Earnings Call Transcript - CINT Q2 2023

Eduardo Galvao, Director of Investor Relations

Good morning, welcome to CI&T Earnings Call for the Second Quarter of 2023. I am Eduardo Galvao, Director of Investor Relations at CI&T, and I'm happy to be here again to talk about our results. With me on today's call are Cesar Gon, Founder and CEO; Bruno Guicardi, Founder and President for North America and Europe; and Stanley Rodrigues, our CFO. This event is being recorded and all participants will be in a listen-only mode during the company's presentation. After that, there'll be a question-and-answer session for analysts and investors. If you'd like to submit a question please send it via email to investors at ciandt.com. The presentation is available on the company's Investor Relations website and the replay will be available shortly after the event is concluded. Some of the matters we'll discuss on this call, including our expected business outlook, are forward-looking statements and as such are subject to known and unknown risks and uncertainties, including but not limited to those factors described in our earnings release and discussed in the Risk Factors section of our Annual Report on Form 20-F. These risks and uncertainties could cause actual results to differ materially from those expressed on this call. We caution you not to place undue reliance on those forward-looking statements because they're valid only as of the date when made. During this presentation, we'll comment on certain non-IFRS financial measures to evaluate our business. Please refer to the reconciliation tables of non-IFRS measures in the appendix for more details. Our agenda for today includes an update on our quarterly highlights, followed by some of our business cases. We'll then talk about our people and our quarterly financial results. Now, I invite Cesar Gon to begin our presentation.

Cesar Gon, Founder and CEO

Thank you, Eduardo, and good day, everyone. I'm excited to welcome you all to this quarterly earnings call. I look forward to engaging with you and discussing our performance and achievements. I’d like to begin by addressing our developments in artificial intelligence. Occasionally, a groundbreaking technology arises that changes everything, and I believe we are on the verge of one of the most significant moments in computing history. CI&T has been privileged to take part in the first chapter of the digital revolution as the authors of the LEAN DIGITAL book focused on digital transformation. Now, I feel fortunate to lead CI&T in co-authoring the next chapter of this revolution, where the digital realm is fueled by artificial intelligence. AI is a game-changing technology and serves as a gateway to a new disruption in the corporate world, which we refer to as Hyper Digital. I anticipate that over the next decade, Hyper Digital will unfold in three acts; the first being hyper-productivity, setting the stage for hyper-personalization in the second act, and ultimately leading to the third act with the emergence of disruptive new business models made possible by the dramatic reduction in costs associated with complex decision-making. The challenge during these revolutionary phases is that they usually flourish in the innovative environments of startups and digital natives, making it often take years for substantial impact to be felt in the established frameworks of large enterprises. In essence, these advancements need to be tailored for enterprise readiness. They must attain a maturity level where the potentials of new technologies can translate into customer value, adhering to non-negotiable standards of reliability, security, and privacy which are vital for successful traditional companies. This represents our ambition. This is CI&T's vision and what we are working to realize in making a Hyper Digital enterprise ready. To make this happen, we launched CI&T/FLOW last month, an AI platform designed for Hyper Digital. We've already started partnerships with 12 of our largest clients across various industries, embarking on the journey of integrating CI&T/FLOW. In the coming 12 to 24 months, we plan to expand this platform among all CI&T clients and introduce over 100 new AI agents developed by CI&T and our partners. We are at the start of Act One, and we are already witnessing tangible outcomes, with productivity surging to levels that sometimes double our previous benchmarks. We anticipate that we will see multi-fold increases in productivity in the upcoming years. Early results are encouraging, and we are excited about the vast potential to enhance productivity, improve quality, and speed up progress. The field of artificial intelligence offers an array of thrilling opportunities, and we are positioning CI&T as a leader in this domain. Now, let's review our financial highlights for the second quarter. Once again, we take pride in delivering solid results despite a landscape of macroeconomic uncertainty. Our net revenue reached BRL572 million in the second quarter of 2023, which is 90% higher than in the second quarter of 2022. Over the last year, we have added 56 new clients to our portfolio in multi-million accounts, bringing our total to 183 clients with annual revenue exceeding BRL1 million. The adjusted EBITDA margin for the quarter was 20%, reflecting an increase of 90 basis points compared to the same quarter last year. Our adjusted net profit stood at BRL63 million, up 21% year-over-year, with an adjusted net profit margin of 11%. These impressive results illustrate our capability to maintain efficiency amid market volatility. I want to express my gratitude to all CI&T team members globally, who have demonstrated unwavering commitment in delivering value for our clients and stakeholders. Now, let's explore some examples of our client engagements and highlight notable business developments for the quarter. I hope you enjoyed our client stories and highlights. Now, I invite Bruno to discuss our talent management.

