TDCX Writeup

Betting on Outsourcing

Thesis:

TDCX is a classic example of a busted IPO. Since its IPO in October of 2021, the stock is down ~50%. I believe that the business is in excellent position to take advantage of increased outsourcing and the growing Asian internet market. Based on my estimates, the stock trades at only 7-8x 2024 earnings, despite having a long growth runway of 20-25% for the foreseeable future.

What does TDCX do?

TDCX is a digital outsourcing company that provides solutions across Asia. The company has three segments:

Omnichannel CX Solutions: TDCX provides typical troubleshooting services with software and hardware problems. They also provide higher-add value services under this category, like providing safety services for Airbnb.

Digital Sales and Marketing: TDCX provides support for running ad campaign, data analytics, and sorting out advertiser complaints and requests on digital platforms. Meta and Google are the two biggest customers in this segment.

Content Moderation: TDCX conducts moderation of internet platforms operating in Asia. They are responsible for sorting out reports of abuse and rule violations.

The business was founded in 1995 by Laurent Junique, who continues to serve as CEO and Chairman. For its first 15 years, TDCX was a traditional BPO player (think calling your cable company to cancel your HBO subscription). In 2011, the company did a complete pivot to digital services after landing Google as a client. Today, new economy clients make up 90% of sales. The company has gone from 11 to 60 clients in only three years. This list of clientele includes Meta, Airbnb, TikTok, Google, and Netflix. Net revenue retention stands at 110%, as existing clients ramp up spending after two to three years.

Pivoting from traditional BPO work to digital services has a few advantages. First, TDCX can handle more complex and mission critical problems. For example, TDCX provides safety support for Airbnb. If a guest presses the panic button in the Airbnb app while staying at an Asian property, they’re immediately connected to a TDCX representative. Not only is this higher margin work for TDCX, but it also carries a high degree of switching costs. If Airbnb wanted to switch providers, they would have to find a new contractor, train their employees how to operate their OS, and then slowly transition away from TDCX to this new provider. Like I said, high switching costs. The same logic can be applied to TDCX’s content moderation business, and to a lesser degree its marketing and CX unit. In an increasingly consumer-centric and individualized business landscape, TDCX’s digital services are becoming more mission critical, while costing a small fraction of tech budgets. This gives TDCX significant pricing power over clients when contracts are renewed. In all TDCX’s high switching costs, mission critical services, and considerable pricing power have resulted in a considerable moat around their outsourcing business.

TDCX also has the superior human capital management. The company averages under 25% employee turnover compared to 30% for the industry. Lower attrition rates mean TDCX has to invest less money in recruitment and human resources capabilities. Both categories are major expenses in such a human capital-intensive business. This combined with cheap labor in Asia results in operating margins north of 30%, while its peers average 20% or worse.

Finally, TDCX should benefit from a variety BPO and economic tailwinds due to their positioning in Asia. Structurally, an aging western will continue to strain on labor markets, resulting in higher wages. As a result of this labor inflation, the more prudent tech industry will choose to delegate more work offshores. Companies will choose countries with cheap labor and large English-speaking populations. TDCX will be huge beneficiary of this trend, with a large percentage of their workforce in the Philippines, Singapore, and Malaysia. Secondly, Asia’s growing wealth and economic power will only attract more investment in the region by tech giants. By 2024, its estimated that nearly two billion people in Asia will join the global middle class. For reference, Asia’s middle class will be twice as big as the entire population of the US and Europe combined. Tech companies are already beginning to see the dividends of a richer Asia. During the most recent earnings call, Meta specifically called out Asia as their fastest growing region in terms of both ad spend and impressions. Similarly, to labor inflation, TDCX is poised to benefit from this secular trend given their focus in the region

Why This Opportunity Exists

TDCX first went public in October of 2021, arguably the worst time to either be an Asian or technology public traded company. TDCX suffers from both of those comorbidities. Since then, the stock is down 50%, despite promising business results. TDCX is also under followed with only three equity research analysts covering the stock.

An Uncryptic Catalyst

During their first quarter earnings call, CEO Laurent Junique mentioned how one of TDCX’s client wins was a “leading short form video platform”. Junique is about as subtle as an elephant. He’s clearly referring to Tiktok, a huge win for TDCX’s business. I believe that Tiktok could be as big as a client as Meta, if not bigger. Despite being based out of China, Tiktok is still underpenetrated in the Asia-Pacific region. As of August, they had only 178 million MAU, compared to 800M MAU for Meta. As European and US markets reaches full penetration, I expect Tiktok to turn their attention to the Asia-Pacific region soon. Increasing investment in Asia should directly benefit TDCX, given their expertise in digital advertising and content moderation in the region.

Historically, it has taken new clients 2-3 years to really increase their spend with TDCX. According to this timeline, TikTok could become a major customer starting in 2024, fueling TDCX’s top and bottom line for years to come.

Revenue Concentration Risk:

The biggest risk to our investment is TDCX revenue concentration. As of FY 2021, TDCX relied on Meta & Airbnb for 84% of revenue. Add in Google and Netflix, and over 90% of TDCX’s revenue came from just 4 customers. Put another way, just 6% of TDCX’s customers contribute to nearly all the sales the company does. Nevertheless, I can live with this.

First, Airbnb is the least likely of the four to leave the platform. Three months ago, Airbnb recently acquired more than 400,000 warrants for TDCX stock. Airbnb’s investment would lose a significant amount of its value if it stopped contracting out for TDCX. Thus, I see Airbnb as the most committed out of the four.

Google, Netflix, and Meta’s loyalty is less clear, but that doesn’t mean none exists. All three have used TDCX for at least five years and have significantly increased their spending since becoming clients. Between this and increased cost consciousness among the three, it certainly appears that TDCX will continue to play a role their strategic plans for the foreseeable future.

Estimates

For my model, I forecast revenue growing 19% in Fiscal Year 2022, per guidance. From there, I believe TDCX will be able to grow revenue by 25% over the next two years as Tiktok accelerates their digital marketing and CX spend. Given their historical consistency, I held operating and pre-tax margins constant, which allowed me to arrive at earnings estimate of $1.23 for FY 2024.

If I apply a 15x multiple which is a discount to both historical and industry averages, and add back net cash, I get a final price target of $20.60 or 87% upside. I’m going add $8000 here.