ExlService Holdings, Inc.
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ExlService Holdings, Inc. (Form: 10-Q, Received: 10/27/2016 16:20:47)

Table of Contents

 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
_________________________________________________________
FORM 10-Q
_________________________________________________________
(Mark One)
ý
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2016
OR
¨
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM                      TO                     
COMMISSION FILE NUMBER 001-33089
_________________________________________________________
EXLSERVICE HOLDINGS, INC.
(Exact name of registrant as specified in its charter)
_________________________________________________________
DELAWARE
 
82-0572194
(State or other jurisdiction of
incorporation or organization)
 
(I.R.S. Employer
Identification No.)
 
 
 
280 PARK AVENUE, 38 TH  FLOOR,
NEW YORK, NEW YORK
 
10017
(Address of principal executive offices)
 
(Zip code)
(212) 277-7100
(Registrant’s telephone number, including area code)
________________________________________________________
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.   Yes   ý     No   ¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).   Yes   ý     No   ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer
 
ý
  
Accelerated filer
 
¨
 
 
 
 
 
Non-accelerated filer
 
¨   (Do not check if a smaller reporting company)
  
Smaller reporting company
 
¨
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes   ¨     No   ý
As of October 25, 2016 , there were 33,507,211 shares of the registrant’s common stock outstanding, par value $0.001 per share.

 


Table of Contents

TABLE OF CONTENTS
 
 
 
 
 
 
 
PAGE
ITEM
 
 
 
 
 
 
 
 
 
1.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
2.
 
 
 
 
 
3.
 
 
 
 
 
4.
 
 
 
 
 
 
 
 
 
 
 
1.
 
 
 
 
 
1A.
 
 
 
 
 
2
 
 
 
 
 
3.
 
 
 
 
 
4.
 
 
 
 
 
5.
 
 
 
 
 
6.
 
 
 

2

Table of Contents

PART 1. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
EXLSERVICE HOLDINGS, INC.
CONSOLIDATED BALANCE SHEETS
(In thousands, except share and per share amounts)

September 30, 2016

December 31, 2015

(Unaudited)


Assets



Current assets:



Cash and cash equivalents
$
98,374


$
205,323

Short-term investments
115,637


13,676

Restricted cash
2,256


1,872

Accounts receivable, net
109,086


92,650

Prepaid expenses
6,802


8,027

Advance income tax, net
7,110


2,432

Other current assets
18,716


15,219

Total current assets
357,981


339,199

Fixed assets, net
49,006


47,991

Restricted cash
3,380


3,319

Deferred tax assets, net
7,073


13,749

Intangible assets, net
50,326


52,733

Goodwill
177,093


171,535

Other assets
24,163


22,257

Total assets
$
669,022


$
650,783

Liabilities and Equity



Current liabilities:



Accounts payable
$
3,395


$
6,401

Short-term borrowings
5,000


10,000

Deferred revenue
9,730


11,518

Accrued employee cost
40,660


44,526

Accrued expenses and other current liabilities
38,362


34,250

Current portion of capital lease obligations
237


384

Total current liabilities
97,384


107,079

Long term borrowings
40,000


60,000

Capital lease obligations, less current portion
214


278

Non-current liabilities
13,205


17,655

Total liabilities
150,803


185,012

Commitments and contingencies (See Note 16)





Preferred stock, $0.001 par value; 15,000,000 shares authorized, none issued
—


—

Stockholders’ equity:



Common stock, $0.001 par value; 100,000,000 shares authorized, 35,532,329 shares issued and 33,523,371 shares outstanding as of September 30, 2016 and 34,781,201 shares issued and 33,091,223 shares outstanding as of December 31, 2015
36


35

Additional paid-in-capital
275,020


254,052

Retained earnings
367,234


320,989

Accumulated other comprehensive loss
(66,924
)

(67,325
)
Total including shares held in treasury
575,366


507,751

Less: 2,008,958 shares as of September 30, 2016 and 1,689,978 shares as of December 31, 2015, held in treasury, at cost
(57,328
)

(42,159
)
ExlService Holdings, Inc. stockholders’ equity
$
518,038


$
465,592

Non-controlling interest
181


179

Total equity
$
518,219


$
465,771

Total liabilities and equity
$
669,022


$
650,783

See accompanying notes.

3


EXLSERVICE HOLDINGS, INC.
UNAUDITED CONSOLIDATED STATEMENTS OF INCOME
(In thousands, except share and per share amounts)


Three months ended September 30,

Nine months ended September 30,

2016

2015

2016

2015
Revenues, net
$
171,200

   
$
163,503


$
508,714

   
$
462,634

Cost of revenues (exclusive of depreciation and amortization)
111,767

   
103,198


332,172

   
296,801

Gross profit
59,433


60,305


176,542


165,833

Operating expenses:

   





General and administrative expenses
21,854

   
18,817


63,620


57,428

Selling and marketing expenses
11,623

   
12,682


37,875


35,769

Depreciation and amortization
8,597

   
8,057


25,000


23,171

Total operating expenses
42,074


39,556


126,495


116,368

Income from operations
17,359

   
20,749


50,047


49,465

Foreign exchange gain
1,741

   
191


3,573


2,347

Other income, net
2,596

   
1,787


11,174


4,300

Income before income taxes
21,696


22,727


64,794


56,112

Income tax expense
5,646

   
7,565


18,549


19,309

Net income
$
16,050


$
15,162


$
46,245


$
36,803

Earnings per share:

   





Basic
$
0.48

   
$
0.46


$
1.38


$
1.10

Diluted
$
0.46


$
0.44


$
1.34


$
1.08

Weighted-average number of shares used in computing earnings per share:







Basic
33,624,401

   
33,307,312


33,542,258


33,320,477

Diluted
34,675,485

   
34,180,635


34,512,815


34,147,120


See accompanying notes.

4


EXLSERVICE HOLDINGS, INC.
UNAUDITED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(In thousands)

Three months ended September 30,
 
Nine months ended September 30,

2016

2015

2016

2015
Net income
$
16,050


$
15,162


$
46,245


$
36,803

   Other comprehensive income/(loss):







Unrealized gain/(loss) on effective cash flow hedges, net of taxes $1,067, ($822), $1,094 and ($727), respectively
2,540


(2,704
)

3,066


(2,014
)
Foreign currency translation adjustment
1,716


(7,092
)

(2,652
)

(9,926
)
Retirement benefits, net of taxes $4, $71, $24 and $81, respectively
104


172


409


501

   Reclassification adjustments:







Realized (gain)/loss on cash flow hedges, net of taxes ($205), $175, ($386) and $393, respectively (1)
(261
)

255


(486
)

570

Retirement benefits, net of taxes $1, $15, $3 and $31, respectively (2)
22


36


64


128

Total other comprehensive income/(loss)
4,121


(9,333
)

401


(10,741
)
Total comprehensive income
$
20,171


$
5,829


$
46,646


$
26,062


 
 
(1)
These are reclassified to net income and are included in the foreign exchange gain/(loss) in the unaudited consolidated statements of income. See Note 7 to the unaudited consolidated financial statements.
(2)
These are reclassified to net income and are included in the computation of net periodic pension costs in the unaudited consolidated statements of income. See Note 11 to the unaudited consolidated financial statements .

See accompanying notes.

5


EXLSERVICE HOLDINGS, INC.
UNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)

Nine months ended September 30,

2016
 
2015
Cash flows from operating activities:



Net income
$
46,245


$
36,803

Adjustments to reconcile net income to net cash provided by operating activities:



Depreciation and amortization
25,000


23,171

Stock-based compensation expense
14,743


12,280

Unrealized gain on short term investments
(4,955
)

(2,179
)
Unrealized foreign exchange gain
(147
)

(2,850
)
Deferred income taxes
4,424


3,596

Change in fair value of earn-out consideration
(4,060
)

—

Others, net
(84
)

(249
)
Change in operating assets and liabilities (net of effect of acquisitions):



Restricted cash
(464
)

(1,313
)
Accounts receivable
(16,522
)

(14,647
)
Prepaid expenses and other current assets
(587
)

977

Accounts payable
(2,518
)

(1,602
)
Deferred revenue
(1,485
)

(915
)
Accrued employee costs
(3,812
)

460

Accrued expenses and other liabilities
5,688


(3,973
)
Advance income tax, net
(4,748
)

5,751

Other assets
(676
)

(760
)
Net cash provided by operating activities
56,042


54,550





Cash flows from investing activities:



Purchase of fixed assets
(20,335
)

(21,127
)
Business acquisition (net of cash acquired)
(9,427
)

(44,270
)
Purchase of short-term investments
(155,709
)

(109,162
)
Proceeds from redemption of short-term investments
59,229


28,640

Net cash used for investing activities
(126,242
)

(145,919
)






Cash flows from financing activities:





Principal payments on capital lease obligations
(292
)

(559
)
Proceeds from borrowings
—


30,000

Repayments of borrowings
(25,000
)

(10,000
)
Payment of debt issuance costs
—


(74
)
Acquisition of treasury stock
(15,169
)

(13,015
)
Proceeds from exercise of stock options
6,226


3,162

Net cash (used)/provided by financing activities
(34,235
)

9,514

Effect of exchange rate changes on cash and cash equivalents
(2,514
)

(3,988
)
Net decrease in cash and cash equivalents
(106,949
)

(85,843
)
Cash and cash equivalents, beginning of period
205,323


176,499

Cash and cash equivalents, end of period
$
98,374


$
90,656

See accompanying notes.

