Mphasis Limited (526299) Earnings Call Transcript

Good morning, ladies and gentlemen, and thank you for joining the Mphasis Q3 Fiscal Year 2020 Earnings Conference Call. I'm Janice, your moderator for the day. We have with us today Mr. Nitin Rakesh, CEO of Mphasis; and Mr. Suryanarayanan, the CFO. As a reminder, there is a webcast link in call-invite mail that the Mphasis management team would be referring to today. The same presentation is also available on the emphasis website, www.mphasis.com in the Investors section under filing as well as both the NSC and BSC websites. I request you to please have the presentation handy. [Operator Instructions] I would now like to hand the conference over to Mr. Shiv Muttoo from CDR India. Thank you, and over to you, sir.

Yes. Good morning, everyone, and thank you for joining us on Mphasis Q3 FY '20 Results Conference Call. We have with us today Mr. Nitin Rakesh, CEO; and Mr. Suryanarayanan, CFO of the company. Before we begin, I would like to state that some of the statements in today's discussion may be forward-looking in nature and may involve certain risks and uncertainties. A detailed statement in this regard is available on the Q3 FY '20 results release that has been sent to all of you earlier. I now invite Nitin to begin the proceedings of this call. Over to you.

Thank you, Shiv. Good morning, everybody. Thanks for joining our call this morning. We appreciate your sustained interest in Mphasis, and I trust you've had an opportunity to go through our Q3 FY '20 results as well as the other operational performance information in our MD&A. I would like to start our discussion by showcasing what we are witnessing in the market and then proceed to demonstrate our numbers from various vantage points, namely segment, channel as well as overall. This would hopefully help you understand the performance better. There are many factors changing customer priorities. In this era of exponentially disruptive technological change, often referred to as the fourth industrial revolution, products and services that are cutting-edge one day are outdated the next. In this context, the experience the company offers is increasingly differentiated to the consumers. But the scope of customer expectation and experience is changing too. To win, companies must not only deliver remarkable marketing, sales, e-commerce and service interactions but also prove that they have the end consumers' priority in mind, and provide experiences that truly differentiate. But while expectations for personalized connected experiences are soaring, trust in companies to responsibly handle data they require is bottoming out. With more choice, more access to information and less incentive to be loyal, today's end consumers are firmly in control of the relationships with enterprises. Consumers and business buyers alike seek differentiated experiences based on trust and understanding and will shop around to find them. Consumers are demanding an Amazon and Netflix-like experience from everyone, including financial services, or insurance, or any other enterprise today, which means that they must start looking at products and technologies that will give the same experience to the end consumer. For example, one of the wealth management companies we work for has a model for cloud sourcing what's the peers are investing in. So this whole concept of how you integrate the external data of what is happening in social media with the internal data in a regulatory compliant way is something that banks and other financial services companies are starting to do. And you can see that dramatically changes the user experience. While all of this is happening, enterprises are also missing the mark. In a recent report on customer expectations done by Salesforce, they call out the customer expectations change and a set of behaviors and actions that individuals anticipate when interacting with the company. Historically, customers have expected basics like quality of service, fair pricing. But modern consumers have much higher expectations such as proactive service, personalized interactions and connected experience across channels. Customers expect a lot from the companies but don't have faith in them to deliver. About half of the end consumers say that most enterprises fall short of their expectations for their experiences. The reality today is that today's customers are expecting enterprises to understand and care about them as unique individuals and treat them accordingly. Technology there -- does give a rapidly changing field with new innovations, regulations and trends inundating the business world every quarter, but there's so much going on, it's easy to be missed [ that hype ], to miss the genuine world-changing innovation or to embrace the technological event at the expense of long-term growth, external forces have an impact on customer needs, economics and decision-making. The new priorities that we have seen very clearly are: customers expect connected journeys; customers expect personalization; customers expect innovation; and they expect data protection. Mphasis has also been on its own value-migration journey alongside what our enterprise clients are expecting from us. While our enterprise customers continue to expand their digital capabilities, the ability