Exlservice Holdings Inc (EXLS) 2010 Q4 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the fourth-quarter 2010 EXL's earnings conference call. My name is Irvan, and I will be your operator for today.

At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session. As a reminder, this conference is being recorded for replay purposes. I would now like to turn the conference over to your host for today, Mr. Jarrod Yahes, EXL's Treasurer. Sir, please proceed.

Good morning, everyone, and thanks for joining EXL's fourth-quarter 2010 earnings announcement. Joining us today in New York are Rohit Kapoor, our President and CEO; and Vishal Chhibbar, our Chief Financial Officer.

We hope you've had an opportunity to review the press release we issued last night, along with the updated investor-friendly fact sheets that are available for review on the Investor Relations section on EXL's website. On the agenda for today, Rohit will provide a business update for the year 2010, and discuss some of EXL's investment priorities. Vishal will take you through the financial details of the year, as well as provide our guidance, and close the presentation before we take questions.

Some of the matters we'll discuss on this call are forward-looking. Please keep in mind that these forward-looking statements are subject to known and unknown risks and uncertainties that can 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 SEC 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. Reconciliations of these measures to USGAAP can be found on the press release.

Now, I would like to turn the call over to Rohit. Rohit?

Thanks, Jarrod. Good morning, everyone. Thank you for joining today's call. I'm going to start by recapping the past year, as well as highlighting some of EXL's key accomplishments.

As you may recall, the beginning of 2010 was characterized by continuing economic uncertainty, which serves to restrain longer-term strategic decision-making related to outsourcing. During the course of the year, business confidence for companies returned as their revenues grew and profits expanded. Transformation services outpaced the growth in outsourcing services, as it benefited from this gradual improvement of our clients' businesses, as they were quick to adopt smaller bite-sized projects with shorter pay backs, to improve their business economics.

With this economic backdrop, I would characterize 2010 as a pivotal year, with respect to the execution of our business strategy. The focused strategy we adopted several years ago of fully integrating transformation and outsourcing and becoming a category killer in select industry verticals and horizontal processes resounded strongly in the market place. Our transformation skills helps clients make smarter decisions, re-engineer broken processes, and enhance their control environments. By integrating those capabilities with outsourcing, EXL has been better able to reduce their costs and enhance productivity. This has been a competitive advantage for us and, as such, we were able to capture the market rebound more fully than our competition.

Our focus on a few select industry verticals and select complex horizontal process areas, such as finance and accounting and legal support outsourcing, has allowed us to focus our investments more sharply than would otherwise be possible. The execution of our strategy has resulted in robust financial results. EXL grew revenues to over $250 million this year, a key milestone, with growth of 35.9% year-over-year, after excluding a one-time client payment in 2009.

We experienced sequential revenue growth every quarter, when excluding the one-time client payment. As of the year-end, we had over $114 million of cash and short-term investments, and generated $50.8 million of adjusted EBITDA. The growth we experienced is also due to existing clients rewarding EXL with additional business volumes, and diversifying the type of processes we perform for them. I wanted to call out in particular our work in decision analytics, risk and financial management, and finance and accounting that continues to grow rapidly and lead the Company up the value chain. We no longer have any commoditized [voice-based] processing work and, in my assessment, our business quality mix is the highest in our history.

From a new client acquisition standpoint, EXL brought on board 26 new client relationships in 2010, including six clients in the fourth quarter. By comparison, we signed 19 clients in 2009. Our ability to [accelerate] our client wins year-on-year is critical, and I expect this trend to continue based on the major and sustained investments we are making in our client management and business development functions.

I would like to provide investors some additional detail in terms of the investments we are making in our front-end that has facilitated the growth we have experienced. First, we brought on board world-class talent to lead this initiative and help us take the organization to the next level. Bill Bloom came on board as Executive Vice President, Global Client Services, in July 2010.

Second, we have been actively adding new talent, with 10 to 15 years of professional experience in select industry verticals, and backgrounds in operational delivery and consultative selling. By doing this, we are able to push decision-making closer to the client, facilitate faster turnaround, while building a more scalable client-facing organization structure. This quarter we added four client executives, and business development professionals at the [vice] president level, with plans to add several more over the next few quarters.

Third, we have changed the compensation structure such that there is greater incentive toward selling larger outsourcing deals. Lastly, we have invested in the packaging and go-to market plans for our current suite of services, as well as on our branding efforts. These investments, combined with additional business development executives focused on new clients, has resulted in our sales and marketing spend increasing 35% year-on-year, and rising to 7.5% of sales.

We believe the result of this investment for EXL will result in broader business relationships with our existing clients, and new client wins that will allow us to grow faster than our industry, and have more predictable and sustainable growth. In addition to the investments we are making in our front-end, we have made a large investment in world-class physical infrastructure to support our anticipated growth. At the end of the fourth quarter, we expanded our global delivery capacity by over 800 seats, spread over 100,000 square feet,in a tax-advantage special economic zone located in Noida, India. The planned second phase of this expansion entails setting-up of an additional 1,400 seats. The total expansion represents a 21% increase in our delivery capacity, as compared to the total number of work stations at the end of 2010. The expenses associated with this build-out will more fully work their way into our cost space in the first quarter of 2011 and throughout the year.

