CUTTING THE CLUTTER
As sentinels of a budding industry, finance chiefs of BPO companies in India wield significant power to shape their businesses.
By Aditi Malik

Rajesh Subramaniam had barely warmed his seat as finance chief of ICICI OneSource when the Mumbai-based company announced a pivotal deal. In early April, the US$123m-a-year provider of outsourced business processes sold 11.5% of its shares to Metavante, a US-based company that develops payments-related technology for banks. The deal gives strategic benefits to OneSource, which handles customer acquisition, billings, and collection services, among others, for large US-based credit-card companies and banks. But it also adds pressure on the company to reach its reported goal of bringing revenues to US$500m in three to five years. Last year, it paid US$18m for a smaller outfit called RevIT, which offers similar services to healthcare-related companies. That’s clearly not enough. Subramaniam, as such, is now thinking of ways to balance his debt and equity to fund future acquisitions.

Subramaniam is not alone. Alok Misra, CFO of MphasiS, the third-largest business-process outsourcing player in India, had just experienced integrating two foreign acquisitions last year – Princeton Consulting in London and Eldorado Computing in Arizona – before being thrust into another one. This time, the US$212m-a-year company was on the receiving end of the M&A table, after the US-based technology-services giant EDS bought 52% of it for US$380m. That would give Misra – who gets to keep his job alongside the rest of existing senior management – enough ammunition to grow its scale in an industry where consolidation is all but certain. The Indian BPO and IT-enabled services sector – which embraces a range of transactions and processes from payments reconciliations to insurance claims – has only a handful of players with revenues in excess of US$100m. Dozens are receiving far less, and even more are just starting up.

With the United States and Europe becoming increasingly comfortable with outsourcing, BPO companies have a huge growth potential. In the year ending March, BPO-ITES exports grew 37% to US$6.3 bn, and should reach US$8.5 bn this year, according to Nasscom, the industry lobby group. As net employment balloons at a similar pace – 100,000 new jobs were added last year, bringing the total to 415,000 – the challenges of growth jump to the fore. As sentinels in a pioneering industry, CFOs in India are stepping up to the plate, taking the initiative to help shape their businesses beyond the call of traditional finance. “With high growth come unpredictable situations,” says Subramaniam. “Our main role in a super-growth industry is to manage long-term performance goals with short-term ones, ensuring that there is no compromise on either.”

Reality check

As the Indian knowledge base continues to redefine what skills could be outsourced, BPO companies are building strategies that would give them a first-mover advantage to address competition, promising services that had never before been done offshore. Under current circumstances, the temptation to expand for its own sake is strong, and for Misra, the CFO acts as a check. “The CFO plays a key role in ensuring that while there are investments in new areas, the bets are hedged and there is a proper review of the return on investment, to determine when to stay the course, and when to cut the losses and exit a business,” he says. Last year, MphasiS withdrew from a service line that sought to provide financial-advisory services to US-based companies. Misra successfully convinced senior management that it was not viable to pump dollars into an initiative that was ahead of its time.

“Resource allocation becomes critical and tough,” agrees Subramaniam. “The sales team would always want to have spare capacity which makes it easier to pitch to customers, whereas financial investors would prefer higher cash generation.” Saying no has thus become a regular part of his job. On several occasions, the 34-year-old CFO had had to demonstrate with detailed financial forecasts the futility of doing business with so-called “marquee” clients, or those with needs so specialized that the service might not be brought up to scale to justify the costs of maintaining it. Subramaniam also urged the withdrawal of OneSource’s technical-help desk and online-retailing service, among others, reducing the number of service lines to a manageable three from the original seven.

CEOs appreciate the insight. “A CFO adds discipline and rigor to the investment process, taking care to ensure that each new initiative is ROI-driven and not merely on a whim,” says Niket Patankar, founder of Adventity, a Delhi-based firm that specializes in equity research for Wall Street investment banks.

Closely related to business development are decisions pertaining to growth – through acquisitions, partnerships, or building capacity from the ground. Given the thirst of every BPO company for scale and specialization, any sizeable player is a candidate for acquiring or being acquired. M&A activity in the sector is booming, both on the domestic and the international fronts. OneSource, for example, went through five acquisitions in four years – three of them domestic and two international. MphasiS has also done five, two of which were local. Even newcomer Adventity, which made in excess of US$20m in revenues last year, completed an all-cash acquisition of Profolio Home Mortgage, a Texas-based mortgage broking company in August 2005.

As such, past M&A experience is handy, as Patankar stresses. Misra, a trained accountant, quickly learned the responsibilities of the CFO in this regard. “The CFO acts as a reality check in an M&A transaction, ensuring that we as a company do not become emotionally attached to a deal,” he says. This could be done, he adds, through “ensuring that the valuation is in the ballpark of future expected revenues, and protecting the company from all risks – statutory, fiscal, and financial.” During a recent MphasiS acquisition, Misra spotted a potential sales-tax exposure; he thus set aside an escrow account to minimize it. Subramaniam adds that while the synergy with a target company may add up, the structure of the M&A deal may define its likelihood for success. He stresses that not only should the target company’s management benefit, but also encourages them and their key staff to stay.