to deliver new software-based services efficiently is becoming extremely critical, and legacy enterprises have been busy modernizing those back-end processes and systems to support today's digital age. Based on an age-old SBR published concept of value migration, value migrates from outdated business designs to new ones that are better able to satisfy customers' most important priorities. It's the entire system for delivering utility to customers and earning a profit from the activity. Mphasis as an organization has, too, built its entire business around the central reality of our enterprise customers' priorities. We call it the front-to-back transformation that is pivoted around end customers as we have focused in the past many interactions with all of you. One of the challenges, as I mentioned earlier, is that the consumer behavior is changing dramatically, which means financial services organizations need to bring in focus to the consumer in a very quick way. On the other hand, they have legacy systems that are slow to move. This is the Holy Grail guiding our core investment thesis as well. For example, our acquisition of Stelligent Systems was to accelerate this concept of front-to-back transformation through a DevOps-based model. Digital change is accomplished with DevOps and creates a positive impact on KPIs in a shorter cycle. When you're building an application, you're not just looking at building a piece of technology, but you're starting with the end customer in mind and saying that if this is what the customers wants to do, how would we speed up the process and what experience would we provide to the customer. For example, recently, we've been selected as a strategic partner for an enterprise-wide digital transformation journey by a large Fortune 100 U.S. multinational enterprise. We are helping this client embark on a large-scale transformation journey to proactively and preemptively transform their business and operations to be a next-gen tech-driven enterprise through their 150-year-old asset-heavy industry. The partnership is aimed to help them in their acceleration from being a siloed functional organization [ towards an asset ] enterprise whether customers, suppliers, partners and stack and interact with business value, speed and agility using a platformization approach with their core offerings now pivoting from being functional to providing the digital platform as a service. We see this trend play out across sectors, across geographies and is one of the core thesis of how large transformation programs are going to evolve over the next few years. Our numbers also tell the story of consistency and transformation because outcome matters. We've been consistently growing and transforming our business. In Q3 FY '20, consolidated gross revenue grew 5.7% quarter-on-quarter and 13.3% year-over-year on a reported basis. In constant currency terms, growth was 4% Q-o-Q and 12.6% Y-o-Y. YTD, our overall gross revenue has grown 12.2% on a reported basis Y-o-Y, and 11.9% in constant currency terms. Direct International grew 6.9% Q-o-Q and 17.8% Y-o-Y on a reported basis and 5.1% Q-o-Q and 16.9% Y-o-Y in constant currency terms. Direct Core, which constitutes 82% of Direct International business, grew 6.3% sequentially and 15.6% Y-o-Y on a reported basis. In constant currency terms, Direct Core revenues grew 4.5% sequentially and 14.7% year-over-year, aided by consistent and strong deal wins. This takes our YTD Y-o-Y growth rate to 16.2% on a constant currency basis in the Direct Core segment. Growth in Direct Core has been broad-based across strategic accounts, Blackstone portfolio and new client segments. Blackstone portfolio and new client segment continued the strong growth momentum Y-o-Y, constant currency growth rate of over 50% and 80%, respectively. Digital Risk continues to witness strong growth momentum and reported a sequential growth of over 13% in constant currency terms this quarter. We are pleased let you know that we've crossed upward band of 30 million this quarter, aided by strong deal wins from the past few quarters. We've also seen continued growth in our focus areas. Despite a challenging market environment and seasonal softness, we continue to see strong growth momentum and positive outlook in our key verticals of banking and capital markets. BCM segment has reported a strong USD revenue growth of 16% year-over-year. The growth was broad-based across banking and capital markets as well as in Direct Core and Digital Risk. Insurance segment also reported strong sequential growth, aided by some strong deal wins that we called out in the last few quarters. While the industry narrative may be bearish for the BFSI segment, it is becoming apparent that there is accelerated demand for agility by our customers, transferring into initiatives across customer experience, data as well as core application transformation, including cyber security. All of these are areas that we have invested in over the last few years. This is enabling us to expand our wallet share in new spend areas while also staying clear of pricing pressures, directed in areas of legacy ADM and IMS. The numbers you see here are also a testimony that we are winning in multiple industry segments, including BCM. What is interesting to note is that a number of