Telus International Cda Inc

TSX:TIXT

Earnings Call Transcript 2023-Q2

[Operator]

Good morning. Ladies and gentlemen, welcome to the TELUS International Second Quarter 2023 Investor Call. My name is Jonathan and I will be your conference facilitator today. [Operator Instructions] As a reminder, today's program is being recorded.Now I'd like to introduce your host for today's program, Mr. Jason Mayr, Head of Investor Relations and Treasurer at TELUS International. Mr. Mayr, you may begin your call.

[Jason Mayr, executive]

Thank you, Jonathan. Good morning, everyone. Thank you for joining us today for TELUS International's Q2 2023 Investor Call. Hosting our call today are Jeff Puritt, President and Chief Executive Officer; and Vanessa Kanu, our Chief Financial Officer.As usual, we'll begin with some prepared remarks where Jeff will provide an operational and strategic overview of the quarter followed by Vanessa who will provide some key financial highlights. We'll then open the line to questions from prequalified analysts before turning the call back to Jeff for his closing remarks.Before we begin, I'd like to direct your attention to Slide 2 of the supplementary presentation available for download on this webcast and also available on our website at telusinternational.com/investors. The statements made during this call may be forward-looking in nature including all comments reflecting expectations, assumptions, or beliefs about future events or performance that do not relate solely to historical periods. These forward-looking statements are subject to risks and uncertainties which may cause actual results to differ materially from our current projections. We assume no obligation to update any forward-looking statements.Jeff and Vanessa will also discuss certain non-GAAP measures that the management team consider to be useful in assessing our company's underlying business performance. An explanation of these non-GAAP measures and a reconciliation to the comparable GAAP measures can be found in the appendices of today's supplementary presentation along with the earnings news release issued this morning and regulatory filings available on SEDAR and EDGAR.I would also like to remind everyone that all financial measures we're referencing on this call and in our disclosure are in US dollars unless specified otherwise, and relate only to TELUS International results and measures.With that, I'll now pass the call over to our President and CEO, Jeff Puritt.

[Jeffrey Puritt, executive]

