Gartner, Inc. (IT) Earnings Call Transcript & Summary

Good morning. My name is David Cohen. I'm responsible for Investor Relations for Gartner. Our analyst from Goldman will hopefully be here shortly, but we don't want to keep everyone waiting. So with me here is Craig Safian, Gartner's Chief Financial Officer. And so maybe, Craig, just start us off for people who aren't familiar with Gartner, let us know a little bit about -- it's funny for me to ask the question, what do we do because, hopefully, I know the answer, but tell us a little bit about what Gartner does or our value proposition.

Sure. Absolutely. And thanks, everyone, for joining us this morning. Before I jump in, just quick administrative note. I may be making forward-looking statements today during the conversation. You can check our Investor Relations site for all the language around that. And George is here. You need a microphone. You need a mic. George, the mic. So as George gets mic-ed up, I'll just quickly give you the quick thumbnail on Gartner. So you probably know Gartner from our roots in technology. Essentially, our goal and role in life is to help executives accomplish their mission-critical priorities through our insights, tools, templates, et cetera. Heritage in technology, but since 2017, we've actually been covering every major functional area in the enterprise. So we sell to Heads of Finance, Heads of HR, Heads of Supply Chain, Heads of Marketing, et cetera. So that's Gartner in a quick thumbnail. But George, I'll let you take it away from here.

Thank you for the introduction, Craig. And thank you all for being here with us today. And sorry for the confusion on the rooms. I'm George. I cover business services at Goldman. Really pleased to be joined by Craig Safian here, CFO of Gartner. Craig, thank you for being here with us.

My pleasure.

Okay. Maybe we can start at a high level and discuss GTS trends. GTS, as you know, represents 70% of revenue. So a pretty sizable part of the business. It's growing 12% to 16% annually. That's your long-term growth rate. Can you discuss what the drivers are that helps sustain that level of growth to really make Gartner the growth stock that it has historically been?

Sure, of course. So we have 2 -- essentially within our Research business, 2 distinct businesses. One, which we call Global Technology Sales, which is selling to the tech side of the house, and then Global Business Sales, which sells to all the other major functional areas outside of technology. So -- and I'm sure we'll cover GBS in plenty of detail in a few moments. From a GTS side, I think the -- if you think about driving future sustained growth, one, it starts with we have great products that really help our clients and potential clients accomplish their mission-critical priorities, whatever they are. And mission-critical priority is super important because each executive or leader that we sell to may have different, we call them MCPs, mission-critical priorities. And essentially, because of our breadth of coverage and depth within each of those areas, we can essentially help them, regardless of what their challenges are. And our business model allows them to essentially, if their MCPs change, they don't have to call up Gartner and say, "Hey, I need a new service or I need a new channel or I need something like that." Essentially, we can change with them. So it's sort of on-demand help with their mission-critical priorities. And so we do that, and we will continue to do that. I think, two, is the world is getting more and more dynamic and more and more challenging. And I think our clients need our help even more and more. Third, there is an enormous untapped market opportunity for us to go after. And I've been with Gartner for 20 years now. And 20 years ago, we felt like we had an enormous untapped market opportunity. And we've grown the business quite significantly in those 20 years, and we still believe we have an enormous untapped market opportunity. And then it's execution. I think we have proven ourselves to be an execution machine, figuring out what the best practices are and then just leveraging them over and over again from a sales perspective, from a servicing perspective, from a research perspective, from a retention perspective, you name it. And so sort of the combination of super high value at a relatively low cost, where our clients really need our help, huge market opportunity on the ability to continue to execute, drive consistent, sustained double-digit top line growth in GTS.

Yes. You mentioned significant unpenetrated market opportunity. How would you estimate that penetration rate today, and where can it go over time?

