Concentrix Corp Q4 FY2020 Earnings Call

Ladies and gentlemen, thank you for standing by, and welcome to the Concentrix Fourth Quarter and Full Year 2020 Financial Results Conference Call. At this time, all participants are in a listen-only mode. After the speakers' presentation, there will be a question-and-answer session. Please be advised that today's conference is being recorded. I would now like to hand the conference over to one of your speakers today, Mr. David Stein, Vice President of Investor Relations. Sir, please go ahead.

Thank you, Michelle, and good morning. Welcome to the Concentrix Fourth Quarter and Full Year Fiscal 2020 Earnings Call. This call contains forward-looking statements that address our expected future performance and that, by their nature, address matters that are uncertain. These uncertainties may cause our actual future results to be materially different than those expressed in our forward-looking statements. We do not undertake to update our forward-looking statements as a result of new information or future events or developments. Please refer to yesterday's earnings release and our most recent filings with the SEC for additional information regarding uncertainties that could affect our future financial results. This includes the risk factors provided in our Form 10 information statement. Also during the call, we will discuss non-GAAP financial measures, including free cash flow, non-GAAP operating income, adjusted EBITDA, and adjusted EPS as well as constant currency revenue growth. A reconciliation of these non-GAAP measures is available in the news release and on the Concentrix Investor Relations website under financials. With me on the call today are Chris Caldwell, our President and Chief Executive Officer; and Andre Valentine, our Chief Financial Officer. Chris will provide a summary of our operating performance and growth strategy, and Andre will cover our financial results and business outlook. Then we'll open the call for your questions. Now, I'll turn the call over to Chris.

Thank you very much, David. Good morning, everyone, and welcome to the first Concentrix Corporation earnings call. Let me first start by thanking all our SYNNEX colleagues and specifically, Dennis Polk, Peter Irock, and Marshall Witt for all the support over the years to get us to this point. And last but not least, Bob Long, the founder of SYNNEX, who decided to start investing in the BPO business those 16 years ago. I'm extremely proud of what we've accomplished over the last 16 years. We have built an award-winning global delivery platform augmented by technology for our clients that delivers at scale incredibly well through very dynamic business environments. This has positioned us for a successful spin-off from SYNNEX on December 1, 2020, into our own publicly-traded company. Even though we are 16 years into our history, I'm incredibly excited about the opportunities that lay in front of us. While the results we are announcing today were our last quarter as part of SYNNEX, I believe they demonstrate our strong positioning in the marketplace and our ability to execute as our own independent company. Our revenue growth and profitability exceeded our guidance and expectations, driven by strong execution and our ability to ramp wins from our third quarter faster than originally forecasted. We also benefited from higher-than-expected volumes with a broad set of clients during the quarter. Fourth quarter revenue of $1.3 billion represents an increase of 7.3% compared with last year. On a constant currency basis, revenue increased by 6.3%. Non-GAAP operating income of $175 million was up 6% compared with last year on an adjusted basis. Adjusted EBITDA increased 7% to $211 million compared with $198 million last year. These results also include an additional net expense of $21 million for our COVID-related costs. Our accelerated growth in the quarter came across several key verticals, including technology, retail, e-commerce, health care, and banking that Andre will provide more color on. This more than offset the impact of our portfolio rebalancing efforts and the COVID-related muted volumes in the travel vertical that we have been messaging about over the prior quarters. From a client demand perspective, our momentum continued with another very good quarter of strong new business signings. We are signing larger contract value deals and believe we are taking share with existing clients. During the fourth quarter, we signed more than two dozen new clients, including more than a half dozen new disruptive digital-only brands. Our pipeline remains strong and prospects for new businesses are nicely balanced across our verticals and geographies that we service. Recent examples of our wins with iconic and disruptive brands include end-to-end solutions for social media content moderation and fintech digital wallet support. We believe these new clients chose Concentrix because of our culture, global footprint, domain expertise, and technology solutions to help support the rapid growth in the marketplace. From a market standpoint, our wins also span many countries in Asia and Latin America, such as Australia, Japan, Korea, Singapore, India, and Brazil as well as North America and Europe, furthering our strategy of a geographically diverse client base. While COVID-19 in 2020 has been a challenge for all companies, we are prepared for its continued impacts throughout the remainder of 2021. Client acceptance, accolades, and awards we have received during this pandemic reflect the quality of our response to the challenge, swift reaction to changing customer needs, quick deployment of work-at-home solutions at scale, and focus on the health and safety of our staff. 90% of our impacted clients indicated a willingness to give us more business based on our response when we surveyed them. In this environment, we remain focused on keeping our staff safe, over-delivering for our clients, and emerging from the pandemic stronger. Today, approximately 60% of our staff globally are supporting our clients from home. In summary, I'm very pleased with the execution this quarter and for the full year. We deepened our partnerships with disruptive and iconic brands, deployed digital transformation and virtual engagement solutions that drove meaningful results for our clients, and delivered strong financial performance. Now as our own independent company, we remain focused on four strategic drivers for sustainable and profitable growth: First, expanding wallet share through deepening relationships with our clients; second, relentlessly innovating and developing our new digital solutions; third, investing further in emerging markets around the globe; and finally, selectively pursuing strategic acquisitions, building on our track record as a proven successful industry consolidator. Finally, I would like to thank our exceptional staff for their dedicated service, our clients for their trust, and our new very talented diverse Board of Directors for their support. And with that, I would like to turn the call over to Andre.