It is important to note that we do have a high degree of visibility, and confidence that EXL has the client demand to support the build-out of this infrastructure. And while there may be a short-term margin impact, this is the right investment to make to support the additional business that our clients are rewarding us with. As our infrastructure utilization improves from the current low point, both in India as well as in our other global delivery centers in the Philippines and Central and Eastern Europe, EXL will see the benefits of these investments in the years to come in the form of margin expansion, as well as an even higher-quality delivery footprint in tax-advantage delivery centers.

From an operational delivery perspective, in 2010 we made further progress towards our stated goal of becoming a category killer in select industry verticals and horizontals. To accomplish this goal, we undertook multiple initiatives this past year. We created proprietary solutions in our transformation services business, we partnered with multiple software providers, and we continue to invest in the training and development of our professionals, all with the goal of furthering our investment in proprietary solutions, backed by unique intellectual property.

These proprietary solutions also facilitate the gradual evolution of EXL toward outcome and transaction-based pricing models, which incrementally comprise a larger portion of our revenue stream. The demand environment for talent on the supply side of our business continues to strengthen in India and elsewhere. Our attrition rate in the fourth quarter was 35.5%, up slightly from 32.8% in the third quarter.

We are making investments in our training and development program and employee management methodologies. We have recently launched a web-based e-learning platform for our employees that promotes self learning, and adds another dimension towards our commitment to providing comprehensive learning programs. We expect wage increases in the coming year to be in the high single-digits, from mid-single-digits this past year, as the broader economy continues to strengthen.

In 2010, we demonstrated our ability to integrate and create value from the acquisitions we have made, exercising prudence in pursuing deals and creating significant shareholder value in the process. Our acquisitions off the Amex [GTSE] and EXL LifePRO are well integrated into the Company operationally, and we have started to experience growth from these acquisitions and are actively taking our combined capabilities to market. EXL has an experienced acquisition and integration team, which we believe represents a competitive advantage as compared to our competition, in terms of our ability to source, execute, and derive value from acquisitions. We continue to have a strong pipeline of acquisitions focused on adding processing capability in niches where we can be stronger and on expanding our delivery footprint.

I would now like to provide you some color with regard to our sales pipeline, and what we are seeing in the BPO market place. At our investor day last quarter, we characterized the pipeline with existing clients as bifurcated. With some clients proceeding confidently with their plans for strategic outsourcing initiatives, and others making decisions in a slower and more deliberate fashion.

As I mentioned earlier, transformation remained strong across the board over the course of 2010. That same trend continues, and there has been no noticeable change in the behavior of our existing clients. However, there has been a noticeable pick-up in activity in our outsourcing business. We are seeing an increasing level of activity in insurance, banking and financial services, and finance and accounting.

While the initial deal scopes are small, the clients we are speaking with are large global operations, many of which are looking at offshore BPO for the very first time. We have repeatedly seen that these small [exploratory] transformation and outsourcing initiatives can become large strategic relationships over time. Because these deals are discrete and small, they often are sole-sourced, and are not tracked by the advisory community.

From a pricing standpoint, we are starting to see some industry participants trying to compete by compromising on pricing to improve their success rates. This is something we will keep a close eye on, and while it is too early to tell, we hope that this does not become a trend in our business.

With regard to our pipeline of strategic deals, of the three strategic deals that were in our pipeline last quarter, one is still in the decision-making phase. Another went away because the clients decided not to ultimately proceed with outsourcing, and a third was awarded to a competitor. However, there are two additional strategic deals that have been added to our pipeline since then, and we feel good about where we are to start the year.

Typically, we would seek to win two to three strategic deals over the course of a year, to drive our growth in the subsequent year. In 2010, we achieve those wins in Q2, which is driving our 2011 growth, and we are now focused on winning deals that will solidify our growth for 2012.

Before I hand the call over to Vishal, I want to highlight that this past year demonstrates the credibility and viability of EXL's business strategy. 2010 was a year of strong execution, while maintaining our focus on our clients, and continuing to invest in our chosen domains to become a category killer. With tight coupling of transformation and outsourcing services and our superior domain expertise, we find ourselves strategically positioned better than ever before to gain market share. Going into 2011, I feel confident about the strength of our business, market positioning, and delivering on the growth and profit targets we have set. I want to thank the EXL team for their hard work and dedication this past year, and delivering these strong results.

Now, let me pass it over to Vishal, who will provide details on our financial performance for the year and our 2011 guidance.

Thanks, Rohit, and good morning, everyone.

EXL's results for 2010 are a testament to the prudent decision-making and investments we have made in our people, infrastructure, to the economic downturn in 2009. With the return in business momentum we experienced in 2010, EXL was strategically well-positioned to take the opportunity to gain market share. As such, our 2010 revenues were $252.8 million, up 35.9%, excluding a one-time payment of $5.1 million in the fourth quarter of 2009. Revenue exceeded our (inaudible) guidance of $247 million by about $5.8 million, due to continue broad-based demand for our services into the fourth quarter. Our own expectations for strong sequential growth were met in our outsourcing business, and were exceeded in transformation services as pent-up demand surpassed the headwinds we had previously anticipated.

Outsourcing revenues for 2010 grew over 30% to $192.1 million, compared to $147.6 million in 2009, excluding the one-time payment of $5.1 million. The growth was due to a combination of contributions from new and existing clients, and acquisition-related growth of about $27 million. In 2010, we migrated 110 new processes for our clients, with over 60 processes in insurance.

