Earnings Call Transcript - CNXC Q3 2021

Operator, Operator

Good day ladies and gentleman, and welcome to Concentrix's Fiscal Third Quarter Twenty Twenty One Financial Results Conference Call. At this time, all participant lines are in a listen-only mode. Later we will conduct the question-and-answer session and instructions will be given at that time. As a reminder today’s call is being recorded. I would now like to turn the call over to your host today, David Stein, Vice President, Investor Relations. Please go ahead.

David Stein, Vice President, Investor Relations

Thank you, Sarah and good morning. Welcome to the Concentrix third quarter fiscal twenty twenty one earnings call. This call is the property of Concentrix and may not be recorded or rebroadcast without the permission of Concentrix. 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 events – 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 Annual Report on Form ten K. 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 adjusted 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 will open the call for your questions. Now I will turn the call over to Chris.

Chris Caldwell, President and CEO

Thank you very much, David. Good morning, everyone, and welcome to our third quarter earnings call for fiscal twenty twenty one. I will be covering our announcement about our new dividend and share repurchase program later in my comments, but first I want to start off with our strong operating results. We delivered outstanding organic growth and profit progression in the third quarter. Our recorded revenue of one point four billion dollars represents reported revenue growth of twenty percent compared with last year. On an adjusted constant currency basis, revenue increased nineteen percent. Our third quarter Non-GAAP operating income improved to one hundred and eighty two million dollars, up forty nine percent compared with last year. Adjusted EBITDA increased forty percent to two hundred and fifteen million dollars, and Non-GAAP earnings per share increased sixty three percent to two point four nine dollars. We delivered these strong results while continuing to invest in our stock, our client relationships, and our technology platforms. Digging into our operating results in more detail, we saw revenue growth across all verticals, particularly in technology, retail, banking, and healthcare. Revenue from our travel and transportation clients for the first time exceeded pre-pandemic levels in the third quarter with particular strength in Europe and Asia. This is encouraging as we look to regain the business we lost from the pandemic. Additionally, during the quarter, we drove broad-based growth across all geographies. While we are encouraged by these growth trends, nevertheless, COVID continues to impact our team and operations during the quarter. We experienced virus surges primarily in Asia and continued to invest in the physical and mental health of our staff, including providing vaccine support in many of the regions we operate in. Our work-at-home staff stayed level at seventy percent even as we experienced COVID-related impacts in the third quarter. We remain strong overall, demonstrating the resilience of our operating model. Our results include a net COVID impact on profit of approximately six million dollars. In addition to the strong revenue and profit performance in the third quarter, we continue to see very strong new business signings. This included all-time high new logo acquisitions, as we signed more than two dozen new clients in the quarter, including over a dozen new disruptive brands. Our revenue from disruptive clients is now at a run rate approaching one point one billion dollars of total annual revenue. Our clients view our combination of deep domain expertise, digital-enabled global deliveries, and our ability to invest in secure, adaptable, and scalable technology infrastructure as key differentiators. We are proud to have received all-time high scores for innovation from our clients during the third quarter. We will be stepping up our investment in our technology platforms to continue this momentum as we see long-term benefits of this strategy. Our sales pipeline continued to grow across all regions and verticals during the quarter, and we expect the fourth quarter to be another strong quarter of new business signings. This gives us confidence in our ability to drive incremental growth in future quarters. We now expect above-market adjusted constant currency revenue growth of approximately seventeen percent for the full year with meaningful profit margin expansion well above pre-COVID levels. Looking forward, we are bullish on CX market fundamentals, client demand for innovative digital and technology solutions, and our ability to execute more opportunities for value creation. Our continued strong financial position provides flexibility for us to invest in the business and enhance shareholder value across multiple areas. Based on our current financial strength and our confidence in the future, today we announced a quarterly dividend and share repurchase program as part of our capital deployment plan to increase shareholder value. We are pleased to initiate a quarterly dividend of zero point two five dollars per share in the fourth quarter. We are also pleased that our Board has authorized a five hundred million dollars stock repurchase program. We are committed to continuing to look for accretive M&A targets, and even with our announcement today, we have the ability to invest significantly in the right acquisitions. In summary, we expect to achieve faster than market growth with margin expansion. As a market leader, we are focused on continuing to drive superior execution and enhanced shareholder value. I would like to thank our exceptional staff for their commitments to execution, our clients for their trust, and our Board of Directors for their support and mentorship, and our investors for their confidence in Concentrix. Before I turn the call over to Andre, I want to let you know we are planning to hold an Investor Day in January twenty twenty two to review our progress since our spin-off last year and the incredible opportunity in our superior ability to lead in the CX industry. So look for the save-the-date communication later this quarter. Now, I will turn the call over to Andre.

