ICON PLC

NASDAQ:ICLR

Earnings Call Transcript 2023-Q2

[Operator]

Hello, and welcome to the ICON plc Q2 2023 Results Conference Call. At this time, all participants are in a listen only mode. After the speaker's presentation, there will be a question-and-answer session. [Operator Instructions]. Please be advised that today's conference is being recorded. I would now like to hand the conference over to your speaker today, Kate Haven.

[Kate Haven, VP, IR]

Good day, and thank you for joining us on this call covering the quarter ended June 30, 2023. Also on the call today, we have our CEO, Dr. Steve Cutler; and our CFO, Mr. Brendan Brennan. I would like to note that this call's webcast and that there are slides available to download on our website to accompany today's call. Certain statements in today's call will be forward-looking statements. These statements are based on management's current expectations and information currently available, including current economic and industry conditions. .

Actual results may differ materially from those stated or implied by forward-looking statements due to risks and uncertainties associated with the company's business, and listeners are cautioned that forward-looking statements are not guarantees of future performance. Forward-looking statements are only as of the date they are made, and we do not undertake any obligation to update publicly any forward-looking statements, either as a result of new information, future events or otherwise.

More information about the risks and uncertainties relating to these forward-looking statements may be found in SEC reports filed by the company, including the Form 20-F filed on February 24, 2023. This presentation includes selected non-GAAP financial measures, which Steve and Brendan will be referencing in their prepared remarks. For a presentation of the most directly comparable GAAP financial measures, please refer to the Press Release section titled Condensed Consolidated Statements of operations.

While non-GAAP financial measures are not superior to or a substitute for the comparable GAAP measures, we believe certain non-GAAP information is more useful to investors for historical comparison purposes. Included in the press release and the earnings slides, you will note a reconciliation of non-GAAP measures. Adjusted EBITDA, adjusted net income and adjusted diluted earnings per share excludes stock compensation expense, restructuring costs, foreign currency gains and losses, amortization and transaction-related and integration-related costs in their respective tax benefit. We will be limiting the call today to 1 hour and would therefore ask participants to keep their questions to 1 each with an opportunity for a brief follow-up. I would now like to hand the call over to our CEO, Dr. Steve Cutler.

[Steven Cutler, CEO & Director]

Thank you, Kate, and good day, everyone. ICON delivered good results in quarter two as our focus on quality, operational excellence and innovative solutions continue to drive success in our project delivery for customers. The industry demand environment has been solid with positive trends across all customer segments. Overall RFP activity continued the sequential improvement we experienced in quarter 1, and we saw a notable pickup in RFP activity within the biotech segment toward the end of quarter 2. .

While we are encouraged by the uptick in overall opportunities, the behavior we have previously noted of cautiousness regarding spending as well as delayed decision-making on awards is still present within this segment. Within the mid and large biopharma segments, we continue to see a resilient environment with another quarter of strength in functional service and hybrid opportunities. We are cautiously optimistic that we will see an improving trend in bookings through the second half of this year.

And while it's early in the third quarter, we have seen RFP activity continue its positive trajectory in July. We continue to see a high level of engagement with customers that are seeking a partner that can provide flexible and customized solutions for their specific clinical development needs. As customer pipelines, development plans and management priorities evolve, their outsourcing partner requirements change as well.

Our differentiated position as the most scalable and comprehensive provider of clinical development solutions strongly positions us with existing and new customer opportunities and partnerships regardless of their preferred development model. To that end, I'm very pleased to announce we were successful in securing an expansion of an existing strategic partnership with a top 20 pharma customer in quarter 2. We have increased the scope and scale of services under our partnership, which now includes multiple elements of our offering in full service and functional solutions as well as a number of periclinical services.

This strategic customer recognized the value of easily accessing a variety of scaled clinical development services and technologies that were unavailable at our competitors. We see this scenario being replicated at other top 50 biopharma companies going forward, and we remain in active dialogue with several large companies contemplating this type of model. Similar to this partnership, we have begun to see a number of large pharma customers move towards a more blended for hybrid model of clinical development. This incorporates elements of both traditional full service and functional outsourcing as customers seek a solution which drives efficiency for their entire portfolio, which often includes augmenting their existing infrastructure alongside outsourcing support.

As a market leader and a scaled provider of these services, ICON is uniquely positioned to partner with customers in driving more efficient delivery of services and better outcomes to achieve their specific goals. Our stated vision is to be the world's leading health care intelligence organization. And to this end, we recognize the importance of being at the forefront of technology adoption specifically with potential application of artificial intelligence and machine learning in clinical development.

We are investing in our technology infrastructure in order to accommodate the significant volume growth in trial data appropriately scaling to enable seamless data collection and management. We are focused on developing and advancing our market-leading tools that utilize elements of AI and machine learning alongside our clinical expertise. In quarter 2, we released our latest AI-enabled capability called ICONEX which enables study teams to more quickly and easily identify potential investigators based on connections in active physician networks and published content.

This is particularly important in complex therapeutic areas such as rare disease and will support our efforts in improving site selection, a long-held industry challenge. ICON has also continued to make considerable advancements with robotic process automation, and we are on course to double our progress from last year in 2023 with the expectation of processing 2 million hours of activity through automation, focused in areas such as data mastering, systems integrations and document handling.