6


EXLSERVICE HOLDINGS, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2016
(In thousands, except share and per share amounts)
1. Organization and Basis of Presentation
Organization
ExlService Holdings, Inc. (“ExlService Holdings”) is organized as a corporation under the laws of the state of Delaware. ExlService Holdings, together with its subsidiaries (collectively, the “Company”), is a leading Operations Management and Analytics company that helps businesses enhance growth and profitability. Using its proprietary platforms, methodologies and tools the Company looks deeper to help companies improve global operations, enhance data-driven insights, increase customer satisfaction, and manage risk and compliance. The Company’s clients are located principally in the U.S. and the U.K.
Basis of Presentation
The unaudited interim consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles (“US GAAP”) for interim financial information, the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by US GAAP for annual financial statements and therefore should be read in conjunction with the audited consolidated financial statements and footnotes thereto included in the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2015.
The unaudited interim consolidated financial statements reflect all adjustments (of a normal and recurring nature) that management considers necessary for a fair presentation of such statements for the interim periods presented. The unaudited consolidated statements of income for the interim periods presented are not necessarily indicative of the results for the full year or for any subsequent period.
Effective for the quarter and year ended December 31, 2015, the Company merged two of its operating segments (Operations Consulting and Finance Transformation, previously part of the Analytics and Business Transformation reportable segment) into the Consulting operating segment to reflect recent organizational changes. The Company has also revised its reportable segments to reflect management’s focus on the Analytics operating segment. All other operating segments have been aggregated into the Operations Management reportable segment.
The Company’s reportable segments are as follows:
•
Operations Management, and
•
Analytics
The segment information for all prior periods presented herein has been restated to conform to the current presentation. This change in segment presentation does not affect the Company’s consolidated statements of income, comprehensive income, balance sheets or statements of cash flows.
2. Summary of Significant Accounting Policies
(a) Principles of Consolidation
The accompanying unaudited consolidated financial statements include the financial statements of ExlService Holdings and all of its subsidiaries. All intercompany balances and transactions have been eliminated in consolidation.
The non-controlling interest represents the minority partner’s interest in the operations of ExlService Colombia S.A.S. ("Exl Colombia") and the profits associated with the minority partner’s interest in those operations, in the consolidated balance sheets and consolidated statements of income, respectively. The non-controlling interests in such operations for all the periods presented were insignificant and are included under general and administrative expenses in the unaudited consolidated statements of income.
(b) Use of Estimates
The preparation of the unaudited consolidated financial statements in conformity with US GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the unaudited consolidated financial statements and the unaudited consolidated statements of income during the reporting period. Although these estimates are based on management’s best assessment of the current business environment, actual results may be different from those estimates. The significant estimates and assumptions that affect the financial statements include, but are not limited to, allowance for doubtful receivables, service tax receivables, assets and obligations related to employee

7
EXLSERVICE HOLDINGS, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS—(continued)
September 30, 2016
(In thousands, except share and per share amounts)


benefit plans, deferred tax valuation allowances, income-tax uncertainties and other contingencies, valuation of derivative financial instruments, stock-based compensation expense, depreciation and amortization periods, purchase price allocation, recoverability of long-term assets including goodwill and intangibles, and estimates to complete the fixed price contracts.
(c) Other current assets
Other current assets consists of the following:
 
September 30, 2016
 
December 31, 2015
Derivative instruments
$
4,245

 
$
3,009

Advances to suppliers
1,366

 
1,545

Receivables from statutory authorities
11,073

 
8,676

Others
2,032

 
1,989

Other current assets
$
18,716

 
$
15,219

(d) Accrued expenses and other current liabilities
Accrued expenses and other current liabilities consists of the following:
 
September 30, 2016
 
December 31, 2015
Accrued expenses
$
27,356

 
$
26,238

Derivative instruments
1,097

 
1,226

Client liability
2,515

 
2,217

Other current liabilities
7,394

 
4,569

Accrued expenses and other current liabilities
$
38,362

 
$
34,250

(e) Non-current liabilities
Non-current liabilities consists of the following:
 
September 30, 2016
 
December 31, 2015
Derivative instruments
$
719

 
$
1,132

Unrecognized tax benefits
3,195

 
3,066

Deferred rent
6,308

 
6,515

Retirement benefits
1,398

 
1,441

Other non-current liabilities
1,585

 
5,501

Non-current liabilities
$
13,205

 
$
17,655

(f) Accumulated Other Comprehensive Loss
Accumulated other comprehensive loss consists of amortization of actuarial gain/(loss) on retirement benefits and changes in the cumulative foreign currency translation adjustments. In addition, the Company enters into foreign currency exchange contracts, which are designated as cash flow hedges in accordance with ASC topic 815, "Derivatives and Hedging" ("ASC 815"). Changes in the fair values of contracts that are deemed effective are recorded as a component of accumulated other comprehensive loss until the settlement of those contracts. The balances as of September 30, 2016 and December 31, 2015 are as follows:


8
EXLSERVICE HOLDINGS, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS—(continued)
September 30, 2016
(In thousands, except share and per share amounts)


 
September 30, 2016
 
December 31, 2015
Cumulative currency translation adjustments
$
(70,715
)
 
$
(68,063
)
Unrealized gain on cash flow hedges, net of taxes of $1,370 and $662
3,404

 
824

Retirement benefits, net of taxes of ($174) and ($201)
387

 
(86
)
Accumulated other comprehensive loss
$
(66,924
)
 
$
(67,325
)
(g) Other Income, net
Other income, net consists of the following:

Three months ended September 30,
 
Nine months ended September 30,

2016

2015

2016

2015
Interest and dividend income*
$
2,916


$
2,085


$
7,399


$
4,997

Interest expense
(295
)

(340
)

(1,023
)

(983
)
Change in fair value of earn-out consideration**
—


—


4,060


—

Other, net
(25
)

42


738


286

Other income, net
$
2,596


$
1,787


$
11,174


$
4,300

* Includes unrealized gain of $1,971 and $4,955 on investments carried under ASC topic 825, "Financial Instruments" ("ASC 825"), fair value option for the three and nine months ended September 30, 2016 , respectively, and $1,419 and $2,179 , respectively, for the three and nine months ending September 30, 2015 .
** The Company recognized $4,060 of other income during the nine months ended September 30, 2016 due to the changes in the fair value of the earn-out consideration related to its acquisition of RPM Direct, LLC and RPM Data Solutions, LLC (the "RPM acquisition").
Recent Accounting Pronouncements
In May 2014, the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update ("ASU") No. 2014-09, “Revenue from Contracts with Customers”. The new standard is effective for reporting periods beginning after December 15, 2017 and early adoption is not permitted. The comprehensive new standard will supersede existing revenue recognition guidance and require revenue to be recognized when promised goods or services are transferred to customers in amounts that reflect the consideration to which the Company expects to be entitled in exchange for those goods or services. Adoption of the new rules could affect the timing of revenue recognition for certain transactions of the Company. ASU No. 2014-09 is effective for the Company in the first quarter of fiscal 2018 using either one of two methods: (i) retrospectively to each prior reporting period presented with the option to elect certain practical expedients as defined within ASU No. 2014-09; or (ii) retrospectively with the cumulative effect of initially applying ASU No. 2014-09 recognized at the date of initial application and providing certain additional disclosures as defined per ASU No. 2014-09. The Company is currently evaluating the impact of adoption and the implementation approach to be used, changes to its accounting system and processes, and additional disclosure requirements that may be necessary.
In February 2016, the FASB issued ASU No. 2016-02, Leases (Topic 842). ASU No. 2016-02 requires the identification of arrangements that should be accounted for as leases by lessees. In general, for lease arrangements exceeding a twelve month term, these arrangements must now be recognized as assets and liabilities on the balance sheet of the lessee. Under ASU No. 2016-02, a right-of-use asset and lease obligation will be recorded for all leases, whether operating or financing, while the income statement will reflect lease expense for operating leases and amortization/interest expense for financing leases. The balance sheet amount recorded for existing leases at the date of adoption of ASU No. 2016-02 must be calculated using the applicable incremental borrowing rate at the date of adoption. In addition, ASU No. 2016-02 requires the use of the modified retrospective method, which will require adjustment to all comparative periods presented in the consolidated financial statements. The new guidance is effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. The Company is currently evaluating the impact that the adoption of this guidance will have on its consolidated financial statements and the implementation approach to be used.