Yes. So there's a number of ways to look at this or think about this. But when we do our analysis of the total addressable market, we've estimated, with GTS, that market to be around $55 billion in size. And we currently have about $3.3 billion of it. Broadly, across all of research, we believe our market opportunity is around $200 billion. And we have $4.2 billion or $4.3 billion of that. So when we look at it that way, we're like there's just a huge runway. And the runway is a combination of, we're only doing business with about 10% of the enterprises out there that we believe are large enough and complex enough and have large enough operating budgets for us to do business with them. And we think we're wildly underpenetrated even in those 14,000 clients that we have on the GTS side. So we believe that if we continue to grow and expand our sales force, that really is the key ingredient for us to continue to go after that enormous $55 billion market opportunity in tech and to go after that even larger unpenetrated market opportunity on the GBS side.

Right. On the topic of GBS, as you think about the growth there, you're also looking for 12% to 16% longer-term growth. What are the differences and drivers between GTS and GBS? And over time, should one outgrow the other?

Yes. Well, I mean, GBS is clearly outgrowing GTS now. So GBS growth in the last quarter was 23%. We've been hovering above 20% for the last few quarters there. So super strong growth. We are -- on the GTS side, we believe we're in the really early innings of our capture of the market opportunity. On the GBS side, it means like we're in batting practice right now. So we're even earlier -- forgive the baseball metaphor, but we're even earlier in the capture of that market opportunity. And I think one of the things that we feel super confident about is that, yes, I think everyone had a high degree of confidence that technology and Gartner helping technology leaders makes a ton of sense. And technology is ever changing and dynamic, and technology leaders really need our help. I think what we've proven over the last couple of years, and I believe we will prove moving forward, is that the same applies on the GBS side with finance leaders and HR leaders and supply chain leaders and marketing leaders and so on. And so we believe that both businesses can be sustained double-digit growers well into the future.

Great. Margins, a big area of focus as well for Gartner. As you think about longer-term investment requirements and the inherent operating leverage in the model, and we'll touch on normalized EBITDA margin in a bit. But structurally, where do you think margins can go over time? Is there a ceiling to EBITDA margins, especially when you compare yourself to other info services companies, where would you put longer-term EBITDA margin?

Yes. So I mean, I think the right way to think about our business today and the way we're managing it going forward is the underlying margins of the business are in the low 20s, and we can drive consistent, sustained double-digit top line growth and modestly expand each and every year on those underlying margins. And we can do that while ensuring that we are obviously serving the current needs of the business but also planting the seeds to sustain that growth moving forward. So it's a different margin perspective than we had 3 years ago, for sure, and we can talk about that. But we believe that we can appropriately fund the business, invest for the future, innovate, transform, do all of those things while driving double-digit top line growth and then again modestly expanding margins from that underlying level on the low 20s.

Right. And you've actually raised your target for normalized EBITDA margins in the low 20s for a couple of quarters now. What's really been driving that upside? And is there further upside?

Yes. So obviously, 2020 and 2021 were, let's just say, not normal years. And '22. I'm not sure if it's normal or not yet. But I'd say we continue to learn and innovate and transform the business. And I think the consistent upgrading of what we believe those underlying margins are is just learning more and operationalizing more of what we learned through the pandemic and believing that it can sustain, and we can operationalize those savings moving forward. I'll give you 2 quick examples. So example one is around travel. And so we spent a lot of money on travel, both supporting clients, supporting conferences and internal travel in all the years leading up to 2019. Obviously, that went to 0 in 2020, and very, very low in 2021. We believe moving forward that yes, we will need to travel. We have a global business, and we want to make sure we're serving our clients globally, but at nowhere near the rate that we did in 2019 and prior. And so we now feel real comfortable about what that level is going to be moving forward, and we can dial that in. The second big example is around our real estate footprint. And obviously, today, the needs of what we actually need from a real estate coverage perspective are very different than 2019. We are in the process of sort of rationalizing that portfolio. And again, each quarter, we've gotten better visibility into where we think that lands. And now we can dial that in and drive the savings. And so I think we feel really good about where we are and having flushed through or figured out a lot of the areas that we weren't sure if they were going to be sustainable or not. We'll continue to look for opportunities to drive efficiency, drive productivity, et cetera. But again, the one takeaway I would add is we can drive double-digit top line growth and modestly expand those margins from that underlying level in the low 20s.