In addition, we recently released the latest version of the ICON digital platform, our end-to-end solution to enable patient-centric decentralized clinical trials. This new release includes updates to important features such as and direct data capture while also integrating with several other Icon solutions such as Firecrest portal, for site training and communications as well as the Mapi Research Trust, our market-leading clinical outcomes assessment library and other validated instruments.

We are also making notable progress in other initiatives at ICON. In May, we released our 2022 ESG report, providing updates on our commitment to conducting business sustainably and the further advancement of our ESG program ICON cares. We've made great progress towards the achievement of a number of our targets, most notably in our goal to achieve gender parity at senior levels by 2025. We have also submitted our commitment letter to the science-based targets initiative, the first step in submitting targets for validation.

Separately, we were delighted to be added to the Russell 3000 Index at the end of June, following its annual reconstitution process. It is a great milestone for ICON since becoming a publicly traded company in 1998, presenting an opportunity to further expand our shareholder base. Turning to our financial performance in the quarter, ICON delivered solid results with a 4.4% revenue growth over quarter 2 2022, our first quarter in excess of $2 billion in revenue. Direct fee revenue growth was in the high single digits year-over-year on a constant currency basis and net bookings grew 4% over quarter 2 2022, resulting in a net book-to-bill of 1.2.

Of note, similarly to direct revenue, our direct fee net bookings grew in the high single digits on a year-over-year basis. We delivered another quarter of impressive margin performance, with gross margin expansion of 120 basis points on a year-over-year basis and 17% adjusted EBITDA growth on quarter 2 2022. Strong direct fee revenue growth and continued focus on cost management across the company were key factors in our margin expansion in Quarter 2.

Our capital deployment strategy remains unchanged with our priorities focused on further reduction of our floating rate debt as well as potential tuck-in acquisition opportunities that are strategically aligned with our portfolio. Depending on progress in these 2 areas, we will also be opportunistic on share buybacks as we get to the end of 2023 and into 2024. We made great progress in achieving our net leverage ratio target of 2.5x adjusted EBITDA as we closed out quarter 2, and this is now at a level to position us to return to an investment-grade rating.

This will enable us to return to the debt market in the short term to restructure part of our current debt, thereby allowing us to reduce our interest payments for 2024. I -- with the positive results we have delivered so far in the first half of this year, we are narrowing our financial guidance for the full year 2023. We now expect revenue to be in the range of $8.07 billion to $8.21 billion, an increase of 4.3% to 6.1% over the prior year.

Additionally, we expect adjusted earnings per share to be in the range of $12.63 to $12.91, representing an increase of 7.5% to 9.9%, over the full year 2022. This increases the midpoint of our adjusted earnings per share by $0.04 to $12.77. This guidance includes progress on our tax rate and assumes adjusted EBITDA margin expansion of approximately 150 basis points on a year-on-year basis.

Finally, I want to highlight an important milestone we recognized earlier this month, which was the 2-year anniversary of our union with PRA Health Sciences. We have delivered on all of the targets we set at the announcement of our combination, surpassing initial time lines on the achievement of cost synergies and our target net leverage ratio. We also performed at or above our key financial targets for the full year 2022 and through continuing to deliver for our customers and patients.

We are grateful to and proud of all of our employees for their valuable efforts and commitment to driving our success through this transformational period for our company. We look forward to ICON's continued progress and market leadership as we continue to build the world's leading health care intelligence organization. I'll now turn the call over to Brendan for additional comments on our financial results. Brendan?

[Brendan Brennan, CFO]

Thanks, Steve. In quarter 2, ICON achieved gross business wins of $2.86 billion and recorded $441 million worth of cancellations. This resulted in a net awards in the quarter of $2.42 billion and net book-to-bill of 1.2x. With the addition of the new awards in quarter 2, our backlog grew to a record $21.7 billion representing an increase of 2.2% on quarter 1 of 2023 or an increase of 8.5% year-over-year. Our backlog burn was 9.5% in the quarter, slightly down from quarter one levels as we had anticipated.

Revenue in quarter two was billion. This represents a year-on-year increase of 4.4% and or 4.3% on a constant currency organic basis. Overall, customer concentration in our top 25 customers decreased from quarter 1 at 2023. Our top customer represented 8.6% of total revenue in quarter 2. Our top 5 customers represented 26.2% of revenue. Our top 10 represented 40.3%, while our top 25 represented 61.1%. Gross margin for the quarter was 29.6% compared to 29.8% in quarter 1, 2023. Gross margin increased to 120 basis points over gross margin of 28.4% in quarter 2 2022. Total SG&A expense was $182.9 million in quarter 2 or 9.1% of revenue.

In the comparable period last year, total SG&A expense was $194.5 million or 10% of revenue. Adjusted EBITDA was $414.2 million for the quarter or 20.5% of revenue. In the comparable period last year, adjusted EBITDA was $354.3 million or 18.3% of revenue, representing a year-on-year increase of 16.9%. Sequentially, adjusted EBITDA margin improved 20 basis points over quarter 1 margin of 20.2%. Adjusted operating income for quarter 2 was $383.8 million, a margin of 19%.