micro verticals within BCM, such as consumer banking, wealth management, brokerage, are all growing well. Majority of our BCM segments are less prone to cyclical trends as they are B2C focused and digital-disruption prone. For example, payments, retail wealth are all riding a secular investment cycle in transformation and digital tech. We're also pleased with the robust growth in emerging industry segment of over 7% sequentially. Emerging industries are growing at 18% CAGR over the past 8 quarters. Logistics and transportation, the sub segment, which comprises over 50% of this emerging portfolio, has grown at about 33% year-over-year. Europe region continues to remain a focus area for us and has reported strong sequential revenue growth this quarter. This is the highest reported growth for the region in the last 5 years. We are very happy with the sales efforts and the investments we've put in this region that are now starting to yield good results. We see good traction here and continue to expect to see growth in the coming quarters as well. Now if you look at the Direct Core business, it has consistently been delivering strong growth, reflected in our deal win momentum as we won TCV of $189 million net new deals in Direct International in Q3 FY '20. This takes our YTD deal wins to $514 million. More than 80% of the YTD dealings are new-gen focus areas. The deal wins have again been broad-based across strategic accounts, new clients and Blackstone portfolio. Turning to the DXC relationship. Strategic client engagement partnership focusing on service transformation and solution that approach to GTM, coupled with geographical diversification and industry vertical market focus is helping us to maintain our consistency here as well. With the recent change of broader DXC, the new leadership strategy is moving towards an enterprise technology stack. Through this, DXC is harnessing significant opportunity, not only in their core foundational business of IPO, but identifying significant opportunities with customers in applying transformations across the stack. I was very pleased to see that DXC has now continued to focus on investments in customers, people and capabilities, and we believe that our portfolio is highly complementary to DXC's enterprise technology stack, especially in the application layer. We're bullish about unlocking further value, both with the strong go-to-market foundation we've established over the last few years as well as moving up the stack with next level of services, especially application Dev and modernization, cloud adoption and service transformation. Moving on to earnings growth and cash generation. Our operating margin improved 10 basis points sequentially and 30 basis points on a Y-o-Y basis to 16.2% despite a typically seasonally challenging quarter for the sector. During the period, we were able to pull some operating levers, including fixed price projects as well as automation initiatives, and using our IP platforms. This, along with strong revenue growth, helped us improve our operating margins sequentially, and we're confident of operating in the guided range of 15.5% to 17% for FY '20. Our cash generation continues to be strong, and total cash and cash equivalents in the balance sheet stood at INR 21,520 million, roughly USD 300 million as of December 31, 2019. Adjusted for the net loan drawdown, net operating cash generated during the quarter was INR 2,600 million, roughly USD 36.5 million. This takes our YTD free cash flow generation to USD 110 million. Our focus on strong operating profit growth is also driving EPS growth. We are pleased with the strong growth of over 20% CAGR in both our operating profit profile as well as in our EPS in the last 3 years. Most of this has been driven by broad-based growth across portfolios and the margin levers that pulled through this, including [indiscernible] optimization, changes in commercial model, strategic shoring, automation and most importantly, our pricing strategy. Our core investment thesis for FY '20 continues to be strong, and we continue to execute against our plan for FY '20 and beyond. If you look at the acceleration in Direct Core, we've consistently grown 2x the market and witnessed strong overall growth at almost 16% year-over-year for 5 quarters in a row. Our new client acquisition business has grown over 80% and Blackstone channel continues to grow at 50% on a Y-o-Y basis. Our strategic partnership with DXC and HP channel continues to be a strong, consistent performer, and we believe we have a strong set of complementary services, especially through service transformation and application organization. In Q3, 58% of our revenues came from service transformation in this channel. We've talked about continued momentum in deal wins, and our YTD TCV wins of $514 million position us well for the foreseeable future. Our guidance margin of 50.5% to 17%, continues to be very robust range that we're operating in. We've also made continued progress in implementation of IP-based platforms, delivery transformation, NEXT Lab and Talent Next programs. And of course, a strong cash flow generation, an optimal cash strategy continues to provide maximization of shareholder value. On that note, I thank you once again, and request the operator to open the line for questions.

