Initiating Coverage

June 2021 Sector Report

IT Services f cus Techolution: A small (cap) step for Change, A giant leap for Value

Sandip Agarwal Pranav Kshatriya +91 22 6623 3474 +91 22 4040 7495 Sandip.Agarwal@edelweissﬁn.com Pranav.Kshatriya@edelweissﬁn.com

Nikhil Choudhary Ayur Bohra Nikhil.choudhary@edelweissﬁn.com Ayur.bohra@edelweissﬁn.com Edelweiss Securities Limited IT

Contents

Executive Summary ...... 2

Small (cap) step Change, giant Value leap ...... 5

Methodology to find compounding businesses ...... 8

5 Golden rules of turnaround and USD600mn-900mn revenue band ...... 8

Above methodology and framework have consistently worked ...... 9

Outlook & valuations ...... 14

Initiating Coverage

Birlasoft ...... 17

Coforge ...... 45

Firstsource Solutions ...... 72

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Executive Summary

Though our IT services team may appear lethargic (just three initiations in previous decade--LTI, LTTS and Mindtree), it’s pertinent to note that the team is methodology- (DNA research) and framework-driven while initiating coverage on technology companies. The IT industry, and a tough entrepreneurial experience, have taught us why none of the Indian mid-cap companies, barring a few, have transitioned to large caps in the past two decades. The margin differential between large-, mid- and small-cap Indian IT services companies sums up the whole story. The difficulties of transition are compounded by: (1) tier 1 versus tier 2 clients, which are characterised by low pricing & less annuity and are more project based; (2) higher pay for similar talent; (3) high attrition; and most importantly, (4) the USD1bn invisible footnote in all deals, restricting most of them from participating in large deals/clients. Transition from Mario to Super Mario: 5 Golden rules of turnaround So how does one break free from this vicious circle? The answer is brand power-- build a credible brand (one could also take the easier way out by either acquiring one or getting acquired itself like Mindtree, Coforge, L&T Infotech, LTTS). This will, at the outset, address employee-related issues (acquisition, retention and cost). The next step is to harness the brand, its contacts and balance sheet to lure industry talent and clients. Once the company’s credentials are cemented, it then needs to adhere to what we call the “5 Golden rules of a turnaround”--Fearless team, Meritocracy, Large deal experts, Clean up tail accounts and New avenues of growth (refer to table 12). Tech upcycle assumption: Key catalyst to our thesis All great turnaround stories in the past like TCS, HCL, Tech M (10–16x over FY09–16) were buoyed by industry tailwinds (IMS). To put it mathematically, a higher proportion of digital (almost 40%) than IMS (~10% in FY09, driver of the previous technology cycle from FY09–16) implies multi-bagger returns, this time as well. Caveat emptor…bear in mind We stand by our “Techolution” thesis. And, at the risk of repetition, we say it loud and clear--the technology upcycle has just begun. That said, an almost vertical up move (IT stocks have rallied 173% on average since the beginning of FY21) implies there could be periods of time correction (no stock price actions) and/or small downswings led by industry-specific/company-specific risks (top brass attrition, currency, etc.). Methodology: DNA research & 5 Golden rules We initiate on a company only when it fulfils all the “5 Golden rules of turnaround” and it may take 12-36 months before we complete our DNA research on a company (non- accounting/annual report). Our research entails thorough due diligence and research on the qualitative aspects of a company after it has ticked all the boxes of our turnaround framework. Our research focusses on leadership, capability, clients, incentive structure, culture, HR policies, business vision, among many other aspects.

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Above methodology and framework have consistently worked The purpose of this note is not to tom tom our past success on initiations, but to highlight efficacy of the above methodology, which we believe is a vital tool to identify mid-size compounding technology services businesses. True, the number of our initiations in the previous decade is limited to only three--LTTS and L&T Infotech in February 2018 at INR1,412 and INR1,436, respectively, and Mindtree in September 2019 at INR670. However, it’s pertinent to note that Mindtree, LTI and LTTS have jumped ~250%, 175% and 90%, respectively, since then. As is our practice, we followed the process diligently, did thorough DNA research and then waited for the companies to tick all the “5 Golden rules of turnaround”. This entire process was long drawn and has extracted its pound of flesh—it cost us dearly as we missed out early returns on LTTS & LTI and a huge 6x miss in case of Coforge. Our new ideas and conviction that will transition to large caps In this report, we are initiating coverage on Birlasoft, Coforge and Firstsource Solutions. Our detailed DNA research on the three companies over the past several months indicates they tick our “5 Golden rules of turnaround”. They are available at a discount to their mid-cap peers on Q2FY23E (12 months) earnings with a 28- 39% EPS CAGR over FY20-23E. Recommendations: Love large caps, embrace new ideas as well We can’t say it enough—this is the best phase of the “Squeeze-up cycle“ and it will prove to be immensely gainful for all players, regardless of their size. We believe digital and cloud adoption—the two big themes—should be the focus areas for investors. Among large caps, we recommend HCL Tech, Infosys and TCS to piggyback the above mentioned themes. Among mid-caps, we believe Mindtree and L&T Infotech might well be the large caps of 2035 (perhaps much like Infosys and TCS, respectively). In this report, we introduce three new compounding stories— Birlasoft, Coforge and Firstsource Solutions—with three industry themes of hyper scalers, digital disruption across the IT services industry and digital transformation of the BPM industry to technology giving India substantial advantage (refer to exhibit 4). Birlasoft: The untold turnaround (Target Price: INR551) Birlasoft appointed Mr. Dharmender Kapoor (DK) as CEO (promoted from COO) in June 2019 post Mr. Anjan Lahiri’s exit. DK has over 30 years of experience in the IT industry with cloud-related patents to his credit. He and the management has: (a) hired all business heads from tier-1 companies and posted them in client markets; (b) promoted meritocracy at the cost of unpopularity and against industry norms; (c) roped-in large deal experts—CEOs/CIOs; (d) strengthened relations with Microsoft/AWS etc; and (e) its biggest perceived negative of higher SAP concentration is now its biggest positive. We initiate coverage on Birlasoft with ‘BUY’ recommendation and ‘Sector Outperformer’ rating. Our target price of INR551 is based on 25x Q2FY23E EPS. Top brass attrition, slower industry growth, currency, among others, remain key risks.

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Firstsource Solutions: BPM transition to digital (Target Price: INR202) The global BPM industry accounts for mere 13-14% (USD200bn) of global IT spends (USD1.5tn) and global sourcing is 40-45% versus 70%+ for IT services. Digital execution puts India back in the global game. Moreover, FSOL has hired several senior executives (COO, Chief Digital Officer, 2 Presidents and 2 business heads) since appointment of Mr. Vipul Khanna as MD & CEO in August 2019. The company has witnessed substantial improvement in growth and margins since the new team has taken charge. The company has strengthened its digital solutions spanning Analytics & AI, Intelligent Automation (IA) and Customer Experience. We initiate on FSOL with ‘BUY’ recommendation and ‘Sector Outperformer’ rating. Our target price of INR202 is based on 20x Q2FY23E EPS. Top brass attrition, slower industry growth, currency, among others, remain key risks. Coforge: A digital roar to compounding (Target Price: INR5,005) Mr. Sudhir Singh joined Coforge in May 2017 and effected swift radical changes. He built a team of ‘tigers’ linking their incentives to performance, hiring large-deal consultants, cleaning tail accounts, and propelling the proportion of digital revenue from 21% to 37% over FY17–21. He is also carving out new growth verticals. The transition from a laggard to leader is powered by a jump in USD revenue CAGR from 2.9% in FY14–17 to 12.2% (ex-GIS hive-off) in FY17–21. Moreover, platforms like Duckcreek, which has similar business models as AdvantageGo, trade at EV/sales multiple of 20-25x. This implies USD800mn value for AdvantageGo alone. Initiate with ‘BUY’ recommendation and ‘Sector Outperformer’ rating and TP of INR5,005 (35x Q2FY23E).

Comp Sheet

Revenues (INR) EBIT (INR) PAT (INR) Adj. Diluted EPS (INR) TP Upside (%) FY21 FY22E FY23E FY21 FY22E FY23E FY21 FY22E FY23E FY21 FY22E FY23E TM PE (FY23E) TCS 4,176 33% 16,41,770 18,58,274 20,26,186 4,24,810 5,02,889 5,66,173 3,42,850 3,90,945 4,38,636 91 104 117 40 27 Infosys 2,124 54% 10,04,730 11,81,017 13,54,005 2,46,220 2,94,236 3,28,675 1,96,180 2,37,443 2,68,692 46 56 63 36 22 HCL Tech 1,616 71% 7,53,790 8,46,686 9,36,736 1,60,710 1,69,128 2,09,724 1,24,330 1,39,801 1,69,915 46 52 63 28 15 Wipro 550 1% 6,21,220 6,75,588 7,26,583 1,21,862 1,36,642 1,44,125 1,12,430 1,23,459 1,28,350 20 22 23 25 23 Tech Mahindra 1,450 43% 3,78,551 4,06,821 4,41,352 53,386 60,720 66,677 44,268 48,856 55,013 50 55 62 25 16 LTI 4,732 23% 1,23,719 1,40,906 1,62,652 23,927 27,316 34,975 18,970 21,679 27,500 108 123 155 35 25 LTTS 2,994 12% 54,712 64,846 74,337 8,469 12,503 15,856 7,427 9,872 12,512 70 94 119 30 23 Mindtree 2,821 18% 79,678 93,565 1,05,313 13,832 16,585 19,347 11,105 12,966 15,068 67 79 91 35 26 Persistent 2,166 -13% 41,851 48,025 55,109 4,740 5,873 7,492 4,135 5,155 6,353 52 64 79 30 31 Cyient 801 0% 41,165 46,841 52,609 4,117 6,315 7,418 3,683 5,365 6,226 33 48 55 18 14 Eclerx 1,640 30% 14,963 15,393 17,252 3,395 3,109 3,737 2,783 2,496 2,983 80 72 86 20 15 Coforge 5,005 40% 46,628 61,668 71,467 6,555 9,410 11,117 4,556 7,007 8,282 79 115 136 35 26 BirlaSoft 551 74% 35,557 41,965 48,783 4,489 6,088 7,733 3,208 4,875 6,152 11 17 22 25 15 Firstsource 202 38% 50,327 60,498 70,249 5,979 7,711 9,488 3,617 5,913 7,305 5 8 10 20 14 Source: Company, Edelweiss Research

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Small (cap) step Change, giant Value leap

Our IT services team has published just three initiations in the previous decade--LTI, LTTS and Mindtree. This, seemingly tardy pace, we attribute to our team’s methodology- (DNA research) and framework-driven approach to initiating coverage on technology companies. The IT industry, and a tough entrepreneurial experience, have taught us why none of the Indian mid-cap companies, barring a few, have been successful in making that leap to large caps in the past two decades. The gross margin differential between large-, mid- and small-cap Indian IT services companies sums up the whole story. The difficulties of transition are further compounded by factors like: (1) tier 1 versus tier 2 clients-- low pricing, less annuity and are more project based; (2) higher pay for similar talent; (3) high attrition; and most importantly, (4) the USD1bn invisible footnote in all deals, restricting most of them from participating in large deals/clients. These constrains not only lead to lower growth, but also take a heavy toll on margins, pay outs & capabilities and significantly dim the ESOPs attraction (refer to table 9). Transition from Mario to Super Mario: The giant leap So how does one break this vicious cycle? The only way, in our view, is to build a brand (it’s easier to either acquire or get acquired like Mindtree, Coforge, L&T Infotech, LTTS), thereby solving employee-related issues (acquisition, retention and cost). The next step is to leverage the brand, its contacts and balance sheet to lure capable industry leaders and clients. Once the company’s credentials are established, it needs to adhere to what we call the “5 Golden rules of turnaround” (our own nomenclature based on proprietary research; refer to table 12).

We believe the Indian technology services industry is at the same juncture in terms of prospects where it was post GFC. Then, stocks had plunged to historically low PEs (refer to Exhibit 3) in the wake of demand uncertainty and the GFC. Now, covid-19 has wreaked a more broad-based havoc, bringing the global economy to a standstill of sorts. Both Black Swans have stark similarities—GDP decline, job losses, panic, bankruptcies and swift central banks’ responses. The only exception being that the current one is a health crisis and a technology enabler, while the GFC was a financial monster.

We had predicted the current pandemic to be the inflection point of a Technological Revolution. Digitalisation is a more potent catalyst than Assurance Services and IMS, which had powered IT growth post-GFC—TCS/HCL Tech had clocked 16%/25% revenue/PAT CAGR, which lifted their m-caps 9.8-14.5x over 2009–16; Tech Mahindra had logged in even better performance with CAGR of 22%/17% with its m- cap jumping 15.8x.

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Revenue and PAT CAGR of TCS, HCL Tech and TechM (FY09-16) – No different than projections for FY23-27

FY09 FY10 FY11 FY12 FY13 FY14 FY15 FY16 CAGR TCS Revenue (USD mn) 5789 6140 7907 9852 11244 13167 15138 16347 16% PAT (INR mn) 51718 68895 87303 106850 139060 191168 216961 242149 25% HCL Tech Revenue (USD mn) 2179 2704 3545 4151 4686 5359 5952 6263 16% PAT (INR mn) 12008 12184 16195 24474 40186 63700 73050 73520 30% Tech Mahindra Revenue (USD mn) 985 977 2261 2464 2633 3110 3688 4037 22% PAT (INR mn) 10147 7230 657 16446 17554 29288 25707 30701 17% Source: Company, Edelweiss Research

Trailing and implied PE (FY09-16) – Trailing P/E misleading in growth phase- TCS & HCL has multiplied despite size

TCS Jan-09 Jan-10 Jan-11 Jan-12 Jan-13 Jan-14 Jan-15 Jan-16 Mkt Cap 4,86,223 14,68,405 22,81,435 22,71,648 24,74,221 42,17,729 49,86,040 47,61,342 PAT ( 1 Yr Fwd) 68,895 87,303 1,06,850 1,39,060 1,91,168 2,16,961 2,42,149 2,62,890 Implied P/E Trailing P/E 7.1 16.8 21.4 16.3 12.9 19.4 20.6 Implied P/E at 2009 base 5.6 4.6 3.5 2.5 2.2 2 1.8 HCL Tech Jan-09 Jan-10 Jan-11 Jan-12 Jan-13 Jan-14 Jan-15 Jan-16 Mkt Cap 82,200 2,49,926 3,11,926 2,67,984 4,32,122 8,79,472 11,28,570 11,91,904 PAT ( 1 Yr Fwd) 12,590 16,460 24,300 40,400 65,090 73,170 75,240 86,060 Implied P/E Trailing P/E 2009 6.5 15.2 12.8 6.6 6.6 12 15 Implied P/E at 2009 base 5 3.4 2 1.3 1.1 1.1 1 Tech Mahindra Jan-09 Jan-10 Jan-11 Jan-12 Jan-13 Jan-14 Jan-15 Jan-16 Mkt Cap 31,802 1,21,159 88,347 73,036 1,19,280 4,26,225 6,11,428 5,02,807 PAT ( 1 Yr Fwd) 7,230 657 16,446 17,554 29,288 25,707 30,701 28,509 Implied P/E Trailing P/E 2009 4.4 184.5 5.4 4.2 4.1 16.6 19.9 Implied P/E at 2009 base 48.4 1.9 1.8 1.1 1.2 1 1.1 Source: Company, Edelweiss Research Tech upcycle assumption: Key catalyst to our thesis To put it mathematically, a higher proportion of digital (almost 40%) than IMS (~10% in FY09, driver of previous technology cycle from FY09–16) implies multi-bagger returns, akin to 10–16x (TCS, HCL Tech) over FY09–16. But, the dynamics of change are too stunning to grasp at this juncture, in our view. A distinct trait of this growth would be its margin-accretive nature, unlike the past. And, it is not hard to imagine why--higher offshoring (scale) as well as savings owing to lower travel, administrative and sub-contracting costs. The biggest differentiator for this cycle is the acceleration it has triggered towards technology spends and quicker decision- making than any other upcycle in the past. All in all, we remain confident that like in past three IT upcycles, multiple re-ratings will be sharp in the early phase of this cycle as well, followed by earnings upgrades as the Street plays catch up. We argue the current cycle, in that sense, should not be different either.

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Caveat emptor…bear in mind We stand by our “Techolution” thesis and, at the risk of repetition, we say it loud and clear--the technology upcycle has just begun. That said, an almost vertical up move (IT stocks have rallied 173% on average since beginning of FY21) implies periods of time correction (no stock price actions) and/or small downswings subject to: i) protectionist comments or measures; ii) tightening of visa norms; iii) bankruptcies; iv) data breach at FAANGs players, bringing down online traffic; and v) adverse forex movements. Nevertheless, we argue the Indian IT sector will endure these challenges. And that, in hindsight, might seem no more than a hiccup. Moreover, our three new ideas (Birlasoft, Coforge and FSOL) entail company-specific risks like, execution flaws, regulation in client market, among others.

Most importantly, the key risk to our entire framework and thesis is breach of “ Rule 1“ which sends us back to square one as it takes a long time to bring in a new and capable leader (we witnessed same in Coforge. After Mr. Sudhir Chaturvedi left in August 2016, it took nine months for Mr. Sudhir Singh to be identified and join and the stock fell more than 10% in the next one month).

Moreover, we firmly believe that not all companies are like Infosys who have industry pioneers and passionate promoters to handle uncertainties and take the driving seat as and when required (like Mr. NRN Murthy in June 2013 or Mr. Nandan Nilekani since August 2017). Industry tailwind: Huge catalyst for compounding

Key highlights

Source: Company, Edelweiss Research

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Methodology to find compounding businesses We initiate on a company only when it fulfils all the “5 Golden rules of turnaround”. Hence, it may take 12-36 months before we complete our DNA research on a company (non-accounting/annual report). Our DNA research implies complete due diligence and research on the qualitative aspects of a company after it has ticked all the boxes of our turnaround framework. Our research focusses on leadership, capability, clients, incentive structure, culture, HR policies, business vision, among many other aspects. Our above framework has cost us big and led to huge initial upside miss, like in the case of Coforge (up 6x since we commenced our DNA research) and sometimes pays-off well like during Mindtree’s research (flattish over 2016 to 2019). But, we believe, if a company ticks all the five points of the above framework, it will definitely transition to a large cap and one should not be deterred by the initial miss in returns.

Growth in Mindtree (CEO Mr. Debashis Chatterjee joined in August 2019), Coforge (CEO Mr. Sudhir Singh joined in May 2017) and LTI (CEO Mr. Sanjay Jalona joined in August 2015) accelerated after new CEO joined

USD Revenue Growth (YoY, %) FY16 FY17 FY18 FY19 FY20 Coforge 6.2% 1.4% 10.9% 12.7% 13.5% Mindtree 22.5% 9.0% 8.6% 18.3% 8.7% LTI 9.0% 9.3% 16.7% 19.1% 13.0%

EBITDA Margin (%) FY16 FY17 FY18 FY19 FY20 Coforge 17% 17% 17% 17% 18% Mindtree 18% 13% 14% 15% 14% LTI 18% 19% 16% 20% 19%

Diluted EPS growth (%) FY16 FY17 FY18 FY19 FY20 Coforge 39.8% -0.1% 2.3% 44.8% 15.1% Mindtree -48.6% -24.2% 37.9% 33.6% -16.4% LTI 9.4% 13.5% 13.4% 36.0% 0.0% Source: Company, Edelweiss Research. Not including FY21, due to Pandemic led distortion. 5 Golden rules of turnaround and USD600mn-900mn revenue band  Rule 1: Hire a CEO from a large company; he must build a team from tier-1 companies: The company needs a Tiger to lead and he must build a team of Tigers only (fearless) as they know the tricks of the game (sign complex deals for better retention). Moreover, he can rope in capable people to join him and retain them. He is aware of attention demands of tail accounts of large companies (where he has worked) and on-board them quickly.

 Rule 2: Promote meritocracy for self and others: The CEO and his team should grow with the company. Senior leadership must be given disproportionate RSUs/ESOPs and deal-based incentives must be rolled out across teams-- sales/operations etc. And, finally, unlike large caps, which have a set range of wage hikes (as they intend to cut bottom 2-5% performers), the wage hike and variable components must promote and reward meritocracy disproportionately.

 Rule 3: Engage large deal consultants: Unlike large caps, which have a huge set of loyal clients and a large sales team, to turn around a mid-size company, the role of large deal consultants is significant as it offers quick access to new clients/geographies and segments and even the operating leverage is high.

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 Rule 4: Clean up tail accounts: IT services being a b2b business is always a high client concentration business where the top-25 clients contribute majority of the revenue. The most important thing for a new CEO is to cut tail accounts, remove unrequired distractions and prepare the mind set of the entire team to milk large clients and kill the elephants. Moreover, below-COGS costs, being mostly semi- variable in nature, decline quickly, unleashing operating leverage as deal size expands.

 Rule 5: Build new avenues of growth: Most mid-size/small-size IT companies specialise in just one or two verticals, which leads to massive volatility and their good growth of a few years is followed by massive decline thereafter. All mid- size companies (while must not spread too thin) must keep building new avenues of growth (markets/clients/service) as these, although small, can grow at exponential rates and impart the additional 2-3%. Above methodology and framework have consistently worked The purpose of this note is not to tom tom our past success on initiations, but to highlight the above methodology, which we believe should work in identifying mid- size compounding IT services companies. We did have only three initiations in the previous decade--LTTS and L&T Infotech in February 2018 at INR1,412 and INR1,436, respectively, and Mindtree in September 2019 at INR670. As mentioned above, we followed the process diligently, did DNA research and then waited for them to tick all the “5 Golden rules of turnaround”. The entire process takes substantial time and has cost us 40-60% returns miss in LTTS and LTI since we started our process till the time we initiated, while huge 6x miss in case of Coforge.

But, as a framework, we do not initiate unless we believe the business can keep compounding at 15%/20% revenue/EPS CAGR for at least 10 years or beyond and ultimately become a large cap. Moreover, we also ensure that there is not a race within the top leadership (reason why Mindtree took three years). While we missed returns in LTTS and LTI during our two years of research, since then they have returned a phenomenal 92%/175% in just 39 months of initiation.

Similarly, in Mindtree we missed hardly 10% over three years of research, but it has given a whopping 252% return in just 20 months since our initiation. We continue to believe Mindtree and LTI will create same shareholder value as Infosys and TCS have, but possibly in relatively less time.

Mindtree beat our bullish expectations on all counts despite pandemic

Financials (INR mn) Year to March FY18 FY19 FY20E FY21E Net revenue 54,628 70,215 75,571 84,456 EBITDA 7,405 10,645 10,081 12,944 Adjusted Profit 5,872 7,541 6,481 8,814 Adjusted diluted EPS (INR) 35.3 45.8 39.4 53.6 Diluted P/E (x) 19.2 14.8 17.2 12.7 EV/EBITDA (x) 14.2 9.5 9.7 7.2 Source: Company, Edelweiss Research

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Even LTI and LTTS are up 92%/175% since our initiation

Target P/E (x) FY20E FY20E USD rev. PAT CAGR FY20E Dil. Dividend Current Rev (USD EBITDA CAGR over over FY18- EPS Yield (%) in FY20E P/E Target Price Company mn) Margins (%) 18-20E 20E (INR) FY20E Multiple (x) Old P/E New P/E Rationale Rating (INR) Market leader,digital franchise, TCS 22,685 26.9 9.3 10.5 162.5 3 18.7 18 20 HOLD 3,250 high yield & retail revival High yield, margin levers and Infosys 13,034 27.4 9 11.3 81.9 3.6 13.9 16 18 BUY 1,475 manufacturing & retail revival HCLT 9,271 23.7 8.6 10.6 76.6 2.3 12.4 15 16 High concentration of ER&D BUY 1,225 E&U revival with recovery in oil Wipro 9,345 20.3 7.7 8.1 20 3.1 14.6 15 16 HOLD 320 prices Revival in telecom and high TECHM 5,697 17.1 9.4 13.2 49.3 2.3 12.4 15 16 BUY 789 margin levers High digital proportion, high L&T Infotech 1,463 17 14.1 18.1 87.5 2.5 16.4 NA 20 BUY 1,750 growth & margin levers Automated IMS & BPS offering Hexaware 767 16.7 12.4 14.4 21.9 2.4 15.8 14 16 leading to good revenue HOLD 350 momentum Best digital and IoT franchise Persistent Systems610 18.5 12.8 18.5 59.7 1.8 14.5 16 17 BUY 1,014 with high margin levers Best play in high growth ER&D L&T Technology Services767 18.1 15.5 23.7 70.7 2.1 20 NA 23 BUY 1,625 and margin levers Niche ER&D play with margin Cyient 752 15.1 11.8 13.5 47.8 2.9 13.3 14 16 BUY 765 recovery Source: Company, Edelweiss Research The big risk: Breach of rule No. 1; not every company is Infosys The key risk to our entire framework and thesis is breach of “ Rule 1“ which sends us back to square one as it takes long time to bring in a new and capable leader (we witnessed same in Coforge. After Mr. Sudhir Chaturvedi left in August 2016, it took nine months for Mr. Sudhir Singh to be identified and join and the stock fell more than 10% in the next one month.

Moreover, we firmly believe that not all companies are like Infosys who have industry pioneers an passionate promoters to handle uncertainties and take the driving seat as and when required (like Mr. NRN Murthy in June 2013 or Mr. Nandan Nilekani since August 2017). Factors driving our confidence in turnaround potential

Key metrics improve for mid caps once they gain scale, build a brand

EBITDA Margin (%) FY16 FY17 FY18 FY19 FY20 FY21 Coforge 17% 17% 17% 17% 18% 18% Mindtree 18% 13% 14% 15% 14% 21% LTI 18% 19% 16% 20% 19% 22% LTTS 17% 18% 15% 18% 20% 18% First Source 13% 13% 13% 14% 16% 16% Birlasoft 13% 10% 10% 12% 12% 15%

Attrition (%) FY16 FY17 FY18 FY19 FY20 FY21 Coforge 12.7% 12.7% 10.5% 12.2% 11.8% 10.5% Mindtree 15.7% 15.1% 12.5% 14.2% 17.3% 12.1% LTI 18.4% 16.9% 14.8% 17.5% 16.5% 12.3% LTTS NA 14.0% 13.5% 14.8% 13.8% 12.2% First Source 56.7% 37.5% 46.6% 41.5% 33.5% 28.6% Birlasoft NA NA NA 19.9% 18.9% 11.6% Source: Company, Edelweiss Research

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Revenue and PAT CAGR of TCS, HCL Tech and TechM (FY09-16) – No different than projections for FY23-27

Surge in market cap in the previous upcycle (FY09-16)

2500

2000

1500 Tech M HCL Tech 1000 TCS 500 Infosys 0 Wipro Jan-09 Jan-10 Jan-11 Jan-12 Jan-13 Jan-14 Jan-15 Jan-16

Source: Company, Edelweiss Research

Trailing and implied PE (FY09-16) – Trailing P/E misleading in growth phase- TCS & HCL has multiplied despite size

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Our new ideas and confidence that would transition to large caps We are initiating coverage on Birlasoft, Coforge and First Solutions. In all the three companies we have done our detailed DNA research as per our framework for the past several months and they also tick our “5 Golden rules of turnaround”. They are available at discounted valuation compared to their peers on Q2FY23E (12 months) earnings with a 28-39% EPS CAGR over FY20-23E.

5 Golden rules of turnaround

5 Golden rules of turnaround Comments Rule 1 - Hire CEO and Team from Large Company Hire CEO and Head of all vertical Units from Coforge ✔ Tier 1 Hire CEO and Head of all vertical Units from FirstSource ✔ Tier 1 Promoted COO (ex HCL Tech) and hired Head BirlaSoft ✔ of all vertical Units from Tier 1 Rule 2 - Promote meritocracy for self and others Coforge ✔ ESOP significant part of compensation plan FirstSource ✔ ESOP significant part of compensation plan BirlaSoft ✔ ESOP significant part of compensation plan Rule 3 - Engage large deal consultants Team of consultant (Ex CEO, CIO, among Coforge ✔ others) to help in win large deals FirstSource ✔ Team of consultant (Ex CEO, CIO, among BirlaSoft ✔ others) to help in win large deals Rule 4 - Cleaned Tail Account Coforge ✔ Less than 1mn account trimmed consciously FirstSource ✔ Less than 1mn account trimmed consciously BirlaSoft ✔ Less than 1mn account trimmed consciously Rule 5 - Build New Avenues of Growth Coforge ✔ Form new vertical with Others segment Digital transformation has led to new revenue streams like Artificial Intelligence ( AI) , FirstSource ✔ analytics and automation emanating from the BPM industry Merger/Demerger with KPIT generated huge BirlaSoft ✔ cross selling opportunity Source: Company, Edelweiss Research Recommendations: Love large caps, embrace new ideas as well We can’t say it enough--this is the best phase of the “Squeeze-up cycle“ and it will prove to be immensely gainful for all players, regardless of their size. Hence, we do not have a negative view on any company in the sector. We do have our preferences though.

We believe digital and cloud adoption—the two big themes—should be the focus areas for investors. Among large caps, we recommend HCL Tech, Infosys and TCS to piggyback the above mentioned themes. Among mid caps, we believe Mindtree and L&T Infotech might well be the large caps of 2035 (perhaps much like Infosys and TCS, respectively). We also like LTTS in the small-cap space as it would ride the ER&D wave.