9
EXLSERVICE HOLDINGS, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS—(continued)
September 30, 2016
(In thousands, except share and per share amounts)


In March 2016, FASB issued ASU No. 2016-05, Derivatives and Hedging: Effect of Derivative Contract Novations on Existing Hedge Accounting Relationships, which clarifies that a change in the counterparty to a derivative instrument that has been designated as a hedging instrument does not, in and of itself, require de-designation of that hedging relationship provided that all other hedge accounting criteria continue to be met. The new guidance is effective for fiscal years beginning after December 15, 2016, including interim periods within those fiscal years. An entity has the option to apply ASU No. 2016-05 on either a prospective basis or a modified retrospective basis. Early adoption is permitted. The adoption of ASU No. 2016-05 will not have any impact on the Company's consolidated financial statements.
In March 2016, the FASB issued ASU No. 2016-08, Revenue from Contracts with Customers (Topic 606): Principal versus Agent Considerations (Reporting Revenue Gross versus Net). ASU No. 2016-08 clarifies the implementation guidance on principal versus agent considerations. The guidance includes indicators to assist an entity in determining whether it controls a specified good or service before it is transferred to the customers. The amendments are effective for all entities for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2018. The Company is currently evaluating the impact that the adoption of this guidance will have on its consolidated financial statements.
In March 2016, the FASB issued ASU No. 2016-09, Compensation – Stock Compensation (Topic 718). ASU No. 2016-09 identifies areas for simplification involving several aspects of accounting for share-based payment transactions, including the income tax consequences, classification of awards as either equity or liabilities, an option to recognize gross stock compensation expense with actual forfeitures recognized as they occur, as well as certain classifications on the statement of cash flows. The amendments are effective for all entities for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2016. Early adoption is permitted but all of the guidance must be adopted in the same period. The Company is currently evaluating the impact that the adoption of this guidance will have on its consolidated financial statements.
In June 2016, FASB issued ASU No. 2016-13, Financial Instruments - Credit Losses, which require a financial asset (or a group of financial assets) measured at amortized cost basis to be presented at the net amount expected to be collected. The allowance for credit losses is a valuation account that is to be deducted from the amortized cost basis of the financial asset(s) to present the net carrying value at the amount expected to be collected on the financial asset. The new guidance is effective for fiscal years beginning after December 15, 2019, including interim periods within those fiscal years. The amendment should be applied through a modified retrospective approach. Early adoption as of the fiscal years beginning after December 15, 2018 is permitted. The adoption of ASU No. 2016-13 is not expected to have a material effect on the Company's consolidated financial statements.
In August 2016, FASB issued ASU No. 2016-15, Classification of Certain Cash Receipts and Cash Payments. The amendments apply to all entities that are required to present a statement of cash flows under Topic 230 . The amendments are an improvement to GAAP because they provide guidance for each of the eight issues, thereby reducing the current and potential future diversity in practice. The amendments are effective for fiscal years beginning after December 31, 2017 and interim periods within those annual periods and should be applied using a retrospective transition method to each period presented. The Company is currently evaluating the impact of adoption of this guidance on its consolidated financial statements, including the implementation approach to be used.
3. Earnings Per Share
Basic earnings per share is computed by dividing net income to common stockholders by the weighted average number of common shares outstanding during each period. Diluted earnings per share is computed using the weighted average number of common shares plus the potentially dilutive effect of common stock equivalents issued and outstanding at the reporting date, using the treasury stock method. Stock options, restricted stock and restricted stock units that are anti-dilutive are excluded from the computation of weighted average shares outstanding.

10
EXLSERVICE HOLDINGS, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS—(continued)
September 30, 2016
(In thousands, except share and per share amounts)


The following table sets forth the computation of basic and diluted earnings per share:
 
Three months ended September 30,
 
Nine months ended September 30,
 
2016
 
2015
 
2016
 
2015
Numerators:
 
 
 
 
 
 
 
Net income
$
16,050

 
$
15,162

 
$
46,245

 
$
36,803

Denominators:

 

 

 

Basic weighted average common shares outstanding
33,624,401

 
33,307,312

 
33,542,258

 
33,320,477

Dilutive effect of share based awards
1,051,084

 
873,323

 
970,557

 
826,643

Diluted weighted average common shares outstanding
34,675,485

 
34,180,635

 
34,512,815

 
34,147,120

Earnings per share:

 
 
 

 
 
Basic
$
0.48

 
$
0.46

 
$
1.38

 
$
1.10

Diluted
$
0.46

 
$
0.44

 
$
1.34

 
$
1.08

Weighted average common shares considered anti-dilutive in computing diluted earnings per share
32,516

 
61,738

 
97,574

 
98,527

4. Segment Information
The Company's operating segments are significant strategic business units that align its products and services with how it manages its business, approaches key markets and interacts with its clients. Effective for the quarter and year ended December 31, 2015, the Company merged two of its operating segments (Operations Consulting and Finance Transformation, previously part of the Analytics and Business Transformation reportable segment) into the Consulting operating segment to reflect recent organizational changes. The Company has also revised its reportable segments to reflect management’s focus on the Analytics operating segment. All the other operating segments have been aggregated into the Operations Management reportable segment.
Our current reportable segments are as follows:
•
Operations Management
•
Analytics
The Company has restated the segment information for all prior periods presented herein to conform to the current presentation. This change in segment presentation does not affect the Company's consolidated statements of income, balance sheets or statements of cash flows. The Company's recent acquisitions of Liss Systems Limited and IQR Consulting Inc. are classified within the Operations Management and Analytics segments, respectively. (see Note 5 to the unaudited consolidated financial statements contained herein)
The chief operating decision maker (“CODM”) generally reviews operating segment revenues and cost of revenues. The Company does not allocate and therefore the CODM does not evaluate operating expenses, foreign exchange gain/loss and other income/loss, net and income taxes by segment. The Company’s operating assets are shared by multiple segments. The Company manages assets on a total company basis, not by operating segment, and therefore asset information and capital expenditures by operating segment are not presented.






11
EXLSERVICE HOLDINGS, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS—(continued)
September 30, 2016
(In thousands, except share and per share amounts)


Revenues and cost of revenues for each of the three months ended September 30, 2016 and 2015 for the Company's Operations Management and Analytics segments, respectively, are as follows:

Three months ended September 30, 2016
 
Three months ended September 30, 2015

Operations
Management

Analytics

Total

Operations
Management

Analytics

Total












Revenues, net
$
129,563


$
41,637


$
171,200


$
128,043


$
35,460


$
163,503

Cost of revenues (exclusive of depreciation and amortization)
85,988


25,779


111,767


81,477


21,721


103,198

Gross profit
$
43,575


$
15,858


$
59,433


$
46,566


$
13,739


$
60,305

Operating expenses




42,074






39,556

Foreign exchange gain and Other income, net




4,337






1,978

Income tax expense




5,646






7,565

Net income




$
16,050






$
15,162


Revenues and cost of revenues for each of the nine months ended September 30, 2016 and 2015 for the Company's Operations Management and Analytics segments, respectively, are as follows:

