Zalaris ASA

OSE:ZAL

Earnings Call Transcript 2018-Q2

[Hans-Petter Mellerud]

Good morning, everyone. My name is Hans-Petter Mellerud. I am the CEO of Zalaris. Thank you for joining us for this webcast presentation of Zalaris results for the second quarter and first 6 months of 2018. Please note that the conference is being recorded. You will find a link to the recording on the Investor part of our website.I normally have my good colleague and CFO, Nina Stemshaug, with me for this quarterly presentations. Unfortunately, she is not here today, doctor's orders. She has asked me to give all of you her regards. I hope that she will be back soon. And now let's turn to the presentation.We have had a busy first half of the year. We have completed the integration of the businesses that we acquired in 2017, and we have put a lot of efforts into building an efficient, flexible and scalable platform on which we will continue to grow. All acquired entities are now flying the Zalaris flag. And they are facing the market with one common identity: simplifying; building our brand, particularly in the digital space. Less visible but equally important, we have successfully completed a comprehensive technical onboarding of the new Zalaris entities. We are now using the same IT solution, one shared system for accounting and HR and we can share data and information that will allow us to operate as one integrated company. We are fully GDPR-compliant and with ISO certification, and we have also prolonged our existing BPO partnership with SAP for another 5 years, clearly beneficial for Zalaris and for our customers.We have not forgotten our customers and the market. In Germany, we have signed up a leading engineering and project management company. And in the U.K., we have completed rollout for our first BPO customer on the Zalaris platform, Europe's largest generator of renewable energy, Statkraft.Now let's take a quick look at the numbers. I'll get back to the details in a moment. As already mentioned, we have invested to grow. Revenues reached NOK 189 million in the second quarter this year, up 49% compared with last year, and various revenues have been relatively stable during the past 3 quarters. We have in the longer perspective, shown at the bottom left on this page, nearly doubled in size. We have settled several occasions that we expected profits in the first half this year to be marked by transitional integration activities. Operating profits in the second quarter was in line with this of NOK 1.5 million. With the integration of new businesses completed in first half this year, we have a clear ambition for the next phase. We will turn our attention to margin improvement and continued organic and acquisition-based growth. The recent acquisitions have balanced and increased our geographic presence across Europe. Zalaris have decided to report these revenues for the following regions in order to simplify its geographical reporting: Nordics and Baltics, Central Europe and U.K. and Ireland. Let's take a closer look at these 3 regions.Nordics and Baltics. Revenues in Q2 '18 was NOK 109 million, 8% up from the same quarter last year. Growth was partly due to recognizing project revenues. The underlying growth was driven by recent BPO launches as well as increased scope for existing BPO customers.Central Europe. Revenues in Q2 amounted to NOK 76 million compared to NOK 26 million in Q2 '17. Year-over-year growth is primarily attributable to previous year's acquisition. Consulting capacity in the region was utilized in customer implementation projects; internal system integration projects; andbusiness development activities, including participation in the SAP SuccessConnect trade fair in Germany. Strong business wins in the second quarter supported the region's future growth ambitions.U.K. and Ireland. Compared to last quarter, revenues are slightly down in Q2 '18, mainly as a result of in-house consulting capacity in the region having been engaged in internal projects in other regions. Investment in business development have secured a good pipeline of potential contracts in the region.The number of employees served by our HR Outsourcing team was continued up in Q2 '18 to a record-high 283,000 employees across Europe. This is mainly due to the launch of a new Norwegian customer and expansion of existing customers; expansion into Ireland with Circle K in Q1 '18, a long-term customer; new services provided in Norway, U.K. and Germany for Statkraft. And please do not forget that in addition to these employees, we managed systems for customers that serve more than 1 million employees on a monthly basis.Let's now have a closer look at the key financials. Let's start by looking at the operating revenues for the group. And as usual, all numbers referred to are in Norwegian kroner unless otherwise has been stated. Revenues in Q2 '18 was NOK 189 million, which is 49% more than in Q2 '17 mainly because of the businesses we acquired in 2017. Organic growth was 8% during the same period, positively affected by timing of project revenues. The engagement of consulting capacity with internal and customer transformation projects during the period has reduced potential billable time. Internal projects in the second quarter include a number