Transformation revenue grew rapidly, as we saw significant increase in demand for our service offerings, particularly in decision analytics, and risk and financial management. Transformation revenues grew organically by 58%, to $60.7 million in 2010, from $38.4 million in 2009. While we experience exceptional rapid growth in transformation services in 2010, we believe that we will see a return to growth in-line with our stated average annual growth of 15% to 20%.

In fourth quarter, our revenues increased approximately 29% to $70 million, up from $54.3 million, after excluding the $5.1 million in the fourth quarter 2009. Outsourcing revenues grew sequentially in the fourth quarter by a strong 6%, and transformation revenues were down slightly, but remained much stronger than our prior expectation. This was the seventh quarter where we had continued sequential growth quarter-on-quarter.

Gross margin in 2010 was 40.1% compared to 41.2% in the prior year, after excluding the one-time client payment. Gross margins decreased by 110 basis points, mainly due to the adverse foreign exchange impact on our Indian Rupee denominated costs, which was partially offset by higher [acquisition] and transformation services.

Our disciplined and prudent pricing continues to be an important factor in protecting our margins. We continue to seek annual price increases in customer contracts to shield against inflation, as well as make price adjustments based on foreign exchange movements, so that EXL remains margin-neutral. We now have close to half of our revenues where clients have agreed to share the effects of this from contractual perspective, which we believe is prudent in risk management; in particular, to ensure the ongoing [viability] of our long-term offshore outsourcing contracts.

As we have stated in our previous calls, we continue to implement our strategy of investing significant portions of DNA leverage into our sales and marketing and planned management functions. Sales and marketing expenses in 2010 increased 20 bps, to 7.5% of revenues. We believe this investment is vital for the future growth of our business, and we continue to upscale and evolve the function as elaborated by Rohit in his comments earlier.

Adjusted EBITDA grew to 50.8 million or 20.1% of revenue, an increase of 34.4%. We delivered strong operating cash flows of $36.5 million, despite spending over $62 million on two acquisitions, and capital expenditures for building out our delivery infrastructure. We ended the year with the cash and short-term investment balance of $114.3 million. We continue to maintain a debt-free balance sheet.

Our average DSOs for 2010 were 58 days, an improvement from 64 days in 2009, and we intend to continue our focus on effective collections management. Deposition and amortization increased by approximately 30 basis points in 2010, to 6.3% from 6%. This increase is attributable to the increase in intangible expense, due to the two acquisitions we closed in 2010, and was partially offset by lower deposition expense, as a percentage of revenue. Excluding any future acquisition, we expect the Q4 run rate of intangibles expense to continue implying a $2.5 million expense in 2011.

We incurred approximately 20 million of CapEx in 2010 for the development of our (inaudible) improvement and technology equipment for managing new and existing [client] operations. For 2011, we expect capital expenditures of between $20 million to $25 million, which we plan to use towards further expansion of our (inaudible) facilities as well as business-enablement projects.

Stock-based compensation expense for 2010 was $8.5 million. For 2011, we expect the stock-based compensation expense to be approximately $10 million. We were able to grow our existing operating margin by approximately 40 basis points in 2010, to 14.7%, compared to 14.3% in 2009.

In 2009, our average Rupee rate was 48.4 to the Dollar. In 2010, it has depreciated by over 5%, to 45.7 to the Dollar. This translates to approximately negative impact of 160 basis points, impacting our existing operating margins. On a constant-currency basis, from '09 to '10, we expanded our existing operating margin by approximately 200 basis points. Due to the centering of the Rupee, we realized foreign exchange gain from a hedging program of $4.2 million, about 156 basis points. These gains offset the negative impact on the [adjusted] operating margin due to the position of the [Rupee]; thereby, protecting our EPS for the Company.

For 2011, based on current exchange rates, we expect foreign exchange gains of over $3.5 million. Despite lower average cash and short-term investment balance, (inaudible) income grew by 34% to $1.4 million in 2010, as a result of marginal improvement in yields of our dollar-based cash investments.

Tax expense for 2010 was $5.5 million or 17.1%, compared to $3.7 million or 19% in 2009, in-line with our updated guidance. The (inaudible) tax holiday is set to expire in March this year, and consequently, we expect our effective tax rate for 2011 to increase to approximately mid-20s. As we increase our business in new (inaudible) facilities, as well as in another tax-advantaged geographies, we expect effective tax rate to come down somewhat over the next several years.

Diluted EPS for the year increased by 64% to $0.88. Adjusted diluted EPS increased by 81% to $1.08, compared to $0.60 in 2009, mainly due to the growth in our business, and a net positive impact of foreign exchange hedging programs. For 2011, we are providing revenue guidance of $295 million to $305 million, representing year-over-year growth of 17% to 21%. Implicit in this guidance is a broad-based growth from our existing clients, including planed ramps from two strategic clients we announced in 2010, growth from our two acquisitions, and continued stronger demand for our transformation services.

Consistent with prior years, we have visibility of greater than 80% within outsourcing, and to achieving our revenue guidance, estimated at the onset of the calendar year, was lower visibility in account (inaudible), due to the nature of the business. Based on current exchange rates, we are providing an adjusted operating margin guidance of about 13% to 14%. This incorporates high single-digit [wage] increments, continued investment in capacity expansion to cater for future growth, foreign exchange headwinds, and ongoing investment in our sales and marketing functions.