Nine months ended September 30, 2016
 
Nine months ended September 30, 2015

Operations
Management

Analytics

Total

Operations
Management

Analytics

Total












Revenues, net
$
388,502


$
120,212


$
508,714


$
376,943


$
85,691


$
462,634

Cost of revenues (exclusive of depreciation and amortization)
256,078


76,094


332,172


242,014


54,787


296,801

Gross profit
$
132,424


$
44,118


$
176,542


$
134,929


$
30,904


$
165,833

Operating expenses




126,495






116,368

Foreign exchange gain and Other income, net




14,747






6,647

Income tax expense




18,549






19,309

Net income




$
46,245






$
36,803

5. Business Combination, Goodwill and Intangible Assets

a) Liss Systems Limited
On July 1, 2016, the Company together with its subsidiary ExlService (UK) Limited ("Exl UK"), entered into a share purchase agreement (the “Liss Agreement”) for the purchase of Liss Systems Limited ("Liss").
Pursuant to the Liss Agreement, Exl UK purchased all of the issued and outstanding share capital of Liss from the Liss shareholders for cash consideration of $5,202 , including negative working capital adjustments of $603 . A portion of the purchase consideration otherwise payable was placed into escrow as security for the post-closing indemnification obligations under the Liss Agreement.
The Company also issued 33,459 shares of restricted common stock with an aggregate fair value of $1,754 to certain key employees of Liss, each of whom accepted employment positions with the Company upon consummation of the combination. The fair value of these grants will be recognized as compensation expense over the vesting period.
Liss, now a subsidiary of the Company, is a provider of policy administration solutions for the life and pensions industry, combining both depth of life industry knowledge with expertise in the design and delivery of core system solutions. Liss’s flagship "LISSIA" platform includes multi-channel interfaces, underwriting, workflow engines, and document production modules to

12
EXLSERVICE HOLDINGS, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS—(continued)
September 30, 2016
(In thousands, except share and per share amounts)


automate new policy issuance and simplify policy administration. With its flexible architecture, LISSIA is used for both traditional and unit-linked life and investment products.
Liss’s technology platform combined with EXL platforms’ such as LifePRO ® will automate key customer processes from new business to policy administration with very little human interactions. The acquisition enables expansion of the Company’s solution set for the insurance market, and is expected to strengthen EXL’s end-to-end offering and bolster its position as a leader in the insurance industry. Accordingly, the Company paid a premium for the acquisition which is being reflected in the goodwill recognized from the purchase price allocation of the total consideration paid by the Company.
The Company has preliminarily allocated the purchase price to the net tangible and intangible assets based on their fair values as set forth below:

Amount

(In thousands)
Tangible assets
$
498

Tangible liabilities
(993
)
Deferred tax liability
(643
)
Identifiable intangible assets:

Customer relationships
1,918

Developed technology
1,571

Trade names and trademarks
231

Goodwill
2,620

Total purchase price
$
5,202

The amount of goodwill recognized from the Liss acquisition is not deductible for tax purposes.
The customer relationships, developed technology and trade names and trademarks intangibles from the Liss acquisition are being amortized over a useful life of eight , ten and five years, respectively.

b) IQR Consulting Inc.
On September 1, 2016, the Company's subsidiary, ExlService.com, LLC ("EXL LLC"), entered into a share purchase agreement (the “IQR Agreement”) for the purchase of IQR Consulting Inc. ("IQR").
Pursuant to the IQR Agreement, Exl LLC has purchased all of the issued and outstanding share capital of IQR from the IQR shareholders for an initial cash consideration of $5,052 (including a working capital adjustment of $652 ) and contingent cash consideration of $500 to be paid in the event of the renewal of a key client contract. A portion of the purchase consideration otherwise payable was placed into escrow as security for post-closing working capital adjustments and the indemnification obligations under the IQR Agreement.
The Company also issued 21,987 restricted stock units with an aggregate fair value of $1,125 to certain key employees of IQR, each of whom accepted employment positions with the Company upon consummation of the combination. The fair value of these grants will be recognized as compensation expense over the vesting period.
IQR, now a subsidiary of the Company, is a U.S.-based provider of marketing and risk analytics solutions to super-regional banks and credit unions. IQR specializes in data analytics and strategic consulting services. IQR’s industry focus aligns well with the Company's Analytics strengths and the Company anticipates the acquisition will bring even more value to its clients by enhancing customer satisfaction, increasing revenue growth and minimizing risk. The acquisition furthers penetration into super-regional banks, as well as the underserved credit union market, which we expect will increase the amount of business impact that is delivered to the Company's clients. Accordingly, the Company paid a premium for the acquisition, which is reflected in the goodwill recognized from the purchase price allocation of the total consideration paid by the Company.



13
EXLSERVICE HOLDINGS, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS—(continued)
September 30, 2016
(In thousands, except share and per share amounts)


The Company has preliminarily allocated the purchase price to the net tangible and intangible assets based on their fair values as set forth below:

Amount

(In thousands)
Tangible assets
$
1,438

Tangible liabilities
(527
)
Deferred tax liability
(865
)
Identifiable intangible assets:

Customer relationships
2,300

Goodwill
3,206

Total purchase price
$
5,552

The amount of goodwill recognized from the IQR acquisition is not deductible for tax purposes.
The customer relationships from the IQR acquisition are being amortized over the weighted average useful life of eight years.
During the three months ended September 30, 2016, the Company recognized $403 of acquisition related costs for its Liss and IQR acquisitions. Such amounts are included in general and administrative expenses in the unaudited consolidated statements of income. The Company’s results of operations for the three and nine months ended September 30, 2016 includes revenues of $1,098 from its Liss and IQR acquisitions, since the date on which these acquisitions were consummated. It is not practicable to disclose the net earnings since management does not allocate or evaluate operating expenses and income taxes to its subsidiaries.
Under ASC topic 805, “Business Combinations,” the preliminary allocation of the purchase price to the tangible and intangible assets and liabilities acquired may change for a period of up to one year from the date of the acquisition. The Company’s purchase accounting as of September 30, 2016 was incomplete and the Company expects to complete its valuation of the tangible assets, intangible assets and liabilities assumed as of the acquisition date during the fourth quarter of 2016. Accordingly, the Company may adjust the amounts recorded as of September 30, 2016 to reflect the final valuations of the assets acquired or liabilities assumed.
Goodwill
The following table sets forth details of the Company’s goodwill balance as of September 30, 2016 :

Operations Management
 
Analytics
 
Total
Balance at January 1, 2015
$
122,814

 
$
16,785

 
$
139,599

Goodwill arising from RPM acquisition
—

 
33,155

 
33,155

Currency translation adjustments
(1,219
)
 
—

 
(1,219
)
Balance at December 31, 2015
$
121,595

 
$
49,940

 
$
171,535

Goodwill arising from Liss acquisition
2,620


—


2,620

Goodwill arising from IQR acquisition
—


3,206


3,206

Currency translation adjustments
(268
)
 
—

 
(268
)
Balance at September 30, 2016
$
123,947

 
$
53,146

 
$
177,093





14
EXLSERVICE HOLDINGS, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS—(continued)
September 30, 2016
(In thousands, except share and per share amounts)


Intangible Assets
Information regarding the Company’s intangible assets is set forth below:
 
As of September 30, 2016
 
Gross
Carrying Amount
 
Accumulated
Amortization
 
Net Carrying
Amount
Customer relationships
$
68,957

 
$
(30,230
)
 
$
38,727

Developed technology
13,747

 
(5,911
)
 
7,836

Trade names and trademarks
5,892

 
(3,129
)
 
2,763

Leasehold benefits
2,770

 
(2,243
)
 
527

Non-compete agreements
2,045

 
(1,572
)
 
473

 
$
93,411

 
$
(43,085
)
 
$
50,326

 
 
As of December 31, 2015
 
Gross
Carrying Amount
 
Accumulated
Amortization
 
Net Carrying
Amount
Customer relationships
$
64,816

 
$
(24,215
)
 
$
40,601

Developed technology
12,234

 
(4,363
)
 
7,871

Trade names and trademarks
5,670

 
(2,683
)
 
2,987

Leasehold benefits
2,789

 
(2,109
)
 
680

Non-compete agreements
2,045

 
(1,451
)
 
594

 
$
87,554

 
$
(34,821
)
 
$
52,733

Amortization expense for the three months ended September 30, 2016 and 2015 was $2,848 and $2,642 , respectively, and for the nine months ended September 30, 2016 and 2015 it was $8,281 and $7,509 , respectively. The remaining weighted average life of intangible assets was 6.0 years for customer relationships, 5.1 years for developed technology, 5.8 years for trade names and trademarks excluding indefinite life trade names and trademarks, 2.7 years for leasehold benefits and 2.8 years for non-compete agreements. The Company has $900 of indefinite lived trade names and trademarks as of September 30, 2016 and December 31, 2015 .
Estimated amortization of intangible assets during the year ending September 30,
2017
$
11,552

2018
$
11,245

2019
$
11,019

2020
$
4,950

2021 and thereafter
$
10,660







15
EXLSERVICE HOLDINGS, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS—(continued)
September 30, 2016
(In thousands, except share and per share amounts)


6. Fair Value Measurements
Assets and Liabilities Measured at Fair Value
The following table sets forth the Company’s assets and liabilities that were accounted for at fair value as of September 30, 2016 and December 31, 2015 . The table excludes accounts receivable, accounts payable and accrued expenses for which fair values approximate their carrying amounts.
As of September 30, 2016
Level 1
 