[Operator Instructions] We take the first question from the line of Nitin Padmanabhan from Investor Capital.

Decent quarter. Nitin, just wanted your thoughts on DXC. So at least on the face of it, the observations are that over the last 3 quarters, revenues have sort of plateaued. And second, the call last night with DXC sort of suggested there an assessment of 20 or 30 accounts in the challenged territory and some of them had terminations and 2 accounts terminated and there were some partial terminations. So two questions based on this. One is, after a quarter under the new leadership, anything out there that gives you in terms of incremental color on how this proceeds? And second, do you think the pause that we have seen on the revenue growth is just a transitory thing? And third, do we see -- is there any overlap on the problem accounts that they talked about on the call with us that could impact us in the future?

Thanks, Nitin. Again, I think, interesting that you spent no time on the growth segment but statements to what you could perceive to be the problem area. I actually don't perceive that to be a problem area because whatever we are executing on is actually well within line with what we guided at the beginning of the year. Whether you look at the YTD growth number or the forecast for the full-year growth, we talk about at market. And I think we're probably going to end up a little bit on the upper end of the at-market growth. Of course, there's been a renewed strategic alignment at DXC, given the change in management over the last 5 months. They've been fairly vocal about their problem areas, their priorities. And I think they're moving away from taking an approach to the business, which was driven by efficiency and cost to now entering a phase where they're focused on investment and client and capability buildup. And I think that, in a number of ways, provides a new platform for us to find complementarity and alignment. So I think that's the number one thing because in a number of ways, again, going back to the call that you referenced overnight, they were very clearly talking about entering this phase that will last through FY '21 as well. So we are very excited about the new tech stack that they've identified. They've talked about the enterprise technology stack with 5 layers, with ITO at the base, followed by cloud and security services, applications and entry-IP, analytics and engineering and of course, advisory. And I think right in the middle of the stack sits applications and industry. And I think that's an area where we have very strong complementarity. Because even if you look at their entire strategy that seems to be driven and focused with ITO at the base, which is where the last quarter acquisition of Virtual Clarity also fits. So at this point in time, I think the overlap is minimal. Our understanding of their enterprise clients is extremely helpful in identifying alignment areas, and that's the focus of our teams as we go forward. Whether this turns into a deeper partnership or it remains on status quo, I think we'll update you as we go through. Just keep in mind, still all in a way, evolving, developing, and they're going through a number of initiatives to unlock value as well as have a number of market development initiatives in play as well. I would refrain from commenting on, "trouble clients" because I think that's prerogative to talk about, we wouldn't really want to talk about whether they're involved, not involved. I think as I said, I'm very enthused by the technology stack discussion because now we're talking about how go-to-market alignment can actually become more powerful. If you remember from a couple of quarters ago, we had something called DMX that we talked about, which is DXC Mphasis Next, which was really all about going to market for new application transformation deals and now that gets supplemented by this stack.

Sure. So it doesn't -- so from what you're saying, it doesn't really dent your confidence in terms of industry level growth even for the foreseeable future, so that's a fair takeaway to have?

Yes. At this point in time, that's the best outlook I can give you because, as I said, things are evolving and developing. We'll have to wait and watch and see how they progress in their investment cycle as well as in their market development efforts and continue to find ways to realign.

Next question is from the line of Parag Gupta from Morgan Stanley.

My first question is on direct core. I just wanted to get a better understanding from you on what you're hearing from your customers? Do you see some amount of acceleration in the end market? Or do you think customers are still a little uncertain given what's happening in the macro and also given the U.S. election? So I just want to get some sense on that. And second is, how should we think about Digital Risk going forward, are you seeing further improvement in that business? And what's the likely trajectory over the next 12 months?

Sure. So I think both good questions. Let's start with the Direct Core business, especially the macro environment. I think there are parts of the business that are sensitive to the uncertainty, especially interest rates, elections, global macro, of course, the new uncertainty that got introduced with global growth concerns around the outbreak with the China. So I think a lot of these things are moving parts. The thing that gives me confidence about our ability to continue to run through with growth is threefold. Firstly, as I mentioned in my remarks, there are certain trends that are secular in nature. The fact that consumer expectation will continue to put pressure on enterprises to apply agility, transformation and levers that enhance the experience I think are irreversible trends. The move towards embracing everything as a service, the change in consumption of tech is an irreversible trend. Hence, you will see -- you've seen 50% to 75% growth in just the adoption of public cloud provider services. So I think if we are well-aligned to those trends, there is a little bit of immunity to global macro. But of course, at the same time, we have to constantly focus on making sure that we don't take our eye off the ball on discretionary spend and the trends there. So far, it looks like it's fairly stable. I don't think there is any further acceleration in the spend number, but there is definitely a further acceleration in the shift of the spend from legacy or run to these transformation initiatives. So I don't think the pressure on core is going to go away, whether it is renewal cycle driven, whether it is large platform-shift driven. In a number of cases, it may even be driven en masse adoption of different approaches towards enterprise underlying platform. So I think that's kind of what we are seeing. There are certain segments that are interested [ investments ]. But again, even in those spaces, they have to find investment dollars to make investments. So aligning ourselves to some of those trends early on has really helped us find the investment dollars that we can create and generate for the clients to invest in. So that's on the Direct Core side. I think Europe is a little bit better now, especially given the U.K. uncertainty behind us and people have started to focus on the future. That's partly the reason we saw some closures of deals starting to happen 3, 4 months ago, and that's starting to show up in our revenue numbers this quarter. And I think that will continue for the next couple of quarters as well. So I think in a nutshell, the environment will continue to be uncertain, given the multiple moving parts. But the prospects for growth are a direct correlation to how best you're positioned to having a service portfolio that has a little bit more secular nature versus legacy nature. Coming to the next question on Digital Risk. Three things have happened there. Firstly, of course, there is a cyclical tailwind with the interest rate cuts that started in the early part of last calendar year. We called for that in -- again, in our FY '19 year ending call when we talked about a slow move up to the $28 million to $30 million quarterly revenue range. I think we went past that range again this quarter. And we're very pleased with that. Because what that means is that not only do we have the ability to scale with client requirements, we've actually also consolidated our position in making sure that we have a higher spend on the wallet as the spend recovered in the last 3 quarters. Second thing that we did very consciously is integrated some of these client relationships further deeper into our direct business. And a number of the wins that we are seeing are reflecting that integration at an end [indiscernible] of the last, I would say, 9 months or so with a very strong execution by our leadership team on driving these synergies stronger. And third thing that we continue to focus on is, as far as possible, to make this a lot more sustainable growth driver. And the focus there has been to use this positioning to gain a higher share of the wallet in the market itself, win new clients and integrate them as quickly as possible for both tech and ops. So using this as a Trojan horse with the tailwind of the cyclicality has given us access to clients and segments that we're now starting to make a lot more structural emphasis relationships. So I think that's why I'm a little bit more positive about the sustainability and the strategic fit of the business in this [ quarter ]. And that's the reason why we also have fairly strong confidence, at least for the next 3 to 4 quarters, in the sustainability of the revenue momentum we've seen. Now of course, not every quarter is going to be double-digit sequential growth quarter. But I think -- we don't think this was a 1 or 2 quarter blip that will disappear fairly shortly.

