Itera ASA

OSE:ITERA

Earnings Call Analysis

Earnings Call Transcript 2024-Q2

[Arne Mjøs, executive]

Good morning, everyone. Welcome to the second quarter interim presentation for Itera. We have the same agenda. I will start with the highlights of the quarter and go into the business review section. Then we have Bent Hammer, our Chief Financial Officer, that will deep dive into the financial review and also some comments about the outlook.

And if you have any kind of questions, please post here into the chat, and we will at the end of the presentation, we will also look into, if there are any kind of questions that you would like us to address before we close up this session.

Okay. Let's go back to the highlights for the second quarter. If we look at the financial figures in brief, we have a flat organic growth in this quarter. And you see that the EBIT margin for this quarter is 9.4%. And that's also connected to the market.

I will start with saying some comments about the market. We have seen that the pace of spending is somewhat mixed, but the fundamental importance of digital technology has not, I will say. So there is still a strong demand in the different sector like the green transition, of course, but also in areas like cloud migration and modernization data, security and AI.

In this quarter, I think we see some improvements in the market now, that they are also connected to that we report some wins. There is a major win with an estimated value of NOK 60 million to build a digital core for a major Norwegian industry company. We have also seen some more cloud agreements and not at least also new strategic financial services frame agreement. So that's as we'll say that's the portfolio of sales or the pipeline of sales activity is actually increasing.

What is also like to put focus on this quarter is actually that we, as a company, as you know, have put a lot of efforts into Ukraine. We are based in Ukraine, and have been there for 17 years. But during this quarter, it was in June that Itera was recognized as 1 of 10 companies in the world with this international flagship award by the Ukrainian government. And we also see that our efforts in Ukraine is also turning into professional services, high-end services because there are more and more customers, not at least international customer that would like to enter Ukraine. So we are providing services for these companies, how to look at and also start delivering or building products or services in Ukraine.

If we look at the order intake, the book-to-bill the last 12 months was 1.0. And in this quarter, it was 0.7. But you need to, in any case, look at the last 12 months, because there's also some kind of seasonality in the figures of order intake.

The business performance program of Itera, because the top line was actually flattening. So we have also looked at the cost structure of the Itera and how we can operate at a lower cost. And we see 1.2 points per margin improvement, because of our business performance or business optimization program that Bent Hammer has talked about for several quarters. So we have been quite successful with the implementation of this optimization program.

The cash flow for this quarter was NOK 27 million. And for the last 12 months, NOK 73 million, and we have an EBITDA to cash conversion of 72%. That also means that we are very focused on being able to continue paying dividends for our shareholders. So in June, it we paid NOK 0.5 -- NOK 0.4 per share in dividend, and we also have the authorization to pay a supplementary dividend later that has been traditional for Itera for many years.

If we look at the capacity, the capacity is reduced by 28 people. That's about 4% and that's also connected to the top line. So we are also able to address the capacity and also the cost base accordingly, so we can keep on the margin development of Itera.

And that brings me to the figures, Bent Hammer will deep die. But if you look at the sequential development, if you look at the margin, and you remember that we have the Easter time in the second quarter. So if you look at the sequential development from 8.4% with a much more working days in the second quarter compared to the -- in the first quarter compared to the second quarter, that has a real impact on the profitability for a quarter. So I'm very happy to see that the sequential margin improvement from 8.4% to 9.4% in the second quarter is very well established, because we have the cost discipline and make sure that we also have the capability to pay dividends for our shareholders.

Okay. Let's deep dive into the business review section. As you know, we are a specialist in sustainable digital transformation. This is just to remind you on that, how many locations we are. We primarily are working with Nordic-based clients, but we are and delivering services to up to 20 countries around the world. We see, because of our position in Ukraine, also some companies from other locations at Norway and then the Nordic region, that are approaching Itera to have Itera to help them to move into other parts of our operations.

So as you see in this -- in Central and Eastern Europe, we have six locations. So we have a lot of capacity. So to increase our capabilities or increase our enablement to actually be able to deliver services to clients in the Nordic, but also from other parts of the world. We provide, as you know, a complete set of services through the full life cycle of product and service. So what we talk about is actually building the new digital core based on the new technology for customer, doing everything from digital strategy, project and product management. We have a lot of -- a very strong team in customer experience, data, AI and analytics, architecture and development, cloud and application services and not at least also test and quality assurance. So Itera is an end-to-end provider of services.

And as we talked about, we have a very strong focus on growth, based to -- starting with the growth of the people, growth of the customer and also the growth of the current company. So in this inner circle, that's, I will call the consultancy part of Itera, very customer-centric in selected industry like banking and energy, which is the main sectors in Itera across all locations. And that drive the scalability based on how many people that you have and also make sure that the full value chain from the people, the customer and Itera is growing together.