In conclusion, 2010 has been a year of strong growth. We exceeded the top end of our goals for both organic revenue growth of 15% to 20%, as well as expanded our adjusted operating margin well above our target on a constant-currency basis. We've built significant business momentum, integrated two acquisitions and delivered profitable growth. We've made investments in our client-facing functions, invested in our people and infrastructure, and have positioned the Company for continued strong growth.

Now, I would like to open the floor for questions you may have. Thanks.

Thank you. (Operator Instructions)And our first question comes from Ashwin Shirvaikar with Citigroup.

Thanks and nice quarter. Can you tell me how the 2011 Outlook breaks out across the two segments?

Hello, Ashwin. Thanks. The 2011, basically, assumes that we will have a strong growth equally between outsourcing and transformation as we move forward. We think our outsourcing business actually will grow faster than what it grew in 2010, and we also expect growth to take place in the transformation business which is in line with our outsourcing business. From a margin standpoint, as you are aware, the margins of both the business are almost comparable now, and we would expect the margin profile also to remain the same as we go forward into 2011.

Okay. So can you -- with that comment, can you maybe draw a waterfall chart between where 2010 margins ended and let's say the upper end of 2011 margin guidance, and tell me what the -- you said what the pieces were, but can you quantify the pieces that contribute to the margin decline?

Yes, Ashwin, sure.Our existing operating margin for 2010 was 14.7%. The expansion of facilities for growth, which we have mentioned and talked about, is impacting about 140 bips negative. The FX impact from an average of 45.7 to roughly about 45 today is about 40 bips negative.The impact of inflation, which is offset by our full on price adjustments, is about 20 bips. This is then offset by our operating leverage on our G&A line by about 50 to 60 bips, which guides to the midpoint of our guidance.

Okay. Are you at the point -- last question. Are you at the point were you can worry about your gross margins as sort of Cap [united] segment or about the lack of G&A leverage at some point in the future here?

Ashwin, let me take that. From our standpoint, there are multiple levers for expansion of gross margin. Number one is as we move toward outcome and transaction-based pricing models, we believe we can introduce process efficiencies to be able to generate a higher margin services for our clients and give them the flexibility that they are seeking. We also think that the transformation business has an opportunity to be able to expand margins. Right now we are trying to balance the high growth rate that is taking place in our transformation services line, and maintain the margins to facilitate that growth with the hiring that is taking place and the utilization of resources, which is not at optimal levels.

So, we think there are a number of areas where we can work to improve margins. And certainly, if the capacity utilization improves, that is also going to be a factor that will impact our margins. The SG&A expenses from an operating leverage perspective, we continue to see the benefit of that kicking in. The only point we would make is that the adjusted operating margin metric that we guide to is dependent upon FX., because all the FX hedging that we do, the gains or losses associated with the hedging program come in below the adjusted operating margin line. And therefore, to that extent, the volatility of the adjusted operating margins will be there based upon exchange rate movements.

Okay, great. Thank you, guys, and all the best for 2011.

Our next question comes from Tien-Tsin Huang with JP Morgan.

Hello. Thank you. It's Tien-Tsin. To follow up to Ashwin's question on the margin, I understand the investment push. I think it makes a lot of sense. I just want to better understand. If you land some large outsourcing deals from the pipeline, is it safe to say that we shouldn't expect another incremental investment or step down in margin again in 2011 and 2012? I mean, I like to think that margin step back up in 2012 as utilization picks up, but I just want to make sure that we are not going to see another repeat of investments again?

Sure, Tien-Tsin, this is Rohit.

Okay.

The investments that we made in the special economic zone was a very significant investment that we made after a lot of internal deliberation in 2010. The large investment that we made was driven by, I think, a few factors that all came together. Number one is the tax regime in India was changing, and our viewpoint was that the SCPR tax holiday would be sunsetting, and just like was announced in the budget in India yesterday, the tax holiday for all SCPR units has been sunset. So, it was trying to plan for that and to be able to shift all the growth of our business into the special economic zones, so that we could better manage the effective tax rate on our company.

The second is the specific special economic zone area that we invested in gave us an opportunity which was very attractive commercially, where if we took up a large chunk of real estate space up front, it gave us a number of additional benefits. For example, we have an option to purchase that facility outright at any point in time over the next five years, and to us that was a very attractive option that was associated with this particular area. The third was driven by the fact that we were seeing significant amount of revenue growth take place in our business in 2010, and we had good confidence and visibility in terms of that revenue growth in 2011.

Right.

Because a large part of this growth was coming from new types of work with existing clients, and new clients that we were signing up, we could place all this work into the special economic zones. So, from our perspective this investment represents, as we said, 21% of the total installed capacity. We typically would not be making investments in such large chunks, but in 2010 we decided to make this investment in one step function, and I think it was the right decision because the growth has spanned out in 2010. Our visibility into the revenue growth in 2011, as you can see from our guidance, is strong. We think that the utilization of this infrastructure will reach optimal levels, you know, in the next few quarters. So, while there is a short-term margin impact, we think this was the right decision to make, and it was a step function in our decision that we took.

Right.

And just to add, Rohit, I think that also has a sunset timeframe for the direct tax code which was proposed by the government. So, to that extent, it's not like -- you built up a timeframe which is open ended.