Andre Valentine, Chief Financial Officer

Thank you, Chris, and it's good to be with you today. I'll begin with a review of our financial results for the third quarter and then discuss our business outlook for the fourth quarter. We delivered strong revenue growth with margin expansion in the quarter. Our revenue of one point four billion dollars came in at the high end of our guidance for the quarter. Reported revenue included a foreign currency benefit of twenty three million dollars. As discussed in our earnings call last quarter, we divested non-CX elements of our insurance business as well as a small mobile networks business during the quarter. To help evaluate our constant currency revenue growth without the impact of these divestitures, we've introduced the new metric, adjusted constant currency revenue growth, which removes the impact of both foreign currency translation and the divested businesses. On this adjusted constant currency basis, revenue increased nineteen percent in the third quarter. The strong growth reflects increased demand across a broad set of existing and new clients in all verticals and in every region. Our top-performing vertical in terms of year-over-year revenue growth was banking, financial services, and insurance, which grew twenty seven percent due to strong increases with multiple banking and FinTech clients. Revenue from retail, travel, and e-commerce clients grew twenty six percent. Technology and consumer electronics and healthcare verticals each grew by approximately twenty four percent. Communications and media client revenue grew seven percent against the prior year quarter while growing slightly sequentially. On a combined basis, we grew with clients in our other verticals by eleven percent. Contributing to the growth were more than one hundred and fifteen global disruptive clients. These clients represent about twenty one percent of our revenue in the quarter or approximately two hundred ninety three million dollars and grew by fifty four percent year-on-year. Turning to profitability, Non-GAAP operating income exceeded our guidance for the third quarter, coming in at one hundred and eighty two million dollars with a Non-GAAP operating margin of thirteen point zero percent. Third quarter adjusted EBITDA was two hundred and fifteen million dollars, with an adjusted EBITDA margin of fifteen point four percent. The strong profitability reflects flow-through from strong revenue growth, which more than offset the continued impact of COVID on the business. In terms of net income, in the third quarter, Non-GAAP net income was one hundred and thirty two million dollars and adjusted EPS was two point four nine dollars, up sixty three percent from the prior year. GAAP results for the third quarter included thirty four million dollars of amortization of intangibles, nine million dollars of share-based compensation expense, and a pre-tax gain of thirteen million dollars related to the divestitures I mentioned earlier. GAAP-diluted EPS was two point zero eight dollars. Our effective GAAP tax rate was twenty eight percent in the third quarter. Moving to cash flow, cash flow from operations in the third quarter totaled approximately ninety three million dollars, and capital expenditures in the quarter were forty two million dollars. Capital spending was approximately three percent of revenue and we continue to invest in support of growth, particularly in our work-from-home and digital offerings and security. Accordingly, we generated free cash flow of fifty one million dollars in the quarter. We continue to expect capital expenditures for the full year to be in the range of three point five percent to four percent of revenue. Also in the quarter, we received proceeds of seventy four million dollars from the divestitures. Turning now to the balance sheet, at the end of the third quarter, cash and cash equivalents totaled one hundred and fifty four million dollars. Total interest-bearing debt was eight hundred sixty six million dollars net of issuance costs. This debt consisted of seven hundred million dollars on our term loan and one hundred sixty nine million dollars against our accounts receivable securitization. During the quarter, we paid down ninety four million dollars of borrowings using divestiture proceeds and free cash flow. Net debt was seven hundred twelve million dollars at quarter end. We ended our third quarter with gross leverage of approximately one point zero times our trailing four quarters adjusted EBITDA and zero point eight on a net leverage basis. Our liquidity remained strong with over nine hundred thirty five million dollars of cash under lines of credit and capacity on our accounts receivable securitization. Our current liquidity gives us significant financial flexibility. Our strong results, financial position, and free cash flow generation create options for us to invest in the business and enhance shareholder value. Our priority for capital deployment remains growing the existing business through funding organic and strategic growth opportunities. We have the financial flexibility to do this while providing disciplined returns of cash to shareholders. We remain comfortable with up to three times gross leverage, which provides ample capacity for future disciplined M&A. Now, I'll turn to our expectations for the fourth quarter. Given the continued strong demand for CX solutions, we expect fourth quarter revenue to be in the range of one point four four billion dollars to one point four eight billion dollars. This translates to a range of eleven percent to fourteen percent in adjusted constant currency revenue growth. The adjusted constant currency growth includes an approximate negative nine million dollar combined year-over-year impact from the divested businesses and currency translation. We expect fourth quarter Non-GAAP operating income of one hundred and ninety five million dollars to two hundred and five million dollars, reflecting flow-through from strong seasonal revenue growth. For the fourth quarter, we expect interest expense to be approximately five million dollars, and we expect an effective tax rate of twenty seven percent to twenty eight percent and a weighted average diluted share count of approximately fifty two million shares. Our Non-GAAP operating income guidance for the fourth quarter excludes approximately thirty four million dollars related to the amortization of intangibles and eleven million dollars of share-based compensation expense. Our guidance for the fourth quarter implies full year twenty twenty one revenue of just under five point six billion dollars or approximately seventeen percent revenue growth on an adjusted constant currency basis. We expect the combined impact of divested businesses and foreign exchange rates will be just above a one point positive impact on the full year twenty twenty one reported revenue compared with twenty twenty. Our guidance also implies that our full year twenty twenty one Non-GAAP operating income margin will be approximately thirteen point zero percent. In closing, we are very encouraged by our results and the progress we are making across the business. We are confident in our expectations for the fourth quarter and beyond. As a global leader in a large fragmented and growing market, we are executing a plan to grow organically faster than that market. As a proven industry consolidator with a strong balance sheet, we are well positioned to deliver sustained growth, margin progression, free cash flow, and enhance shareholder returns. At this time, please open the line for questions.