But we also have the outer circle that we talked about how we can industrialize our services, more package offerings, more scalability that is not directly connected to the number of people that we have. That's what we have built through the Digital Factory at Scale to increase the usability of solution and not at least also increasing recurring revenue in terms of subscription.

So the outer circle is actually is a high value generation of Itera beyond what you managed to earn by having people delivering service or delivering capacity to the customer. So the real balanced mix of offerings, package offerings with subscription and consultancy in terms of mostly it's actually based on our rate. We don't have a lot of fixed-price engagement at Itera. So the risk for delivering this kind of service is quite low.

What we have also talked about there's a lot of transition in the market, because driven by cloud in the beginning, now is more AI, and there's a lot of attention to AI. Everything is changing, but there's still a lot of technology that I will call legacy IT, which is not utilizing cloud at all.

Today, if we look at some worldwide estimates, about 40% of legacy is lifting shifts to the cloud are utilizing cloud, but only 20% are modernized for cloud. So there's already -- there's still 80% opportunity left.

And if you look at this portfolio that are utilizing cloud, today it is only 10% of the total volume. That means that it's a 90% potential, because only 10% are utilizing data and AI today. So the potential for utilizing for digital technology in different sectors are really high. And what is also important is actually is a kind of business transformation, because when they are utilizing AI driven and enabled by cloud, you also need to transform your business. So that's something that will go hand-in-hand, the business transformation and digital transformation, and that's why Itera have this end-to-end capability to make sure that we can build the digital core of the customer, but also manage to help the customer in terms of the business transformation.

So the AI, what we see is the hype, I will say, but also more and more the reality of AI is triggering a lot of new opportunities, but they say, okay, hey, I don't have control of my data or the security of my system is back in the legacy time. So we don't have the secured environment or the foundation to utilize AI.

So I think the attention and opportunity that we see from the board level and throughout the organization will also trigger faster transformation into cloud and utilizing the new technology like cloud in order to make sure that you have a secured operation and also are able to utilize the data that you have across your systems and also with your partners.

And that is why Itera has built this kind of capability. This is about the outer circle I talked about in the beginning. So we have our factory. We have the focus on doing more with less. And also enabling the customer to build this digital product that's a part of the business and also having a full fledged cloud, we call it the Cloud Community of Excellence.

And as you see, every part of our delivery from the strategy until the operation part is actually applying generative AI, because these kind of tools and technologies are really being embedded in every part of the company and also according to the different kind of industry standards and also utilizing the ecosystem of players that will also be a part of this new game. So that has been a very important driver for Itera in terms of building these capabilities over time.

And we are very happy to see that we have managed to close some new orders. Showing here, one example is the value of this win is about NOK 60 million for building the new digital core in order to enable the digital transformation and also not at least streamlined their operation.

So I really believe that we will see more of this kind of agreement going forward, because more and more we'll look at the AI opportunity, but also see that in order to utilize AI, you need to build the digital core that enable the use of these kind of tools. And not at least also a lot of these customers also realized that they also need to do this driven by security, because the legacy IT is not secured towards the increased threats for cyber attacks.

Another example, what we are doing this transformation from legacy to cloud. It's actually that Apotek 1 is one of the customer in the retail business that has been utilized in cloud for a long time. But there were some kind of competition about a part -- the new partner. So we, Itera was happy to be in the winner of this engagement. So in this case, we will support and make the next -- make -- improve their robustness of the cloud solutions. So we're happy that we are the partner that will continue this journey for the customer.

Of course, there will be always some improvements, always some new capabilities that you need to bring into the cloud journey. So in this case, I also believe that everything that we have built in our digital factory and cloud community actually will also be applicable in some way or the order for this kind of customer.

And the last example I will talk about in this presentation is also that this is from the financial sector, our one of our largest segment in Itera. So Itera has been awarded a framework agreement with one of the large banking alliances in Norway. So that's -- that's a typical framework agreement where we deliver, I will say, end-to-end services from project management testing, architecture and development and user customer experience, as I mentioned in the beginning.

So that's very important to have this framework agreement. This is a license to sell and also being engaged for different kind of projects. So that's always some kind of first doorkeeper to make sure that we are one of the vendors that will look at the cooperation and partnership going forward.

As I mentioned, these are just to show views some customers, some are existing, some are new ones. Kongsberg is -- Kongsberg Digital, for example, or the energy company, there is existing customers. So we have some more new wins for this customer. And totally in the second quarter, 0.7 and 1.0 in terms of book-to-bill for the last 12 months.

