GFT Technologies SE (GFT) Earnings Call Transcript & Summary

Thank you very much, and good morning. Welcome to our interim statement after 9 months. Let's directly jump into the presentation. I'm looking at Slide #2 now. The slides are available as webcast. They are available on the website, so you should be able to download. Slide #2, in a nutshell, overall, Q3 came in as expected. Well, of course, the pipeline that we saw in Q2 was burdened by COVID and has given us some weakness. We see that on the revenue side. But beyond that, it is as expected. What is unchanged, our teams are mainly working from home. I think we are back to 95%, 98% of people working from home due to the -- now again, more restrictive lockdowns, et cetera, in the different countries. What is good news, September showed the overall strength we've been waiting for. So we have signaled that the market, despite COVID, is getting back to normal. Now let's look at the slide. The total revenue increase after 9 months is 4%, and we see increase with our clients outside of the top-2 clients of 15%, we will come back to that. 38% revenue share with fast-growing technologies, and we have an EBT in the third quarter that is significantly above the second and even the first half of the year. Our outlook is confirmed on revenue and EBT basis. The insurance business rose strongly by 34%. It's now standing for 14% of our revenue. and the business with cloud solutions grew by 52%, which now stands for 8% of our total revenue. We had a strong operating cash flow after 9 months, driven by positive working capital effects and our cash and cash equivalent position is also stronger than in the year before. Let's move forward to Slide #3, and this is a new slide we added to give you a bit more details about our revenue distribution. And let's do the blocks from left to right 1 after the other. So first of all, we show the fast-growing technologies I already mentioned. They are on the rise. We give the technologies that we put in this category in the footnote. And so this is mainly distributed ledger and blockchain, it is artificial intelligence, data analytics, cloud business and DevOps. This now stands for 38% of our revenue, a strong increase versus last year. Well, if you ask us out, what is then reducing? It's the laggard business, It's the legacy business, partially that we have done with our top-2 clients, where we have done a lot of application management with all technologies, and this is being replaced in our revenues by the fast-growing technologies over time. Let's go to the middle block. This shows our client concentration and we show it to you in a couple of clusters in line with size after 9 months, but the top-2 clients, which is Deutsche Bank and Barclays, they reduced from 30% to 22% of our total revenue after 9 months of this year. Then you see the clients in the group EUR 7.5 million to EUR 30 million, which means on a yearly basis, that will be EUR 10 million to EUR 40 million, and they climbed from 21% to 27%. So we saw a strong increase with those clients. We saw an increase with the next block of EUR 3.7 million to EUR 7.5 million from 12% to 15%, and the smaller clients have been stable compared to the year before. Of course, we want to grow clients in the area up to EUR 1 million into the next clusters. So move them from right to left over time. Well, for sure, the left side is defined by the size of the client and his IT budget overall. If they can move to the EUR 4 million to EUR 10 million maybe even to the EUR 10 million to EUR 40 million cluster over time. That's the GFT strategy, in land and expand with our clients. On the very right, the sector split, we show the banking business has been reducing slightly from 80% to 76%, while at the same time, insurance business grew from 6% to 11% to 14% and all the other clients, industry and others are quite stable at roughly 10%. Moving forward, Slide #4, Key figures. The revenue after 9 months stood at EUR 327 million, as I stated 4% up compared to a year ago. And if we take out the acquired company in Germany, which we acquired in 1st of January, the organic growth is 2 percentage points. The EBITDA adjusted is down 11% and it is heavily burdened by underutilization and restructuring as named in the bullet points on the right, and we see positive trends from our margins on the Americas and U.K. side. This anyway is a trend we will see later that we have a quite a strong trend for our Americas, U.K. and APAC business, while Continental Europe is more hit by COVID at GFT. If you add up all the bullet