Level 2
 
Level 3
 
Total
Assets

 

 

 

Money market and mutual funds*
$
116,242

 
$
—

 
$
—

 
$
116,242

Derivative financial instruments
—

 
6,622

 
—

 
6,622

Total
$
116,242

 
$
6,622

 
$
—

 
$
122,864

Liabilities

 

 

 

Derivative financial instruments
$
—

 
$
1,816

 
$
—

 
$
1,816

Contingent consideration






500


$
500

Total
$
—

 
$
1,816

 
$
500

 
$
2,316



 

 

 

As of December 31, 2015
Level 1
 
Level 2
 
Level 3
 
Total
Assets

 

 

 

Money market and mutual funds
$
118,478

 
$
—

 
$
—

 
$
118,478

Derivative financial instruments
—

 
4,184

 
—

 
4,184

Total
$
118,478

 
$
4,184

 
$
—

 
$
122,662

Liabilities

 

 

 

Derivative financial instruments
$
—

 
$
2,358

 
$
—

 
$
2,358

Fair value of earn-out consideration
—

 
—

 
4,060

 
4,060

Total
$
—

 
$
2,358

 
$
4,060

 
$
6,418

 
 
 
 
 
* Includes short-term investments carried on fair value option under ASC 825 of $103,069 as of September 30, 2016 .
Derivative Financial Instruments: The Company’s derivative financial instruments consist primarily of foreign currency forward exchange contracts. Fair values for derivative financial instruments are based on independent sources including highly rated financial institutions and are classified as Level 2. See Note 7 to our unaudited consolidated financial statements contained herein for further details on Derivatives and Hedge Accounting.
Fair value of earn-out consideration: The fair value measurement of earn-out consideration is determined using Level 3 inputs. The Company’s earn-out consideration as of December 31, 2015 represents a component of the total purchase consideration for the March 2015 RPM acquisition. The measurement is calculated using unobservable inputs based on the Company’s own assessment of achievement of certain performance goals by RPM during the 2015 and 2016 calendar years. As of December 31, 2015, the Company estimated the fair value of the earn out consideration to be $4,060 , utilizing a Monte Carlo simulation. During the nine months ended September 30, 2016 , the Company re-estimated its earn-out liability utilizing a Monte Carlo simulation based on its assessment of the achievement of the performance goals of RPM during calendar year 2016 and accordingly reduced the liability to nil as of September 30, 2016 . The Monte-Carlo simulation model simulates a range of possible performance levels and estimates the probabilities of the potential payouts. This model also incorporates a range of assumptions like discount rate, risk-free rate, assumed cost of debt, etc.

16
EXLSERVICE HOLDINGS, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS—(continued)
September 30, 2016
(In thousands, except share and per share amounts)


The Company's contingent consideration as of September 30, 2016 represents a component of total purchase consideration for the September 2016 IQR acquisition. As of September 30, 2016 the Company estimated the fair value of the contingent consideration as $500 , using management's best estimate of the current probability of renewal of a key client contract.
7. Derivatives and Hedge Accounting
The Company uses derivative instruments and hedging transactions to mitigate exposure to foreign currency fluctuation risks associated with forecasted transactions denominated in certain foreign currencies and to minimize earnings and cash flow volatility associated with changes in foreign currency exchange rates. The Company’s derivative financial instruments consist of forward foreign exchange contracts and range forward contracts (a transaction where both a put option is purchased and a call option is sold), that are designated effective and that qualify as cash flow hedges under ASC 815. The Company had outstanding cash flow hedges totaling $221,295 (including $2,550 of range forward contracts) as of September 30, 2016 and $230,894 as of December 31, 2015. The fair value of these cash flow hedges is included in the accumulated other comprehensive loss ("AOCI")on the Company's unaudited consolidated balance sheet.
The Company also enters into foreign currency forward contracts to economically hedge its intercompany balances and other monetary assets and liabilities denominated in currencies other than functional currencies. These derivatives do not qualify as fair value hedges under ASC No. 815. Changes in the fair value of these derivatives are recognized in the consolidated statements of income and are included in foreign exchange gain/loss. The Company’s primary exchange rate exposure is with the Indian Rupee, the U.K. pound sterling and the Philippine peso. The Company also has exposure to Colombian pesos, Czech Koruna, Euro, South African ZAR and other local currencies in which it operates. Outstanding foreign currency forward contracts amounted to $62,198 and GBP 18,519 as of September 30, 2016 and amounted to $61,641 and GBP 13,256 as of December 31, 2015.
The Company estimates that approximately $3,111 of net derivative gains included in AOCI could be reclassified into earnings within the next twelve months based on exchange rates prevailing as of September 30, 2016 . At September 30, 2016 , the maximum outstanding term of the cash flow hedges was forty-five months .
The Company evaluates hedge effectiveness at the time a contract is entered into as well as on an ongoing basis. If during this time, a contract is deemed ineffective, the change in the fair value is recorded in the consolidated statements of income and is included in foreign exchange gain/(loss). For hedging positions that are discontinued because the forecasted transaction is not expected to occur by the end of the originally specified period, any related derivative amounts recorded in equity are reclassified to earnings. There were no such significant amounts of gains or losses that were reclassified from AOCI into earnings during the three and nine months ended September 30, 2016 and 2015 .
The following tables set forth the fair value of the foreign currency exchange contracts and their location on the unaudited consolidated financial statements:
Derivatives designated as hedging instruments:
 
September 30, 2016
 
December 31, 2015
Other current assets:
 
 
 
Foreign currency exchange contracts
$
4,177

 
$
2,664

Other assets:
 
 
 
Foreign currency exchange contracts
$
2,377

 
$
1,175

Accrued expenses and other current liabilities:
 
 
 
Foreign currency exchange contracts
$
1,066

 
$
1,226

Other non current liabilities:
 
 
 
Foreign currency exchange contracts
$
719

 
$
1,132




17
EXLSERVICE HOLDINGS, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS—(continued)
September 30, 2016
(In thousands, except share and per share amounts)


Derivatives not designated as hedging instruments:
 
 
September 30, 2016
 
December 31, 2015
Other current assets:




         Foreign currency exchange contracts

$
68


$
345

Accrued expenses and other current liabilities:




         Foreign currency exchange contracts

$
31


—

The following tables set forth the effect of foreign currency exchange contracts on the unaudited consolidated statements of income for the three months ended September 30, 2016 and 2015 :
Derivatives in Cash Flow Hedging
Relationships
Amount of
Gain/(Loss)
Recognized
in AOCI on
Derivative
(Effective Portion)
 
Location of
Gain/(Loss)
Reclassified from
AOCI into Income
(Effective Portion)
 
Amount of
Gain/(Loss) Reclassified
from AOCI into
Income (Effective
Portion)
 
Location of
Gain/(Loss)
Recognized in
Income on
Derivative
(Ineffective Portion
and Amount
Excluded from
Effectiveness
Testing)
 
Amount of
Gain/(Loss)
Recognized in
Income on
Derivative
(Ineffective
Portion and
Amount
Excluded
from
Effectiveness
Testing)
 
2016
 
2015
 
 
 
2016
 
2015
 
 
 
2016
 
2015
Foreign exchange contracts
$
3,607

 
$
(3,526
)
 
Foreign exchange gain/(loss)
 
$
466

 
$
(430
)
 
Foreign exchange
gain/(loss)
 
$
—

 
$
—

Derivatives not designated as Hedging Instruments
 
 
 
Amount of Gain/(Loss)
Recognized in Income
on Derivatives
 
Location of Gain or (Loss) Recognized in
Income on Derivatives
 
2016
 
2015
Foreign exchange contracts
 
Foreign exchange gain/(loss)
 
$
1,382

 
$
705

The following tables set forth the effect of foreign currency exchange contracts on the unaudited consolidated statements of income for the nine months ended September 30, 2016 and 2015 :
Derivatives in Cash Flow Hedging Relationships
Amount of Gain/(Loss) Recognized in AOCI on Derivative (Effective Portion)

Location of Gain/(Loss) Reclassified from AOCI into Income (Effective Portion)

Amount of Gain/(Loss) Reclassified from AOCI into Income (Effective Portion)

Location of Gain/(Loss) Recognized in Income on Derivative (Ineffective Portion and Amount Excluded from Effectiveness Testing)

Amount of Gain/(Loss) Recognized in Income on Derivative (Ineffective Portion and Amount Excluded from Effectiveness Testing)

2016

2015



2016

2015



2016

2015
Foreign exchange contracts
$
4,160


$
(2,741
)

Foreign exchange gain/(loss)