This was an increase of 16.8% over adjusted operating income for -- of $328.6 million or a margin of 17% in quarter 2 of 2022. The net interest expense was $80.9 million for quarter 2. We now expect the full year interest expense to total approximately $310 million in 2023, reflecting the change in market expectations for further rate increases in the second half of 2023. The effective tax rate was 15.2% for the quarter. We now expect the full year 2023 adjusted effective tax rate to be approximately 15.5% down from our full year 2022 effective tax rate of 16.5%.

Adjusted net income attributable to the group for the quarter was $256.9 million, a margin of 12.7% equating to adjusted earnings per share of $3.11, an increase of 8.7% year-over-year. In the second quarter, the company recorded $12.7 million of transaction and integration-related costs U.S. GAAP income from operations amounted to $209.5 million or 10.4% of revenue during quarter 2. U.S. GAAP net income attributable to the group in quarter 2 was $115.6 million or $1.40 per diluted share compared to $1.41 per share for the equivalent prior year period. Net accounts receivable was $1.171 billion at the 30th of June 2023. This compares with a net accounts receivable balance of $1.197 billion at the end of quarter 1, 2023.

DSO was 52 days at June 30, 2023, an increase from 40 days at June 30, 2022, with a decrease of 2 days from March 31, 2023. Cash from operating activities in the quarter was $204 million Free cash flow increased 18% over the second quarter of 2022, and we expect further improvement in cash conversion in the second half of this year as quarter 2 is typically our lowest quarter due to the timing of bonus payments. We expect this to result in free cash flow of circa $1 billion for the full year 2023. We are pleased with the initial progress made on DSO in the quarter and will remain focused on billing levels and cash collection activities to ensure we continue to improve obviously progress through this year.

At June 30, 2023, the company had a cash balance of $270 million and debt of $4.312 billion, leaving a net debt position of just over $4 billion. This compare to net debt of $4.21 billion at March 31, 2023, and net debt of $4.43 billion at June 30, 2022. Capital expenditure during the quarter was $32.1 million. From a capital deployment perspective, we made a payment of $150 million on our Term Loan B facility in quarter 2 and ended the quarter with a leverage ratio of 2.5x net debt to adjusted EBITDA. We expect to continue our payments on our Term Loan B facility over the course of 2023, totaling approximately $800 million to $1 billion for the full year.

As Steve mentioned, given we met our initial target leverage ratio of 2.5x adjusted EBITDA, we will be actively pursuing options to restructure our long-term debt. Given the current floating rate level on our term loan B facility, we see a very good opportunity to secure a more favorable position in 2024, assuming an investment-grade ratings occur this year. Alongside revising our financial guidance for the full year, we have updated key assumptions which are now an effective tax rate of 15.5%, free cash flow target of circa $1 billion, CapEx spend of $150 million and interest expense of circa $310 million, all for the full year 2023. Before we move to Q&A, we want to extend our thanks to the entire ICON team for their many contributions to our performance this quarter. Operator, we are now ready for questions.

[Operator]

[Operator Instructions]. The first question comes from Sandy Draper at Guggenheim Partners.

[Alexander Draper, Guggenheim Securities]

I guess the first question is, Steve, on your comment on or maybe is Brendan, on the potential bookings improvement in the back half of the year. Trying to think, are you thinking about that on a year-over-year growth basis, on a gross bookings and we'll see where cancellations sort of shake out or net bookings? Just any more color on how you see that? And is that primarily driven by the biotech area.

[Steven Cutler, CEO & Director]

Yes, Sandy, thanks for the question. We see -- it's -- well, I'll answer your last question first. The opportunities that we're seeing in the business and not just in the biotech, they're really fairly broad-based across the business. So really, we -- I think we reported last quarter an increase in RFP on a sequential basis. that's continued in the second quarter. I mean, as I said early in July, we're seeing further opportunities. So we're certainly cautiously optimistic of a strong business development performance in the back end of the year right across the various segments.

And in terms of where it'd be gross net new -- all of the above is what I would say. Ultimately, net new business is what drives our revenues. We definitely haven't seen -- while cancellations have been perhaps slightly elevated above historical levels. We don't see them in any way to be abnormal. And so we don't see cancellations being a major issue. So really, we see the potential, as I say, cautiously optimistic for us for an improved business development performance in the back end of the year based on and what we're seeing in terms of opportunities across the business.

[Alexander Draper, Guggenheim Securities]

Great. That's really helpful. And then just a quick follow or unrelated follow-up for Brendan on the free cash flow. Down a tiny bit to $1 billion, but still would expect that requires a pretty good improvement in the back half of the year. Is that just driven by continued DSOs coming down? And do you have a new DSO target for the end of the year?

[Brendan Brennan, CFO]

Yes, we need to continue to focus on our cash conversion, absolutely. And of course, a big part of that will be DSO management. We've said over the last couple of quarters that we wanted to see that come down by at least a couple of days. We've said in the longer term, we'd like to be in the mid-40s. And certainly, that's where I'd like to be coming to as we get to the back end of the year. So that's certainly the target I've given the guide, we think that's a good and close to optimal level of DSO for ICON, given the structure of our company but also our customers. .

