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CVG > SEC Filings for CVG > Form 10-Q on 30-Apr-2013All Recent SEC Filings

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Form 10-Q for CONVERGYS CORP


30-Apr-2013

Quarterly Report


MANAGEMENT DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
(Dollar amounts in Millions Except Per Share Amounts)

BACKGROUND

Convergys Corporation (we, the Company or Convergys) is a global leader in customer management, focused on bringing value to our clients through every customer interaction. Over half of the Fortune 50 companies trust us to care for their most important asset: their customers. Our business model allows us to deliver consistent, quality service at the scale and in the geographies that meet our clients' business needs and pro-actively partner to solve client business challenges through our account management model. We leverage our breadth and depth of capabilities to help leading companies create quality customer experiences across multiple channels, while increasing revenue and reducing their cost to serve.
Operations and Structure
Prior to May 2012, we had two reportable segments, Customer Management and Information Management. In March 2012, we signed a definitive agreement to sell the Information Management line of business to NEC Corporation for $449.0 in cash. The sale closed in May 2012, for which we received $462.6 in cash, including $12.9 for working capital adjustments. As a result of the sale of the Information Management business, the operating results and assets and liabilities related to Information Management have been reflected as discontinued operations for all periods presented. The total gain on the sale of the Information Management business amounted to $99.8 pretax and $16.2, net of taxes, at December 31, 2012. As of December 31, 2012, we maintained one reportable segment, reflecting the internal financial reporting structure and operating focus of our management team and chief operating decision maker.

Convergys handles more than 4 billion customer contacts per year. We have approximately 76,000 employees in over 70 locations across the globe and in our work-at-home environment. We provide multilingual, multichannel customer care with global service delivery infrastructure that operates 24 hours a day, 365 days a year.

Agent-related revenues, which accounted for more than 90% of revenues for the three months ended March 31, 2013, are typically recognized as the services are performed based on staffing hours or the number of contacts handled by service agents using contractual rates. Remaining revenues are derived from the sale of premise-based and hosted automated self-care and technology solutions and provision of professional services. Revenues from the sale of these solutions and provision of services are typically recognized as the services are provided over the duration of the contract using contractual rates.

Additional Information
The Company files annual, quarterly and current reports and proxy statements with the SEC. These filings are available to the public over the Internet on the SEC's website at http://www.sec.gov and on the Company's website at http://www.convergys.com. You may also read and copy any document we file with the SEC at its public reference facilities in Washington, D.C. You can also obtain copies of the documents at prescribed rates by writing to the Public Reference Section of the SEC at 100 F Street, N.E., Washington, DC 20549. Please call the SEC at 1-800-SEC-0330 for further information on the operation of the public reference facilities. You can also inspect reports, proxy statements and other information about Convergys at the offices of the NYSE Euronext, 11 Wall Street, New York, New York 10005.

FORWARD-LOOKING STATEMENTS
This report contains statements, estimates, or projections that constitute "forward-looking statements" as defined under U.S. federal securities laws. In some cases, one can identify forward looking statements by terminology such as "will," "expect," "estimate," "think," "forecast," "guidance," "outlook," "plan," "lead," "project" or other comparable terminology. Forward-looking statements are subject to certain risks and uncertainties that could cause actual results to differ materially from our historical experience and our present expectations or projections. These risks include, but are not limited to: (i) the loss of a significant client or significant business from a client;
(ii) the future financial performance of major industries that we serve; (iii) our inability to protect personally identifiable data against unauthorized access or unintended release; (iv) our inability to maintain and upgrade our technology and network equipment in a timely manner; (v) international business and political risks, including economic weakness and operational disruption as a result of natural events, political unrest, war, terrorist attacks or other civil disruption; (vi) the failure to meet expectations regarding the tax treatment of the Information Management transaction; (vii) higher than expected costs of providing transition services and other support to the Information Management business and (viii) those factors contained in our periodic reports filed with the SEC, including in the "Risk Factors" section of our most recent Annual Report on Form 10-K. The forward-looking information in this document is given as of the date of the


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particular statement and we assume no duty to update this information. Our filings and other important information are also available on the investor relations page of our web site at www.convergys.com.

