Itera ASA

OSE:ITERA

Earnings Call Transcript 2020-Q3

[Arne Mjøs, Chief Executive Officer]

Okay, good morning, everyone. Welcome to the third quarter interim report. And we have the same agenda that we have presented earlier. I'll start with the highlights of the quarter and the business review section. And then Chief Financial Officer, Bent Hammer, will go into all kind of financial details in the financial review and also some comments about the outlook. The highlights of the third quarter. I think again we are delivering very strong growth and profitability in the core digital business that represented 80% of the total business of Itera. The gross profit or the net sales was -- had a growth of 9% in the third quarter, and the EBIT margin of the core digital business was 10.2% compared to 8.2% last year, third quarter last year. If I look at the total business that is -- that also include data centers. The total revenue for the -- was NOK 138 million compared to NOK 128 million third quarter last year. That's represent a growth of 8% year-over-year. The gross profit was NOK 121 million compared to NOK 111 million. That represent a net sales growth of 9% year-over-year. And the EBIT of the total business was NOK 14.5 million compared to NOK 9.9 million third quarter last year. That represent a 10.5% margin compared to 7.7% margin last year. When it comes to COVID-19, we had some, I will call it, moderate impact. It was especially in the second quarter. And that also is also opportunity for COVID-19, also driving digital innovation and cloud transformation so that we are also accelerating as a consequent our cloud transformation of our own data centers. If we look at the people side, we are very happy that we was ranked as 1 of the top 25 most innovative companies across all industries in Norway in 2020, also so that we have been rated as 1 of these 25 top in Norway the last 5 years. And the number of employees increased by 51 FTEs last 12 months. We also have a very strong rolling cash flow from operation of NOK 107 million, and that also qualifies to an additional dividend of NOK 0.40 per share. So that was actually the highlights for the third quarter. If I go look at then the figure itself, as you see, the core digital business, 80% of the total business. That is everything excluding the data center. The gross -- net sales growth was 8.8% in the quarter, 11.4% year-to-date; if I look at the EBIT margin for the quarter, 10.2% compared to 12.5% year-to-date. And for the total business, it also show quite good growth of -- gross profit growth of 9.2% and 10.8% year-to-date. And the EBIT margin was 10.5% and -- in the quarter and 11% year to day -- year-to-date. So in fact, every quarter is actually improving. So let's await more details about the financial when Bent continue later in the presentation. Okay, if I look into the business review. As we, you all know, we have the position as a specialist in creating sustainable digital business. We are delivering end-to-end services because we understand the user. We understand the business, and we understand all kind of technology that are needed in order to create sustainable digital business. And we have also selected 3 specific sustainable goals in order that impacts a lot of the customer and -- but also Itera, how we operate in the market. We are always focused on how to make a difference for our employees, our customer -- the customer and the society as a whole. So that's the foundation of Itera. Through skilled people and multi-disciplinary teams, we have always a platform-first thinking in terms of business platform -- or technology platform. We work as one Itera across all the -- or across borders. We have strong entrepreneurship culture and also local ownership of the decision closest to the customer and also put sustainability as a core focus in our company. Our digital journey has been -- in terms of creating sustainable digital business, has actually been focusing first on the business-to-consumer segment, typical representing banking and insurance, public, retail, some other industries. Now we are turning the focus also into business-to-business segments, where the industrial potential is much larger, I will say, than we have seen so far. So we have customer in power and utilities and oil and gas that are actually moving a fast transition, I will say, the -- into green economy or not at least driven by the COVID-19 and the incentives from the government and also not in -- at least in Europe and the global at -- itself. We also focus on a digitalization of the manufacturers stream of process industry, maritime and fishery. So everything is about actually going towards the Fourth Industrial Revolution. The business-to-consumer segment has been digitized. We are connected. We are using services every day, but in the business to business it just started because all the physical things need to be digitized through software. So the software in the business-to-consumer segment has been there. It's very -- quite well and mature. The data is easier to connect. If you have a book meeting in the calendar, you might also know that it takes 50 minutes to go to that place because you -- they also are connecting to the map or Google Map, whatever, in order to look at the traffic jams, whatever. So in the business-consumer, we are quite connected. In the business to business, we are not that connected, but there's a large potential for digitalization in the business to business, what we call the industrial digitalization. And if you look at the potential in this