is going to be in a much more gradual format. But it's something which our clients definitely need our help on.

In terms of some of the commercial arrangements that we have with our clients, there is an increased cost that we've had to incur because of enabling work from home. And we are working through that with our clients in terms of how that increased cost is to be shared or recovered back with our clients, and then we are working through that with them. For us, most of our contract renewal, as such, was really, largely, in 2019. So most of that is actually behind us, and we've got client contracts which are in place that are there for the next few years, and that renewal cycle is much later. So there hasn't really been much of a conversation around contract renewals. Does that provide you with the right color, Bryan?

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Bryan C. Bergin, Cowen and Company, LLC, Research Division - MD & Analyst [23]

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Yes. That's helpful. My follow up is on cost flexibility. So good 1Q margin results here despite the COVID pressure. Can you help us think about the level of further potential cost reductions that you have versus the investments that you're still making?

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Maurizio Nicolelli, ExlService Holdings, Inc. - Executive VP & CFO [24]

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So Bryan, this is Maurizio. So we have a tremendous amount of flexibility just within our cost structure. We've always -- already started the process or initiated the process to really start to review all of our costs and really see what are the levers that we can pull, and you're starting to see that come through in our P&L. There's a number of different employee cost-related items that -- our levers -- that we can pull now and going into the future. And then there's also nonemployee cost items that we can really pull to better align ourselves in the current revenue environment that we're in.

And I'll give you some of the examples. Just in employee cost area, we've already started the process to reduce our hiring so that we bring down our just overall go-forward cost. We've looked at variable compensation in bringing that more in line with the current revenue outlook. And then, also, just on noncompensation cost items, we've taken a hard look at that also. In terms of T&E, marketing, professional fees, really going through and scrubbing our P&L. And then on top of that, we've also looked at capital spending. And as we indicated, we've brought down our guidance just overall for capital spending going forward.

Having said that, there are certain areas that we are still investing in, and investing in areas that are really critical to us for the future. And one of those areas, in particular, is digital, where we really see an opportunity, really, in the digital area within our business to really propel ourselves going forward. And so we're starting to really go through our investments and really prioritize where we should put incremental dollars even in an environment whereby we're taking a hard look at costs.

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Operator [25]

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And our next question will comes from the line of Justin Donati from Wells Fargo.

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Justin Micahel Donati, Wells Fargo Securities, LLC, Research Division - Associate Analyst [26]

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The first one I had, can you talk a little bit about what percent of your contracts have minimum volume commitments? And have clients been asking for reductions there? How quickly can that change?

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Rohit Kapoor, ExlService Holdings, Inc. - Co-Founder, Vice Chairman & CEO [27]

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So Justin, we have about 1/3 of our business, which is under transaction-based pricing model or an outcome-based pricing model, we don't provide the percentage of minimum volume commitments within this 1/3 of our business that we have. We would tell you that we are working with all of our clients in terms of what they can give to us as volumes and what they can provide to us. In certain cases, like, for example, in the travel business, certainly, that level has been reached. But in other cases, our client volumes haven't really gone down much. So all of this is included in the reduction of $10 million in the first quarter and the 15% drop in the second quarter that we've guided to. So it's all provided as part of that.

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Justin Micahel Donati, Wells Fargo Securities, LLC, Research Division - Associate Analyst [28]

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Got it. And my last question is, are you able to judge productivity levels with work from home?

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Rohit Kapoor, ExlService Holdings, Inc. - Co-Founder, Vice Chairman & CEO [29]

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Actually, we have been very pleasantly surprised by, A, the speed at which we were able to transition to the work from home. B, the productivity levels of our employees working from home. And C, the employee satisfaction and the customer satisfaction that we've witnessed as a consequence of moving to the work-from-home model. We are finding that, of course, the attrition rates have come down dramatically, the productivity levels have gone up, and we found that, particularly, for many of our processes, which had a time constraint, so for example, some of the work that we do in finance and accounting where we've got -- we went through a quarter close at the end of March, all of our service-level metrics were able -- we were able to fulfill those very, very nicely. And we did the financial close and the reporting for our clients' books on time and in some cases actually ahead of time. So the response from our employees has been spectacular, and we are very impressed with the way in which the entire organization has dealt with this crisis.

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Operator [30]

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And our next question will come from the line of Moshe Katri from Wedbush Security.

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Moshe Katri, Wedbush Securities Inc., Research Division - MD of Equity Research & Senior Equity Research Analyst [31]

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A couple of follow-ups here. Given the demand pause that you spoke about, what does it mean to utilization rates on the bench? How down could it be in the June quarter? And then I'm assuming you don't have any plans for -- I mean, you do, maybe not, for furloughs, at least on a temporary basis?

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Rohit Kapoor, ExlService Holdings, Inc. - Co-Founder, Vice Chairman & CEO [32]

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Sure. So first of all, Moshe, the demand pause that we are seeing is really there in the second quarter and what we have is, we've got people who are getting trained on processes that we think we'll be able to -- we needed to support our clients going forward. So what we are doing is investing this time to train our employees that are surplus on digital technologies, on new skill-sets as well as becoming a lot more proficient in their existing processes. So frankly, we never used to get the time to be able to invest in terms of this training and retraining and reskilling of our workforce, and that's what we are using this available time for and being able to be absolutely ready when that demand comes back to be able to support our clients. So that's how we are dealing with the situation.