RESULTS OF OPERATIONS

Revenues
                         Three Months Ended
                             March 31,
                     2013       2012      Change      %
Revenues:
Communications     $ 292.8    $ 295.2    $ (2.4 )    (1 )
Technology            44.6       41.8       2.8       7
Financial Services    46.1       52.6      (6.5 )   (12 )
Other                110.0      107.9       2.1       2
Total Revenues     $ 493.5    $ 497.5    $ (4.0 )    (1 )

Consolidated revenues for the first quarter of 2013 were $493.5 compared to $497.5 for the comparable period last year. Revenues from communications clients decreased 1% from the first quarter 2012, reflecting a volume decrease with our largest client and the impact of legacy technology migrations, partially offset by volume increases with several other clients. Revenues from technology clients increased 7% from the first quarter of 2012, reflecting new programs with an existing client. Revenues from financial services clients decreased 12% from the first quarter of 2012, primarily reflecting a program completion with one client. Other revenues, which are comprised of clients outside the Company's three largest industries, increased 2% from the first quarter of 2012 due to $4.9 of transition services revenue earned under agreements with NEC Corporation related to the sale of the Information Management business, partially offset by client migrations from legacy technology offerings. The transition services agreements vary in duration up to 24 months from the sale date depending on the type of service provided, and our expectation is that we will substantially eliminate the underlying costs as the transition services complete.

Operating Costs and Expenses
                                                   Three Months Ended
                                                        March 31,
                                               2013       2012      Change       %
Operating Costs:
Cost of providing services and products sold $ 318.2    $ 317.7    $   0.5       -
Selling, general and administrative            114.6      124.7      (10.1 )    (8 )
Research and development costs                   2.1        3.9       (1.8 )   (46 )
Depreciation                                    20.9       20.3        0.6       3
Amortization                                     1.2        1.9       (0.7 )   (37 )
Total costs and expenses                     $ 457.0    $ 468.5    $ (11.5 )    (2 )

Consolidated total operating costs and expenses for the first quarter of 2013 of $457.0 decreased 2% from $468.5. As discussed above, in May 2012, we completed the sale of the Information Management business and, accordingly, the operating results for this business are presented within discontinued operations. Accounting rules require certain costs previously allocated to the Information Management business to be included in continuing operations. These costs prior to the completion of the sale of the Information Management business were $6.0 in the first quarter of 2012. These amounts are included within selling, general and administrative expenses within continuing operations. We have taken actions to reduce these costs and remaining costs are substantially offset by revenue resulting from transition services provided to the buyer.
As a percentage of revenues, the cost of providing services and products sold was 64.5% in the first quarter of 2013 compared to 63.9% in the period year period, largely due to the classification of costs associated with transition services provided to NEC Corporation. These transition services costs were classified within Selling, general and administrative in the prior year. Selling, general and administrative expenses of $114.6 in the first quarter of 2013 decreased 8% from the prior year period. As a percentage of revenues, selling, general, and administrative cost was 23.2% compared to 25.1% in the prior year, reflecting cost reductions previously taken, continued efforts to control costs, and the reclassification of Information Management costs discussed above. Research and development costs of $2.1 decreased $1.8 from the prior year due to reductions in headcount. Depreciation expense of $20.9 increased $0.6 from the prior year reflecting an increase in capital


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expenditures related to increased capacity. Amortization expense of $1.2 decreased $0.7 due to completion of the amortization of certain definite lived intangible assets.
Operating Income and Adjusted Operating Income (a non-GAAP measure) In order to assess the underlying operational performance of the continuing operations of the business and to have a basis to compare underlying results to prior and future periods, we provide the non-GAAP measures, Adjusted Operating Income and Adjusted Operating Margin, in the table below that excludes certain costs previously allocated to the Information Management business that are now included in continuing operations as discussed above and in more detail in Note 3 of the Notes to Consolidated Financial Statements (these costs were $6.0 for the three months ended March 31, 2012).
Adjustments for these charges are relevant in evaluating the overall performance of the business. Limitations associated with the use of these non-GAAP measures include that these measures do not present all of the amounts associated with our results as determined in accordance with GAAP. Management compensates for this limitation by using both the non-GAAP measures and the GAAP measures in its evaluation of performance. There are no material purposes for which we use these non-GAAP measures beyond those described above.