area, it's actually that everything is -- becomes also a software in the business to business because all the physical things need to have software that make it more intelligent. And according to McKinsey, if you are linking the physical and the digital world, we can actually generate USD 4 trillion in increased value a year by 2025. And if we look at the increased value that has produced in the business to consumer, it's more or less at the same level. So according to McKinsey, the potential for digitalization is at least in the business to business because they also need to use a software in a more intelligent way than we have seen in the past. And that also quite interesting if we look at some of the local players but also based in -- based in Norway but have a global position, like Aker are saying that the value of the IT or the software part of it will be at least at the same level that they have actually build through a long period in terms of the oil and offshore industry. So they really believe that the large value outtake will be in terms of using the software within the industry and also transform the industry into a more green economy where software is actually one of their tools that they need to have in place in order to succeed in that transition. And if we look at the market cap of the top most valuable companies, you see that most of these, the list -- the top of -- 10 listed companies are actually coming from the data economy because they manage to generate revenue based on the data as a part of the business model. So Itera is also doing a lot in business to business. We are looking at using the platform. And one of the platform out there is Cognite Data Fusion, [ it's called a breakthrough platform ] that has a very unique technology in order to get access to all the data in different silos in the industry and put it into some kind of operational digital [ twin ], which make it easy to look at the total value and start to transform the new -- the industry into a new business model. So there we have cases in oil and gas that are actually turning into a green economy, but we're also working not at least with the power utility, manufacturing, shipping. And the typical use cases are related to predictive and smart maintenance, yield optimization, production optimization, digital worker and sustainability. And I'm very happy that the collaboration with Cognite and Itera is quite strong. So this is just to show one of the teams that are working for Cognite. And I think we have just started on very interesting journey together with Cognite because they also have a global position [ and would ] like to take a global position. They have a technology that is at the forefront of the development in the market, and that's why I think it's very interesting work with this kind of company in order to address the new logos and new accounts in these business-to-business segments. I'm very happy also to onboard Bjørnar Engebretsen in order to drive the industrial digitalization because Bjørnar has -- he's appointed as Head of Hybrid Cloud Services at Itera, which will be very focused on the public cloud technology. He is actually coming from a position as director of cloud at Microsoft Norway, where he had very -- overall local responsibilities to support Microsoft and established its global data center in Oslo and Stavanger, so he has quite deep competencies in this global data center but also -- not at least also a long proven track record from different position, not at least from EVRY, which has been one of the larger players in the Nordic in terms of the complexity with large customers. I think, combined, his competence from the past in terms of transforming the data center in -- locally into a more global-based data center from the global giants is very important because we need to use this kind of technology in order to have the scalability for this massive data, the volume of data that we see in these new industries. So what we are doing is also Bjørnar is heading up a cloud center of excellence at Itera that will have the scaling engine for massive data to enable industrial digitalization in the business-to-business segments but also, of course, take care of the business-to-consumer segment using public cloud services managed as a code. So that's kind of all -- again it's about using the software. So we have, in terms of Itera, the [ software mindset as part ] of the core practices of Itera; and so we need to use this also in terms of the cloud center of excellence because everything will be managed as a code. So that is not only the infrastructure provision and software, but also the operation and service delivery needs to be really automated as much as possible and using the intelligence in the software in order to look at how this operation can really scale and also take care of the security that you might see as a part of the society that's been really connected with some kind of more cybersecurity risks. But again we need to have the security as a part of delivery; and what we do is we design the security into the system from the beginning, not wait for the operation part. So that's also a new way of operate where security is a part of the core team when we establish the relationship with a customer. If we look at the cloud adoption. It's really accelerating, not at least driven by the COVID-19, according to analysis by Gartner in late 2019. The analysis is actually saying that 88% of the whole organization have a cloud-first strategy. 