Well, thank you, Chris, and good morning. I'll begin with a look at our financial results for the fourth quarter and then discuss our business outlook for the first quarter of fiscal 2021. We experienced a strong improvement in revenue and profitability in the fourth quarter. Revenue in the fourth quarter was $1.3 billion. On a constant currency basis, revenue increased 6.3% compared with last year. Reported revenue reflected a positive foreign currency impact of $12 million. Our strong growth was generated by a number of our strategic verticals. Revenue from the technology and consumer electronics vertical grew approximately 19%, reflecting strong growth across a broad-based group of clients. Revenue from clients in the retail, travel, and e-commerce vertical grew by approximately 20% as growth with several retail and e-commerce clients more than offset the expected lower volumes from travel and tourism clients. Revenue from travel and tourism clients was just under 5% of total revenue in the fourth quarter of 2020, down from approximately 6% last year, reflecting an approximate 1% impact on the overall company growth rate for the quarter. Revenue from health care clients grew 17%, largely as a result of strong seasonal volumes. Our strong growth across these verticals was partially offset by a 12% reduction in revenue from communications clients. Revenue from communications clients was approximately 18% of total revenue in the fourth quarter, down from 22% last year, reflecting a nearly 3% impact on the overall growth rate for the quarter. The rebalancing of our vertical mix has made us less reliant on the communications vertical. Importantly, we believe this rebalancing of our portfolio mix is nearly complete, and we expect it will have a significantly less pronounced impact on our 2021 revenue growth. Contributing to the growth across our strategic verticals were our nearly 100 global disruptor clients, representing about 17% of our fourth quarter total revenue, which grew by roughly 20% year-over-year. Turning to profitability, as expected, profit improved meaningfully on a sequential basis compared with the third quarter. On a year-over-year basis, non-GAAP operating income was $175 million in the fourth quarter compared with $165 million last year. Our non-GAAP operating margin was 13.5%, down slightly from 13.6% in the fourth quarter last year. Fourth quarter adjusted EBITDA was $211 million compared with $198 million last year, and our adjusted EBITDA margin was 16.2% compared with 16.3% last year. Our profitability reflects flow-through from revenue growth and synergy attainment. On a net basis, COVID-19 expenses approximated $21 million in the fourth quarter. Fourth quarter results also reflect increased investment in support of strong new program ramps that will turn into revenue through the next two quarters. In terms of net income, in the fourth quarter, non-GAAP net income was $107 million compared with $80 million last year. Adjusted EPS was $2.07 compared with $1.55 last year. GAAP results for the fourth quarter of 2020 included $37 million of amortization of intangibles; $14 million of acquisition, integration and spin-off related expenses; and $4 million of share-based compensation expense. I'll point out that our treatment of share-based compensation expense in our non-GAAP measures is different than how it has historically been presented in the SYNNEX results. We made this change to be more comparable to our industry peers. GAAP EPS was $1.25 compared to $0.62 last year. Our tax provision presented in the earnings release reflects taxes as if we are on a stand-alone basis, even though we will be part of the SYNNEX fiscal 2020 U.S. tax return. Our standalone effective GAAP tax rate of 44% in the fourth quarter was higher than our expected future tax rate. COVID-19 impacts resulted in lower overall taxable income for full year 2020, which increased our exposure to certain U.S. base erosion and anti-abuse taxes. Moving forward, under current tax regulations and with expected improvements in profitability, we expect our effective tax rate to approximate 29% on both a GAAP and non-GAAP basis. Now I'll move to a few other financial details from the quarter. In terms of cash flow, fourth quarter cash flow from operations totaled $119 million, and capital expenditures totaled $65 million, generating $54 million of free cash flow in the quarter. Capital expenditures were elevated in the fourth quarter, primarily as we made investments to support work-from-home services. On an ongoing basis, we expect capital expenditures to fall in a range of 3.5% to 4% of revenue. We expect about half of our capital expenditures to be for maintenance and about half related to new capabilities, investing in technology, digital, and security to support work at home and to drive organic growth. Turning to the balance sheet, at the end of the fourth quarter, cash and cash equivalents were $153 million, and net debt was $992 million. About 89% of our cash was held outside the U.S. On November 30th, we incurred our initial borrowings under our $1.5 billion five-year credit facility and our two-year $350 million accounts receivable securitization program. Total debt outstanding at the end of the year was $1.145 billion, and this includes $900 million in borrowings on our five-year term loan under the credit facility and $250 million in borrowings under the accounts receivable securitization net of issuance costs. At the end of the year, gross leverage was approximately 1.8 times adjusted EBITDA and liquidity remained strong with over $850 million of cash, undrawn lines of credit and capacity on our AR securitization. Our current liquidity gives us significant financial flexibility. Our priorities for capital deployment include growing existing business through funding organic and strategic growth opportunities. Now, I will discuss our business outlook for the first quarter of fiscal 2021. Balancing the continued uncertainty related to COVID-19 with our current business momentum, we expect revenue to be in a range of $1.26 billion to $1.31 billion. This includes an approximately 2% positive impact of foreign exchange rates compared with the comparable period in 2020. Our profitability expectations include non-GAAP operating income in a range of $148 million to $162 million. We expect interest expense in the first quarter to be approximately $8 million. We expect an effective tax rate of approximately 29% and a weighted average share count of approximately 52 million shares. Our non-GAAP operating income guidance excludes approximately $34 million related to the amortization of intangibles and $7 million of share-based compensation expense. While we do not guide further than one quarter out, we feel confident in our ability to grow Concentrix at or above industry growth rates while increasing non-GAAP operating margin over time. Our expectations for fiscal '21 include a typical seasonal pattern for the business for sequential volumes rolling off and impacting revenue and profitability for the first half of the year as sequential increases begin in the third quarter. Our business outlook does not include any future acquisition-related impacts or transaction or integration costs. Also not included in the guidance are impacts from future currency fluctuations. In closing, we are pleased with our results, and we are confident in our outlook. We are a well-positioned global leader in a large, fragmented, and growing market. We're executing a plan to grow organically faster than the market, and we expect the impact of portfolio rebalancing to have a much smaller negative impact on our growth rates as we move forward. As a proven, successful consolidator in our market with a strong balance sheet, we believe we're in a great spot to deliver sustainable growth, margin progression, and strong free cash flow. At this time, Michelle, please open the line for questions.