points on the right side, it is pretty much in line with the year before if we would not have had the underutilization, and the restructuring we would even have overachieved the 2019 numbers. EBITDA is burdened by M&A effects of the in-GmbH of roughly EUR 1 million. And last but not least, the EBT margin is at 2.8%. I will come back to the tax ratio on a later slide. Moving forward, Slide #5. Revenue and EBITDA adjusted by quarter. So here we look at the quarters, starting with revenues comparing to the last quarter. So Q3 versus Q2 of 2020, we do see a decline, and this is mainly COVID and summer holiday related. Q3 is always somewhat hit by lower working days because of holiday season. And this is also the case in 2020. That's why we are below Q2. On the earnings side, we are above because the second quarter included nearly EUR 6 million of restructuring costs. When we compare to last year, we do see that revenues are above 2019 revenues despite all the COVID impacts, and on the EBITDA adjusted side, we're pretty close. If we take out the IFRS effect, we're nearly spot on last year's EBITDA adjusted number. I'll come back to IFRS 16 a bit later. Let's move to Slide #6, revenues by segment. Americas and U.K., as I already said, quite a strong trend. You see the organic growth of 14% and no M&A, but also diluted by the FX effects. We do see the euro has strengthened to a lot of currencies on the planet, especially to the real in Brazil to the Mexican peso, but also to the dollar. And all these 3 are part of this business segment. And that's why FX cost us 7% of growth on a euro basis. Looking at Continental Europe, while organic were plus/minus 0, more or less compensating the losses from the top-2 clients with growth in other clients. At the same time, we have the M&A effect from the company we acquired in January, which contributes 2% of growth. Let's dig in 1 step deeper on Slide #7. It's the same view, the same business segments, but now we differentiate in the top-2 clients and the other clients and focus on the top-2s first. Well, as already seen on the slide before, the share of the top-2 clients has reduced to 22%. The reduction versus last year after 9 months, is 24% of revenue. So we now see EUR 72 million, which is a bit above what we had expected. We even have foreseen a slightly higher reduction with the top-2 clients. So they are a bit compensating the not so strong growth in other clients, which is because of the COVID crisis. The other clients are growing by 15% after 9 months. This number stood at 19% after 6 months. So we do see it a bit coming down, which is mainly because of the lack of ability and possibility to build pipeline, especially in the months of April, May and June. Since then, as we always said, it's more or less back to normal. The new normal, don't meet but anyway interact digitally or however. And therefore, we always said from September onwards, we see business coming back to normal, and this has happened. But nevertheless, after 9 months, top-2 clients have grown by 15%. You can see how it is in the 2 segments. It's a bit stronger in Americas and U.K. and a bit weaker in Continental Europe. Moving forward, let's go to Slide #8, also the business segment view, but this time on profitability. We look at EBITDA, adjusted EBITDA and EBT. Let me focus on EBITDA adjusted. The Americas and U.K. segment is above previous year's numbers, EUR 1 million comes from better utilization, EUR 2 million from better margins, from also growing business. So this is a strong number for our Americas and U.K. business. And this even includes that the real has weakened, so the translation of the Brazilian profits into euros is more burdened than it was a year ago. So this is -- even that is compensated. Continental Europe, we do see we're down compared to the first 9 months of 2019. We already talked about restructuring costs, which are more than EUR 3 million higher than in the year before at the same time. And the underutilization, which is even EUR 4.5 million higher than in the year before. So this EUR 8 million special effect for Europe, they explain the gap to 2019, and they should heavily reduced or completely vanished in the year '21, a bit depending on how long COVID will take, but what we see today, we're quite optimistic. Moving forward, Slide #9. Revenues by country. The 4 countries which show negatives are all impacted by our top-2 clients, mainly Deutsche Bank, so Spain, U.K., Germany and the U.S. Here, the negatives only come from our top-2 clients. We do see Italy growing not as fast as we'd hope we'd hope for nearly double the number, but that is COVID-related. And we see another -- we see a lot of markets growing quite strongly, which is Brazil, Canada, France and Hong Kong. Those markets have seen despite COVID continuous trend towards clients continuing to invest on the IT side. So we've benefited there. So it's a mixed bag in the end. All right. Let's move forward. Slide #10. 