Just before I finish and let Bent deep dive into the financial review, I just want to mention that Itera was awarded the International Flagship Project Award by the First Deputy Prime Minister and Minister of Economy of Ukraine, Svyrydenko, that has been, as you can read here, he is actually that because of what we have done for Ukraine as a spoke person, or supporter of Ukraine in different point of perspective, because it's extremely important to mobilize the private sector to do even more with Ukraine, because we are talking about doing business behind the front line of the war of Ukraine.

So it's extremely important to keep the economy running to create new jobs. Otherwise, the frontline will collapse because the family is not having -- won't be able to go to school or have something to live for, or whatever. So it's extremely important that now because of increasing defense cost expenses for many countries and also the continuation of the war in Ukraine. So this is extremely important that the private sector are also engaged in Ukraine to keep the economy running.

And so this is one -- is a very important, I will say, recognition for all the work that the Itera, effort the Itera has done, since the innovation, but also before, this is just to mention, as you might remember, in the early phase of the war, Itera was really a key driver together with the Norwegian Ukrainian Chamber of Commerce to make sure that the 10 temporary bridges from Norway was delivered to Ukraine in the early phase in 2022. We have been very involved in the energy transition of Ukraine after -- in June, Ukraine only had energy production of 9 gigawatt to compare to 33 gigawatt before the invasion.

So, as you remember, this is really a large reduction. So that's -- but now the Ukrainian people and society is building a very new, modernized distributed renewable energy system with utilizing battery, wind, solar, whatever. So there is not that kind of vulnerable versus the attacks from Ukraine and from Russia, because of the distribution or the disciplined new energy system. And we also have been quite heavily involved in different kind of discussion in terms of housing possibilities, capabilities and scalability. So we have also built a framework for housing for the Ukraine and people.

And we also make sure, I'll come back to that in a minute to talk more about this kind of engagement. What is important is actually that in this case, during the Ukraine Recovery Conference in Berlin, the Norwegian government by the Minister of Trade, Cecilie Myrseth, was signing a memorandum of understanding with the Minister of Energy, Galushchenko in Ukraine on Energy. So there will be more increased efforts, I will call from Ukraine -- from Norway to Ukraine in terms of the Energy space.

So Itera has also been very a key driver for this. And the Minister of Energy of Ukraine has also signed a separate memorandum of understanding with Itera, because our ability to make sure that the Norwegian, but not at least in Nordic and then also expand into the international Energy sector, i.e., even more involved in looking at opportunities and also look at urgency need, how do we solve urgency need for increased Energy production in Ukraine.

And as I mentioned, and this is something we also talked about earlier that Itera together with Moelven Byggmodul, is a Scandinavian Industrial group that produce building products and systems. So we have together launched what we call a housing for Ukraine initiative. That means that this player Moelven would like to look at how they can really produce module housing system to make it -- to enable it to increase the scalability of this kind of rebuild of Ukraine in terms of the housing, because there's a lot of people in Ukraine that do not have the home that they had in the beginning, that it was destroyed by the war.

So, of course, it's all the school system or school or whatever, so it's extremely important to look at how we can enable this rebuild of Ukraine in terms of housing. So that's one of the key projects and one of the most -- the largest market for rebuilding in the wall.

And this player, Moelven, has engaged Itera through a new agreement with Itera in order to be the adviser and driver for -- to enter Ukraine market for Moelven. So this is a very interesting engagement that we have together with Moelven, and working as one team, have been doing this for 12 months, and we really are looking for the first kind of deliveries in 2025.

So for Itera and Moelven together, we really feel together that we're doing something that is much bigger than ourselves. But of course, we also need to do it in a business perspective. And because otherwise, it won't be sustainable. So this is one of the example of engagement that Itera are building a new kind of services to help even more customers to do the same, because, as I said in the beginning, it is extremely important that we supply new solution in urgent areas, critical areas in the rebuilding of Ukraine, but also not at least it's a large opportunity for new green energy system, whatever, after the war has broke, during the war, but also not at least the large market that will arise just after the war has some kind of solution.

Okay. Let me just summarize with the customer mix. We have talked about this several times. As you see, top 30 customer is 82% of the revenue. So for me, it's extreme report, and especially when there is a more softer mix market is extremely important that you have a strong customer base, because that also some kind of, I would call it, some kind of recurring revenue because these are, customers that's been together with Itera for many, many years, where some of the customers have been there for 15 years or 20 years or whatever. So that's because we have been delivering. We are very tightly integrated in the core system or core capabilities, and we are delivering high value.