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In this report, we introduce three new compounding stories--Birlasoft, Coforge and Firstsource Solutions--with three industry themes of hyper scalers, digital disruption across IT services industry and digital transformation of the BPM industry to technology giving substantial advantage to India (refer to exhibit 4). The revenue/EPS CAGR over FY20-23E is substantial and current valuations look attractive and similar to how LTI & LTTS were in February 2018 and Mindtree in September 2019. Besides, we continue to like Persistent, eClerx and Cyient.

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Birlasoft: The untold turnaround (Target Price: INR551) Strong leadership, meritocracy, large deals; ERP a boon versus pain Birlasoft appointed DK as CEO (promoted from COO) in June 2019 post Mr. Anjan Lahiri’s exit. DK has: (a) hired all business heads from tier-1 companies with postings in client markets; (b) promoted meritocracy; (c) roped in large deal experts-- CEO/CIOs; (d) strengthened relations with Microsoft/AWS etc; and (e) its biggest perceived negative of higher SAP concentration is now its biggest positive as it gives the company complete control on clients’ core systems and higher win ability.

“The unliked couple”, i.e. Birlasoft’s digital and KPIT’s ERP, has given access to core IT i.e. ERP. Also, Birlasoft has a fantastic customer base (almost 300 to which KPIT sold only point solutions ERP) and the merger has produced new off springs of growth. In our view, investors will be happy with the outcome sooner than later. Changed project business to annuity; cross-selling to lead growth After a muted FY20, Birlasoft with its new offerings post the integration clocked revenue growth of 8% YoY (in INR terms, 3.4% in USD terms) in FY21. The company has increased its annuity revenue from 60% in FY20 to 70% now. The high proportion of non-annuity business was leading to massive volatility in growth and DK has “grabbed the bull by its horns” and substantially reduced project revenue proportions and reduced volatility substantially.

As famously said by DK, “the USD1bn target has moved from the stage of Dream- to Aspiration and now a Reality,” and it implies a 17%/20% four year revenue CAGR organically/overall and better margins as below COGS costs rationalize. We believe “DK being a technologist” is ultra conservative in his communication and our upcycle thesis of “Techolution” indicates at least 5-6% outperformance in growth over and above what he is guiding, as implied from his TCV wins as well. Outlook & valuations: Tailwinds aplenty; initiate with ‘BUY’ We initiate coverage on Birlasoft with ‘BUY’ recommendation and ‘Sector Outperformer’ rating. Our target price of INR551 is based on 25x Q2FY23E, which is at 17% discount to Persistent’s target multiple (30x P/E) and 28.5% discount to LTI’s target multiple (35x P/E) considering the company’s annuity business being still lower than optimum (70% vs. 80% of mid-cap companies). We estimate Birlasoft to report 39% earnings CAGR over FY20-23E driven by accelerated revenue growth (14% CAGR) and large deal wins.

Key risks: Birlasoft has just stabilised its entire team and filled key leadership gaps. Hence, the risk of top brass attrition is high and one of the biggest risks. Moreover, although its annuity business has touched 70%, it needs to move up further 10% to reduce volatility in growth. Industry-specific risks like currency, change in client regulation and slower-than-expected industry growth remain intact.

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Firstsource Solutions: BPM transition to digital (Target Price: INR202) BPM’s digital transformation a structural shift that favours India The global BPM industry accounts for mere 13-14% (USD200bn) of global IT spends (USD1.5tn) and global sourcing is just 40-45% versus 70%+ for IT services and constitutes only 20% of Indian IT-BPM revenues. This implies massive under- penetration due to proximity/accent/client preferences. Digital execution puts India back in the global space and FSOL derives 90%+ revenue from high growth industries and markets (BFSI, Healthcare, Media & Tech and US, & UK). IBEF estimates Indian IT BPM revenue to post 7% CAGR from USD38bn to USD50-55bn over FY21-25. Eyes on future: FSOL’s digital leadership at inception of industry shift FSOL has hired several senior executives (COO, Chief Digital Officer, 2 Presidents and 2 business heads) since appointment of Mr. Vipul Khanna as MD & CEO in August 2019. The company has posted consistent robust CC growth of 31.7% and 23.8% in Q4FY21 and Q3FY21, respectively. Its EBITDA has expanded 210bps to 16% in Q4FY21 from 13.9% in Q2FY19 since Mr. Khanna taking charge. FSOL has strengthened its digital solutions spanning Analytics & AI, Intelligent Automation (IA) and Customer Experience. In BFSI, the company has a proven track record in transforming many retail banks and it works with 5 of the top-15 mortgage servicers in the US, 3 of the top 6 banks in the UK and 5 of the top 10 lenders in the US. In Healthcare, it is among the select few BPM players to cater to clients in provider as well as payer segments. Outlook and valuations: Favourable tailwinds; initiate with ‘BUY’ We initiate on FSOL as it clicks all our “5 Golden rules of turnaround”. We estimate the company to post robust revenue/EPS CAGR of 20.0%/28.3% over FY20-23E riding: (a) digital adoption-led acceleration in BPM industry; (b) its digital leadership; and (c) 90%+ revenue from high growth industries and markets like BFSI, Healthcare, Media & Tech and US & UK. FSOL’s 36 global delivery centres enable it to serve 100+ clients, including 17 Fortune 500 and 9 FTSE 100 companies.

The company posted robust 17.9% organic growth in FY21 after years of underperformance along with improvement in its return ratios, cash collections and healthy dividend distribution of 62% in FY20. At CMP, the stock is trading at attractive 14x Q2FY23E EPS. We are initiating coverage on FSOL with ‘BUY/ Sector Outperformer’ recommendation/rating. We value the stock on a PE multiple of 20x on Q2FY23E EPS to arrive at TP of INR202, implying 43% upside.

Key risks: Akin to Birlasoft, even FSOL has just stabilised its entire team and filled key leadership gaps. Hence, the risk of top brass attrition is high and one of the biggest risks. Moreover, it still competes with low-cost countries and faces risk of government support and incentives to competing countries. Also, our thesis of assigning high multiple is primarily based on digital transformation of the industry led by BOTs, which may reverse once the pandemic settles down. Industry-specific risks like currency, change in client regulation and slower-than-expected industry growth remain intact as in the past.

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Coforge: A digital roar to compounding (Target Price: INR5,005) Leader, team, strategy in place; a structural compounding story Mr. Sudhir Singh joined Coforge in May 2017 and effected swift radical changes (thanks to Mr. Pawar /Mr. Thakur/Barings also): (a) hired all business heads from tier-1 companies (only Tigers); (b) ensured all business-facing leaders were based in client markets; (c) built a team of ex-CEOs/CIOs to crack large deals; (d) promoted meritocracy; and (e) put best foot forward keeping organizational redlines at bay. The above is clearly reflected in the company’s 12.2% revenue CAGR, 70bps margin improvement and average next 12 months’ executable deal at the end of the year of USD429 since he joined versus less than 2.9% revenue growth and average deal size of USD302mn in FY14-17. Structural growth & margins; AdvantageGo a huge option value Coforge has posted high growth, order book and margins over the past four years (12.2%/17.5%/70bps); eventually margins may converge with large caps’. Over FY21–23E, reversal of discounts given to travel industry, lower travel costs and operating efficiencies will offset COGS headwinds and drive an EPS CAGR of 31.5%. Moreover, platforms such as Duckcreek trades at an EV/Sales of 20–25x (growth trajectory of 20–25%), which has a similar business model as AdvantageGo, implying USD800mn in value for AdvantageGo alone, in our view, which counters the valuation argument. Outlook & valuations: Structural compounding story; initiate ‘BUY’ Coforge ticks all our “5 Golden rules of turnaround” and we believe akin to Mindtree and LTI it will also create value similar to Infosys and TCS. The only differentiator is unlike Mindtree and LTI, which have a very strong parent in L&T, Coforge is a PE- owned company which has exit timelines, although AdvantageGo option value protects the downside risk.

The stock is up 6x since we started our work (when Mr. Sudhir Singh joined). But our DNA research takes 6-24 months, as explained at the beginning of this report. We believe Coforge’s EPS will compound at 20%+ for a decade, primarily led by structural decline in below-COGS costs, which are primarily semi-variable in nature; AdvantageGo’s separate listing will be an add-on. Moreover, platforms such as Duckcreek, which has a similar business model as AdvantageGo, trade at an EV/Sales of 20–25x (growth trajectory of 20–25%), This implies USD800mn in value for AdvantageGo alone, in our view, which counters the valuation argument. Hence, we believe, it is the most attractive high-growth story. We assign 35x on Q2FY23E EPS constrained by our research structure and assign it a TP of INR5,005.

Key risks: In Coforge, the key risk is overhang of continuous supply from its private equity owners (already sold 6.1% in past one year). Moreover, our premise of attractive valuation implies separate listing/stake sale of the AdvantageGo platform. Till AdvantageGo’s value is unlocked (which may or may not happen or take longer), the stock will look expensive and will be highly sensitive to quarterly results. Industry-specific risks like currency, change in client regulation and slower-than- expected industry growth remain intact as in the past.

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India Equity Research IT June 3, 2021

BIRLASOFT

INITIATING COVERAGE

KEY DATA Rating BUY Birlasoft: The untold turnaround Sector relative Outperformer Price (INR) 317 12 month price target (INR) 551 Birlasoft (BSOFT) is a mid-size Indian IT company — part of the CK Birla Market cap (INR bn/USD bn) 88/1.2 Group (USD2.4bn, 25,000 employees)—with 11,000+ engineers. It Free float/Foreign ownership (%) 59.3/17.4 ticks all our “5 Golden points of great turnaround” and its swift 2x move doesn’t deter us as our DNA research indicates it is an untold INVESTMENT METRICS 55 turnaround story akin to Mindtree, LTI and Coforge two years ago. 45 35 Mr. Dharmender Kapoor (DK) has built a team of tier-1 leaders, linked 25 incentives to performance, hired large deal consultants, increased 15 5 annuity revenues from 60% to 70% over FY20-21 and has targeted core Sales Growth EPS Growth RoE PE (%) (%) (%) (x) IT (ERP) clients via KPIT’s expertise. BSOFT’s order book and guidance IT BSOFT IN EQUITY imply conservative 17% organic revenue (four-year CAGR) with better margins. Initiate with ‘BUY’ and TP of INR551 (25x Q2FY23E). FINANCIALS (INR mn) Strong leadership, meritocracy, large deals; ERP a boon versus pain Year to March FY21A FY22E FY23E FY24E BSOFT appointed DK as CEO (promoted from COO) in June 2019 post Mr. Anjan Lahiri Revenue 35,557 41,965 48,783 54,881 stepping down. DK has over 30 years of experience in the IT industry with cloud EBITDA 5,292 6,928 8,660 9,549 Adjusted profit 3,208 4,875 6,152 6,916 patents to his name. He has: (a) hired all business heads from tier-1 companies with Diluted EPS (INR) 11.3 17.2 21.7 24.4 postings in client markets; (b) promoted meritocracy at the cost of unpopularity and EPS growth (%) 41.3 52.0 26.2 12.4 against industry norms; (c) roped in large deal experts--CEOs/CIOs; (d) strengthened RoAE (%) 15.8 20.8 22.7 22.0 relations with Microsoft/AWS etc; and (5) its biggest perceived negative of higher P/E (x) 28.4 18.7 14.8 13.2 SAP concentration is now its biggest positive as it gives the company complete EV/EBITDA (x) 16.5 12.8 10.0 8.9 Dividend yield (%) 1.1 1.5 1.8 2.1 control on clients’ core systems and higher win ability. Structural story; operations stabilised PRICE PERFORMANCE We believe, over the past two years, management has done an excellent job of

350 53,000 streamlining all the moving parts--building a team, integrating relevant parts of KPIT, 295 49,000 cleaning up tail accounts, building relations with Microsoft & AWS, promoting 240 45,000 meritocracy over democracy by consistently by focussing on deal pipeline. Now, the 185 41,000 new team is in mission mode to accelerate growth and the first sign will be DK’s shift 130 37,000 75 33,000 to client markets. Moreover, his consistent conservative stance has built excellent Jun-20 Sep-20 Dec-20 Mar-21 Jun-21 confidence in investors’ minds. BSOFT’s aspirational target of UD1bn revenue BSOFT IN EQUITY Sensex (150mn inorganic) implies 17% organic revenue CAGR with better margins.

Outlook and valuations: Tailwinds aplenty; initiate with ‘BUY’ FP Table Body Explore: The BSOFT stock has jumped 2x in the past nine months (since we started our DNA research), but it clicks all the “5 Golden rules of turnaround” of our framework and we believe will create shareholder value, akin to Large caps over the long term. Moreover, BSOFT is backed by strong parent just like Mindtree and LTI.

Financial model Podcast We estimate it to post robust revenue/EPS CAGR of 14%/39% over FY20-23E. BSOFT posted robust 8%/43% revenue/PAT growth in FY21 along with 340bps margin expansion, healthy cash generation and acceleration in top client. At CMP, the stock is trading at 14.3x Q2FY23E EPS. We initiate with ‘BUY/SO’ and TP of INR551 (25x Q2FY23E EPS), implying it is yet another “untold turnaround story”. The key risk in Corporate access Video all our turnaround stories is any breach of first rule of our “5 Golden rules of turnaround” i.e. the CEO and team leaving for any reason, personal or otherwise.

Sandip Agarwal Pranav Kshatriya Nikhil Choudhary Ayur Bohra +91 (22) 6623 3474 +91 (22) 4040 7495 [email protected] [email protected] [email protected] [email protected]

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BIRLASOFT

Executive Summary

Business overview: A painful, but bold past BSOFT (pre-merger) was heavily dependent on General Electric (GE) for business till FY15. The company had revenue of USD170mn. Then Mr. Anjan Lahiri, who joined as CEO in April 2015, reduced focus on GE and gradually brought down its share to 25% of total revenue in FY18 from 55% in FY15. In Q1FY18, the company took a call to sell the remaining GE business (USD40mn in annual revenue) in a slump sale to Genpact. As in FY19, BSOFT had annual revenue of USD145mn; revenue was mostly towards digital side.

On the other hand, KPIT (pre-merger) had posted revenue of USD330mn in FY19; of this, USD250mn was ERP-led service lines (JD Edwards, SAP, Oracle); balance was focused on digital. “The all-round improvement on all The new BSOFT (post-merger) combined entity posted revenue of USD464mn and operating metrics is very reassuring and sets the foundation for continued EBITDA margin of 11.9% in FY20. In FY21, the company reported revenue of momentum into FY22. I am confident of USD480mn, up 3.4% YoY, with EBITDA margin of 14.9%. It kept focusing on building accelerated growth in FY22 and beyond.” a large entity and being a leader in the enterprise digital space.

Dharmender Kapoor With merged entities, BSOFT secured one of the largest transformation deals with a

MD and CEO medical equipment company Ivacare Inc. of US with TCV of USD242mn in FY20. We believe BSOFT is well positioned to win large transformational deals, which will provide strong revenue growth momentum in FY22. Strong leadership, meritocracy, large deals and a beautiful marriage BSOFT appointed DK as CEO (promoted from COO) in June 2019 post Mr. Lahiri’s exit. DK has over 30 years of experience in the IT industry with cloud patents to his credit. He has: (a) hired all business heads from tier-1 companies with postings in client markets; (b) promoted meritocracy at the cost of unpopularity and against industry norms; (c) roped in large deals experts--CEOs/CIOs; (d) strengthened relations with Microsoft/AWS etc; and (5) its biggest perceived negative of higher SAP concentration is now its biggest positive as it gives the company complete control on clients’ core systems and higher win ability.

BSOFT hired Mr. Roop Singh as Chief Business Officer from IBM, Mr. Shreeranganath Kulkarni (SK) as Chief Delivery Officer from Accenture and Mr. Chandrasekar Thyagrajan (Chandru) as Chief Financial Officer from IBM.

The company also hired various segment heads from top competitors-- Mr. Vijay Mishra (ex-SAP sales head from Infosys), Mr. Deepak Sachdev, Mr. Ashutosh Mankar (ex- Wipro, Infosys and Cognizant), Mrs. Shilpa Bhandari (ex- NTT, Wipro) Mr. Arun Rao (HR Head- ( Ex DXC , CSC , Deloitte)), Mr. Gopi Padiyath (ex-Wipro), Mr. Inder Ghai (ex- KPIT), Mr. Sangram Kadam, Mr. Baljeet Chhajal (ex-KPIT), Mr. Ajit Chawla (ex-HCL) and Mr. Anjan Sen (ex-Cognizant). Integration revenue leakages veil massive turnaround Another big pain which completely overshadows the commendable work done by Mr. Lahiri and later by DK was filling the huge revenue decline that happened from Jan 2018 to Jan 2019 post announcement of taking over of KPIT’s ERP business— post the deal conclusion, revenue had plunged from USD350mn to USD300mn. Moreover, the contribution of ERP business (SAP, JDE) was 72% to KPIT’s business and 57% at time of merger; now 43% or mere USD200mn.

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BIRLASOFT

Not only has the sharp revenue decline been recouped, but BSOFT has also posted a robust 8% growth in FY21 despite the pandemic and margin has improved by 324bps YoY in FY21. Even if we adjust for the above loss of revenue and margin due to integration, it would reflect the commendable work done earlier by Mr. Lahiri and now by DK and his team. Changed project business to annuity; cross-selling to lead growth After a muted FY20, BSOFT with its new offerings post the integration clocked revenue growth of 8% YoY in INR terms (3.4% YoY in USD terms) in FY21. The company has increased its annuity revenue from 60% of total at the beginning of FY21 to 70% now. The high proportion of non-annuity business was leading to massive volatility in growth. DK “grabbed the bull by its horns” and substantially reduced project revenue proportion and also volatility substantially.

As famously said by DK, “The USD1bn target has moved from the stage of Dream- to Aspiration and now a Reality,” it implies a 17%/20% four-year revenue CAGR organically/overall and better margins as below COGS costs rationalise. We believe “DK being a technologist” is ultra conservative in his communication and our upcycle thesis of “Techolution” indicates at least 5-6% outperformance in growth over and above what he is guiding as implied from his TCV wins as well.

BSOFT, with 45% revenue from Enterprise Solutions and 39% from Digital, is well positioned to leverage the opportunity of digitization of services at a much faster pace. It identifies itself as a Digital Enterprise Company and aims to deliver superior business value by combining strength of its domain and technical capabilities. It provides global IT consulting, software development to its clients, predominantly in Manufacturing (includes Discreet Manufacturing, Hi-Tech & Media, Auto and Consumer packaged goods), Lifeciences, BFSI and Energy & Utilities verticals. Outlook and valuations: Tailwinds aplenty; initiate with ‘BUY’ We initiate coverage on BSOFT with ‘BUY’ recommendation and ‘Sector Outperformer’ rating. Our target price of INR551 is based on 25x Q2FY23E, which is at 17% discount to Persistent target multiple (30x P/E) and 28.5% discount to LTI target multiple (35x P/E) considering the company’s annuity business being still lower than optimum (70% vs. 80% of mid-cap companies). We estimate BSOFT to report 39% earnings CAGR over FY20-23E driven by accelerated revenue growth (14% CAGR over FY20-23E) and large deal wins.

The BSOFT stock has jumped 2x in the past nine months (since we started our DNA research) and yet it clicks all the “5 Golden rules of turnaround” of our framework. And, we believe it is yet another addition to our pack of compounding stories like Mindtree, LTI and Coforge which we believe will create shareholder value similar to Infosys, TCS and HCL Technologies over the long term. Moreover, BSOFT is backed by a strong parent just like Mindtree and LTI. We estimate the company to post robust revenue/EPS CAGR of 14%/39% over FY20-23E (FY21 impacted by pandemic).

We believe: (a) DK and his top leadership team; (b) large deal experts; (c) stabilizing operations; (d) sustained increase in annuity business; and (e) a beautiful marriage of KPIT’s core ERP with BSOFT’s digital competence is a complete turnaround which is unknown and untold. The strong deal wins /pipeline / growth / guidance and margins are outcomes of the huge efforts that have been put in.

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BIRLASOFT

Key Risks The key risk in all our turnaround stories is breach of first rule of our “5 Golden rules of turnaround” i.e. the CEO and team leaving for any reason personal or otherwise.

Short-term volatility and risks specific to BSOFT are likely due to disappointment/ deceleration in deal pipeline and inability to save costs etc. But these will be temporary to our “Great turnaround stories” framework.

Macro uncertainties which could lead to IT spending cuts and pricing pressure, currency risk due to fluctuation in exchange rates impacting margins and cash generation, increase in attrition due to inability to attract & retain skilled employees which could affect the performance of the company and deceleration in deal wins could to lead to downside risk for BSOFT and is part of systematic risk applicable to the entire industry.

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BIRLASOFT

The Story in Charts

Revenue (USD) and growth EBITDA margin to improve consistently 850 24% 19.9% 9,000 16.5% 17.3% 20% 8,415 678 17.9% 14.9% 700 18% 7,800 16% 575 11.9% 6,928 550 480 12%

464 6,600 12%

(%) (%) (INRmn) 5,292

(USD mn) (USD 400 6% 5,400 8% -2.2% 3.4% 250 0% 4,200 3,919 4%

100 -6% 3,000 0%

FY20 FY21

FY22E FY23E

FY22E FY23E Revenue (USD, mn) Revenue Growth (%, QoQ) EBITDA (INR, mn) EBITDA Margin (%)

Source: Company, Edelweiss Research Source: Company, Edelweiss Research Revenue by industry verticals Revenue by geography 100% 100% 9% 9% 15% 17% 11% 11% 10% 10% 11% 10% 20% 24% 24% 25% 29% 25% 11% 9% 13% 80% 12% 11% 15% 13% 13% 18% 80% 18% 18% 17% 15% 15% 15% 60% 16% 19% 20% 60% 19% 19% 19% 18% 17% 17% 40% 82% 40% 76% 78% 80% 75% 77% 78% 79% 48% 20% 45% 43% 41% 42% 42% 42% 38% 20%

Q1FY20 Q2FY20 Q3FY20 Q4FY20 Q1FY21 Q2FY21 Q3FY21 Q4FY21

Q3FY21 Q1FY20 Q2FY20 Q3FY20 Q4FY20 Q1FY21 Q2FY21 Q4FY21 Manufacturing BFSI Energy & Utilities Lifesciences Americas Europe Rest of the World

Source: Company, Edelweiss Research Source: Company, Edelweiss Research Revenue by service offerings Total contract value (TCV) and new deals 400 400 100% 352 19% 22% 23% 25% 29% 19% 22% 22% 326 80% 320 320 274 29% 28% 222 60% 28% 27% 26% 35% 34% 35% 240 1 278 240 19% 180 40% 17% 17% 16% 14% 14% 13% 12%

160 125 160 (USD mn) (USD 104 109 mn) (USD 20% 33% 33% 33% 32% 32% 32% 31% 31% 88 162 80 120 80 0% 58 67 89 56

0 30 0

Q1FY21 Q1FY20 Q2FY20 Q3FY20 Q4FY20 Q2FY21 Q3FY21 Q4FY21

Q2FY20 Q3FY20 Q4FY20 Q1FY21 Q2FY21 Q3FY21 Q4FY21 Emerging Horizontals Q1FY20 Digital Transformation (DT) Total Contract value (TCV) (USD, mn) SAP New Deal Wins (USD, mn) Integrated Enterprise Solutions (IES) Average TCV (USD, mn)

Source: Company, Edelweiss Research Source: Company, Edelweiss Research

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BIRLASOFT

Financial Statements

Income Statement (INR mn) Balance Sheet (INR mn) Year to March FY21A FY22E FY23E FY24E Year to March FY21A FY22E FY23E FY24E Total operating income 35,557 41,965 48,783 54,881 Share capital 555 556 556 556 Cost of revenues 21,158 24,967 29,508 33,477 Reserves 21,245 24,446 28,589 33,162 Gross Profit 14,399 16,998 19,275 21,404 Shareholders funds 21,799 25,002 29,145 33,717 SG&A 9,107 10,070 10,615 11,854 Minority interest 0 0 0 0 EBITDA 5,292 6,928 8,660 9,549 Borrowings 2,599 2,597 2,621 2,671 Depreciation 804 839 927 988 Trade payables 0 0 0 0 EBIT 4,489 6,088 7,733 8,561 Other liabs & prov 4,744 5,194 5,690 6,235 Add: Other income 190 640 720 800 Total liabilities 29,944 33,596 38,259 43,426 Profit before tax 4,548 6,588 8,313 9,221 Net block 1,221 1,421 1,621 1,821 Prov for tax 1,340 1,713 2,161 2,305 Intangible assets 5,760 5,860 5,960 6,060 Less: Other adj 0 0 0 0 Capital WIP 65 65 65 65 Reported profit 3,208 4,875 6,152 6,916 Total fixed assets 7,047 7,347 7,647 7,947 Less: Excp.item (net) 0 0 0 0 Non current inv 775 853 938 1,032 Adjusted profit 3,208 4,875 6,152 6,916 Cash/cash equivalent 4,661 3,452 4,994 6,938 Diluted shares o/s 283 283 283 283 Sundry debtors 5,182 8,496 9,945 11,360 Adjusted diluted EPS 11.3 17.2 21.7 24.4 Loans & advances 1,170 1,284 1,408 1,546 DPS (INR) 3.5 4.9 5.9 6.9 Other assets 10,922 11,959 13,099 14,354 Tax rate (%) 29.5 26.0 26.0 25.0 Total assets 29,944 33,596 38,259 43,426

Important Ratios (%) Free Cash Flow (INR mn) Year to March FY21A FY22E FY23E FY24E Year to March FY21A FY22E FY23E FY24E Cost of revenues (%) 59.5 59.5 60.5 61.0 Reported profit 3,208 4,875 6,152 6,916 SG&A expenses (%) 25.6 24.0 21.8 21.6 Add: Depreciation 804 839 927 988 Depreciation (%) 2.3 2.0 1.9 1.8 Interest (net of tax) (101) 140 140 140 EBITDA margin (%) 14.9 16.5 17.8 17.4 Others 1,489 1,713 2,161 2,305 Net profit margin (%) 9.0 11.6 12.6 12.6 Less: Changes in WC 845 (4,036) (2,204) (2,222) Revenue growth (% YoY) 8.0 18.0 16.2 12.5 Operating cash flow 5,578 1,730 4,918 5,715 EBITDA growth (% YoY) 35.0 30.9 25.0 10.3 Less: Capex (249) (1,139) (1,227) (1,288) Adj. profit growth (%) 43.0 52.0 26.2 12.4 Free cash flow 5,330 591 3,691 4,427

Assumptions (%) Key Ratios Year to March FY21A FY22E FY23E FY24E Year to March FY21A FY22E FY23E FY24E GDP (YoY %) (8.0) 9.5 7.0 7.0 RoE (%) 15.8 20.8 22.7 22.0 Repo rate (%) 4.0 4.0 4.3 5.3 RoCE (%) 20.0 25.9 28.5 27.5 USD/INR (average) 74.2 73.0 72.0 71.0 Inventory days 0 0 0 0 Tax rate (%) 29.5 26.0 26.0 25.0 Receivable days 65 59 69 71 Capex (INR mn) 248.7 1,139.4 1,226.9 1,287.9 Payable days 0 0 0 0 Receivable days 64.6 59.5 69.0 70.8 Working cap (% sales) 32.8 37.1 36.3 36.2 Payable days 0 0 0 0 Gross debt/equity (x) 0.1 0.1 0.1 0.1 Cash conversion cycle 64.6 59.5 69.0 70.8 Net debt/equity (x) (0.1) 0 (0.1) (0.1) Net emp addition 783.0 1,000.0 500.0 (200.0) Interest coverage (x) 34.4 43.5 55.2 61.2

Valuation Metrics Valuation Drivers Year to March FY21A FY22E FY23E FY24E Year to March FY21A FY22E FY23E FY24E Diluted P/E (x) 28.4 18.7 14.8 13.2 EPS growth (%) 41.3 52.0 26.2 12.4 Price/BV (x) 4.2 3.6 3.1 2.7 RoE (%) 15.8 20.8 22.7 22.0 EV/EBITDA (x) 16.5 12.8 10.0 8.9 EBITDA growth (%) 35.0 30.9 25.0 10.3 Dividend yield (%) 1.1 1.5 1.8 2.1 Payout ratio (%) 30.3 28.5 27.1 28.1

Source: Company and Edelweiss estimates

22 Edelweiss Research is also available on www.edelweissresearch.com, Bloomberg - EDEL, Thomson Reuters, and Factset Edelweiss Securities Limited

BIRLASOFT

Investment Rationale

Business overview: A painful, but bold past

 BSOFT (Pre-merger) had strengths primarily in non-ERP digital businesses like CRM, SFDC, BI & Data analytics, Application development, while KPIT’s IT services with horizontal led strategy had core strengths in Enterprise Solutions like Oracle, JD Edwards, SAP, Infor, ePLM, etc. and capabilities in digital transformational services.

BSOFT (pre-merger) was a traditional IT services company having strong growth in digital and suffering a decline in legacy business. Promoted by the CK Birla Group, BSOFT was formed in 1995 and headquartered in Noida. The company had GE as its anchor client (more than half of revenue) till FY15.

Mr. Lahiri, a veteran from Mindtree, joined as CEO in 2015. His key focus was to cut dependency on GE as it was a bottleneck to growth. He focused on growing other parts of the business (mid-teens growth) and sold off the GE business to Genpact in a slump sale (USD15-16mn i.e. 0.7x of USD45mn sales) later. By Q1FY18, GE business was down to USD45mn from USD90mn in Q4FY15. Mr. Lahiri quit BSOFT in May 2019, but he did bring down the single-client business substantially.