30 biggest clients after 9 months in 2020. And the ones with the blue box were not there after 9 months of 2019. So they are compared to a year ago. And only 1 is new versus the second quarter, which is the bank on the bottom left in Retail Banking, WSIB, a Canadian bank, Ontario, right? A Canadian bank, which made it to the list. So in Canada, we're not only growing the insurance business, which we strengthened nearly 2 years ago with an acquisition. And since then, it's going strongly, but also we're winning banking clients with that same sales team. positive news. I think the others have not changed significantly. So let's move forward. Slide #11, P&L statement. A couple of comments here. The first 1 on cost of purchased services we see the number stable. So no change versus 2019. That's the third line from the top, cost of purchased services. This means relative to the growth we see in revenues, we are reducing our freelances that we're using. And we're, of course, putting more emphasis on utilization of our own teams. That is clear. We do see the other operating income increase by nearly EUR 3 million. I have to explain here that we have seen a lot of FX effects, positive and negative, which then in the [indiscernible], don't have a big impact but they have blown up the other operating income. So it is EUR 3 million of FX positive effects in there, but there's also roughly EUR 3 million of negative effects in the other operating expenses. So if I take that out, operating income is only up by roughly EUR 1.5 million, which is contributions from governments partially to short-time work, but partially also like in Quebec, Canada, it's just what the government pays on a regular basis. And on operating expenses, if you take out EUR 1.5 million gap because of FX, you do see that the cost for operating expenses are below 2019. So cost saving measures are working while the revenue is growing. The only number which is not in line yet is personnel expenses, which is up 8%. And here, of course, we do see the restructuring costs I was referring to and the underutilization. So this is the area where we want to improve significantly in 2021. One last comment on tax rate. tax rate stands at 29%, and that's probably where it's going to end the year, 28% to 30%. We have a quite unfavorable profit distribution between our countries. We have countries with losses like Germany with a high loss because of restructuring and others compensating, but having to pay taxes for the compensating profits. And therefore, we have an unfavorable distribution. We also believe this will get better in the year '21. Going to Slide #12, cash flow analysis. Well, overall, I think it's always important in these times to mention that financing structure remains very solid. The net cash is even better than it was at the beginning of the year or the end of last year, which is usually quite a good moment for our net cash position. And we better than that today already. So net cash is absolutely no issue. And at the same time, we do see strong operating cash flows as you can see in the graph. Last but not least, investments. Here, we do see the acquisition of the in-GmbH in Germany, which we acquired in January with a cash out of roughly EUR 6 million. Now balance sheet. Usually, I don't talk a lot about the balance sheet. But today, I need to mention the changes you see in non-current assets. Our non-current assets reduced by roughly EUR 10 million, mainly because we have used options to terminate office space where possible. So inside these current assets, the IFRS 16 assets are included. So the main effect comes from utilizing the option to terminate our London office effective May '21. So far, we have planned to use the office for another 5 days. But due to COVID and expected lower work from office percentages in future, we chose to utilize the exceptional termination option we had in the contract. So it was -- it's now a different way of looking at IFRS 16 for that office. We have been planning to do another 5 years still after the Q2 numbers. And now we decided no, we terminate, and we go for a smaller office. And for sure, we will again rent an office. We're already searching. The new office in London will be smaller, potentially cheaper and a cheaper location, but it will, once signed again trigger an IFRS 16 asset and liability. It will again grow a bit. And this is what I'm trying to say, IFRS 16 is the beast, right? And with potential further facility changes, IFRS 16 will be a challenging beast for the quarters to come. Until we have adapted to an average office rent volume that is adequate for the new post-COVID area -- era, that's the right word, right? Era. Let's -- as a number, today, before COVID, we had a work from inside a GFT office percentage of 70% to 75%. 