GFT Technologies SE

XETRA:GFT

Earnings Call Transcript 2018-Q3

[Operator]

Ladies and gentlemen, thank you for standing by. I'm Morris, your Chorus Call operator. Welcome, and thank you for joining today's conference call about the Third Quarter Results 2018 of GFT Technologies SE. [Operator Instructions] I would now like to turn the conference over to Dr. Jochen Ruetz, CFO of GFT. Please go ahead, sir.

[Jochen Ruetz]

Thank you very much, and good morning, ladies and gentlemen. Welcome to our Q3 call of 2018. And let's directly jump into the presentation, which is hopefully available on our website, so you can download it there. Looking at Slide #2, key figures. Revenues after 9 months are down by 2% to EUR 309 million. This includes our newly acquired company in Canada called V-NEO worth EUR 3 million of revenues for the first 2 months of consolidation. So we take them out, the organic decrease was 3%. And if we adapt for FX effect, it would have been minus 1%.Looking at EBITDA and the EBITDA adjusted, both are down 4%. And in the last year, we had some extraordinary effects, which we show in the third bullet point, which have been impacting 2017. But truth is comparing to '17 has been a pretty rough ride, '17, especially for the quarters. Therefore, let's always look at the total numbers. And I think 2018 better reflects our performance relative to our revenue development. But we will come back to that later. EBT is up 6% to nearly EUR 17 million. The margins stands at 5.5%.On the employee side, we are now 4,860 people, so we're up roughly 170, which is the V-NEO company. You see that in the second bullet point on the very right. V-NEO adds 171 people, mainly in Canada, a bit in France and Belgium. So without V-NEO, the GFT team size was more or less stable.Let's move forward to Slide #3, kind of the same numbers but given in a table. Revenue at EUR 309 million; if we take out V-NEO, $306 million. Adjusted EBITDA, 18 -- EUR 28.8 million, 4% down. And if we go down the EBIT, the EBT, as I already highlighted, net income is significantly higher than 2017. We still have a very low tax rate, and this will continue, but I'll come back to that on a later slide.So let's move forward. Slide #4 is always a service for you. So you have all numbers on one table, for all quarters. I hope this helps. But it's not easy to analyze this one. Therefore, I'd rather go to Slide #5, where we look at the third quarter exclusively. Third quarter stood at EUR 98 million in revenues, which is down roughly EUR 1 million compared to 2017. In 2018, we knew and it's a fact that the third quarter is the lowest quarter in billable days, but it's not a significant gap, but it's the lowest. Even Q4 has somewhat more, and we have holiday season in sight. Therefore, Q3 will be the lowest revenue of the year 2018.When we look at the earnings, well, the margin of the first half year EBITDA adjusted [ wise ] stood at 9.7% with the reduced revenue, which was mainly, again, coming from our Top-2 clients. And we were not able to compensate as much as we had hoped with other clients. So the margin for that third quarter stands at 8.5%. We had to accept the reduced revenues, but we did not cut back on our investments in training, presales and reference building around the new technologies, which we name in the bullet point on the right, cloud, AI, data and blockchain.So let's move forward. Slide #6 shows the revenue breakdown by the 2 business segments. So Americas & UK first, here we are down 9.6% to EUR 137 million. You do see the distribution for organic and FX. So there is an FX effect inside and, of course, we would see on the slide coming later, mainly impacted by our Top-2 clients. Inside, just as an information, the business segment Americas & UK investment banking stands for roughly 80% of the business, and 20% comes from retail banking in that business segment. So the 20% retail banking are mainly allocated to Brazil, Mexico and Canada. Looking at Continental Europe, here we are up 4.5% compared to the previous year, so we do see growth in that business segment.Now let's jump one level deeper and look at the Slide #7, Americas & UK divided into Top-2 clients and other clients. Top-2 clients, as everybody who follows our calls closely knows, is Deutsche Bank and Barclays. And Barclays used to be our second biggest client. It is not, but the gap is still very relevant, therefore, we call the 2 the Top-2 clients. And here we are down 24% for Americas & UK, which was in line with what we had to expect for 2018. The other clients are up 10%. Looking at Continental Europe, the Top-2 clients, which is mainly Deutsche Bank -- there is not much revenue from Barclays, nearly none -- is up 7%. So this was something we were not anticipating when we did our initial guidance for the year. We said we believe the Top-2 clients to be down 16% to 27% in total. When you look at the bottom, it's now 12% only at the moment. We did not foresee an increase in the retail banking area, which is mainly coming from