Thank you, Jason. Good morning, everyone. As discussed on our July 13 investor call when we provided our preliminary Q2 results and shared a revision to our full year outlook, the second quarter of 2023 marked a particularly challenging time for TELUS International. While we generated revenue growth of 7% year-over-year, adjusted EBITDA declined 20% year-over-year in what I would characterize as a perfect storm of near term and temporary profitability pressure, which we'll discuss in more detail in our remarks today.Indeed, as we've discussed with many of our stakeholders over the last few weeks, there are a few points I'd like to reemphasize. The first relates to TI's outlook revision. What in particular changed now versus earlier in the year and whether the revised outlook is de-risked given the profitability pressure in Q2. To address what changed, I'll first point to even more aggressive near-term cost cutting behavior by some of our large tech clients in particular.Earlier in the year we had anticipated and reflected some of this softness in our annual outlook. However, as an example, we experienced a sudden and larger than expected reduction in content moderation services, which disproportionately impacted our European operations. This, in turn, strained the pace of our revenue growth and added temporary pressure on our profitability. When we've encountered demand softness from clients in the past, our scale and growth trajectory enabled us to repurpose our highly skilled team members to other growing client accounts. Unfortunately, we were unsuccessful in this regard in Q2, and as a result, we were faced with an unfavorable ratio of labor cost to revenue, which created a temporary drag on our profitability.Adding to the complexity of this particular challenge was the labor regulations in certain countries in Europe that impeded our ability to scale down as quickly and efficiently as we were required to in response to the decreased demand. Despite this, we have now successfully actioned meaningful cost savings and have other efforts currently well underway to right size our team member count with current client demand. We believe these margin pressures in the second quarter were largely due to isolated issues that we have now either already addressed or have a clear line of sight to remedy.Due to the strong progress and execution of these and other remediation efforts as reflected in our updated outlook, we expect to quickly return to our typical 20% plus adjusted EBITDA margin for the balance of the year. That said, based upon what we currently see in our sales funnel, have heard from our clients, and have observed in a broader macroeconomic environment, a revised annual outlook reflects a much more cautious view.With respect to our pipeline, our sales funnel remains very healthy at over $2.9 billion as at June 30, albeit with an increased aging profile of the opportunities within it that we ascribe to the longer than typical delays in decision making due to macroeconomic uncertainty impacting clients' budgets. Fortunately, we have not seen many funnel opportunity cancellations, and indeed, our global sales team continue to win incremental business in the second quarter, attracting new logos such as a B2B human resources software company, a multi-utility service provider, a subsidiary of a multinational IT and consulting company, and a facilities-based technology and communications company.Again, whilst not at the pace we expected, we also continue to expand services with our existing clients in the second quarter, including with Google, our third largest client, as well as secured incremental volumes with an integrated power company in the U.S., a leading North American financial institution, a major American telecommunications provider, and a North American integrated retail electricity and power generation company.I also want to touch on WillowTree. While the integration continues to progress quite well, WillowTree's business has been subjected to similar pressures brought about by the macroeconomic environment with many clients deferring decision-making in connection with their near-term digital transformation projects until the economic climate improves. These headwinds are not intrinsic to WillowTree, but appear to weigh heavily on the broader IT services industry, manifesting themselves as project delays, lower volumes, and slower decision-making by clients.I'm confident these pressures will subside in time. However, it's worth noting here that our deal thesis for the acquisition of WillowTree, like any other acquisition, was always predicated upon a longer-term outlook, and I remain extremely confident in the opportunities ahead to further bolster TI's front-end design and build offerings and to extract incremental value from our combined capabilities, especially as it relates to the continuing support of our largest client, TELUS Corporation, due to their unwavering focus on customer service excellence as we help to enable their digital progression.Without understating the magnitude of our July 13 preannouncement, I want to reiterate my belief that TI's long-term investment thesis is very much intact and our competitive positioning remains strong. Indeed, there are meaningful opportunities ahead in digital transformation and generative AI, in particular, which I'll touch upon more momentarily, areas where TI is uniquely positioned and credentialed to design, build, and deliver differentiated, responsible, and market-leading solutions for our clients.On that note, let me now provide some insights and updates regarding generative AI as the technology and its seemingly limitless applications continue to drive extreme interest across all markets, including CX outsourcing, with some expressing a level of existential concern regarding the industry's continued viability. I believe that like so many technological evolutions that have preceded it, the advent of GenAI will benefit organizations that are able to adapt with greater pace and agility, but also with purpose and thoughtfulness.The CX environment has changed many times before. And back in 2018, I paraphrased a quote that said, "Having a digital strategy will soon seem as silly as having an electricity strategy" because of how ubiquitous and ingrained we predicted digital channels would become in our clients' customer support strategies. Today's digital CX landscape has evolved from in-person voice-only support to incorporate bots, automation, machine learning and AI to name just a few of the technologies and innovative applications that have become the norm in how we design, build, and deliver our leading services and solutions.Indeed, according to Gartner, 89% of all companies have either adopted a digital-first business strategy or are planning to do so and 91% of businesses are engaged in digital initiatives. There is no doubt that the CX industry is evolving once again as generative AI dominates the headlines and disrupts almost everything.Notably, TI is not merely a backseat passenger in this disruption nor have we been in the past. We invested in Lionbridge AI and Playment years ago to capitalize on the growth in need for AI data annotation and computer vision services, the picks and shovels as I like to call them, to help our clients leverage AI opportunities. More recently, we invested in WillowTree to incrementally grow our digital advisory capabilities and our bench of top tech talent that could help to create market differentiating brand experiences.Generative AI is now already expanding the scope of CX tasks that can be automated and augmented to assist employees in their work, and it will continue to do so at an accelerated pace. As TI has done during previous tech-fueled iterations, we are simultaneously expanding our range of solutions and upskilling our workforce at an accelerated pace in order to meet the changing demands of our customers. This includes new ways of structuring our client engagements with a mix of professional services, outcome-based pricing, and even software-as-a-service licensing elements depending upon the solution.We see generative AI as a net positive development for our business, thanks to our existing capabilities and the benefits we stand to realize by deploying generative AI solutions within our own operations and on behalf of our clients. To this end, TELUS International has a comprehensive suite of data-driven end-to-end generative AI solutions that integrate the best of GenAI capabilities and human expertise to transform digitally-led customer experiences across the entire customer journey.Let's look at GenAI through the lens of our design, build, and deliver approach. Within design, we provide CX strategy, experience design and digital consulting services that leverage our deep expertise in understanding the customer journey throughout the entire CX life cycle, including how GenAI can be responsibly leveraged through thoughtful data governance to optimize client experience. Our build capabilities around GenAI rely upon our unique ability to structure and operationalize customers' data to empower digital CX supported by GenAI to reach its maximum potential.Specializing in AI data set sourcing, annotation, testing and validation for AI models, our team members are the H in RLHF, reinforcement learning through human feedback, that ensure high-quality data for optimal AI performance. We responsibly create, source and utilize diverse and trusted data sets to ensure that our clients' GenAI solutions are built upon a foundation of inclusive and accurate data.And in terms of the delivery domain, our data-driven CX solutions powered