So that's very much the focus as we get into the back half of the year. I think it's also important to say we'll be looking carefully at the other elements of our balance sheet. In terms of our own DPO focus and making sure that, that lines up with DSOs and the credit market that we're in the environment that we're in. So we'll be keeping an eye on all elements of the balance sheet. But yes, the DSOs is by far the biggest piece of that, and we'll be targeting mid-40s.

[Operator]

The next question comes from Justin Bowers at Deutsche Bank.

[Justin Bowers, Deutsche Bank]

Just on the improving demand environment, is that across all customer segments and I guess the question would be, what are some of the -- what do you think the changes are in 2Q from 1Q and maybe even the end of the year last year? And then -- are you seeing any changes in conversion rate as well? Or is that more of what you anticipate sort of in the back half of the year as well?

[Steven Cutler, CEO & Director]

Yes, Justin, it's Steve. I think as I said in the previous answer, the demand increase, the RFP opportunities are really across the segments of the business. I mean our large pharma group, in our biotech group and in the more lab services, periclinical early phase as well. So it's -- from that point of view, a consistent functional as well. So I'm pleased with the way that that's, as I say, broad-based -- in terms of conversion, I don't know that we see any significant change in conversion.

A lot of the work is still in the oncology space, which as you all know, burns a little slower. There are some large opportunities out there in sort of the post-covid next-generation work. And so it will depend upon what happens in terms of our success rate in winning those. That may have some impact on burn rate if, in fact, we're successful there. So that all remains to be seen. But I think the main point is it's broad-based. It's across the across the group. And we're cautiously optimistic that we can make some improvements on our business development wins in the back half of the year, which will set us up well realistically for 2024 and beyond.

[Justin Bowers, Deutsche Bank]

Good to hear. And if I may, on the expansion of the existing strategic partnership, what are -- when would you expect that to start to show up? And then any updates on your top customer in that partnership?

[Steven Cutler, CEO & Director]

In terms of the expansion of the existing ones, that's going to take a little bit of time to flow through. There are various constraints that this partner has in terms of what their portfolio is. And so we don't expect any dramatic immediate uptick on a revenue basis there. But I think, broadly speaking, for the longer term -- medium to longer term, we certainly see some opportunities to build and to drive forward the revenues from that partner.

But nothing certainly nothing for 2023. In terms of our top customer, we have -- we continue to work well with them and they can -- we continue to service them well. There is some adjustments in the way that they're putting their development models together and moving perhaps more functional hybrid sort of basis, but that's typical of the number of customers in the large pharma space at the moment. We're seeing that somewhat of a trend across the industry there, but it's something that we feel ourselves we're well positioned to be able to accommodate given that we are the #1 provider on the functional space, and we obviously will have a very strong full service group.

And typically, these customers put in place hybrid solutions. Where part of their portfolio is functional, but there's also a part of their portfolio that stays in a full service and some becomes more hybrid. So we feel we're well positioned to be able to accommodate whatever development model that our largest or any other customer for that matter wants us to work with.

[Operator]

Thank you. Your next question comes from Luke Sergott at Barclays.

[Luke Sergott, Barclays Bank]

Great. So I kind of wanted to dig into the customer classes here that you guys reported on. So the top 11 through 25 have really been picking up here the last 3 quarters now, I guess, can you talk a little bit about what's going on there? I would assume that I'm probably wrong in thinking that these are smaller biotech and it might just be that they're underserved by you guys, and you guys are winning wallet share. So talk about the growth that you're seeing there, especially in light of the overall industry demand structure.

[Steven Cutler, CEO & Director]

Let me have a go on that one, Luke, and then I think Brendan might want to dig in. We don't assume that the 11, 25 are all large or small. There's a fair mix of different customers in and some customers jump in there for a period of time. And then come out. I don't know that there's anything in particular going on with that group of customers. We believe we serve our large customers effectively. I think the opportunity we're having as we going forward is looking at the more midsized customers those who are interested, obviously, in the functional but perhaps don't have their own internal development resources to be able to do that.

And so they go full service. but they're also thinking about a more hybrid model. And so I think we are focusing our attention and our services more effectively in that midsized market. And that may be some of the -- what we're seeing in terms of how they're growing. Brendan might want to...

[Brendan Brennan, CFO]

No, I was just going to add to that, Luke. Obviously, it's a great sign to see expansion in the kind of the next cohort outside your top 10. And again, I think it speaks to the strength of the portfolio of businesses that we have, that we're growing not just in the top 10, but growing outside of that top 10 and broadening the customer base generally speaking. So I think it's a positive piece, and I think it speaks really well to the combination of the organizations over the last 2 years to Steve's point in the opening remarks, and how we're really managing now to do a much better job and making sure that right across our portfolio, we're selling as much services we can into all our customers.

[Luke Sergott, Barclays Bank]

Great. And then I guess the follow-up kind of adds on to that. So as you guys are thinking about the industry growth as it is now and talking about seeing green shoots and funding, how are you guys -- what are the conversations you're hearing from your larger customers on the large pharma side, unlocking those programs and really trying to getting a path back to that high single-digit growth.