Germany and a bit from Spain. But as you also see, it is hurting the growth in our other clients because we are not really believing long term in that growth in Deutsche retail, because of the way they are currently handling budgets, they are very strict, very tight. Therefore, we would not build the team now significantly bigger just because Deutsche Bank has this demand. We need to serve our biggest customer because that's what they are expecting from us, but we're cautious in extending. Therefore, we leave some business left and right with other clients undone and focus on Deutsche, especially with our high-skilled resources within Spain and Germany, we use them for Deutsche at the moment. So it is a blurred picture that the Top-2 clients in Continental Europe are growing by 7% and the other clients, not so much. Well, that is what we're currently accepting.So total GFT Group, 12% down in the Top-2 clients, 6% up in all other clients. Now let me give you a bit more flavor in the other clients because this, of course, now includes our newly acquired V-NEO. if you take out V-NEO, it would only be 4% at the moment, but important to know if -- because when we did our goal setting and our guidance roughly a year ago, we did that on the same FX basis back then. So if you would adapt for FX effects, the real growth in the other clients organic GFT, not including V-NEO, is 8%. So 8% is what we currently see. As I said, there's a small effect coming from Top-2 clients, Deutsche Bank growing in retail, which we had not been expecting. We could have routed that to other clients, but it would not have been beneficial for the client relationship, therefore, we didn't. So we have to accept those 8% for the time being. We had the goal to grow it by 15% for the year. So we are behind. Even if we put some of the Top-2 clients' retail banking business and say, hey, this could have been other clients, we're not exactly in line with where we want to be. And this is why, currently, we are more on the lower end of our revenue guidance.So let's move forward. Slide #8, EBITDA adjusted and EBT. Americas & UK performing improved. We've done our homework last year. It is working now quite well. Of course, we would like the other clients to grow even faster, which is our ambition. But we are back to normal EBITDA levels -- or more -- closer to normal EBITDA levels at EUR 9 million, of course, significantly higher than last year. But looking at Continental Europe, here we do see a reduction on the EBITDA side, and there are main -- there are 2 main drivers. One is reduced business coming from the Top-2 for internal business, inside GFT. So we have less nearshore. You don't see that on the revenue side because nearshore business delivered out of Spain and Poland, which are both part of Continental Europe. It's not impacting our revenue side. The revenue is shown under Americas & UK But there is a profit coming from that internal business. And that profit has reduced, first of all. And of course, the reduction in revenue always leads to a slightly smaller utilization. And we talk 1% to 1.5%, but that's EUR 2 million. So we missed EUR 2 million from less revenues, less internal revenues going to those nearshore delivery centers. And we missed EUR 2 million in still not optimal utilization in those 2 countries.And last but not least, the third gap that we see is our consulting business in Switzerland. This was performing very well in 2017. We had decent utilization, especially in Avaloq project. This year, that pipeline and that business is quite dry. Our Swiss, quite small entity at EUR 12 million of revenue, is EUR 2 million in EBITDA behind previous year. It is nearly 0 at the moment, so we have to really fix it to get back to a more normal margin, which we will in 2019. But we will not be able to fill in the full gap because currently there is not much of that very high-margin business in the market because the vendor, especially Avaloq, is not placing many new licenses, so there are not many new integration projects. So EUR 2 million from less utilization, EUR 2 million from less internal nearshore business and EUR 2 million coming from the Swiss local business. That's the main explanation for Continental Europe.All right, let's move forward. Slide #9, breakdown by currencies. On the right side, you see our cost base, strongly euro-based, of course. Then we have the U.K. entity, and Poland and Brazil are relevant players here. And then on the left side, you see our revenue basis. 