by GenAI-enabled businesses to achieve enhanced productivity with improved customer satisfaction, driving exceptional outcomes in today's competitive landscape. With operations across 5 continents, including a global community of more than 1 million annotators and linguists, TELUS International provides global reach and local expertise to deliver exceptional GenAI-enabled solutions.Because of its implications on society, I believe that responsible development and progression of generative AI must be underpinned by a humanity in the loop approach, not simply human in the loop processes. Whereas the latter helps optimize AI models and algorithms through human intervention and contribution, the key to TI's unique humanity in the loop approach is our commitment to codifying diversity and inclusion into all stages of generative AI's design, development and implementation from creating high-quality data sets to establishing policy guardrails that protect rather than detract from the complex ecosystem that connects us all.For example, we're currently supporting a leading conversational generative artificial intelligence chatbot developed by one of our hyperscaler clients by actively driving the expansion efforts across multiple initiatives. While I'm limited in the level of detail I can provide regarding this engagement, I can share that we're helping our client with prompt research and leveraging TI's global AI community of subject matter experts for the prompt and response creation. Our team is also involved in their generative AI evaluation and data set tuning as well as benchmarking and analytics. We've been providing generative AI support across the span of this client's language coverage and supporting multiple GenAI engineering efforts throughout the year. We anticipate expanding the scope of the services we're providing to all of more than the 500 languages and dialects we support.This is a large-scale complex engagement for our AI data solutions team that builds upon our long-standing partnership with this client that spans well over a decade and also includes CX support services and a joint go-to-market opportunity supporting digital transformation strategies and digital customer experiences.Another enterprise-grade AI use case is with our parent company, TELUS Corporation. We're currently engaged on hundreds of programs for TELUS' fast-growing tech-enabled lines of business, including our support of TELUS Health, as I shared on our investor call in May. Today, I'll provide an example of the exciting work we're doing for TELUS Agriculture & Consumer Goods.When it comes to adopting technology, the agriculture industry has always exhibited a pioneering spirit. In fact, beef producers have been using artificial intelligence to augment productivity, profitability and improved performance in crops and cattle for decades. In this particular engagement, the end customer is a large North American beef producer with more than 0.5 million cattle. The client wanted to mine its extensive data regarding the genomic and expected progeny differences of cattle, meaning the likely characteristics of an offspring in order to uncover correlations between the specific cattle characteristics and production data in order to drive performance improvements.In particular, the client wanted to assess what factors had a significant impact on the healthy growth of their cattle. For TI, this meant creating a specific task to identify disease resistance attributes and animals to decrease mortality incidents that in turn would increase production efficiency. This client also sought our support to identify other statistical correlations in its data assets in order to leverage AI to disrupt its conventional business model to position the business to be more proactive, productive, economical, and competitive.For this project, TI is using an AI technology stack from Google Cloud Platform, which leverages tools to handle complex challenges related to the AI pipeline from data ingestion, preparation, storage, and exploration to training and generating insights. It supports the complete journey of the AI loop.This project brings forward some unique challenges given the sheer amount of data involved and its volatility. But by leveraging AI, we were able to employ techniques that simultaneously evaluate multiple factors and their interactions, enabling our clients to uncover reliable correlations in the data.AI algorithms help our team to efficiently rank critical factors that impact profitability, including factors around animal health and quality of production. This client also requested extensive handcrafting of their production data features, a process called feature engineering. We're currently in the proof-of-concept stage on this particular project, but by analyzing the data sets and employing AI models, our team will be able to identify the critical traits that define outperforming cattle characteristics, which will help generate actionable insights for performance improvements, including preventive cattle health interventions and procurement strategies. Once our team successfully moves this project to the next stage, we'll employ an outcome-based gain share model with a multiyear contract worth several million dollars.More broadly speaking, TI has been developing and employing digital tools to automate our clients and our own operations for many years now. Among our more recent case studies is an example that relates to robotic process automation or RPA. TI implemented a bot solution for a diversified construction company to help process and manage up to 48,000 purchase orders annually. Previously, processing each invoice and inputting needed details into the clients' enterprise platforms was a tedious manual task, whereas now our bot is able to free up resources, save our client money and allow their teams to focus on more complex and higher-value tasks.We deployed similar RPA solutions for another client, a North American waste management company with multiple digital coworkers. One of our bots for this client is working on purchase order creation as well as vendor set up along with automating workflows that are repetitive labor and time consuming. Importantly, the bot can also proactively flag any missing data inputs for human colleagues to follow up on.Another digital coworker we deployed for the same waste management company took on the manual process of reconciling transactions for one of the clients' partner banks. The bot is able to process multiple files and accurately input needed data into our clients' bank reconciliation application with the capability to generate on-demand reporting and summaries for clients.And one last example this past quarter relates to a Canadian food company for whom we deployed an RPA solution to support their supply chain operations to take on repetitive manual tasks around scheduling appointment dates for the client's multiple warehouses. Our bot receives emails from individual warehouses and inputs or revises appointments into the clients' scheduling platform. The bot then sends confirmations to notify specific warehouse teams to confirm the employment details. The details our bot handles are fairly comprehensive, including not only the date and timing of appointment, but all the details of the shipment in question, including trailer, estimated loading and unloading time, dock location and carrier comments previously submitted to the bot via the order email.These RPA examples have saved our clients' money and improved productivity in a meaningful way. And with the continued evolution and integration of GenAI, our bots will get smarter and add even more value for our clients.In addition to continuing to evolve our service capabilities, we've also recently enhanced our executive leadership team with the appointment of Jose-Luis Garcia as Chief Operating Officer. Jose Luis brings 30 years of experience leading service delivery operations in the telecommunications, digital IT and tech sectors and a track record of excellence and focused expertise overseeing end-to-end digital transformation for complex global enterprises. As our new COO, Jose Luis will play a key role to further advance and evolve TELUS International's global operational delivery model.And finally, before I hand the call over to Vanessa, I'd like to reference a few of the awards we received in the second quarter, recognizing the significant efforts of our global team. For the third consecutive year, our proprietary intelligent bot platform was named the Best informational Bot Solution at the AI Breakthrough Awards. This year's win placed us amongst the most notable and well-recognized AI companies, including OpenAI, Microsoft, Palo Alto Networks, Verint and an impressive list of top startups from across the industry and around the world.We were also named the Elite 8 winner of the 2023 Achievers 50 Most Engaged Workplaces Award in the category of purpose and leadership. And our team at WillowTree won another Webby award this year, this time in the category of best public service and activism for an app we created in partnership with Meals on Wheels of Charlottesville. These awards truly showcase our team's ability to bring our culture to life through our inspirational workplaces that encourage our people to think differently, innovate, and evolve.Day in and day out, our teams demonstrate their unwavering commitment to supporting the well-being of the citizens and the communities where we operate.With that, I'll now invite our CFO, Vanessa Kanu, to share details of our financial results, and I'll return to answer your questions as usual. Vanessa, over to you.