of projects related to securing GDPR compliance as compliance analysis and verification, updating of data processing agreements with customers, ISO certification and the upgrading of internal mail and desktop solutions. Group operating profit for Q2 was NOK 1.5 million. Post-integration activities have affected all business segments and hence the profit margin for the period. These activities are now largely completed, and they will therefore not have any material bearing on future results. Integration costs are estimated at NOK 7 million so far this year, approximately equally split between first and second quarter. There were no significant currency effects on the operating margin in Q2 '18.Net financial cost for the quarter was NOK 0.5 million, including an unrealized foreign currency profit of NOK 3.3 million related to debt nominated in euro. Tax expense in the period was NOK 2 million, and net loss for the period was NOK 1.1 million.As shown in the graph, group cash and cash equivalents were NOK 37.4 million at the end of Q2 '18. Cash generated from operating activities amounted to NOK 0.6 million. Investment activities relate to internal development of new and improved system solutions. Cash flow from financing activities reflects NOK 14.7 million repayment of borrowings and NOK 13 million dividend payments, which were partially offset by increased use of our line of credit with NOK 18.7 million. Total assets amounted to NOK 564 million, and total equity was NOK 105.6 million. This equals an equity ratio of 18.7%. Long-term interest-bearing debt as of 30th of June 2018 was NOK 199 million. As stated before, we will carefully manage Zalaris' financial position with AMO strengthening its capital structure going forward.Let's take a closer look at our business segments. Q2 '18 revenues in the HR Outsourcing segment amounted to NOK 109.5 million, an increase of 19.5% compared with the same quarter previous year. The growth is mainly attributable to acquired businesses in Central Europe and timing of project revenues. The underlying organic growth amounted to 4% and was driven by BPO launches in previous quarters taking full effect as well as an increase in change order activity for existing BPO customers.Revenues in the Consulting segment grew by NOK 37.4 million to NOK 53.8 million in Q2 due to last year's acquisitions. Consulting capacity was in the second quarter also engaged with customer implementation projects; internal system integration projects; business development and other internal projects, including GDPR implementations.The Cloud Services segment revenues in Q2 amounted to NOK 25.6 million. The year-over-year growth is mainly related to the acquisition of sumarum and ROC in 2017. Recurring cloud revenues increased, while variable cloud revenues decreased as a consequence of consulting resources being utilized in HR Outsourcing projects.All business segments have been impacted by the extraordinary post-merger integration activities in the quarter. Operating profit for the HR Outsourcing segment in Q2 '18 amounted to NOK 15.3 million or 13.9%. The underlying business showed a positive margin development compared to the same quarter previous year, mainly driven by the increased level of variable billing with higher margins. Recognition of project revenues also contributed to the positive development.The Consulting business segment had an operating loss of NOK 0.1 million in the second quarter. The loss is mainly due to change in accounting estimates affecting profit allocation between first and second quarter in 2018.The Cloud business segment had an operating profit of NOK 2 million in Q2 '18 compared to a profit of NOK 0.3 million in the same quarter last year. The positive development reflects the increase in revenue.So with this, let's move to a short update for the market and concluding remarks. Our efforts are increasingly being recognized by the global adviser community. In the last quarter, leading analyst firm, Everest, named Zalaris a major contender in the market for SAP SuccessFactors-based HR solutions and services. Our goal is to continue improving our perceived market impact ambition and capability such that we are being seen as a leader in this space. With our combined integrated organization, we are well positioned to achieve this.So let me round up with some concluding remarks and thoughts about current priorities. First of all, through our recent acquisitions, we have built a significantly stronger platform for continued organic growth. We are all now on the same IT solution, one shared system for accounting and HR and we can share data and information that will allow us to operate as one integrated company. This is a scalable backbone for delivering on our financial performance and operational synergy ambitions. Our pipeline of opportunities remain strong in all our regions, and our portfolio of products and services is well aligned with customer demand. While we find ourselves well positioned, we are certainly not leaning back to rest. With integration of new businesses completed in the first half this year, we have a clear ambition to improve profit margins in the next quarters and to continue to grow.Thank you for listening. We will now open up for questions.