During FY15-18, non-GE business grew at a healthy CAGR of 15-16% and the non-GE business also jumped a substantial USD150mn by FY19 with about 3,000 employees.

On the other hand, KPIT (pre-merger) had a legacy business (JDE-manufacturing, Oracle and SAP), of which around 70% was ERP. Its IT service business was not doing well. However, its engineering segment was doing well due to digital disruption in the IT industry. KPIT’s IT service business had clocked revenue of USD330mn in FY19. Its major accounts were Cummins, Paccar, Weatherford, HP, among others.

The new BSOFT (post-merger) was formed on January 15, 2019, by merging the IT business of KPIT with erstwhile BSOFT. The combined entity had presence across four verticals:

 Manufacturing (Discreet manufacturing, Hi-Tech & Media, Auto and Consumer packaged goods)

 Lifesciences

 BFSI

 Energy & Utilities Rationale behind KPIT and BSOFT merger BSOFT had strengths primarily in the non-ERP digital businesses like CRM, BI & Data analytics, Application development, while KPIT’s IT services with horizontal led strategy had core strengths in Enterprise Solutions like Oracle, JD Edwards, SAP, Infor, etc and capabilities in digital transformational services. Rationale for the merged entity was:

 The combined entity was vertical-centric with an aim to focus on cross-selling, large transformation deal wins and improve revenue per client leveraging access to core IT (ERP) and selling Digital/AMS/Infra.

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BIRLASOFT

 The company possesses significant capability and presence in Application Development, Support and Maintenance for next Generation Services in the Digital world.

 IT business and consulting with strong expertise into enterprise resource planning, digital solutions and consulting with wider industry coverage.

 BSOFT’s deep domain expertise in auto engineering and mobility solutions.

 The company possesses significant ‘Digital capability in Analytics, RPA (Robotic Process Automation), Digital portals, User Experience and Digital advisory services.

 Access to customers / gained Critical size USD500mn and 10000 employees

 KPIT has a Horizontal org structure which led to acquisition of significant customer but less cross sale. Brief on integration The board of directors held a meeting on January 2018 and approved the following:

 Amalgamation of BSOFT and KPIT Technologies.

 Demerger of the engineering business of KPIT into KPIT Engineering, a wholly owned subsidiary of KPIT.

In consideration of the merger, BSOFT shareholders received 22 shares of KPIT for every 9 shares held, implying an issue of fresh equity shares of KPIT of 76.6mn (31.35mn shares of BSOFT * 22/9). BSOFT promoters also gave an open offer to acquire 26% of the fully diluted voting share capital from the public shareholders of KPIT at an offer price of INR182/share. The share of combined entity ex-engineering business was listed on 24th January 2019 as BSOFT at opening price of INR135 per share. Integration revenue leakages veil massive turnaround Another big pain which completely overshadows the commendable work done by Mr. Lahiri and later by DK was filling the huge revenue decline that happened from Jan 2018 to Jan 2019 post announcement of taking over of KPIT’s ERP business— post the deal conclusion, revenue had plunged from USD350mn to USD300mn. Moreover, the contribution of ERP business (SAP, JDE) was 72% to KPIT’s business and 57% at time of merger; now 43% or mere USD200mn.

KPIT’s ERP contribution has mostly been around 90% of total ERP business and stood at USD47.5mn in Q4FY21. Contribution of the ERP business has declined from 52% in Q1FY20 to 43% in Q4FY21.

24 Edelweiss Research is also available on www.edelweissresearch.com, Bloomberg - EDEL, Thomson Reuters, and Factset Edelweiss Securities Limited

BIRLASOFT

ERP business revenue and contribution 63 60% 60.92

60 58.31 48% 57.70 57 36% 54.66 54.18 (%)

54 53.18 53.06 52.77 24% (USD mn) (USD

51 12%

48 0%

Q2FY20 Q1FY20 Q3FY20 Q4FY20 Q1FY21 Q2FY21 Q3FY21 Q4FY21

ERP Business Revenue (USD, mn) ERP Business revenue contribution (%)

Source: Company, Edelweiss Research

KPIT's ERP business post-merger 57 54.82 54 52.48 51.93 51 48.76 49.20 47.86 47.75 47.50

48 (USD mn) (USD

Q2FY20 Q1FY20 Q3FY20 Q4FY20 Q1FY21 Q2FY21 Q3FY21 Q4FY21

KPIT ERP contribution (USD, mn)

Source: Company, Edelweiss Research

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BIRLASOFT

Strong leadership, meritocracy, large deals & a beautiful marriage

 DK has strengthened the leadership team and continues to focus on large deals and sectoral tailwinds  BSOFT’s share incentive plan 2019 is a new sales policy to incentivize the sales team and will continue to improve billing ratio

Strong execution by robust leadership team BSOFT has strengthened its leadership team significantly since integration. Majority of the top management has joined from larger organisations like Accenture, IBM, Infosys, etc. Management believes the company has made significant leadership interventions and is well placed to drive growth in the tech-up cycle which we highlighted in our previous thematic research. The company has laid clear plan to incentivize sales team through cross selling.

DK has made his reporting structure slightly different than what Mr. Sudhir Singh has done in Coforge. In case of Coforge, Mr. Sudhir’s bias towards growth functions is clearly visible as every business vertical head reports to him. However, in BSOFT DK has four CXOs reporting to him--Head of Finance, HR, Delivery and Sales other than Mr. Vijay Mishra (Head IAAS), Mr. Baljeet Chhajel (IES head), Mr. Ajeet Chawla ( Digital practice – internally known as the tough guy) and head of Large deals Mr. Deepak Sachdev.

BSOFT’s above structure aims to stabilise all functions and prepare the organization for high growth. We believe with operations and other functions now stabilised, DK is like a “roaring lion ready to claim his pound of flesh” in clients’ markets and we believe his shift to the US is just a matter of time.

Moreover, the biggest concern among investors at the time of merger of KPIT’s ERP business was its substantial exposure to ERP (Oracle, SAP and JDE almost 70%). We believe while initially revenue declined due to change of ownership, it has stabilised now and “yesterday’s drag is today’s boon”.

Moreover, the logic used at the time of acquiring KPIT’s ERP business that if companies with non-core IT offerings are growing so well (like BPO , ADM and IMS), then if we get access to clients’ core IT ( ERP) and marry it with BSOFT’s digital capabilities “it will be a beautiful marriage” has started playing out.

“The unliked couple i.e. BSOFT’s digital and KPIT’s ERP” has given access to core IT i.e. ERP. Also, BSOFT has got a fantastic customer base (almost 300 to which KPIT sold only point solutions ERP) and has produced new off springs of growth and in our view investors will be happy with the outcome sooner than later.

BSOFT Performance Post leadership revamping Q1FY20 Q2FY20 Q3FY20 Q4FY20 Q1FY21 Q2FY21 Q3FY21 Q4FY21 Revenue (USD, mn) 111.7 109.9 116.8 125.6 121.2 115.6 119.5 123.3 Growth (%) -1.6% 6.3% 7.5% -3.5% -4.6% 3.4% 3.2% Margin 9.9% 11.1% 12.9% 12.9% 12.3% 13.9% 16.4% 16.9% Change (bps) 112bps 184bps -3bps -52bps 158bps 247bps 48bps TCV (USD, mn) 88 104 352 125 180 274 109 326 Source: Company, Edelweiss Research

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BIRLASOFT

DK’s focus on large deals and sectoral tailwinds spells a confluence of substantial positives. He is recognized across the industry as a thought leader. He co-owns patents around Cloud and Digital. Before being elevated to CEO, DK also served as the COO at BSOFT, where he managed Global Delivery, Business Development, Advisory, and other enabling functions. He played an instrumental role in leading the divesture of BSOFT's legacy business and etched a strategy towards focusing on next-generation digital services. The change is evident. BSOFT has been steadily winning large record deals over the past four quarters (totalling USD888mn).

After DK has got on the board, he has roped in many senior leaders and vertical heads from tier-1 firms to accelerate growth of the company with diverse experience.

BSOFT has inducted many top industry leaders: 1) Mr. Shreeranganth Kulkarni (CDO of BSOFT; 30 years of experience), earlier with Accenture, where he was the Managing Director and Technology Delivery Lead for Financial Services; 2) Mr. Roop Singh (Chief Business Officer; 25+ years’ experience), prior to joining BSOFT, he was the Vice President and Business Head of IBM's Banking and Financial Services practice in the US. His responsibilities spanned the entire IBM portfolio including hardware, software, platforms and technology and business services. He also focused on a portfolio of Cloud-based Digital Transformation offerings across industry verticals; 3) Mr. Chandrasekar Thyagarajan (Chief Financial Officer; 32 years of experience) with both global (IBM) and Indian companies specialized in financial roles; 4) Mr. Vijay Mishra (SAP Sales head); 5) Mr. Anjan Sen (SAP delivery head); and 6) Mr. Arun Rao (Chief People Officer).

BSOFT has a good mix of talent from tier-1 companies in various leadership positions. Below is the detailed list of the same:

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BIRLASOFT

Ajit Chawla Baljeet Chhazal EVP and Global Head , Integrated Enterprise SVP and Global Head, Digital Business Unit Solutions

Baljeet started his career from Godrej and Ajit is associated with Birlasoft for more than 6 Boyce where he worked from 4 years. Post years now. He has previously worked with HCL Godrej and Boyce, he worked in Infosys for 9 Tech for 12 years and Pre-Emptive system for 2 years. He joined KPIT in April 2014 and he years moved to Birlasoft post merger with KPIL's IT Bachelor of Technology, Computer Science & services unit. He has done Masters of Business Engineering from Punjab Technical University. Administration from IIM, Bangalore.

Arun Rao Shilpa Bhandari Chief People Officer SVP and Global Head, BFSI

Arun joined Birlasoft in April 2020. Previously, Before joining Birlasoft in March 2020, he was he was Head of HR at DXC for over 3 years. Arun Divisional President in financial services at has also worked at CSC for 5 years, Deloitte NTT Data Services for 3 years. Shilpa has also consulting for 4 years, worked at Wipro (10 years) and Dell (5 years) AppLabs for 4 years and has more than 35 years previously. Program for Leadership of work experience. He did his Development - Executive Education from PGD in Personnel Management and Industrial Harvard Business School. MBA (Marketing) Relations from XLRI Jamshedpur. from T A Pai Management Institute.

Ashutosh Mankar Gopi Padiyath VP, Infrastructure & Cloud Technology Services SVP and Global Leader, MfSI

Before joining Birlasoft in June 2020, he was General Manager in Cloud & Infrastructure Before joining Birlasoft in March 2016, he was Services at Wipro for 6 years. Previously, he Global Leader (Auto, Aerospace & Defence) at has worked with Infosys for 3 years, Cognizant Wipro where he worked for 21 years. He has for 5 years, Microland for 12 years, Citibank for also worked at Tata Steel for 10 years. He 5 years and TCS for 3 years. Masters of completed his Master of Science in Electronics, computer Applications, Pune University. Panjab University.

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BIRLASOFT

Inder Ghai Vijay Mishra Senior VP and Global Head, Life Sciences SVP and Global Head, SAP Unit

Inder started his career as sales manager for Before joining Birlasoft in Nov 2019, he was VP Carrier Corporation. Post Carrier, he joined at Infosys where he worked for over 21 years. SYSTIME which was later acquired KPIT. He Before Infosys, he has previously worked in moved to Birlasoft post merger of KPIT's IT Tata motors and as SAP consultant. He did services business. He has more than 24 years Global Leadership Program at Stanford of experience. University and PGDM from IIM (Lucknow)

Sangram Kadam VP & Business leader (APAC and Middle East)

Sangram started his carrer from SYSTIME which was later acquired KPIT. He moved to Birlasoft post merger of KPIT's IT services business. He has more than 32 years of experience.

Source: Edelweiss Research

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BIRLASOFT

Top clients 70% 70% 58.5% 59.7% 60.7% 55.8% 53.3% 55% 49.0% 49.9% 50.8% 55%

40% 45% 45% 40% 43% 44%

38% 40% (%) 37% 37% (%) 33% 25% 31% 32% 33% 25% 26% 27% 28% 28%

10% 10%

-5% -5% Q1FY20 Q2FY20 Q3FY20 Q4FY20 Q1FY21 Q2FY21 Q3FY21 Q4FY21 Top 20 Top 10 Top 5

Source: Company, Edelweiss Research

TCV 400 400 352 326 320 320 274 222 240 278 240

1… 180

(USD mn) (USD mn) (USD 160 125 160 104 109 162 88 80 120 80 89 58 67 56 30

0 0

Q1FY20 Q2FY20 Q3FY20 Q4FY20 Q1FY21 Q2FY21 Q3FY21 Q4FY21 Total Contract value (TCV) (USD, mn) New Deal Wins (USD, mn) Average TCV (USD, mn)

Source: Company, Edelweiss Research Incentive plan to drive growth BSOFT rolled out ‘BSOFT share incentive plan 2019 (ESOPs-2019) which provides grant of stock options and restricted stock units (RSUs), long-term incentive plan for key leaders, a new sales incentive policy and grade harmonization for employees. The company has assigned account managers to all accounts as a single point of contact for customers to drive higher performance outcomes and accountability. We expect the benefits of these to reflect in FYY22-23 margins.

During FY20, 7,094,575 stock options and 1,644,863 RSUs were granted under the BSOFT plan.

30 Edelweiss Research is also available on www.edelweissresearch.com, Bloomberg - EDEL, Thomson Reuters, and Factset Edelweiss Securities Limited

BIRLASOFT

Changed project business to annuity; cross-selling to lead growth

BSOFT offers service line portfolio of IT services around enterprise solutions and digital services. Its major offerings are Integrated Enterprise solutions (IES), SAP, Digital Transformation (DT) and Emerging horizontals.

 The company has strong capabilities in Manufacturing, BFSI, Lifesciences and Energy & Utilities verticals. BFSI is a key business vertical for IT industry and has witnessed accelerated growth led by adoption of new technologies to reduce operational costs and improve customer satisfaction, while Lifesciences & Healthcare industry has got a wakeup call by the current pandemic. Moreover, there is rapid wave of digitalisation in TMT primarily led by Media & Telecom industry due to 5G and shift towards online.

 BSOFT derives more than 90% of revenue from developed markets like America and Europe which are more profitable due to scarce talent and high costs, implying long-term profitable revenue stream.

Accelerated growth to continue across businesses BSOFT has strong competency in enterprise products and cloud solutions such as SAP, Oracle, Salesforce, JD Edwards, Service now, Etc. The company has highest level of partnership with SAP, Oracle as well as with Salesforce. It also possess significant digital capability in Analytics, RPA (Robotic process Automation), Digital portals, User experience and Digital advisory services. The company partners with leading technology providers around the globe, to help clients achieve their digital transformation goals. It optimizes platform configurations to unlock maximum value generation possibilities, reducing in-house IT effort and preparing the landscape for future transformation.

Enterprise solutions  Oracle and JD Edwards: BSOFT helps customers across the entire cycle, right from planning to implementation and support. Its deep heritage and pedigree of expertise in Oracle and JD Edwards based solutions help organizations adapt to the digital economy and create market differentiation. It is world’s largest JD Edwards provider in the world.

 SAP: BSOFT offers high-end SAP implementation and support services ranging from the core ERP suite of applications to the latest technologies across the full spectrum of SAP applications.

 Infor: BSOFT has 18+ years of rich experience in Infor CloudSuite solutions with extensive and successful large global program delivery experience.

 Microsoft: BSOFT is a global Strategic Cloud Alliance (ITeS 360) partner with Microsoft. With this alliance, BSOFT is strategically positioned to support its enterprise clients with their cloud transformation needs, right from infrastructure to business applications. BSOFT has plans to scale its current Microsoft cloud business to USD100mn. It is a Microsoft Gold Certified Partner with competencies in multiple technology areas, including, Microsoft Dynamics Partner for Enterprise Solution implementations, Microsoft Azure cloud, among others.

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BIRLASOFT

Digital Transformation (DT)  Business intelligence and data analytics: BSOFT's DiiA framework helps manage complete Data Lifecycle via our services in Data Management, Warehousing, and Analytics & Visualization. BSOFT enables clients to surface actionable insights by analysing business-related data that can help them to achieve measurable outcomes.

 CRM: BSOFT's CRM practice offers extensive industry experience and expertise to help organizations recognize and apply the capabilities of multiple CRM solutions with low TCO and high ROI. Advisory, Implementation and Support Services and Solutions CRM platforms like Salesforce; Microsoft Dynamics, SAP CRM and Oracle CRM.

 SCM: Consulting and IT services in the area of Supply Chain Management.

 PLM: BSOFT offers end-to-end PLM product lifecycle management services with EPLM Solutions with partners such as PTC, Oracle etc.

 Other Digital Solutions, Frameworks and Services: Companies connected products, Intelligent Automation, Cloud Migration and adoption, Transformation and Blockchain.

Solutions Offerings  intelliOpen (Covid-19), intelliAsset, Truview CLM, TruServ FSM, TruLens, iLink, Supplier Risk Radar (Covid-19), Akoya, Producer workspace, Submission automation and ZeROTech Debt.

Revenue by service offerings 100% 19% 19% 22% 23% 25% 29% 22% 22% 80%

29% 28% 28% 35% 60% 27% 26% 34% 35%

19% 17% 40% 17% 16% 14% 14% 13% 12%

20% 33% 33% 33% 32% 32% 32% 31% 31%

Q2FY21 Q1FY20 Q2FY20 Q3FY20 Q4FY20 Q1FY21 Q3FY21 Q4FY21

Integrated Enterprise Solutions (IES) SAP Digital Transformation (DT) Emerging Horizontals

Source: Company, Edelweiss Research Transition from horizontal-led strategy to vertical-centric approach As per a Nasscom report, BFSI and Healthcare are strong across exports and domestic segments, while telecom remains soft. We believe the momentum is strong and digital revenues will lead to higher growth in coming years. KPIT’s IT business was predominantly horizontal-led strategy with strong focus on enterprise solutions, while BSOFT’s focus was on BI and analytics. The combined entity’s goal is to create a vertical-centric approach which can focus on annuity deals through cross- selling and large transformational deals. The company is focussed on all four verticals along with sub verticals in the manufacturing segment.

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BIRLASOFT

Manufacturing (42% of revenue)

The company derives predominant share of revenues from this vertical. The sub- vertical focus are Discreet manufacturing, Hi-Tech & Media, Auto and CPG. BSOFT helps manufacturers accelerate the industry 4.0 journey by reimagining business models, transforming product lifecycles, digitizing manufacturing operations and driving best-in-class stakeholder experiences for customers, suppliers and employees. The company has delivered multiple projects on Oracle SCM, JDE and SAP for manufacturing vertical clients.

Lifesciences (25% of revenue)

Life Sciences is the second-largest vertical of the company. The COVID-19 outbreak has placed unprecedented pressure on Pharmaceutical and Medical Device companies to provide effective treatments for a broad range of evolving healthcare issues while maintaining high product quality and controlling costs. BSOFT provides digital transformation services spanning the entire value chain of Pharmaceutical and Medical Device companies - from discovery, trials, and production to sales and marketing, field service and support. The company’s largest deal (USD240mn) win from Invacare falls under this vertical. Invacare is a leading manufacturer & distributor for medical equipment used in non-acute care settings, which is showing a rapid traction in Respiratory and Mobility & seating products.

BFSI (18% of revenue)

In the BFSI vertical, focus of the company remains on ensuring compliance risk management by unlocking digital transformation in Governance, Risk and Compliance (GRC) with automation. BSOFT help banks and financial institutions digitally transform their businesses and improve operational efficiency, optimize costs, mitigate risk, build agile regulatory responses, and create superior digital experiences. It cover Retail banking, Cards processing, Digital lending & leasing and Governance, Risk & Compliance segments under BFSI.

Energy & Utilities (15% of revenue)

BSOFT enables organizations in the Utilities and Energy industry to excel by focusing on innovative technology, synchronizing people, process and technology and streamlining business processes across a full breadth of applications. Major clients in this vertical are Weatherford, Wellbore Technologies and Praxair.

Revenue by industry verticals 100% 15% 17% 20% 25% 29% 24% 24% 25% 80% 18% 18% 18% 17% 15% 15% 15% 60% 16% 19% 20% 19% 19% 19% 18% 17% 17% 40%

48% 20% 45% 43% 41% 38% 42% 42% 42%

Q1FY20 Q2FY20 Q3FY20 Q4FY20 Q1FY21 Q2FY21 Q3FY21 Q4FY21

Manufacturing BFSI Energy & Utilities Lifesciences

Source: Company, Edelweiss Research

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BIRLASOFT

Valuations

 We initiate coverage on BSOFT with ‘BUY/Sector Outperform’ and target price of INR551, implying 72% upside.

 BSOFT is trading at lowest valuation among companies we track in the IT mid- cap space. We believe revenue CAGR of 14% over FY20-23E will position it as a growth stock, leading to re-rating of the company’s valuation.

 Digital transformation post pandemic has accelerated growth in BPM space and will lead to substantial jump in not only global sourcing, but will also accelerate India’s market share gain hereon as the incremental growth is digital led which is strength of India. Hence, we believe, it is a structural shift and gift to India.

Strong growth outlook We initiate coverage on BSOFT with ‘BUY/Sector Outperformer’. Out target price of INR551 is based on forward P/E of 25x on Q2FY23E EPS, which is at a discount to global peers and Indian mid-cap IT services companies. We estimate BSOFT to report 39% EPS CAGR over FY20-23E driven by strong revenue growth (14% CAGR) and margin tailwinds of 280bps during F20-23E. The stock is trading at 14.3x Q2FY23E EPS.

Despite the significant stock performance, we believe BSOFT as a structural multi- bagger like our previous three initiations in a decade (Mindtree, LTI and LTTS) as it ticks all our “5 Golden rules of turnaround”.

Moreover, we would like to reiterate that we always miss the first 50-100% return on turnaround stories as we take minimum 12-18 months to complete our research. But the purpose of our initiation is never a 50-100% return story; we only invest our efforts and time in structural long-term compounders. We expect this business to compound over the long term and create substantial value for investors.

During the past couple of years, management has focussed on successful integration with KPIT’s IT services and stabilised the new entity’s operations and revenue. With integration and stabilisation behind, BSOFT has positioned itself for profitable growth. Leveraging erstwhile KPIT’s strong relationships with clients such as Cummins (in ERP such as Oracle, JDE and SAP), BSOFT is cross-selling and expanding the breadth of its offerings—similar to the success strategy adopted by other mid- size companies such as LTTS, LTI and Mindtree in rationalising the tail. Its platinum partnership with Oracle, strong Oracle cloud engagements across verticals and SAP offerings in big data, analytics and integrated business planning are at an inflection point. SAP smart edge solutions such as Discrete-edge, Hitech-edge, IMC-edge, Mededge and Pharma-edge are likely to deliver substantial growth riding the turnaround in cloud offerings within ERP.

We expect the following growth drivers for BSOFT:

 Integration with KPIT’s IT services business is behind. Management is sharpening focus on growth in coming years. In FY21, despite covid-19, the company delivered positive USD revenue growth of 3.4% YoY--first annual positive revenue growth post-merger on January 1, 2019. The deal pipeline points toward strong acceleration in demand as the TCV for FY21 increased by 33% YoY, providing strong impetus to the company’s ability to deliver top quartile revenue growth in coming years.

34 Edelweiss Research is also available on www.edelweissresearch.com, Bloomberg - EDEL, Thomson Reuters, and Factset Edelweiss Securities Limited

BIRLASOFT

 BSOFT has plans to scale its current Microsoft cloud business (USD25-30mn) to USD100mn by FY24. It is a Microsoft Gold Certified Partner with competencies in multiple technology areas, including, Microsoft Dynamics Partner for Enterprise Solution implementations, Microsoft Azure cloud, among others.

 The company estimates potential in mid-sized deals to be around 4-5x current size.

 It is able to successfully mitigate the cost pressure from wage hike. In Q4FY21, despite wage hikes, the company was able to clock EBITDA margin of 16.9%, up by 48bps QoQ and 401bps YoY. We believe the company will be able to increase margin further by around 250-300bps in the next couple of years by using various cost levers like higher offshoring, lower subcontractor cost, to offset the cost headwinds.

 Management has sharpened business capabilities by defining and building micro-vertical strategy which will shape BSOFT future and help them grow faster than main verticals. Micro-vertical strategy has empowered them to grow at faster pace and deliver strong results.

We estimate BSOFT to clock revenue CAGR of 14% over FY20–23E driven by above factors.

Earnings have many catalysts in the coming days including strong revenue growth, margin improvement and lower tax rate due to change in tax regime. These will lead to even faster earnings CAGR of 39% over FY20-23E.

Given revenue and PAT CAGR of 14% and 39%, respectively, RoE touching 15.8%, dividend yield of 1.1% (30% pay out) and robust cash flow generation, we assign target multiple of 25x Q2FY23E EPS to BSOFT. We initiate coverage with ‘BUY/SO’. At CMP, the stock is trading at 14.3x Q2FY23E EPS.

Currently, the stock is up 182% since merger/demerger in January 2019.

Price movement since new entity came into existence 400 Stock is up by 182% since merger/demerger completion 320 Merger/demerger completed 240

160

Jan 19 Jan 20 Jan 21 Jan

Sep 19 Sep 20 Sep

May 19 May May 20 May 21 May

Source: Company, Edelweiss Research

Edelweiss Research is also available on www.edelweissresearch.com, Bloomberg - EDEL, Thomson Reuters, and Factset Edelweiss Securities Limited 35

BIRLASOFT

Financial Outlook

BSOFT reported USD revenue growth of 3.4% in FY21 despite the covid-19 impact. This was the second year post the company completing merger with KPIT in January 1, 2019, and first positive annual revenue growth reported by the company post-the merger.

We estimate BSOFT’s USD revenue CAGR at 14% YoY in FY20-23E driven by sharper focus on client mining through cross-selling and upselling under the revamped leadership team. Large deal closures and ramp up on these deals will provide strong revenue growth momentum.

Quarterly revenues and growth (QoQ) 130 12% 7.5% 124 6.3% 8% 3.4% 3.2% 118 4%

-1.2% (%) (USD mn) (USD 112 -1.6% 0% -3.5% -4.6% 106 -4% 112 110 117 126 121 116 120 123

100 -8%

Q1FY20 Q2FY20 Q3FY20 Q4FY20 Q1FY21 Q2FY21 Q3FY21 Q4FY21 Revenue (USD, mn) Revenue Growth (%, QoQ)

Source: Company, Edelweiss Research

EBITDA margin expanded by 300bps in FY21 compared to FY20. We believe EBITDA margin will expand further aided by revenue growth acceleration, removal of low- margin tail accounts, higher offshore mix and better utilization. Revenue growth with margin expansion and lower tax rate will drive EPS growth at even higher CAGR of 39% in FY20-23E. BSOFT has improved profitability consistently in the past seven quarters and will continue to improve margins going ahead as well.

Quarterly EBITDA margins have improved consistently 2,000 20% 16.9% 16.4% 1,600 12.9% 13.9% 16% 12.9% 12.3% 11.1%

1,2009.9% 12% (%)

(INRmn) 800 8%

400 4% 772 855 1,075 1,167 1,129 1,195 1,444 1,524

0 0%

Q3FY20 Q1FY20 Q2FY20 Q4FY20 Q1FY21 Q2FY21 Q3FY21 Q4FY21 EBITDA (INR, mn) INR, Growth (%)

Source: Company, Edelweiss Research

BSOFT has posted total dividend for FY21 of INR3.5 per share. With better earnings predictability and strong earnings trajectory (39% EPS CAGR in FY20-23E), we believe the stock will generate superior returns.

36 Edelweiss Research is also available on www.edelweissresearch.com, Bloomberg - EDEL, Thomson Reuters, and Factset Edelweiss Securities Limited

BIRLASOFT

Key Risks

Softness in SAP and IES Though BSOFT has been diversifying revenue away from SAP and IES, they accounted for 42.8% of total Q4FY21 revenue. Any prolonged softness in deal pipeline can hamper its revenue growth. Supply-side issues Attrition has picked up for some of its larger peers in the past quarter and demand for talent, especially in India due to higher offshoring, has increased significantly. Any material pick up in attrition can impact BSOFT’s ability to meet clients’ deadlines. Currency risk The exchange rate volatility in USD (contributed 79.6% in Q4FY21), EUR (contributes 7.5% in Q4FY21) and GBP (contributes 2.0% in Q4FY21) with INR can fluctuate the company’s reported INR revenue significantly. Client concentration Top 5, Top 10 and Top 20 clients contribute 32.8%, 45.1% and 60.7% to revenue, respectively, in Q4FY21. And any loss of key clients can derail BSOFT’s growth momentum. Geographical concentration In terms of geographies, Americas and Europe contributes 79% and 12.5%, respectively, to total revenue. Covid-19 continues to remain a significant threat to recovery of global economies and any significant outbreak in a key geography like we have recently seen in some parts of the world including India and Brazil can impact deal momentum.

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BIRLASOFT

Company Description

BSOFT was incorporated in 1990 as part of the diversified CK Birla Group. BSOFT and KPIT's IT services business has merged to form a leading publicly listed Enterprise Digital and IT Services company.

BSOFT reported revenue of USD479.6mn in FY21, up by 3.4% YoY. The company derived 79% of its revenue from Americas in Q4FY21, while Europe and Rest of the World contributed 12.5% and 8.5%, respectively. In terms of industry verticals, Manufacturing contributed 42.3% to total revenue in Q4FY21; BFSI contributed 18.3%; Energy and Utilities 14.8% and Lifesciences contributed 24.6% to total revenue in Q4FY21.