[Vanessa Kanu, executive]

Thank you, Jeff, and good morning, everyone. Thank you all for joining us today. As usual, in my review of the financial results, I will refer to some items that are non-GAAP measures. For descriptions and a reconciliation of our GAAP to non-GAAP measures, please see our earnings release and regulatory filings from earlier this morning.In the second quarter, we delivered revenues of $667 million, up 7% year-over-year on both a reported and a constant currency basis. Contribution from WillowTree in the second quarter was $45 million. Excluding WillowTree, our revenues were $622 million, a decrease of $2 million or less than 1%. As we indicated during our early release call and as Jeff expanded upon earlier, our revenues in Q2 were impacted by reduced spending by certain clients, particularly those within the technology sector as well as ongoing cautionary customer behavior impacting the speed to conversion of new funnel opportunities.Looking at our revenue by vertical. In the tech and games vertical, revenues grew 3% year-over-year. However, this has not been the typical growth rate, and it reflects the impact of service volume reductions with our second largest client related to reduced demand for our European-based content moderation services, in particular. Notably, excluding the impact of the volume reductions from the second largest client, revenues in the tech and games vertical increased 15% year-over-year in Q2, reflecting growth in AI-related revenues from Google as well as growth in other notable clients during the period, including growth in revenues from a well-known guest hosting platform, growth in a ridesharing platform, growth in another highly recognized social media platform and growth in a popular gaming platform amongst others.Revenues from the e-commerce and FinTech vertical declined 14% year-over-year due to volume reductions, particularly from FinTech clients. On a combined basis, revenues from tech and games and e-commerce and FinTech, which we collectively refer to as technology clients were flat year-over-year. And again, when excluding the impact of the aforementioned volume decline from that one particular second largest client, revenues from this combined group that is second games and e-commerce and FinTech together were up 7% year-over-year in Q2. Indeed, while the technology sector as a whole has been and continues to be under pressure, we are encouraged by the fact that we have seen reasonable growth here once normalized for a client-specific impact.Banking, Financial Services & Insurance or BFSI, declined 26% year-over-year due to lower service volumes with one of our global financial institution clients, which was partially offset by growth in others. Communications and Media continued to deliver solid growth of 10% year-over-year, driven by the ongoing strong digital transformation revenues from TELUS Corporation, along with another leading U.S. telco.Revenues in our health care vertical increased by more than 200%, which was also primarily due to additional services provided to the Healthcare business unit of TELUS Corporation, which includes integration services related to TELUS' acquisition of LifeWorks now integrated with and rebranded TELUS Health. Revenues from all other verticals, which includes travel and hospitality, energy and utilities, retail and consumer packaged goods, amongst others, grew 30% year-over-year.Turning to our revenue performance by geography. Europe was particularly challenged given it is our primary delivery region for content moderation services for our second largest client as well as other services for some of our FinTech clients. The reduction in service volumes within those clients resulted in our revenues declining 6% year-over-year in Europe. Meanwhile, revenues in North America grew by 20% year-over-year, driven by contributions from WillowTree, which were partially offset by lower volumes from BFSI. Central America and other revenues grew 22% year-over-year and Asia Pacific revenues increased by 4% year-over-year.Moving on to operating expenses. Salaries and benefits expense in the second quarter were $427 million, an increase of 20% year-over-year. This was due to a higher team member count compared to the same period in the prior year, investments in our team members through increased salaries and wages and temporarily disproportionate higher cost of service delivery in certain regions, principally in Europe, due in part to the longer lead time to implement ramp-down in other cost realization activities -- rationalization activities. Salaries and benefits as a percentage of revenue increased to 64% in the current 3-month period compared to 57% in the prior year's comparative period.Our goods and services purchased were $120 million, an increase of 2% year-over-year, which was primarily due to additional goods and services purchased arising from the acquisition of WillowTree, partially offset by lower dependency on external contractors in favor of continued development and investments in internal capabilities. Largely as a result of our cost reduction efforts, acquisition, integration and other charges in the second quarter were $21 million, an increase of $15 million, primarily reflecting costs related to team member downsizing from the aforementioned volume ramp downs and the rightsizing of our excess capacity.Depreciation and amortization expense was $81 million, an increase of $17 million primarily due to capital and intangible assets acquired as part of WillowTree as well as increased investments in capital and intangible assets over the previous 12 months. Interest expense in the second quarter was $36 million, an increase of $26 million, which was due to higher debt levels associated with the WillowTree acquisition, higher average interest rates and interest accretion recognized on the provision for written put options associated with the WillowTree acquisition.We recorded an income tax recovery of $10 million in the second quarter, primarily due to an increase in adjustments recognized in the current period for income tax of prior periods and due to a loss before tax. This compares with an income tax expense of $21 million in the same quarter last year.Moving on to profitability measures. Adjusted EBITDA was $120 million in the second quarter, a year-over-year decrease of 20% and adjusted EBITDA margin was 18.0% compared with 24.0% in the same quarter of the prior year. Adjusted net income was $46 million, a year-over-year decrease of 43% and adjusted diluted earnings per share was $0.17, 43% lower year-over-year. Profitability in the quarter was impacted by the aforementioned temporary cost imbalances arising from reductions in service demand, principally in Europe from some of our larger clients. This can have a more pronounced effect when programs from long-tenured clients that are already optimized from a margin yield perspective suffer a top line reduction, creating a disproportionate near-term impact on our profitability.We also experienced higher service delivery costs in our AI business due to greater task complexity. All of these impacts combined were only partially offset by our cost efficiency efforts that were realized during the quarter. As mentioned during our pre-release call, most of these team member rationalizations have now already been completed, the benefits of which will be seen more acutely in Q3 and Q4 as indicated by our outlook.In terms of our global team, our team member count was 76,594 as of June 30, 2023. And that count does not yet fully reflect the full impact of the cost efficiency efforts we have actioned.Turning now to the balance sheet and cash flow. The balance sheet remains strong with cash of $143 million and available capacity under our credit facility of $325 million. We generated free cash flow of $66 million in the second quarter, which was consistent with what we saw in Q2 a year ago, a notable result given the aforementioned reduction in EBITDA. Our capital expenditures in the quarter were $25 million or 3.75% as a percentage of revenue, a slightly lower-than-usual level and largely due to project timing. Leverage ratio as of June 30 was 3.0x, which remains within our communicated steady-state range.Now turning to our outlook. There are no changes to what we shared on July 13, which is that we expect revenues in the range of $2.7 billion to $2.73 billion, including $205 million to $215 million from WillowTree, representing year-over-year revenue growth of 9% to 11% on a reported basis and growth of 1% to 2%, excluding WillowTree. This assumes an average exchange rate of EUR 1 to USD 1.09 for 2023.In terms of profitability, we expect adjusted EBITDA in the range of $575 million to $600 million, which implies an improvement in our EBITDA margin in the second half. To achieve this, we have undertaken meaningful cost efficiency efforts, including downsizing our team by nearly 2,000 people to date with the largest impact being within Europe. As a result of these team member reductions, along with other initiatives, we will generate over $40 million of in-year cost savings, which we will realize principally in the second half.In addition, we've reduced discretionary costs, optimize our own third-party vendor relationships as well as implemented hiring freezes for non-critical, non-billable team members to resolve overcapacity in certain locations. We expect adjusted diluted earnings per share in the range of $0.90 to $0.97 for the full year 2023. This incorporates our expectation for the effective tax rate in the second half of the year to be approximately 22% to 25%, a more normalized level based on our current view of pretax earnings and the corresponding geographic income mix.From a seasonality perspective, given our finalized Q2 results, we expect second half revenues to be split roughly 48% and 52% between Q3 and Q4, and we expect a roughly 46% and 54% split across Q3 and Q4 for adjusted EBITDA and adjusted diluted earnings per share. We believe this outlook is prudent given the uncertainty that remains in the market and the extended delays we continue to witness in our sales funnel conversion.With that, let's move on to questions. And can we ask that you please keep it to one question at a time so that others can participate? Jonathan, over to you.