[Steven Cutler, CEO & Director]

The conversations we have are really around how they're spending their money effectively and efficiently and how we can help them get there. drugs to market. So as I say, when I get asked this question, Luke, even when R&D budgets are going up or they're spending more, we clearly have an opportunity. But even when they're not and even going down or staying flat, we have an opportunity. In fact, sometimes it's more of an opportunity for organizations like ours when budgets are flat because the pharma companies look at how they're spending and try to optimize their spend.

So it varies really depending upon the customer. As I said, there's -- with some of the larger pharma there's a trend, perhaps more towards a hybrid full-service functional model at the moment. But of course, in the biotech, they're highly in the full service and those midsized ones in the middle are really looking at how best to optimize those development dollars. So it really depends upon the company. It depends upon the management that's in the company at a particular time. And and the size and the shape of their portfolio. There's really no one size fits all on that, I'm afraid.

[Operator]

Please stand by for your next question. Your next question comes from Jack Meehan of Nephron Research.

[Jack Meehan, Nephron Research]

Thank you. Good morning. Steve, was curious to get your thoughts as you speak with your pharma customers. I'm just curious, has the inflation reduction act come up as a consideration? And how do you think that could impact trial activity as we go into 2024.

[Steven Cutler, CEO & Director]

Yes. Thanks, Jack. Not specifically, I would say the IRA obviously, is out there and the implications of the IRA really some years down the track. So while I suspect they're thinking about it and talking about it internally and looking at how they're spending their development dollars and organizing their portfolio. We haven't had any specific conversations around the IRA. And again, I'll say it, as I said before, I think the IRA offers us an opportunity going forward because there is potentially some implications for the drugs they develop and the money they spend.

And so they'll be looking, I think, carefully at how they do that. And perhaps some of the models that we're seeing come forward up, maybe a reaction to what they see coming down the track coming several years down the track with the IRA that -- but we haven't had any sort of specific conversations with them about that.

[Jack Meehan, Nephron Research]

Great. Okay. And then 1 question for Brendan on just backlog burn expectations. I think previously, you were talking about 9.5% for the year, that would kind of call for a stabilization in the back half -- is that still your view? And just as you look at your backlog, how do you think this kind of trends going beyond this year?

[Brendan Brennan, CFO]

Jack, I suppose we call that 9.5%. That's a full year number. That means obviously, we started there at 9.6%, we're at 9.5% in the current quarter. So it's not going to move a huge amount from that, but I think there's -- it will be 95% thereabouts as we get into the second half of the year. So that is our full year. It's a struggle -- we talked about this in the past, conversion is not easy. Steve made the point on an answer earlier on.

We still see a lot of oncology in the marketplace. I see those trials that can be 4 to 6 years in duration. So mathematically, that's a lot lower than 1.5% a quarter. Against that, we have the mix of our businesses, some of our faster revenue burn. And so we're always looking at how do we optimize that, how do we be as efficient as we can in delivery of our projects for our customers.

How do we make sure we're starting them up quickly and getting on with the trials and getting them enrolled. So it's a constant battle. As we get into next year, we'll give you the insights as we get to that point. I mean I think it's fair to say that this has been a declining trend over time in the industry. But we're always battling alternatives we can to keep it as flat as possible, and we'll certainly continue to try to do that as we get into 2024, but we'll give you a better granularity on that as we think and talk later in the year.

[Operator]

The next question comes from Daniel Leonard -- apologies at Credit Suisse.

[Daniel Leonard, Crédit Suisse]

I'm curious, with the biotech funding environment seeming to be improving a bit, could you share any thoughts on timing whether you'd expect any lag between improved funding and your business opportunity or whether you think you could see a change in real time?

[Steven Cutler, CEO & Director]

Sure. I think as we see the green shoots of biotech funding sort of seeming to appear and as I say, in the in the RFP opportunities. I think this is going to take a little bit of time to play out. As I said, I think we'd like to think the second half of this year, we'll -- those opportunities will lead us to strong business development performance, which should play then, I think, into revenues as we get into 2024. I think that's all I can give you on timing at this stage. Dan, some of these opportunities, as I think I indicated, are around more sort of next-generation vaccines. That may burn a little faster and help us, but others typically biotech is highly focused in the oncology space as well.

So that will tend to be pushed down the track a little bit. So I wouldn't expect, as I say, with the opportunities we're seeing to see much impact on this year, but I do think it gives us optimism for 2024.

[Daniel Leonard, Crédit Suisse]

Appreciate that. And just a cleanup question. Brendan, can you remind us how much of your backlog is COVID at this point and what the COVID associated revenue was in the quarter?

[Brendan Brennan, CFO]

Yes. It's low singles at the moment. It's a couple of percent in terms of the backlog. I mean the overall year is probably still in that 3% range -- 3% to 4% for the full year on our Covid revenue at this point. Dan?

[Kate Haven, VP, IR]

And Dan, just to jump in, that's where it was for this quarter as well, around 3.5% of revenue, which is down from quarter 1 as expected.