In terms of services offerings, Integrated Enterprise Solutions (IES) contributed 30.9% to total revenue in Q4FY21, SAP 11.9%, Digital Transformation 35.2% and Emerging Horizontals contributed 22% to total revenue in Q4FY21.

BSOFT has 11,051 employees as of March 21, 2021; net addition of 652 employee in FY21. Attrition is declining consistently from past quarters--18.9% in Q4FY20 to 11.6% in Q4FY21. Utilization has improved at 82.8% in Q4FY21 vs 80.9% in Q4FY20, which will help in margin improvement further. DSO has improved from 72 in Q4FY20 to 56 in Q4FY21.

BSOFT’s net cash stood at INR11,189mn in FY21. The company might look out for acquisitions or might return to shareholder in the form of Dividends/Buybacks.

Total employees 11,500 11,051 11,000

10,399 10,500 10,268 10,085 10,129 9,994 10,010 10,000 9,908

9,500

9,000

Q1FY20 Q2FY20 Q3FY20 Q4FY20 Q1FY21 Q2FY21 Q3FY21 Q4FY21

Source: Company, Edelweiss Research

38 Edelweiss Research is also available on www.edelweissresearch.com, Bloomberg - EDEL, Thomson Reuters, and Factset Edelweiss Securities Limited

BIRLASOFT

Attrition rate declining consistently 25% 21.7% 22.5% 20.3% 20% 18.9% 16.5% 15% 11.4% 10.9% 11.6% 10%

Q1FY20 Q2FY20 Q3FY20 Q4FY20 Q1FY21 Q2FY21 Q3FY21 Q4FY21

Source: Company, Edelweiss Research

Utilization rate improved

87% 85.6% 83.7% 84% 82.8% 80.9% 81% 78.2% 78%

75%

72%

Q4FY20 Q1FY21 Q2FY21 Q3FY21 Q4FY21

Source: Company, Edelweiss Research

The company has strong enterprise solution capabilities along with Digital Capabilities, making it a formidable competitor. BSOFT has strong capabilities in Enterprise Product and Cloud Solutions domain such as SAP, Oracle, JD Edwards, Salesforce.com, Service Now, among others. It has the highest level partnership with SAP, Oracle as well as Salesforce, which provides it a unique competitive strength. BSOFT possesses significant Digital capabilities in Analytics, Robotic Process Automation (RPA), Digital portals, User Experience and Digital advisory services.

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BIRLASOFT

Board of Directors

Amita Birla - Chairman & Non-Executive Director Chandrakant Birla - Non Executive Chairman CK Birla is the Chairman of the CK Birla Group of She is the Co-Chairman of the CK Birla Group. She has companies. The group that he leads, proudly carries had extensive experience in successfully leading forward the legacy of the 150-year old Birla family. He companies, with her uniquely visionary yet is keen philanthropist and is deeply committed to empathetic style of leadership. creating sustainable positive impact.

Dharmender Kapoor (DK) - CEO and MD Ashok Kumar Barat - Independent Director He has held leadership positions in various He has 30 years of experience in the IT industry and is organizations namely Hindustan Lever Limited, RPG recognized across the industry as a thought leader. Group, Pepsi, Electrolux, Telstra and Kraft-Heinz. He DK co-owns patents around Cloud and Digital. He is a Certified Mediator empaneled with the Ministry joined Birlasoft from HCL Technologies. of Corporate Affairs, GOI.

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BIRLASOFT

Alka Bharucha - Independent Director Nandita Gurjar - Independent Director She has more than 30 years of experience. Her She is a technologist turned HR professional. practice ranges across mergers and acquisitions, Nandita's experience in mainstream IT spans private equity investments and joint ventures, software development, general management and banking and structured finance, capital markets and consulting. She has previousl experience working in infrastructure. Infosys and Wipro.

Anant Talaulicar - Independent Director He is a member on the Board of KPIT Technologies, as an Independent Director. He has held various position in Cummins Group. He has chaired the boards of four other Cummins legal entities in India as well.

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BIRLASOFT

Management Overview

Mr. Dharmender Kapoor, CEO & Managing Director He has 30 years of experience in the IT industry. He joined BSOFT from HCL Technologies where he was heading Business and Technology Transformation Services. Before being elevated to CEO, he also served as the Chief Operating Officer (COO) at BSOFT, where he managed Global Delivery, Business Development, Advisory, and other enabling functions. He was also responsible for developing BSOFT's global business for the BFSI vertical. He holds a Master's degree from Kurukshetra University, India. Mr. Chandrasekar Thyagarajan, Chief Financial Officer He is a Chartered Accountant with 32 years of experience, including 18 years in CXO level positions, with global and Indian companies in a variety of areas including financial strategy and decision support, financial planning, among others. He is a Finance specialist in the IT services space having spent 20 years in a leading US multinational IT SI firm and in prior jobs supporting the Infrastructure Services, BPO and KPO services, software development, Application Management Services and IT Consulting Services businesses. Mr. Roop Singh, Chief Business Officer Mr. Singh has held senior leadership roles across Europe, North America, Middle East and the Asia Pacific Regions with over 25+ years’ industry experience. As Chief Business Officer, he is responsible for the sustained growth of the organization. Prior to joining BSOFT, Mr. Singh was the Vice President and Business Head of IBM's Banking and Financial Services practice in the US. His responsibilities spanned the entire IBM portfolio including hardware, software, platforms and technology and business services. He also focused on a portfolio of Cloud-based Digital Transformation offerings across industry verticals. Mr. Shreeranganath Kulkarni, Chief Delivery Officer In his more than 30 years of rich experience, he has been involved in all aspects of Technology Services - in Delivery, Sales, and Client Engagement roles. He was earlier with Accenture, where he was the Managing Director and Technology Delivery Lead for Financial Services. Prior to Accenture, He was part of the leadership team at Cognizant and Infosys, where he held key roles. He holds a Bachelor of Engineering degree and Advance Diploma in Management and Operations Research. Mr. Arun Dinakar Rao, Chief People Officer He has over 28 years of experience within the IT/ITeS, Finance and Internet industries. Previously, he led the HR function at DXC Technology India and where he was responsible for aligning the people function to business objectives and helped drive multiple post-merger integrations. Prior to DXC, at Deloitte US Offices of India Mr. Rao led the HR function across multiple business lines, served as the Chief Learning Officer and was instrumental in the smooth execution of key leadership development initiatives. He has also served with companies like Satyam Computers Limited, and AppLabs Technologies in the past. He holds a Post Graduate Diploma in Personnel Management and Industrial Relations from XLRI, Jamshedpur (India) and is also an alumnus of University of Delhi (India).

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BIRLASOFT

Industry Outlook

According to Nasscom, the Indian IT industry’s revenue is estimated to reach USD194bn in FY21, an increase of 2.3% YoY. Exports from the Indian IT industry are expected to increase by 1.9% to reach USD150bn in FY21 and domestic revenue of IT industry is estimated to be around USD45bn. In 2020, the IT industry recorded 138,000 new hires. IBEF highlighted that the IT industry accounted for 7.7% of India’s GDP in 2020 and is expected to contribute 10% to India’s GDP by 2025.

Nasscom IT exports CAGR over USD bn FY06 FY07 FY08 FY09 FY10 FY11 FY12 FY13 FY14 FY15 FY16 FY17 FY18 FY19 FY20 FY21 FY06- 21 Nasscom IT Exports 24 31 41 47 50 59 72 77 88 98 108 117 126 136 147 150 13.1% Growth (%) 33.3% 32.6% 31.0% 14.6% 6.6% 18.7% 21.2% 6.7% 13.8% 12.1% 10.1% 8.3% 7.7% 7.9% 8.1% 2.0% Source: Nasscom, Edelweiss Research

Going ahead, we believe disruptive technologies such as cloud computing and digital transformation will offer new avenues of growth across verticals for IT companies. We are witnessing strong ramp up in deal wins across IT companies led by pandemic and expecting the strong momentum to continue for long period.

The pandemic is changing the delivery and consumption model for IT Services leading to opportunities for IT service providers. For a significant number of roles in certain industry segments, WFH is and will become the norm going forward. The focus on cyber security, network connectivity, resilience and related business processes are opportunity areas for IT Services. Cost constraints due to reduced budgets are accelerating the adoption of a consumption model. Movement to the Cloud and As-a-Service model provides further opportunities to help customers become more efficient. Digitization of channels to market are creating omni channel opportunities which bring additional opportunities for both simplification and automation of the underlying business processes and related supply chains.

After the initial contraction due to dislocations, the need for business continuity, operational resilience and the switch to digital transactions drove strong demand for IT services over the rest of the year. As per NASSCOM survey, Global firms have highlighted few key emerging trends like Infrastructure on Cloud, Cybersecurity, Big Data & Analytics, Artificial Intelligence (AI), Machine Learning (ML), Internet of Things (IoT), Block Chain and edge computing.

According to latest forecast, Gartner expects the worldwide IT spending of USD4.1 trillion in 2021, an increase of 8.4% from 2020. The source of funds for new digital business initiatives will more frequently come from business departments outside IT and charged as a cost of revenue or cost of goods sold (COGS).

This has shifted IT from a back-office role to the front of business. Now, the business no longer look at IT as only a cost saving measure but a tool to drive revenue growth. Gartner has projected IT service spending growth of 9% YoY in FY21 and 7.3% YoY in FY22.

All IT spending segments are forecast to have positive growth through 2022. The highest growth will come from devices (14%) and enterprise software (10.8%) as organizations shift their focus to providing a more comfortable, innovative and productive environment for their workforce.

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BIRLASOFT

Additional Data

Management Holdings – Top 10* CEO Dharmender Kapoor % Holding % Holding CFO Chandrasekar Thyagarajan NEI 38.81 IDFC MF 2.81 Ashish Dhawan 3.60 Ellpsis Partner 2.62 CDO Shreeranganath kulkarni (sk) L&T MF 3.21 Vanguard Group 2.57 Other ICICI PRU AMC 3.01 Invesco AMC 2.11 Auditor B S R & Co. Ltd. ICICI PRU LT 2.83

*Latest public data

Recent Company Research Recent Sector Research Date Title Price Reco Date Name of Co./Sector Title Robust momentum sustained; 27-May-21 Redington Result Update Riding tech upcycle on four pillars; 26-May-21 Mindtree Company Update Globant: Digital driving growth; 14-May-21 IT Sector Update

Rating Interpretation Daily Volume 60 350

290 48

230 36 (INR)

170 (Mn) 24

110 12 50 Jun-18 Dec-18 Jun-19 Dec-19 Jun-20 Dec-20 0 BSOFT IN EQUITY Buy Hold Reduce Jun-18 Dec-18 Jun-19 Dec-19 Jun-20 Dec-20

Source: Bloomberg, Edelweiss research Source: Bloomberg

Rating Distribution: Edelweiss Research Coverage Rating Rationale

Buy Hold Reduce Total Rating Expected absolute returns over 12 months

Rating Distribution* 169 57 16 243 Buy: >15%

>50bn >10bn and <50bn <10bn Total Hold: >15% and <-5%

Market Cap (INR) 206 47 3 256 Reduce: <-5% *1 stocks under review

44 Edelweiss Research is also available on www.edelweissresearch.com, Bloomberg - EDEL, Thomson Reuters, and Factset Edelweiss Securities Limited

India Equity Research IT June 3, 2021

COFORGE

INITIATING COVERAGE

KEY DATA Rating BUY A digital roar to compounding Sector relative Outperformer Price (INR) 3,576 12 month price target (INR) 5,005 Coforge ticks off all our “5 Golden rules of turnaround”, and its 6x run- Market cap (INR bn/USD bn) 217/3.0 up since 2017 does not deter us since it is a compelling structural story. Free float/Foreign ownership (%) 36.0/15.4 Furthermore, the expensive valuation – 25x Q2FY23E EPS – argument is flawed as AdvantageGo alone is >28% of current price. INVESTMENT METRICS

45 Mr. Sudhir Singh (CEO) is the face of change: he built a team of ‘tigers’ 35 linking their incentives to performance, hiring large-deal consultants, 25 cleaning tail accounts, and increasing digital revenue from 21% to 37% 15 5 over FY17–20. He is carving out new growth verticals. The transition Sales Growth EPS Growth RoE PE (%) (%) (%) (x) from a laggard to leader is powered by a jump in USD revenue CAGR IT COFORGE IN EQUITY from 2.9% in FY14–17 to 12.2% (ex-GIS hive-off) in FY17–21 and 70bps margin uptick. Initiate with ‘BUY’ and TP of INR5,005 (35x Q2FY23E). FINANCIALS (INR mn) Leader, team strategy in place; a structural compounding story Year to March FY21A FY22E FY23E FY24E Mr. Singh joined Coforge in May-17, and effected quick radical changes in Revenue 46,628 61,668 71,467 84,966 collaboration with his team. i) Hired business heads from tier 1 companies (only EBITDA 8,391 11,753 13,833 15,936 Adjusted profit 4,556 7,007 8,282 9,616 tigers) such as Accenture and TCS. ii) Ensured all business-facing leaders were based Diluted EPS (INR) 78.7 115.4 136.4 158.3 in client markets. iii) Built a team of ex-CEO/CIOs to crack large deals. iv) Promoted EPS growth (%) 4.3 46.5 18.2 16.1 meritocracy at cost of unpopularity, setting benchmarks. v) Put the best foot forward RoAE (%) 18.8 24.0 24.1 23.9 keeping organisational redlines at bay. These factors led to a 12.2% CAGR revenue, P/E (x) 45.0 30.7 26.0 22.4 a 70bps margin improvement and average 12M executable order book of USD429mn EV/EBITDA (x) 24.3 17.1 14.1 12.0 Dividend yield (%) 0.7 1.1 1.3 1.5 since he joined versus FY13–17 revenue CAGR of 2.9% and order book of USD302mn. Structural growth, margins; AdvantageGo a huge option value PRICE PERFORMANCE Coforge has posted high growth, order book and margins over the past four years

3,600 53,000 (12.2%/17.5%/70bps); eventually margins may converge with large caps’. Over 3,145 49,000 FY21–23E, reversal of discounts given to travel industry, lower travel costs and 2,690 45,000 operating efficiencies will offset COGS headwinds and drive an EPS CAGR of 31.5%. 2,235 41,000 Moreover, platforms such as Duckcreek trades at an EV/Sales of 20–25x (growth 1,780 37,000 1,325 33,000 trajectory of 20–25%), which has a similar business model as AdvantageGo, implying Jun-20 Sep-20 Dec-20 Mar-21 Jun-21 USD800mn in value for AdvantageGo alone, in our view, which counters the COFORGE IN EQUITY Sensex valuation argument.

Outlook & valuations: Structural compounding story; initiate ‘BUY’ Explore: Coforge ticks all our “5 Golden rules of turnaround”. We view its structural growth much in the same way as of Mindtree and LTI (that would create value similar to Infosys and TCS). The only key difference is, unlike Mindtree and LTI that have strong parentcos, Coforge is PE-owned, which may have exit timelines. This implies the pressure of exit timelines, although AdvantageGo option value protects downside. Financial model Podcast The stock has rallied 6x since Mr. Sudhir Singh has joined. We believe Coforge’s EPS will compound at 20%+ for a decade, primarily led by a structural dip in below-COGS costs, which are primarily semi-variable in nature. AdvantageGo’s separate listing could be an add-on; hence, we believe Coforge is the structural compounding story. Corporate access Video Assigning a 35x multiple (in-line with Mindtree) to Q2FY23E EPS, yields a TP of INR5,005.

Sandip Agarwal Pranav Kshatriya Pranav Kshatriya Pulkit Chawla +91 (22) 6623 3474 +91 (22) 4040 7495 [email protected] [email protected] [email protected] [email protected] vvvvvvvvccAyx Edelweiss Research is also available on www.edelweissresearch.com, Bloomberg - EDEL, Thomson Reuters, and Factset Edelweiss Securities Limited

COFORGE

Executive Summary

CEO built a team of ‘tigers’ and left them roaring Mr Sudhir Singh joined as CEO of Coforge in May 2017, taking over the reins from Mr. Arvind Thakur. Mr. Singh was welcomed with a ‘garland of challenges’ as just a year back in August 2016, Mr. Sudhir Chaturvedi (who served as COO) had suddenly left when things were just settling down. So Sudhir had a big task up his sleeve—to not only instil confidence among employees, owners and clients, but also among investors.

Sudhir also knew that he did not have the luxury of time. In light of Mr. Chaturvedi’s “Over the last fifteen quarters our firm sudden exit, he joined at time of very high expectations of a turnaround. Mr. Singh and our team has delivered against thus sought to build a team of highly motivated leaders, basically as fierce as ‘tigers’ revenue and profit plan in every quarter that can go out driving the business authoritatively. with no exceptions and no surprises. That fifteen-quarter record, particularly our The ‘tigers’ were intentionally hired from tier-1 companies. His long past experience performance during the current of working with companies such as Infosys had taught him how confidence plays a pandemic-hit year despite our historical role in notching up deals in the final rounds of negotiation. To put in other words, exposure to the Travel industry, is a Mr. Singh’s strategy for driving business was to “buy confidence and not just selling demonstration of that commitment. We skills alone”. remain hyper focused on execution and committed to meeting and then Moreover, he also ensured that centre of gravity of the leadership team is in client exceeding our plans” markets and the testimony to his strategy is that apart from support-function Sudhir Singh leaders all his top front-end/market-facing leadership is based out of client markets. CEO and Executive Director Radical change for transformation Coforge’s business model used to be geography-based and primarily divided into three clusters: the US, the UK and ROW. The above structure, at times, might have resulted in operating silos, was over democratic and less meritocratic as it implied default rights to geographic cluster from where client originated, irrespective of execution or winning capabilities.

Mr. Sudhir’s strategy to “Transform at the intersect”, which combines long-standing deep domain expertise in specific industry verticals with competence in emerging technologies to transform customer businesses and philosophy of best foot forward, revolves around “Win-Win-Win” rather than “right to bid/participate”, and focuses on utilization of the company’s resources in the best possible way and securing deals. The above clearly reflects in the sharp jump in deal-win TCV over the past four years (refer to chart /table on page 7).

Mr. Singh drove another radical change—in large deals commission/bonus was increased by a multiple of nearly 4x and the range of annual increments also saw similar expansion. The range of wage hike changed dramatically – best performers could grab up to 20% increment, while a mediocre /weak performer might go even for duck. The above led to automatic cleaning up of bottom while incentivising high performers aggressively, although net impact on COGS was negligible as it balanced out overall costs.

Similarly, on the sales incentive scheme front, while incentive for sales people was made more attractive across the board, for large deals (by definition TCV of USD20mn plus) it was increased by nearly 4x.

Mr. Sudhir also hired several senior people (full time salaried advisory group that includes former CTO of a global life insurance company, former COO of a brokerage firm and similar senior industry resources ) from across industry verticals to create

46 Edelweiss Research is also available on www.edelweissresearch.com, Bloomberg - EDEL, Thomson Reuters, and Factset Edelweiss Securities Limited

COFORGE

an industry advisory group. The primary purpose of forming this team was to augment its pool of subject-matter experts (SMEs) and provide expertise to the hunting/farming teams to structure deals to improve win ratios. Digital Transformation: Contribution leapfrogs from 21% to 37% Coforge has been retraining employee and developing deep domain level digital capabilities in Cloud, Data, Integration & Automation, Cognitive and Digital. It has partnered hyperscalers and leading data & analytics providers, including Pega, Appian, Outsystems, Mulesoft, Automation Anywhere, Microsoft, Amazon, Informatica, Google, Collibra and Denodo to deliver solutions. These initiatives fired up digital revenue contribution to overall revenue from 21% in Q4FY17 to 37% in Q3FY21. Digital revenue, including cloud, product engineering, data and automation and enterprise integration revenue reached 71% of total revenue in Q3FY21. Strong team and focus counter vertical concentration risk in FY21 Coforge has high revenue concentration in three key segments—Insurance, BFS and Transport, which together accounts for 67% of total revenue in Q4FY21. In Transport, revenue slid by 27.5% in FY21, mainly due to the Covid-19 related impact on its clients in the Travel and Hospitability sector. That said, the company still delivered top-quartile revenue growth of 6% in CC, as BFS, Insurance and Others segment more than compensated for the decline in Transport by delivering strong growth of 13.7%/12.9%/26.1%. Importantly, excluding the Travel vertical’s negative impact, growth during FY21 has been 18.4% in CC terms for Coforge. AdvantageGo: A huge option value and insurance against downside AdvantageGo, launched in April 2018, contributes 20% to the insurance segment with EBITDA margin higher than the company’s average. AdvantageGo is among the top two platforms for commercial lines in the UK, and the bulk of its revenue comes from the UK as insurance regulation vary between UK and other geographies such as Euro Zone or the US. Coforge is now aiming to take the insurance platform aggressively to the US. It has already started entering US markets with a business intelligence module and the data warehousing part of its insurance platform. Outlook & valuations: Structural compounding story; initiate ‘BUY’ We are initiating coverage on Coforge with a ‘BUY’ recommendation and ‘Sector Outperformer’ rating. Our target price of INR5,005 is based on 35x Q2FY23E EPS, which is at a similar valuation to peers considering the company’s strong growth profile. We estimate Coforge would report a 31.5% earnings CAGR over FY21–23E driven by strong revenue growth (~24% CAGR reported growth and ~19% organic growth) and operating leverage.

The stock is trading at 25x Q2FY23E EPS—lower than peers. We argue Coforge warrants a similar PE valuation to its peers in the wake of its improved growth profile, better management quality and strong deal pipeline. Moreover, the forward P/E is optically high as the value of “AdvantageGo” alone will be USD800mn or 28% of current market cap. We believe Coforge is the “structural compounding story”. Key risks i) Delay in Transport segment recovery. ii) Top 5 clients make up 25% of revenue. Any potential loss of client can derail revenue momentum. iii) A major outbreak of covid-19 in key client geographies. iv) Spike in attrition. v) Loss of key managerial personnel. Macroeconomic risks include currency appreciation, which can hurt revenue, and geopolitical risk. We see also seeing rising competitive intensity among existing players, either via deal-wins or at price points that could pressure margins in the short term.

Edelweiss Research is also available on www.edelweissresearch.com, Bloomberg - EDEL, Thomson Reuters, and Factset Edelweiss Securities Limited 47

COFORGE

The Story in Charts

Coforge has delivered higher revenue CAGR over Growth CAGR for last four years was 16.5% past four years than previous four years 90 16.5% 18% 700 12.2% 14%

560 11% 72 14%

420 2.9% 8% 54 11%

280 6% (%) 36 7% 140 3% 3.8%

0 0% 18 4% FY14 FY15 FY16 FY17 FY18 FY19 FY20 FY21 0 0% Revenue from operations (USD, mn) FY14 FY15 FY16 FY17 FY18 FY19 FY20 FY21 Average CAGR Growth (%, YoY) Diluted EPS Average CAGR Growth (%, YoY)

Digital revenue: Up from 20% in FY17 to 37% in Q4FY21 marks strong revenue growth of 15.% YoY FY20 despite reduced contribution from Transport segment

40% 47% 37% 37% 50% 150% USD146. USD16 47% 1mn Company delivered 9mn 32% 29% 40% 33% strong growth of 24% 15.7% despite of sharp 100% 24% 20% 30% decline in Transport 27% 27% segment 33% 16% 20% 27% 19% 50% 8% 10% 31% 31% 0% 0% FY17 FY18 FY19 FY20 Q3FY21 15% 17% 0% Digital as % of overall Revenue Q4FY20 Q4FY21 Digital Revenue Growth (%, YoY) Others Transport Insurance Banking and Financial Services

New deal-wins on the rise, and remain strong in A 60% CAGR in stock price since new CEO took over FY21 despite covid-19-related uncertainty 250 4,000 212 Stock price has increased by CAGR 200 192 201 of 60% during the last 4 years 200 180 186 170 175 176 21 17 3,200 Baring announced 160 165 60 32 Mr Sudhir Singh 151 17 31 intention to acquire 30% 150 27 31 47 58 65 appointed as CEO stake from promotors 35 70 45 2,400 26 58 Designate before and launch an open offer

42 45 62 70 being appointed as (INR) (USD mn) (USD 52 100 56 39 41 1,600 CEO 121 116 119 50 86 96 94 100 90 85 69 65 81 800 0

Q1FY21 Q1FY19 Q2FY19 Q3FY19 Q4FY19 Q1FY20 Q2FY20 Q3FY20 Q4FY20 Q2FY21 Q3FY21 Q4FY21

Nov-16 Nov-13 Nov-14 Nov-15 Nov-17 Nov-18 Nov-19 Nov-20

May-15 May-19 May-16 May-17 May-18 May-20 May-21 USA (USD, mn) EMEA (USD, mn) ROW (USD, mn) May-14

Source: Company, Edelweiss Research

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Financial Statements

Income Statement (INR mn) Balance Sheet (INR mn) Year to March FY21A FY22E FY23E FY24E Year to March FY21A FY22E FY23E FY24E Total operating income 46,628 61,668 71,467 84,966 Share capital 607 607 607 607 Cost of revenues 31,693 41,761 47,688 57,035 Reserves 26,284 30,943 36,450 42,861 Gross Profit 14,935 19,907 23,779 27,930 Shareholders funds 26,891 31,550 37,057 43,468 SG&A 6,544 8,154 9,946 11,995 Minority interest 0 0 0 0 EBITDA 8,391 11,753 13,833 15,936 Borrowings 48 48 48 48 Depreciation 1,836 2,343 2,716 3,059 Trade payables 2,605 3,318 3,658 4,375 EBIT 6,555 9,410 11,117 12,877 Other liabs & prov 6,205 6,705 7,205 7,705 Add: Other income 0 0 0 0 Total liabilities 38,045 44,167 50,764 58,642 Profit before tax 6,188 9,485 11,211 12,951 Net block 3,723 3,243 2,822 2,687 Prov for tax 1,302 2,371 2,803 3,238 Intangible assets 5,457 5,015 4,709 4,571 Less: Other adj 0 0 0 0 Capital WIP 795 795 795 795 Reported profit 4,782 7,007 8,282 9,616 Total fixed assets 9,975 9,053 8,326 8,053 Less: Excp.item (net) (226) 0 0 0 Non current inv 850 1,050 1,250 1,450 Adjusted profit 4,556 7,007 8,282 9,616 Cash/cash equivalent 10,947 14,640 20,029 24,691 Diluted shares o/s 61 61 61 61 Sundry debtors 0 0 0 0 Adjusted diluted EPS 78.7 115.4 136.4 158.3 Loans & advances 137 137 137 137 DPS (INR) 26.5 38.7 45.7 52.8 Other assets 15,996 19,148 20,882 24,171 Tax rate (%) 21.0 25.0 25.0 25.0 Total assets 38,045 44,167 50,764 58,642

Important Ratios (%) Free Cash Flow (INR mn) Year to March FY21A FY22E FY23E FY24E Year to March FY21A FY22E FY23E FY24E Cost of revenues (%) 68.0 67.7 66.7 67.1 Reported profit 6,188 9,485 11,211 12,951 SG&A expenses (%) 14.0 13.2 13.9 14.1 Add: Depreciation 1,836 2,343 2,716 3,059 Depreciation (%) 3.9 3.8 3.8 3.6 Interest (net of tax) 0 0 0 0 EBITDA margin (%) 18.0 19.1 19.4 18.8 Others (330) (107) (126) (97) Net profit margin (%) 9.8 11.4 11.6 11.3 Less: Changes in WC 1,934 1,989 944 2,122 Revenue growth (% YoY) 11.5 32.3 15.9 18.9 Operating cash flow 4,358 7,261 9,953 10,453 EBITDA growth (% YoY) 12.4 40.1 17.7 15.2 Less: Capex (1,015) (1,421) (1,989) (2,785) Adj. profit growth (%) (0.7) 53.8 18.2 16.1 Free cash flow 3,343 5,840 7,964 7,668

Assumptions (%) Key Ratios Year to March FY21A FY22E FY23E FY24E Year to March FY21A FY22E FY23E FY24E GDP (YoY %) (8.0) 9.5 7.0 7.0 RoE (%) 18.8 24.0 24.1 23.9 Repo rate (%) 4.0 4.0 4.3 5.3 RoCE (%) 25.7 32.2 32.4 31.9 USD/INR (average) 75.0 73.0 72.0 71.0 Inventory days 0 0 0 0 Tax rate (%) 21.0 25.0 25.0 25.0 Receivable days 0 0 0 0 Capex (INR mn) 1,015.0 1,421.0 1,989.4 2,785.2 Payable days 30 26 27 26 Receivable days 46.4 42.0 42.0 42.0 Working cap (% sales) 13.5 13.2 12.5 12.9 Payable days 30.2 25.9 26.7 25.7 Gross debt/equity (x) 0 0 0 0 Cash conversion cycle 16.2 16.1 15.3 16.3 Net debt/equity (x) (0.4) (0.5) (0.5) (0.6) Net emp addition 6,801.0 4,000.0 3,000.0 2,000.0 Interest coverage (x) 0 0 0 0

Valuation Metrics Valuation Drivers Year to March FY21A FY22E FY23E FY24E Year to March FY21A FY22E FY23E FY24E Diluted P/E (x) 45.0 30.7 26.0 22.4 EPS growth (%) 4.3 46.5 18.2 16.1 Price/BV (x) 8.0 6.8 5.8 5.0 RoE (%) 18.8 24.0 24.1 23.9 EV/EBITDA (x) 24.3 17.1 14.1 12.0 EBITDA growth (%) 12.4 40.1 17.7 15.2 Dividend yield (%) 0.7 1.1 1.3 1.5 Payout ratio (%) 33.7 33.5 33.5 33.3

Source: Company and Edelweiss estimates

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Investment Rationale

Great team: Transformation from laggard to leader

 Initiatives during the last few years have transformed Coforge into a niche midcap IT services company with deep domain expertise in its core verticals, which would help the company in capturing the strong digital tailwind.