[Operator]

And our first question comes from the line of Tien-Tsin Huang from JPMorgan.

[Tien-Tsin Huang, analyst]

Maybe, Jeff, I'm curious thinking about the cycle and you've been at this a long time, and we've been observing and still learning from the past. But given where we are now and we've been dealing with some uncertainty for a bit, what do you think happens next? I mean I'm always worried about risk of cancellations forming. I know you're not seeing it now or certainly could inflect higher and projects start to move forward again, and we live with the new normal as well. Where do you think we are in the cycle with respect to visibility if you can draw upon that? I appreciate your thoughts.

[Jeffrey Puritt, executive]

Hello, Tien-Tsin, nice to hear your voice. Boy, I wish I had a crystal ball, and I'd spend more time at the tables in Vegas, I think, if I was able to predict with better certainty here. I think, unfortunately, we're still in the middle of this mess. I've been asked a lot lately as you can imagine, if I'm ready to call the bottom and if I see light at the end of the tunnel. And I don't think we're there yet, unfortunately, which is why, in part, as Vanessa just articulated, our outlook for the balance of the year takes a decidedly conservative approach to what we think is likely to occur.I certainly continue to be optimistic and hopeful. And as I mentioned earlier, our sales funnel continues to be very, very robust. The conversations I'm personally having with existing and prospective customers continue to indicate a desire to procure from us the very capabilities that we've perfected over the last many years, including, in particular, more recently our exciting new GenAI-enabled capabilities.But you're right, there is still always a risk of continued cancellation, continued delay in decision-making. There are just too many question marks out there. Are we at the end of interest rate hikes? And as a result of all of the other macro uncertainties, is the Fed going to finally stop? And is there going to be an opportunity for folks to start, I don't know, returning to normal for lack of a better description? Are we going to see finally an end to the war in the Ukraine? There's just so many things, I think, still impacting the macroeconomic environment.It's a longer-term issue that we're all going to grapple with. And my hope is, and candidly, my expectation in part, hence our continued investment at scale, things are going to get better in the long term. I just don't see how businesses can expect to survive, thrive and compete effectively with their own peer group if they don't take the requisite decisions to modernize their environments and meet customers when and how customers now expect to be met.These are irresistible forces in terms of the ease of interaction that AI will now enable. And there are few businesses out there that have deployed an AI-enabled ecosystem to facilitate self-serve and automation at scale to ensure that human-assisted interactions occur with a pace of accuracy and insight and timeliness and, frankly, materially improved economics. Like there is a gold rush here. So it's not an if, it's a when, and I sure hope it's sooner than later.

[Tien-Tsin Huang, analyst]

Me too, Jeff. Thank you so much.

[Operator]

And our next question comes from the line of Ramsey El-Assal from Barclays.

[Ramsey El-Assal, analyst]

Could you comment a bit further on the weakness you're seeing in Europe? And maybe just provide a little more color on the drivers of that weakness and whether it differs at all from the drivers of maybe softer demand in other key regions like North America?

[Jeffrey Puritt, executive]

For us, Ramsey, I think it's principally two-fold. One is disproportionately coming from one of our clients. And so I think that's a bit of an anomaly for us that magnifies the impact on our results. The second, though, I think, is a continued sensitivity from business demand more broadly, given continued wage inflation in the region that continues really quite surprisingly strong. And as a consequence, I think it's softening the demand environment in totality where by way of example businesses historically that were only willing to be served in German language from Germany, now as a consequence of how expensive that has become are, for the first time, willing to be served in German language, derived from other markets, whether Eastern Europe, North Africa or otherwise.I think that, too, will likely continue a pace. And so that's really what has underpinned our need to right-size our delivery capabilities in Europe, in particular.