11% have no; and 1% only say, "Don't know." So of course, cloud is a mainstream in the market and not at least in the Nordics. So that also have consequences for Itera. How we -- the transformation of our own data center has been a part of it for a long time, but for -- 2 years ago, we had the strategy to start the transformation into the cloud. So that is actually the causes. Or not at least this kind of survey is saying that we need to move into the clouds as fast as possible. So in terms of our data center transition. As we say -- as we see there, 20% is actually represented of the -- is from the data operation, of total business. And during the next 6 months, it will be reduced to 7% share, and by end 2021, it's not -- it won't be any substantial at all. And during the next 3 to 6 months, one of our larger clients on the -- that we have only delivering infrastructures services will leave Itera because they will be managed by their global operation. It's a quite large international company, where they have using the cloud. They can operate this in a more global perspective. So that has an impact on the revenue for Itera going from NOK 7.2 million in run rate today to about NOK 3 million [ in run rate ] by January next year, but most of the revenue in this space is the cost of sales because we have invested in the data center and all this kind of stuff. We don't need to do that in the cloud, so the net value will not have the same impact. In addition to that, we will also generate new clients using the cloud so that we also compensate the reduction in the revenue which is low margin today to more high margin from the new managed services based on our cloud center of excellence. I'm also happy to look at the international traction for Itera. As I said, we are one of the most -- top 25 innovative company in Norway, but we are also happy to look at the delivery model that is really working very well across border as one Itera. According to Global Sourcing Association, we have -- we're top 1 in the world. And we are also happy to -- as we announced in the second quarter, that Itera also have a strong position within project managements. We are the top 1 player in project management across every industry in the Europe. So that is also important to be an international company that manage to grow with Nordic-based clients into their international presence in other part of the world. So today, we are delivering services to about 20 countries around the world. As part of the social responsibility, not at least during the COVID-19, Itera is also a part of the society in terms of looking how could we really contribute to the digital competence, the building, not only for the businesses but for the society and the individuals. So in this case, there were some kind of a Arendalsuka, which is a quite, yes, large community where all the businesses are meeting once a year, during 2, 3 days, in Arendal, but it couldn't happen this year, so it was actually digitized. It's a digital version. So we organized a panel debate by the Ministry of Labour and Social Affairs that attended -- the Director General, Ole Erik Almlid, from NHO; and also the Head of Microsoft, Kimberly Lein-Mathisen; and myself attending this in some kind of debate that was very interesting in order to contribute to how the society could actually develop the competencies in digital companies that we need to -- in order to be a part of the society. And we are also happy to look at how we are also onboarding graduates. In this case, we have both students -- some student are master students that -- I think there were 31 master students this summer that attended the 5 projects. That was very successful. And we also onboarded 8 (sic) [18] graduates across our range of services in the third quarter. So we're also taking responsibility to make sure that the people from the education system also can attend or enter Itera in order to be part of our business despite the uncertainty that COVID-19 has been for a lot of businesses out there. If I look at the order intake. It's actually the book-to-bill ratio in the third quarter is it was 1.0 for the core digital business. So there's a lot of the existing accounts, but we also see some new accounts that are coming in. And the new accounts has been an important KPI for Itera. So about 8.9% of the revenue in the third quarter was from new accounts, and that -- this accounts that we didn't have any relationship for 12 months ago. So we have started, we -- yes, the relationship for about 12 months ago. So the revenue from these new accounts represent 8.9% of the total revenue in this quarter. And also if we look at the share of revenue from the top 30 customer, we have a very high share of customer that has been 5 to 10 or maybe 15 years. So we have developed every year. And I think that has also been very important during the COVID-19, that we have long relationship that you continue despite all this kind of uncertainty during COVID-19. As I said in the beginning, we are about -- we increased the number of employees by 51 the last 12 months, and we are now with 556 employees at the end of the quarter. And the nearshore ratio is -- was actually 46% compared to 48%. So in this, the last 12 months, we have onboarded more people onshore than nearshore, but that's also part. As we said, we have a long-term direction of 50%. We will continue also working with -- or we're recruiting from all the location, but in this, the last 12 months, we have also strengthened the local presence to our customers also. So that was everything from the business review, so let's go more into the financial part. Bent?

