iGATE Corp. Q1 2009 Earnings Call Transcript

Apr.22.09 | About: iGATE Corporation (IGTE)

iGATE Corp. (NASDAQ:IGTE)

Q1 2009 Earnings Call

April 22, 2008 9:30 am ET

Executives

Salil Ravindran - Director of Investor Relations

Phaneesh Murthy - President and Chief Executive Officer

Sujit Sircar - Chief Financial Officer

Analysts

Brian Kinstlinger - Sidoti & Company

Jonathan Maietta - Needham & Company

Jeff Martin - Roth Capital Partners

Vincent Colicchio - Noble Financial Group

Operator

Greetings, ladies and gentlemen, and welcome to the iGATE Corp. first quarter 2009 earnings quarterly conference call. (Operator Instructions)

It is now my pleasure to introduce your host, Salil Ravindran, Director of Investor Relations for iGATE. Thank you, Mr. [Salil], you may begin.

Salil Ravindran

Thank you, [Melissa]. Good morning, ladies and gentlemen, and welcome to this call to discuss the iGATE financial results for the quarter ended March 2009.

With me on the call today are Phaneesh Murthy, President and Chief Executive Officer of iGATE, and Sujit Sircar, iGATE's Chief Financial Officer.

This call is being webcast on our website and a replay of this call will be available in a few hours. Our earnings release, which has been forwarded to you all, is now posted to our website.

We'll start with a brief overview of iGATE's performance during the quarter and the overall outlook by Phaneesh, which will be followed by the financial highlights by Sujit. Subsequently, we'll open the floor for Q&A.

Before I hand over the call to Phaneesh I would like to remind everyone that statements made during this call that are not historical facts are forward-looking statements. These forward-looking statements include our financial growth and liquidity positions, as well as statements about our plans, strategies, intentions or beliefs concerning our business, cash flows, costs and the markets in which we operate. With limiting the foregoing, the words believes, anticipates, plans, expects and similar expressions are intended to identify certain forward-looking statements. These statements are based on information currently available to us and we assume no obligation to update these statements as circumstances change.

There are risks and uncertainties that could cause actual events to differ materially from these forward-looking statements, including those listed in the cautionary language at the end of our news release, some of which are beyond our control.

As a reminder, we'll not discuss further guidance during the quarter in one-on-one meetings or calls and we have no intention at this time of updating our guidance as circumstances change.

With this, I will now turn the call over to Phaneesh.

Phaneesh Murthy

Hi. Good morning to all of you in North America and good evening to all of you in Asia.

I think clearly it's been the worst quarter ever pretty much in our history. We had a sequential drop in revenue related to three or four reasons. One, of course, is that unfortunately some of our large customers are hurting badly; everybody ends up feeling the pain. That's one. The second thing is that we have a fair degree of exposure to the financial services industry and the financial services industry, as you can imagine, has gone through some of the worst times. The third is that we actually saw a little bit of pricing pressure in this quarter which we had managed to avoid until recently, so that was the bad news. We had both therefore a volume decline and an average realized rate decline.

Having said that, we ended the quarter with $0.09 per share of profit compared to $0.12 in the same quarter last year and $0.13 per share in the sequentially previous quarter.

In think there are three or four positives; can't take away from the negatives, but clearly there are three or four positives. The first big positive was that we acquired two new clients in the health care sector. This is a sector that we wanted to start doing work in three quarters ago. We thought this would be the sector which would have a significant amount of technology investment. We acquired two good names in the health care sector and I think we hope that we can build these customers, at least one of them, to in the tens of millions of dollars range and one of them to multi-million dollar range. Our focus will be on making sure that these customers are happy and they become the beachhead for the health care practice that we are building out.

The second, I think, very important announcement is the fact that in the annual Black Book of Outsourcing iGATE was ranked number one for data warehousing, data mining and business intelligence services globally. That's actually been quite good for us and the reason why I think it's been very good for us is that for the first time we've started getting a couple of calls in for that specific practice from clients who have read that. So that's the second thing.