10% we're working from home and 10% to 15% on client site. We foresee for the future number, and this is still quite broad of 40% to 60%, maybe 50%, maybe 40%. So there will be a significant lower need for office space. And this lower need will come when contracts run out, when we can terminate. London was 1 of those options we were able to terminate. And this will continue for the next 2 to 3 years. until we have settled on a level of office space per employee that is ready for the new era. So we will see IFRS 16 accounting being a challenge. We will be very transparent about it, so we can all understand where it comes from. Okay. That was a bit more on balance sheet than usually. Let's move forward to Slide 14. Employees by country. Well, here it's easy, kind of the same pattern that we have seen already in Q2. We see Brazil and Poland growing. And at the same time, we see the decrease in Germany, mainly because of the restructuring. And we see Spain also slightly -- more stable and over time reducing. The utilization overall was in line with previous year. But when we look inside the utilization, and we see that we had a very strong utilization in our Brazilian, Mexican, Canadian teams while our European teams were struggling, especially in Germany and somewhat in Spain, we had a lower utilization, which led to the underutilization in euros. I was mentioning on the -- 1 of the first slides. And this is why 89% looks good, like in previous year, but it is not well distributed because our COVID hit European markets had a harder time on this. Bringing us to the last slide, Slide 15, the outlook for 2020. So overall, the outlook is unchanged. Only we have that IFRS 16 fallout. But let me start with the revenue. EUR 440 million, stable revenue for the next year -- for the year 2020. So this is what we have been predicting. Since a couple of months, we do foresee our top-2 clients reducing by 26%, while at the same time, we're growing all other clients by 14% as before. Looking at earnings, looking at EBITDA adjusted first, you do see that we have reduced the EBITDA adjusted number from EUR 44 million to EUR 42 million. The contribution from business is unchanged at EUR 31 million. That's the gray part of the column. But the IFRS 16 positive impact, the depreciation that comes from IFRS 16 is reducing by EUR 2 million because of the EUR 10 million of IFRS assets that we have lost mainly because we have terminated the London office. So it looks like a lower EBITDA adjusted and EBITDA, but it is only referring to an office where we continue to pay rent until April 2021, and then that rent goes to 0, and we will rent back, a smaller and cheaper office in the time after. So here, IFRS 16 might not give the right picture of what we're doing. And as this will continue, space will reduce this IFRS 16 block might continue to melt over time, at least somewhat maybe 20%, 30% more. Everything else on the profitability burdens from COVID with underutilization and restructuring was already given as an explanation, same as in the first half year, and we continue to spend on sales activities to have that growth in all other clients. We are doing everything to be prepared for '21 to be the breakout year we had hoped 2020 would be with the top-2 clients, not hurting us so much anymore. And therefore, what we're doing is we're doing our homework to make 2021 the breakout we hoped for it. Q4 has a good visibility. We will do an additional EUR 1 million of restructure in the fourth quarter in our Spanish management team, which will have an immediate payback in the year '21 and because these are managers which have mostly been working on the reducing revenues of our top-2 clients. But that's the only change we see. Therefore, still EUR 13 million of EBT. That's the core number, that's stable. It's not IFRS 16 impacted. That number is unchanged. All right. That was the presentation, 25 minutes works. And then please ready to take your questions.