Got it. Nitin, that's very helpful. Just one follow up on Digital Risk. You mentioned the macro environment is obviously uncertain, and it can have its own impact on the business, and that's something to watch out for. But do you think the macro also plays on Digital Risk? Or do you think it's a lot more sustainable from that perspective?

I think the DR cyclicality is a little bit more sensitive to the U.S. interest rate cycle. And given that the global macro concerns are causing, if anything, further -- the reduction cycle is probably not done yet. That actually plays as a tailwind into DR. So in a number of ways, I think this is a nice structural fit with a cyclicality hedge that gives us the ability to play out that cycle in a way that the portfolio growth actually continues to stay robust.

We take the next question from the line of Dipesh Mehta from SBI Securities.

A couple of questions. First, on the sales and marketing investment. If you look for last 4 quarters, that investment is largely stabilized and [ play point ] kind of thing. If you can provide some perspective, considering our focus on Direct Core, how one should look investment into sales and marketing going forward? Second question is about the Blackstone portfolio, if you can provide some perspective how that portfolio is doing and what -- now is what percentage of Direct Core, if you can provide some data around it? The third question is about the deal win TCV. If we look 9 months, it grew around mid-single digit, kind of thing, if we look Y-o-Y perspective. So how one should look this translating into revenue trajectory for calendar '20? And whether it would be much more to read? Or you think a [ tenuring ] type deal changing would not have that kind of linear relationship?

So I think our sales and marketing investments, while they will look flattish on a dollar basis or even on a percentage basis, there is a lot of churn that has happened in the last 18 to 24 months because the way we sell, what we sell, has dramatically shifted. Again, all of it is by design. I think we're at a point where we will see some acceleration in sales and marketing spend. But as a percentage of revenue, we'll probably be able to absorb some of that investment because keep in mind that our revenues are also growing healthy double-digit in record. So that gives us the ability to invest, even if some of it has to be now accelerated, and that's the plan for the next, I would say, 2 quarters. The pipeline also gives us the confidence that we should be fairly quickly able to absorb any additional investment that we make. And we're not done with the year yet. I know, yes, you talked about the YTD number. There was a big quarter in FY '19, at the beginning of the quarter, that kind of skews that YTD number. I think we've had probably the highest TCV wins in 5 quarters in Q3, and our pipeline has never been better. So I think we are fairly comfortable with the momentum of both growth and deal wins. And again, in alignment with the type of deals we talked about, both the nature, the tenure and the revenue profile of these deals is obviously changing, and it's changing for the better because we are able to pull-through some longer-term revenue along with the transformation deals. And that gives us the ability to see some longer-term visibility as well. So our visibility in the revenue mix is also improving, and that's evident by the fact that our fixed price percentage continues to go up I would say pretty consistently over the last few quarters. On Blackstone, I think it's right now about 7% of Direct Core revenue. That's up from low to mid-single digits last year. It's still growing at 50% year-over-year. And if DC is growing at 16% and this grows at 50%, it won't be too long before you see it go to 10%, which is, again, what we guided that we think it can double from the 4%, 5%, it was last year to double digits in a short span of time. So I think very happy and comfortable with that performance. Pipeline is very strong there as well. We have over 12 Blackstone relationships, as we speak, within the portfolio companies. Some of them were Blackstone companies, are no longer Blackstone companies, but are still our clients. So we are very happy with that as well because that shows the longevity of the relationships that we build. And I think it's fair to also say that, at least, 2 of those clients have now broken into our top 20 client list. So it's not just small clients, small accounts, these are now starting to scale into meaningful relationships.

Next question is from the line of Mukul Garg from Haitong Securities.