The third thing is that we formed a strategic alliance with a Japanese company called CSE Corporation and the idea is many of their clients are expanding globally and CSE felt that they had not enough expertise and capabilities to service these customers globally, and therefore we have partnered with them that we will service their Japanese customers globally. And over the next few quarters we expect that to start giving us a flow of revenue.

And then the other big highlight of the quarter, of course, is the fact that there is a significant amount of activity going on. Right now we see lots and lots of action, but no decision making and it is my view that the decision making is slow primarily because of the fact that customers are reviewing their budgets on a quarterly, monthly basis and so on. My feeling is that the banks merger integration is kind of coming to a close, so they'll start making decisions. Other companies who typically I have observed in the past, a couple of cycles, executives start ending up making decisions two to three quarters after the onset of a recession.

So net-net we believe that we are kind of in a little bit of a valley period right now and that calendar Q3 for us will probably start helping the offshore industry and us.

With this, I'm going to - we're also carrying all our employees at this time. We believe that as the market turns it'll be important to hold onto these resources. The typical cost of hiring and training we've analyzed and we just believe that it's worthwhile to carry these employees based on our current read of the market.

With this now I'm going to hand over to Sujit to talk about some of the financial parameters and then we'll up it up for Q&A.

Sujit Sircar

Thank you, Phaneesh. Good morning, everyone, and thank you for joining us on this call. I'll take this opportunity to briefly discuss with you the key highlights of our financial performance for the quarter ended March 2009.

Our revenue from continuing operations for the quarter was $44.8 million compared to $55.6 million in the corresponding quarter last year. The decline in the reported revenue is due to significant budget cuts by customers and pricing pressures. We added five new customers during the quarter.

Gross profit margin was at 35.9% from 36.6% in the same period last year. The gross margin was adversely impacted by decreased utilization and reduction in the average bill rates, which was slightly offset by the favorable effect of currency exchange movement.

Our SG&A expenses including depreciation and amortization for the quarter was $10.5 million compared to $14.8 million in the corresponding quarter last year. The decrease was primarily due to corporate restructuring initiatives and also due to reduction in depreciation and provision for bad debt.

Income from operations for the quarter was marginally up at $5.6 million compared to $5.5 million in the same period last year; however, the operating margin improved significantly to 12.5% of revenue from 9.9% in the corresponding quarter last year.

Our net income from continuing operations was $5 million or $0.09 per diluted share compared to net income of $6.4 million or $0.12 per diluted share in the same period last year. The net profit margin stood at 11.2% of revenue, marginally down from 11.5% in the same quarter last year.

For the quarter ended March 2009, the company generated operating cash flow of $8.6 million compared to $8.4 million made in the corresponding quarter last year.

The company added a new [inaudible] square feet in the special economic zone in Hyderabad, India during the quarter. The overall capital expenditure during the period was $2.4 million compared to $2.2 million in the same period last year.

iGATE paid a dividend of $0.11 per share to shareholders of record as of 20th February 2009, which approximately totaled $6 million in cash.

As of March 2009 the company's balance sheet remains strong, with $62.6 million in cash and short-term investments, zero debt and $139.9 million in the shareholder's equity.

The DSO at the end of March 2009 was lower at 68 days from 73 days as of March 2008.

Our largest customer accounted for 23.6% of the revenue for the quarter and our top five customers accounted for approximately 68% of the revenue.

At the end of the quarter our worldwide headcount stood at 6,492 people.

With this, I'll now turn the call back to Salil.

Salil Ravindran

Thank you, Sujit.

[Melissa], we can now open the floor for questions.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from Brian Kinstlinger - Sidoti & Company.

Brian Kinstlinger - Sidoti & Company

My first question is related to your top customer. I think it's pretty obvious who it is. I think the contribution from them was down more than 20% and I think it's obviously well documented what's going on with that company, so I guess I'm just curious, is that pricing, is that demand? Talk about what's going on with that customer and how you expect that, you know, what will happen with that customer going forward on the price and demand side.