Bruno Guicardi, Founder and President for North America and Europe

Thank you, Cesar, and good morning, everyone. It's a pleasure to be here again to discuss our people and delivery model. In Q2 2023, we continue to efficiently manage our headcount to maintain a lean organization structure and prepare for our hyper productivity era. We now have 6,200 CI&Ters with a geographically diversified talent base. Our global presence has allowed us to enhance our near shore delivery model, fostering our competitiveness and delivering with speed and efficiency. Attrition has always been a crucial area of focus for us, and I'm happy to report that attrition keeps improving. In Q2, it achieved a rate of 10.5%, a testament to the positive work environment we have created. In addition, our leadership attrition is at a remarkable low of just 2.6%, reinforcing our commitment to develop and retain top-notch leadership talent. The average executive tenure at CI&T is 15 years, which demonstrates the strong leadership culture we have nurtured, providing sustainability to our growth and superior quality to our clients. We're committed to being a more diverse and inclusive organization, and I'm delighted to share that we were awarded the esteemed Women on the Board. This prestigious certification recognizes our efforts in fostering gender equality within our environment. We're proud to have two women on our Board of Directors, making up 25% of the Board composition. This recognition reinforces our commitment to promoting gender diversity and continuing to do more to empower women in leadership roles. We are super excited to see the massive involvement of our people in the Gen AI movement. We've been witnessing the explosive growth of our AI powerhouses, now almost a quarter of our global talent pool, around 1,600 people, is involved in one of these specialized communities. We're exposed to Gen AI engagements directly with clients. They are developing critical skills in this new set of technologies and helping us build agents to accelerate the development of digital experiences. Some groups are focused on what we call business use cases, where we are completely reimagining our clients' customer experience using Gen AI to achieve a more human feel and create better engagement. Some other groups are applying Gen AI to our own software development process to achieve higher productivity and unprecedented levels of speed. So we can offer our clients the best performance in the industry and help them to overcome their challenges toward adopting Gen AI. We believe these technologies will completely change how digital solutions are created and software is developed today. Processes, roles and team topologies will change profoundly in the next decade. And we're very proud that our teams have embraced that challenge, ahead of the pack and are trailblazing our path to the future. Now, I invite Stanley to give you more details about our financial performance.