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Maurizio Nicolelli, ExlService Holdings, Inc. - Executive VP & CFO [33]

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And Moshe, good to address your second question, just on the headcount and furloughs. We really need to see how the rest of the year really plays out. There's still a lot of uncertainty there. And we haven't made any decisions on any of those types of actions because we really want to see how the rest of the year plays out. And having also -- we're going through the rest of the P&L right now to really drive flexibility within our P&L for all the other cost-line items that we're really looking to optimize now going forward.

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Operator [34]

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And our next question comes from the line of Mayank Tandon from Needham.

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Kyle David Peterson, Needham & Company, LLC, Research Division - Associate [35]

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This is actually Kyle Peterson on for Mayank. I just wanted to touch a little bit, you guys mentioned some of the demand kind of being deferred from the expected to resume over the coming months. Just wanted to get some color as to what you guys think, kind of, needs to happen for some of that demand to start coming through? Is it just more clarity on, kind of, where the world and the economy is going? Is the thing starting to open back up, being able to kind of meet people? Is it the economy starting to bounce back? Just wanted to get your thoughts on, kind of, what types of events we should look forward to have some of that demand moving in the right direction?

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Rohit Kapoor, ExlService Holdings, Inc. - Co-Founder, Vice Chairman & CEO [36]

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Sure. So if you take a look at the types of areas where the demand is being deferred out, we think it's been deferred out in terms of some of the new business and customer acquisition efforts of our Insurance clients. That's one area. Second area is we are seeing in the personal lines business, particularly for auto, that they -- because there are fewer people on the road, there are fewer claims that are coming through. And also the -- any adjustments to those claims, there's less work to be done there. So we think all of that really comes back as the economy and as the lockdowns are lifted, and people start to get back on the road and people start to use their cars and vehicles. That's going to come right back.

The places where we are seeing increased demand at this point of time, and again, in the insurance world, we're seeing a lot more demand for disability and some more demand on the life insurance side. So that's actually been a net positive for us. So I think some of that needs to get balanced out.

On the Healthcare side, certainly, the provider side of the business is currently stretched in terms of just responding to COVID-19. And then on the payer side, some of the activities like precertification and others don't need to be performed at this point of time because of the drop in elective surgeries. So -- and also because of some of the regulatory changes by CMS and some of the changes that have happened there. So as those things start to normalize, these are all areas where the demand is going to come right back because in a normal operating environment that's something which would always be there.

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Kyle David Peterson, Needham & Company, LLC, Research Division - Associate [37]

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Okay. That's helpful. And then just a quick follow up a little bit on the [transit] revenue in the U.K. So it was down quite a bit year-over-year, assuming some of that's currency, just wanted to get a little bit of color on, kind of, what's going on there, what's the FX impact versus any planned project ramp downs and, kind of, how we should think about that region of the world?

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Maurizio Nicolelli, ExlService Holdings, Inc. - Executive VP & CFO [38]

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So there hasn't been a significant FX change there. You're really just seeing that revenue change really happen within the emerging business as part of the change is really within that segment. It's really just specific to just a few clients within that segment. Nothing significant there.

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Operator [39]

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Our next question comes from the line of Vincent Colicchio from Barrington Research.

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Vincent Alexander Colicchio, Barrington Research Associates, Inc., Research Division - MD [40]

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Yes. Rohit, how would you characterize your top 20 clients -- sorry, your top 10 clients in terms of -- are any of them highly leveraged financially?

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Rohit Kapoor, ExlService Holdings, Inc. - Co-Founder, Vice Chairman & CEO [41]

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Yes. Vincent. No. I think we are very fortunate that we've got a very healthy customer portfolio. And in fact, it's also a very diversified customer portfolio that we've got. I think the credit standings of our clients are -- these are large global companies in insurance, in healthcare and in banking and financial services, so they are very well capitalized and very well positioned. We've also been actually pleasantly surprised with our collections on our receivables as we've gone forward into the second quarter, so that's also holding up quite well.

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Vincent Alexander Colicchio, Barrington Research Associates, Inc., Research Division - MD [42]

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And when you talk about the use of the at-home/remote model over the longer term as a potential change, does that include working with some more sensitive industries such as Healthcare or is it broadly based?

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Rohit Kapoor, ExlService Holdings, Inc. - Co-Founder, Vice Chairman & CEO [43]

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Yes. So -- look, I think, one of the biggest concerns on the work-from-home model is information security and privacy issues. And I think we'll have to deal with that as we go along to figure out ways in which we can manage and control that in a lot more proactive and deliberate way. Healthcare would also have regulatory issues in terms of allowing for enablement of that, and we'd be looking into that as well.

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Operator [44]

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(Operator Instructions) And I'm not showing any further questions at this time.

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Rohit Kapoor, ExlService Holdings, Inc. - Co-Founder, Vice Chairman & CEO [45]

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Great. Well, I just want to thank everybody for joining the call. Please stay safe and healthy, and we look forward to updating you on the company's performance at the second quarter earnings call. Thank you.

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Operator [46]

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Ladies and gentlemen, this concludes today's conference call. Thank you for participating. You may now disconnect.