A head for metrics

Indeed, CFOs of BPO players in India are keenly aware of soft issues such as staff retention, given the impact on operating costs of high staff attrition and tightening labor supply in the big cities. Companies are addressing these by expanding into second-tier cities. They are also beginning to build presence overseas, in countries that are low-cost and close to their clients – the latter driven by clients’ desire to diversify geographical risk. OneSource has 13 centers worldwide, while EXL Service, which has recently won a contract from British Gas, is planning to set up centers in South Africa, China, Dubai, and Malaysia. Its US-based CFO, Katy Murray, is weighing the costs and benefits of doing this on its own or through M&A. “To date, we have grown organically, but we are very actively seeking opportunities,” she says. “Clearly we are selective, looking for the right strategic fit, something that brings to the table the right industry experience, skill set, location, or a combination of these.”

Having seen five acquisitions at MphasiS, Misra has gone through the process, but knows it is not an exact science. When the company wanted to build up its Spanish-speaking work force, it compared locations stretching from Baja, California, to Manila in the Philippines – before finally settling down in Tijuana, Mexico. Subramaniam of OneSource echoes his peers when he says: “The CFO’s job is to cut out the clutter in these decisions. Elements such as infrastructure and other brick-and-mortar considerations are irrelevant, as virtually any location in the world allows you to create a world-class facility. What is key is the availability of the right talent at the right price.”

The deep engagement of finance chiefs in these decisions is justified. The reason? Being a headcount-intensive operation, a BPO company relies heavily on the efficiency of its operations to ensure financial health. While textbook figures such as revenue per employee are useful, the industry has developed unique operating metrics such as revenue per seat, seat utilization, and telecom bandwidth utilization. Subramaniam says that he initially used the IT-service industry ratios – such as hourly billing rates, monthly utilization, and the ratio of fixed price to time and material contracts – in measuring OneSource’s competitiveness. He realized he needed to develop alternatives if he wanted to get a more accurate picture. “Today, the ratios I use most often are revenue per employee, revenue per seat, gross margins per employee, gross margins per seat, and key liquidity and leverage ratios,” he says.

Patankar says he closely watches the ratio of Adventity’s revenue per employee to revenue per billable employee – mainly those who deliver the services out of which the company generates sales. This refers to the fact that in its current start-up phase, Adventity’s sales and support expenses are high, and its revenues low. To be sure, revenue per employee will always be lower than revenue per billable employee – but the company’s health will be determined by its ability to narrow the difference. EXL Service’s Murray adds that the industry is more focused than any other on headcount metrics such as employee addition and attrition. “For me, it’s all about maximizing the hard assets,” she says. “How well are we generating the revenue? What’s our productivity? What’s our utilization?”

For an industry that nearly doubles in headcount ever year, building teams capable of handling growth while keeping operations efficient becomes imperative. With growth in employees, therefore, comes the need for them to specialize in key processes to avoid handing over tasks from one department to another, an ad hoc habit that could cause disruptions in work flows and thus affect productivity, and eventually, revenues. Some CFOs have had to wear their human-resources hats to make sure that the organizational structure does not come at a high cost. “As CFO, I have to put in place a greater orientation to process and structure,” says Misra. “But then I also have to shake things up from time to time, lest one good order [gets corrupted].”

Not surprisingly, the risks that finance chiefs guard their companies against are also changing. Given the spread of their influence in the company, CFOs are also called upon to help mitigate the risks of executing growth strategies. Misra, for instance, has built a network of remote service providers that allow MphasiS to set up a BPO center or a legal entity anywhere in the world, without his or his finance team’s physical presence. CFOs are also practicing what they preach by outsourcing their finance and accounting processes. EXL Service’s finance team, with the exception of Murray and three finance staff in the United States, are based in Gurgaon, just outside Delhi. MphasiS has centralized all functions from billing, invoicing, and collections in Bangalore.

No doubt, traditional financial risks remain, the most important of which is their vulnerability to foreign-exchange fluctuations. While most BPO firms earn almost entirely in foreign currencies, their costs are largely in rupees. Without exception, companies follow an active hedging strategy, while some have started to pitch for large-scale contracts with India-based companies to naturally offset the risk.

Going forward, the line between finance and strategy in the BPO industry is only expected to blur. “I have to be aware of the changes in the world of contracting and pricing as these impact our negotiating muscle,” says Murray. “A movement towards captives indicates that we may need to develop a build-operate-transfer model.” Captives are offshore operations that foreign companies looking to outsource would rather run themselves, opening a new opportunity for BPO companies in India. Likewise, a shift towards yet another industry called knowledge-process outsourcing – where more decision-driven tasks such as market and investment research are outsourced – may mean “a trade-off between more recurring, but lower margin revenues for higher margin, project based, and hence less visible revenues.” Whatever the case, the growing role of the CFO in this fledgling industry is irreversible.