Stanley Rodrigues, CFO

Thank you, Bruno, and good morning, everyone. It's a pleasure to be here again presenting our financial results. We are happy to share that we have achieved another set of consistent results during the second quarter of 2023. Our net revenue in the second quarter of 2023 was BRL507.1 million, 9% higher than the second quarter of 2022, both on a reported and on a constant currency basis. For the first half of 2023, our net revenue grew 16% on a reported basis, totaling BRL1,181.8 million. Analyzing our revenue distribution by geography, North America contributed to 46% of our total revenue in the first half of 2023, LATAM represented 40%, followed by Europe with 10% revenue share, and Asia Pacific with 5% contribution. As we develop our global operations, we are witnessing a noteworthy expansion in mature economies, now representing 60% of our total revenues. During the first half of 2023, we saw positive growth across our primary verticals. Financial Services experienced a 5% increase in revenue compared to the first half of 2022. The Consumer Goods vertical witnessed an increase of 6% in revenue while the Technology and Telecommunications sector exhibited the strongest performance, recording a 66% growth in revenue in the period, boosted by the acquisitions concluded in 2022. Lastly, it's worth mentioning that we are further diversifying our revenue streams in terms of client share through the incorporation of new logos and successful M&A endeavors. Now let me detail the components of our growth profile. During the last 12 months, we maintained a steady focus on diversifying our client base, successfully onboarding 56 new clients with revenue exceeding BRL1 million into our portfolio. Most importantly, we continue to expand our wallet share within our large clients, fostering our main growth engine. The number of clients with revenue surpassing BRL20 million rose from 21 in the last 12 months ending in second quarter '22 to 26 in the last 12 months ending in the second quarter '23. In addition, the number of clients with revenue above BRL10 million grew from 12 to 22 in the same comparable period. Over the past five years, our net revenue retention rate has consistently hovered around 123%, this highlights the fact that new clients not only remain with us, but also have the potential to further expand our engagement and grow over time. This aspect plays a crucial role in ensuring our sustainable growth. Moving on the presentation of our financial performance. Our adjusted EBITDA increased 14% from BRL100.4 million in second quarter '22 to BRL114.2 million in second quarter '23. Adjusted EBITDA margin was 20% in the second quarter '23, 0.9 percentage point higher than in second quarter '22. In the first half of 2023, our adjusted EBITDA grew 25%, reaching BRL230.7 million with an EBITDA margin of 19.5%. The improvement in the EBITDA margin in the first half of 2023 is a result of our systematic and disciplined approach to identify operational optimization opportunities. For example, through detailed analysis of our cost structure, we are implementing innovative cost-saving actions and actively improving our productivity through the use of artificial intelligence tools. A substantial portion of these savings will be allocated to foster research and development in artificial intelligence initiatives, as discussed in our previous earnings call to leverage our future growth. Finally, the adjusted net profit was BRL63.1 million in the second quarter '23, 21% higher than the same period of last year. The adjusted net profit margin increased to 11% in the second quarter '23 from 10% in the second quarter '22. In the first half of 2023, net profit was BRL130.3 million, a 42% growth compared to the first half of 2022. The improvement in our net profit margin is attributed mainly to the dilution of SG&A expenses as a percentage of revenue and lower income tax expenses. Now, I invite Cesar back to comment on our business outlook.

Cesar Gon, Founder and CEO

Thank you, Stanley. As we set our sights on the future, we continue to see uncertainty in the global economy throughout the second half of the year. So, we will persist in navigating 2023 with caution, prioritizing bottom-line and cash generation while preparing our teams and AI capabilities to resume more aggressive growth in 2024 and beyond. For the third quarter of 2023, we expect our revenue to be at least BRL545 million at constant currency, a 2% decline year-over-year. For the full year, we are updating our guidance mainly to reflect a higher impact in the demand from our acquired portfolio and a budget replanning of our top client. Thus, we expect our annual FX-neutral net revenue growth to be in the range of 4% to 8% year-over-year. In the midpoint, the implied revenue in Q4 of 2023 represents a sequential growth of 6% and can be attributed primarily to new bookings underpinned by our AI strategy. Finally, we are maintaining our adjusted EBITDA margin expectation of at least 19%. In conclusion, I would like to express my gratitude to our clients, partners, investors and CI&Ters for their support and trust in our long-term shared objectives. Thank you for attending our call today. We now conclude our presentation, and we'll begin the Q&A session. Thank you.

Eduardo Galvao, Director of Investor Relations

Okay. We'll now begin our Q&A session. I'll announce each participant's name. Once you hear your name, please unmute your line and ask your question. Then when you're done, please mute your line. First question comes from Puneet from JPMorgan. Puneet, please go ahead.

Puneet Jain, Analyst

Hey, thanks for taking my question. Cesar, I wanted to ask on demand, like when do demand trends begin to improve? Like what needs to happen for clients to start spending on digital projects like they did before? And what are the leading indicators that suggest that the turnaround in growth rates is around the corner?

Cesar Gon, Founder and CEO

Good to see you, Puneet, and thank you for your question. We still observe a market filled with uncertainties. You may recall that our first quarter performance exceeded expectations, but this was tied to short-term strategic engagements. The second quarter aligned with our forecasts. Currently, companies remain very cautious about initiating new projects. The only encouraging sign seems to be emerging from artificial intelligence. As you may have noticed, we are anticipating sequential growth in the fourth quarter of this year, primarily driven by new bookings linked to artificial intelligence and our hyper productivity strategy based on CI&T/FLOW. This could be a promising indication for a better 2024 ahead. We are certainly preparing CI&T to seize the upcoming demand related to hyper productivity and hyper personalization in artificial intelligence.

Puneet Jain, Analyst

Got it. And as a follow-up, your headcount was down in the second quarter as well, maybe more than the revenue was down. So, how do you think about your current utilization levels? And what should we expect for headcount rest of the year?