So, of course, this is also make sure that, one of the reason that, because of some of the competitors that we look around has negative growth. But I think this is some kind of some foundation in terms of the revenue that it won't go in that direction for Itera.

And also, we look at the new customer is lower than we have had talked about, it's 5%. That also connects to the flattening of the revenue. But of course, that will also increase when they start to grow again, and we hope we can see some upturn of the growth going forward as soon as possible, because of the pipeline that we have been discussed, and we also see some kind of improvement in the market when we look at other players like us.

And the last slide, I will talk about is actually the employees. So this is the capacity, is down 4%. I just want to mention and we are not directly dependent on the capacity because of the outer circle. So despite the 4% is also capacity, available capacity in Itera to continue growing. In addition to this kind of recurring revenue and these other kind of capability that is possible for Itera to continue to grow without having even more capacity into the company. And that is -- but of course, when we should go back to the 30% growth that we had for, I think, it's [ 15 ] months or something like that. Of course, then we also need to look at the capacity increase.

But for the time being, we have reduced about 28 people, but we are also able to really step up and then start to grow again because we have built these offices, we have 14 offices. So it's very easy to Itera to really say that, now, we can start growing, and we can also see some kind of immediate effect from that, because we have this 14 locations that we can grow from.

So I think I'll stop there. Bent, so let's have more deep dive into the financial review. So please?

[Bent Hammer, executive]

Thank you very much. Good morning, everybody. As Arne mentioned, we had a flat growth in the second quarter, as indeed we had in the first quarter as well. So first half in total is about the same as last year.

On a gross profit level, we're down 2% in the second quarter. So that signifies that we have had some more third-party revenues with associated costs of goods sold. So that's primarily related to more cloud consumption. And then, when we see that our recurring revenue base grew by 4% in the second quarter. So a bit less than on the service revenues from our own consultants, that yes, that brings the gross profit down by about NOK 3.6 million.

The personnel costs are down a couple of percentage points, in line with the number of employees. So that means the cost per employee was the same as last year. We see that the depreciation charges is up by 4% or NOK 0.3 million, and that's related to the depreciation of the lease agreements in our new headquarters that we moved into in June of last year.

Other operating expenses, though, are down significantly by 16%, and that's related to the optimization program that we started in, I guess, August of last year as a reaction to the softer market that we saw was coming. So we've been holding back on spending on such discretionary items as travel, et cetera, to preserve our profit margins.

So I'll come back to that a little bit later as well for some more details. We ended up with an EBITDA of NOK 29.4 million in this quarter, which is up by NOK 3 million from the corresponding quarter of last year and an EBITDA margin of 13.1%, up by 1.4 points. And then EBIT of NOK 21.1 million, also up NOK 2.7 million or 15% for an EBIT margin of 9.4%.

For the first half in total, we have less EBIT down from NOK 51.6 million to NOK 40.3 million, and that is a reflection above all from the first quarter of last year, which was very good, both in terms of 30% growth, as Arne mentioned, but also we had a very high margin in the first quarter of last year.

Net cash flow from operations was NOK 27 million and NOK 40 million year-to-date. And we ended up with a cash balance of approximately NOK 30 million, and this was down NOK 22 million from last year and is a reflection of the dividend payments that we have made in the past year.

Last one was NOK 0.40 per share in dividends that was paid out in June. So that took a toll on the cash balance as such. But yes, but we -- we'll come back to you later. We have a policy of paying out surplus cash as fast as we can really to the shareholders, can reinvest in other or in more shares or in other shares to uphold their return on investment at a high level. We ended up with 713 employees at the end of the quarter, which is down 4%. And it's a reflection again on sort of just rightsizing for the current demand that we are experiencing.

Yes, the business optimization program, as mentioned, we can see from the graph that we have now curbed the spend per FTE down to the COVID period, which was traditionally -- in a historical sense, quite low because we -- obviously, we were unable to travel, for example, social activities were quite significantly curbed, et cetera. But we've managed through smarter spending now to limit that down to approximately the same as, as back then and significantly down from what we experienced in second half of 2022 and through 2023.

Looking at the sequential development of revenue and margins. We see that we've had quite a significant growth in the last few years. And looking at the last 2 years, we have had an average growth of 15% despite the 0 growth in the last 6 months. But we came from a regime with very high growth, and we saw that as partially at least a reflection on the market development. Partially, we took some market shares. So we do expect to return to high growth path again when the macroeconomics and the market at large will return to more favorable conditions.

We have -- we have had a shrinking EBIT margin, as you can see from the line graph, but we do have some very specific areas where we can return the EBIT margin again to what we perceive as a more well, our ambition in terms of the level of around 12% or perhaps even more as well. We do have still some margins to recover from utilization, which has been low over the past few quarters. So there's more to gain from that.