                                                         Three Months Ended
                                                             March 31,
                                                 2013          2012          Change        %
Operating Income                              $    36.5     $    29.0     $      7.5        26
Operating Margin                                    7.4 %         5.8 %

Information Management costs not qualifying
as discontinued operations                            -           6.0
Adjusted Operating Income (a non-GAAP
measure)                                      $    36.5     $    35.0     $      1.5         4
Adjusted Operating Margin                           7.4 %         7.0 %

Consolidated operating income was $36.5 for the first quarter of 2013 compared to $29.0 in the prior year. Excluding the Information Management-related costs, consolidated operating income for the first quarter of 2013 was $36.5 compared to $35.0 in the same period in the prior year.

Non-Operating Items
                                 Three Months Ended
                                      March 31,
                             2013       2012      Change       %
Operating Income           $ 36.5     $ 29.0     $    7.5     26
Other Income, net             2.3        1.4          0.9     64
Interest Expense             (2.9 )     (3.6 )        0.7    (19 )
Income before Income Taxes $ 35.9     $ 26.8     $    9.1     34

Other income of $2.3 increased from $1.4 in the prior year due to lower foreign exchange losses in the current year. Interest expense of $2.9 improved from $3.6 in the prior year reflecting a lower level of debt outstanding throughout the first quarter of 2013.

Income Taxes
                                                    Three Months Ended
                                                         March 31,
                                                2013       2012      Change     %
Income before Income Taxes                    $   35.9    $ 26.8    $    9.1    34
Income Tax Expense                                 5.7       5.4         0.3     6
Income from Continuing Operations, net of tax $   30.2    $ 21.4    $    8.8    41

Our effective tax rate on net income from continuing operations was 15.9% for the three months ended March 31, 2013 compared to an effective tax rate of 20.1% in the same period last year. The lower tax rate for the three months ended March 31, 2013 is primarily due to a shift in the geographic mix of worldwide income and certain discrete items, including credits reinstated by the American Taxpayers Relief Act of 2012, which were recorded in the first quarter of 2013.


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Net Income from Continuing Operations; Earnings per Diluted Share from Continuing Operations; Adjusted Net Income From Continuing Operations; and Adjusted Earnings per Diluted Share from Continuing Operations (non-GAAP measures)

We use income from continuing operations, net of tax and earnings per share data excluding the Information Management-related operating charges discussed above in the first quarter of 2012 to assess the underlying operational performance of the continuing operations of the business for the year and to have a basis to compare underlying results to prior and future periods. Adjustments for this item is relevant in evaluating the overall performance of the business. Limitations associated with the use of these non-GAAP measures include that these measures do not include all of the amounts associated with our results as determined in accordance with GAAP. Management compensates for these limitations by using the non-GAAP measures, income from continuing operations, net of tax and diluted earnings per share excluding this item, and the GAAP measures, income from continuing operations, net of tax and diluted earnings per share, in its evaluation of performance. There are no material purposes for which we use these non-GAAP measures beyond those described above.

                                                        Three Months Ended
                                                             March 31,
                                                 2013          2012         Change        %
Income from Continuing Operations, net of tax $    30.2     $    21.4     $     8.8        41
Total operating charges from above, net of
tax                                                   -           4.8          (4.8 )      NM
Adjusted Income from Continuing Operations,
net of tax (a non-GAAP measure)               $    30.2     $    26.2     $     4.0        15

Diluted Earnings Per Common Share:
Continuing Operations                         $    0.27     $    0.18     $    0.09        50
Impact of net charges above included in
continuing operations, net of tax                     -          0.04         (0.04 )      NM
Adjusted diluted earnings per common share
from continuing operations (a non-GAAP
measure)                                      $    0.27     $    0.22     $    0.05        23

First quarter 2013 income from continuing operations was $30.2 compared to $21.4 in the first quarter of 2012. Therefore, diluted income from continuing operations per share for the three months ended March 31, 2013 was $0.27, compared to $0.18, in the same period of the prior year. Excluding the Information Management-related charges, diluted income from continuing operations for the first quarter of 2013 was $30.2, or $0.27 per share compared to $26.2, or $0.22 for the same period in the prior year.
Results of Discontinued Operations, Results of Discontinued Operations per Diluted Share, Net Income and Net Income per Diluted Share