Yes, yes. Let's dive a little bit into the Research business. So in recent quarters, the GBS segment has outgrown the GTS segment by nearly a factor of 2:1. And so what's really been contributing to that level of outsized growth? Is it sustainable? And do you expect GBS to continue to outpace GTS in growth?

Yes. I mean, I'd start, George, with the GTS levels is pretty good, too, right? So we've driven really strong double-digit growth in GTS. But to your point, GBS has been outgrowing it. And again, the last few quarters, we've been north of 20% year-over-year growth. Again, I think a lot of that is just where we are in our evolution of that business. We're still, as we just talked about a little bit earlier, really, really early days. It's great that GBS is outgrowing GTS right now. And it's great that we're growing faster than our medium-term objective of 12% to 16%. That's awesome, and we'll continue to drive that. Over the medium term, we do believe both GTS and GBS will be consistent 12% to 16% growers moving forward.

Right. If you look at GTS growth in the first half of the year, it was about 14% year-over-year. How is the overall demand environment for GTS? Maybe if you would couple that with IT spending and overall just budgets and any client propensity to spend, how would you characterize it?

Yes. I think it's -- I'd characterize it as a normal selling environment for us. I think, obviously, companies are at varying stages of their digital transformations, levels of IT investment, et cetera. I do think that whether IT spending or IT budgets are up a point or 2 or down a point or 2 doesn't really impact our business. There's well over $4 trillion a year spent on IT. And whether it's $5 trillion or $4.3 trillion, it's still trillions and trillions of dollars spent in IT, and whether operating budgets are up 3% or flat or down 1%, we still represent a really high-value way to help people optimize those budgets. I think one of the things we're seeing now with a lot of our clients, and we've actually done a decent amount of survey work across both CIOs and also CFOs, is clients are looking to reduce costs in certain areas, but primarily so they can reinvest it into digital transformation or other important technical or technology initiatives. And that's always going to be a good equation for us because we can help them save money on the operating side, and then we can obviously help them optimize how they put that money to work on their major technology initiatives as well.

Right, right. So if you look at GTS, new business trends actually fell on a year-over-year basis in the second quarter. Of course, you had pretty tough comps in the year-ago period. But any other factors that might have contributed to that decline in GTS new business? And would you expect that to reverse in the second half of the year?

Yes. So I think -- I mean, the short story there is super tough comp. We still generated near record levels of new business dollar growth in the second quarter just against a somewhat anomalous huge growth in Q2 of '21 from a new business perspective. So we still feel really, really good about the GTS business for all the underlying reasons we just talked about. We have tough comps through the balance this year because we did see acceleration in both GTS and GBS CV growth over the course of '21 and record levels of new business. We still expect to generate, at a minimum, near record levels of new business. I mean, if you think about the growth algorithm for us in terms of impacting the overall CV growth, new business is obviously a super important factor into that. But retention is equally, if not potentially even more important. And our retention rates remain at or near all-time highs as well.

Right, right. Now one of the benefits of having the GTS and the GBS business together, of course, is cross-selling. Can you discuss the pace of cross-selling? Are GTS customers buying GBS products and vice versa? Any KPIs you can share to maybe shine a light on that?