69% is invoiced in euros, 14% in pounds and so on. Just as an information for you how our revenue streams are linked to FX.Going forward, Slide #10, revenues by countries. You see that our distribution, well, it's getting more and more stabilized, meaning we have 25% U.K. It is reducing. Of course, we don't want that. It's still our biggest market. But Spain has been closing in. The reduction is driven by our Top-2 accounts, of course. Same is true for the U.S. And that's why those 2 markets also show a negative trend. We see Spain growing somewhat; Germany growing nicely; Italy growing somewhat; and then we have Brazil with minus 11%, which is purely FX related. Brazil like-for-like in Brazilian real is flat at the moment, and therefore, there is no reduction. But in euros, there is. Switzerland, you do see the significant reduction on the revenue side, too. Where the business is vanishing, on top, we lose margin, as I explained on the slides before. Other countries, maybe in a nutshell what is in here, and the 2 biggest are Mexico, at EUR 6.5 million; and Luxembourg, at EUR 6.5 million. And then we have Canada, especially because of V-NEO in now, with EUR 3.1 million. Here we do see strong growth because of those markets. But first of all, V-NEO is new. And in the other markets, we are growing. I think Mexico, currently our strongest growing market inside GFT.Moving forward, Slide #11, 30 biggest clients. As always, the new guys on the list have a blue box around it, so they have not been on the list a year ago. Schroders and dwpbank on the capital markets side; on the retail banking side, we have DEPObank in Italy new to this list; and on industry and others, the GKV-Spitzenverband, okay, but we -- maybe you could also see as an insurance-like business, but we show it under industry and others at the moment. So we distributed a bit in a new way, this slide. We now have insurance separately because, with V-NEO coming up in the full year 2019, we will see more clients on the insurance side. So far, after 2 months, of course, the impact was not big enough yet.Let's move forward. Slide #12, P&L statement. As usual, pretty normal information. Other income is growing more steeply than usually. Here, we do have R&D subsidies in the U.K. for innovation projects inside. And we, for V-NEO, have a subsidy which every Quebecian company in Canada is receiving from the local government. It's not only us. When you read the CGI investor relations' reports, they have a very big number coming from the local government in Québec because that's, I think, where they started. So this will be reflected in other operating income. So it will continue to be higher than in previous years. Going down all the way to income taxes, currently quite low. For the full year, we foresee a tax rate of 8% to 12% now. That is what we foresee for the year. Also, last year, we had quite a low tax rate, and it will be -- continue to be quite low, benefiting our net income.Moving forward, Slide 13 and 14. We showed them already last time, it's like number-crunching slides. Sorry for that many numbers. Not much has changed on 13. We still, again, only here highlight this for FREP finding. As we said last time, it was done after the first 2 quarters. And that's true, right? So it's not changing anymore, the FREP column, what the Financial Reporting Enforcement Panel in Germany found. And the numbers for '17, well, they will be building up because, for the full year, it was a bit more. So after 9 months, it's more than after 6 months, and we will see another increase for the '17 comparison in the FREP column. Besides that, GFT standalone is as usual, and you see in the blue numbers the M&A effect. And interesting now is the V-NEO column, which we added, and you do see all the M&A effects here as well. Quite detailed and maybe, for the moment, still too detailed, right? Take into account we acquired a small company with far less processes than we have also around accounting, so maybe there's a bit of left and right shifting when we go for the final numbers of 2018. But in a nutshell, this is exactly where we are.And when we go forward one slide, we show the same numbers as a guidance for 2018. And we will come to the real guidance 3 slides later, but I can already use the EBITDA adjusted at roughly EUR 40 million, again give or take a bit, that's why don't go into the rounding numbers, please. And you see the V-NEO effect inside. You see the FREP effect for a full year here, also for '17 and '16 for your information. As I've said, FREP is done after Q2, therefore, no further effects from that. All right, if there are questions for those slides, please come back to me in the Q&A session.Slide 15, balance sheet. Expansion of noncurrent assets is fully related to the V-NEO acquisition, therefore, we now see this expansion there. On the other side, we've tightened our cash position because, of course, we needed more financing, and therefore, we are more eager to reduce cash at hand in order to reduce interest. That's what's currently happening. Besides that, normal balance sheet. And let's move forward to Slide 16. And the same is true for cash flow, normal cash flow, quite good cash flow. Operating cash flow after 9 months at plus EUR 15 million, as usually we are not that strong, but we have quite a good working capital position. And we had significant outflows for investments of roughly EUR 50 million in the third quarter linked to, a, the earnout for Sempla, so our GFT Italy, where we acquired the last remaining 20% via an