                                                        Three Months Ended
                                                             March 31,
                                                 2013          2012         Change        %
Income from Continuing Operations, net of tax $    30.2     $    21.4     $     8.8       41
Income from Discontinued Operations, net of
tax (benefit) expense of ($2.9) and $3.0 for
the three months ended March 31, 2013 and
2012, respectively                                 (5.1 )         4.7          (9.8 )   (209 )
Net Income                                    $    25.1     $    26.1     $    (1.0 )     (4 )

Diluted Earnings per Common Share:
Continuing Operations                         $    0.27     $    0.18     $    0.09       50
Discontinued Operations                           (0.04 )        0.04         (0.08 )   (200 )
Net Diluted Earnings per Common Share         $    0.23     $    0.22     $    0.01        5

First quarter of 2013 results from discontinued operations include $5.1 of transaction costs, net of tax, related to the sale of the Information Management business. Diluted loss from discontinued operations, net of tax, per share for the three months ended March 31, 2013 was $0.04. First quarter of 2012 results from discontinued operations reflect the operating results of the Information Management business. Revenues from discontinued operations prior to completion of the sale were $82.0 in the


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first quarter 2012. First quarter of 2012 results from discontinued operations include the operating results of that business for the quarter as well as $4.9 of transaction costs incurred in connection with the sale of the Information Management business. Diluted income from discontinued operations, net of tax, per share for the three months ended March 31, 2012 was $0.04.
Including the results of discontinued operations first quarter 2013 net income and diluted earnings per share were $25.1 and $0.23, respectively, compared with $26.1 and $0.22, respectively, in the first quarter of 2012. EBITDA and Adjusted EBITDA (non-GAAP measures) Management uses EBITDA and adjusted EBITDA and the GAAP measure, income from continuing operations, net of tax, to monitor and evaluate the underlying performance of the business and believes the presentation of these measures will enhance investors' ability to analyze trends in the business and evaluate our underlying performance relative to other companies in the industry. EBITDA and Adjusted EBITDA should not be considered in isolation or as a substitute for income from continuing operations, net of tax, or other income statement data prepared in accordance with GAAP and our presentation of EBITDA and adjusted EBITDA may not be comparable to similarly-titled measures used by other companies. There are no material purposes for which we use these non-GAAP measures beyond the purposes described above. These non-GAAP measures should be considered supplemental in nature and should not be construed as being more important than comparable GAAP measures.

                                                                  Three Months Ended March 31,
                                                                    2013                 2012
Income from Continuing Operations, net of tax under U.S. GAAP $        30.2         $        21.4
Depreciation and Amortization                                          22.1                  22.2
Interest expense                                                        2.9                   3.6
Income tax expense                                                      5.7                   5.4
EBITDA (a non-GAAP measure)                                            60.9                  52.6
Information Management related costs not qualifying as
Discontinued Operations                                                   -                   6.0
Adjusted EBITDA (a non-GAAP measure)                          $        60.9         $        58.6
Adjusted EBITDA Margin                                                 12.3 %                11.8 %

RESTRUCTURING CHARGES
2012 Restructuring
During 2012, the Company recorded restructuring charges of $11.6, consisting of $11.4 of severance-related charges and $0.2 of facility-related charges, as described below. The $11.4 of severance-related charges impacted approximately 100 professional employees and reflects the change in the Company's executive team and realignment of Corporate overhead. These severance-related charges are expected to be substantially paid in cash by June 30, 2013 pursuant to the Company's severance policies. The total remaining liability under this severance-related restructuring plan, which is included within Payables and other current liabilities on the Company's Consolidated Balance Sheets, was $1.4 as of March 31, 2013 and $5.2 as of December 31, 2012. Savings from Restructuring Plans
The 2012 severance actions are expected to result in cost reductions in excess of $10 on an annualized basis when complete. The impact of these benefits will be spread across our operating expenses, primarily within the selling, general and administrative expense caption of our Consolidated Statements of Income. When completed, the severance actions, in total, are also expected to result in cash savings of approximately $10 on an annualized basis. We do not believe that the impact on liquidity is material.
Facility Restructuring
Our facilities restructuring reserves are equal to the estimated future costs associated with the facilities, net of proceeds from any probable future sublease agreements. We use estimates, based on consultation with the our real estate advisers, to determine the proceeds from any future sublease agreements. We continue to evaluate these estimates in assessing the facilities abandonment liability. The remaining liability for previously exited facilities, which is included within Payables and other current liabilities on the Company's Consolidated Balance Sheets was $0.2 as of March 31, 2013 and $0.3 as of December 31, 2012.