Operator, Operator

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

Ruplu Bhattacharya, Analyst

Hi thanks for taking my questions. Congrats on the quarter and congrats on the capital return plan with the dividend. Maybe for my first question, I'd like to ask Chris. Maybe on pricing, can you give us an idea of what percent of your contracts are based on FTE or full-time employee based pricing versus other pricing mechanisms such as output-based pricing or gain sharing? And the reason I asked this is, as you see your mix shifting away from voice to more non-voice services as you provide more value. Do you think that mix of pricing mechanism towards more performance-based pricing can happen and do you see that mix shifting?

Chris Caldwell, President and CEO

Yes. So, Ruplu, I would answer in two parts. I think right now what we've said is we still have more than fifty percent of our revenue tied to a component that relates to a unit of measure, which might be a person or transaction, or other type of metric that we use that is directly related to cost. Our gain share model continues to grow. So the deals that we're winning now are increasingly based on gain share, which we enjoy as it helps drive our margins going forward and aligns our interests with our clients, but we still have a lot of older business that we continue to work through that is based on the unit of measurement.

Ruplu Bhattacharya, Analyst

Got it. Thanks for that. Can I ask you about labor costs as well as the competition for labor? Again, as you mix shift more towards higher value services, are you seeing more competition for skilled labor? And just how is that trending in the phase of COVID and the current environment?

Chris Caldwell, President and CEO

Yes, I think actually, look, the markets are always competitive and we go after our top-tier staff to make sure that we create the right environment and culture to hire and retain them, and help them grow their careers with us. We have not had a challenge to this point, but we're always focused on making sure that we have the right environment and we are competitive in the marketplace. We are committed to creating an environment that people want to join and where they can continue to grow their careers with us.

Ruplu Bhattacharya, Analyst

Got it. I have a couple of quick ones for Andre if I can sneak them in. Andre, could you remind us of what the typical seasonal or seasonality is going from Q3 to Q4? I mean Q4 is typically a strong quarter for you guys. I think you're guiding four point five percent sequentially and you're guiding about the street, so that's great. But this seems a little conservative, given past historical performance, or maybe that's being impacted by the divestiture. So can you just remind us on what typical seasonality is and how the guide compares to that?

Andre Valentine, Chief Financial Officer

Yeah. I think typical seasonality is just as you've suggested, Ruplu, which is that the fourth quarter is a strong quarter from a seasonal perspective. And you see that in our guidance. Admittedly, we are not guiding to as much sequential growth as we had last year. Q3 was still a little impacted last year by COVID, and that probably contributed a little bit to the sequential ramp that you saw last year. Also, some of the verticals where we're seeing growth, particularly around consumer electronics and tech, have a little bit less of a seasonal component than some of the other verticals that we're in. But again, we have signaled all along that we expect strong sequential growth from Q3 to Q4, and our guidance reflects that.

Ruplu Bhattacharya, Analyst

Right. Okay, thanks. Thanks for the details on that. Then very last question for me is on the capital return plan. Can you help us think about the buyback? You've put a new authorization in, but how should we think about the cadence of the buyback? And just also in terms of you mentioned M&A a couple of times, what is the focus in terms of the size of an acquisition or what parameters you keep in mind when you look at acquisitions? Thanks again.