 Management bench is reinforced over past few years with 11 out of 12 reportees to CEO joining from tier 1 companies backed with extensive industry experience.  A better incentive structure, i.e. more spend on sales coupled with shifting sales personnel closer to clients locations has created a revving sales engine with ability to win larger deals (USD20mn-plus) and add new clients at faster pace.

Win, win & win, rewards, meritocracy…and large deals Mr. Sudhir Singh joined the company from Genpact where he was COO of IT Services and Capital Markets for seven years. Prior to that, he had worked at Infosys and Hindustan Unilever for nine years and six years, respectively. He holds an engineering degree from IIT BHU and an MBA from IIM Kolkata. Under Mr. Singh’s leadership, Coforge has gone through a significant transformation with the philosophy of “best foot forward”. This philosophy aims to use resources in the best way possible in securing deal-wins.

 Break the silos: Earlier, Coforge operated on the basis of geographical units, which ended up creating silos and hampered deal-wins. This structure was replaced with skill-centric verticals with three key units of BFS (17% of total revenue in Q4FY21), Transport (19% of total revenue in Q4FY21) and Insurance (31% of total revenue in Q4FY21). The remaining businesses were clubbed under Others (33% of total revenue in Q4FY21). Within Others, there are three key verticals - Retail and Healthcare & Pharma (10% of aggregate revenue), Hi-tech & Manufacturing (8% of aggregate revenue), Government outside India (7% of aggregate revenue).

We know of several instances (in airlines and insurance) wherein Coforge breached organizational fault-lines of geographic clusters over capability under Mr Singh’s leadership. His philosophy of “best foot forward” revolves around “Win-Win-Win” rather than “right to bid/participate”. This clearly reflects in the sharp jump in deal-win TCV of last four years (refer to chart /table on page 8).

Moreover, the above change in structure from cluster-based to vertical-based also took away the “blame game escape route“ of geographies blaming vertical capabilities and vice-versa, and made the organization business focussed.

 Hiring from tier 1 companies and formation of business advisory team: The company has replaced its old business unit heads with more experienced and fierce business leaders, who are ready to take on the fight with tier 1 companies (our nomenclature of Tigers) while going for deal-wins. These hires came with extensive industry experience and connect, which Coforge leveraged.

Moreover, the CEO ensured that the centre of gravity of the leadership team is in client markets and testimony to his strategy is that apart from support function leaders all his top front-end/market-facing leadership is based out of client markets.

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The company has also created an advisory board of more than 12 members (full- time salaried advisory group, including former CTO of a global life insurance company, former CEO of a brokerage firm, former CEOs of insurance companies, and a few more senior retired veterans). The primary purpose of forming this team was to provide expertise to hunting/farming teams or tigers to structure deals better to improve win ratios.

 Better sales incentives: Increased sales incentives across the board while incentives for large deals (greater than USD20mn) were jacked up by 4x. The incentive payout period was also reduced. Additionally, Coforge has moved most of its sales, marketing and business team to work from client locations to have better connect. These initiatives incentivised sales personnel to target larger deals, which led to increased momentum with average next 12 months executable order book increasing from an average of USD302mn in FY14–17 to USD429mn (average over FY18–21), recording a 42% increase. The incentive was led by higher mining of existing clients as well as an increase in new client addition.

Ramp-up in large deal-wins powered by incentives 1000 1000 Average NTM executable order Average NTM executable order book is USD302mn book is USD429mn 800 800

600 600 USD mn) 400 400 (USD mn)

200 200

0 0

FY14

FY15

FY16

FY17

FY18

FY19

FY20 FY21 Fresh Order Intake (USD, mn) Executable order book over NTM (USD, mn)

Source: Company, Edelweiss Research

Average client additions doubled post-introduction of new incentives 20 Average new client 16 addition of ~10

12 Average new client addition 8 of ~5

Q2FY14 Q1FY16 Q1FY18 Q4FY19 Q3FY14 Q4FY14 Q1FY15 Q2FY15 Q3FY15 Q4FY15 Q2FY16 Q3FY16 Q4FY16 Q1FY17 Q2FY17 Q3FY17 Q4FY17 Q2FY18 Q3FY18 Q4FY18 Q1FY19 Q2FY19 Q3FY19 Q1FY20 Q2FY20 Q3FY20 Q4FY20 Q1FY21 Q2FY21 Q3FY21 Q4FY21 Q1FY14 Source: Company, Edelweiss Research

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 Target wage hike: Wage hike differential between the best performers and the worst performers used to be in the range of ~400bps. Now the company has changed its incentive structure with strong focus on performance. Key talents and best performers are rewarded much more handsomely relative to earlier structure.

Despite higher incentives for sales personnel and more hikes to best performers, the company was able to maintain EBITDA margin. This happened by increasing its revenue per billable employee at CAGR of 8.1% YoY from FY17 to FY21 while cutting the hike for non-performers, which helped it in keeping lower direct cost per employee to CAGR of 6.5% YoY during the same period. Insurance: Excellence in most difficult business The insurance segment contributed 31% and 32% to total revenue in Q4FY21 and FY22, respectively. Revenue in FY21 stood at ~USD203mn, up by 12.9% YoY. Insurance has performed consistently during the last four years with a revenue CAGR of 20.2%, much ahead of the company’s average. The company has a presence in Life & Annuities, Property and Casualties, and Speciality Insurance space, with long term customer relationships, domain skills and industry knowledge.

 In Life and Annuities insurance space, Coforge caters to underwriting, policy administration, billing, claims management and compliance and reporting. It provides IT and BPO services that are closely aligned with industry regulations, with digital capabilities for omnichannel experiences, and expertise across policy administration and other peripheral systems. Even though the company has a relatively less presence in Life and Annuities insurance space, it is receiving more client interest in digital engagement platforms for sales, especially for agents & brokers, in analytics and other data related capabilities to reduce underwriting friction. The company launched an ‘Underwriting’ workbench solution on AdvantageGo, (its InsurTech platform) to assist underwriters with the tools to address new business models.

 In Property and Casualties, Coforge has experience of working for over two decades with many industry partners. One of them is Duck Creek, a key player in the industry for whom Coforge is a platinum partner and top-3 integration partner. Coforge works in business areas such as customer & broker experience, distribution management, underwriting, policy administration, billing, claims management and compliance and reporting. The company is witnessing accelerated demand for Digital channels to provide Omni-channel presence, need to cut cost and improve operational efficiencies, and need to interact and consume data from third-party non-insurance entities.

 In Speciality Insurance, it works with leading commercial insurance and reinsurance carriers in Lloyd's and London market to deliver transformation in areas such as user-centric distribution channels, deriving data-driven business insights in pre-bind and post-bind processes. The company has a strong pipeline in this segment including USD45mn TCV deal, which it won in Q4FY21. Such deal- wins would help it deliver strong revenue growth in FY22. AdvantageGo: Insurance platform which insures investor’s downside Coforge has a strong presence in the speciality insurance space with its product, AdvantageGo. AdvantageGo is among the top two platforms for commercial line in the UK. Most of the revenue for AdvantageGo comes from the UK, as insurance regulations vary between the UK and other geographies such as Euro Zone or the US, and it takes a significant amount of investment to re-engineer the product for

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each geography. Its major customers include leading insurance and re-insurance companies.

The platform for commercial line business in insurance is complicated and takes time for acceptability (and only six companies have platforms that service commercial line in UK – Coforge is among top 2 – competing with likes of CSC (now acquired by DXC), Xchanging, and Sequel). The valuation of such business is very high due to high- margin, operating leverage and scarcity premium. (platforms such as Duckcreek trades at EV/Sales of 20-25x (growth trajectory of 20-25%), which has similar business model as AdvantageGo, implying USD800mn in value). In our opinion, accordingly, the current valuation of AdvantageGo alone would be nearly USD800mn.

The revenue of AdvantageGo is USD40mn (LTM USD35mn) and gross margin 70% and EBIDTA margin >25%—companies need to incur a substantial amount in R&D expense (Coforge gets UK government tax credit for R&D). Coforge is now planning to take the insurance platform aggressively to the US. It has already started entering the US markets with business intelligence module and data warehousing part of the insurance platform. Some modules such as risk aggregation and risk assessment can be also sold in US market, but may need little enhancement. Some modules, which are regulated (policy administration, claim modules, underwriting), and US with varying regulations in different states call for a lot of investments in R&D and may take time to customize and sell in the whole country.

Metlife, GIC and all other large insurance companies use Coforge products in the UK, but not in the US as it is a very regulated and sticky business and not easy to break through large clients. Insurance is one of the most regulated businesses after airlines and pharmaceuticals in the US.

Revenue CAGR of 20.2% over FY17-21; growth to bounce back in FY22E led by strong deal-wins in previous quarters 60 40%

48 32%

36 24% (%)

(USD mn) (USD 24 16%

12 8%

0 0%

Q4FY18 Q2FY19 Q1FY17 Q2FY17 Q3FY17 Q4FY17 Q1FY18 Q2FY18 Q3FY18 Q1FY19 Q3FY19 Q4FY19 Q1FY20 Q2FY20 Q3FY20 Q4FY20 Q1FY21 Q2FY21 Q3FY21 Q4FY21 Insurance Revenue (USD, mn) Insurance Revenue Growth (%)

Source: Company, Edelweiss Research Banking and Financial Services: Fintech disruption a big opportunity Banking and Financial Services (BFS) contribute 17% to total revenue in both Q4FY21 and FY21, with revenue of ~USD108mn in FY21, up 13.7% YoY. Revenue in FY21 stood at ~USD108mn, up by 13.7% YoY. The BFS segment delivered a revenue CAGR of 8.3% over FY17-21.

Asset and Wealth Management has formed much of the BFS revenues historically, but that has been changing as Coforge has been able to scale up its presence among Banks and got empanelled as a preferred partner at two of the world's top ten banks

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over the past 12 months. The company has extensive experience in back-office and middle office automation, and is now aggressively foraying into front-office automation, analytics and digital experience offerings to capture the Covid-19 led increased demand.

Coforge has done many strategic acquisitions in the last few years to acquire key capabilities in this segment.

 In 2015, it acquired Incessant, a global end-to-end BPM solutions provider with capability in the digital integration space, which includes digital legacy integration, digitalisation and automation of business processes. Incessant has strong alliance partnerships with leading platform providers such as Pega Systems and Appian.

 In 2017, through Incessant Coforge, acquired RuleTek, a BPM architecture services company, which further strengthen its Digital Integration capabilities, expand its footprint in the high-opportunity North American market, and add near-shore capabilities to its existing delivery model.

 In 2019, it acquired WHISHWORKS, an IT services and consulting company specializing in MuleSoft and Big Data technologies with relationships with global innovators, including MuleSoft, Salesforce, MapR, and Cloudera.

 In April 2021, it announced the acquisition of SLK Global Solution, a business process transformation enterprise, offering BPM and digital solutions to the financial services industry. It has 30 clients in the US, which will provide a cross selling opportunity and help the company to increase its penetration in the US geography.

BFS revenue growth in FY21 stood at 13.7% YoY, higher than last four years’ average revenue growth of 8.3% 35 27%

28 18%

21 9% (%)

14 0% (USD mn) (USD

7 -9%

0 -18%

Q1FY17

Q2FY17

Q3FY17

Q4FY17

Q1FY18

Q2FY18

Q3FY18

Q4FY18

Q1FY19

Q2FY19

Q3FY19

Q4FY19

Q1FY20

Q2FY20

Q3FY20

Q4FY20

Q1FY21

Q2FY21 Q3FY21 Q4FY21 BFS Revenue (USD, mn) BFS Revenue Growth (%)

Source: Company, Edelweiss Research Transport: A storm is brewing Coforge’s Transport, division includes Travel, Transport and Hospitality, and it contributed 19% to total revenue in both Q4FY21 and FY21. Revenue in FY21 stood at ~USD120mn, down 27.5% YoY. Revenue CAGR during the last four years stood at -2.6%, mainly due to Covid-19 in FY21. Despite the covid-19-led slowdown, it has already started to see some green shoots in the sector with accelerated investments in cloud and higher investments in cybersecurity. It operates in six segments – Airlines, Airports, Hospitality, Travel Distribution, Travel Technology and Surface Transport.

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Airline contribute about ~45% to the Transport business. It works with over 50 airlines, including leading global airlines. Coforge partners in every aspect of passenger and cargo businesses, including customer experience, increasing sales, optimising operations and transforming back-office. The International Air Transport Association (IATA) estimates that travel will recover to 43% of 2019 levels in 2021, which is a 26% improvement over 2020. Overall, IATA expects passenger traffic to grow by 33% over 2020 to 2.4bn.

We estimate that Airport contributes ~15-17% to the Transport business. It provides services to over 15 airports and more than 17 cargo terminals. It provides services such as paperless cargo handling app and Back office automation and Airport operations.

Hospitality, like Airlines, was also severely impacted due to Covid-19. Covid-19 is changing customer behaviour, which is driving increased investments in hi-tech, low- touch solutions using smartphones. Coforge also has casino operators as clients who are making increased investments to bring their casino operations online. The American Hotel & Lodging Association believes that hotel occupancy in the US shall increase from 44% to 52% in 2021 and then increase further to 61% in 2022, though it will still be below the 2019 level of 66%.

In Travel Distribution, the company works on core modernising and migrating from legacy services.

Travel Technology contributes 15–17% to the Transport business. The company helps its clients in transformation of development lifecycle methodologies, infrastructure, culture, and architecture. Some of the business offering it provide includes, PSO Partnership with Google for modernization programs, Legacy modernization and NGP stack, System integration services, End-to-end delivery services, Development partner for new products and features, QE Accelerators for PSS migration and testing, intelligent automation using Robotic Process Automation (RPA), AI and machines learning.

Surface Transport, in our estimate, contributes ~8-10% to the Transport business. Clients here include leading rail companies across the world. Coforge helps them improve their digital capabilities to evolve new business models. Coforge offers services in managing operations and passenger flows, Co-creating unique propositions to digitally transform the customer experience, Unique system integrator capabilities in businesses that include cargo, operations, revenue management, crew operations, and e-commerce.

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Transport revenue slid 27.5% in FY21 due to Covid-19 impact 50 30%

40 15%

30 0%

20 -15%

10 -30%

0 -45%

Q4FY18 Q1FY17 Q2FY17 Q3FY17 Q4FY17 Q1FY18 Q2FY18 Q3FY18 Q1FY19 Q2FY19 Q3FY19 Q4FY19 Q1FY20 Q2FY20 Q3FY20 Q4FY20 Q1FY21 Q2FY21 Q3FY21 Q4FY21 Transport Revenue (USD, mn) Transport Revenue Growth (%)

Source: Company, Edelweiss Research Others: New avenues for hyper growth and compounding Others contributed 31% and 33% to overall revenue in Q4FY21 and FY21, respectively. Revenue growth was the highest in this segment in FY21 at 26.1% to USD192mn. Growth was driven by Cloud, Digital Integration, and Intelligent Automation services. Revenue CAGR was 15.3% during that last four years, which was higher than the company’s average and second only to insurance growth.

It is still a geographic-cluster based business versus rest of business, which is vertical- centric. The company is trying to carve major pieces out of this 33% of business (Others vertical) and bring in great leaders from tier 1 company as a new head to build them into large business over next few years. The above strategy is exactly similar to what Mr. Natarajan Chandrasekaran (current chairman of Tata Sons) did at TCS from 2010-14 to build new avenues for growth, which due can grow exponentially off a small base and thus give a 2–3% kicker to overall growth.

Currently, geographic heads are responsible for managing sub-verticals within the Others vertical in their respective geographies.

There are three major sub-segments within Others:- Retail and Healthcare & Pharma (contribute 10% to aggregate global revenue), Hi-tech & Manufacturing (contributes 8% to aggregate global revenue) and Government outside India (contributes 7% to aggregate global revenue).

Coforge is currently focused on Healthcare and Hitech to build them as separate business units in the future. Since last year, the company has been investing in healthcare with sales and solution team already in place. In Q3FY21 Coforge also won one large deal in Healthcare, which will provide further impetus. For now, the company has hired a sales leader, a consulting leader, and a delivery leader who report to business head of the North America unit while actively looking to hire a dedicated business unit head for the Healthcare segment with a vision to grow the segment in the way it has built the Travel and Insurance segments. Hitech is the next focus area for the company, on which the company plans to invest post-achieving some scale in healthcare.

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Others was fastest growing segment in FY21 50 30%

40 15%

30 0% (% YoY) (% (USD mn) (USD 20 -15%

10 -30%

0 -45%

Q1FY17

Q2FY17

Q3FY17

Q4FY17

Q1FY18

Q2FY18

Q3FY18

Q4FY18

Q1FY19

Q2FY19

Q3FY19

Q4FY19

Q1FY20

Q2FY20

Q3FY20

Q4FY20

Q1FY21

Q2FY21

Q3FY21 Q4FY21 Others Revenue (USD, mn) Others Revenue (%, YoY)

Source: Company, Edelweiss Research Digital capabilities and partnerships: Making right moves The company has invested aggressively to build its digital capabilities over the years, which lead to increase in Digital contribution to 37% of total revenue compared with 20% in FY17. Coforge’s vision of “Engage with Emerging” has allowed it to incubate and industrialize emerging technologies including Cognitive, Blockchain and Automation.

Digital revenue growth during FY17-FY20 was ~40%, much higher than the company’s average revenue growth. The company has built differentiated capabilities in the areas of digital integration and digital process automation over the last few years.

Coforge is a Pega Platinum Partner and has the highest number of Pega certificate consultants in the world. Through previous acquisitions of Incessant and RuleTek, it has built capabilities and strengthened its partnerships. The combined strength of Incessant and RuleTek provides unique capabilities, high certification level and experience team in Pega practices in the area of digital process automation. On the Pega Platform, it provides services in the area of CRM, Case Management, RPA and Decisioning Solutions.

WHISHWORKS’ acquisition in 2019 further strengthened its capabilities in the digital integration space. MuleSoft acts as connector that helps integrating digital backend with the frontend. WHISHWORKS is MuleSoft Strategic Partner and 5 times MuleSoft partner awards winner.

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Strategic partnerships

Source: Company

Key partnerships in various services

Source: Company, Edelweiss Research

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Margin and earnings growth: Below-COGS costs to unleash leverage Coforge’s EBITDA margin between FY17-FY20 remained in a tight range of 16.8% to 17.4%. During most of these periods, the company reinvested profits in improving operational efficiency and increasing technical capabilities while adding management and sales bandwidth. First time in FY21, the company reached EBITDA margin of 18%, an increase of 70bps over FY20, driven by Covid-19 related savings.

The company now targets further margin expansion by 100bps to 19% in FY22E on the back of reversal of Travel business discounts offered in FY’21, tailwinds from operating leverage and increased offshoring. The margin guidance accounts some headwinds from wage hikes, planned 20% increase in billable headcount between beginning of the calendar year till May end and return of travel and utilities cost at latter part of the year.

Billable employee count rose by ~12% from Q2FY21 to Q4FY21; more hires planned between April and May 2021

12,500 10,53811,469 10,274 9,184 9,492 10,281 9,2899,363 9,921 9,966 9,736 10,000 8,196 8,5888,901 8,148 8,235 7,500

5,000

2,500

Q3FY20 Q4FY21 Q1FY18 Q2FY18 Q3FY18 Q4FY18 Q1FY19 Q2FY19 Q3FY19 Q4FY19 Q1FY20 Q2FY20 Q4FY20 Q1FY21 Q2FY21 Q3FY21

Source: Company, Edelweiss Research

Despite EBITDA margin improvement of just 70bps from FY17 to FY21, the reported EPS increased at a CAGR of 16.5% during this period, driven by strong revenue growth and operational efficiencies. We expect EPS CAGR for FY21–23E would accelerate even further to 31.5% on the back of strong revenue growth (Including Inorganic contribution) and EBITDA margin expansion of 130bps.

EBITDA margin to expand further by 130bps over next couple of years 20% 19.3% 19.0% 19%

17.9% 18.0% 18% 17.3% 17.4%

17% 16.8%

16%

15% FY17 FY18 FY19 FY20 FY21 FY22E FY23E

Source: Company, Edelweiss Research

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Shift from onsite to offshore among tailwinds for margin improvement 100%

80% 40% 39% 39% 39% 36% 36% 35% 34% 34% 34% 36% 36% 38% 36% 38% 39%

60%

40% 60% 61% 61% 61% 64% 64% 65% 66% 66% 66% 64% 64% 62% 64% 62% 61% 20%

Q1FY18

Q2FY18

Q3FY18

Q4FY18

Q1FY19

Q2FY19

Q3FY19

Q4FY19

Q1FY20

Q2FY20

Q3FY20

Q4FY20

Q1FY21

Q2FY21

Q3FY21 Q4FY21

Onsite Offshore

Source: Company, Edelweiss Research Outlook and valuation: Structural compounding story with huge option value Coforge ticks off all our “5 Golden rules of turnaround” (new and strong leadership, performance-led incentives, cleaning of tail accounts, building a team of large deal consultants, increase in high-growth digital contribution from a mere 21% in Q4FY17 to 37% in Q3FY21) and we believe the same way for it as we think of Mindtree and LTI (will create value similar to Infosys and TCS). The only difference is unlike Mindtree and LTI, which has a very strong parent in L&T, Coforge is PE-owned, which have exit timelines, although AdvantageGo option value protects downside risk.

The stock is up 6x since undertook DNA research (when Mr. Sudhir Singh joined), which takes 6–24 months (explained in the beginning of report). We believe Coforge’s EPS will compound at 20%+ for a decade primarily led by a structural decline in below-COGS costs, which are primarily semi-variable in nature, AdvantageGo’s potential separate listing will be an add-on, and hence we believe it is the “structural compounding story”.

We estimate Coforge would report a 31.5% earnings CAGR over FY21–23E driven by strong INR revenue growth (24% CAGR) and operating leverage. The stock is trading at 25x Q2FY23E EPS -- lower than its peers. We believe that Coforge demands higher P/E valuation, similar to its peers as well as its historical average due to its improved growth profile, better management quality and strong deal pipeline.

Moreover, the forward P/E multiples are optically high as the value of “AdvantageGo” alone will be USD800mn or 28% of current market cap. We believe Coforge is the “structural compounding story”.

We assign a 35x multiple to Q2FY23E EPS similar to what we have assigned to Mindtree and arrive at a TP of INR5,005.

The biggest assumption in our thesis of great turnaround is that the CEO and his top team would stay. Any major change in top management implies a violation of the most important assumption and 1st rule of our turnaround thesis; hence any such change would call for a re-evaluation.

Morever, revenue growth trajectory has improved from a 2.9% CAGR during FY14- 17 to 12.2% CAGR ((Ex GIS hive-off and despite 6.9% growth in FY21 due to Covid- 19) during FY17–21. Revenue growth would have been 18.4% in CC excluding the

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COFORGE

decline of 27.5% in Transport vertical in FY21 due to the Covid-19. We expect organic INR revenue growth to accelerate further to 32.3% and 15.9% in FY22E and FY23E, respectively, driven by a strong exit rate, bounce-back in Transport Vertical, a strong deal pipeline, and high next-12 months’ executable order book. We expect 10% of inorganic contribution from acquisition of SLK Global Solutions in FY22E.

The Transport segment (includes Travel and Hospitality) will be among the fastest in the next couple of years. We believe demand for travel will increase as Unmasking, which has already started in some part of the world including the US and Israel, will start to happen in other developed geographies. This will lead to increased investments to build digital capabilities to capture demand as people are likely start travelling meaningfully in second half of 2021.

Revenue for the coming year is highly correlated to next 12 month’s executable order book. Average ratio of next 12 months’ revenue to next 12 months’ executable order book between FY16-FY20 is 1.46 (Not considered FY21, being an exceptional year due to the Covid-19). Our FY22E organic revenue estimates are at 1.48x of next 12 months’ executable order book, which is lower than FY19-FY20 average and marginally higher than the FY16–20 average.

All in all, we are initiating Coforge with ‘BUY’ and value the company at 12-month forward target price of INR5,005/share, based on 35x P/E multiple on Q2FY23E EPS, implying 41% potential upside.

Organic revenue growth in FY22E is 1.46 times next 12 months’ executable order book 1.60 1.50 1.46 1.54 1.52 1.52 1.44 1.48 1.45 1.44 1.38 1.40 1.39

1.36 1.33 1.32

1.28 1.26

1.20 1.20 FY16 FY17 FY18 FY19 FY20 FY21 FY22E Next 12m Revenue to Next 12m Executable order book Average Ratio

Source: Company, Edelweiss Research

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One-year forward valuation 35 Currently trading at one year forward P/E of 21.7x, post adj. for 29.9x 28 AdvantageGo's USD800mn valuation

21 18.4x 21. 13.… 14

7 8.2x

Nov-12 Nov-13 Nov-14 Nov-15 Nov-16 Nov-17 Nov-18 Nov-19 Nov-20

May-13 May-14 May-15 May-16 May-17 May-18 May-19 May-20 May-21 P/E Average +1SD -1SD

Source: Company, Edelweiss Research

Coforge to deliver strong operating cash flow as …free cash flow, driven by strong earnings well as…. 12,500 10,000

9,944 7,954 10,000 8,000

7,258 5,837 7,500 6,000

4,723 3,850 3,824 5,000 4,527 4,358 4,000 3,343 3,824 2,936 2,969 2,244 2,500 2,000

0 0 FY17 FY18 FY19 FY20 FY21E FY22E FY23E FY17 FY18 FY19 FY20 FY21E FY22E FY23E

Source: Company, Edelweiss Research Source: Company, Edelweiss Research

Our earnings estimates are 2-6% above estimates. Our Estimates Vs Consensus FY22E FY23E FY24E Our Estimates - Revenue 61,687 71,466 84,939 Consensus Revenue 60,340 70,458 83,506 Difference (%) 2.2% 1.4% 1.7% Our Estimates - EBITDA 11,748 13,805 15,898 Consensus EBITDA 11,359 13,395 15,462 Difference (%) 3.4% 3.1% 2.8% Our Estimates - EBIT 9,404 11,089 12,840 Consensus EBIT 8,937 10,624 12,298 Difference (%) 5.2% 4.4% 4.4% Our Estimates - EPS 115 136 158 Consensus EPS 109 134 151 Difference (%) 5.6% 1.9% 5.1% Source: Company, Edelweiss Research

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Key Risks

Key risks are as follows:

 Delay in Transport segment (Inc Travel and Hospitability) recovery: We are building USD revenue CAGR growth of 18% during FY21-FY23E, as we expect strong recovery in this segment as Unmasking starts in major economies. Any delay in opening up of economy and opening up of travel between the counties can delay recovery in this segment.

 Client concentration: Top 5 and Top 10 clients contribute 24% and 34% to revenue, respectively, in FY21, and any loss of key client can derail Coforge’s growth momentum.

Top client revenue contribution

34%

24% 66%

Top 5 Top 10 Rest of Clients

Source: Company, Edelweiss Research

 Geographic concentration: By geography, Americas and EMEA collectively contributes 86% to total revenue. The Covid-19 continues to remain a significant threat to recovery of global economies and any significant outbreak in a key geography – like the ones in India and Brazil – can slow deal momentum.

Geographic contribution

10% 8% 7% 17%

33%

uring

India

Hi-tech&

Manufact

nt outside

&Pharma

Retailand Governme

Healthcare 31%

19%

Banking and Financial Services Insurance Transport Others

Source: Company, Edelweiss Research

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 Supply-side issues: Attrition has picked up for some larger peers over the last quarter, and we are hearing from companies across the board that demand for talent, especially in India due to higher offshoring, has increased significantly. Any material pickup in attrition can impact Coforge’s ability to meet project deadlines.

Attrition is lower than historical average, though we expect a pick-up 15% 13.4% 12.6% 12.9% 12.1% 11.7% 12.3% 11.8% 10.4% 12% 10.6% 10.1% 10.5% 10.5%

Q1FY17

Q2FY17

Q3FY17

Q4FY17

Q1FY18

Q2FY18

Q3FY18

Q4FY18

Q1FY19

Q2FY19

Q3FY19

Q4FY19

Q1FY20

Q2FY20

Q3FY20

Q4FY20

Q1FY21

Q2FY21 Q3FY21 Q4FY21 Source: Company, Edelweiss Research

 Currency risk: The exchange rate volatility in USD, EUR and GBP vis-a-vis INR can cause the company’s reported INR revenue to fluctuate significantly.

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Company Description

NIIT Technology was rebranded as Coforge in 2020, after Baring Private Equity Asia acquired a majority stake in the company. The company was established in 1984 and split out of its parent company in 2004–05.

Coforge focuses on select industries with three key units—BFS (17% of total revenue in Q4FY21), Transport (19% of total revenue in Q4FY21) and Insurance (31% of total revenue in Q4FY21). Remaining businesses were clubbed under Others (33% of total revenue in Q4FY21). Within Others, there are three key verticals—Retail and Healthcare & Pharma (10% of aggregate revenue), Hi-tech & Manufacturing (8% of aggregate revenue), Government outside India (7% of aggregate revenue).