earnout; and the V-NEO acquisition; to combined, they stand for a EUR 50 million payout in the third quarter. So from now on, there is no -- not much more payout for the V-NEO, we have an earn-out, which we are showing in the slides before, therefore, you can fully track that.All right, let's go forward, Slide #17, employees by country. Here, what is really new in '18 -- in Q3 '18 is Canada, now shown on this map. Usually, it was inside our other numbers. Now we show it separately because the V-NEO guys stand out at 164 people. We had 6 people in Canada. V-NEO contributes 158. The Belgium and the French V-NEO guys are shown on the others. The rest is not much changing. We do see a reduction in Spain. That is reflecting our reduction of nearshore business with especially Deutsche Bank. And we do see Poland quite stable, also being hit by the Barclays reductions which we have experienced.Moving forward, Slide #18, guidance 2018. As you've seen, we've -- and that's in the first 3 bullet points, we're not changing the guidance. We're changing a bit the wording. The revenue will now be at the lower range of the EUR 400 million to EUR 420 million. Last time, we said midrange, but after the Q3 numbers and what we foresee for Q4, we are a bit more cautious here. And V-NEO will come on top. We also maintain our EBITDA guidance and EBT guidance, but please take into account the fourth bullet point that we do, and currently, it is a mad market out there for some of the cost-saving measures some banks want to implement. We see potential short-term cost-saving measures and project postponements in the last 4 weeks. So we are talking mainly in November, especially December of '18, and it may have a negative impact on our revenues. Currently, we're taking into account an MTA. And for those who forgot what it is, it is the word -- it's a short term for mandatory time absent, which banks use to sent-home providers, service providers, freelancers and companies like GFT in the last -- well, depending, 1 or 2 weeks of December just to save budgets. It's like close the doors already in mid-December. This happens every year to some extent, therefore, we have anticipated it in our numbers to a normal extent. But 2018 is not -- doesn't seem to be normal in that way.So what does that mean, right? Because we don't put numbers here, and it is hard to put numbers here at the moment. After Q2, we foresaw the middle range on the revenue side. As I said, we now guide for the lower end and -- which means we have EUR 3 million, EUR 4 million below what we saw in Q2. This is what we already included. This is what is reflected by middle and lower. However, the situation at hand in our biggest clients and the other loaning clients is challenging. So many banks are discussing MTA, not only Deutsche. We have discussions with HSBC, with TSB, with Schroders, of course, on a far smaller scale, right? Deutsche is a big customer, and here, they also drive the cost-saving measures furthest. This all leads to one of our peers, and you all know Ukraine-based Luxoft, not giving any full year guidance anymore because of these hard-to-predict behavior of the big banks. Deutsche is one of those. For us, it's the major bank. We understand their approach because some banks, they're adapting IT spend last minute in line with their own overall performance. And this makes it very challenging to maintain a guidance. However, what is our business risk for Q4? With all due cautiousness, we currently estimate roughly, it could go EUR 2 million to EUR 3 million, right? So this would bring us another EUR 2 million to EUR 3 million down, and probably 50% of that would be earnings relevant.Maybe one last statement, but this was the cautious part. At the same time, we continue our investing in the new technologies. We have now 250 people trained in Google Cloud and Amazon Cloud. And those 2 big players in the cloud field, they tell us that they believe 2019 will be the breakthrough year in the banking market for cloud services, all right? Now I must see if, all right, I'd like to see it to believe it, but this is the -- what our partners -- our big partners are telling us. We have 200 people trained in Guidewire. We're currently, since July, starting a project in France, for example, which should peak at 100 people. So this is also a partnership where we are leveraging on, and this is something we want to take into 2019.We will continue down this route, right? We will complement our deep banking and insurance knowledge with standard platform partnerships. And our new tech projects are increasing currently for 2018 from 20% of our revenue in '17 to roughly 30% this year. So we see the mix inside our revenues changing towards the new technologies. And so that trend will continue in 2019, and therefore, we will continue investing exactly in those skills technologies. And an MTA will not hinder us here, and we will not take any short-term measures because of that.All right, that was it, my presentation. Ready to take your questions.