Yes. Absolutely. So actually, our go-to-market philosophy and go-to-market strategy actually does not really include cross-sell. So our philosophy is that having a focused sales force calling on a specific function is the way to drive best results and best productivity. And if someone happens to purchase IT, and we're targeting HR, is it helpful? Maybe, maybe not. But what we find overwhelmingly is that an HR leader has a separate budget, different mission-critical priorities, different buying behavior, different buying patterns and completely unrelated to the IT spend. And we find we get the best results when we have an HR-specific seller call on the Head of HR to understand their mission-critical priorities and map our value to those mission-critical priorities. And again, if there's a reference from the CIO, the Chief Information Officer, great, but it's kind of not how we go to market. So we have found -- and it's interesting because we've tried to organize around cross-selling in the past. When we bought a company in 2009 that focused on supply chain, we thought, hey, maybe we can have a seller sell both IT and supply chain. And what we found is that they sold less IT and less supply chain. And that kind of helped us say, okay, well, we need to make sure we drive focus. If we drive focus, we can actually drive higher levels of productivity and better results overall and actually serve the clients better as well.

Right, right. A key driver of growth for Gartner's Research business is, of course, sales force headcount growth, which you touched on. How would you characterize the hiring environment out there? And are you still tracking to grow your sales force headcount double digits across both GTS and GBS?

Yes. So I think one is we have a great employer brand, particularly in sales. And so sellers know Gartner. They know we are a sales-focused culture. They know that we compensate our sellers very, very well, recognize our sellers very, very well. And so we really don't have any issues attracting great talent, and that remains. I'd say, 12 months ago, the market was certainly more competitive than it is now. I think where that's helped us now is we did see some spikes in turnover last year, largely driven by that super competitive labor market. We took a number of actions internally operationally to reduce turnover, and I think the market has cooperated a bit as well. And so we feel like we're in a really, really good place from a hiring perspective. We've rebuilt our recruiting capacity. So we've got the pipes big enough to hire all the people we need, and we remain on target to grow both GTS and GBS at double-digit growth rates by the end of this year.

Great. Great. Related to that, sales force productivity, also, of course, an important measure, which you guys measure in terms of NCVI divided by the prior year sales headcount. So if you look at pre-COVID, GTS sales force productivity was around 115,000. Currently, it's around maybe 140,000. So a pretty big spike. Is it sustainable? Or would you expect that productivity to come down as you bring on more people who are less experienced?

Yes. I think the productivity numbers have certainly benefited from us having a richer mix of highly tenured sellers. And we talk a lot about it takes about 3 years for a seller to get to "full productivity." And pre-pandemic, and this is the way we think about it post-pandemic as well, we should have about roughly 40% of our sellers at any one point in time with less than 1 year of experience. Last year, because of a little bit higher level turnover, of rebuilding our recruitment capacity and some of the challenges in the hiring market, we actually had about 20% to 25% with less than 1-year experience, which means we just had a richer mix who inherently have higher productivity, which boosted the average. So we do expect a little bit of a step back just based on getting to "normal mix." But again, from that kind of normal or underlying productivity, we're very focused on making sure we can actually improve that year after year after year as well. And so as we think about the levers we can pull to drive that sustained contract value growth, it is a combination of growing sales force and improve -- modestly improving sales productivity over time as well.

Right. And what are the factors that are driving the long-term improvement in sales force productivity?

So I mean, it's kind of everything, if you think about it. So it starts with how we recruit, how we train, how we deploy, how we design the territories, the tools and processes that we change and improve upon to make it easier for sellers to sell. Again, our -- we have a whole organization whose sole mission for being is make it easier for sales, right? And if we can make it easier for sales, we think we'll sell more. So that's a big piece of it. But not to be underestimated, it's also the improvements we make to the product. And so if we can drive higher levels of retention, that has a positive impact on sales productivity. If we can make our products stickier and more exciting for users, that can help drive new business. When we get back to a full calendar of in-person destination conferences, that gives us more bites at the apple from a new business perspective. So there are -- the whole Gartner system, if you will, is architected to help drive research growth, right? We have a great conferences business, we have a great consulting business, but they're there to really complement and catalyze research. And they're doing a really good job of that. We've obviously been in an environment like with conferences where we've been virtual up until Q2 of this year, but we're roaring back in person. Nice to see everybody here in person as well. And again, we believe that will drive benefits to our Research business as well moving forward.