Right, no, that makes great sense. Thanks for that detail. Same question on the margin in a different way than. The profitability of some of the deals that you are pursuing that you talk about, is the profitability outlook changed on these deals relative to the past, as you talk about pricing? I am curious both from the customer side and then also I guess, Rohit, you mention competition for deals are changing. You are watching the pricing, so what is happening relative to your peers in terms of how aggressive they are? Is it the multi-nationals that are being more aggressive, or is it more your offshore peers that are taking that act?

Sure. First of all, I would say that in terms of bidding for new deals, and particularly strategic deals, we continue to be very, very disciplined in terms of our pricing, as well as our commercial terms that we negotiated with clients. And therefore, we continued to insist upon getting full adjustments year on year, as well as managing the FX rate risk protection, and balancing out that risk between ourselves and our clients for these long terms and larger sized contracts.

So therefore, the new business that we have been taking on is at appropriate levels of gross margin and levels of profitability. From a pricing environment perspective, we have seen, you know, pricing competitiveness creep into the marketplace, particularly given the slowdown in the growth rate for some of the other players. I think the price competition comes from all varieties of competitors , and that is why we would like to watch this to see whether this is a one-off occurrence, or whether this is becoming a larger term trend, which we will need to compete against in a different manner. I think as we go forward, we will get to know as to what it is.

All right. Great. Thanks for the update.

Our next question comes from Joseph Foresi with Janney Montgomery.

Hello. Good morning. This is Jeff Rossetti for Joe. I just wanted to ask Rohit, is there any way to quantify the percentage visibility you have on the top line guidance?

Sure. On our total business, we typically will have at least 80% for our visibility as we go into a new year and which is exactly where we are right now. It tends to be a lot higher in the outsourcing business and a lot lower in the transformation business, which is much more project-based. Keep in mind also that the transformation business character has been changing for us over the years, and we now have much more annuity-based revenue within transformation, and we also have recurring revenue take place in the transformation line of business, as well as there is strong demand for transformation. I think the visible ability remains high, and it has been historically, and we continue to feel very good about the guidance that we have provided.

Thanks. Could you provide any -- like color any timeframe on the two strategic deals that were added, and the one remaining deal that you are waiting a decision for?

Sure. The one strategic deal that we are waiting for a decision is in its final stages of the decision-making. We believe we are one of two finalists in that particular client situation, and we would fully expect our decision to be made in the next quarter. The other two that we have added onto the strategic deal, you know, qualified prospect list , are actually both from the banking industry vertical. And we feel good about the fact that we are being able to participate in a new industry vertical that we can see encouraging trends of demand from. There the decision-making cycle is going to continue to remain long. Typically, we see deals -- the total -- the lifecycle of deal decision being 12 to 18 months. These deals are probably six to 12 months in terms of their cycle, and have maybe about another six months before their decisions get made.

Thank you. If I could just throw in two more questions. Is there any particular metric that management stock comp is a tie to, any particular targets for 2011? Also, just any thoughts on the acquisition pipeline. I know you mentioned that you are building out the team to go after different targets?Thank you.

On the stock compensation expense, clearly that's -- there is an internal metric that we try to target that towards and there is a longer-term trajectory for stock compensation expense as a percentage of revenue that we try and work towards. I would also add that for the entire management team, and the company's senior executives and middle management, all of our bonuses are tied to a profit metric which is after stock compensation expense. And therefore, we are fully accountable and responsible for the stock compensation expense.

Your other question in terms of pipeline and metrics associated with the front end, we actually have very detailed invest -- pipeline targets, as well as revenue booking targets for our business development professionals as well as for client management executives . And we do this planning, you know, on an annual basis, but then we follow up on these metrics each month and each quarter. And we would expect to see these metrics tick up as we continue to make the investments in the front end.

Okay. Thank you. Any detail on acquisitions that you might be looking at? Thanks.

In terms of acquisitions, I would say that we have a very healthy pipeline of deals that we are taking a look at. We continue to work toward them. We are very, very disciplined and prudent about the acquisitions that we do make, and therefore, there will be times when there will be a lot of activity, and times when there may not be activity. The pipeline, however, looks good. I think from the standpoint of companies that are willing to sell, which have unique capabilities, I think there are a number of those types of opportunities, and we are engaged in them. As to when something materializes, we will bring that to your attention.

Thank you.

And our next question comes from Joseph Vafi with Jefferies & Company.

Hello, gentlemen. Good quarter. I was wondering if we could talk a little bit in Q4 what and actually also in the outlook for 2011, what you are seeing in terms of growth competition form volume increases from the base versus new business that is ramping based on customer wins?

Sure. Joe, thank you for your comment. I think for us , as you know, almost 80% of the growth that takes place in our business comes in from existing clients. And the growth that we saw in Q4 really came in from existing clients that expanded the scope of work with us, either by giving us the new processes or expanding the existing processes by size and scale. Going into 2011, the two strategic clients that we signed up at the end of the second quarter, they will contribute fairly significantly to our growth in 2011. And therefore, we will expect that growth to ramp up between Q1 of 2011 to Q3 of 2011.

And I will also add that the two strategic lines will be signed up in Q2 last year are working out to be clients where our new client management structure and the engagement with these new clients is working very, very well. And as such, our ability to have crossover different lines of services and expanding the scope of the initial relationship is working out very well, and we expect both these two strategic prospects to be significant contributors of our revenues on a go forward basis.