[Operator]

[Operator Instructions] And the first question comes from Dustin Mildner of equinet Bank.

[Dustin Mildner, Research Analyst]

The first one is regarding Deutsche Bank. And in the statements that have been made earlier, you said that the bottom will probably hit around 2018, maybe early 2019. Is that assumption still a fair assumption with regard to next year's business? And my second question would be after 9 months and with regard to your earnings guidance, it looks kind of, yes, a bit like a stretch to me if we compare this year to last year. Clearly, this year has been a bit better from the operational side. You can manage your headcount. You don't have to manage your headcount against the curve. But what will be different this year from last year that you can still achieve your financial targets?

[Jochen Ruetz]

Yes. Well, and let's start with the last one because it tackles Q4. Well, if the numbers come in, we believe we can be there, right? So we do have always the fourth quarter ending the fixed-price projects, where there's a bit of earnings which are not 100% related to revenues. Usually, Q4 is somewhat better than other quarters in that respect. But we do foresee the risk that we have named, and that, of course, is a down-turner compared to the numbers that we guided for. Yes, it is a challenge to get to the guided EBITDA for the fourth quarter at the moment. Yes, we can see it, but a lot of -- some things would have to come in as we plan. And we -- of course, on top, we do see the risk I've been naming. And where will [ be the ] bottom? Well, if only we knew. You're right, our hope a year ago was late '18, maybe early '19. Too early to call, right? We are now in the middle of that wood. We have a hard time seeing the forest because of all those trees in the fourth quarter, how will it really end? And it will be already predicting then how 2019 might go. Last year, we said, well, we will have a reduced run rate and it will happen. And we currently see it and it's been like we are not as bad, we are not on the low end of our guidance for the Top-2 clients. Question is how much of the run rate is true for 2019? It's too early to call. That will only be possible when we do the discussions with the clients in December, January. And I think our real -- as usual, yearly guidance, which happens early March, late February with our preliminary figures, that will be the real time point where we can truly say that's what we see for 2019. It's too early to call. Here we fully agree with what the Luxoft guys currently are doing, rather not state a number.

[Operator]

And the next question comes from Robin Brass, Hauck & Aufhäuser.

[Robin Brass, Equity Analyst]

I have 2 questions. First one is also regarding your revenues in Q3. If I take out V-NEO, I think you ended up with close to EUR 95 million, more or less, and this was like 4% or so less than last year. Can you maybe also give some more color on the lower revenues, especially in Q3? And the second question is also regarding the full year guidance, I guess. To reach the EBITDA, you would need to achieve around EUR 11 million in Q4. But let's say your conservative wording, previously at least, delivered against that very strong EBITDA growth of around 40% quarter-on-quarter in Q4. So why did you stick to the EBITDA guidance?

[Jochen Ruetz]

Yes, revenue in Q3, EUR 95 million, you're right, it came in lower than we had anticipated. We had seen the Top-2 clients reducing more heavily in that quarter. We had predicted it, right? We always said the second half will be weaker than the first half. But here, it was weaker indeed, and we were not able to compensate as much as we hoped with other clients, full stop. That is what happened. That's why it's only EUR 95 million excluding V-NEO. We do see, especially in the cloud field, a lot of project postponements. It takes a bit longer, and this is all other clients. So it is moving with -- that's one of the discussions we constantly have these days. It's moving to the right on a time line, and that's what's currently happening. But those projects, they're not lost. They are really moving. While in Deutsche, it is all about reducing the budgets. Full year, how can we get 11% in Q4? Again, we usually have some fixed price reserves which only show up in the last quarter. Therefore, it is possible if everything comes in as the countries predict. However, I think you got my wording on the fourth bullet point that we are cautious on MTA. And therefore, there is a risk implied by the 11% that we're currently predicting for the fourth quarter. Yes, I agree to that.

[Operator]

Next question comes from Andreas Wolf from Warburg Research.

[Andreas Wolf, Research Analyst]

Two questions also from my side. And the first one is on potentially new clients in the industrial segment/in the industrial activities. Do we see any ramp-up here? I guess the business with your main client here developing as planned. And the second is on Italy. Do you already see a changed behavior from your Italian clients? And maybe you could add some flavor with regards to your biggest client -- this is apart from Italy, of course, but with regards to your biggest clients that you see over there hit the minimum spending requirement already. So that's obviously a question with regard to the next year.