Cesar Gon, Founder and CEO

Bruno, can you take this one?

Bruno Guicardi, Founder and President for North America and Europe

Sure thing. Puneet, we've been running a very lean organization, right, so trying to keep it very efficient. Utilization rates are still very high, right? So, we are still able to make investments and dedicate resources to build those platforms like FLOW and other components that will kind of build the future for uncertainty, but we've been running a very lean organization, and you can expect to see that going forward as well, right, the following demand.

Eduardo Galvao, Director of Investor Relations

Thank you, Puneet. Our next question comes from Ernesto Gonzalez from Morgan Stanley. Ernesto, please go ahead.

Ernesto Gonzalez, Analyst

Hi, thank you for taking our question. Any additional color that you could provide into the new projects and the AI engagements and hyper productivity with clients that will boost higher growth going into the fourth quarter? And also any additional color for 2024? What could we expect? What are your thoughts going into next year? Thank you.

Cesar Gon, Founder and CEO

Thank you, Ernesto, for your question. I can summarize our demand for AI by dividing it into two key areas. The first focuses on efficiency, specifically streamlining the production of digital solutions through AI agents, which we refer to as CI&T/FLOW tech. The second area highlights our increasing number of use cases across various sectors aimed at enhancing customer and employee experiences through generative AI applications. Essentially, we are positioning this as CI&T Flow business. We have already seen impressive initial results in terms of efficiency, and we expect that as the platform evolves and we integrate more AI agents, productivity will significantly increase. Additionally, we are currently exploring the most impactful AI use cases in different sectors such as education, banking, and telecommunications. This outlines our primary agenda regarding AI and CI&T/FLOW.

Eduardo Galvao, Director of Investor Relations

Thank you, Ernesto. Our next question comes from Tyler DuPont from Bank of America. Tyler, go ahead.

Tyler DuPont, Analyst

Great. Thank you, Eduardo, and good morning, everyone. I just wanted to start by following up on Puneet's demand question, specifically what you're anticipating for the back half of the year. Based on the new full year guide, back of the envelope math seems to show a change in growth from the second half going from up 13%, 14%, give or take, to down 5%. And at the lower end of the guide, it looks like we could potentially even see some negative sequential growth as we exit 2023. So I guess two-parter: one, does that sound right to you? And two, sort of what are you seeing more broadly in the market that's leading to this change in the demand outlook?

Cesar Gon, Founder and CEO

Good to see you, Tyler. Thank you for your question. I think we are projecting Q3 really with two factors. One is a higher impact in the demand of our acquired portfolio, combined with, I would say, unexpected budget replanning in our top one client. So this is basically what we are seeing and forecasting for Q3. And for Q4, it's really a sequential growth based on the new bookings, 80%, 90% around new demand based on our attrition values.

Tyler DuPont, Analyst

I appreciate that. And just as a follow-up. Sort of in the prepared remarks, it sounded like, Cesar, you briefly mentioned the lower full year guide was partially due to a ramp down in some top-line funding. So I was just wondering if you could provide additional color on what verticals and geographies those clients are in? And sort of how much of that are you anticipating will come back as we exit 2023 versus projects that are just no longer in scope? Thank you.

Cesar Gon, Founder and CEO

Tyler, to be clear, I think the budget manager is our top one client. It's really one client. I think our two to nine top clients are continuing in a solid position. And even for our top one client, we believe this is a temporary adjustment based on market challenges, but they have a long-term strategy, and we are definitely part of building this digital future for them. So we expect even this top one client will regain traction probably from next year on. So, it's hard to really predict 2024 right now. We see good signs in these new bookings for Q4, but we expect I think we will have more certainty around what's going to happen probably by the end of this year, early next year. But I would say still cautious, but good early signs, especially around the efficiency and experience opportunities related to the AI disruption.

Eduardo Galvao, Director of Investor Relations

Our next question comes from Ashwin Shirvaikar from Citi.

Ashwin Shirvaikar, Analyst

My first question is about the bookings you mentioned. When I examine the current results, there seems to be a deceleration in growth rates across various geographies and end markets. Which verticals or regions stand out in your bookings that you believe will contribute to a return to growth? Additionally, regarding timing, is it expected that the ramp-ups will begin in the fourth quarter, or could they be delayed due to market uncertainties potentially extending into next year? Can you help clarify this? It's a challenge faced by the entire industry, so your insights would be appreciated.