Okay. That's helpful. Thank you, Rohit.And then, I guess the natural follow-up is, is with the economy expected to get a little bit better here, is there any kind of expectation baked into your guidance here for 2011 on just volume increases on existing processes due to an economic list in 2011?

So, I think there are a couple things which we believe are happening as we go into 2011. Number one, you are right about the economic environment looking a lot better. And I think consequently the political rhetoric has come down and I think some of the noise that we used to hear about earlier in 2009 and early part of 2010, that seems to be abating a bit. I think that will be really helpful, particularly for our outsourcing business.

We do expect 2011, you know the growth if there is any upside, most of that upside will come from existing clients, even if we were to sign up new clients in 2011, the only contribute to real growth in 2012. And therefore, any upside to the 2011 plan will come from existing clients and certainly, if they would like to move faster or if they are seeing a greater volume spike, we would see the benefit of that kick in.

And our next question comes from Robert Riggs with William Blair & Company.

Hello. This is Keane McCarthy for Robert Riggs. Just a quick question. Given the expectation to build out the Noida Center, can we assume that that reflects the demand from clients you have already signed, either new or expanded with existing clients, or are you shipping demand from the other locations?

Sure. I think as we mentioned, we are building out the Noida Center in two phases. The first phase being 900 seats and the second phase being 1400 seats. For the first phase -- (inaudible -- technical difficulties)

-- incremental growth that can be accomodated by what is now dormant capacity, is that right?

Right.(inaudible -- technical difficulties) -- question and one follow-up. And our next question comes from David Grossman from Stefiel Nicholas.

Thank you, and good morning. First, I got dropped from the call a little bit earlier, so I apologize if this is redundant. I just want to make sure I understand the mechanics of some of your guidance. Is the FX impact below the line going to be $3.5 million positive relative to your margin guidance?

Yes.

Okay, it is that relatively evenly spread throughout the year then?

Yes.

Secondly, on the tax rate, would that mid-20s tax rate applied to both GAAP and the pro forma calculation?

To the GAAP, yes. And the pro forma, I think there are certain limits which may have a higher tax.

So can you give us a sense to what kind of tax rate we should use for pro forma calculations?

We can have a follow-up call on that, David.

Okay. And this is where I got dropped, so I am not sure I caught all this stuff about the facilities impact. As I understand, your saying that the facilities expansion in Noida will have a 140 basis point negative impact on your margins next year. I guess what I could use some help with is understanding , if you are expanding the facilities with visibility on revenue coming in and you are not necessarily hiring , you know, beyond what you need to service that revenue with which you have disability on, why is the margin impact so significant, particularly given that you are staging how you put the facility into service? Is the DNA really that burdensome ?

Yes. So, David, what happens is that, first of all, the facility which we have taken is about eight floors. We have to pay rent for the entire eight floors. It's not that you can stake about. As for the USGAAP, you have to normalize it for the life.

Second, in terms of the capacity in terms of cost optimization, if you don't spend the money and build up the facility in one goal the cost effectiveness comes down in terms of the average cost per seat, et cetera. To that extent, the investment we're making is at least creating a softer environment for what appears to be ready.And as the seats and the people who come in, the only additional costs we will put in is the technology enablement, but in terms of the infrastructure and getting you ready, it is all being done up front.

So is the 900 seats that are going into service, and I think you said phase two is 1400 seats, is the facility capacity 2300 seats, or is it well beyond that?

The capacity is about 2300 seats.

And can you give us a sense of what kind of growth that incremental 1400 seats can accommodate?

David, this is Rohit. The 1400 seats, you know, if you take an average pricing of $25,000, that would end up being somewhere between $35 million to $40 million of revenue.

Okay, got it.

You know, I just want to add a couple things to your question. Keep in mind that this is an investment in a special economic zone, which asked for the regulations in India, requires a completely separate infrastructure, as well as an operating expense environment, because it is under a separate legal entity and there is a complete segregation of work that we do in this facility versus all of our other facilities. So there are some operating expenses which are duplicated which we necessarily have to do because of regulatory requirements.

And the fact that we have actually chosen to make a step function investment out here to try to take advantage of the tax holiday in the special economic zone . As you aware, prior to this, we did not really have any real investments in the special economic zone, so this was a necessary step for us to balance out the portfolio mix that we have of our infrastructure in India.

Okay. So just to make sure I understand, if I took the 14,000 times the 25,000, we are talking about $35 million of incremental growth that can be accommodated by what is now dormant capacity. Is that right?

Right.

Okay. And then just one last question I have for you, Rohit. You talked about having I guess two or three incremental -- or a guess two incremental strategic type deals in addition to a lot of smaller deals that could become strategic clients over time based on your historical experience. Can you give us a sense of, when does that -- when do you need to close this business or have some visibility on these companies becoming the smaller deals becoming strategic to get visibility on 2012 growth? Do you have to close them by June or can some of this stuff migrate into the second half of 2011, given that the profile of strategic customers are now changing from kind of the outset of a deal to something that can migrate into a strategic customer over time?

Right. So, David, I guess the way I would like to answer your question is, firstly, we already have a portfolio of more than 120 client relationships, where a significant majority of these are large global 1000 companies, but the amount of work that they might be doing with us today may be small. And therefore, there is a huge opportunity for us to convert many of these existing customer relationships where we have small pieces of engagement and revenue from them into a strategic line. And that can take place anytime during 2011 or 2012, because the ramp up of work within existing customer, the cycle to recognize revenue there is much shorter. When we sign up a new client, the cycle for revenue ramp up is much longer.