[Bent Hammer, Chief Financial Officer]

Thank you, Arne. And good morning to everybody. As Arne mentioned, we had a growth of 8% in this quarter. Of -- on gross profit level, it was 9%. Our personnel expenses grew by only 5% during this period, which gives a personnel expense per FTE 3% lower than the corresponding period of last year. There are several reasons for that. One obviously is that there are less social activities going on during this corona pandemic. Also the softer utilization we've had has also had an impact on our bonus achievements, bonus targets, so we have less accruals for that. And lastly, we have a positive pyramid shift. We've taken onboard a good contingency of -- constituency of graduates in September, so that gives a positive impact on the average personnel expense. In terms of other operating expenses, there are also some positive corona impacts, I would say, in terms of less or hardly any travel expenses. So those expenses grew by 7% versus then slightly less than the overall growth. That gave an EBITDA of NOK 24.6 million, up 29% from last year; and an EBITDA margin of 17.8%. Depreciation, a bit higher at NOK 10.1 million, which then gives an EBIT of NOK 14.5 million or an EBIT margin of 10.5%. This corresponds to 7.7% of last year. So a very good performance in these trying times, I would say. Q3 is, seasonably the lowest quarter we have being a consulting business predominantly. And that also is normally reflected in our cash flow. We had a pretty good cash flow of Q3 of last year from operations of NOK 15 million, but we exceeded that this year with NOK 16.4 million generated from the operations, giving a ending cash balance of NOK 57.7 million, which is up about NOK 12 million from last year. And the equity ratio is approximately same as last year at 23.8%. Arne mentioned the growth in the number of employees. So we ended at 556 million FTEs at the end of September, which is up 10% from last year. Year-to-date, we have a similar or a slightly higher growth rate of 9% on top line and 11% on the gross profit level and an EBIT of NOK 49.6 million versus NOK 37.6 million of last year, yes. Splitting this into the 2 major business segments. The core digital business had a growth of 8.2% in the quarter, and data center operations 6.1%. The latter, though, grew by more in terms of gross profits as much as 11.6% actually. They obviously have recurring revenues throughout the summer vacation period. And that gives them strong profits in the third quarter, 12.3% EBIT margin this year versus 4.9% last year, I will say, driven by more consulting businesses surrounding the data center transformation that Arne mentioned. We have accelerated the transformation into cloud, and then there are a lot of services surrounding this transformation that we are delivering at the moment. At the end of the year, we will do the restructuring to accommodate a lower revenue going forward from these low-margin infrastructure subscription services. So we think that we will see a one-off charge in the range of NOK 3 million to NOK 5 million at the end of the quarter. And then as Arne mentioned, the revenues will drop as of January. The impact on gross profit is obviously less due to the -- all the related cost of goods sold to that business. Looking at sequentially, we see that the red bars representing the third quarters are the lowest we have during the years. And obviously that's tied into the vacation periods of the consultancy business, but we also see that there has been a positive shift in the curve on the EBIT margin from year to year, so -- and we actually achieved a flat EBIT margin compared to Q2 this year's, which is very positive and obviously slightly impacted by the corona situation. But in a sense, that goes both ways in terms of top line growth versus the savings we see on the cost side. On a 12-month rolling basis, we are more or less reaching NOK 600 million in top line last 12 months and a growth in the EBIT of 25% to NOK 68 million and a EBIT margin the last 12 months of 11.4% versus 9.8% of the 12 months before that. The revenue from our own services, the consulting services, that grow the most, by 9% to NOK 91 million, whereas the subscription services grow by -- or grew by 6% to NOK 39 million. The revenue from third-party services and other types of revenues are quite small at NOK 5 million and NOK 3 million. So the percentage changes there are not significant, though positive this quarter. The P&L results are pretty positive this quarter, but I'm even more happy with the cash flow. We have generated, as mentioned, NOK 16.4 million from operations this quarter, which corresponds to NOK 15 million of last year which was then a very strong seasonally adjusted achievement. And looking at the graph on the right-hand side, we can see that from the last 12 months we have actually generated NOK 107 million