In terms of geographies, Americas, EMEA and rest of the world contributed 48%, 37% and 15%, respectively.

Coforge recently reclassified its practices. In FY21, revenue contribution was ADM at 27% of total revenue, CISM at 21%, BPM at 2%, Product engineering at 16%, Data & Integration 20% and Intelligent Automation 15%.

In April 2019, Baring Private Equity Asia signed a definitive share purchase agreement to acquire a 30.04% stake from promoter (NIIT Ltd) and promoter entities. This, as per SEBI Regulations, triggered an open offer to public shareholders of NIIT Technologies. Baring Private Equity Asia fund acquired a 35% stake through open offer. At the end of March 2020, its ownership in Coforge stood at 63.99%.

The total headcount at the end of Q4FY21 was 12,391, of which 11,469 are billable employees. Attrition in Q4FY21 was 10.5% compared with 11.8% in Q4FY20. Utilization in Q4FY21 stood at 81% compared with 78.1% in Q4FY20.

Billable employee count shot up in the quarter and set to rise amid strong demand 12,500 10,53811,469 10,274 9,184 9,492 10,281 9,2899,363 9,921 9,966 9,736 10,000 8,196 8,5888,901 8,148 8,235 7,500

5,000

2,500

Q2FY20 Q2FY18 Q3FY18 Q4FY18 Q1FY19 Q2FY19 Q3FY19 Q4FY19 Q1FY20 Q3FY20 Q4FY20 Q1FY21 Q2FY21 Q3FY21 Q4FY21 Q1FY18 Source: Company, Edelweiss Research

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Utilization levels 83%

81.2% 80.7% 80.4% 80.5% 81.0% 81.0% 81% 80.1% 79.5% 79.5% 79.3% 79.3% 79.0% 79% 79.0% 78.9% 78.1%

77% 77.0%

76%

74%

Q1FY18 Q2FY18 Q3FY18 Q4FY18 Q1FY19 Q2FY19 Q3FY19 Q4FY19 Q1FY20 Q2FY20 Q3FY20 Q4FY20 Q1FY21 Q2FY21 Q3FY21 Q4FY21

Source: Company, Edelweiss Research

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Board of Directors

Basab Pradhan - Non Executive Chairman Sudhir Singh - CEO & Executive Director He has 32 years of total experience with 27 years in He joined the company in May 2017 as CEO IT Services. He has previous experience working in designate. Sudhir has 24 years of experience across Infosys, and Hindustan Unilever. Unilever (Hindustan Lever), Infosys and Genpact.

Kenneth Cheong - Non Executive Director Hari Gopalakrishnan - Non Executive Director He is a Managing Director and a Member of the He is a Managing Director in Baring Private Equity investment committee of Baring Private Equity Asia's ("BPEA"). He invest in Technology and Asia's ("BPEA"). He is involved in BPEA's investment Healthcare sector. in South East Asia, India, China, U.S. and Korea.

Patrick Cordes - Non Executive Director Holly J. Morris - Non Executive Independent Director She has extensive experience working as a corporate He is a Managing Director and CFO of Baring Private IT and operations executive in Fortune 500 global Equity Asia's ("BPEA"). He is responsible for financial services organizations, local government overseeing the finance, tax, portfolio monitoring, and manufacturing. She previously worked in legal, compliance, IT, among others. Thrivent Financial, America express and ING.

Ashwani Puri - Non Executive Independent Director Kirti Hariharan - Non Executive Director He is a Financial Management veteran and has He is the General Counsel of Baring Private Equity extensive experience in investment/acquisition Asia's ("BPEA") and joined BPEA in 2011. He is advisory services, valuation and decision analysis, responsible for legal matter associated with BPEA's among others. He is also Non Executive Director of fund raising fund raising and investment efforts. Aditya Birla Finance Limited.

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COFORGE

Management Overview

Sudhir Singh – Chief Executive Officer Mr. Singh serves on the company’s Board of Directors too. He joined the company in May 2017 as CEO-designate. With 24 years of experience spanning Unilever (Hindustan Lever), Infosys and Genpact, Mr. Singh started his career at Hindustan Level and spent six years in Sales and Brand Management. Subsequently, he spent close to a decade at Infosys in the US, wherein he served across many positions. Before joining Coforge, he was the COO of IT Services and Capital market business at Genpact for seven years. He holds an engineering degree from IIT Varanasi and an MBA from IIM Kolkata. Mr. Singh is based in Princeton, New Jersey. Ajay Kalra – Chief Financial Officer Mr. Kalra joined Coforge in November 2019. Prior to that, he was Senior Vice President and Global Controller at Genpact. In his 20-year stint at Genpact, he held critical roles in Genpact Finance, including leading the Pricing function. He was also the Vertical Finance leader for the High Tech business. He is a Chartered Accountant and a commerce graduate from Delhi University with a total of 25 years of experience. Anurag Chauhan – EVP & Global Head of Insurance Mr. Chauhan joined Coforge in April 2018. As an additional responsibility, he oversees the firm’s business in the US with clients in Others vertical. With a 12-year stint at Accenture as an MD, he led Technology Consulting and Implementation Services sale and delivery for global clients. Additionally, he was part of the Accenture Cloud Global Senior Executive Committee. He has 23 years of industry experience in consulting, delivery, sales, servicing, large deals and strategic partnerships. Mr. Chauhan holds an MBA from Booth School of Business, an MS from SIU and a B Tech from IIT BHU. Gautam Samanta – EVP & Global Head of BFS Mr. Samanta joined Coforge in 2017. He is responsible for driving growth in the BFS vertical. As an additional responsibility, he oversees the firm’s business in US with clients in the Others vertical. He has a total of 24 years of experience. Earlier, Mr. Samanta worked at Infosys, wherein he served as VP and Global Client Partner in Financial Services, and managed a fast-growing portfolio of accounts in Europe. He is an alumnus of IIT Kharagpur and IIM Calcutta. Madan Mohan – EVP & Global Head of Travel and Transport Mr. Mohan joined Coforge in 2018. He has over 27 years of industry experience with strong expertise in large programmes, joint venture, and large deals in the area of Automation, Data, Analytics, Digital and BPM. He spent 16 years at Infosys in the US, where he was an invitee to the Infosys Global Management Committee. Adrian Morgan – EVP & Head of AdvantageGo Mr. Morgan heads AdvantageGo, the commercial insurance and reinsurance software product family. He is responsible for strategic direction and the operations of the product family. Mr. Morgan has more than 20 years of experience and expertise in delivering technology services to the global insurance industry. Prior to Coforge, Mr. Morgan worked as the UK Transformation Practice Head at CSC.

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Sanjeev Prasad – EVP & Global Business Head of APAC & Coforge DPA Mr. Prasad joined Coforge in July 2019 and brings more than 30 years of experience as a serial entrepreneur, business leader and CIO for large global corporations. He has been part of the global leadership team at Genpact and Sutherland, and was a founder of STG International. He has an MS in Industrial Engineering from the University of Texas. He has also been on the advisory boards of Oracle, Gartner and Avaya. John Speight – Chief Delivery Officer and Head of Business Advisory Mr. Speight is Chief Delivery Officer and heads the business advisory group across verticals and geographies. With 30 years of experience in the financial sector in IT services, Mr. Speight was earlier associated with Genpact and has held multiple roles, running strategic programmes focussed on delivering business outcomes. Vic Gupta – Global Business leader of Digital and AI Services Mr. Gupta joined Coforge in Oct 2017 and brings more than 25 years of experience in the IT Industry. He is responsible for the overall Digital vision, roadmap and execution. His experience spans spent 13 years at Microsoft in multiple roles and as cofounder of a Digital agency with primary focus on digital experience design, digital marketing and digital ecommerce development. He is a Bachelor of Science in Computer Information Systems from Drexel University. Kannika Sagar – Chief People Officer Ms. Sagar joined Coforge in February 2020 and has 25+ years of HR experience. She was earlier the Chief People Officer at HCL Infosystems. Prior to that, she was associated with Aon Hewitt, Cadbury and Arvind Mills. Ms. Sagar is a Bachelor of Psychology from Delhi University and is a postgraduate from XLRI, Jamshedpur.

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COFORGE

Industry Outlook

The pandemic is estimated to have caused a 3.3% contraction in world output in CY2020, with advanced economies contracting 4.7%, and many sectors such as travel, hospitality, transportation, aerospace, consumer discretionary and small enterprises getting impacted severely. Consequently, as per Nasscom, global technology spends declined 3.2% to about USD1.4tn in 2020. Within that, IT services spending declined more, down 3.9%, while Business Process Management decreased by 2.4%

While the spending showed a decline on a full-year basis, technology took centre stage in enterprises’ response to the pandemic-related lockdowns and thereafter. After the initial contraction due to dislocations, the need for business continuity, operational resilience and the switch to digital transactions unleashed strong demand for IT services over the rest of the year.

IBEF reported that IT spending in India is estimated to increase by 6% to USD81.9bn in 2021. According to a NASSCOM survey, global firms have highlighted a few key emerging trends such as Infrastructure on Cloud, Cybersecurity, Big Data & Analytics, Artificial Intelligence (AI), Machine Learning (ML), Internet of Things (IoT), Block Chain and edge computing.

In 2019, the global technology industry was USD1.5tn (excluding ER&D & Hardware), and grew at 5.6% YoY. The BPM industry grew at 4.5% to USD208bn in 2019, led by increased SaaS adoption, Artificial Intelligence and Intelligent Automation. In the BPM industry, BPM 4.0 model is witnessing a significant increase in its acceptance, focusing more on digital intervention and reducing dependency on legacy processes. IBEF estimated that Indian IT & BPM industry is expected to grow to USD350bn by 2025 and BPM is expected to account for USD50-55bn out of total revenue. The IT- BPM sector would add 24,900 contract workers in FY20–21, compared with >10,000 last year, according to data analysed by ISF.

We believe digital transformation is accelerating rapidly across sectors, the global pandemic has driven demand for internet, which has become a lifeline for people both for work and entertainment, thereby increasing demand for cloud and data centres.

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Additional Data Management Holdings – Top 10* CEO Sudhir Singh % Holding % Holding CFO Ajay Kalra Hulst BV 63.99 ASHOKA INDIA OP 1.28 AXIS MUTUAL FUN 2.59 HDFC TRUSTEE CO 1.24 Auditor S R Batliboi SMALLCAP WORLD 1.97 AKM SYSTEMS PRI 1.21 ABU DHABI INVES 1.6 ADITYA BIRLA SUN 1.19 MIRAE ASSET EME 1.31 *Latest public data

Rating Interpretation Daily Volume 10 3600

3050 8

2500 6 (INR)

1950 (Mn) 4

1400 2 850 Jun-18 Dec-18 Jun-19 Dec-19 Jun-20 Dec-20 0 COFORGE IN EQUITY Buy Hold Reduce Jun-18 Dec-18 Jun-19 Dec-19 Jun-20 Dec-20

Source: Bloomberg, Edelweiss research Source: Bloomberg

Rating Distribution: Edelweiss Research Coverage Rating Rationale

Buy Hold Reduce Total Rating Expected absolute returns over 12 months

Rating Distribution* 169 57 16 243 Buy: >15%

>50bn >10bn and <50bn <10bn Total Hold: >15% and <-5%

Market Cap (INR) 206 47 3 256 Reduce: <-5% *1 stocks under review

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India Equity Research IT June 3, 2021

FIRSTSOURCE SOLUTIONS

INITIATING COVERAGE

KEY DATA Rating BUY Growth rudder: BPM transition to digital Sector relative Outperformer Price (INR) 140 12 month price target (INR) 202 Firstsource Solutions (FSOL) is a leading player in the business process Market cap (INR bn/USD bn) 97/1.3 management (BPM) industry. Part of RP–Sanjiv Goenka Group, FSOL Free float/Foreign ownership (%) 43.5/10.5 provides bespoke services and solutions across Financial Services, Healthcare, Communications and Technology industries. INVESTMENT METRICS 65 The Indian IT-BPM industry is undergoing a structural shift from a 50 preference for accent/proximity to technological capabilities led by 35

20 digital adoption. FSOL has hired the right team and built capabilities at

5 the inception of this shift; it derives 90%+ revenue from high- growth Sales Growth EPS Growth RoE PE (%) (%) (%) (x) industries (BFSI, Healthcare & Media & Tech) and markets (US, IT FSOL IN EQUITY Canada, UK), which should enable it to post robust revenue/EPS of CAGR 20%/28.3% over FY20–23E. Initiate with ‘BUY’ and TP of INR202. FINANCIALS (INR mn) BPM’s digital transformation: A structural shift that favours India Year to March FY21A FY22E FY23E FY24E The global BPM industry is 13–14% (USD200bn) of global IT spends (USD1.5tn) and Revenue 50,780 61,045 70,869 75,159 global sourcing 40–45% versus 70%+ for IT services; it makes up 20% of Indian IT- EBITDA 8,042 9,671 11,527 12,702 Adjusted profit 3,617 5,913 7,305 8,222 BPM revenue, implying massive under-penetration due to proximity/accent/client Diluted EPS (INR) 5.1 8.4 10.4 11.7 preferences. Digital execution puts India back on the global radar. Meanwhile, FSOL EPS growth (%) 4.9 63.5 23.5 12.6 derives 90%+ revenue from high-growth industries (BFSI, Healthcare, Media & Tech) RoAE (%) 13.0 20.2 22.8 23.3 and markets (US, UK). IBEF estimates Indian IT BPM revenue would grow from P/E (x) 27.6 16.9 13.6 12.1 USD38bn to USD50–55bn over FY21–25E (at a 7% CAGR). EV/EBITDA (x) 12.7 10.3 8.4 7.3 Dividend yield (%) 2.1 2.4 3.5 4.2 Eyes on future: FSOL’s digital leadership at inception of industry shift FSOL has hired senior executives (COO, chief digital officer, two presidents and two PRICE PERFORMANCE business heads) since Mr. Vipul Khanna took over as MD & CEO in Aug-19. It posted

150 53,000 robust CC growth of 31.7%/23.8% YoY in Q4FY21/Q3FY21. EBITDA expanded 210bps 125 49,000 to 16% in Q4FY21 from 13.9% in Q2FY19. The company has strengthened its digital 100 45,000 solutions spanning Analytics and AI, Intelligent Automation (IA), and Customer 75 41,000 Experience. In BFS, FSOL has a track record of transforming retail banks—it works 50 37,000 25 33,000 with five out of top ten mortgage service providers in the US, three of top six banks Jun-20 Sep-20 Dec-20 Mar-21 Jun-21 in the UK and five out of top 15 lenders in the US. In Healthcare, It is among a select FSOL IN EQUITY Sensex few BPM players to cater to clients in both provider and payer segments.

Outlook and valuations: Favourable tailwinds; initiate with ‘BUY’ Explore: We are initiating coverage on FSOL as it ticks off the “5 Golden rules of turnaround” of our proprietary framework and DNA research. We estimate FSOL would post a robust revenue/EPS CAGR of 20%/28.3% over FY20–23E riding: i) digital adoption- led acceleration in the BPM industry; ii) digital leadership; and iii) 90%+ revenue from high- growth industries (BFS, Healthcare, Communications) and markets (US, UK). Financial model Podcast FSOL posted 17.9% organic growth in FY21 after years of underperformance along with an uptick in its return ratios and cash collections, not to mention dividend distribution of 62% in FY20. The stock is trading at an attractive 14x Q2FY23E EPS. We are initiating the stock at ‘BUY/ Sector Outperformer’ with a TP of INR202 at 20x Corporate access Video Q2FY23E EPS, implying 43% upside potential.

Sandip Agarwal Pranav Kshatriya Ayur Bohra Ayur Bohra +91 (22) 6623 3474 +91 (22) 4040 7495 [email protected] [email protected] [email protected] [email protected]

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FIRSTSOURCE SOLUTIONS

Executive Summary

Digital leadership at inception of industry’s digital shift FSOL appointed Mr. Vipul Khanna as its Managing Director and CEO in August 2019 to build up new offerings and accelerate growth. Mr. Khanna had been at Cognizant for almost a decade heading its digital operations as Executive Vice President & Global Head. At Cognizant, he transformed the small BPO business into one of the top five global BPO businesses across industry segments using digital assets and “Firstsource delivered industry-leading revenue growth of 35.4% YoY, with all technologies. segments growing consistently. I’m very Mr. Khanna has a track record of significantly scaling up start-up businesses. Prior to pleased with how our digital services Cognizant, he was CEO of UBS’s Internal Service Company and built it into a leading offerings continue to mature and scale, enabling us to play an integral role in our research, capital market operations and IT business. At Firstsource, he has a clear clients’ digital journeys.” goal of driving the overall growth performance. The new CEO quickly hired several senior leaders to realise the goal—an indicator of the things to come in our view. Dr. Sanjiv Goenka Digital Transformation a structural shift that favours India Chairman, RPSG Group The global BPM industry is undergoing a big structural shift and is a huge gift to India. In the past, BPM industry (unlike IT services) was not an India-only play or India- dominance play as client preferences for proximity, accent and culture led to slower global sourcing and slower outsourcing to India despite India’s cost arbitrage (this clearly reflects in low global sourcing of 40–45% in BPM versus 70%+ in IT services). The above also clearly reflects in the lower CAGR of BPM revenue from FY13 to FY20 versus FY06–13 (client with cost preferences chose India).

But the good news now is digital transformation has led to new revenue streams such as Artificial Intelligence (AI), analytics and automation emanating from the BPM industry as clients have been swayed by depleting ratio of information to data. This calls for faster and greater processing and a quick response time, thereby embedding high-end technology with BPM. We believe this is the inflexion point for Indian BPM industry as BPM would converge with IT services going forward. This in turn implies India’s dominance coming back to the industry and taking precedence over earlier priorities of proximity/accent etc. versus capabilities. Digital transformation sweeping across sectors Under Mr. Vipul Khanna, FSOL is strategically well positioned to capitalise on the above shift as he comes with a technology acumen vision. FSOL can potentially exploit growth opportunities across Healthcare, Banking & Financial Services (BFSI), and Communications, Media & Technology (CMT) sectors, leveraging a powerful combination of industry knowledge, human expertise and digital technologies. Moreover, management is ratcheting up investments in sales, account management and solution development capabilities across sectors to further consolidate market position. It also includes newly launched Digitally Empowered Customer Centre (DECC) offerings that are designed to meet interaction needs of the modern consumer.

FSOL works with five out of top 15 mortgage servicers in the US, three of top six retail banks in the UK and five out of top 15 lenders in the US. It also works with 1,000+ hospitals in the US, six of top ten health insurance companies in the US, one of the top three utility companies in the UK, five of top ten credit card issuers in the US, one of top two broadcasting and media companies in the UK, and two of top six telecom and broadcasting companies in the US. The average tenure of its top five clients (accounting for 46% of revenue) is 14.4 years and that of top client (17.5% of

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FIRSTSOURCE SOLUTIONS

revenue) is 19.2 years, which highlights the strength of relationship it enjoys with its clients. FSOL’s 36 global delivery centres enable it to serve 100+ clients, including 17 Fortune 500 and nine FTSE 100 companies. Pandemic accelerates digital adoption and technological execution The pandemic has disrupted several industries across countries, including the global IT-BPM industry. The disruption has accelerated remote working with an immediate focus on assessing and stabilizing the end-to-end value chain. Coming out of covid- 19, there is likely to be an uptick in appetite for digitalisation and modernisation. The new normal post-covid-19 for organisations will most likely lead to rapid adoption of new technologies with accelerated velocity, high leverage of technology in talent management, tech-enabled ways of remote working and integrated approach to portfolio design. We believe covid-19 has exposed the fault lines of traditional communication channels, and business continuity planning has accelerated adoption of digital transformation. Digital First, Digital Now capitalises on industry shifting back to India FSOL has strengthened its digital services on the back of platform-based services (e.g. Digital Collections) with an integrated IT, operations and infrastructure solution to drive better outcomes for clients. The approach is centred on creating leading- edge digital solutions that instil a digital-first mindset. Sympraxis, FirstCustomer Intelligence, MFocus, iLeverage and AnalyticsFirst are some of the company’s prominent offerings across domains. We believe there will be strong momentum across digital platforms. FSOL has digitalised technology into talent management throughout employee life-cycle from on-boarding to performance management. The services segment includes Digitally Empowered Contact Centres (DECC), Intelligent Back Office and Platforms, and Automations & Analytics. We believe strong momentum in spending and deal-wins in digital technologies will be the key catalyst to long-term growth. Global BPM industry opening up in a big way The BPO industry has been impacted due to the ongoing COVID-19 crisis. According to GlobalData, BPO market in the country is expected to recover in 2021 and register a CAGR of 2.5% over the forecast period 2019–24. The Indian IT-BPM industry, which has a 52% share of the global services industry, is expected to benefit from the above opportunities. India is the world's largest sourcing destination with the largest qualified talent pool of technical graduates in the world. Strong revenue growth momentum likely to sustain FSOL’s revenues increased at a CAGR of 5% over FY16–20. We expect FSOL to clock a CAGR of 20% over FY20–23E driven by increased contribution from top client, new logo-wins in BFS and media & technology, traction in UK BFS & retail business, and improvement in mortgage business. We expect a revenue CAGR of 32.7% in BFSI over FY20–23E. Post-leadership changes in FY20, the business filled the gaps and is now ready to compound on its own.

The new CEO joined in from Cognizant and has also roped in senior vertical heads from Cognizant, similar to other IT mid-cap firms. The company has guided for revenue growth of 15–18% in constant currency for FY22 with a normalized operating margin of 11.8–12.3% and posted very high CC organic growth of 17.9% in FY21.

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Outlook and valuation: Initiate with ‘BUY’ We are initiating coverage on FSOL with a ‘BUY/Sector Outperformer’ recommendation. Our target price of INR202 is based on 20x Q2FY23E EPS, which is at a discount to global peers, considering the company’s lower-margin profile. We estimate FSOL would report a 28.3% earnings CAGR over FY20–23E driven by a 20% revenue CAGR and new deal-wins.

We believe: i) digital adoption implies a structural shift for the BPM industry back to India as proximity/accent benefits gets overruled by technology/software capabilities; ii) appointment of new CEO Mr. Vipul Khanna, who comes in with a vast experience in digital operations from Cognizant and his flawless execution in filling key leadership positions is testimony to his vision for growth; iii) focus on return ratios, profitability, and cash distribution along with getting future-ready with Intelligent automation services (digital deal pipeline getting stronger after Mr. Sundara joined as chief digital officer) imply both growth and profitability are priorities.

The stock is trading at 14x Q2FY23E EPS. While we are confident of FSOL’s robust growth, with 188% stock returns since the new CEO took over, we don’t rule times of underperformance. But now the business is in a self-compounding mode. Key risks: High client concentration, currency appreciation Apart from macroeconomic risks, the key risk for FSOL is INR appreciation, which can have a big impact on its revenue. Disappointment in revenue growth and further margin compression are other downside risks.

Other concerns are high-client concentration, geographic concentration, increased competitions, financial instability due to unforeseen events and the global pandemic caused by covid-19, which can lead to delays in sales and unemployment rates across geographies impacting overall revenues. We are also seeing rising competitive intensity among existing players, either via deal-wins or at price points that could pressure margins in the short term.

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The Story in Charts

Revenue and growth EBIT and EBIT margins

1200 25% 10,000 14.0% 12.9% 18.5% 20.9% 976 12.6% 960 20% 8,000 12.0% 12.8% 829 11.8% 685 17.7% 720 15% 6,000 11.1% 11.6% 578 10.8% 530 548 548 10.7% 491 9,148 480 10% 4,000 7,676 10.4% 7.9% 5,979 4,610 240 5% 2,000 3,790 3,930 4,437 9.2% 3.4% 5.5% 0 0.0% 0% - 8.0% FY16 FY17 FY18 FY19 FY20 FY21 FY22E FY23E FY17 FY18 FY19 FY20 FY21 FY22E FY23E

Revenue (USDmn) Growth (%) EBIT (INRmn) EBIT margins (%)

Source: Company, Edelweiss Research Source: Company, Edelweiss Research Revenue by industry Revenue by geography

100% 0% 0% 2% 2% 100% 3% 7% 3% 1% 1% 1% 19% 32% 34% 28% 23% 80% 80% 37% 31% 38% 44% 44% 27% 60% 33% 60% 34% 36% 37% 40% 40% 61% 68% 52% 55% 54% 55% 20% 41% 20% 32% 29% 36%

0% 0% FY17 FY18 FY19 FY20 FY21 FY17 FY18 FY19 FY20 FY21

BFS Healthcare CMT Diverse Industries USA UK Rest of the World

Source: Company, Edelweiss Research Source: Company, Edelweiss Research Revenue by client concentration Employee data

100% 18,000 16,289 15,446 80% 14,400 57% 54% 59% 59% 59% 11,450 60% 10,800 8,809 8,968

40% 18% 7,200 21% 17% 20% 25% 20% 3,600 22% 28% 25% 21% 16% 10,425 9,894 9,744 9,753 11,715 0% - FY17 FY18 FY19 FY20 FY21 FY17 FY18 FY19 FY20 FY21

Top customer Top 2-5 customers Rest customers Employees in India Employees outside India

Source: Company, Edelweiss Research Source: Company, Edelweiss Research

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Financial Statements

Income Statement (INR mn) Balance Sheet (INR mn) Year to March FY21A FY22E FY23E FY24E Year to March FY21A FY22E FY23E FY24E Total operating income 50,780 61,045 70,869 75,159 Share capital 6,961 6,961 6,961 6,961 Cost of revenues 34,672 41,717 48,194 50,807 Reserves 21,032 23,588 26,696 29,884 Gross Profit 16,108 19,327 22,675 24,351 Shareholders funds 27,993 30,549 33,657 36,845 SG&A 8,065 9,656 11,148 11,650 Minority interest 5 5 6 6 EBITDA 8,042 9,671 11,527 12,702 Borrowings 5,213 5,213 5,213 5,213 Depreciation 2,064 1,960 2,039 2,104 Trade payables 2,788 3,346 4,015 4,818 EBIT 5,979 7,711 9,488 10,597 Other liabs & prov 6,860 8,129 9,641 11,444 Add: Other income (13) 20 20 30 Total liabilities 48,297 53,767 60,362 67,721 Profit before tax 5,469 7,211 8,908 10,027 Net block 2,895 2,839 2,799 2,794 Prov for tax 702 1,298 1,603 1,805 Intangible assets 27,081 27,081 27,081 27,081 Less: Other adj (1,151) 0 0 0 Capital WIP 0 0 0 0 Reported profit 3,617 5,913 7,305 8,222 Total fixed assets 29,976 29,919 29,880 29,875 Less: Excp.item (net) 0 0 0 0 Non current inv 117 117 117 117 Adjusted profit 3,617 5,913 7,305 8,222 Cash/cash equivalent 1,373 4,195 7,168 10,712 Diluted shares o/s 705 705 705 705 Sundry debtors 5,767 6,376 7,522 8,326 Adjusted diluted EPS 5.1 8.4 10.4 11.7 Loans & advances 0 0 0 0 DPS (INR) 3.0 3.5 4.9 5.9 Other assets 7,864 9,437 11,324 13,589 Tax rate (%) 12.8 18.0 18.0 18.0 Total assets 48,297 53,767 60,362 67,721

Important Ratios (%) Free Cash Flow (INR mn) Year to March FY21A FY22E FY23E FY24E Year to March FY21A FY22E FY23E FY24E Cost of revenues (%) 68.3 68.3 68.0 67.6 Reported profit 3,617 5,913 7,305 8,222 SG&A expenses (%) 15.9 15.8 15.7 15.5 Add: Depreciation 2,064 1,960 2,039 2,104 Depreciation (%) 4.1 3.2 2.9 2.8 Interest (net of tax) (5,871) (8,840) (10,200) (10,200) EBITDA margin (%) 15.8 15.8 16.3 16.9 Others 12,842 10,553 11,380 12,617 Net profit margin (%) 7.1 9.7 10.3 10.9 Less: Changes in WC 2,895 819 556 1,228 Revenue growth (% YoY) 24.3 20.2 16.1 6.0 Operating cash flow 9,756 8,768 9,967 11,515 EBITDA growth (% YoY) 27.9 20.3 19.2 10.2 Less: Capex (1,731) (1,904) (1,999) (2,099) Adj. profit growth (%) 6.5 63.5 23.5 12.6 Free cash flow 8,025 6,864 7,967 9,416

Assumptions (%) Key Ratios Year to March FY21A FY22E FY23E FY24E Year to March FY21A FY22E FY23E FY24E GDP (YoY %) (8.0) 9.5 7.0 7.0 RoE (%) 13.0 20.2 22.8 23.3 Repo rate (%) 4.0 4.0 4.3 5.3 RoCE (%) 17.3 22.4 25.5 26.3 USD/INR (average) 74.2 73.0 72.0 71.0 Inventory days 0 0 0 0 Tax rate (%) 12.8 18.0 18.0 18.0 Receivable days 41 36 36 38 Capex (INR mn) 1,731.0 1,904.1 1,999.3 2,099.2 Payable days 20 27 28 32 Receivable days 46.4 42.0 42.0 42.0 Working cap (% sales) 2.6 1.8 1.9 1.3 Payable days 19.7 26.8 27.9 31.7 Gross debt/equity (x) 0.2 0.2 0.2 0.1 Cash conversion cycle 26.7 15.2 14.1 10.3 Net debt/equity (x) 0.1 0 (0.1) (0.1) Net emp addition 6,801.0 4,000.0 3,000.0 (2,000.0) Interest coverage (x) 12.0 14.8 15.8 17.7

Valuation Metrics Valuation Drivers Year to March FY21A FY22E FY23E FY24E Year to March FY21A FY22E FY23E FY24E Diluted P/E (x) 27.6 16.9 13.6 12.1 EPS growth (%) 4.9 63.5 23.5 12.6 Price/BV (x) 3.6 3.3 3.0 2.7 RoE (%) 13.0 20.2 22.8 23.3 EV/EBITDA (x) 12.7 10.3 8.4 7.3 EBITDA growth (%) 27.9 20.3 19.2 10.2 Dividend yield (%) 2.1 2.4 3.5 4.2 Payout ratio (%) 57.7 41.2 47.6 50.8

Source: Company and Edelweiss estimates

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Investment Rationale

Digital leadership at inception of digital shift for industry  The BPM industry grew at 4.5% YoY to USD208bn in 2019, led by increased SaaS adoption, Artificial Intelligence and Intelligent Automation.  Mr. Vipul Khanna, the new CEO and MD, has a rich experience of 25 years in digital business processes and operations We believe his experience and credentials will help drive the company’s overall growth performance. He has roped in many senior leaders from larger firms to accelerate growth at Firstsource.  New ESOP plan 2019 was introduced to incentivize management based on financial performance.