Phaneesh Murthy

No question about the fact that the company is going through a fair amount of [inaudible] and trouble of its own.

I think we had hit both on pricing and on demand. I think we had a number of project cancellations at very sudden notice, which is why, if you noticed, you would have seen on-site utilization in iGATE, which is one of the lowest it's ever been at 87% because it didn't give us enough time to react.

Brian Kinstlinger - Sidoti & Company

Mostly from this one customer?

Phaneesh Murthy

Yes. Yes, I think it was very sudden, absolutely.

And my own sense is that I would say most of it is behind us. There may be a little bit in front of us, but one of the other important things that I think we are doing fairly well with the customer, our execution track record has been quite stellar and we could end up building a little more in terms of volume if things work out well for us.

But right now I think I would just say that most of the problems, I think, are behind us.

Brian Kinstlinger - Sidoti & Company

When you say behind us, if you're down about 22% at that customer, would you say -

Phaneesh Murthy

That becomes the new baseline.

Brian Kinstlinger - Sidoti & Company

Right. My question is do you think that the other vendors are down more or less? Are you in line with market share, are you down line with market share with that customer? I'm curious. And I'm sure you don't know the exact numbers from everyone there, but what's your sense?

Phaneesh Murthy

No, no. I think everybody has taken a lot of pain. And it may actually just be that based on the mix of businesses within that customer we may have ended up taking maybe marginally less pain than some others and maybe marginally more pain than some others. But I think everybody has shared the pain in this particular case.

Brian Kinstlinger - Sidoti & Company

Now Satyam I think has about $100 million plus or minus of revenue from that customer. What are the latest rumblings about that relationship that you hear and when is the renewal date with GE and all of the vendors?

Phaneesh Murthy

I think the renewal date for GE is the end of 2009. Typically, GE renegotiates its contracts in the second half of the final year of the contract, so in the second half of this year we'll probably renegotiating the contract.

We haven't yet heard any news about Satyam specifically there.

Brian Kinstlinger - Sidoti & Company

Do you think things will get determined? I mean, do all the contracts end at the end of 2009? Is that when you think a determination will be made whether that relationship holds or does not hold?

Phaneesh Murthy

I think in the second half we'll get fairly clear as to whether they're keeping the same number of vendors, whether they're going to reduce vendors and so on.

Brian Kinstlinger - Sidoti & Company

And in terms of utilization, if it's down because of this one customer and that's the new baseline it doesn't seem unless you win some of that Satyam business that you're going to go right back. Are you having layoffs in your on-site business?

Phaneesh Murthy

No, no. We're not having layoffs in our on-site business. Essentially what we have done is that we have now moved - most of our people were mobile people, so we moved them to India until the work off-site rebounds.

Brian Kinstlinger - Sidoti & Company

But still, I mean, utilizations are low. What are you doing to - why would you not chose to improve utilizations when everyone in the market, including yourself, says demand doesn't seem to be returning in the next four to five, six quarters, or growth doesn't.

Phaneesh Murthy

I think my sense is that the offshore industry will actually start seeing a little bit of uptick in decision making happening in calendar Q3. So from that perspective, resources will probably be needed from Q4 or Q1 of next year to varying degrees.

Now we have taken a number of other steps right now to increase our margins or to cut our costs. I think a lot of these employees have come forward and are doing fantastic [inaudible]. I mean, we have reduced our part consumption, we have rationalized our routes for cabs and buses, which pick up our employees. If you notice, our SG&A costs have actually come off quite dramatically. I don't know if that's the longer-term sustainable rate because we do want to invest a little more in sales and marketing right now to try and take advantage of the situation in fact right now, but at this moment we believe that carrying employees will be in the better long-term interest of iGATE.