from the operations, which is I would say extremely good compared to the underlying profits. And obviously there comes a time when you're not able to squeeze more out of the balance sheet, so I presume we will have to improve the underlying results before we can see levels like that going forward. In terms of investing activities, we have spent NOK 4.5 million in Q3 versus NOK 2.3 million of last year, and the increase there is related to a new ERP system that we are implementing as we speak. We will actually go live on November 1, so exciting times for a CFO, obviously. So I can only cross my fingers for everything going smoothly. It looks fine at the moment but always very exciting. So we're looking forward to getting a new ERP system in place. From financing activities, we sold shares worth of NOK 3.6 million to our own employees. Those were targeted placements to key employees which got the shares for a discount in return for a 3-year reservation on sales and also the discount being linked to their continued employment. So we have an option to buy back the shares excluding the discounts if they leave the company within these 3 years. Lease liabilities are approximately the same as last year at NOK 2 million in outflow. So that gave an ending balance of NOK 57.7 million, yes, of cash. And on the back of that strong cash flow, the Board resolved last night to pay an additional dividend, based on the 2019 results, of NOK 0.40 per share. So the share will go ex-dividend tomorrow, and the dividend will be paid on November 4. So that's the second dividend we pay out this year. We paid the NOK 0.20 in, I guess it was, one of the first days of June as an ordinary dividend. Looking at the share price development. It has had a good run during the quarter as well. We ended at NOK 13.95 per share, which gave us a value of our own treasury shares of NOK 17.7 million. And we -- yes, we continue to show the high distribution of earnings, which is also why we have adopted a policy of paying dividends twice a year in order to pay out available cash at an earlier point in time than just once a year. The financial position is unchanged in terms of the total balance. It's at NOK 240 million, including the right-of-use assets that came from this IFRS 16 leasing adoption which represent about NOK 38 million of that. Equity ratio, as mentioned, approximately 24%, unchanged from last year. So we -- yes, basically the changes in the balance sheet is an increase in cash of NOK 12 million at the expense of other outstanding assets. So I'm -- yes, I'm very satisfied with the balance sheet at the moment. I could mention as well that we have had absolutely 0 impact on our receivables from the corona situation and no defaults on payments and no change in the pattern of paying the invoices. That's comforting as well. That was it, what I was going to present from the third quarter. Just quickly, on outlook: As you may know, we don't guide specifically on the outlooks but a few words. We still see the underlying demand for the -- our services has been very strong. Obviously there is some uncertainty surrounding the corona impact. The -- or Norway as well as rest of Europe is into its second big wave of infected people. We -- all over there, there were -- or there has been some softening of spending and maybe some longer sales cycles. During these times, we haven't really seen a -- any permanent drops in demand or anything. I think we're -- we have a quite favorable distribution of customers in the industry segments that have not been very much affected by the corona situation as we had, at least. We are doing this transformation on the data center, which will have an impact now in Q4 in terms of our one-off but also the drop-off, starting 2021, in the subscription revenues, while we probably will have more consulting services in the cloud transformation going forward. So a shift from less recurring revenues to more consultancy. At least, I would think, through 2021, some of those services will probably be converted to more as a service type of models at a later stage in time when there is more matureness in the customer relationship on those services. I should also mention that we're -- the Cognite cooperation that we are working very closely on at the moment takes some toll in terms of resources that we invest in this relationship, so in the short term that will also have an impact on our earnings, but it will make us stronger in terms of achieving future growth in 2021 and beyond. So that was it. If you have any questions, you may post them on the on-site Q&As section. You may also be in contact with Arne Mjøs or myself to set up one-to-one meetings if you want to hear more about Itera and our investment case. So thank you for listening, and I hope to see you back when we present the fourth quarter in February. Thanks a lot, and have a nice day.