[Operator]

And our next question comes from the line of Aravinda Galappatthige from Canaccord.

[Aravinda Galappatthige, analyst]

Jeff, you had alluded to sort of increased pricing pressure, particularly coming from the customers. Do you have any intel at this point around movements in market share, any potential losses because of that? I was wondering if there's anything you can share on that front.

[Jeffrey Puritt, executive]

Hello, Aravinda, I don't have sufficient visibility to comment meaningfully on market share impacts. I can certainly share that pricing sensitivity has indeed amplified over the last 6 months, 9 months in particular. There is no question that these are levels of price sensitivity that we certainly haven't experienced in the past, and it has pressurized our value proposition in the sense that, as you I hope recall, we've never approached the market as your mess for less or cheap and cheerful, believing that there was always a sufficiently robust segment of the market looking for premium services and willing to pay the premium price associated with ensuring that service quality was engendered.And unfortunately, in today's environment, we're seeing a movement towards a compromise, if you will, in those expectations and really an emphasis on price over quality in conversations with clients that historically just simply didn't think of their business needs in that fashion. And it's really forced us more than ever to demonstrate how the incremental costs associated with working with us is warranted.And it's almost a bit of a Sophie's choice for us sometimes. I don't want to miss out on new business opportunities, whether it's net new or growth to existing. But I'm also not willing to discount our prices so much so that the margin yield implications are catastrophic. So continuing to balance those competing considerations is really the challenge prospectively.

[Operator]

And our next question comes from the line of Kathy Chan from Bank of America.

[Jinli Chan, analyst]

Just wanted to follow up and ask about the lower European volumes. I think you mentioned that some content moderation from the second largest client. And are those existing projects being canceled or descoped and does the longer-term outlook for broadly trust and safety of the segment overall change in the longer term?

[Jeffrey Puritt, executive]

So I don't think it's reflective of a macro deterioration of the demand ecosystem around trust and safety or content moderation. I think there is absolute opportunity for that segment for TI to continue to grow, not just in Europe but globally. I think it's fair to say that as AI models continue to increase in sophistication and capability that more traditional moderation activity will at first instance be undertaken on that automated basis, but the ongoing proliferation of content on the web more broadly continues unabated.And so I think the residual content that cannot be effectively identified through AI will continue to generate meaningful opportunities for businesses like ours that have the experience and sophistication and capability to address it reliably and effectively. But indeed, in the near term, as a result of this one particular client in this one market, it has proven challenging for us. And as I said, I'm hopeful that we'll see a return to growth there as well.

[Jinli Chan, analyst]

And just a separate question around AI. It was helpful to hear the example that you guys partner with your clients on to develop AI strategies. I guess is there any way to size maybe how many of your clients you're working with on some type of AI product, do these generative AI projects get priced differently? And are these generally higher margin type of work as well?

[Jeffrey Puritt, executive]

So it's still early days for us admittedly, although it is dozens and dozens of our clients with whom we are already currently engaged in either actually doing work or consulting in connection with how we're going to leverage generative AI in order to assist they in achieving better outcomes for their businesses and their customers. And in connection with those multiple conversations, similarly, the business model is equally under evolution, if you will.So in some cases, it's transaction-based, conversation-based interaction-based, outcome-based with fixed fees for the consulting professional services upfront. Similarly, time and materials in connection with some of the data engineering, data analytics activity in order to structure the clients' data at first instance to make it accessible and meaningful in terms of deriving actionable insights. So I think it's the tip of the iceberg right now, and we're actually quite excited about where this is going to take our industry more broadly.For decades now, there's been talk about outcome-based pricing, gain share, risk/reward pricing and customers, although often historically having expressed an appetite for that, seemed invariably to get cold feet and return to a more predictable time- and materials-based engagement historically. And I think at long last, GenAI is going to force a change across the industry more broadly, and we're looking forward to what that means in terms of opportunity.

[Operator]

And our next question comes from the line of Daniel Chan from TD Cowen.

[Daniel Chan, analyst]

Jeff, I just want to double-click on this large content moderation customer again. Given that this customer's user engagement metrics are strong, ad revenue from them seems to be stabilized and its new platform is showing early signs of strength. Can you help us reconcile a decline in content moderation volume from them against their recent performance?

[Jeffrey Puritt, executive]

Dan, I think it ultimately comes down to their, I think, self-described year of efficiency. I think they have been looking to rationalize their spend in as many areas of opportunity as possible. And unfortunately, I think we simply didn't do as good a job as we should have done in diversifying from where we serve them and across a broader range of services for them so as to more effectively mitigate the adverse impact that you've seen we experienced as a consequence of being a bit too single threaded, if you will.I think prospectively, to your point exactly, with their return to growth, increased ad spend, et cetera, that there is indeed an exciting opportunity for we to enable them more broadly. And I'm cautiously optimistic that they will entrust more of those opportunities to us prospectively, but there's work to be done there still.

[Operator]

And our next question comes from the line of Maggie Nolan from William Blair.

[Margaret Nolan, analyst]

I wanted to explore how clients are thinking about balancing the cost of using generative AI tools and then how that may be impacting demand near term and long term.