What we have done is that we have encouraged our employees to essentially go and do one of three things. Essentially we are building a whole number of [inaudible] component objects which will hold us in - so that we come out stronger. The second thing is that we have told all our employees to start taking the training programs now for whatever they are supposed to while they're on the bench, which is, you know, whether it's the project management training, communications, new technologies or whatever it is. And the third thing is that we have told our employees that whoever has vacation time, avail of it now. Once the billable stuff starts, we are not going to be doing vacation so easily.

So I think we are taking a lot of improvement steps to make sure that costs are managed well and that we come out a little stronger coming out of this.

Brian Kinstlinger - Sidoti & Company

A couple more questions. First of all, so do you like some of the other companies sort of help push decisions to move the bottom 5% out or is that not something you guys do?

And then what is your plan for salary increases, if any?

Phaneesh Murthy

I think on the bottom 3% it's a standard process that we have every year and the bottom 3%, so if you look at some of the numbers which have reduced, it's all been really bottom 3% we're knocking off. So that's point number one. And that's a typical cycle that you do in the March/April timeframe because that's when annual appraisals are done.

The second thing is that we have made a decision to freeze salaries until further notice, so there will be no salary increases right now and we have no commitment to increase salaries right now in the foreseeable future. We have said that we will do it when we see a rebound in the economy.

Brian Kinstlinger - Sidoti & Company

Two last questions. First of all, some of your competitors - I'm not sure how your hiring plans have changed, just in time versus well ahead of demand, but do you have offers outstanding and, if so, are you keeping good on them and how many and what's the cost per employee on that, if so?

Phaneesh Murthy

We have a proportion of graduates coming out of school. As a percentage, we had actually reduced the number of offers dramatically last year, you know, sensing the slowdown. So we have a couple of hundred offers out there, but typically we absorb most of these employees some time in the October to March/April kind of a timeframe, so that'll be the next time when we absorb any employees unless demand changes.

Brian Kinstlinger - Sidoti & Company

The final question is price, I think, is really the most important question that everyone's talking about. You give your rates, so we know what they're down so far. When we exit 2009, do you think we'll be about - could we be another 10% lower?

And then the second part of the question is what stops in 2010 when demand returns from clients coming back and trying to pressure prices more?

Phaneesh Murthy

I think as a general principle if I look at it, I don't think the pricing decline for us will be that dramatic. While we have seen price pressures, it's really been from one or two customers. We believe that the value point at which we are offering services and our relationship is helping us go through. That's one. Volumes have declined.

But the second piece is that I think, you know, my sense is that all our good faith [inaudible] are hurting, so people are - we are helping out and so on and so forth. If the market recovers, I do believe that customers will also have a vested interest in making sure that their partners are profitable and successful because this game is not about - some companies do believe it's all about squeezing the vendor dry, but most of us believe that it's a partnership model where the [inaudible] are intertwined.

So to that extent I think we do have a good mix of customers. I'm actually quite confident that once the decision making starts, which I anticipate in Q3, I think for us the uptick will start.

Notice I'm not saying that the economy is doing -

Brian Kinstlinger - Sidoti & Company

Right, right.

Phaneesh Murthy

It's just that I think decision making will start - because we are in the cost reduction game, I think the decision making will probably start, which will help us.

Brian Kinstlinger - Sidoti & Company

Just one follow up on the price and then I'll let some others ask questions, but you're saying it's really almost two customers, but you're down 7% year-over-year. That can't just be two customers.

And I guess what stops your other - I mean, you listen to every company out there, all customers are coming and what's going to stop the rest of your customers from coming and, you know, most of the work's not sole sourced, so who stops them from getting lower prices?

Phaneesh Murthy

Nothing stops anybody. I mean, technically that's a fair statement. Nothing really stops anybody.

I do believe that the average price has come down so much for really two reasons. One is because of a couple of large customers, one, and then the second is that with another large customer our volume discount has reached the mix [flat] because of the volume of business that they're giving us.

Operator

Your next question comes from Jonathan Maietta - Needham & Company.