Right, right. Maybe we can switch to the conference business since we're touching on that. This year, I believe you are planning to have 19 events in person. What are the longer-term metrics that you're hoping to target from attendees, the number of events perspective that are in person. Is it ever going to go back to historical levels? Or is it going to be a mixed virtual, in-person, that's going to be the new reality going forward?

Yes. The -- we have seen a super enthusiastic response to a return to in-person destination conferences and sort of a combination of pent-up demand. But I think also in these hybrid operating environments, it's even more important for people to interact with peers and learn and just get out of their kitchens or basements or attics or whatever it may be. And so we've seen a very enthusiastic return. And we see really increased levels of demand for fourth quarter -- for September and fourth quarter conferences as well. In 2019, we ran 70, 7-0, in-person destination conferences. To your point, we're going to be less than 20 this year. Next year, we'll bring even more back. We're not necessarily just like-for-like bringing everything back that we delivered in '19 because the market has changed. We do have this virtual alternative now for smaller, less profitable conferences if we want. We still believe the magic really happens in person. And if we can make the economics work where it's a large enough conference and we can make money out of it and get scale out of it and support the Research business, we want to have as many in-person destination conferences as possible to be able to support that. It will take time for us to get to a full portfolio, but we're really excited about planning for 2023 and having even more in-person destination conferences than we did in '22.

Yes, yes. Makes sense. And maybe touching on the Consulting business. Your full year guidance assumes that the growth rates will decelerate in the second half of the year in Consulting compared to the first half. So what are the puts and takes happening in Consulting? And how would you overall characterize the demand environment for Consulting?

Yes. I think we have tough compares for Consulting in the second half of the year as well. And I'd say we -- there is obviously the potential for upside. We took a somewhat cautious approach given the macro environment. But we had perhaps our strongest Consulting quarter ever in the second quarter on every measure you can look at, whether it's the labor-based revenue, contract optimization revenue, bookings to support backlog, the overall backlog. I mean, everything was at pretty much at historical highs. So the demand environment remains pretty strong there. And if there's upside to our guidance, that's fantastic.

Yes, yes. Let's go back to margins a little bit. So because spending on T&E and sales force hiring is coming back, margins this year are on track to contract about 23% from last year's 27% range. So would you expect normalization of spending and investment to happen this year? Or will normalization of spending continue until 2023?

I would say our expectation is '23 should be a "more normal year." So as we talked about earlier, we are on track with our growth hiring and catch-up hiring to get to where we need to get to by the end of the year. And so we will have a lot of those costs roll into next year, which will take up the cost base quite a bit into next year. But again, it kind of comes back to we think -- and we'll give guidance in -- for '23 in February, as we normally do. But again, think about underlying margins in the low 20s and then being able to modestly expand them moving forward from there.

Right. So it sounds like potentially, margins could contract in 2023 as costs continue to normalize.

Yes. No, I think -- and again, we've tried to be transparent about that because that was the same thing rolling from '20 to '21 and '21 to '22. So yes, I think that is right. I think in the first half of the year in particular, because we were playing so much catch up on the hiring, the margins were much higher than the underlying levels. And getting to more normal, let's say, underlying margin in the back half of the year but still playing catch-up, but getting mostly caught up by the end of the year.

Yes, yes. Let's turn to free cash flow. Historically, Gartner has had a very strong free cash flow conversion from net income of about 150%. Based on your CapEx and working capital requirements, would you say that level of conversion is sustainable going forward?