[Operator]

The next question comes from Patrick Donnelly at Citi.

[Patrick Donnelly, Citigroup]

Great. Steve, maybe just kind of putting a lot of your comments together on the potential improvements in bookings, RFPs, you sound pretty optimistic about the potential biotech improvement. There's a lot of attention turning to '24. I know it's a little early, but there seems to be some debate. You guys are more of a mid-single-digit grower next year. I guess, in the current environment and what you're seeing, do you see a path to that being more kind of getting back to that high single-digit framework next year. Brendan touched a little bit on the conversion as well. What do you see as the key variables? And how do you kind of look at that high level?

[Steven Cutler, CEO & Director]

Yes, Patrick, I don't think we're quite ready to talk too much about 2024 at this point. As you've outlined, you quite well. We see optimism for a reason for cautious optimism with the RFP flow, a sequential RFP flow coming in, and that obviously needs to be converted into business wins in the next couple of quarters. And if we do well in that space, and we continue our, I think, very good win rates, if we can apply those to the opportunities that we're seeing. I think we'll be in good shape for 2024. But I'm not ready to put a number on 2024.

At this point, we feel we feel optimistic certainly about our medium and certainly long-term growth but medium-term growth, and that does include 2024. But we'll, as Brendan said, we'll get back to you on that as we get towards the end of the year.

[Patrick Donnelly, Citigroup]

Okay. Understood. And then...

[Kate Haven, VP, IR]

Sorry, Patrick, we just lost you. If you could just try to repeat that second part. .

[Operator]

Patrick got disconnected. In the meantime, should we take the next question from David Windley at Jefferies.

[David Windley, Jefferies]

You've made really solid progress seems to be well on your way to the 150 basis points of margin improvement this year. That has, as I think you and we expect been more geared toward G&A leverage, but you have made some progress on gross margin as well. I guess I'm wondering, Steve, what your longer-term aspirations are relative to margin and the opportunities to get there, essentially, is there still some room on gross margin to make some progress? Or should we think about that largely being scaled on SG&A?

[Steven Cutler, CEO & Director]

Yes. Dave, I think we made about 120 bps improvement on gross margin year-on-year from the quarter. So I think that's a reasonable progress on a gross margin basis. And as you know, we've -- we've also made some progress on our SG&A. I think it will depend a little bit on the mix of work that we get. Certainly, some therapeutic areas, some parts of our business, obviously, have a slightly different margin profile, so it will depend upon that. I think we see still some optimism in terms of our ability to move our gross margin forward modestly, given the various options we have with respect to, I talked about it, robotics, AI, machine learning and how that can help us in the direct sort of fee direct cost of labor area.

But I'd say probably most of our margin gain over the next few years will be around SG&A. We continue to, I think, have 1 of the best mobile business services groups in the industry. And so continuing to leverage that and to leverage their expertise. And we have opportunity, I think, in terms of where we're locating those people, as I say, the processes around what they do, our abilities with. So it's really on both, but I'd say probably the majority of progress will be made in the SG&A sort of level.

[David Windley, Jefferies]

And do you hazard a numerical target? Like if you're a better than 25.5% for this year on EBITDA, are you thinking several percentage points more to be had over multiple years? .

[Steven Cutler, CEO & Director]

EBITDA I think still about 20.5%, Dave. Not 25.5%. Don't give me a heart attack...

[David Windley, Jefferies]

Right. Sorry, I meant 20.5% is what I meant to say, if I didn't say that. Yes.

[Steven Cutler, CEO & Director]

Thank you. I'll just get it back off the floor, if you don't mind. We've made really good progress in that space. And I'm delighted with -- we've done it both in gross and in the SG&A level. we see we'll make some -- that's the number that we think we'll get to towards -- we can make some further progress on that as we get towards the end of the year, and then we'll look at it for next year.

I'm not going to say -- I'm not going to put a target on that at the moment. We continue to challenge ourselves in that front as our former CEO said every ceiling becomes a floor, sorry, every ceiling becomes a floor, I'll get that right. And so we continue to challenge ourselves on that front. But I don't think I'm ready to put out any particular target on that at the moment.

[Operator]

The next question comes from Elizabeth Anderson at Evercore ISI.

[Elizabeth Anderson, Evercore ISI]

Maybe just to pivot up of what Willy was just asking. How do you think about the long term, is pharma is moving towards more of a hybrid functional full service mix. Like how do you sort of think about that vis-a-vis the longer-term margin opportunity? Are there like particular like offsets that you guys can have at that mix shift? Is that -- are there sort of other opportunities that present themselves there?

[Steven Cutler, CEO & Director]

Yes. I think there's certainly some -- those businesses around the functional and even hybrid do present us with some different margin challenges, Elizabeth going forward. We have some significant plans in place to make sure that we have our people in the right places, right locations and using the right technology in order to mitigate those sorts of challenges.

So while there are always going to be some challenges, whether you're working full service business or functional business or hybrid business on margin front, customers are always expecting us to do things faster, better, cheaper in the long term. And -- but we believe what the organization is well positioned to be able to do that, and we're taking steps even as we speak, to continue that progress as we go forward into the future. Do you want to add anything...

