A day after completing what industry watchers thought was a rather audacious acquisition exceeding a billion dollars, Phaneesh Murthy, CEO of the combined entity, iGATE-Patni, spoke to eWorld on his difficulties in completing the transaction, and the road ahead. Edited excerpts:
How have the four months been since you announced the Patni acquisition in January?
It's been quite interesting actually. We went from a point where we thought raising debt was easy to a point where this is not going to happen to... well, actually it has happened.
One of the things that we had not calculated was that all the revenues were in the subsidiary companies, both for Patni and iGATE. The US parent company was actually raising the debt and the Indian companies were not guarantors to the transaction. The debt guys asked as to what the assets in the company (the parent company) were and we said there were no assets. They asked if anyone was giving guarantee and security and the answer was ‘no'. Their issue then was as to how they could get comfortable with this.
Also, the subsidiaries could raise their own debt which automatically becomes senior to the parent debt. For, if the cash flows are in the subsidiaries, then that debt becomes, what in capital structure is considered, senior to the parent debt.
Given this scenario, the first two days of the road show for raising debt was a struggle for us. Once we reasoned out the current capital structure of iGATE (and convinced our creditors), we got good response and ended up raising $770 million at the rate we had originally anticipated (9 per cent).
Any learnings...?
Three learnings : First, we found out that managing the P&L is a trivial task compared with managing a Balance Sheet. The amount of learning I have had on learning to manage balance sheet is dramatic.
The second was the learning from our old Quintant-iGATE integration. Don't take too much time to decide on a leadership team. We decided on two levels of the leadership team and announced it on the day of closure of the transaction. The idea is to hit the ground running in an environment like this.
When Quintant and iGATE had merged in 2003, I took almost 9-12 months to decide the leadership team. That caused a lot of slowness and uncertainty in the organisation and was in a stand still mode for a long time. I feel good about the fact that we have moved fast on the current integration.
Third and most important is one relating to what can be done for customers and with markets. Today, the team is really charged because we have already seen the impact of the synergies.
We had very good executive connects with a couple of pharma companies but we had absolutely no capabilities at iGATE to take to those companies. Patni has a strong healthcare and life sciences practice. The moment we took the healthcare and life sciences practice to them we started business with both of these companies. As those projects start becoming bigger and it starts impacting more people, automatically everyone will start saying that this is working. The continued focus on customers and markets is very relevant because you can integrate around those things as long as there is enough growth.
Any discoveries at Patni that surprised or shocked you?
What surprised me positively was the response that I got from customers and employees. Customers actually said that they were delighted that I was heading this bigger entity.
From an employee perspective, the uncertainty is over. Also we were clear that other than at the senior executive level, we wanted the rest of the people to stay and continue to work.
There are certain things you expect and there are certain things that you hope for. I would say that in both of the above areas, we went more towards the ‘hoped for' much beyond the expected.
On the negative side, for many accounts, the slightly lower level of maturity in the business model which still involved specific people and specific resumes was a little bit disappointing because it reduces your degree of freedom to optimise.
Patni's customer relationships are there and we have the capability to raise that level to the CXO level. I am soon doing a meeting with about 20 CIOs of both iGATE and Patni together. That's been one of my strengths in the market to be able to do this and take thought leadership to them. The fact that I can put together 20 CIOs of iGATE and Patni, I think a lot of learning and cross-fertilisation of ideas will happen.
You had earlier talked of improving Patni's margins. Any thing you have been able to kick-start in these four months...?
No, not really. The last four months have been focussed on the transaction and governance itself than on business and operations. We will kick-start everything now with the completion of the transaction.
Did some clients express concerns about the debt on your books?
We won 23 new accounts in the last quarter- iGATE and Patni together. In the old days, balance sheets used to matter a lot because there were a lot of Asset Transfer Outsourcing deals where you were buying out a lot of equipment, leasing back, etc. Now, I actually believe that for the kind of work we do, it is capabilities, solutions, intellectual capital, bench strength, leadership and customer relationships are much more important. In stray deals, there may be cases where balance sheet is important but for 90-95 per cent of the deals, it will be more capability- and intellectual capital-driven and solutions-dependent rather than balance sheet-oriented.
From that point, we have not had any issues with existing clients and the feedback from them about the combined entity has been positive.
If five years is the time in which you want to pay off debts, what is APAX's, your private equity investor, exit route in that time frame?
The repayment of debt is actually likely to be 5-7 years depending on the model that we adopt to take Patni private. If we get regulatory approvals to do a stock swap (for buying out the balance 17 per cent minority stake in Patni), to that extent I will be saving $230 million to $240 million. If on the other hand, I have do it for cash, I need that extra $240 million (which is almost one-third the total debt) and then the debt repayment time frame goes out a little.
The amount we have generated right now - $770 million through debt, $ 330 million from APAX and $150 million of our own cash we have - was used to buy the 83 per cent stake in Patni. For the balance 17 per cent, we haven't yet raised the capital. We will evaluate and then decide on how to do it.