Jonathan Maietta - Needham & Company

Phaneesh, around pricing and volumes, was the bulk of that pressure felt toward the front of the quarter or has it been consistent throughout the quarter? I was just wondering if you could kind of describe qualitatively your sense around those issues.

Phaneesh Murthy

I think we took the impact pretty much for the whole quarter. So it was felt very early on in the quarter. There was a small group of our - we felt the pressure towards the end of the quarter, but in almost all cases we actually ended up pretty much absorbing the impact for the whole quarter.

Jonathan Maietta - Needham & Company

Do you feel that volumes have stabilized or do they continue to track downward?

Phaneesh Murthy

I actually believe that we are in a little bit of a valley period, so my belief is that the volumes have stabilized right now for iGATE, plus or minus a percent here or there kind of stuff. But we are I think in a valley period right now and I believe that's what [PMJ] will end up looking like.

Jonathan Maietta - Needham & Company

And then around M&A, I was wondering if you'd seen any opportunities on the M&A front, maybe with some smaller companies that maybe don't have the financial wherewithal that you do. Have you seen any interesting opportunity out there?

Phaneesh Murthy

I think we are aggressively looking, Jon. We do believe, like you said, that there's a fantastic opportunity. Now the interesting thing is of course areas which we have been focusing on in M&A, which is health care, [ITV, TO], etc., those segments are not doing badly, so that's not been the problem.

The other companies which are dropping revenues much, much more dramatically than us, I mean, there were a couple of midsized companies that will drop revenue some 20% - 25%, so that's kind of a little - making us a little nervous on some of the ERP or implementation kind of companies which have more [patchy] or project-based revenues rather than [inaudible] revenue.

So we are looking aggressively. We have not got any one specific target in mind yet.

Jonathan Maietta - Needham & Company

And Phaneesh, I was just wondering if you could comment on fixed-price work versus time and material, does that look any different than maybe it did a quarter ago or is it shifting one way versus the other?

Phaneesh Murthy

I think the mix has not really dramatically changed in any significant manner. In fact, [inaudible] leans a little more towards the fixed price kind of stuff because what we're also doing is we are converting some of our maintenance contracts to fixed price multi-year contracts.

Jonathan Maietta - Needham & Company

And then, Sujit, I just had a handful of questions on the finance side. Other income, the loss of approximately $750,000, was that just basically FX-related stuff?

Sujit Sircar

Yes, it is FX-related stuff. It is on the forex side, yes.

Jonathan Maietta - Needham & Company

And how did currency impact earnings in the quarter?

Sujit Sircar

Okay, well, we had a gross margin positive [0.6%] for the quarter, which gets kind of offset in the other income line.

Jonathan Maietta - Needham & Company

And then how shall we think about gross margins in the next quarter or so? Do they stabilize here? Would you expect an uptick as we've seen in previous years?

Phaneesh Murthy

The uptick in previous years, Jon, has largely been because we have done salary increases in calendar Q2 and therefore on Q2 it drops and then it upticks through the year as the volumes pick up. Right now since we have not done the salary, the seasonality effect in margins therefore in this year is not going to be felt. So my argument is that the uptick is probably going to come only based on volume growth, and we don't see too much of that. We aren't anticipating that at least in the next quarter.

Jonathan Maietta - Needham & Company

And then I guess just the last question I have is around the tax rate. You had a slight benefit this quarter. Should we expect a more normalized kind of single-digit tax rate in the next couple of quarters or how shall we think about that?

Sujit Sircar

Yes, you will. There are two or three reasons - one, we had a lot of [suspense] done last quarter and so there is a reversal because generally on a suspend we take a very aggressive provision and in the provision we take [inaudible] position. We have finalized all of our suspense and we have been able to get the credit out of that. That's number one.

Number two is that we have new facilities we have kind of - we are doing it, so there is some separate tax asset which is there. That's why it has become a benefit for us now.

But no, going forward it's going to be single digit in terms of the tax effective rate.

Operator

Your next question comes from Jeff Martin - Roth Capital Partners.