[Brendan Brennan, CFO]

No, I think that's it. I think it's something that we constantly keep under review. As we look at our mix of business, we're always challenging ourselves is what Steve said earlier on, how do we maintain our gross -- the gross margin profile in the right levels? And something that we do is it's just part of our organization. And part of the investment strategy indeed that we have to make sure that we're thinking about technology and the efficiency of our trials to both deliver the best customer results, but also make sure that we're maintaining margin profile.

[Elizabeth Anderson, Evercore ISI]

Got it. That's helpful. And then in regards to sort of hitting...

[Operator]

Apologies if we lost Elizabeth there too. [Operator Instructions]. In the meantime, the next question is from Max Smock at William Blair.

[Maxwell Smock, William Blair & Company]

Sticking on the customer theme. We talked about your top customer and some smaller customers, but it looks like revenue from customers 2 to 5 was down year-over-year and more than 10% sequentially here in the second quarter. Just wondering if there's anything to call out that would explain the lack of growth from these customers in particular in the second quarter.

[Brendan Brennan, CFO]

Max, Brendan here. I don't think there's anything too dramatic to call out, Max. It really depends on each individual customer and where they are with their projects. For example, like we often have the cases where -- you could have a retro change order pickup on a particular house that could accelerate in the revenues in 2 to 5, and it will make -- the other customer segments look slightly different. So I don't think there's any kind of extraordinary math there. And it's not -- as we've said in the past, it's not an absolute consistent number.

While our top 5 doesn't tend to change that much. You do have people coming in and people moving out. And again, that have -- that can be specific to the customer. It can be specific to where they are in their development profile. One of the big things that we see the shifts are even our large customers up and down is just where they are in their development pipeline. Oftentimes, we'll see big chunks of work come in from folks, they'll burn through that they'll reset. It could be in a period of time, we don't see that much, and then they come back again. So there is that flux that is just natural to the clinical research business.

[Maxwell Smock, William Blair & Company]

Yes. Understood. That's super helpful. Maybe another quick 1 here for me, just on cancellations. Again, kind of nitpicking a little bit, but 2.1%, slightly above, I think, the -- or 2.0% target you've laid out in the past. Is there any detail you can provide around what accounted for the slightly elevated cancellations in terms of customer size, therapeutic modality or indication? And then relatedly, how much bad debt expense did you take here in the second quarter?

[Steven Cutler, CEO & Director]

I'll leave the bad debt 1 to you, Brendan. But in terms of the cancellations Max, no, that were fairly across the I say broad-based, if you like, or consistent across the various segments of our business. There's no particular therapeutic area or a customer segment where we saw any more cancellations. I mean, really, the -- on a historical level, the cancellations were pretty much as previously really went up sequentially or on the year. So it's really nothing to see there as far as we're concerned from a cancellation basis. Do you want to take the bad debt?

[Brendan Brennan, CFO]

Yes. Sure, Max. As you guys know, we took a chunk in the first quarter. We felt in the second quarter that we were at more than adequately provided on bad debt provision. We don't consistently over time, do it every single quarter. And so we kind of look at it on a quarter-by-quarter basis. We didn't feel the need to increase that provision in the current quarter. .

[Operator]

The next question comes from Casey Woodring at JPMorgan.

[Casey Woodring, JPMorgan Chase & Co.]

So Steve, based on your comments, it sounds like 4Q was the bottom in terms of SMID RFPs given the sequential upticks here in 1Q and now in 2Q so far through July. But order growth was flat sequentially in 2Q. So can you maybe just talk about the customer conversations you've had recently that gives you some confidence that this deliberate decision making that you called out during the prepared will improve in the back half of this year? And then maybe just thoughts on where bookings growth can be in the back half? And is the book-to-bill acceleration maybe closer to the middle of that 12% to 13% guidance range goal? Is that realistic in the back half?

[Steven Cutler, CEO & Director]

Yes. In terms of customer conversations and converting RFPs to rewards, yes, we have been relatively flat sort of sequentially. But it does take -- these do take -- I mean, typically, RFP is there's a lag here in terms of winning the work and often take 3 months, many -- and sometimes longer and then implementing the work. So -- as I said, we're optimistic that we can improve our business development performance in the second half of the year, but there really won't be much impact on revenue until we get into 2024.

So -- and our customer conversations have been sort of along those lines. There's certainly some opportunity out there. We talked about -- I mentioned some green shoots in terms of the biotech funding. The RFP opportunities are sequentially up across the board, not just in biotech, but in large midsized pharma as well and indeed in our Perriclinical, labs and functional. So as I say, it's -- I'm cautiously optimistic, and I think those 2 words are important. We believe we've got some good opportunities now to prosecute and to bring in terms of wins in the next 6 months or so next couple of quarters.

I think that can get us into the middle of that range, the . That would be our expectation, but we have to deliver on that. And we have to win that work, and then we have to convert it to into revenue. And so there's work for us to do, but we're certainly primed up, and we certainly have the raw material and the opportunity to do it...

[Casey Woodring, JPMorgan Chase & Co.]