[Jochen Ruetz]

Let's start with Italy. In Italy, we don't see a change at the moment. Of course, it's getting a bit harder to discuss with clients, but we don't see an impact on our revenues right now, and we don't see a relevant impact on the budget of 2019. Maybe we'll not foresee any growth for the Italian budget for '19. That I think makes sense at the moment, but there is no real impact that we experience right now. On the industry side, now we put all industry customers that we have inside GFT Group together, and we stand at EUR 12.6 million. Of course, this not all IoT business, this is business we've done before. And here we are growing compared to '17 by 19% from EUR 10.5 million to EUR 12.6 million. So this is the number we're currently using. But we want to take it from here with IoT business, and there, we have not done major steps in 2018. We have built a team. The team is on board. We're building the environment, the landscape. We will only see the real first new business in 2019, so not much on the revenue side I can report on as a progress. I hope that covers it. Party on, Andreas.

[Operator]

The next question comes from Berenice Lacroix from Kepler Cheuvreux.

[Berenice Lacroix, Equity Research Analyst]

The first one is on Deutsche Bank and the Top-2 clients. Last year, you had several projects that were fully concerned. But others were also postponed. So do you believe that it will be possible that these clients -- these projects with these clients to come back into your pipeline in 2019 and 2020? Second question is on Germany, which is your third largest market. So do you -- how do you see the contracts, the projects with other clients than Deutsche Bank to evolve in the coming months? And do we expect some revenue growth there from these other clients? And the third question, and I'm sorry to insist again on that, but could you be a bit more specific on what makes you confident that EBITDA could accelerate in Q4 this year and fill in the gap to reach your full year targets, even though you mentioned that it was a bit stretched, but just to understand, what could potentially make you reach this guidance?

[Jochen Ruetz]

Yes. So DB, I would not call the DB reductions postponed. Currently, we would foresee them as cost-saving measures that will be ongoing. The experience of the last 2 years of constant reductions has not shown -- well, of course, some projects were postponed, but then savings happened in other areas. So on the DB side, we believe what is reduced is reduced and will not easily come back. Only when Deutsche has really turned around on their business side, right, shows different numbers and would be able to also go into the more new investment areas. Therefore, no, we don't believe postponement in Deutsche right now would -- that would be the wrong assumption. Yes, in Germany we are growing. I think we're growing at the moment with 15% in all other clients. And the Deutsche Bank account is growing as well. And when you -- when we looked at the cake chart with all the countries, I think Germany was in with 13%. So we are okay in Germany, and we do foresee a growth that will continue into 2019. We don't foresee yet any upside potential from cloud because the regulator's still not really allowing the public cloud. You can only go for private cloud that are European-based. But the players would probably want to go for the public cloud and the full effect, therefore, there is not much vision around cloud and that technology for Germany for 2019. But in all other clients, we do foresee growth. Q4, yes, well, how do I say the same again? Not that easy. We do have that potential, and we do have it in fixed price projects that are still in our books at lower margins at the moment because, usually, and this is a man-made problem, every project manager who runs a 12-months project, and all maintenance projects are 12 months, he is very cautious in the first quarter. He's less cautious after a half year because, well, he already has 6 months of actuals. After 9 months, he knows. And after 12 months, of course, it is obvious what the profit of the project is. And the risk contingencies are taken out. And there, of course, always the last quarter leaves a bit of reserve. And we believe in that, that this will happen, but it is offset by the risks I was mentioning on the revenue side. We do also may see a bit of upside on the V-NEO side when it comes to the EBITDA.I agree a fifth time on Q4, maybe. I understand that.

[Operator]

At this time, there are no further questions. So I would like to hand back.

[Jochen Ruetz]

No further questions? All right, thank you very much. I guess it's a busy day as always, Q3 numbers everywhere. Thanks for joining. Maybe some of you we will meet at the Eigenkapitalforum in a couple of weeks. Have a good rest of the Q3 season, and hope to see you or see you soon. Thanks again. Bye-bye.

[Operator]

Ladies and gentlemen, the conference has now concluded, and you may disconnect your telephone. Thank you for joining, and have a pleasant day. Goodbye.