Nitin, congratulations on a good quarter. First, I wanted to follow up on the DXC question, which was asked earlier. Now if you look at the Y-o-Y growth, I think over last 2 years, it has kind of come down from about 30% to now barely close to 3% Y-o-Y in this quarter. So can you please give some more perspective on this? Why has this decline happened? Do you think this should kind of recover going forward as DXC kind of clears its own books? Or is there a factor of low base, which was the year about towards 2017, '18, which you think the ability to kind of deliver that kind of growth is limited because the base is higher?

Mukul, again, this is a pretty consistent question and my answer is also going to be fairly consistent for a number of reasons. Firstly, I think the 20% growth rate that we saw in the first year or 2 of our reincarnation was not sustainable, and we called out that almost both those years and more importantly at the beginning of this financial year. I think our guidance in both those years was at or above. Guidance for this current year was at for the full year will probably be at that guidance, and I think it's a fairly considered, thought through strategic decision that we made to continue to move our investments in areas where we have a higher strategic impact. I think with the renewed focus that they have on transformation and growth, that does provide us a new platform. But what we will continue to focus on is the quality of revenue, the longevity of our own wins and the ability to drive deeper transformation. And some of those considerations will continue to go into deciding how we play that channel. Keeping in mind that we are seeing, I would say, best-in-class growth in the Direct Core business, and in the Direct International business, given the transformation I talked about in the DR channel. I think that does give us the cushion to make some of these strategic choices towards a portfolio mix that is a longer term, sustainable, stronger portfolio mix. And that's, as I said, a strategic, conscious decision we've been working through with over the last few quarters. Beyond that, I think, as I said, as we get into FY '21, as we talk about how our portfolio will look like, we'll provide more color. But at this point in time, I'm very comfortable with the way we are executing on the overall book of business, the way we managed to maintain best-in-class growth in a number of ways. And I think we have set up a foundation for sustained growth momentum in our overall company.

Got it. And given that DXC, I think late yesterday night also in over the last few months, they have been are talking a lot about making new investments. And as you said, like in earlier also, that move from cost cutting to investment phase, do you think that would also kind of flow through to Mphasis as well in terms of increased investment requirements to stay in line with DXC in terms of capabilities to partner and get new deals?

So Mukul, I'll just say this that our investments have already been elevated, and we've already built a portfolio of services that are very easily applicable to that channel. And if anything, I think we will see a lot more operating leverage come through by leveraging the same capability set because across Mphasis, we don't build capability by channel, we build capability across the company. That's the reason we've centralized those 8 capability tribes that we've talked about for the last 3 quarters. So I think I'm actually fairly comfortable that we have adequate investments that have already been made that continue to provide the operating leverage as needed to them as well. And that's been our value proposition to them over the last few months.

We take the next question from the line of Apurva Prasad from HDFC Securities.

Congratulations on the quarter. I've got three questions, actually. First, on the top account, which seems to have declined in the quarter is -- I mean, should that be more of a quarterly aberration because that's essentially been a strong growth driver for us? Second one being on the EMEA out performance. So anything that you can highlight within regions or verticals that seem to be driving this? And thirdly, on the BFSI segmental margins, that seems to be slipping, if you can comment on that too, please?

So I think the first question was around top client. And again, I think the -- issue is a little bit more seasonality, client shutdown impact. But to be very honest, I'm actually very happy that we are improving our client metrics. Because if you see the strong growth that is coming outside of our clients, that's actually very, very good for the long-term sustainability of the growth. Yes. We like our top 10 clients to grow. And yes, we've actually seen double-digit growth in that strategic client segment, but to be very honest, I think I'm actually very comfortable with the fact that we are growing everything else around that much faster because that's the best way to get sustained long-term growth. So think of the portfolio growth, think of the investments we made in go-to market, think of the hunting engine we set up over the last 18 to 24 months, and the results that are starting to show up. Because you can continue to find growth from existing clients, and that was the story of Direct Core for, I would say, 3 or 4 years until FY '17/18. For the last 6 quarters, where we've seen sustained between 50% to 80% growth in new channels is actually the best thing that could have to Direct Core long-term sustainability of growth. We've acquired so many new logos, as you can see from our new client acquisition spree, that now the focus is on actually finding ways to create long term, sustainable, wallet share-based relationships with those. And of course, they had to continue to show value for us to do that. So I think I wouldn't read too much into one client movement on a quarter-over-quarter basis. And it probably will continue to show you that -- I would say, in the short to medium term, you will continue to see higher growth coming from nontop clients because that's just the base effect and the size of buyers that comes in. Second question was around Europe growth. What we call EMEA is primarily Europe for us. Within Europe, we obviously have a large footprint compared to the rest of Europe in U.K. And that is where we've seen the maximum acceleration. We have seen some wins outside U.K. as well on the continent, but that's, I would say, very small base, but we do have some very strong client relationships built out on the content as well in the last 6 to 9 months. All of those, again, bode well for the long-term sustainable growth of that market for us. Again, it's -- we are under-penetrated. It's 12% of our revenue. It's grown the fastest in the last 5 years that it has in Q3. It is now, I think, well-poised for a significant tailwind that we would like to sustain in that region as well. And your final question around BFSI margin, I think it's kind of related to the whole client shutdown as well. I wouldn't read too much into that either. But at the same time, I'm actually pleased that we were able to maintain and actually expand on EBIT in a challenging quarter.