Strong execution; experienced leadership FSOL roped in incumbent CEO Mr. Vipul Khanna from Cognizant in August 2019. He was with Cognizant for almost a decade, where he headed digital operations nurturing them from a start-up practice to an USD2bn, top-5 global BPO business. Vipul is a Chartered Accountant, and a Cost and Management Accountant. He is on the Board of Young Presidents Organization (YPO), Bay Area chapter and a founder- director of United Way of Hyderabad.

Vipul has a good track record of scaling up start-up businesses; prior to Cognizant, he was the CEO of UBS’s Internal Service Company and built it into a leading research, capital market operations and IT business. He was a founder member of eFunds’s (now Fidelity National) BPO business and led its growth to a USD250m business. He was also an early member of American Express’s pioneering Global Shared Services program.

After Mr. Khanna got on board, he roped in many senior leaders and vertical heads from tier 1 firms to accelerate FSOL’s growth with diverse experience. We believe whenever a new external CEO joins, there is significant improvement in growth trajectory and operational performance. This can be seen at most mid-cap companies such as Coforge, L&T Infotech and Mphasis. FSOL has inducted top industry leaders such as Mr Prashanth Nandella as COO (ex-Cognizant), Mr Sundara Sukavanam as Chief Digital Officer (ex-Wipro), Mr Venkatgiri Vandali as President- Healthcare (Ex-Infosys and Cognizant) and Mr Debarshi Biswas as Head CMT (ex-HCL and Persistent).

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Recent leadership changes Name Designation From Previously Vipul Khanna MD and CEO Aug-19 ▪ Cognizant (10 years), UBS (4 years), Fidelity (6 years), American Express (4 years) Prashant Nandella COO Aug-20 ▪ Cognizant (7 years), DE Shaw (1.5 years), UBS (5.5 years), HP (3 years), GE and Citibank (2.5 years each) Venkatgiri Vandali President – Healthcare Feb-20 ▪ Cognizant (10 years), Infosys (8.5 years), GE (6.5 years), Baker Gauge (1 year) Payer Randall Shafer EVP & Global Head, Dec-20 ▪ Existing employee of Firstsource - Chief Operating Officer of the Provider business Healthcare provider Steven Schachter President – Mortgage Oct-20 ▪ Existing employee of Firstsource - Working at Firstsource (Sourcepoint, Dellas,US) since May 16. Prior to that Executive VP at ISGN Debarshi Biswas Head - Feb-21 ▪ Genpact - sales leadership and strategy roles. Prior to that held senior leadership positions at Communications, Firstsource, Syntel and PricewaterhouseCoopers Media and Tech Sundara Chief Digital Officer Feb-20 ▪ Cognizant (20 years), Wipro (3 years), DCM Data Systems (3 years) Sukavanam Source: Company, Edelweiss Research Skin in the game (ESOPs) — One of our golden rules of turnaround FSOL introduced an ESOP plan in 2019 to allow employees to partake of the company’s success and growth through “Firstsource Employee Benefit Trust”; the company funds the trust for secondary acquisition of shares.

The total number of options approved under the ESOP plan is 34.55mn. Mr. Vipul Khanna (MD & CEO) has been granted 10mn shares (1.4% of the company equity) under ESOP 2019 at a face value of INR10/ share by the nomination and remuneration committee. Besides, Sundara Sukavanam (Chief Digital Officer) has been granted 718k shares under the plan. Other employees have also received ESOPs.

Grants under tenure based structure for CEO No. of Stock Options Vesting Date Vesting Conditions 11,86,624 October 1, 2021 Continued employment 7,19,966 October 1, 2023 Continued employment Source: Company, Edelweiss Research

Grants under performance-based structure for CEO Vesting No. of Stock Options Date Vesting Conditions 8,159,614 (81.1% of Achievement of Profit Before Tax target set by 01-Oct-23 ESOPs) Nomination Committee Source: Company, Edelweiss Research

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Digital Transformation a structural shift and gift to India  The BPM industry grew at 4.5% YoY to USD208bn in 2019, led by increased SaaS adoption, Artificial Intelligence and Intelligent Automation.

 The pandemic-led online shift, tremendous amount of data generation and sharply declining information to data ratio means much greater processing capability and a much lower response time.

Digital leadership to align with structural (digital) shift in industry While approximately 90% of the software in the world gets coded by Indians and 80% from India, leading to more than a 70% share in global sourcing market, we have not been so lucky in the BPM industry. The BPM industry by nature has substantially higher human interface than the software industry, which implies unwritten preference for accent/proximity/culture unlike software services, wherein capabilities, cost and scale override. India is the software factory of the world, but has not been so successful when it comes to the BPM industry.

India BPM industry (USD bn) FY12 FY13 FY14 FY15 FY16 FY17 FY18 FY19 FY20 CAGR Global Spend 156 164 167 177 176 183 189 198 208 3.7% Global sourcing 44-46 48-50 50-55 60-62 66-68 71-73 76-78 81-83 88-90 9.4% Sourcing proportion 28.80% 29.90% 31.40% 34.50% 38.10% 39.30% 40.70% 41.40% 42.80% Source: Nasscom, Edelweiss Research

Revenue FY12 FY13 FY14 FY15 FY16 FY17 FY18 FY19 FY20 CAGR Exports 16 18 20 23 24 26 28 31 33 9.5% Domestic 3 3 3 4 4 4 4 4 5 6.6% Total 19 21 23 27 28 30 32 35 38 9.1% YoY growth (%) 10.5% 9.5% 17.4% 3.7% 7.1% 6.7% 9.4% 8.6% Source: Nasscom, Edelweiss Research

IT services majors' revenue growth YoY (cc) Q120 Q220 Q320 Q420 Q121 Q221 Q321 Q421 TCS 10.6 8.4 6.8 3 -6.3 -3.2 0.4 5.9 Infosys 12.4 11.4 9.5 6.4 1.5 2.2 6.6 9.6 Capgemini 5.7 5.9 2.9 2.3 13.4 18.4 20.8 24.2 Cognizant 4.7 5.1 4.2 3.5 -2.5 -0.7 -3 2.1 Source: Company, Edelweiss Research

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Global market share data Market Share FY 05-06 FY 10-11 FY 15-16 FY 19-20 IBM 32% 26% 20% 18% HP 12% 19% 14% 4% Fujitsu 19% 15% 16% 14% Accenture 11% 10% 13% 17% CSC 10% 7% 3% 0% DXC 0% 0% 0% 8% Capgemini 4% 3% 4% 5% Atos 4% 3% 4% 4% Logica 2% 2% 0% 0% CGI 2% 2% 3% 4% TCS 1% 3% 6% 8% Infosys 1% 2% 4% 5% Wipro 1% 2% 3% 3% HCL Tech 0% 1% 2% 3% Cognizant 1% 2% 5% 7% Altran 1% 1% 1% 1% Total 100% 100% 100% 100% Source: Edelweiss Research

India gained market share and scale very quickly from FY06–13, but began to lose rapidly to the Philippines, Mexico and other destinations, wherein clients found comfort and accent although at a little higher cost. The same is reflected in the substantial CAGR gap between FY06–13 and FY13–20 of Indian BPM industry (refer to the table below). BPO services FY06–13 Revenue (USDmn) FY06 FY07 FY08 FY09 FY10 FY11 FY12 FY13 CAGR IT services 13,305 17050 22203 25800 27290 33478 39890 42900 18.2% BPO 6300 7570 9915 11699 12401 14141 15915 18300 16.5% ER&D 4000 6586 8300 9600 9999 11385 12979 15300 21.1% Hardware 600 477 500 395 395 395 415 400 -5.6% Total 24,205 31,683 40,918 47,494 50,085 59,399 69,199 76,900 18.0% YoY IT services 33.1% 28.1% 30.2% 16.2% 5.8% 22.7% 19.2% 7.5% BPO 37.0% 20.2% 31.0% 18.0% 6.0% 14.0% 12.5% 15.0% ER&D 29.0% 64.7% 26.0% 15.7% 4.2% 13.9% 14.0% 17.9% Hardware 20.0% -20.5% 4.8% 21.0% 0.0% 0.0% 5.1% -3.6% Total 33.0% 30.9% 29.1% 16.1% 5.5% 18.6% 16.5% 11.1% Source: Nasscom, Edelweiss Research

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BPO services FY13–20 Revenue (USDmn) FY13 FY14 FY15 FY16 FY17 FY18 FY19 FY20 CAGR IT services 42,900 49,200 55,400 60,845 65,297 69,214 74,197 79,169 9.1% BPO 18300 20400 22700 24517 26402 28514 30852 33444 9.0% ER&D 15,300 17,700 20,000 22,000 25,080 28,290 31,062 34,479 12.3% Hardware 400 400 400 420 441 400 396 406 0.2% Total 76,900 87,700 98,500 1,07,782 1,17,220 1,26,418 1,36,507 1,47,498 9.8% YoY IT services 7.5% 14.7% 12.6% 9.8% 7.3% 6.0% 7.2% 6.7% BPO 15.0% 11.5% 11.3% 8.0% 7.7% 8.0% 8.2% 8.4% ER&D 17.9% 15.7% 13.0% 10.0% 14.0% 12.8% 9.8% 11.0% Hardware -3.6% 0.0% 0.0% 5.0% 5.0% -9.3% -1.0% 2.4% Total 11.1% 14.0% 12.3% 9.4% 8.8% 7.8% 8.0% 8.1% Source: Nasscom, Edelweiss Research

After the not-so-good history of India’s BPM industry over last decade, we believe a very exciting decade lies ahead. We believe the global BPM industry has undergone a massive structural shift; this shift is still not visible on the shore of the sea, metaphorically speaking, but a storm is brewing would soon hit the shores. The pandemic-led online shift, tremendous data generation and a sharply declining information to data ratio means much higher processing capability and much lower response time.

Growth of major tech companies – Jump in revenue, EBITDA and EPS CAGRs Revenue CAGR EBIDTA CAGR Earnings CAGR CMP FY13-FY18 FY19-FY23 FY13-FY18 FY19-FY23 FY13-FY18 FY19-FY23 Microsoft 232 7.2% 13.7% 9.0% 16.7% -5.4% 16.1% Amazon 3,093 25.6% 24.7% 47.3% 30.6% 105.6% 52.0% Google 2,022 19.8% 13.3% 13.6% 26.2% 19.3% 25.2% Apple 121 9.2% 10.2% 8.0% 11.0% 10.0% 12.0% Facebook 258 51.5% 25.3% 50.3% 28.9% 71.5% 28.2% Source: Company, Bloomberg

India BPM exports mix RoW, 2% APAC, 8%

Continental Europe, 12%

UK, 17% US, 62%

Source: Nasscom, Edelweiss Research

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India BPM exports mix Construction & Travel & Utilties Transportation Others 2% 4% 2% Retail 3%

Healthcare 5%

Manufacturing 7% BFSI Hi-Tech/ 59% Telecom 18%

Source: Nasscom, Edelweiss Research

The above implies that the BPM industry’s voice growth will be replaced by “BOT” led growth and even in best case scenario voice growth will be in negative. The above shift means the key catalyst for non-India based growth like accent/proximity and culture will slowly lose sheen and will be taken over by technology. And the whole world knows “technology” is the turf where you can only lose when the opponent is India.

We strongly believe that like IT services’ golden period of 1990–2000, the golden period for BPM has begun, and it is just matter of time before the Indian BPM industry would start growing on a par with the IT services industry.

Now if you join the above dots, you find the rationale for appointment of Mr. Vipul Khanna as the new CEO and MD by FSOL. He comes with a rich experience of 25 years in digital business processes and operations. We believe his experience and credentials will enable FSOL to not only ride this unknown storm of the BPM industry growth, but would also enable to drive the company’s overall growth very substantially. Moreover, he also ticks off our “5 Golden rules of Turnaround” as highlighted in executive summary and by roping in several senior leaders from larger firms to fill leadership gaps and accelerate FSOL’s growth.

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Digital Transformation sweeping across sectors

 A rapid wave of digitalisation in the TMT industry, primarily led by Media and Telecoms, is underway and challenging traditional business models and creating newer ones. Moreover, increased adoption of technology in upcoming segments such as edu-tech and healthcare implies substantial growth in mass markets.

 FSOL has strong capabilities in BFSI, Healthcare and Communications, which contributes more than 90% to its overall revenue.

 In Healthcare, FSOL has a unique advantage among BPM players to cater to clients in both Provider and Payer segments.

Digital technology to lead growth The fact is data is growing at an exponential pace as evident from the chart. The flip side is “information is not growing at the same rate as data”, implying the information-to-data ratio is declining sharply. This is driving higher requirement of analytics and processing capabilities even in commoditized services.

Data volume in zettabytes (1 zettabyte equals 1021 bytes)

160 149

128 118

94 96 74 59 64 41 33 32 26 15.5 18 9.8 12.5 2 5 6.5

2010

2011

2012

2013

2014

2015

2016

2017

2018

2019

2020

2021

2022

2023 2024

Source: Statista (Note: *forecast)

FSOL’s primary focus since the new leadership took over its reins has been to leverage technology-led solutions and force its entry into the fin-tech industry. The company has a track record of transforming many retail banks and financial institutions. Moreover, BFSI has started big technology spends to compete with the fin-tech disruption, while the healthcare industry has been given a wakeup call by the current pandemic. The development of COVID vaccine in record time has shades of contribution from the technology industry as well.

The TMT (Technology, Media and Telecom) industry was already at the forefront of disruption and is getting disrupted much faster than anyone can anticipate. The above three industries are expected to grow at the fastest pace among the broader industry, catering to large technology spends.

Finally FSOL derives more than 90% of revenue from developed markets such as US and the UK, which are relatively more profitable, stable and talent-scarce, implying a structural long term profitable revenue stream.

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FIRSTSOURCE SOLUTIONS

Firstsource Solutions — Business overview Vertical Segments Services/Focus areas Clients

BFSI (51.9% of revenue) ▪ Mortgages ▪ Loan processing, servicing, title and valuations ▪ 3 of top 6 retail banks in U.K. ▪ Retail and SME banking ▪ Customer experience, transaction processing ▪ 5 of top 15 lenders in U.S. ▪ Complaints and ▪ Complaints handling, fraud management ▪ 5 of top 10 credit card issuers in U.S. remediation ▪ 5 of top 15 mortgage servicers in the ▪Collections and Recoveries ▪ Credit card, auto and student loan collections U.S. ▪ Commercial finance ▪ Commercial finance – invoice factoring, risk ▪ FinTech ▪ FinTech

▪ Eligibility and enrolment services management, Healthcare (26.5% of revenue) ▪ Hospital providers ▪ 1000+ hospitals in the U.S receivables revenue cycle management ▪ Digital mailroom claims processing and member ▪ 6 of top 10 Health insurance / ▪ Health plans services managed care companies in the U.S. ▪ Health and Pharmacy ▪ Data integrity services Benefit Managers Services

Communication, Media &Technology (19.3% of ▪ Streaming Services ▪ Intelligent Automation revenue) ▪ Cable TV, Broadband and ▪ 1 of top 2 Broadcasting and Media ▪ NPS predictions Telephone companies in the UK ▪ 2 of top 6 Telecom and broadcasting ▪ Consumer Tech ▪ Analysis of consumption patterns, data analytics companies in the US ▪ Shared economy ▪ Customer experience ▪ E-Commerce ▪ Cross selling opportunities

Diverse Industries (2.3% of ▪ Utilities ▪ Intelligent Automation revenue) ▪ 1 of top 3 utility companies in the ▪ Government entities ▪ Customer support, back office activities U.K. ▪ Complaint handling ▪ Adoption of smart energy initiatives, roll-out of smart meters Source: Company, Edelweiss Research

FSOL specialises in providing transformational solutions to clients and deliver increased efficiency and less operating costs. FSOL is a trusted partner to 100+ leading brands with a presence in the US, the UK, and India including 17 Fortune 500 and 9 FTSE 100 companies. FSOL is well positioned to capitalise on growth opportunities across all verticals.

As per NASSCOM report, BFSI and Healthcare remained strong in both exports and domestic segments, while telecoms remains soft. We believe the momentum is strong and digital revenues will drive up growth in coming years. The company added 11 new clients in Q4FY21 and 54 clients in FY21.

1. Banking and Financial Services

Banks and financial institutions are significantly increasing digital spend to bring operational efficiencies, reduce cost and delivering superior customer experience. Over the past few years, bank-fintech relationship has grown rapidly mainly due to tech-sharing investments and collaboration. We believe there is still huge demand for digital banking in the world and customer experience will be the key trend.

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FIRSTSOURCE SOLUTIONS

FSOL helps BFS businesses to reorganise their operating models in terms of credit tightening, managing asset quality and provisions, and help them prepare for the next potential recession. FSOL operates across a wide-array of segments in BFS.  Retail and SME banking (customer experience, transaction processing)

 Mortgages (loan processing, servicing, title and valuations)

 Collections and Recoveries (credit card, auto and student loan collections)

 Complaints and remediation (complaints handling, fraud management)

 Commercial finance (invoice factoring, risk management)

 Fintech

BFS’s current contributions stood at 51.9% to FSOL’s revenue (FY21), clocking a CAGR of 20.5% over FY17–21. The company is seeing strong growth momentum in BFS across the US and the UK; macro tailwinds coupled with deal-wins is driving growth in this vertical. We expect a strong 32.7% CAGR in BFSI over FY20–23E led by robust growth momentum.

BFS revenue and growth BFS revenue concentration

60% 400 60% 356 52% 48% 48% 320 52% 234 36% 41% 36% 240 197 36% 32% 169 160 24% 29% 160 23% 24% 19% 12% 80 -5% 0% 12%

0 -12% FY17 FY18 FY19 FY20 FY21 0% FY17 FY18 FY19 FY20 FY21 BFS Revenue (USDmn) BFS YoY growth (%)

Source: Company, Edelweiss Research Source: Company, Edelweiss Research

UK Retail and Commercial Banking

The UK banking sector is the largest in Europe and fourth largest in the world. Big four banks (HSBC, Barclays, Royal Bank of Scotland and Lloyds Group) manage over 75% of UK current accounts and 85% of business accounts.

FSOL provides end-to-end solutions to top institutions across the customer lifecycle- including acquisition, account servicing, collections and retention, complaints handing and remediation, mortgage processing and invoice financing and asset based lending. It is strategically partnering top UK-based banks, enabling them to adapt to new customer preferences. Management highlighted that the global economy will likely slip into recession post- pandemic, and financial institutions will need to increasingly safeguard asset quality, improve costs structures and manage capital more prudently.

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Collections and Recoveries

FSOL provides debt collection and recoveries services to banks and financial institutions. The company provides digital collections, first and third party collections. According to IBIS world report, debt collection market size in the US is expected to touch about USD13.4bn by 2021. The company mainly focuses on credit card collections, auto loan and student loan collections. Collections is witnessing good volumes due to a significant shift in digital transactions led by pandemic. Total consumer debt (including student loans, auto loans and revolving debt) was at USD4.2tn in March 2021, which provides a tremendous opportunity to FSOL given the high probability of defaults and delays in collections and recoveries due to financial stress. FSOL is widely using analytics and AI models to improve borrower profiling, predictions, and customising settlement offers, among others, which will further help to reduce exposure to debt.

Mortgage Market

The Mortgage business has done very well for FSOL; it comprises 52% of BFSI revenue. Mortgage rates were historically low over the past couple of years, and we believe it will continue to be low in FY21 as well. It will keep housing demand buoyant over the next few years in the US, while diminished political uncertainty could revive housing demand gradually in the UK. New home sales are at their highest since 2007 in the US. Purchase origination is expected to reach USD1.3tn in 2021 and refinance originations is likely to touch USD432bn.

Mortgage Originations forecast

700 323 60% 230 51% 50% 560 146 148 132 155 224 108 114 145 168 118 111 105 38% 48% 105 40% 420 101 29% 105 148 32% 128 97 29% 23% 37% 26% 23% 30% 31% 24% 25% 24% 280 42% 37% 26% 26% 31% 30% 20%

140 10% 204 322 334 283 214 334 346 291 228 355 375 314 245 360 380 320 235 370 390 330

0 0%

Q1FY17

Q2FY17

Q3FY17

Q4FY17

Q1FY18

Q2FY18

Q3FY18

Q4FY18

Q1FY19

Q2FY19

Q3FY19

Q4FY19

Q1FY20

Q2FY20

Q3FY20

Q4FY20

Q1FY21

Q2FY21

Q3FY21 Q4FY21

Purchase (Bil USD) Refinance (Bil USD) Refinance Share (%)

Source: IMLA, Company

As per Mortgage Bankers Association, the average cost to take a mortgage loan in FY20 was USD9,000 per loan led by extended hours of manual work involved in the origination system. The cost of origination will drop significantly by automating these tasks. Moreover, non-bank servicers are aggressively spending the servicing business through portfolio purchases of Mortgage Service Rights (MSRs) while also continuing to expand their portfolio of loans serviced. Mortgage services have increased their focus on using digital technologies to reduce redundancies, drive cost efficiencies, delight customers, enhance productivity and deliver desired returns, which will significantly increase the opportunity for FSOL. Mortgage business on-boarded seven new clients for new loan origination, mortgage servicing, title services and automation support.

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FIRSTSOURCE SOLUTIONS

2. Healthcare

FSOL is a dominant player in the Healthcare vertical, and has a presence across 1000+ hospitals in the US. Healthcare volumes remained low, but it started picking up in March. It will continue to maintain growth momentum led by new offerings and deal-wins. According to a Market Data Forecast report, the Global Healthcare BPM market is estimated to touch USD337.8bn by 2024 from USD211.6bn in 2019, expanding at a CAGR of 9.8% from 2019 to 2024. We believe improvement in performance efficiency and reducing operational costs will drive good demand in this space. FSOL operates and focuses on the US Payer and Provider segments, offering an end-to-end suite of services.

Global healthcare BPM market 420

9.8% CAGR 337.8 336

252 211.6

168

0 2019 2024

Source: Market data forecast, Company, Edelweiss Research

FSOL caters to the following segments in Healthcare:

 Hospital Providers (eligibility and enrolment services, receivables management)

 Health Plans (digital mailroom, claims processing and member services)

 Health and Pharmacy Benefit Managers Services (data integrity services)

Healthcare is currently contributing 26.5% to FSOL’s revenue (FY21) and has remained almost flat at a CAGR of -1.0% over FY17-FY21. The company believes demand started picking up in March and new-wins and new offerings are driving growth. We expect revenue growth of 18.4% YoY in FY22E.

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FIRSTSOURCE SOLUTIONS

Healthcare revenue and growth Healthcare revenue concentration 210 7% 50% 202 200 4% 6% 44% 190 190 190 188 0% 37% 182 38% 36% 1% 34% 180 -4% 33% -5% 32% 170 -7% -7% 27% 160 -11% 26% FY17 FY18 FY19 FY20 FY21

Healthcare Revenue (USDmn) 20% Healthcare YoY growth (%) FY17 FY18 FY19 FY20 FY21

Source: Company, Edelweiss Research Source: Company, Edelweiss Research

Payer Services

The US Healthcare Payer market has seen increased momentum, largely due to implementation of the Patient Protection and Affordable Care Act (PPACA), which has provided insurance access to a larger set of US citizens. This is further accentuated by an ageing population, which is driving growth of the US Healthcare Payer market. More than 10,000 people are moving to the Medicare segment every day and the Medicaid Advantage market is expected to double from 22.5 million to 40 million lives by 2030. Consequently, there is increased demand for outsourcing from Payer organisations.

FSOL recently added new clients and increased its engagement scope with a number of existing clients despite volume compression in a few clients from lower claim volume. The sales deal pipeline is very solid, and its digital intake solution Sympraxis is faring strongly in competitive situation. In the post- pandemic world, remote health monitoring and management will emerging as high potential methods of care delivery, which would drive revenue growth for next few years.

Provider Services

The Healthcare BPM focused on Provider services are segmented into medical billing, medical coding, medical transcription and Revenue Cycle Management (RCM). RCM, patient accounting systems and claims management continue to witness healthy demand momentum from hospitals and physicians. Hospital RCM market is estimated to post a CAGR of 8% over 2019–24 to USD18.4bn.

Growth in provider services will be driven by the increase in uncompensated care costs, shifting of control from Federal government to states, significant increase in patient responsibility, increased acceptability towards offshoring and focus on digital interventions, including tech platforms, automation and analytics. The healthcare industry is significantly increasing outsourcing of processes to RCM service providers, which will drive FSOL’s growth momentum.

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FIRSTSOURCE SOLUTIONS

3. Communications, Media & Technology

FSOL continued to perform well in the Communications, Media & Technology (CMT) vertical after witnessing decline in business from FY15–20. FSOL helps clients with services such as Intelligent Automation, NPS Predictions, analysis of consumption patterns of customers, improved operational efficiencies, ensuring enhanced customer experience and maximization of cross-selling opportunities.

We see rapid digital transformation in broadcasting and PayTV industry driven by SVOD. The key trends that will drive CMT vertical is augmented and virtual reality, ad-supported videos streaming and M&A to strengthen company libraries.

FSOL operates in following segments in CMT vertical:

 Streaming services

 Cable TV, Broadband and Telephone

 Consumer Technology

 E-commerce

 Shared economy

Communication, Media & Technology revenue Communication, Media & Technology revenue and growth concentration

220 20% 40% 186 34% 171 32% 174 153 10% 32% 135 132 28% 128 9% 23% -2% 0% 24% 19% 82 -17% -10% 16% 36 -12% 8% -10 -20% FY17 FY18 FY19 FY20 FY21 Communication, Media & Technology (USDmn) 0% CMT YoY growth (%) FY17 FY18 FY19 FY20 FY21 Source: Company, Edelweiss Research Source: Company, Edelweiss Research

CMT contributes 19.3% to FSOL’s revenue (FY21) and has declined consistently over FY17–20, due to the largest client (SKY) in this vertical, which has rationalized the portfolio and took some of the operations back due to reduced economic activity. Overall, top client growth and new business ramp-ups are driving strong growth momentum in CMT. We believe CMT will grow by 6.7% in FY22.

FSOL provide NPS predictions and analysis of consumer consumption pattern as lockdowns happening in many parts of India will drive SVOD and Broadband business, which will result in increased use of entertainment such as SVOD and gaming, benefitting telecom operators.

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FIRSTSOURCE SOLUTIONS

Consumer spending on Video streaming Services (USDbn) $25.0 $21.9

$20.0 $17.7

$15.0 $14.1

$9.4 $10.0 $6.7 $5.3 $5.0

$0.0 2015 2016 2017 2018 2019 2020

Source: Company, Edelweiss Research

4. Diverse Industries

Diverse industries have remained flat. However, Utilities sector is witnessing a rapid uptake of technologies. FSOL is embracing technologies to drive operational efficiencies, gain market share and maintain relationships with clients. Intelligent Automation (IA) is transforming the utilities industry.

According to industry reports, the number of outsourcing contracts awarded by Utilities in Europe and North America is set to grow steadily over next 1-2 years. Demand for outsourcing the functions of customer support, back-office activities and complaints handling is on the rise.

FSOL caters to following segments in the Diverse Industries vertical:

 Utilities

 Government entities

Diverse industries contributed 2.3% to FSOL total revenue in FY21. FSOL understands that the core objective of Utilities organisations is to reduce the cost to serve while maintaining customer centricity. Management highlighted this industry is flat overall.

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FIRSTSOURCE SOLUTIONS

Digital First, Digital Now shifting industry back to India

 At FSOL, the ‘Digital First, Digital Now’ philosophy is at the core of all endeavours. The approach entails creating leading-edge digital solutions for clients.  FSOL’s revenue is segmented into three services: Digitally Empowered Contact Centres (DECC), Intelligent back office and Platform, Automation and Analytics.

FSOL’s ‘Digital First, Digital Now’ approach is designed to help businesses cater to changing consumer expectations by leveraging rapid advancements in Cloud, Software as a Service (SaaS) and automation technologies. Management highlighted Digital revenues are scaling up well, helping drive higher levels of customer engagement and margin expansion. FSOL is strengthening the Digital Services practice to fulfil client needs across BFSI, Healthcare and CMT verticals in terms of automation, process design and analytics. The second pillar of FSOL’s Digital strategy is platform-based services (e.g. Digital collections) and integrated IT, operations and infrastructure solutions for clients.