Cesar Gon, Founder and CEO

Thanks, Ashwin. Overall, it has been a challenging year for financial sectors worldwide, which is our largest area of focus. Conversely, we are experiencing significant growth in the telecommunications sector, particularly in Europe, as Stanley noted. This success seems to stem more from our targeted strategy for this vertical rather than general market conditions, although we are becoming increasingly important as a revenue stream. Regarding new bookings, we're confident that the demand we are seeing indicates that our key clients are beginning to look into efficiency opportunities around AI and starting initial experiments with use cases. I believe this sets us up for stronger demand in 2024. Additionally, we are heavily invested in leveraging CI&T's performance, working closely with 12 of our largest clients, which is already driving new demand. This is a key part of our strategy to regain sequential growth starting in Q4. Our plan is to replicate this approach across our entire client portfolio to achieve higher growth next year. As we began this year, our primary goals have been focused on profitability and cash generation, and we are executing this with discipline. We are preparing for the future, which is becoming clearer; we need to enhance our offerings and capabilities to navigate this new phase of disruption, which inherently brings increased demand. While we must acknowledge the current uncertainties impacting overall demand, the potential to harness efficiency and innovate is imminent. This significantly alters the landscape for our digital demand, despite the ongoing macroeconomic uncertainties and the challenges of predicting the speed of global economic recovery.

Ashwin Shirvaikar, Analyst

Thank you for that detailed response. Regarding the CI&T/FLOW presentation at MIC, it was impressive. I'm curious about the need to enhance the AI skills of your entire workforce. What is the process and investment required for this? Could you share some details?

Cesar Gon, Founder and CEO

Sure. We are fully focused on developing these capabilities. At the moment, we need to be very selective in choosing the clients we can support with this new set of opportunities and capabilities. However, we are making significant investments to scale FLOW and this strategy starting next year. I believe Bruno can provide more details on how we are managing this internally.

Bruno Guicardi, Founder and President for North America and Europe

As I mentioned in my talk there, Ashwin, and thanks for the question, I think this is going to be very different, like this is the process of building digital solutions; the process of building software will be very, very different in the next three, five, ten years. And I think we're very happy where we are right now. A quarter of CI&Ters are already going through that challenge in learning what those new skills and all the new tools are and kind of trailblazing that path, because that will be completely different in the future, the roles in the team, and the team themselves; how they're organized will change completely. And I think we're ahead of the pack there. We're learning what that means. Hopefully, we'll be helping our clients to understand what needs to be done in their teams and their structures and will continue supporting them through that future.

Ashwin Shirvaikar, Analyst

Understood. By the way, Bruno, I love the map behind you.

Bruno Guicardi, Founder and President for North America and Europe

Thank you.

Eduardo Galvao, Director of Investor Relations

Our next question comes from Carlos de Legarreta from Itau BBA.

Carlos de Legarreta, Analyst

Two questions from my side. The first one, just looking at the geography breakdown of your revenues, particularly what stands out is the softness in LATAM results, not only for the quarter but for the full year, or the first half of the year. So I just wanted to know your insights on whether you think this is perhaps what will drive the softer guidance and is it attributable to maybe this main client? And secondly, Cesar, I'd love to hear your thoughts on CI&T/FLOW. Obviously, I know you had the event. But I think it would be great to hear firsthand from you. And what are the expectations in terms of which verticals do you think could particularly benefit, or should it be across the board? Thank you.

Cesar Gon, Founder and CEO

Thank you, Carlos. As we noted, LATAM is recovering more quickly than other regions, which I believe is largely due to our client portfolio rather than overall market conditions. Our top client impact remains in the U.S., which alters the dynamics among the regions. Europe is also performing well. We are very optimistic about leading in LATAM, especially in Brazil, thanks to our strong client base. In terms of CI&T/FLOW, we are currently testing various verticals and seeing promising results. The banking sector is one area where we see potential, as is education for various reasons. Telecommunications also presents opportunities to enhance customer service and streamline complex operations. We have engaged two major retail clients, one in Brazil and another in the U.S., among our initial customers. I anticipate that this will extend to multiple sectors. Large operations facing customer experience challenges will likely be the primary beneficiaries of artificial intelligence and CI&T/FLOW. As we continue to develop the platform, I expect it will contribute to efficiency across the board. In a few quarters, we should start seeing notable use cases around generative AI that will drive significant demand in specific verticals. We are very pleased with our results and extremely proud of the customers already collaborating with us on CI&T/FLOW. I believe we made a timely and strategic decision, and I am confident it will create considerable differentiation for us in the future.