[Jeffrey Puritt, executive]

As I said, it's still relatively early days. I mean everyone now wants to talk about GenAI. But frankly, I don't know that I could offer sort of an empirical trend line around how businesses are thinking about it other than everyone wants to know what we think they can be doing in order to exploit the capabilities of GenAI in order to drive cost out of their business and their cost to serve their clients, whilst at the same time, embracing the opportunities to deliver a more tailored custom-specific user experience to their customer constituents.And it really is exciting in that it's bifurcated. This is a technology, not just in terms of the accelerated adoption trend line, but it will help concurrently both sides of your balance sheet. I think when deployed effectively, you can absolutely take meaningful cost out of your business. And at the same time, you can expect a better user experience from your consumers, and so contributing to increasing share of wallet, accelerating customer adoption.I think historically, there was this sort of inverse correlation where you had to spend more to make more. And I think this is going to be quite the invert. You're going to be able to spend less and make more when deployed effectively. And we're excited about how we can be a part of that trend.

[Operator]

And our next question comes from the line of Keith Bachman from BMO.

[Keith Bachman, analyst]

Jeff and Vanessa, you've talked a good bit appropriately so about the decline in one of the large customers. But if we look at the revenue growth rates attributable to the balance of the customers, that is to say, if we eliminate Facebook, Google, TELUS even normalized for WillowTree, it's about 50% of your revenues. And that revenue growth rate has declined from, call it, mid-teens in the September quarter to negative 7% this quarter.So there's been a pretty pronounced deceleration in revenues outside of your largest customers. And I was just wondering if you could, a, speak to that; and, b, is that mostly the DXC outsourcing business? Because, again, it's not just your largest customer is the decline, it's pretty pronounced across the base, what we would characterize as the base. And then I want to try to sneak in a follow-up.

[Vanessa Kanu, executive]

Keith, it's Vanessa. I think we should connect on the math because I don't think it's quite as pronounced as what you're seeing. But indeed, within certain segments of our business, we have seen some pressure amongst the smaller clients. But if you kind of come back to the earlier comments around the second largest clients and the impact that that've had, as I mentioned in my prepared remarks, when you normalize for that impact, we actually saw growth across tech and games as well as e-commerce with FinTech combined. And so one of the things…

[Keith Bachman, analyst]

No. Vanessa, sorry. Yes, I mean, I understand…

[Vanessa Kanu, executive]

Did I misunderstand your question, Keith?

[Keith Bachman, analyst]

No, it's just -- I'm trying to stay away from Facebook, and I understand the impact of that business, but I'm trying to -- is the breadth of the clients outside of your largest? Is that mostly the DXC Outsourcing because it has declined pretty materially. Even if the numbers are off by a little bit, it's declined pretty materially.

[Vanessa Kanu, executive]

So I don't know what you're referring to as the DXC Outsourcing. You're looking on that one, Keith. It could be, I don't know, a nomenclature.

[Keith Bachman, analyst]

Yes, okay. It's the call center related businesses that you have supporting. Jeff referred to it as DXC Outsourcing.

[Jeffrey Puritt, executive]

So maybe we could take this one offline, Keith, because I don't recognize that nomenclature. Digital CX maybe, DCX, not DXC. But there too -- I'm not sure that I've referenced that by segment in terms of the relative growth rates. But more broadly, that business is not declining. Although I -- unfortunately, I'm compelled to confess that indeed, our success on sales and growth more broadly has not met my expectations, and we're going to do better prospectively for sure. But I don't think we're seeing negative growth there.

[Vanessa Kanu, executive]

Yes. Keith, let's take that offline. I just wonder if some of the color that we provide around concentration, et cetera, and doing the reverse engineered math might be resulting in some anomalous metrics there. But no, I don't think we're seeing the magnitude of pressure that you're implying.The reality is, I mean, on a broader basis, no, we're not pleased with the overall revenue growth. And you're absolutely right, whether it's any given specific segments, our revenue growth has decelerated from 2022 versus 2023. We're absolutely seeing that. But I -- again, let's take it offline in terms of what particular segment you're crunching in terms of the numbers there because I don't think it's quite as pronounced as what you're seeing.

[Keith Bachman, analyst]

Okay. Well, we're pulling it from the 10-Ks, too. So we're getting it from there. But let me go to my other questions since there seems to be some misunderstanding on this one.Jeff, there's Gartner Group and others have suggested that there will be, over the next couple of years, probably not near term, a pretty pronounced seat reduction due to generative AI. And in some of the areas that you serve -- and so I'm just wondering if generative AI brings significant increase in efficiencies in serving the needs. How do you balance potential seat reduction with your ability to grow in the area? Or do you perhaps refute the idea that there'll be seat reductions associated with some of the areas that you serve?

[Jeffrey Puritt, executive]

I completely accept and I am embracing the expectation of seat reduction. So on a like-for-like basis, if nothing else changed, I would anticipate over the next couple of years that between 20% and 40% of traditional T&M support for existing work will be displaced by generative AI-enabled solutions. For TI, however, given our capabilities, I believe that we will more than make up for that reduction because, a, our clients hopefully are going to rely upon we to enable that very cost efficiency transformation, and then as a consequence of our success in doing so, they themselves, the existing customers, will look to us for other areas of related support that is AI-enabled. And equally excitingly, other new customers will see the success that we've enabled for our incumbent base, and they will bring their needs for efficiency gains, leveraging our GenAI-enabled solutions to bear as well.And in totality, we see a continued evolution in our service mix and the opportunities to both grow top line and margin expansion that will be plentiful.

[Operator]

And our next question comes from the line of Ryan Potter from Citi.