CLIENT CONCENTRATION


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During the first three months of 2013, our three largest clients accounted for 46.1% of our revenues, compared to 47.8% in the same period of 2012. Our largest client, AT&T, accounted for 21.2% of revenues in the first three months of 2013 as compared to 23.6% of revenue in the same period in the prior year. Comcast Corporation and DIRECTV, our second and third largest clients, comprised 12.6% and 12.3%, respectively, of revenues in the first three months of 2013, as compared to 12.3% and 11.8%, respectively, of revenues in the same period in the prior year. Volumes under certain of our long-term arrangements are earned under multiple contracts with these clients and are subject to variation based on, among other things, general economic conditions, client outsourcing trends and seasonal patterns in our clients' businesses.

BUSINESS OUTLOOK
We expect revenue growth and profit improvement for the full year 2013 compared with 2012 adjusted results. Updated expectations including the impact of shares repurchased through April and the expected contribution from the acquisition of the Southeast Asia contact centers are:
•Revenue to exceed $2,055, revised from prior guidance to exceed $2,045;
•Adjusted EBITDA to exceed $248, improved from prior guidance to exceed $245;
•Diluted shares outstanding to approximate 109 million, reduced from prior guidance of 112 million shares;
•Adjusted Earnings per Diluted Common Share to exceed $1.05, improving from prior guidance to exceed $1.00. We expect second-half 2013 results to exceed first-half 2013 results. Not included in this guidance is the impact of any future strategic acquisitions or share repurchase activities. Also not included in this guidance are results classified within discontinued operations related to the sale of the Information Management business as well as other impacts from corporate simplification actions initiated in prior years. These impacts may include completion of real estate transactions and non-cash pension settlement charges.

FINANCIAL CONDITION, LIQUIDITY AND CAPITAL RESOURCES
Liquidity and Cash Flows
We believe that we have adequate liquidity from cash and expected future operating cash flows to fund ongoing operations, invest in the business and pay dividends at the discretion of the Board of Directors for the next twelve months.
Cash flows from operating activities generally provide us with a significant source of funding for our investing and financing activities. Cash flows from operating activities totaled $22.7 in the first three months of 2013 compared to $11.9 in the same period last year, which included $6.9 of cash flows provided by discontinued operations. The increase in the current year was primarily a result of approximately $25 of cash payments made in 2012 to reduce long-term liabilities, and approximately $20 of tax payments made in 2012 related to prior year internal restructurings, partially offset by current quarter seasonal increases in working capital.
Cash flows used in investing activities were $12.6 during the first three months of 2013, which included $12.1 of capital expenditures and $0.5 of purchases of short-term investments, net of proceeds from maturity of short-term investments. Cash flows used in investing activities were $20.0 during the first three months of 2012, which included $3.0 used for discontinued operations.
Cash flows used in financing activities were $39.8 during the first three months of 2013 compared to $3.2 during the first three months of 2012. During the first three months of 2013, we settled in cash the repurchase of 2.1 of the Company's common shares for $38.8, including $3.6 of shares repurchased but not settled prior to December 31, 2012 and excluding $0.2 of shares repurchased in the first quarter that had not settled as of March 31, 2013. We also paid $5.2 in cash dividends. These outflows were partially offset by $2.4 we received from exercise of stock options. During the first three months of 2012, we repaid $5.3 on our outstanding borrowings, partially offset by $3.0 we received from exercise of stock options.
We use free cash flow, a non-GAAP measure, to assess the financial performance of the Company. We define free cash flow as cash flows from operating activities less capital expenditures. A reconciliation of the GAAP measure, net cash . . .

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