As you have seen, we signed up to strategic clients in Q2 of 2010, and the revenue will not reach full ramp before Q3 of 2011. So it is a long cycle for us to be able to ramp up out there, but for the existing customers, that ramp up is a lot faster. For 2012, we do have an internal goal in terms of the new strategic lines that we would like to sign up in 2011, as well as some of our existing customers who we would like to convert into a strategic customer relationship in 2011 as well. Just to give you some sense of this in terms of numbers; in 2010, we had three clients which contributed revenues in excess of $25 million on an annual basis. We expect that number to go up to five clients in 2011. And the two strategic prospects that we signed up in 2010, over the next three years, they could potentially be clients that could contribute revenues in excess of $25 million each. So I think it just depends upon each client relationship and how they convert from being a marginal client, to a significant client to a strategic client.

Our next question comes from Dave Koning with Baird .

Hello, guys. Nice job. I just wanted to focus on one thing about the guidance range, kind of the progression through the year. I know you said you expect some of the Q2 signings from last year to come on of Q1 through Q3. Do you expect stronger growth in any quarter, or is it pretty stable throughout the year?

Sure, Dave. I think the way we would think about our business is that it being fairly stable in the first half of the year, and then for us to actually grow as the revenue gets recognized from the new strategic lines that we have, as well as the expansion from our existing clients. and that would take place in Q2, Q3, and Q4. From a margin perspective, we would expect first half margin to be lower as compared to second half margin because of the utilization of the physical infrastructure, as well as the fact that in Q2 we typically will do the annual salary increments for our employees, and therefore, our margins in Q2 get impacted by that.

Okay, that's great. And then just as a follow-up . Would you expect the tax rate in 2012 to be pretty similar to 2011, or could it actually go down, given your entering some of these new zones?

David, I think for the tax rate would be in the same range of mid-20s, and wouldn't get affected in 2012. It might be a marginal impact, but not a significant impact.

Great, and this is a really quick follow-up. There is no acquisitions that are pending or anything like that within your current guidance range for '11, right?

The guidance that we have given for 2011 is without any acquisitions. If you did any acquisitions, Dave, we would disclose them appropriately and provide with updated guidance.

Great. Yes, thank you.

Our next question comes from a line of Bryan Keane with Credit Suisse.

Hello, good morning. I will be quick here. That strategic client you lost to a competitor, was that due to price, you guys think, or do you guys know why you lost that deal?

Sure. The three strategic prospects that we had last quarter, one of them we really had a long shot and it was not in our chosen vertical. It was not something where we felt we had a strong positioning, and we lost that to a competitor, which is a global competitor where there was a specific geographical capability that that particular competitor had, which we didn't have.

So it was driven much more by the circumstance of that particular opportunity requiring a much broader geographical footprint than what we currently have today. The second client that actually went away, we felt very good and strong about and they have actually pushed back their decision process, and as and when they come back to engage on outsourcing, we feel very good and comfortable that that prospect could choose us as a potential partner.

And just on that, some of the pricing competition -- you're seeing some lower pricing from the competition. Is it getting to a point were they are pricing -- are they pricing deals where the profitability is in question? I mean, are people getting pretty desperate just because we hear a lot about the BPO industry being slow, not so much for you guys, but for others?

Yes, look -- it all depends upon who is pricing. If it is a large IT services company, for them they may choose to price aggressively for tactical reasons, and it may not impact our overall profitability at all. But if it is a smaller player, it will certainly impact their profitability, but they might be doing it to win capability and credibility in the marketplace . Our experience is, basically, that we should continue to remain disciplined on pricing and continue to aggregate to the client the longer-term business value that we can provide to the customer relationship, and not use pricing as the basis of competition. We typically will stay away from pricing being the basis of competition. And if pricing is the only basis of competition, we probably would lose .

Right. Okay. Last question. Just the attrition, I think it went up a little bit to 35.5. You know, with some of the wage increases you guys are planning, do you expect that to come back in in 2011? Thank you so much.

Yes, we would fully expect that attrition rate come back down. I think it is also a little bit of a cyclical process here, because typically attrition will drop down before the salary increments are given out. Once the salary increments have given out, you know, the attrition can go back up again. We would think that the attrition rate on an overall basis, we would like to kind of bring that down, but it is going to be dependent on how the industry is doing, how other macroeconomic factors are playing out in the locations where we have our work workforce, and how well we can engage with our customer -- with our employees. That's going to drive the attrition rate.

Our next question comes from Vincent Lin with Goldman Sachs.

Thank you for squeezing me in here. I guess not to be the dead horse on the margin question, but I just wanted to think about beyond 2011. And, obviously, this year the infrastructure investments, the sales force on the front end -- I think Rohit mentioned that you are changing the compensation to [incentivize] more selling of large outsourcing deals, which appears revenue and growth focused, which makes sense in this type of environment. But I am just wondering beyond 2011 in terms of margins?Should we think about the model changing on the margin so that the focus is more -- to the extent that the demand and revenue growth is there, you guys are just going to continue making investments so that the focus is going to shift to an EBIT operating optimization model, so that we should expect kind of flattish margins in the 13% to 14% range. Or should are you thinking about modest margin expansions beyond 2011 to where -- (inaudible -- accent) long-term target that you talked about earlier?