Yes. We -- so I think we recognize the strength of our working capital and free cash flow model. And we want to do everything within our power to drive that and really expand on that and take advantage of that. And so whether you look at it as a conversion of net income or as a percent of EBITDA or is it free cash flow margin, we believe that just given the structure of our business and given that research has negative working capital elements that we can drive really strong conversion, regardless of how you look at it. The way to think about free cash flow margin on an ongoing basis is we think about free cash flow margin being 3 to 4 points lower than EBITDA margins. And obviously, CapEx is a piece of that. Cash taxes is a piece of that. And then the offset obviously is the negative working capital element from growth in our Research business. But we believe we can be a really strong free cash flow engine moving forward while delivering on double-digit top line growth and modest margin expansion.

Yes, yes. So year-to-date, you've completed $1 billion in buybacks. You have gross leverage of just under 2x. What are your targets there for buybacks and leverage? And overall, what are your capital allocation priorities?

Yes. So our leverage target is to be between 2, 2.5x gross debt to EBITDA. We're obviously a little bit below that right now, but it's sort of rounding. We're kind of in the right neighborhood from a leverage target perspective. From a capital allocation perspective, we think about it, I guess, on 3 elements. So one is we believe we can invest what we need to invest in the business while delivering that modest margin expansion. So that's kind of covered in the operations of the business and our growth targets from an EBITDA and revenue perspective. After that, 2 priorities: return to capital to shareholders through buyback programs; and strategic tuck-in M&A. Obviously, we are an organic growth company. We do not need to do M&A to hit our growth targets. We believe we could do that organically, but we'll use M&A to fill in gaps or buy capability or buy assets that we think can augment, fill in gaps or catalyze our overall growth. And because we don't need to do it, we can be super disciplined about it. So I think certainly a bias towards buybacks over M&A, but we'll -- we continue to look at strategic tuck-in M&A when we do have the opportunity to do it.

Great. Makes a lot of sense. Any questions from the audience? If we can get a mic.

On the more mature end of your sales force, at what stage people plateau? And just also, how do you think about the absolute number of salespeople rather than just like the proportion? Because just from a law of large numbers, it's just a lot of people you're going to have to hire if you're trying to get 40%, which are sort of new. And I guess, again, at the other end, when do people bore and sort of disappear? Is it after 5 years? It's after 6 years? And why isn't it that we've just got a natural creep up as you get some of the more productive just being more of them?

Yes. So a couple of thoughts there. So one is when you come in as a seller, we have people who are coming in right out of university, super early in their career. We have other people who are coming in with more experience, and they have different paths, right? And so you can move up and take on more and more responsibility as an individual seller or you can get promoted and become a sales manager and then a sales VP and then so on and so on. And so some of that filling the gap to make up that 40% is turnover. Some of it is just we have to promote. Because we're growing so much and adding so many people, we have to promote sales managers to be able to support that and then hire and replace them. And then the people that go into their old roles have less experience. In terms of the sales productivity curves, on average, it takes about 3 years to get to "full productivity." That's an average. We obviously have a distribution of performance under that. Some people far at the right end. People who are at the left side of that distribution tend to leave because they're not earning or what have you. And so we're over -- we have over 4,000 frontline sellers today. Our aim is to grow the sales force at a rate of about 3 to 5 points lower than the CV growth. So -- and again, specific to GTS and GBS. But if GBS CV growth is 20%, that would imply we would grow GBS headcount 15% to 17%. And again, if GTS is 15%, then, obviously, that applies to 10% to 12% GTS growth. So we believe we can continue to do that for a really long time because of the market opportunity we talked about earlier. And yes, the numbers do get bigger and bigger, but it's still a tiny fraction of the potential sellers out there. And the other thing I would add is we are recruiting globally. So it's not like we're reliant on any one particular city or state or country. We are hiring right out of undergraduate programs all the way up to 20-plus years' experience. And so we have a diverse pool of talent that we're pulling from given the -- our geographic mix and experience mix. So we don't see any issues or risk in our ability to actually grow the sales force the way we want to.

Great. Well, that wraps up our session. Thanks for participating. Thank you, Craig.

Thank you. Thanks, everyone.