Next question is from the line of Abishek from Elara Capital.

Just a quick question on gross margins. So were you surprised or were the gross margin improvement in line with what you were anticipating for Q3? Or given the growth, they could have been a little better?

I think -- I mean keep in mind, Q3 is, in a way, a number of ways a slightly challenging quarter because predictability only comes in much later in the quarter and what the impact will be. The impact that you see on the overall company gross margin, in a way, I wouldn't say too different from where we expected it to be. If anything, I think there is a little bit of leverage that we have that we can expand into. I don't think it'll be any surprise that we see slight improvement in that metric as well. But again, keep in mind, we actually manage at an operating margin level. And there is -- there would definitely be an impact -- in-quarter impact sometimes of large deal conversions because you'll ramp up or our utilization will have an impact on gross margin as well. But that's an operating lever that we'll continue to manage through to make sure that we come out on the right side of the operating margin profile.

Okay. That's helpful. And just second bookkeeping question for Surya. Sir, the interest expense on a Y-o-Y basis is up substantially, though not a meaningful number, but any particular reason? Anything to call out in terms of interest expense?

So nothing specific, sometimes just to manage the -- in terms of variability of working capital, et cetera, that we are a little more drawdown and hedge aspect in hedging the interest rates. So in terms of the gain and the -- so it's just related to that. So there is nothing to call out on that.

Next question is from the line of Mahesh Babu from Cenrum Broking.

Sir, just on the capital allocation front, last time, a similar time, we completed the buyback in Jan 2019. So this year -- I mean so how should we see -- we should see a lump sum dividend and a final dividend? Or how are we looking at the capital allocation?

So Mahesh, again, expected question. I think if you look at the last 3 years, our capital allocation policy has been fairly consistent. If we find accretive use of cash within the business, we will apply that to the business. Otherwise, we'll return it to shareholders. From that perspective, besides the annual dividend practice that we've been following for a number of years, we've done some special interventions to return cash -- excess cash to shareholders. We'll follow the same guideline. And if we don't have an accretive use of the cash, we -- at that point in time, we'll take the proposal to the Board to decide how best to use that cash or return it back to shareholders. I think no surprise that our cash yield, our return of cash to shareholders, that yield has been in excess of 7% over the last few years on an average basis. So clearly, we continue to follow a similar, prudent, consistent approach. And I don't think tax changes from -- on a year-to-year basis are going to have a massive impact on how we change our capital allocation policy.

Sir. And another thing, apart from BFSI, could you give us some view on the deals we are winning in other verticals, like logistics and transport, which is growing at a rapid pace? So is it full stack offerings we are winning there? And just on other verticals, non-BFSI verticals, where are we winning?

Sure. I think we talked about the capability build-out that happens across 8 competency tribes. That base or the foundation of our [indiscernible] strategy is the same. So whether it is DevOps, very much applicable to other verticals. Next-gen application development or cloud native app dev, modernization, data, cyber, all of them have significant applicability across verticals. But our approach is to lead with the point of view or an enterprise proposition on how you apply these technologies and then bring in the domain flavor of the industry player. So I think there is a -- the good news is, the message is resonating across industries. The example I quoted in my opening remarks about the platformization of large, old legacy enterprise, which was very siloed and treated applications as independent and now starting to connect all the applications and create platforms that customers can subscribe to is a phenomenon that is playing across every industry, more so in logistics and travel because they're starting to open up their systems to their third-party vendors. And instead of offering the end-to-end service, they have the ability to now offer unbundled services as well. So I think that is creating a lot of tailwinds in other verticals besides banking as well.

Next question is from the line of Manik Taneja from Emkay Global.

Nitin, I had a question with regards to the European footprint. If you could break out the mix of business between U.K. and the continent? And also talk about how you think free-up lease versus some of the tier 1 competition in terms of addressing the European market?

Are you talking about the Europe market itself in the second question?

Yes. That's correct.