Got it. That's helpful. And then just 1 last one for me for the model, Brendan. Any changes to your FX assumptions. I think last quarter, you were embedding a 50 basis point tailwind from FX on the top line, just has that changed at all?

[Brendan Brennan, CFO]

I mean we're still -- I mean we keep it under review for the current year. We'll look at it. There's probably -- yes, it's around 0.5% still. So that's still there. We'll keep it on the review. As we know, the FX movements go up as well as down. So we'll keep it on our view as we go through the course of the year. But I think the current guidance reflects all of our thinking on both FX and other elements at the moment. .

[Operator]

Please stand by for the penultimate question in the queue. [Operator Instructions]. The next question comes from Derik De Bruin at Bank of America.

[Derik De Bruin, Bank of America Merrill Lynch]

I won't push on the EBITDA margins, the RFPs those are already been asked. So these are my ones. But -- so I'll ask the obvious -- look, you've delevered nicely, you've got good cash flow generation that's improving. How should we think about capital deployment? I mean are there M&A opportunities, particularly on the technology side that you're looking at? What about share buybacks? Just a little bit more color on how should we sort of think about uses of the cash?

[Steven Cutler, CEO & Director]

Yes, Derik, I think it's -- as you know, we've done a nice job in moving our debt down and getting back to investment grade. And I think the first thing we'll do is take an opportunity to potentially restructure part of that debt, as I mentioned. In terms of capital deployment going forward as we get to the end of the year and into next year, we'll certainly be -- we're certainly already surveying the market from an M&A point of view. It will be back to more typical traditional tuck-in string of pearls type approach.

That's what we've done in the past, and we'll continue to look at that. There are still areas of our business that I'd like to see us build and scale up in. And those are the areas I think we've talked about real world evidence, labs, imaging, those sorts of parts of our business where we believe we can by bringing them together and scaling up, we can really get ourselves a significant advantage, a unique advantage.

In terms of buybacks, they are probably the third priority, but notwithstanding that, we will be opportunistic in how we how we look at that. Clearly, the M&A market is still remains actually a little frothy in terms of valuations for the companies. And we're not the sort of company that's going to overpay on an acquisition. So we'll value and we'll look at the opportunities, we'll look at what proudly they bring to our business. We look at how much we have to pay for them and what sort of opportunities and synergies we can drive in as we as we acquire them.

And if that makes sense, we'll do that, that would be the priority. But if they're not, and we have our capital accumulating, we'll certainly look at potentially buying back our stock, but that, as I say, would be on a more opportunistic basis.

[Derik De Bruin, Bank of America Merrill Lynch]

Got it. And then just 1 follow-up. I mean, obviously, the China biotech has been weak, a lot of concerns coming out of that and certainly impacting some of the other companies that we cover the China situation. Can you just remind us on -- so your activities in that market in that region? And has that been a headwind or an opportunity? Just can you talk about that, I think, in particular.

[Steven Cutler, CEO & Director]

Yes. I mean China is not a huge part of our business. We have about 1,500 employees out there, roughly, what is it, 3 or so percent, 3.5% of our business. We haven't seen any particular problem likely, they've now obviously opened up post-Covid, So we see sites are now available to us more effectively. And with the Covid wave really sort of dissipating now, it's kind of almost back to business as usual in China.

Unfortunately, that's not the case in Russia or Ukraine yet. But China is sort of back to where we'd like it to be. It's contributing. We have a significant presence out there in terms of number of people -- we have a functional business out there. We have a full-service business out there. And increasingly, we're seeing customer opportunities out there as well. So I'd say China is pretty much back to almost pre-Covid levels now.

[Operator]

The next question comes from John Sourbeer at UBS.

[John Sourbeer, UBS]

Just one, just one, do you have any additional color around trial starts and how those are tracking and there have been some press reports on shortage on certain ecology drugs out there that might be impacting trial starts. Just any color you can provide there.

[Steven Cutler, CEO & Director]

John, I don't think we see any particular dramatic change in trials that we've seen a little data around the industry around perhaps Phase III going fewer Phase III trial stuff, but that hasn't -- we haven't appeared that hasn't appeared in terms of what we've seen from customers in terms of, clearly, from what we said in terms of RFPs and opportunities. So I don't really have much to contribute on that front.

We see the market still being plenty of opportunities, still plenty of great innovation happening and still some of -- new drug, not just drugs but cell and gene therapy being important part of that sort of portfolio coming through, and we have some expertise in that space. So no, nothing there to that we would call out as anything but normal.

I don't know if Elizabeth or Patrick wanted to jump back in. We didn't cut them off, we promise. So I was wondering if I wanted to jump back in. But otherwise, I think we're almost done then operator?

[Operator]

Yes, they haven't joined the queue again. So I'm assuming they don't wish to. [Operator Instructions]. I think we can assume their questions were answered perhaps by following questions. Back to you Steven for final remarks.

[Steven Cutler, CEO & Director]

Okay. Well, thank you, operator, and thank you all for listening into our call today and your interest in ICON. We look forward to providing further updates as we progress through the second half of 2023. So thank you all, and have a good day.

[Operator]

Thank you. This concludes today's conference call. You may now disconnect. Speakers, please stand by.