$
872


$
(963
)

Foreign exchange gain/(loss)

$
—


$
—


18
EXLSERVICE HOLDINGS, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS—(continued)
September 30, 2016
(In thousands, except share and per share amounts)


Derivatives not designated
as Hedging Instruments
 
 
 
Amount of Gain/(Loss)
Recognized in Income
on Derivatives
 
Location of Gain or (Loss) Recognized in
Income on Derivatives
 
2016
 
2015
Foreign exchange contracts
 
Foreign exchange gain/(loss)
 
$
4,110


$
94


8. Fixed Assets
Fixed assets consist of the following:

September 30, 2016
 
December 31, 2015
Owned Assets:

 

Network equipment, computers and software
$
104,843

 
$
95,245

Leasehold improvements
30,383

 
28,603

Office furniture and equipment
15,146

 
14,000

Capital work in progress
5,554

 
3,140

Buildings
1,194

 
1,202

Land
781

 
787

Motor vehicles
565

 
540


158,466

 
143,517

Less: Accumulated depreciation and amortization
(109,869
)
 
(96,079
)

$
48,597

 
$
47,438

Assets under capital leases:

 

Leasehold improvements
$
864

 
$
877

Office furniture and equipment
127

 
136

Motor vehicles
743

 
806


1,734

 
1,819

Less: Accumulated depreciation and amortization
(1,325
)
 
(1,266
)

$
409

 
$
553

Fixed assets, net
$
49,006

 
$
47,991

Depreciation and amortization expense excluding amortization of acquisition-related intangibles for the three months ended September 30, 2016 and 2015 was $5,749 , and $5,415 , respectively, and for the nine months ended September 30, 2016 and 2015 was $16,719 and $15,662 , respectively.
Capital work in progress represents advances paid towards acquisition of fixed assets and cost of fixed assets and internally generated software costs not yet ready to be placed in service.
9. Capital Structure
Common Stock
The Company has one class of common stock outstanding.
During the three months ended September 30, 2016 and 2015 , the Company did no t acquire any shares of common stock from employees in connection with withholding tax payments related to the vesting of restricted stock.

19
EXLSERVICE HOLDINGS, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS—(continued)
September 30, 2016
(In thousands, except share and per share amounts)


During the nine months ended September 30, 2016 and 2015 , the Company acquired 16,027 and 13,573 shares of common stock, respectively, from employees in connection with withholding tax payments related to the vesting of restricted stock units for a total consideration of $728 and $421 , respectively. The weighted average purchase price of $45.44 and $30.99 , respectively, was the average of the high and low price of a share of the Company’s common stock on the Nasdaq Global Select Market on the trading day prior to the vesting date of the shares of restricted stock.
On December 30, 2014, the Company’s Board of Directors authorized up to an annual $20,000 common stock repurchase program (the “2014 Repurchase Program”), under which shares may be purchased by the Company from time to time from the open market and through private transactions during each of the fiscal years 2015 to 2017 .
During the three and nine months ended September 30, 2016 , the Company purchased 108,143 and 302,953 shares of its common stock, respectively, for an aggregate purchase price of approximately $5,466 and $14,441 , respectively, including commissions, representing an average purchase price per share of $50.54 and $47.67 , respectively, under the 2014 Repurchase program.
During the three and nine months ended September 30, 2015 , the Company purchased 220,579 and 354,448 shares of its common stock, respectively, for an aggregate purchase price of approximately $8,149 and $12,834 , respectively, including commissions, representing an average purchase price per share of $36.94 and $36.21 , respectively, under the 2014 Repurchase Program.
Repurchased shares have been recorded as treasury shares and will be held until the Board of Directors designates that these shares be retired or used for other purposes.
10. Borrowings
On October 24, 2014, the Company entered into a credit agreement (as amended, the “Credit Agreement”) with certain lenders and JPMorgan Chase Bank, N.A., as Administrative Agent. The Credit Agreement, as amended, provides for a $100,000 revolving credit facility (the “Credit Facility”), including a letter of credit sub-facility. The Credit Facility has a maturity date of October 24, 2019 and is voluntarily pre-payable from time to time without premium or penalty.
Borrowings under the Credit Facility may be used for working capital, general corporate purposes and for acquisitions. The Company has outstanding debt of $45,000 and $70,000 as of September 30, 2016 and December 31, 2015, respectively, of which $5,000 is expected to be repaid within the next twelve months and is included under “short-term borrowings” in the unaudited consolidated balance sheets. The Credit Facility carried an effective interest rate of approximately 1.95% and 1.56% per annum during the nine months ended September 30, 2016 and 2015 , respectively.
In connection with the financing, the Company incurred certain debt issuance costs, which are deferred and amortized as an adjustment to interest expense over the term of the Credit Facility. The unamortized debt issuance costs as of September 30, 2016 and December 31, 2015 were $296 and $368 , respectively and are included under "other current assets" and "other assets" in the unaudited consolidated balance sheets.
The obligations under the Credit Agreement are secured by all or substantially all of the assets of the Company and its material domestic subsidiaries. The Credit Agreement contains certain covenants including a restriction on indebtedness of the Company. As of September 30, 2016 , the Company was in compliance with all covenants.
11. Employee Benefit Plans
The Company’s Gratuity Plans in India and the Philippines ("Gratuity Plan") provide for lump sum payment to vested employees on retirement or upon termination of employment in an amount based on the respective employee’s salary and years of employment with the Company. Liabilities with regard to the Gratuity Plans are determined by actuarial valuation using the projected unit credit method. Current service costs for the Gratuity Plan are accrued in the year to which they relate. Actuarial gains or losses or prior service costs, if any, resulting from amendments to the plans are recognized and amortized over the remaining period of service of the employees.


20
EXLSERVICE HOLDINGS, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS—(continued)
September 30, 2016
(In thousands, except share and per share amounts)


Net gratuity cost includes the following components:
 
Three months ended September 30,
 
Nine months ended September 30,
 
2016

2015

2016

2015
Service cost
$
402


$
403


$
1,203


$
1,241

Interest cost
150


135


449


417

Expected return on plan assets
(104
)

(94
)

(312
)

(291
)
Actuarial loss
23


51


67


159

Net gratuity cost
$
471


$
495


$
1,407


$
1,526

The Gratuity Plan in India is partially funded. The Company makes annual contributions to the employees' gratuity fund established with Life Insurance Corporation of India and HDFC Standard Life Insurance Company. They calculate the annual contribution required to be made by the Company and manage the Gratuity Plans, including any required payouts. Fund managers manage these funds on a cash accumulation basis and declare interest retrospectively on March 31 of each year. The Company earned a return of approximately 9.0% each on these Gratuity Plans for the years ended March 31, 2016 and 2015.
Change in Plan Assets
 
 
Plan assets at January 1, 2016
 
$
4,923

Actual return
 
328

Benefits paid
 
(656
)
Effect of exchange rate changes
 
(36
)
Plan assets at September 30, 2016
 
$
4,559

The Company maintains the Exl Service 401(k) Plan (the “401(k) Plan”) under Section 401(k) of the Internal Revenue Code of 1986 (the “Code”), covering all eligible employees, as defined in the 401(k) Plan. The Company may make discretionary contributions of up to a maximum of 3% of employee compensation within certain limits. The Company has made provisions for contributions to the 401(k) Plan amounting to $554 and $400 during the three months ended September 30, 2016 and 2015 , respectively, and $1,945 and $1,551 during the nine months ended September 30, 2016 and 2015 , respectively.
During the three months ended September 30, 2016 and 2015 , the Company contributed $1,608 and $1,463 , respectively, and during the nine months ended September 30, 2016 and 2015 , the Company contributed $4,619 and $4,393 , respectively, for various defined contribution plans on behalf of its employees in India, the Philippines, Romania, Bulgaria, Colombia, Singapore, South Africa and the Czech Republic.