[Operator Instructions] The first question comes from the line of Andreas Wolf with Warburg Research.

It's Andreas Wolf with Warburg Research. A couple of questions from my side. So the first 1 would be on the business pipeline? How is it building up for the next year already? What's basically your gut feeling with regard to client projects whether the difficult economic environment has impacted the client budgets or whether they are still willing to invest as in the past? So that would be interesting. The second question is on the sale of Deutsche Post IT to Tata, whether this has any implications for GFT? And the third question is on the home office topic that you've touched upon. So outside London, you might follow a similar strategy, is it right to assume this? And if yes, what could be the overall positive margin impact that you might experience here going forward?

Yes, thanks for the question. Pipeline 2021, well, that usually, I would be better prepared to do that. But in the COVID times with all that volatility, and we all know about potential vaccines now for roughly 3 days, right? Or a bit more. Currently, the pipeline, we don't have the same visibility as we used to have, right? As a normal year. But we do foresee a positive trend that has emerged from September onwards. So we are optimistic about 2021. We believe our top-2 clients, we will see another small decline. Don't know the real numbers yet. We will get into that. But we see a strong trend for those new technologies, all over the globe. So it is, be it in Europe, where this is picking up and just take Deutsche Bank going for Google Cloud as 1 example. We see it in North America. We see it very strong in South America. And in Asia, we are building banks completely in the cloud. for clients like Standard Chartered. So we have a positive trend, and therefore, we are optimistic. And my gut feeling is optimism breakout year 2021 that we wanted to have in '20 will happen in 2021. The environment is somewhat not as stable as in usual years, when I do that prediction. So there's a bit of a footnote, while, hopefully, the COVID trend doesn't burden us too much. And another one. Hopefully, there are not too many insolvencies banks big headaches in their credit portfolio. The second question, the sale of Deutsche Bank IT, we don't see any implications for us from that. full stop. Very simple. And the third point, home office. Well, yes, that's the million-dollar question. How much home office, how much office space, which is kind of the other side to look at it, will we need in future. We have office rental costs of roughly EUR 10 million, EUR 11 million. We can reduce that by 30% midterm, that would be a good number. That's where we want to get. But again, if you could reduce it by 40%, even better, but we will see. And of course, this will take time because they are running contracts. You don't always have this favorable situation that you have an option you could just choose and pick and utilize and then the contract terminates. Of course, we have an office. We just rented in 2019 for 5 years where we now look back and say, sometimes you're lucky, sometimes not. So we have a mixed bag, of course, in our portfolio as well. But we will look at every office -- we are looking already and we will continue to look at every office and we will continue to look at the work-from-office quota we need because there's 1 more element to this, our clients who today accept work-from-home because else why nobody would really be working on IT projects. How will they react in the quarters to come? Would they, again, because of compliance and other audit issues want us to be in closed blue rooms that have limited access rights, et cetera, which you can only do in your own GFT buildings. Therefore, it depends also on the client's reaction. If they continue with the approach that today except work from home is okay for IT projects for banks or would they go back to the situation we had before. Probably it's going to be a mix, right? Some want to go -- come back, but a lot of them will stay as it is, and then we will adapt our office space accordingly. But this is a path where we still have some stuff to learn also on our client -- on the clients' reactions. Hope that helps. Any more questions?

The next question comes from the line of Knud Hinkel with Pareto Securities.

I have 3. First of all, on IFRS 16, the effect. So my understanding is that if you will rent a new office space, so that will also then increase your EBITDA again in the next couple of years, so that will be up and down. So the question would be, does it make sense to focus on EBITDA still as a KPI or maybe introduce EBIT as well or look increasingly into EBIT, would not that make more sense? That would be my first question. Second question on FX. You mentioned that you were hurt by Latin American FX effect on the revenue line. So -- but I guess that on the earnings line that should be helpful here and there. And I would be interested to learn about the net effect, whether that's netted out on the earnings line? And thirdly, you said at the beginning of the year before in the before COVID-19 era that 2020 wouldn't be a year of margin optimization but of building a pipeline, building business and so on and forth. My question would be if -- yes, if you would see the same scenario for '21. It's more about gaining volume -- business volume building our pipeline, not so much about margin optimization in '21 as well?