Jeff Martin - Roth Capital Partners

Of the five clients you signed, how many of those were Fortune 1000?

Phaneesh Murthy

Three are Fortune 1000.

Jeff Martin - Roth Capital Partners

And then could you give some detail on the delta in the SG&A? From Q4 to Q1 it looks like you dropped $2.8 million or so. What did you do to get there?

Sujit Sircar

Okay. On a sliding revenue, the first thing which you do is you put a significant break in terms of your SG&A, so you pretty much freeze everything as far as G&A's concerned until you come to a situation where you reach a value [inaudible].

In last quarter and this quarter, two or three things. One is we have reduced our variable pay, one. Two, last quarter there was also one customer of ours which filed a Chapter 11 and we had to take a provision for those - or filed bankruptcy and we had to take provision for that. Three, travel was completely - or frozen from that sense. And so these are the three or four reasons for which -

Phaneesh Murthy

I'll just add a little more color. I think traditionally calendar Q4 also tends to be a high quarter from a marketing expenses point of view because we do our big client conferences and stuff like that in calendar Q4 and about that time in the budget term also we get a chance to interact with all the clients. And so in general, Q4, as you know, [inaudible] a little higher anyway.

And then lastly I think we've done a lot of work in power conservation, in transport fees and so on and so forth just by rationalizing routes and those kinds of things, which will help out a little more.

Jeff Martin - Roth Capital Partners

And I know you don't have a crystal ball, but is it possible SG&A could stay under 25% of revenue for the remainder of the year?

Phaneesh Murthy

I think, yes, G&A could possibly stay at less than 25% of our revenue. I think our key question is going to be if - at the moment we do believe that there will be an uptick in revenue from calendar Q3, so that'll make that more comfortable. If things become completely adverse, then of course that becomes a different issue. But at the moment, yes, we do anticipate it.

Jeff Martin - Roth Capital Partners

And then when did the salary freeze go into effect? Did you have any salary increases in Q1?

Phaneesh Murthy

No, we had no salary increases. So basically we normally do our salary increases in April, Jeff, because that's the period when nearly almost all companies do their salary increases. So we decided not to do it.

Operator

Your next question comes from Vincent Colicchio - Noble Financial Group.

Vincent Colicchio - Noble Financial Group

Phaneesh, could you give us more color on your thoughts regarding 3Q improvement in demand? Any data points would be helpful.

Phaneesh Murthy

Okay, I think my own sense is that there are three data points I have. The first data point is that we're actually seeing a lot of the bank mergers and integrations kind of falling in place, with key decision makers now being appointed. Just to give you a perspective, in the last six months in many of the senior positions in banks, we've actually found two or three changes just in the last six months because of all this M&A activity. Now I think it looks like it's stabilizing. So that's one.

The second, I think, data point is that if I just go back to our - if you go back to the past couple of recessionary cycles you'll observe that decision making typically has started two or three quarters into the recession. And my sense is that, again, that three-quarters is June and consequently my own view is that therefore it will start happening.

The third prong I get perspective is actually the level of activity right now is the highest that it has ever been. Having said that, it has not resulted in closures. I do believe that with this level of activity, both in terms of proposaling and in terms of customer visits to us in India, I do believe that something is going to give over the next quarter or so.

And these are the three reasons for my view that cost reduction kind of companies like us, decision making will start and an uptick will start in calendar Q3.

I'm not at all saying that the economy is going to rebound. I don't believe that the economy is going to rebound. I think it's just that for companies like us decisions will start getting made.

Now the dark horse in all of this, to be completely honest, is this whole thing related to the TARP money and so on and so forth and what implications that has. At the moment, however, we do believe that banks have continued to reduce costs in a dramatic manner or are continuing to hope to reduce costs in a dramatic manner.

And we also anticipate that a lot of that growth - a lot of [investing] will come from the [inaudible] side, not purely from the technology side.