Okay. So I think I wouldn't break out the business between U.K. and non-U.K. because that's not a level of disclosure we are giving at this point in time simply because, as I said, it's still under penetrated for us, and we want to establish ourselves a little bit more before we start disclosing more information. And as you can see, transparency is one of the cornerstones of the quarterly disclosures that we do. So at the right time, we will disclose at the time we have much more visibility and sustainability in that number. The -- what we -- what is working for us in the region is not very different from what is working for us in the U.S. because the trends that we've talked about, where consumption of tech has moved from on-prem, CapEx-driven, large buying cycles to consumption on demand driven by consumer agility and cost takeout. It's the same trend across verticals and across continents. So it's very similar. What's helping is the reference-ability that we've built with some of these large client relationships in global banks. Because the banks -- global banks are truly global and have a pretty strong recall in all major markets, especially in the U.K., Europe, even in Asia-Pacific. So I think we're using the reference-ability to create opportunities. And there isn't a tier 1 "company" that we haven't won against in every market that we're operating in. And the reason is very simple: if we have the right set of services aligned at the right time with the right transformation mindset, and it makes sense for the customers to accelerate their transformation journey, and they already have the comfort that we've done it before, then I think that message is a very strong message that resonates. Keep in mind that the way we sell has changed. Again, we made disclosure on that as well proactively. 80-plus percent of our wins are proactive in nature. And that motion is not very different in the U.K. and Europe market either. And I think if we can just continue to execute and scale that motion in -- first in both existing accounts in the U.K. and new logos, then I think that we've created a very long term, secular growth market for ourselves.

Sure. So if I could ask one more question, just wanted to get some sense in terms of the fresher level hiring that we might have done in the current quarter as well as the year-till-date for FY '20?

Yes. I think again, fresher level hiring in quarter actually has less meaningful impact to us. What we have to look for is what is the overall revenue growth versus headcount growth trend. And at the same time, how the operating margin levers are being used, both from a utilization perspective and from a per head optimization perspective. So I think we are fairly comfortable in the supply chain approach that we are now working, both offshore and onshore. And given that we saw almost over 4% sequential growth in revenue and less than 2% headcount growth in quarter and improved our offshore leverage should actually give you a pretty good sense of how the operating levers are working.

Next question is the line of Rahul Jain from Dolat Capital.

Congratulations on strong numbers. Two observations from your opening commentary, you spoke about the enterprise investment to sell direct clients on proactive, personalized connected journey? And second, you also said that tech is changing very fast, with trend turning outdated very fast. So how do we ensure sustained growth performance, balancing these challenges and opportunity on a consistent basis?

Sorry, your voice was a little bit muffled. Can you go a little slower, especially on your second question?

[Operator Instructions]

So basically, what I'm asking is that, a, from a proactive, personalized, connected journey aspect where you want to serve your customers, and at the same time, you also talked about the technology trends changing very fast. So how we balance this challenges and opportunity on a consistent basis?

Yes. I think that's the crux of what we call staying ahead. I think we spent a lot of time and effort through our tech counsels, our architectural community. And of course, the interaction we have with client and the partner ecosystem to make certain investments and bets on trends that we think are less topical, much more sustainable. For example, the bets that we made on DevOps, the bets that we made on hybrid multi-cloud and of course, embedding automation in daily use of software drill run and maintain actually are much more secular in nature. And then, of course, you go out and look for the opportunity to build partner or buy these capabilities. I think we've expanded a lot of our investments in all 3 areas. We continue to build through our NEXT Labs in our next step of offering, which is basically the whole IP platform. That actually will get a lot more bigger boost as we enter into FY '21 purely based on the sharpening of the pencil, we will pause some but double down in some areas, and we have a pretty good, clear plan of doing that. Second, I think our investment with partners has substantially gone up. And these aren't just partners that are in a large tech platform. Of course, we have strong relationships with the likes of AWS and Microsoft Azure, and of course in the GCP platform, but we also have a strong relationship with the likes of Pivotal, and we continue to find interesting startups through our [indiscernible] system to work with. So I think it's a very sustained, open innovation mindset that we adopt. Finally, everything goes down to where we think our clients need the most help. And we have a very active engagement with our client leadership to make sure that we are investing in areas where we see the biggest pain point. And I think the trick really is, the closer we can get to anticipating our client problem, not just needs, the sooner we can help them -- help engage with them in defining those right problems to solve, the sooner we'll be able to get into some of these deals very proactively, and that's kind of the whole [indiscernible].

Okay. And secondly, in light of some growth normalization in HP to industry level mark, do you see that we'll be able to deliver profitability closer to the lower end of the band? Or we can be anywhere in that entire range on a sustainable base?