Revenue contribution in terms of service lines:

1. Digitally Empowered Contact Centres (DECC), 51.8% of revenue: DECC leverages next-gen technologies such as Robotic Process Automation (RPA) and Artificial Intelligence (AI) to inform and empower associates. It services the omni-channel, on-demand needs of clients. DECC growth attributed to strong volume growth and new wins.

2. Intelligent Back Office, 42.6% of revenue: It makes processes lean and agile by deploying a broad range of automation technologies. Its impact: scalable, data- driven operations for reduced costs, faster turnaround, and greater predictability, customer-centricity and innovation. Growth in this line was driven by Mortgage and Healthcare.

3. Platform, Automation & Analytics, 5.6% of revenue: FSOL’s platforms, automation and analytics solutions infuse intelligence into end-to-end processes to synthesize both structured and unstructured data, delivering unprecedented levels of efficiency, quality, and speed and customer experience. Platform based services growing steadily, decline from a completion of a short-term engagement.

Revenue concentration by service line

100% 6% 5%

80% 43% 48% 60%

40%

51% 20% 47%

0% Q4FY20 Q4FY21 Digitally Empowered contact centre Intelligent Back Office Platforms, Automation & Analytics

Source: Company, Edelweiss Research

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Valuation

 We are initiating coverage on FSOL at ‘BUY/Sector Outperformer’ with a target price of INR202, implying 43% upside potential.

 FSOL is trading at a sharp discount to IT mid-cap companies; the two are comparable as we believe the Indian BPM industry will now converge towards the Indian IT services industry in the wake of widespread digital adoption.

 Digital transformation post-pandemic has accelerated the growth in BPM and will lead to a substantial jump in not only global sourcing, but will also accelerate India’s market share gain hereon as incremental growth is digital-led, which is India’s forte. All in all, we believe it is a structural shift that favours India.

Strong growth expectations outlook We are initiating coverage on FSOL with ‘BUY/Sector Outperformer’. Out target price of INR202 is based on 20x Q2FY23E EPS, which is at discount to global peers and Indian mid-cap IT services companies. We estimate FSOL would report a 28.3% earnings CAGR over FY20-23E driven by strong revenue growth (20% CAGR). The stock is trading at 14x Q2FY23E EPS.

Despite the stock’s significant performance since Mr. Vipul Khanna joined in August 2019, we believe FSOL is a structural multi-bagger – much like our last three initiations in a decade (Mindtree, LTI and LTTS) – as it ticks off the “5 Golden rules of turnaround” (mentioned on the first page).

We reiterate the first 50–100% return on turnaround stories is easily missed as our comprehensive research takes a minimum 12–36 months. While our TP implies 43% return in medium term we expect this business to compound for long term and create substantial value for investors.

And in this context, we believe FSOL, its management team and capabilities are just the right catalyst needed to ride a huge storm of structural growth in the Indian IT BPM industry, wherein traditional impediments such as accent/culture/proximity have hitherto favoured non-Indian destinations.

With digital adoption taking centre stage and the declining information to data ratio, the whole industry would shift very aggressively towards India. Software is India’s home turf, where it is impossible for any other country to compete. In fact, in our view, the BPM industry is where the IT services industry was in 1990s, and this sector will completely converge with the IT services industry over a period of time and would start commanding margins and multiples similar to mid-cap IT services firms as digital gets embedded in execution over next few years.

From FSOL (other than industry tailwind) perspective, we expect the following growth drivers:

1. Appointment of Mr. Vipul Khanna as MD & CEO; he comes with experience of 25 years spanning Cognizant, UBS and Fidelity. Along with him, Mr. Sundara Sukavanam (Chief Digital Officer) also have more than 25 years of work experience. Revamping many leadership roles with specialized team will improve the revenue growth trajectory. Moreover, the core team is incentivized heavily through ESOPs, which gives us the comfort of “one team one goal”.

2. Accelerated demand for digital transformation across the globe will drive strong revenue momentum for all BPM companies and much higher to FSOL as it is

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FIRSTSOURCE SOLUTIONS

digital-ready. FSOL also has the distinct advantage of deriving the bulk (90%+) of revenues from potentially high-growth industries (such as BFSI, Healthcare and Communications) and markets (US, UK, Canada).

3. The cost pressures of past are incrementally getting absorbed due to technological execution versus human interface earlier, and hence we are entering not only a high-growth phase but highly profitable growth phase. Moreover, revenue growth of global peers such as Teleperformance, Serco, WNS and EXL indicate stable revenue growth opportunities in the BPM industry.

Thus, there is clear revenue growth visibility, and we estimate FSOL would clock a revenue CAGR of 20% over FY20–23E.

The above growth drivers not only lend immense revenue visibility, but will also help in expanding margins. Our target multiples for other mid-cap peers range between 20x and 35x, and for large-cap peers between 25x and 40x.

We estimate FSOL would continue to outperform the industry and post a revenue CAGR of 20% over FY20–23E riding: i) adoption of new technologies, which is expected to accelerate the BFSI vertical’s growth (51.9% of revenue) spurred by higher credit growth across various products; ii) disruptive technologies leading to robust growth of digital revenue; and iii) mining of top clients.

Furthermore, while the company’s FY22 operating margins are expected to increase 80bps on account of operational efficiency and accelerated demand for digital transformation, we envisage FSOL to further expand 80bps in FY23 as well. Hence, we estimate the company would post a PAT CAGR of 29% over FY20–23E.

Given revenue and PAT CAGR of 20% and 29%, respectively, over FY20–23E, RoE touching 13%, a dividend yield of 2.1% (56% pay-out) and robust cash flow, we assign a target multiple of 20x Q2FY23E EPS to FSOL. All in all, we are initiating coverage with ‘BUY/SO’. At CMP, the stock is trading at 14x Q2FY23E EPS.

Forward P/E 20

16 16.9

11.4x 12

9.2x (x) 8 6.9x 4

Nov-16 Nov-12 Nov-13 Nov-14 Nov-15 Nov-17 Nov-18 Nov-19 Nov-20

May-17 May-13 May-14 May-15 May-16 May-18 May-19 May-20 May-21 P/E Average +1SD -1SD

Source: Company, Edelweiss Research, Bloomberg

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FIRSTSOURCE SOLUTIONS

Financial Outlook

Revenue growth trajectory to improve FSOL reported revenue of USD685.2mn with growth of 17.9% YoY in constant currency for FY21 and revenue of USD200mn with growth of 31.7% YoY in cc in Q4.

FSOL underperformed over the last few years with its revenue expanding at a low- teen CAGR over FY11–20 due to a decline in the CMT vertical. However, the industry was performing at a faster space. We envisage that FSOL will witness higher growth driven by revamp of new leadership team in FY20. The company’s revenue growth was flat in FY19 due to uncertainty. With an unimpressive track record of guidance vs delivery, new management and leadership team likely reduce deviations significantly.

Revenue (USD) YoY growth by vertical 80%

52% 56%

32% 23% 19% 9% 6% 8% 1%

-2% -16% -5% -7% -5% -12% -17% -40% FY18 FY19 FY20 FY21

BFS YoY growth (%) Healthcare YoY growth (%) CMT YoY growth (%)

Source: Company, Edelweiss Research

The new CEO had joined in from Cognizant and roped in many senior leaders from top-tier companies, similar to other IT midcap companies. We estimate revenue would increase at a CAGR of 20% over FY20–23E, driven by increased contribution from top client, deal-wins in BFSI and CMT, traction in UK BFSI & retail business, and improvement in mortgage business.

Revenue QoQ growth in CC since new CEO took over reins 24

18 14.6 12.2 12 7 (QoQ %) (QoQ 6 4.7 2 0.7 1.1 0.6 0

-6 -4.3 Q419 Q120 Q220 Q320 Q420 Q121 Q221 Q321 Q421

Source: Company, Edelweiss Research

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FIRSTSOURCE SOLUTIONS

Top client accounted for 17.5% (Q4FY21) of revenue has been FSOL’s client for 19.2 years, and the average age of Top 5 clients is 14.4 years and has increased consistently past few years. FSOL has posted stellar results driven by deal-wins, and we believe growth rates will be above-industry. Besides, cross-selling of platforms business and hiring of experienced leaders could increase the penetration in technology segment, which could further boost its digital business. FSOL expects revenue growth of 15–18% in constant currency in FY22.

Revenue and growth Revenue YoY growth in CC terms 1200 25% 35 31.7 18.5% 20.9% 976 960 20% 829 28 685 17.7% 23.8 720 15% 548 548 578 491 530 21 480 10%

7.9% % In 13.1 240 5% 14 5.5% 3.4% 8.3 8.2 0 0.0% 0% 7 5.2 4.5 FY16 FY17 FY18 FY19 FY20 FY21 FY22E FY23E 3.8 1.6

Revenue (USDmn) Growth (%) 0 Q419 Q120 Q220 Q320 Q420 Q121 Q221 Q321 Q421 Source: Company, Edelweiss Research Source: Company, Edelweiss Research Revenue contribution from top customers 30% 28% 25% 25% 24% 22% 21% 21% 20% 18% 18% 17% 16%

12%

0% FY17 FY18 FY19 FY20 FY21

Top customer Top 2-5 customers

Source: Company, Edelweiss Research

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FIRSTSOURCE SOLUTIONS

Consistent margin improvement FSOL has consistently focussed on improving operational efficiency, which resulted in 170bps EBIT margin expansion over FY15–19. However, there was a dip in margin of 120bps in FY20 due to key investments undertaken to build leadership team and one-off payment to departing CEO in the first half.

But margin has improved by 100bps YoY to 11.8% in FY21 and is expected to improve further in coming years driven by higher offshore concentration, better revenue mix, higher onsite revenue and strong momentum in digital. FSOL is looking to harvest growth opportunities by investing in both operating capacity as well as leadership and account management capacity. Management has guided its operating margin of 11.8–12.3% for FY22E. We estimate a 12.6% margin for FY22.

EBIT and EBIT margins 10,000 14.0% 12.9% 12.6% 8,000 12.8% 12.0% 11.8% 6,000 11.1% 11.6% 10.7% 10.8% 9,148 4,000 7,676 10.4% 5,979 4,610 4,437 2,000 3,790 3,930 9.2%

- 8.0% FY17 FY18 FY19 FY20 FY21 FY22E FY23E EBIT (INRmn) EBIT margins (%)

Source: Company, Edelweiss Research

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FIRSTSOURCE SOLUTIONS

Cash flows and return ratios to remain healthy FSOL reported an RoE of 16.1% in FY21, excluding exceptional item. Its RoCE improved from 12.5% in FY16 to 17.6% in FY21 due to impressive revenue growth. However, we believe return ratios will improve further in coming years as high goodwill on books (of INR21.9bn, 45% of total assets), because of past acquisitions, comes down. Adjusted operating cash flow and free cash flow for the year 2021 stood at INR8,921mn and INR7,225mn, respectively.

Return on equity Return on capital employed 15.3% 20.0% 14.7% 17.6%

14.4% 16.0% 13.9% 13.9% 14.1% 13.8% 13.0% 12.5% 12.7% 12.3% 13.5% 12.0% 12.9%

12.6% 12.3% 8.0%

11.7% 4.0%

10.8% 0.0% FY16 FY17 FY18 FY19 FY20 FY21 FY16 FY17 FY18 FY19 FY20 FY21

Source: Company (Note: FY21 ROE will be 16.1% excluding for Source: Company exceptional item) Cash flow 10,000 8,921

8,000 7,225

6,000 4,000 4,104 4,000 2,971 3,151 2,913 3,156 2,526 2,114 1,981 2,000 1,128

- FY16 FY17 FY18 FY19 FY20 FY21

Operating cash flow Free cash flow

Source: Company

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FIRSTSOURCE SOLUTIONS

Key Risks

Revenue concentration risk FSOL derives the bulk of revenue from a few big clients and its business coming primarily from the US and the UK geographies. Hence, any sort of economic slowdown/downturn in these economies and industries may affect the company adversely. The customer management business is relatively a low profitability business and more prone to economic variations. Hence, any technology disruption could see shrinkage in volumes and can have adverse impact on growth. Highly competitive market The market for BPM services has become highly competitive over the years. These competitors include third-party ‘pureplay’ BPM providers based largely out of India and the Philippines, local/onshore BPM providers in the US and the UK, BPM divisions of global IT companies and in-house captives of potential clients. Currency risk Volatility in the exchange rate between INR and GBP, and INR and USD has continued in recent years, and these currencies may continue to fluctuate significantly in the future as well. The company’s operating results will continue to be impacted by any fluctuations in these exchange rates. Cost pressure affecting growth Many of the company’s contracts are long-term in nature. But pricing is negotiated based on prevailing conditions at the time the contract was agreed upon. Considering the rising trend of salaries and additional cost pressure due to COVID- 19 impact, the company may find it difficult to serve clients at the negotiated price in the future. Increase in employee costs, without corresponding increases in pricing or productivity-related improvements would adversely affect profitability. Alternatively, if the company is unable to price its contracts as competitively as possible, it may lose business opportunities, which shall result in lower revenue growth. Client concentration remains high FSOL relies on a relatively small number of clients for a large proportion of its income, and loss/discontinuance of any of these clients could adversely affect its revenue and profitability. The company’s top client accounted for 16.4% of income from revenue and top five clients accounted for 41.1% of its income from revenue in Q4FY21.

Furthermore, major events affecting the company’s clients, such as bankruptcy, change of management, mergers & acquisitions, change in their business models or regulatory factors could adversely impact its business. Moreover, the company’s revenue is highly dependent on clients concentrated in a few industries, as well as clients located primarily in North America and the UK/Europe. High attrition rate The BPM industry relies heavily on knowledge management and skilled talent supply. The number of opportunities available in the market, changing needs of a multi-generational workforce and limited supply of employable talent pose a great challenge to retain talented workforce and maintain consistency in performance.

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FIRSTSOURCE SOLUTIONS

Company Description

Firstsource Solutions Limited is a leading player in the Business Process Management (BPM) industry. Part of the RP-Sanjiv Goenka Group, Firstsource provides bespoke services and solutions to its customers across Banking and Financial Services, Healthcare, Communications, Media and Technology and other diverse industries. It operates 36 delivery centres across four geographies – the US, the UK, the Philippines and India – to serve 100+ leading enterprises globally, including 17 Fortune 500 and nine FTSE 100 companies.

The company operates in four industry segments, namely Banking & Financial Services, Healthcare, Communications, Media & Technology and other diverse industries. Within BFS, focus on sub-segments such as Retail Banking, Mortgages, Complaints & Remediation, Collections & Recoveries and Commercial finance. Within Healthcare, FSOL focuses on US Payer and Provider segments. Their services portfolio include Customer Management, Back Office processing, Collections & Recoveries, Intelligent Automation, Analytics and Mortgage. The BFS vertical is the largest contributor at 51.9% followed by healthcare at 26.5%, and communication, media & technology at 19.3%. Diverse industries contribute merely 2.3% in FY21.

Revenues are generated from three geographic markets – the US, the UK and Rest of World. The US and the UK are the main geographies accounting for about 99% of revenue. 67.8% of revenue comes from the US, followed by the UK at 30.9% in FY21.

FSOL operates in three service lines, namely Digitally Empowered Contact Centre (DECC), Intelligent Back Office and Platform, Automation & Analytics. Intelligent back office accounts for highest revenue concentration of 45.1% followed by DECC for 48.3% and Platform, Automation and Analytics for 6.6% in FY21.

In terms of delivery, offshore revenue has improved significantly led by pandemic and work from home, and stood at 28.3%. Onshore made up 71.7% of revenue in FY21.

Revenue growth onsite versus offshore 48.0% 39.2% 29.7% 32.0%

16.0% 12.0% 8.4% 6.8% 7.7% 5.9%

0.0% -0.4% -16.0% -8.0% -18.7% -32.0% FY17 FY18 FY19 FY20 FY21

Onsite Offshore

Source: Company, Edelweiss Research

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Acquisitions – An overview Name of the acquired Date of Size of Comments company acquisition acquisition Provides patient eligibility services and front-end revenue Cycle Management solutions for PatientMatters Dec-20 USD13mn US healthcare providers ISG Novasoft Apr-16 USD12.6mn Acquired ISGN's BPO business and operated in BFSI- Mortgage space Technologies Source: Company, Bloomberg, Edelweiss Research

FSOL added 6,801 employees (4,839 in India and 1,962 outside India) in FY21 and has total 28,004 employees, out of which 16,289 are based in India and 11,715 outside India. Offshore quarter annualized attrition was down YoY and stood at 28.6% in FY21 (33.5% in FY20) and Onshore was down at 40% in FY21 (41.9% in FY20). Personnel costs increased by 25% to INR34.7bn in FY21 from INR27.7bn in FY20. In FY20, the company had 17 operation centres with 3,992 employees in the US and six operations centres with 5,005 employees in the UK. The company is one of the largest employers in the UK BPM sector. Revenue per employee dipped 6.2% from INR1.93mn to INR1.81mn.

Employee additions 5600 4,839

2,482 1,962 2800 1395 590 159 9 0

-150 -2800 -531

-5600

-6,637 -8400 FY17 FY18 FY19 FY20 FY21

Employees in India Employees outside India

Source: Company, Edelweiss Research

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Board of Directors

Dr. Sanjiv Goenka - Chairman Pradip Roy - Independent Director He is a Senior Advisor with Lincoln International He is Chairman of the RP-Sanjiv Goenka Group, one of Advisors. He was also a Senior Advisor with Pipavav India’s leading business conglomerates. He’s also the Defense and Offshore Engineering Company Ltd. He Chairman of CESC Limited and chairs the boards of joined IDBI in 1979 and spent 29 years in IDBI, he Phillips Carbon Black and Spencer’s Retail. retired as the Executive Director in 2008.

Subrata Talukdar - Non-Executive Director Shashwat Goenka - Non-Executive Director He is the Executive Director (Finance) and CFO of He joined the Board of Directors of Firstsource after CESC. He has been with group for over two decades having worked with companies like Nestle India and and has been instrumental in CESC’s success. He also KPMG India. He has graduated from The Wharton takes keen interest in the company’s operations and School, with a Bachelor of Science in Economics, expansion plans. specializing in Finance, Marketing and Management.

Pradip kumar Khaitan - Non-Executive Director Vipul Khanna - Managing Director & CEO He is the Senior Partner of Khaitan & Co. with over He is the MD and CEO of Firstsource and is 40 years of experience, working on all aspect of responsible for defining the strategic direction to commercial and corporate laws, taxation, JV, IPOs, accelerate growth for the organisation and create M&A, corporate governance, restructuring and long term value for the shareholders. He joined insolvency issues. Firstsource from Cognizant Digital Operations.

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Grace Koshie - Independent Director Pradip Roy - Independent Director She has over 36 years in RBI, held charge of its He was the former Chairman of State Bank of India Foreign Exchange Department from 2001 – 2004. She (SBI) and has held several important posts in SBI also served as Secretary to RBI’s Central Board. He has during his 40 years long tenure. He is Independent served as RBI nominee Director on the Boards of Director of CESC, Quess Corp Limited, Spencer’s Dena Bank and Corporation Bank. Retail Limited, among others.

Sunil Mitra - Independent Director Charles Richard Vernon Stagg - Independent Director He retired in June 2011 from the office of Revenue & He is Chairman of Rothschild India. Before joining Finance Secretary, Government of India. His public Rothschild, he was a career officer in the UK Foreign service career spanned over three and a half decades. Service from 1977-2015. At present, he is a Director of He serves as a Non-Executive & Independent Director JP Morgan Asian Investment Trust, a Director of Max on the Boards of a number of Public Companies. Financial Services.

: :

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Management Overview

Vipul Khanna Mr. Khanna is the MD and Chief Executive Officer of Firstsource Solutions, and is responsible for defining the organisation’s strategic direction to accelerate growth and create long-term value for shareholders. He was earlier at Cognizant Digital Operations, where he led a start-up practice into a USD2bn, top-5 global BPO business.

Mr. Khanna brings in a rich experience in driving strategy, profitable revenue growth, developing new markets, service offerings, partnerships and client relationships. Prior to Cognizant, he was the CEO of UBS's Internal Service Company and built it into a leading research, capital market operations and IT business. He was a founder member of eFunds's (now Fidelity National) BPO business and led its growth to a USD250mn business. He is a Chartered Accountant, and a Cost and Management Accountant. Dinesh Jain Mr. Jain is the Chief Financial Officer at Firstsource, and has been with the business from its inception. He plays a key role in delivering Firstsource’s business strategy and is known for his ability to think outside the box. Dinesh has transformed Firstsource’s finance function to help provide added value to clients looking to streamline their processes. Dinesh’s deep understanding of the outsourcing industry enables him to deliver the best possible outcomes for his clients. A commerce graduate from Jodhpur University, India, Dinesh is also a chartered accountant from the ICAI, India and a cost accountant from the ICWAI, India. Prior to joining Firstsource, Dinesh was responsible for US GAAP financials at ICICI Bank, and played a key role in both the merger and US listing of ICICI and ICICI Bank. Prashanth Nandella Mr. Nandella is the Chief Operating Officer at Firstsource. He is responsible for the successful execution of FSOL’s long-term growth plans by building an agile and resilient global delivery footprint, enabling digital transformation in line with the Digital First, Digital Now approach. Prashanth has over 20 years of experience across domains with renowned brands, viz. Cognizant, DE Shaw, UBS, HP, GE, and Citi.

Before joining Firstsource, he was associated with Cognizant for a decade wherein he was an integral part of the evolution of Business Process Services. Most recently, he led global delivery for BFSI and P&R verticals, and was also the Center lead for the largest BPM location and seconnd largest delivery location for Cognizant. An alumnus of IIT Madras and IIM Calcutta, Prashanth is a disruptive thought leader and is well known in the industry for his ability to design creative business solutions for clients with a digital mind-set. Sundara Sukavanam Mr. Sukavanam is Chief Digital Officer (CDO) at Firstsource Solutions. He drives the ‘Digital First, Digital Now’ agenda for the organization with the focus to help customers in their digital transformation journey. Sundara leads Firstsource’s Digital Services including Intelligent Automation, Analytics, and scaling Business Process as a Service (BPaaS) offering. He also manages global partnerships with industry- leading platforms in RPA, ML/AI and SaaS and integrate IP into solutions. Sundara is a business and technology leader with over 24 years of experience in the IT & Operations industry, working with the world’s leading corporations across the

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Manufacturing, Utilities, Retail, Financial Services, Healthcare, and Media & Information sectors – delivering solutions in Application Development, Core Modernization, Cloud Migration, Quality Assurance, Analytics and Intelligent Process Automation. Sundara has a Master’s degree from the National Institute of Technology, India and Certifications from the Stanford Business School. Randall L. Shafer Mr. Shafer is Executive Vice President & Global Head, Hospital Business at Firstsource. He is responsible for leading the Healthcare Provider Business and expanding its digitally enabled patient engagement and Revenue Cycle Management (RCM) services. He believes that robust partnerships with clients lie at the heart of a business and focuses on driving collaboration with clients to solve their business challenges and drive growth. Prior to this, Mr. Shafer served as the Chief Operating Officer of the Provider business. With over two decades of healthcare experience, he leans into his strong people and leadership skills to deepen relationships and deliver outcomes that matter to clients as well the business. He is a Bachelor of Science in Business Administration (Marketing) from Manchester University. Debarshi Biswas Mr. Biswas heads Communications, Media & Technology at Firstsource. He’s responsible for leading strategy, building client value and driving business performance. A visionary and an analytical business leader, Mr. Biswas has spearheaded revenue growth, relationship management, solution development, P&L management, and M&A for businesses in BPO, ITO, software and consulting industries. Prior to joining Firstsource, he held several successful roles at Genpact spanning sales leadership and strategy. He played a pivotal role in creating and executing the strategy to expand Genpact’s footprint in Banking – from a handful of mega banks to regional banks and other financial services firms across North America. In 2010, he was recruited to turn around a software company acquired by HCL Technologies, as part of a semi-entrepreneurial stint. Over the next three years, Deb and his team turned the company around and helped divest it successfully. Deb has also held senior leadership positions at Firstsource, Syntel and PricewaterhouseCoopers. Deb began his career with HCL Hewlett Packard in India, after passing out as a Bachelor of Computer Engineering from Mangalore University, India.

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Industry Outlook

The IT industry has sustained growth momentum driven by higher growth within BPM services and strong demand for digital and IT services across leading industries and geographies. Many industries have increased IT spending to enhance operational efficiencies, productivity, improvement in product offerings and customer satisfaction. IBEF reported that IT spending in India is estimated to increase by 6% to USD81.9bn in 2021. According to a NASSCOM survey, global firms have highlighted few key emerging trends such as Infrastructure on Cloud, Cybersecurity, Big Data & Analytics, Artificial Intelligence (AI), Machine Learning (ML), Internet of Things (IoT), Block Chain and edge computing.

In 2019, the global technology industry stood at USD1.5tn (excluding ER&D & Hardware), grew 5.6% YoY. The BPM industry grew at 4.5% YoY to USD208bn in 2019, led by increased SaaS adoption, Artificial Intelligence and Intelligent Automation. In the BPM industry, BPM 4.0 model is witnessing significant increase in its acceptance, focusing more on digital intervention and reducing dependency on legacy processes. IBEF estimated that Indian IT & BPM industry is expected to grow to USD350bn by 2025 and BPM is expected to account for USD50- 55bn out of the total revenue. IT-BPM sector would add 24,900 contract workers in FY20-21, compared with >10,000 last year, as per data analysed by ISF.

We believe digital transformation is accelerating rapidly across sectors, the global pandemic has driven demand for internet, which has become lifeline for people both for work and entertainment, thereby increasing demand for cloud and data centres. Few technologies in healthcare industry such as remote monitoring solutions, telemedicine and clinical information system will boost demand for FSOL. The Digital India initiative along with rapid growth in online transactions will drive the banking industry.

Global BPM spend (USDbn) 250 6.4 208 198 189 200 177 176 183 4.8 167 156 164

150 3.2 % % 100 1.6

50 0

0 -1.6 FY12 FY13 FY14 FY15 FY16 FY17 FY18 FY19 FY20 Axis Title BPM YoY growth

Source: Nasscom, Edelweiss Research

India BPM industry (USDbn) FY12 FY13 FY14 FY15 FY16 FY17 FY18 FY19 FY20 CAGR Global Spend 156 164 167 177 176 183 189 198 208 3.7% Global sourcing 44-46 48-50 50-55 60-62 66-68 71-73 76-78 81-83 88-90 9.4% Sourcing proportion 28.80% 29.90% 31.40% 34.50% 38.10% 39.30% 40.70% 41.40% 42.80% Source: Nasscom, Edelweiss Research

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Revenue as % of global FY12 FY13 FY14 FY15 FY16 FY17 FY18 FY19 FY20 Revenue as % of Global spend 12.20% 12.90% 14.10% 15.30% 16.00% 16.40% 16.90% 17.70% 18.30% Revenue as % of Global sourcing 42.20% 43.10% 45.00% 44.30% 42.10% 41.70% 41.60% 42.70% 42.70% Source: Nasscom, Company Competition 1. BFSI

 UK-based BPM companies: Capita and Serco

 Global IT companies: IBM, Accenture, Dell, Xerox, HP and Capgemini

 Receivables management and Collections: Convergys

 Credit card collection or recovery: iQOR, GC Services, Alltran, Client Services, NCI, Alliance One, Radius and Teleperformance

 Mortgage: Sutherland, TCS, Infosys, Wipro and Accenture

 Offshore BPM providers: Genpact, WNS, EXL

 BPM divisions of IT companies: TCS, Infosys, Wipro, HCL

2. Healthcare

 Global IT companies: NTT Data, HP, CSC, IBM, Accenture

 BPM divisions of Indian IT companies: Wipro and Cognizant

 Healthcare-focused Revenue Cycle Management: Parallon, Navigant Cymetrix, R1 RCM, Change, Cardon (MedData-MedNAX), Conifer group etc;

 Offshore BPM providers in India: Sutherland Global, Conduent, HGS, Exela Technologies

 Global consulting groups: PWC

3. Media & Utilities

 Global BPM companies: Convergys, Sitel, TeleTech, Sykes, Conduit, Transcom and Accenture

 Media & Utilities focused onshore BPM providers: Serco, Capita, Web-Help

 BPM divisions of Indian IT companies: HCL, Tech Mahindra, Infosys, Wipro and Concentrix

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Additional Data Management Holdings – Top 10* CEO Vipul Khanna % Holding % Holding CFO Dinesh Jain RPSG Ventures L 53.72 L&T MF 1.60 HDFC AMC 7.57 Vanguard 1.39 COO Prashanth Nandella Firstsource emp 2.44 Aditya birla AM 0.84 Other ICICI BANK 2.30 Dimensional Fun 0.84 Auditor Deloitte Haskins & Sells Steinberg India 1.87

*Latest public data

Rating Interpretation Daily Volume 40 150

125 32

100 24 (INR)

75 (Mn) 16

50 8 25 Jun-18 Dec-18 Jun-19 Dec-19 Jun-20 Dec-20 0 FSOL IN EQUITY Buy Hold Reduce Jun-18 Dec-18 Jun-19 Dec-19 Jun-20 Dec-20

Source: Bloomberg, Edelweiss research Source: Bloomberg

Rating Distribution: Edelweiss Research Coverage Rating Rationale

Buy Hold Reduce Total Rating Expected absolute returns over 12 months

Rating Distribution* 169 57 16 243 Buy: >15%

>50bn >10bn and <50bn <10bn Total Hold: >15% and <-5%

Market Cap (INR) 206 47 3 256 Reduce: <-5% *1 stocks under review

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