Thank you. Our first question comes from the line of Ruplu Bhattacharya with Bank of America. Your line is open. Please go ahead.

Thank you for taking my question, and congratulations on the impressive first-quarter results as a public company. Chris, could you share your insights on inorganic growth? While you experienced significant organic growth this quarter, you've previously mentioned the potential for mergers and acquisitions. Can you discuss the possible scale and which end markets would be suitable for Concentrix from an inorganic perspective?

Thanks, Ruplu. From my perspective, what we're looking at is what's additional and accretive to our client base, either by adding unique clients into our client set that we have service offerings to take advantage of, or sort of capabilities to go into the verticals that we're already dealing with. A good example would be commercial banking; we're very interested in because we're very strong in the retail business. From a size perspective, we're quite open. It's really about what we believe has the highest return for our shareholders and what is the fastest way to add revenue and profitability when you look at doing the acquisition.

Got it. And can you comment on the mix of voice versus non-voice services that you have currently? And what would be the long-term target? Can you just talk about some of the non-voice services that you provide today? And how should we think about that mix going forward?

Non-voice continues to kind of creep up as we go ahead and automate a lot of the voice and put in more IVR and more digital solutions for our clients. That said, voice still continues to be strong. I think we've talked about trying to get to a 50-50 split, and that still is sort of our goal over a period of time, and we continue to make progress toward that. That said, we have found clients who are looking for sort of true high-end customer experience, wanting a balance between voice and non-voice solutions to handle their customer demand, but overall, that's directionally where we're headed.

Got it. And maybe just one more question. In terms of working from home, I think you mentioned that 60% of the workforce is currently working remotely. Previously, you've indicated that it takes time to evaluate the productivity of remote workers. Do you believe that those working from home are as effective as those in the office? Also, what should we consider regarding the long-term target of around 30% to 35%? What timeline are we looking at for employees returning to the office? Additionally, you've mentioned international expansion. Will you need to hire more staff for that, or what is the plan?

Yes. First off, I wouldn't call them call centers. The reality is that our sites deliver a lot of services—voice, non-voice, technical solutions, development, and just a host of different types of services out of our physical delivery sites. In terms of the work at home, productivity for the whole is better in most regions. I will say, there are some regions where productivity is at par to delivery sites or may be just a tiny bit less. It's a bit of a flux. There isn't one answer that fits all around it, but overall, we're very happy with the productivity we're seeing from our team members around the world. In terms of getting back to 30%, that's something we've kind of ballparked based on the type of work we do and the fact that some staff are looking forward to getting back. But our expectation is probably a discussion for 2022, not in 2021 based on vaccine rollouts and other factors. We're in no rush to bring people back. It's really about when it's the right time for our team members. Regarding hiring for international expansion, we have a very distributed sales and account management team and, of course, the operations team around the globe. We will continue to add and invest in those areas, but there is no real need to hire significantly more to grow that business.