As regards APAX, theirs is a six-year instrument.
Any gaps in the combined entity that you think need to be filled through further acquisitions?
I think there will be gaps. What we are doing is really scanning strategically what spaces we want to be leaders in. Clearly, in Banking & Financial Services and Healthcare, we want to be leaders. Consequently, we will evaluate what are the white spaces we need to fill as part of the leadership filter and then we might look at those. There is no immediate plan but the $370 million of cash of the two companies will be useful for some of those kinds of transactions.
What about the salary structure in the two companies?
We did a 9-10 per cent salary increase for both iGATE and Patni in April. And there is not that dramatic a difference in the salary structure at the lower level. Second, we are integrating the front-end immediately and then the back-office shared services in the next phase – that should complete within this year. We will take our time in the range of 12-24 months on the integration of the core delivery operations, where the bulk of the people are (over 24,000 people out of the 26,000). In that period, things will start settling down on the people front. You will have more new employees who will come in on a common wage structure.
The other advantage we have is that iGATE has no people in Mumbai and Pune where Patni is very strong. iGATE is strong in Chennai, Hyderabad and Bangalore where Patni does not have a big presence. We have a small team in Noida, where Patni is strong. The co-mingling of resources is much smaller. And integration challenges typically arise when you co-mingle resources.
What is next on the integration front?
We will integrate the front end immediately comprising Sales, Marketing and Account management (about 350- 400 people). They will be a single unit and will go to market as iGATE- Patni. They will take the combined capabilities and cross sell.
By the end of this year, we will integrate the back office (800-1,000 people).
The delivery piece will start but it will move at a slower and measured pace. However, we will work on one set of methodologies to train the new employees coming in.
Any significant challenges you see in the integration?
Culturally, any two companies are slightly different. Therefore I believe that the strategy of being CEO of both companies - iGATE and Patni - will help us spread the culture that we want to spread to facilitate the integration process. That's why I am saying I am okay to taking that piece of integration over time and not hurry that part.
As the CEO of Patni, I will be spending a lot more time there. We have got a culture at iGATE. We need to take the best of both cultures and spread it into both the companies.
We have crafted for ourselves a new vision statement and a new set of values.
Some of the top tier companies are moving away from depth of offering to breadth of offering and becoming customer centric. Is that happening at iGATE as well? What's your view?
You can specialise in a vertical but not on a service line. The fundamental growth driver is that today roughly 9 per cent of the CIO dollar is spent in India. That number is likely to go to 30 per cent by the end of the decade. Because they are going to do more work out of India, if you execute well, you will get the additional work.
With the cost of entry into a Fortune 1000 account becoming close to a million and a half dollars, a single service line focus is very difficult to continue to exist in the market place in my view. Having said that, I completely buy the point of focussing on a specific vertical. However, you cannot build a scale model with focus on only a specific vertical.
The market has also moved a little. Increasing share of the CIO wallet will come when you convince the customer that you have the capability to do certain things. When you are operating in a $1.5- 2 trillion dollar addressable space and your industry is $70 billion, and if you feel that you have saturated the industry, then it's only because the service lines you are operating in are being saturated.
We started operating in the mortgage space, built capabilities. Suddenly more companies start giving you more and more mortgage work. Similar is the case with 401K and Insurance policy administration. Capability building and Intellectual Property creation (what I call the iTOPS world) is an investment philosophy. Unless you get comfortable with the fact that you make the investments ahead of the curve, that's where we will get a little bit of the concern.
What about these capabilities in Patni? Are they modelled on the lines you would like them to be?
Not fully, but in certain pockets, yes. At iGATE, in 8 years, we have gone from 23 per cent gross margin and minus 20 per cent operating margin, to 40 per cent and 20 per cent respectively. If you consider that a marathon, going from 35 per cent gross margin and 19 per cent EBIDTA for Patni to 41 per cent and 25 per cent EBIDTA sounds like a gentle quarter-marathon to me.
Any reason you have not appointed a CFO at Patni?
The role of a CFO in a subsidiary company is a somewhat restricted role because some of the policies get driven down by the parent company as there has to be a consolidation of accounts anyway. Consequently, our thinking is that we should appoint a financial officer with Sujit Sircar as the CFO of the Group playing a more active role in those rather than a CFO for the company itself.
There has been top level executive churn in the top IT companies in India. Anybody who you would like to work with?
To some extent, I have already picked the team I want to work with. There are great guys out there and lot of people who have achieved a lot and who can do great things. It is a question of how the chemistry will work. Will they fit into a team that you are building. I have always been a strong proponent of the fact that ordinary people working well as teams can produce extra ordinary results rather than trying to put multiple super stars together and not functioning as team.
I would like to work with a lot of people who have achieved a lot and they can achieve a lot here. Will it work in a construct where I can fit them into a role where they will be happy with and rest of my team will be happy with, that's the equation that is very difficult to achieve.