Carlos de Legarreta, Analyst

Thank you for that. And if I may follow-up, just I'd love to hear your thoughts. I'm sure you're aware now that Globant announced recently an ambitious plan to double down their investment in LATAM and particularly in Brazil. I just want to hear your thoughts about that. Obviously, we talk to them, but we'd love to hear what's the opportunity that you're seeing? And if these changes had all the outlook that you have in the bigger picture?

Cesar Gon, Founder and CEO

Sure, Carlos. It's amazing to see a company invest where we already are. Brazil, I always repeat that, Brazil is the largest and best tech talent pool in Latin America, and it's the second largest in the Americas time zone. It's an amazing place to play the supply side of our game. I think it's just one more evidence that what we have and the way we play our talent game will continue to be a huge differentiation for CI&T. I believe the good aspect of Brazil is this combination of quality and scale, it is around talent plus domain vertical expertise. We have a big internal market, so you can leverage a lot of banking, retail expertise, telco expertise, in a game that will change toward this new disruption during this set of technologies, but that will have to be applied in different ways for different verticals. I think we have the best blended combination of talent and domain expertise, so I see Brazil playing an even more important role in the future of global digital services. We are lucky to be born here. And of course, building a global business; now around 60% of our revenue comes from the U.S., Europe, Australia and Asia. But having Brazil as still our main source of talent says a lot about the possibilities of scale for CI&T in the future.

Eduardo Galvao, Director of Investor Relations

Thank you, Carlos. We have two questions here from e-mail. The first one is regarding the EBITDA margin. So, how should we expect EBITDA margin for the second half of the year, given you reported 14.5% in the first half of the year and the guidance is pointing to 19% margin?

Stanley Rodrigues, CFO

I can take that one. Thank you for the question. The EBITDA margin has improved in the first half of the year, mainly due to SG&A dilution. Of course, we are closely monitoring our costs and expenses to maintain this lean organization that Bruno mentioned and healthy margins. Of course, that's what we are looking for. It's a good year of cash generation as well, so we are fully focused on both aspects here as we are in this lower growth environment. Of course, part of those savings we have been directed to capabilities of our artificial intelligence endeavor, and we will continue to do it so. So, we expect to maintain a more stable EBITDA margin throughout 2023. Just as a reminder, the EBITDA margin guidance that you mentioned is at least 19%. So, I think that covers.

Eduardo Galvao, Director of Investor Relations

Thank you, Stanley. And the final question we have is regarding M&A. Do you expect to resume M&A in the coming quarters? What are the lessons learned from the companies you acquired in 2022?

Cesar Gon, Founder and CEO

I can start this one. As you know, we concluded our first wave of acquisition last year, which significantly increased and diversified the markets we serve. Now we are dedicated to fully integrating these acquired companies and focusing on leveraging the relationships with the large global clients that we have onboarded. Of course, we are preparing CI&T to resume M&A activity next year. It's important to note that our main core strategy is organic growth, but we recognize the high potential for combined or accelerated organic growth through a targeted set of acquisitions. We continue to analyze opportunities in the market. While we do not plan to make short-term moves in this area, I am confident that we will pursue more deals starting next year based on the successful results we've achieved in the past.

Eduardo Galvao, Director of Investor Relations

All right. So that concludes our Q&A session. Cesar, could you please proceed with your closing remarks, please?

Cesar Gon, Founder and CEO

Sure. Thank you, Galvao, Stanley, Bruno for joining me. Thank you all for participating in our call. Again, a big thank you for all CI&Ters for the solid results in this first half of the year. A lot of challenges ahead, but we are here to overcome those. A special thank you to our clients that select CI&T to co-create this exciting new chapter of innovation powered by artificial intelligence. That's it. Stay well. See you soon.