Got it. Thanks for all the details, and congrats again on the strong results as well as the strong guidance. Thank you.

Great, thanks very much.

Thank you. And our next question comes from the line of Shannon Cross with Cross Research. Your line is open. Please go ahead.

I guess, my first question is—and obviously, work from home plays very strongly into this—but I'm curious what else you've learned about your business given COVID with such a people-intensive nature. What things have you put in place where you might think there is more opportunity for automation or if there is anything else that you've learned about your business from the standpoint of COVID-related costs? How quickly do you expect those costs to wind down? And where might we see that? I have a follow-up after that.

Shannon, good to talk again. I think first off, what we've learned from just the overall business model is how robust our service model is. We provide and support businesses day in and day out and are tied at the hip to our clients to ensure their success, especially during COVID. This really showed the strong working relationships we have with our clients. From a staff perspective, things that we could automate that historically took months to decide during COVID have turned around very quickly. We've seen a lot more consumption of our digital services in a shorter timeframe than historically how we rolled them out. Regarding taking care of our staff, we emphasized mental health and making sure there is comfort within the environment, tips on productivity in the home environment, and different digital training delivery to ensure our staff are up to speed. If you look at all the processes that historically might have been done on site, we've been able to scale very quickly from a work-at-home perspective.

To your question on the COVID-19 costs, those costs that we're incurring are aimed at delivering for our clients and ensuring our staff’s safety. As we think about our guidance for the first quarter, you should assume that these similar levels of spending are likely to remain, and we think that will be with us for a few quarters looking into 2021.

Okay. And then I guess my final question is just, regarding the sales process and the customers you're talking to, can you provide any idea if you've been able to expand into maybe incremental, not verticals, but tangential areas with the conversations you've had with your customers?

Shannon, we haven't expanded our verticals that we're focused on delivering for. We're very focused on building deeper domain knowledge within the verticals we’ve identified as strategic to us. Our clients are looking to give us more of their work and asking us to transform that work, whether it be with more digital solutions, more automation, creating a one-stop shop that offers comprehensive solutions. This has allowed us to build a stronger relationship and be a more valued partner to them.

Thank you. And our next question comes from the line of Dave Koning with Baird. Your line is open. Please go ahead.

Great job.

Thank you, David.

I'm interested in the shift of business over time. You've done a great job diversifying away from the telecom clients, and now it sounds like an increasing portion is within the global disruptors. Does that change the margin dynamics over time? Are those global disruptors yielding higher margins?

David, it’s a bit of a combination. Within the verticals that we service that are not mobile disruptors, we've clearly seen margin progression as we move up the value stack by putting in more technology and more automation. This will continue as we believe there's room for further margin improvement over the coming quarters and years. From a disruptive perspective, they consume similar services, albeit differently. They tend to look at different geo deliveries, rapid scale, and a higher offshore mix, which helps our overall margin mix as we go forward.

Okay, thanks on that. And regarding long-term margins, you've done a really nice job with margins, but is the at-home mix sustainable? Will that help over time?

Yes, David. We have a very variable cost model from a facilities perspective. If needed, we could remove facilities from our infrastructure should we want a larger percentage of work at home. However, sentiment from clients does not indicate a significant shift in that direction at this stage. The margin profile is slightly better with work at home but not significantly, as there are investment costs for our work-at-home staff that may not be apparent. While it helps, it’s not a vast improvement. Long-term margins will also be driven by growth in strategic verticals, growth in emerging markets where margins can be higher, and greater efficiency through technology introduction.

As Chris mentioned, the long-term drivers of margin progression include growth in the strategic verticals, growth in emerging markets, infusion of technology into our offerings, and leveraging G&A as we grow. These factors provide us confidence in increasing margins in the future.

I saw something interesting from Fiserv as a bank software company; they mentioned a 33% lift in calls to call centers of banks. Is there a chance this is sustainable?

Yes, David. We see both a one-time volume increase driven by the pandemic and a sustainable long-term shift to an outsourcing model. The new models, driven by fintech growth and retail traffic transitioning to e-commerce, are sustainable and here to stay. That's key for us moving forward.

So, go ahead, operator.

I was just going to say, I'm showing no further questions, sir.

All right. Well, at this time, thank you all very much for your participation on the call today, and we will end the call.

Ladies and gentlemen, thank you for participating in today's conference. This does conclude the program, and you may all disconnect. Everyone, have a great day.