In mid 2007, Ananda Mukerji was meeting KV Kamath, the ICICI group doyen who had handpicked him as CEO of Firstsource Solutions six years earlier. As he had often done, Mukerji was seeking Kamath’s advice on an important decision to be taken at India’s sixth largest business process outsourcing firm.
Mukerji was planning a big acquisition. He was already in talks with two targets: Citigroup’s captive back office operations and MedAssist, a US-based healthcare outsourcing company. The Citi unit’s asking price was said to be about $800 million and MedAssist’s was about half of that. The story goes that when Mukerji asked Kamath which company he should acquire, Kamath replied “why don’t you buy both?” The twin acquisitions would have cost Firstsource six or seven times the company’s then revenues of $180 million a year.
Well, this is the market talk and Mukerji refuses to say whether such a meeting ever took place. But he says the board would not have allowed him to take on two large acquisitions at the same time. In any case, the purported conversation captures the DNA of Firstsource, which is the same as that of ICICI Bank. Firstsource was extremely hard-charging and embraced acquisitions for growth. Started in 2000 with $40-million from ICICI, Firstsource acquired seven companies in just five years, spending about $450 million in all.
If one were to look just at the revenues, Firstsource’s strategy would seem to have paid off. They grew from a mere $16 million 2002-03 to $372 million in the year ended March 2009. But the subtext lies in profitability. Operating profit margins have fallen from 12.2 percent to just 8 percent in the last two years. A strategic deal with the US technology company Metavante has not paid off. Despite having a banking pedigree, Firstsource does not have a strong presence among financial sector clients.
People close to the company say ICICI Bank, which owns 26 percent of the company, now wants out. Mukerji is under pressure to show that the money paid for MedAssist had been well spent. The February 2007 IPO of Firstsource, which saw the issue being oversubscribed nearly 50 times, is a forgotten memory. The stock is trading at less than half of its IPO price of Rs. 64, having gone as low as Rs. 9.80 at one point in January 2009.
Competitors say that Firstsource lacks a clear strategy and that most of its problems are the result of acquisitions that were not integrated well. Mukerji denies it and says the companies he acquired brought in new skills. He says he has scaled up the businesses that he acquired by 3.6 times. Customer accounts like BSkyB, Verizon and United Healthcare which came through acquisitions and were small then, have today grown into multi-million dollar businesses.
Mukerji says his acquisition-led strategy was born out of necessity. When Kamath asked him to set up ICICI Onesource (As Firstsource was then called), he didn’t have any large anchor client to help start the business like competitors Genpact or WNS did. “Being a new entrant, we had to acquire skills and expertise to get into the business,” says Chairman Ashok Ganguly.
Mukerji says that margins have fallen last year not because of acquisitions but due to other factors like a slowdown in some of his key businesses, currency fluctuations as well as timing of some big investments. A tenth of the company’s revenues come from credit card collections and increased job losses in the
US have led to higher delinquencies which have brought down operating profits in this business from 20 percent to almost nil. Then there is the timing. Two years ago, Mukerji took a bet on developing the India business unit. During 2007-2009, Firstsource has invested close to Rs. 100 crore in setting up 14 new delivery centres for catering to Indian clients. The domestic business operates at a much lower margin currently and is still in an investment phase.
Pause and Consolidate
Today, the focus inside the company has shifted from spending money to conserving it. Mukerji has bought back some debt, cut costs and changed the organisation structure to make it more market-focussed.
In February 2009, sensing that the business was going to slow down, Mukerji rolled out a programme called Project Slim, designed with McKinsey, to improve operations and reduce costs. For example, by changing small things such as moving the team briefing to non-peak hours, the company managed to get each staffer to increase his productive, earning hours by 10 percent. Office space in US is being consolidated to save on rentals, the pick and drop facility in India is being reworked to save on transport costs and the air-conditioning and electricity in offices is being optimised to save electricity costs. Mukerji says that Project Slim has added about 0.5-0.7 percent to margins last financial year.
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He is also changing the way the organisation works. Instead of having independent sales operation in the US and UK and a common delivery head in India, Mukerji carved the company into four strategic business units — telecom and media, healthcare, BFSI (banking, financial services, insurance) and Asia — with complete charge of revenue growth and profitability to strategic business unit (SBU) heads. Mukerji says that clients today demand expertise and solutions tailored for their industries and without a vertical structure it is impossible to deliver that. Under the new system, any acquisition proposal will come from the SBU head for approval by Mukerji rather than the other way round. Mukerji has also bought back about $60 million worth foreign currency convertible bonds from the $275 million issued to fund MedAssist.
Some of the efforts are beginning to show results. After a relentless fall for five quarters, the company’s operating margins have finally started recovering in the last two quarters. The stock too has recovered to about Rs. 29 now.
Recipe for Health
Despite the challenges of the last two years, Mukerji remains committed to his strategy. He says that the investment that the company has made in healthcare and the India business are long term bets. Mukerji firmly believes that healthcare is the next big wave for the Indian outsourcing industry — just like financial services and telecom in the last decade. Mukerji believes that MedAssist holds the key to unlock the $700-billion healthcare industry in the US. A $100 billion of that is spent on administrative costs which outsourcing companies like MedAssist can help reduce. Today, healthcare forms almost 44 percent of Firstsource’s revenues.
One of the key tasks of the Barack Obama administration is to offer affordable healthcare to all Americans and for which he is willing to spend up to $1 trillion. Mukerji believes that the healthcare stimulus will force insurance companies and hospitals to cut costs and be more efficient and that will spark off a big wave of outsourcing.
Not everyone agrees with that. Rafiq Dossani, director of South Asia programme at Stanford University, who has worked with the US healthcare industry, says the opportunity in the business is large, but a very difficult one. “Hospitals are stuck in a time warp of an oligopolistic age where efficiency is less important. So, while the scope to cut costs is high, the big question is, is the incentive of hospitals to cut costs also high,” says Dossani.
A CEO of a large BPO company, who had once considered buying MedAssist, says the hospitals business does not lend itself to offshoring because a lot of the work, especially claims adjudication (settling medical bills between hospitals and insurance companies), is extremely prone to litigation and needs a heavy onshore presence.
Sell-off Pressures?
For now, Mukerji says MedAssist (wh¬ich contributed $110 million to the business last year) is delivering as per plan. In the first six months of 2009, MedAssist has picked up new annual business worth $13 million. A sales and marketing push from Firstsource has seen 38 new contracts with hospitals in the April-June quarter. MedAssist’s business is expected to grow between 10-13 percent this year.
It is difficult to say if this growth will be enough for the shareholders of Firstsource. Several people close to the company and competitors say that Mukerji is under pressure from ICICI Bank, which holds 26 percent stake, to find a buyer for the company. On 8 September 2008, The Financial Times reported that Metavante had appointed Goldman Sachs as its investment banker to sell its 20 percent stake that Firstsource had given it as the price for their strategic deal. The report also mentioned that “ICICI Bank and Temasek could join Metavante in selling if the offer price is high enough.” There have been other reports about private equity buyouts of the firm.
Mukerji says he cannot comment on what his shareholders are thinking except for saying that ICICI has never put any pressure on him to find a buyer. Ganguly says it is wrong to suggest that Firstsource investors want to sell out because the company is not doing well. “This is not a firesale,” he says. Manish Kejriwal, Senior MD, Te¬masek India, which owns 21 percent of the company, too denies that Temasek is looking to sell out. Kejriwal also says that Temasek believes that the domestic market for outsourcing is a good bet and so is Firstsource.
(Additional reporting by Neelima Mahajan-Bansal)
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