[Unknown Executive]

[Operator Instructions] The first question. A margin target of 10% would have resulted in an EBIT of almost NOK 90 million. Subtracting integration costs that you have reported, there is still a gap. Could you please elaborate on this?

[Hans-Petter Mellerud]

That's a very good question. I think we have to keep in mind that over -- like we have mentioned also in the presentation, over the last year, we have almost doubled in size. We have a very tuned organization in the old Zalaris. And over the last 12 months, we have built a much more robust organization to tackle the new size and complexity of the existing -- the new organization, almost double the size, and to be prepared for future growth. And this includes also staffing up our group with both strengthening our finance function. It includes strengthening our HR functions, certain IT functions and also our business development function. So that in all is partially taking some of the -- is building up somewhat more overhead, but we are also not seeing any of the cost effects from the integration activities and the synergies yet. So we expect then moving forward that we'll see synergy effects from actually integrating the new entities into the Zalaris organization. As well as on the revenue side, we have as we have also mentioned in the presentation, used quite a bit of our internal consulting capacity on non-billable internal activities. So with turning more our internal or consulting capacity to the market, we expect also to generate extra revenue and thus also that shall contribute to improving -- getting back into the margins that we -- margin picture that were our target.

[Unknown Executive]

Thank you. What is the time horizon for returning to profit targets?

[Hans-Petter Mellerud]

We will, I think, see a gradual improvement or we have already started our journey on utilizing our new scalable platform. So I hope -- and we are working at seeing results throughout the remaining quarters of this year with a goal of being close to the target back in 2019.

[Unknown Executive]

Thank you. Another one, can you please elaborate on substantial business wins in the Central Europe, especially the German engineering firm?

[Hans-Petter Mellerud]

Yes, so we have issued a press release on this, so it's difficult to be much more specific. But it's a project worth more than EUR 2 million for a large German engineering company, supporting them, modernizing their HR function for the future through the implementation of SAP SuccessFactors cloud solution globally, including also a solution for their HR, improving efficiency of handling requests from employees in their HR department through our ticketing solution.

[Unknown Executive]

The last question, how is the pipeline looking in the new regions that you have acquired?

[Hans-Petter Mellerud]

I think that -- or during particularly the second quarter, we have made significant progresses in driving pipeline both in terms of, say, the core business of the acquired companies. But I -- to be honest and I've mentioned this also in the past, the key measure for our -- that we've put on ourselves for the success of the acquisitions is that we'll be able to also sell Zalaris platform-based services in these new geographies. That was the rationale for acquiring these businesses in the first place. One, we wanted to support our existing customer base in Germany and the -- or the German-speaking countries and the U.K. and Ireland. But secondly, we wanted to use our scalable platform to sell services in those markets. And I think that what is satisfying me the most in terms of the pipeline development in the last quarter is that we now have a number of great opportunities in both of our regions where the goal is to actually sell our platform-based services in those new markets. So it seems like, in addition to that, we in the first half year went into production with our platform-based services in U.K. and Ireland and Germany. We are now in addition selling to and closing in on is making deals also with customers headquartered in those regions, and that will be the true measure of the success of the acquisitions that we make.

[Unknown Executive]

Thank you, Hans-Peter. That's all for now. We will revert in the end of October for our third quarter presentation. Thank you.

[Hans-Petter Mellerud]

Thank you.