Yes. I think one of the key things which Rohit also mentioned earlier, is depending -- the adjusted operating margin percentage is very much dependent on volatility. To that extent, if the FX weakens the operating margins and (inaudible) operating margins go up as a consequence of that.

As we mentioned earlier , on an FX adjusted basis, for example, in 2010, our adjusted operating margin is close to about 16.2%, up from 14.3% in 2009. So we have delivered significant margin expansion, you know, in our currency basis. In 2011 as we have mentioned, the impact of the investment we are doing in our capacity expansion, which is an essential piece for our growth, you know, that is impacting our margins in 2011. But in 2012, as we are assuming that the FX is constant, we will be able to grow our additional operating margins on historical database.

Thank you. Just a quick follow-up on margins. The 140 bits of infrastructure investments, should we expect it to -- is there any quarter that you expect that margin impact to hit, or is it going to be spread out evenly throughout the year? Thank you.

I think the impact of the investment and as the utilization happens in the latter half, impacted greater than in the first half.

Great. Thank you.

Our next question comes from Jon Maietta with Needham & Company.

Hello? Hi. Thanks very much. The question I had around changing the compensation plans to drive larger deals, I was wondering as to why now in terms of the timing? Is it because you feel more confident given the investments you have made in the front end?

Yes, hello, John. I think the reason for that change is that we want to drive behavior of our sales professionals toward the same objectives, which are more relevant for the company's longer-term growth and sustainability. The timing was done now because we are upgrading our sales force very, very significantly by bringing on senior experienced and talented individuals, who are capable of selling larger deals; and therefore, we also wanted to provide them with the right financial incentive for bringing in larger outsourcing deals where it can be a win-win combination for the company, as well as for the individual.

And I think, you know, the effort that is required to bring in a larger outsourcing deal, and the experience that is required is significantly greater. Therefore, we felt that the compensation alignment should be in that direction to match the effort, to match the objective of the company, and to match the skill sets of the people that we are bringing on board right now as well.

Okay. Thank you, Rohit.

Our next question comes from Rick [Escilan] with Wells Fargo --Our next question comes from Devin Crago from Deutsche Bank.

Hello, just a quick question. With a new strategic clients that are in the pipeline, have you been able to build in the FX protection at the contract level or at least discuss it in negotiations?

Are you talking about the strategic prospects that are in the pipeline, or the ones that we have already signed up?

Well, I guess both would be great if you could answer?

(laughter) Sure. For the clients that we have signed up, one client was in transformation, which, basically, is a shorter cycle project and we have the ability to re-price as the FX rates fluctuate. The other client is an outsourcing client where we do have FX protection, and we do have fuller adjustments each year. I would say with both the strategic plans, we have fuller adjustments coming in each year. With the prospects that we are in the pipeline, we are fully engaged toward making sure that we get the right commercial, but we only get to know once the deal is final.

Great. Thank you for the answers. I will keep it at that.

Our next question comes from Mitali Ghosh with Bank of America Merrill Lynch.

Hello, thank you. This is (inaudible -- accent) in for Mitali. I guess in your opening remarks you mentioned that there has been a noticeable pickup, you know, inactivity, especially on the outsourcing site. To do this draw a little more color as to what we are seeing in the market place? Is it just in terms of the number of deals, or do you also see a shortening of the sales cycle? Thank you.

Sure. Our experience has been that the sales cycle remained long, which is between 12 to 18 months; however, the number of opportunities that we are seeing -- the volume of that has suddenly increased. We have also seen some significant deal sizes in the marketplace. In the past, you know, we would not see deals which were a thousand [SEs] each, and now we do see a few of these deals coming into the market place, where there are opportunities to work with prospective clients, and that has been really helpful.

The other is the deals in Europe have also increased . That actually is another area where we are broadening out our sales capability. And we recently hired a new sales professional to be able to tap into the continental European market, everything that could be an attractive opportunity for us.

Sure. Thank you. Just one more question. Quantitatively or qualitatively, if you can specify, what are the [attrition] levels at which you would really be concerned, and it could impact (inaudible)?

Sure. Our ability to manage a service delivery at these levels of attrition is actually well demonstrated. We haven't had any, you know, impacts to our service delivery as such , but typically the attrition rate of about 35% is high for us. We would very much like to bring that down to the low 30s or sub 30s, if we can.

I think there are some processes which have, you know, higher attrition rates just by nature, by the type of processes that those are, and the kind of work that we do there. Out there we adopt different strategies to corporate higher attrition rates so that the customer service delivery is not impacted at all.

What ends up happening is you end up having a higher cost for managing the operation, and it is an operational execution challenge to be able to do so, but so far we have been able to manage operational delivery at levels where the customer satisfaction scores are very, very high and the service delivery is not impacted at all.

Sure, thank you.

And our next question comes from (inaudible -- trails off) from Oppenheimer. Your line is open. Try on meeting your phone. At this time, I would like to turn it over to Rohit for any closing remarks.

Thank you. I just like to close by making a few comments. First of all, I think 2010 was a terrific year for EXL.

As we exit 2010 and go into 2011, we have great momentum, and we will continue to execute in terms of delivering on our revenue growth. Our margins will improve as we go forward into the second half of the year, and we look forward to a terrific 2011. Thank you for joining this call, and we look forward to talking to you next quarter.