After a careful analysis of the teleservice industry and the players in the space, we chose the following companies as comparable to West Teleservice: SITEL Corporation, APAC Teleservices and Precision Response Corporation. West Teleservice is an integrated teleservice provider whose business model is based on recurring large volume application with focus on state of art technology, quality of service, long term corporate relationships and a management with high level of expertise. We also looked at other dimensions such as size of revenue and revenue projection, operational margins and net margins as indicators of comparable companies in the industry. A detailed analysis of this is captured in Appendix 1. West Teleservice is looking to issue 5.7 M shares, which is equivalent to 13% of total shares outstanding (the co-founders want to retain 87% of the company). The first approach we took in valuing West Teleservice was taking the multiples approach. We then calculated the average of three multiples for the comparables in the industry:
Price / Sales
Price / Operating Profit
Price / Earnings
Using the three multiples above, we came up with valuations of $44/share, $49/share and $53/share for West Teleservice. Compared to the S&P recommendation of $21.5/share, this seemed to be much higher evaluation. Based on this analysis however, Ms. Little would likely recommend a valuation of $44/share. We then proceeded to value West Teleservice using the DCF method. In using the method, there were a few fundamentals about the teleservice industry that came into play. One being that scalability was provided by technology investments or human resource investment, given that workstations, staff and ports need to be added for both personal and automated services.
We kept the sales projection based on 2 years of historical data. However, we also retained the same net margin over future years. We then conducted an analysis based on multiple scenarios. Scenario 1: In scenario 1, we kept the % of market captured by West Teleservice a constant at 5%. In this scenario along with all the assumptions noted in Appendix 3, we came to a valuation at $15 per share. We noted that this was less than the valuation by S&P. This was our baseline model. Scenario 2: Next we played with the spreadsheet to find what % of the outsourced teleservice market does West Teleservice need to capture in order to reach a valuation close to $42 per share. By doing sensitivity analysis, we concluded that the % of the oursourced teleservice market that West Teleservice could capture and the % of net income reinvested in the company impacted cash flow. A year over year of moderate increase in the overall outsourced market and a slightly decreased % of sales reinvested into the company yielded a valuation close to $42.
We then analyzed the industry to see in what ways WestTeleservice could realistically increase its cash flow to asset from the baseline scenario (scenario 1). a) Given the projected growth of overall outsourced teleservice market year over year, the increase in market capture from 5% to 9% over a six years period is a realistic target for West Teleservice. b) Given advances in technology and scale economies involved it is realistic to assume that investment in PPE as a % of total sales could slightly decrease over time. One important point to note is that every teleservice firm in the industry is seeking the exact same competitive advantage. The scalability of the industry is going to be driven primarily by technology innovation (i.e. cost per automation port may go down) and addition of workstations (i.e. human resources). In order to continuously take advantage of technology innovations, the company needs to continue to invest in technology.
To drive labor cost down, it could outsource call centers to countries where labor is cheaper. If West Teleservice was to take advantage of technology innovation, other players in the industry benefit from the exact same innovation, which means as operating cost is reduced, so would projected revenue in the competitive environment. In order to increase the valuation of company by either providing additional value which would increase willingness to pay or by driving down costs, West Teleservice should be able to tap into its resources and capabilities in ways no other company in the space could imitate rapidly. We therefore conclude that to value the company at $42/share, management needs to believe that its expertise in the space and relationship with corporate customers would enable them to grab a bigger piece of the outsourced teleservice pie than the historical 5%. Given the projected growth of the overall outsourced teleservice market, this is not unrealistic for a sound company like West Teleservice. There are many uncertainties in the industry given the number of entrants. The upside potential for those companies that survive is high, but so is risk. The company should pursue equity investment.