Thanks. Let me start with IFRS 16. Yes, you're right. Whenever we rent a new office, and of course, it's a contract usually not for 1 year but for 5 years. If you want to have 1 in the London City. Then the asset goes up again and then the depreciation goes up again. And therefore, we are also looking into maybe focus more on the EBIT than the EBITDA. What we're doing, as you see on that outlook slide is we're showing the EBITDA adjusted separated IFRS and operational EBITDA. I think that's at least the minimum we can do for the moment. So the number without IFRS 16 is comparable throughout the years. But looking at EBIT on top, maybe putting that more in the focus, maybe taking out the EBITDA number is something we will look at. But as always, we do those changes always for a full business year, so that would maybe happen then in '21. On FX on profits, well, that's not an easy one. We have FX effects overall of minus EUR 440,000, right? You see that on that Slide #4, where we put it in the bullet point. As I stated in the Americas, the effects are a bit diverse. If you recalculate the profits from Brazil into euros, there is a negative effect versus previous year because the real in average is 6:1 to euro, it was 4.5:1 in 2019. So that's a major gap. At the same time, we deliver from Brazil into New York City. And there, we sell in hard dollars and the U.S. entity has a lot of -- has some windfall profits coming from this FX effect for what they buy from Brazil because they buy in real. And that makes the profits in the U.S. go up. So the overall effect is probably not that big, maybe EUR 0.5 million of profit we're missing because we don't show the translation effect on profitability. Last but not least, growth 2020, how does it reflect in '21? Yes, that's a good point. I'm saying '21 should be the breakout year 2020 should have been. That's 1 advantage coming out of 2020. We've done a lot of homework. So this means, yes, in '21, we will focus on growth, but we probably have a better margin potential going into '21 than we had going into '20 because we have done those restructurings, which as always in life, right, have been -- they have been the spotlight has been put on those resources by COVID, but they were there already, right? It was already not ideally utilized team that we were looking at, highly competent, but not for the skill set we need for the project of tomorrow. And therefore, what we do see is that we have probably a better cost base going into '21 than we had going into '20. So it should be a bit of both. We focus on the growth, but the margins could be better than we had hoped for in 2020. But give me another quarter to really look into this because so much moving pieces at the moment, including the pandemic, that doesn't make it easy to predict. I hope that helps. And ready to take more questions.

The next question comes from the line of Jan-Erik Schmidt with LOYS AG.

I have a couple of questions. First off, regarding top-2 clients going into next year. So do you expect the decline to remain on the current level? Or do you think it's going to decelerate and smoothen out kind of percentage-wise for the top-2 clients? Maybe we go one by one.

Okay. Top-2, yes it's a bit early to call. As always, this is usually the budgets are discussed and what is possible for the next year now until the end of the year. Our view on this is, first of all, it's good that the top-2 clients only stand for 22%. Even if we would see another 20% decline, the overall number becomes smaller and smaller. It is a bit unclear. Deutsche Bank is going to the cloud, how much of that will really materialize in '21. If we could reduce the speed of the decline. Therefore, we are a bit optimistic that the decline will slightly in percentage reduce, but it probably will still be something like 15%, 20% versus 2020. That's our today's estimate.

Okay. All right. And if we take the interest payments, you had like 1 point, let me check the number EUR 1.9 -- EUR 1.7 million for the 9 months and roughly EUR 700 million of those is probably connected to IFRS 16, right? So the overall interest payments went down?

Correct. Absolutely. You're right. I think we're quite transparent about IFRS 16 in the appendix and the interest piece which is purely calculated, right? The interest part of IFRS 16 is not cash flow relevant, only what is flowing out. And as we have an overall lower net debt, that's why the interest that we paid to our financing banks is somewhat lower than 2020.

Okay. And what kind of CapEx do you expect if you say, well, you're shifting around office spaces. So CapEx is going to go down or?

That would be logical, although main CapEx is linked to people, not so much to office because it is the hardware that our people are using. That's the biggest part of our CapEx. We believe CapEx to continue to be in the area of 1.3% to 1.5% of revenues, so roughly EUR 5 million to EUR 6 million per year. We have not adopted that number yet for reduced office space. Maybe that's something to look into on the learning curve that is ahead of us.

Okay. And then there's another like roughly EUR 30 million for IFRS 16, which is now a little bit lower due to the reduced office space?

All right. And that is a moving number, as I said, right, because if we move. If we are able to give back handbag, reduce office space over time, that EUR 30 million number should also reduce this still has to be managed. And again, not in all our locations, do we have special options to terminate. Usually, it is a contract for a couple of years, and we have to -- we can try to sublet, but that's probably what everybody will do in the next quarters. So there's -- maybe the market is not that big for subletting, but we will materialize whatever options we have.