[Ryan Potter, analyst]

I wanted to follow up on WillowTree. Could you give some color on how the integration of the business is going, if there's any changes to your prior cross-sell synergy goals? It looks like performance in the quarter maybe decelerated quite a bit on a sequential basis and the outlook implies a relatively steep reacceleration in the back half of the year. So I guess what's giving you confidence in that reacceleration of the business as well?

[Jeffrey Puritt, executive]

Ryan, it's a good question. The integration itself is going very, very well indeed. And we've been very pleased with the progress around backoffice integration systems, financial reporting, IT, security, HR, et cetera. But there is no question that all of us, Tobias and the team at WillowTree and ourselves at TI, disappointed and frustrated that the revenue growth and the margin yield in the second quarter has not met expectations. And it is really, as I said in my earlier remarks, a byproduct of sort of that same macro uncertainty that is really unfortunately the underpinning of delayed decision-making.The WillowTree portion of our funnel continues to be very robust as well. They've not been the recipient of cancellation orders but rather ongoing delays. And sort of Tobias and his team share with me weekly the updates and they're crestfallen because the conversations they have with their customer counterparts are, "We just got word from our bosses, we've got to tap the brakes on this project." Hopefully, it's not going to be longer than another 30 days, 60 days, 90 days, 180 days. It's not no, it's just not now.And as a consequence, just given the structure of WillowTree's business where it's extensively labor, and we've got, not inexpensive, hugely talented human beings raring to go, but when we don't have the work for them to do, we're carrying 100% of those costs with no associated revenue, it has an amplified impact on profitability in the near term. So there, too, we're trying to be as efficient as possible, but we're not giving up because, as I said, the demand still is here. We just can't get them to hit the go button just yet.But our optimism and why you see the reflection in the back half of the year is because all these deals are still sort of in the funnel and hopefully ready to go.

[Operator]

And our next question comes from the line of Divya Goyal from Scotiabank.

[Divya Goyal, analyst]

So considering some of the pricing pressure discussion we've had here and Vanessa made a comment discussing how the higher service delivery cost, you're seeing higher service delivery costs due to the AI implementation project, what is an optimal adjusted EBITDA margin that we could sort of consider? I know on the July 13 call, Vanessa did kind of mention a 33% -- 23%, my apologies, exit rate by end of fiscal '23. Is that still achievable? Or are we going to get there? And if not yet, then when?

[Jeffrey Puritt, executive]

We're going to get there. I could tell you that this has not been an enjoyable phase in my career, Divya. I am just crestfallen for having had to adjust guidance. And we spent a great deal of time and effort before we published our revised guidance. And god-willing this will be the last time I ever do it in my career.Our visibility to the balance of the year is such that we are confident in having proposed what we did. And so this business will deliver at that level of 23% exiting Q4. And obviously, it's early to be talking about 2024, but we'll be coming back hopefully not too long from now to talk about that as well. And again, the heritage of this organization is to produce profitable revenue growth. And our intention is to be in that same ZIP code or better in perpetuity. So we'll talk some more for 2024 later in the year. But indeed, for now, we are confident of what we've suggested for the balance of 2023.

[Operator]

Thank you. One moment for our next question. And our next question comes from the line of Stephanie Price from CIBC.

[Stephanie Price, analyst]

You noted some new work, one with Google and some other new wins in the quarter. Just curious whether these ones were factored in the preannounced guidance. And maybe related, just if you could talk a little bit about the visibility you have into plans with your current customers at this point.

[Jeffrey Puritt, executive]

Hello, Stephanie, I'm sorry. Just about 1/3 of the way into your question, I lost you. I didn't just hear you as clearly as I should have. Can I impose upon you to repeat that?

[Stephanie Price, analyst]

Yes. No problem, sorry. So I was asking about the new work one. You mentioned Google and some other new wins in the quarter. Just curious if these were factored into the preannounced guidance. And maybe related, if you could talk a little bit about the visibility you have into the plans from current customers at this point?

[Jeffrey Puritt, executive]

So yes, it was. And what we did in preparing guidance for balance of year was to triangulate across conversations that our sales team are having with our existing and prospective customers, equally, if not more importantly, conversations our operations team are having with existing customers in order to take, as I said, a conservative balanced approach to remove as much of the surprise factor such that for balance of year, if there's going to be a surprise, it will be hopefully a surprise to the upside only.Obviously, I can't guarantee that there won't be any unfortunate surprises potentially additional cancellations. But right now, what's reflected in there is based on conversations from customers in hand. And so we're feeling like we have a high degree of visibility and confidence in what's reflected in that revised guide for balance of year.

[Operator]

This does conclude the question-and-answer session of today's program. I'd like to hand the program back to Jeff Puritt for any further remarks.

[Jeffrey Puritt, executive]

Thanks, Jonathan, and thank you all for your questions today, as always. It's certainly not lost on us that the trust we've so diligently worked to earn with TI stakeholders, particularly in the 2.5 years since our IPO has been shaken this past quarter. We also recognize that rebuilding that trust will require meaningful actions, not simply words to once again deliver the consistent peer-leading results that have been a hallmark of our company's performance over the past 18 years. And our team is united in our commitment to achieving this goal.Through these challenging times, I sincerely thank all of our global team members for their perseverance and resilience, their commitment to our clients and for their unwavering support of their fellow team members. Thank you all for your time and engagement today. I look forward to seeing many of you at our upcoming investor conferences and to connecting again at our next quarterly update in November, at which time I expect to be delivering meaningfully better news. Enjoy the remainder of the summer, all, and take care.

[Operator]

Thank you, ladies and gentlemen, for your participation in today's conference. This does conclude the program. You may now disconnect. Good day.