21
EXLSERVICE HOLDINGS, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS—(continued)
September 30, 2016
(In thousands, except share and per share amounts)


12. Leases
The Company finances its use of certain motor vehicles under lease arrangements provided by financial institutions. Future minimum lease payments under these capital leases as of September 30, 2016 are as follows:
Year ending September 30,

2017
$
282

2018
135

2019
80

2020
34

Total minimum lease payments
531

Less: amount representing interest
80

Present value of minimum lease payments
451

Less: current portion
237

Long term capital lease obligation
$
214

The Company conducts its operations using facilities leased under non-cancelable operating lease agreements that expire at various dates. Future minimum lease payments under non-cancellable agreements expiring after September 30, 2016 are set forth below:
Year ending September 30,

2017
$
9,936

2018
8,471

2019
6,622

2020
3,994

2021
2,535

2022 and thereafter
1,520


$
33,078

The operating leases are subject to renewal periodically and have scheduled rent increases. The Company recognizes rent on such leases on a straight line basis over the non-cancelable lease period determined under ASC topic 840, “Leases”. Rent expense under both cancelable and non-cancelable operating leases was $5,445 and $4,994 for the three months ended September 30, 2016 and 2015 , respectively and $15,871 and $15,089 for the nine months ended September 30, 2016 and 2015 , respectively. Deferred rent as of September 30, 2016 and December 31, 2015 was $7,828 and $7,066 , respectively, and is included under “Accrued expenses and other current liabilities” and “Non-current liabilities” in the consolidated balance sheets.
13. Income Taxes
The Company determines the tax provision for interim periods using an estimate of its annual effective tax rate adjusted for discrete items, if any, that are taken into account in the relevant period. Each quarter, the Company updates its estimate of annual effective tax rate, and if its estimated tax rate changes, the Company makes a cumulative adjustment.
The Company recorded income tax expense of $5,646 and $7,565 , respectively, for the three months ended September 30, 2016 and 2015 . The effective tax rate decreased from 33.3% during the three months ended September 30, 2015 to 26.0% during the three months ended September 30, 2016 . The decrease was the result of (i) higher income tax expense during the three months ended September 30, 2015 due to certain adjustments (resulting in an increase in income tax expense of approximately $600 ), and (ii) an increase in earnings in locations with lower tax rates as well as tax incentives.
The Company recorded income tax expense of $18,549 and $19,309 , respectively, for the nine months ended September 30, 2016 and 2015 . The effective tax rate decreased from 34.4% during the nine months ended September 30, 2015 to 28.6% during

22
EXLSERVICE HOLDINGS, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS—(continued)
September 30, 2016
(In thousands, except share and per share amounts)


the nine months ended September 30, 2016 . The decrease was the result of (i) higher income tax expense during the nine months ended September 30, 2015 due to certain adjustments (resulting in an increase in income tax expense of approximately $2,400 ) and (ii) an increase in earnings in locations with lower tax rates as well as tax incentives. The decrease in effective tax rate was partially offset by the reversal of earn-out liability of $4,060 in other income during the nine months ended September 30, 2016 related to the Company's RPM acquisition.
The following table summarizes the activity related to the gross unrecognized tax benefits from January 1, 2016 through September 30, 2016 :
Balance as of January 1, 2016
$
2,797

Increases related to prior year tax positions
—

Decreases related to prior year tax positions
—

Increases related to current year tax positions
—

Decreases related to current year tax positions
—

Effect of exchange rate changes
(12
)
Balance as of September 30, 2016
$
2,785

The unrecognized tax benefits as of September 30, 2016 of $2,785 if recognized, would impact the effective tax rate.
During the three months ended September 30, 2016 and 2015 , the Company has recognized interest of $50 and $74 , respectively, which are included in the income tax expense in the unaudited consolidated statements of income. As of September 30, 2016 and December 31, 2015, the Company has accrued approximately $1,410 and $1,269 , respectively, in interest relating to unrecognized tax benefits.
14. Stock Based Compensation
The following costs related to the Company’s stock-based compensation plan are included in the unaudited consolidated statements of income:

Three months ended September 30,
 
Nine months ended September 30,

2016

2015

2016

2015
Cost of revenue
$
795


$
740


$
2,848


$
2,394

General and administrative expenses
1,905


1,613


6,241


4,482

Selling and marketing expenses
1,784


2,118


5,654


5,404

Total
$
4,484


$
4,471


$
14,743


$
12,280

As of September 30, 2016 , the Company had 1,967,539 shares available for grant under the 2015 Amendment and Restatement of the 2006 Omnibus Award Plan.






23
EXLSERVICE HOLDINGS, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS—(continued)
September 30, 2016
(In thousands, except share and per share amounts)


Stock Options
Stock option activity under the Company’s stock plans is shown below:

Number of
Options
 
Weighted-
Average
Exercise
Price
 
Aggregate
Intrinsic
Value
 
Weighted-
Average
Remaining
Contractual
Life (Years)
Outstanding at December 31, 2015
1,210,141

 
$
16.31

 
$
34,638

 
3.50
  Granted
—

 
—

 
 
 
 
  Exercised
(386,739
)
 
16.10

 
 
 
 
  Forfeited
—

 
—

 
 
 
 
Outstanding at September 30, 2016
823,402

 
$
16.41

 
$
27,530

 
3.05
 
 
 
 
 
 
 
 
Vested and exercisable at September 30, 2016
823,402

 
$
16.41

 
$
27,530

 
3.05
The unrecognized compensation cost for unvested options as of September 30, 2016 is nil . The Company did no t grant any options during the three and nine months ended September 30, 2016 and 2015 . There were no options that vested during the three months ended September 30, 2016 and September 30, 2015 . The total grant date fair value of options vested during the nine months ended September 30, 2016 and September 30, 2015 was $706 and $1,170 , respectively.
Restricted Stock and Restricted Stock Units
Restricted stock and restricted stock unit activity under the Company’s stock plans is shown below:
 
Restricted Stock
 
Restricted Stock Units
 
Number
 
Weighted-
Average
Intrinsic Value
 
Number
 
Weighted-
Average
Intrinsic Value
Outstanding at December 31, 2015*
134,935

 
$
35.27

 
1,228,287

 
$
30.06

  Granted
33,459

 
52.41

 
420,403

 
48.83

  Vested
(15,057
)
 
34.61

 
(335,022
)
 
28.68

  Forfeited
—

 
—

 
(66,315
)
 
32.23

Outstanding at September 30, 2016*
153,337

 
$
39.08

 
1,247,353

 
$
36.64

 
 
 
 
 
*     As of September 30, 2016 and December 31, 2015 restricted stock units vested for which the underlying common stock is yet to be issued are 135,054 and 149,364 , respectively.
As of September 30, 2016 , unrecognized compensation cost of $40,077 is expected to be expensed over a weighted average period of 2.68 years.

24
EXLSERVICE HOLDINGS, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS—(continued)
September 30, 2016
(In thousands, except share and per share amounts)


Performance Based Stock Awards
Performance restricted stock unit (the "PRSU's") activity under the Company’s stock plans is shown below:
 
Revenue Based PRSUs
 
Market Condition Based PRSUs
 
Number
 
Weighted Avg
Fair Value
 
Number
 
Weighted Avg
Fair Value
Outstanding at December 31, 2015
107,213

 
$
30.88

 
207,212

 
$
38.80

Granted
59,861

 
48.57

 
59,859

 
67.94

Vested
—

 
—

 
—

 
—

Forfeited
(5,600
)
 
36.86

 
(5,600
)
 
55.35

Outstanding at September 30, 2016*
161,474

 
$
37.23

 
261,471

 
$
45.12

As of September 30, 2016 , unrecognized compensation cost of $10,426 is expected to be expensed over a weighted average period of 1.74 years.
15. Geographical Information
The Company attributes the revenues to regions based upon location of its customers.

Three months ended September 30,
 
Nine months ended September 30,
 
2016

2015

2016

2015
Revenues, net







United States
$
137,047


$
129,886


$
407,272


$
364,591

United Kingdom
27,993


28,262


84,284


81,550

Rest of World
6,160


5,355


17,158


16,493


$
171,200


$
163,503


$
508,714


$
462,634


 
September 30, 2016
 
December 31, 2015
Fixed assets, net
 
 
 
India
$
24,089

 
$
23,415

United States
10,917

 
10,680

Philippines
10,811

 
11,285

Rest of World
3,189

 
2,611

 
$
49,006

 
$
47,991


16. Commitments and Contingencies
Fixed Asset Commitments
At September 30, 2016 , the Company has committed to spend approximately $6,400 under agreements to purchase fixed assets. This amount is net of capital advances paid in respect of these purchases.
Other Commitments
Certain units of the Company’s Indian subsidiaries were established as 100% Export-Oriented units or under the Software Technology Parks of India (“STPI”) scheme promulgated by the Government of India. These units are exempt from customs, central excise duties, and levies on imported and indigenous capital goods, stores, and spares. The Company has undertaken to pay custom duties, service taxes, levies, and liquidated damages payable, if any, in respect of imported and indigenous capital