Companies need to transform into the cloud in order to utilize it fully the very promising impacts of utilizing AI. So we see that, that will drive some demand for us and then make us utilize better the capacity we have in running cloud transformation and migration programs. And so, so that will be accretive to our margin going forward.

We are still in an early phase of expanding into Sweden. So we expect both revenue growth as well as accretive margins to come out of that expansion in the next or in the years to come now.

And last but not least, we see some very strong upside opportunities related to our Ukrainian position, both in terms of returning the sort of the normal business that we had from Ukraine serving the Nordic market, but also as Arne mentioned, we are also now advising Norwegian companies to enter into Ukraine and take part of the rebuild efforts that are both currently ongoing and certainly will take a large effect when the war is over. So that could be a very promising opportunity for us.

And alongside the very strong corporate responsibility. We were taking to assist Ukraine in its effort to both withstand the hostilities from Russia and rebuild the country again.

In terms of the cash flow, as mentioned, we generated NOK 27 million in cash from the operating activities. Looking at the last 12 months, we've generated NOK 73 million from that, out of which we have spent approximately NOK 64 million to repay the shareholders in terms of dividends. So we are a business that generates quite significant cash from operations and we do not need much of that to build a company very little to support working capital requirements. So that's very good.

We have, I think, 82% conversion of our EBITDA to cash flow from the operating side, which is we regard as very strong. We had a very little investing activities in the quarter, only NOK 1.9 million and NOK 4.8 million year-to-date, which compares to NOK 7.6 million of last year.

On the financing side, the big portion is of course, the dividend payments of the NOK 32 million, which is up from NOK 25 million of last year. We do also have some inflow from sale of own shares, and that's a part of the employee share purchase program that we run annually.

In the last couple of years, we've run it in late Q1 beginning Q2. So we had some inflow of almost NOK 5 million from that this year. Having employee ownership is very important for us, we think it's a great motivator for our people to take part of the value creation that they are an instrumental part of, obviously. So we will continue to run these programs going forward as well.

Looking at the dividend payments, we see that we are consistent in our payments. So we pay out as much as our results allow us to. So the cash we generate. Liquidities, as, I guess, the limiting factor in terms of our dividend payments, we haven't geared the company to any, an extent at all. So we're self-financed in that sense. And we do not anticipate any changes to that in the port coming periods either.

Our share price has taken a dip, unfortunately, over the past 12 months. So even including the dividend payments, we've seen a reduction of 18%. That is though in line with what we see our peers have experienced in the marketplace over the past 12 months. And it's a reflection of the softer market that we've had in this period.

Currently, we hold approximately 1.1 million of our own shares. So we use that to finance the option programs that we have outstanding as well as we prepared for the next employee share purchase program.

Lastly, on the balance sheet side, we see that our cash and equity has come down a bit in the last 12 months, and that's because we've had, I would say, a rather aggressive dividend payment with NOK 0.40 in November and also now again in June. The rest of the balance sheet items are, I would say, more or less unchanged. So that means that we have reduced the total balance by NOK 26 million, down to NOK 292 million at the end of June.

Looking a bit forward, not a lot of change that to what we reported in the last quarter. We do now though see that there are some stronger signals that the market is about to return to growth again. There are more sales activities, though still a bit longer lead times on the decision-making side. But we do expect that the demand will pick up at least when we enter into 2025. There's a -- there's -- as I mentioned, a lot of work to be done on the cloud migration side in order to capitalize on AI. So we anticipate that, that will drive some demand on our side as well.

Going forward, we will continue to focus on holding our spending down to make sure that we -- our margins are kept intact. And we will utilize our strong position in Ukraine to drive business there. And then, we do hope that, that the companies acknowledge that they need to contribute to Ukraine's success in withstanding the hostilities by keeping the economy going. So buying services from Ukraine is very important in that sense much more important than donations, I would say.

Our focus is still on growing, but growing profitably and to generate cash so that we can return those again to our shareholders as we've been accustomed to. So yes, that was it from us. We will report on Q3 on November 8, same time and place, I would say. In the meantime, we are very happy to meet in person or through teams or whatever. So please be in contact with me, and I will set up meetings.

[Arne Mjøs, executive]

We don't have any kind of posted questions, no. So I think that's all. So I know what I need to do. I will go to the customer and still providing increasing the demand together with my team, but looking forward to see you soon again. Okay.

[Bent Hammer, executive]

Yes. Thank you very much.

[Arne Mjøs, executive]

Thank you. Bye-bye.