Vincent Colicchio - Noble Financial Group

What thoughts do you have on protectionist impulses from Washington? Have we seen that calm down? What do you think is the outlook there?

Phaneesh Murthy

We have - this is what I was just addressing, that TARP money. Recipients may be forced to look differently. We have a couple of conversations which are going on at the moment where banks are wondering whether they can move stuff to low-cost zones within the U.S. or India and so on and so forth, and potentially we are also looking to see if we can partner with one of them to set up a local zone in the U.S. should it become necessary to do part of the work or a chunk of the work in the U.S. and then the balance work from India.

Vincent Colicchio - Noble Financial Group

One last question on iTOPS, what percentage of revenue was that and what is your outlook for the rest of the year?

Phaneesh Murthy

I think iTOPS revenue is just a little under 10% and my feeling is that coming out of what we are doing we'll clearly ensure that we end up in a situation where this is the more popular and more preferred route. So I think if I go look forward, the next three years I actually do believe that it will be the most aggressive pace of adoption. We've been talking about it for the last four, four and a half years, but the pace of adoption has been very slow. I think sometimes market conditions force a higher pace of adoption, and I do believe that this is just the trigger that the market needed to adopt this.

Operator

Your next question comes from Brian Kinstlinger - Sidoti & Company.

Brian Kinstlinger - Sidoti & Company

I've got a couple of follow ups. The first one is one of the biggest players in this space mentioned that 67% of their clients - and they've got a lot of them - say their budgets are down 10% plus, for this year budgeted to be, and 87% of their clients say they'll be down. Do you think that's a good representation? Do you think your client base is showing somewhat similar budgets for this year, the next four quarters?

Phaneesh Murthy

I think it is my anticipation that financial services companies in the U.S. will be dropping budgets roughly between 25% and 30% this year or will be dropping spending roughly 25% to 30% compared to 2008.

I think as a group almost all other companies [inaudible] health care will be dropping between 5% and 10% on their IT spending.

Having said that, I think I'm seeing across all companies, whether it's manufacturing, financial services, retail, etc., there seems to be a concerted effort to try and do more back office processing in lower-cost environments because of this current thing.

So while IT budgets are down, I do believe that the BPO spending [inaudible] will starting increasing.

Brian Kinstlinger - Sidoti & Company

There was a question before about M&A and I'm curious. When you look at M&A right now, is that more focused on, first of all, what kind of service offering - is that consulting, is it IT, more strategy? Is that more U.S.-based, is that more offshore-based? Give us a sense for some of your priorities since you mentioned that you were looking.

Phaneesh Murthy

No, no strategy in consulting. Nobody's spending dollars on consulting and strategy, unfortunately, right now, so that's really not where our focus for M&A is.

Our focus for M&A is clearly in three clear areas. We are not as sensitive about location right now, but it's in three clear areas. The first is in verticals like health care, so we do believe that that's going to be a big thing for expansion for iGATE, so that's where we are looking. The second is broadly in the BPO iTOPS area and this is essentially where we'll end up in a situation where we can acquire a piece of business, either in insurance or financial services or health care or [inaudible], so BPO iTOPS area either in financial services or health care. And then the third piece is clearly some of the captives are still looking to be spun off or sold.

So I think these are our three priorities. And those captives obviously automatically become India-based, Brian.

Brian Kinstlinger - Sidoti & Company

You know, the interesting thing is when I take a look at my estimate - and who knows what you'll hit for earnings - but you're trading at less than 10 times even if we ratchet it back and you [inaudible] your cap and cash. Why not buyback your own stock instead? You have plenty of stock out there and it seems like that would be very accretive and your stock seems to be very cheap and if you're bullish or at least have some indication that in the third quarter or fourth quarter, even, demand will pick up a little bit, why would we not be seeing you buyback stock now at these levels?

Phaneesh Murthy

Because of the fact that we want to keep that money for acquisitions. Because our stock is quite cheap right now, we don't want to necessarily use stock for a currency for acquisition. But we do believe that there'll be some good assets available and we want to use that cash for acquisitions.