25
EXLSERVICE HOLDINGS, INC.
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS—(continued)
September 30, 2016
(In thousands, except share and per share amounts)


goods, stores and spares consumed duty free, in the event that certain terms and conditions are not fulfilled. The Company’s management believes, however, that these units have in the past satisfied and will continue to satisfy the required conditions.
The Company’s operations centers in the Philippines are registered with the Philippine Economic Zone Authority (“PEZA”). The registration provides the Company with certain fiscal incentives on the import of capital goods and requires ExlService Philippines, Inc. to meet certain performance and investment criteria. The Company’s management believes that these centers have in the past satisfied and will continue to satisfy the required criteria.
Contingencies
U.S. and Indian transfer pricing regulations require that any international transaction involving associated enterprises be at an arm’s-length price. Accordingly, the Company determines the appropriate pricing for the international transactions among its associated enterprises on the basis of a detailed functional and economic analysis involving benchmarking against transactions among entities that are not under common control. The tax authorities have jurisdiction to review this arrangement and in the event that they determine that the transfer price applied was not appropriate, the Company may incur increased tax liability, including accrued interest and penalties. The Company is currently involved in disputes with the Indian tax authorities over the application of some of its transfer pricing policies for some of its subsidiaries. Further, the Company and a U.S. subsidiary are engaged in tax litigation with the income-tax authorities in India on the issue of permanent establishment.
The aggregate disputed amount demanded by Indian tax authorities from the Company related to its transfer pricing issues for years ranging from tax years 2003 to 2013 and its permanent establishment issues ranging from tax years 2003 to 2007 as of September 30, 2016 and December 31, 2015 is $20,540 and $21,360 , respectively, of which the Company has made payments or provided a bank guarantee to the extent of $14,563 and $14,668 , respectively. Amounts paid as deposits in respect of such assessments aggregating to $12,574 and $12,665 as of September 30, 2016 and December 31, 2015 , respectively, are included in “Other assets” and amounts deposited for bank guarantees aggregating to $1,989 and $2,003 as of September 30, 2016 and December 31, 2015 , respectively, are included in “Restricted cash” in the non-current assets section of the Company’s consolidated balance sheets as of September 30, 2016 and December 31, 2015 .
Based on advice from its Indian tax advisors, the facts underlying the Company’s position and its experience with these types of assessments, the Company believes that the probability that it will ultimately be found liable for these assessments is remote and accordingly has not accrued any amount with respect to these matters in its consolidated financial statements. The Company does not expect any impact from these assessments on its future income tax expense. It is possible that the Company might receive similar orders or assessments from tax authorities for subsequent years. Accordingly even if these disputes are resolved, the Indian tax authorities may still serve additional orders or assessments.

17. Subsequent Event

On October 21, 2016, Exl LLC purchased Datasource Consulting, LLC ("Datasource"), a Colorado limited liability company for $18,800 , subject to a working capital adjustment. The Company also issued restricted stock at a fair value of $4,700 to certain key employees of Datasource, each of whom accepted new employment terms as part of the consummation of the combination. Datasource is a provider of enterprise data management and business intelligence solutions.
.




26

ITEM  2.     Management’s Discussion and Analysis of Financial Condition and Results of Operations
You should read the following discussion in connection with our unaudited consolidated financial statements and the related notes included elsewhere in this Quarterly Report on Form 10-Q and our audited consolidated financial statements and the related notes included in our Annual Report on Form 10-K for the fiscal year ended December 31, 2015. Some of the statements in the following discussion are forward looking statements. See “Forward Looking Statements.” Dollar amounts within Item 2 are presented as actual, approximated, dollar amounts.
Cautionary Note Regarding Forward Looking Statements
This Quarterly Report on Form 10-Q contains forward looking statements. You should not place undue reliance on these statements because they are subject to numerous uncertainties and factors relating to our operations and business environment, all of which are difficult to predict and many of which are beyond our control. These statements often include words such as “may,” “will,” “should,” “believe,” “expect,” “anticipate,” “intend,” “plan,” “estimate” or similar expressions. These statements are based on assumptions that we have made in light of our experience in the industry as well as our perceptions of historical trends, current conditions, expected future developments and other factors we believe are appropriate under the circumstances. As you read and consider this Quarterly Report on Form 10-Q, you should understand that these statements are not guarantees of performance or results. They involve known and unknown risks, uncertainties and assumptions. Although we believe that these forward looking statements are based on reasonable assumptions, you should be aware that many factors could affect our actual financial results or results of operations and could cause actual results to differ materially from those in the forward looking statements. These factors include but are not limited to:
• our dependence on a limited number of clients in a limited number of industries;
•
worldwide political, economic or business conditions;
•
negative public reaction in the U.S. or elsewhere to offshore outsourcing;
•
fluctuations in our earnings;
•
our ability to attract and retain clients;
•
our ability to successfully consummate or integrate strategic acquisitions;
•
restrictions on immigration;
•
our ability to hire and retain enough sufficiently trained employees to support our operations;
•
our ability to grow our business or effectively manage growth and international operations;
•
increasing competition in our industry;
•
telecommunications or technology disruptions;
•
our ability to withstand the loss of a significant customer ;
•
regulatory, legislative and judicial developments, including changes to or the withdrawal of governmental fiscal incentives;
•
technological innovation;
•
political or economic instability in the geographies in which we operate;
•
unauthorized disclosure of sensitive or confidential client and customer data; and
•
adverse outcome of our disputes with the Indian tax authorities.
These and other factors are more fully discussed elsewhere in this Quarterly Report on Form 10-Q. These and other risks could cause actual results to differ materially from those implied by forward looking statements in this Quarterly Report on Form 10-Q.
The forward looking statements made by us in this Quarterly Report on Form 10-Q, or elsewhere, speak only as of the date on which they were made. New risks and uncertainties come up from time to time, and it is impossible for us to predict those events or how they may affect us. We have no obligation to update any forward looking statements in this Quarterly Report on Form 10-Q after the date of this Quarterly Report on Form 10-Q, except as required by federal securities laws.
Executive Overview
We are a leading Operations Management and Analytics company that helps businesses enhance growth and profitability. Using our proprietary platforms, methodologies and tools we look deeper to help companies improve global operations, enhance data-driven insights, increase customer satisfaction, and manage risk and compliance. We serve the insurance, healthcare, banking and financial services, utilities and travel, transportation and logistics industries, among others.

27

Table of Contents

Our operating segments are significant strategic business units that align our products and services with how we manage our business, approach our key markets and interact with our clients. Effective for the quarter and year ended December 31, 2015, we merged two of our operating segments (Operations Consulting and Finance Transformation, previously part of the Analytics and Business Transformation reportable segment) into the Consulting operating segment to reflect recent organizational changes. We have also revised our reportable segments to reflect management’s focus on the Analytics operating segment. All our other operating segments have been aggregated into the Operations Management reportable segment.
Our current reportable segments are as follows:
•
Operations Management, and
•
Analytics
We have restated the segment information for all prior periods presented herein to conform to the current presentation. This change in segment presentation does not affect our consolidated statements of income, balance sheets or statements of cash flows. For further descriptions of our operating segments, see Note 4 to the unaudited consolidated financial statements contained herein.
Our global delivery network, which include highly trained industry and process specialists across the United States, Latin America, South Africa, Europe and Asia (primarily India and the Philippines), is a key asset. We have operations centers in India, the U.S., the Philippines, Bulgaria, Colombia, South Africa, Romania and the Czech Republic.
Consistent with our growth strategy, on July 1, 2016 and September 1, 2016, we acquired Liss Systems Limited (the "Liss acquisition") and IQR Consulting Inc. (the "IQR Acquisition"), respectively.
Liss is a provider of policy administration solutions for the life and pensions industry, combining both depth of life industry knowledge with expertise in the design and delivery of core system solutions. Liss’s "LISSIA" platform combined with our platforms’ such as LifePRO ® will enable expansion of our solutions set for the insurance market, and is expected to strengthen our end-to-end offering and bolster our position as a leader in the insurance industry.
IQR is a U.S.-based provider of marketing and risk analytics solutions to super-regional banks and credit unions and specializes in data analytics and strategic consulting services. IQR’s industry focus aligns well with our Analytics strengths and we anticipate that the acquisition will bring even more value to our clients by enhancing customer satisfaction, increasing revenue growth and minimizing risk.
Revenues
For the three months ended September 30, 2016 , we had revenues of $171.2 million compared to revenues of $163.5 million for the three months ended September 30, 2015 , an increase of $7.7 million , or 4.7% . Revenues from operations management services were $129.6 million for the three months ended September 30, 2016 compared to $128.0 million for the three months ended September 30, 2015 . Revenues from analytics services were $41.6 million for the three months ended September 30, 2016 compared to $35.5 million for the three months ended September 30, 2015 .
For the nine months ended September 30, 2016 , we had revenues of