Brian Kinstlinger - Sidoti & Company

Do you think you'll be able to buy a company for anything close to as cheap as you're trading? I mean, you're trading at like 8 times earnings and a third of your cap and cash are really - the implied valuation is cheaper. Are valuations that cheap in the acquisition space?

Phaneesh Murthy

I think there are. If you just broadly look at the entire mid cap segment, I think all of them are trading - many of them are trading at unfortunately less than us.

But yes, we do believe that there are companies, at least we've been talking to a number of companies, and valuation, I mean, let me put it this way, whether they will sell or not in this market, that's a different issue. But clearly we are not seeing it as dilutive or whatever it is.

Brian Kinstlinger - Sidoti & Company

The other questions were surrounding FX. I guess maybe remind us why all of your competitors see this huge change in margins related to currency, especially on the gross margin line, but even on the operating line, and you guys only see a small change while currency's working in your favor.

Sujit Sircar

No, it is from the last quarter to this quarter I said 0.6%. It's not from the last year. The last time when I said it's 0.6%. But if you take from the last year to this year, it's probably close to an impact of 2%.

Phaneesh Murthy

Having also said that, Brian, I think the only other factor which I wanted to tell you was what is the mix of currencies that we have versus the mix of currencies that other have? A good chunk of our business comes from Canada and the Canadian dollar actually has not done as well over the last couple of quarters as you'll notice that it's gone back to the $0.77 - $.80 kind of a level.

So I think some of it will be dependent on the mix of dollar revenue versus non-dollar revenue also.

Brian Kinstlinger - Sidoti & Company

So is it tougher for the sensitivity kind of scenario where a 1% increase in the U.S. dollar versus the rupee or decline equates to some change in margins given that Canadian and European exposure, is that more difficult or do you guys have some sort of rule of thumb for your sensitivity to the U.S. dollar and the rupee?

Phaneesh Murthy

We do have some kind of rule of thumb.

Sujit Sircar

Yes. If you see for us, you know, our Canadian, out of 38%, our Canadian business is close to 22% and it's been constantly growing from last year. It's moved from 16% to close to 22%. That's where the mean impact has kind of fell because it's almost from 1 to it's come down to 77 - 78.

So that's where we had a negative ping. And if you really take into account everything going in one direction, you know, there is [inaudible], combination, which was always there, if you take into account every 5% increase in dollar, keeping other things constant, will give you around 1% increase in the gross margin. But provided other currencies are not moving in other directions.

So there is a relatively complicated formula which is there, so you really need to see which currency moves in which direction.

Brian Kinstlinger - Sidoti & Company

1% being 100 basis points, is that what you mean?

Sujit Sircar

Yes. [Every] percent change in dollar - rupee parity gives you 20 basis points.

Brian Kinstlinger - Sidoti & Company

All I'm saying is that seems small. I mean, it's about half what other companies quote the sensitivity.

Phaneesh Murthy

But that also could be also because of the fact many other companies have 75% to 80% in dollar, isn't it?

Sujit Sircar

Correct. Ours [inaudible] 50%. I mean, from U.S. dollars.

Brian Kinstlinger - Sidoti & Company

And my last question is I think one of your larger customers in Canada, you were sole source last I even asked that question. I'm curious if you still are or you're seeing increased competition where you were sole source before?

Phaneesh Murthy

Still hanging in there.

Operator

Thank you. There are no further questions at this time. I would like the floor back over to management for closing comments.

Salil Ravindran

Thank you, Melissa.

Once again, I would like to thank you all for joining us on this call. I look forward to speaking with you in about three months or in between in one of our investor meetings.

If you have any follow up questions that you might like to discuss, feel free to send me an e-mail or give me a call.

Once again, thank you. Have a good day.

Phaneesh Murthy

Thank you, everybody.

Operator

Ladies and gentlemen, this does conclude today's teleconference. You may disconnect your lines at this time. Thank you for your participation.

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