Andre Valentine, Chief Financial Officer

Sure. So, I’ll be happy to do that. And Chris can clean up if I miss anything. I would say as it relates to the pace, I certainly don't want to predict how fast we will enter the market under the share repurchase plan, but I think if you look at what we're doing with both the dividend and the share repurchase, you're going to see us start fairly modestly in terms of capital return. That said, we do believe our shares are undervalued, but we also believe that investing in organic and accretive M&A is the best use of capital to drive shareholder value. So, the repurchase is part of a balanced capital allocation plan that includes accretive M&A on a disciplined basis along with the dividend. If you look at the size of the authorization, it's pretty much in line with our peer group's most recent authorizations as a percent of outstanding shares. I would imagine our pace will be similarly in line with that, so certainly, as you put the five hundred million dollars in place, that is there to be used over a fairly long period, and I think that probably gives you some color on that. As for the M&A, we're very focused on that. And as Chris has mentioned, we have ample capacity for M&A of various sizes. We're going to be disciplined in our approach, and we could certainly have the firepower to do large acquisitions, but we are also focused on tuck-ins that can increase the value of the platform. I'll let Chris add anything you'd like to that.

Chris Caldwell, President and CEO

I’d agree, Andre. To us, the financial returns and the strategic significance of any M&A are more important than just the size in terms of dollar value.

Ruplu Bhattacharya, Analyst

Got it. Thanks for all the details and congrats again on the quarter.

Andre Valentine, Chief Financial Officer

Thank you.

Chris Caldwell, President and CEO

Thanks.

Operator, Operator

Thank you. Our next question comes from the line of Shannon Cross with Cross Research. Your line is now open.

Matthew Miranda, Analyst

Hi. This is Matthew Miranda on for Shannon Cross. I just got a couple here. Can you walk us through the puts and takes on operating margin this quarter? You performed pretty well at guidance. Is there anything specific to call out there, maybe quantifying the impact from the wage increases in the quarter and how we should model that going forward? And then that's the follow-up. Thanks.

Chris Caldwell, President and CEO

Yes. So, if you think about our performance, we came in roughly seventy million to eighty million dollars above the high end of our guide range, and we were at the high end for revenue, so you would probably think that maybe we should have come in there. What we saw in the quarter that drove the over-performance versus our guidance was really strong performance on the ramps that offset some of the expected investment. We did see a good response to the U.S. wage adjustments that we made, improving hiring and attrition, and also partnering with our clients to ensure that we have the skilled staff to deliver the exceptional customer experience that we do. On balance, we saw a little bit less net COVID spend. I would say these three things were each kind of equally weighted towards that kind of eight million to seventy million dollars of over-performance at the high end of our guidance.

Matthew Miranda, Analyst

Great. That's helpful. Thank you. Just one more. You had some pretty broad-based demand across the voice for the last few quarters. Are you just trying to get a sense, looking into fiscal twenty two. I know these growth rates, they're probably not as sustainable given the tougher comps. But do you see any verticals that are going to start slowing down or vice versa, that you see maybe ramping up going into twenty two? And then just one more down the squeeze in here, specific from a geographic perspective this quarter? Thank you.

Chris Caldwell, President and CEO

Yeah, Matthew. I'd look at it first; let me answer your second question first. From a geographic perspective, we were happy because we saw strong demand and growth, frankly, in all our geographies, which is nice since us a couple of quarters that we've actually seen that. We saw that we have a little bit of a different mix about what's growing faster than others, but we called out, for instance, travel transportation and Asia as one of those. Overall, we’re really happy. I will tell you we see still strong demand across all of our key verticals going into next year. We see it in consumer electronics, in technology, in FinTech within the banking area, certainly in healthcare, and as we mentioned, we're seeing travel and transportation starting to come back in certain markets. As hopefully, COVID gets more under control, we hope to benefit from that vertical going back to where it was from a number of clients' perspective and certainly now back to where it was from a dollar perspective. But we see a lot more opportunities coming into the future with that vertical.

Matthew Miranda, Analyst

Okay. Thank you so much.

Operator, Operator

Thank you. Our last question comes from the line of Vincent Colicchio with Barrington Research. Your line is now open.

Vincent Colicchio, Analyst

Yeah, Chris, it was nice to see telecom grow against sequentially. Should we expect continued growth there going forward?

Chris Caldwell, President and CEO

Yeah, Vince. As we've talked about, there's some telecom business we very much like, based on the consumption services that we offer and on the technology we offer. We've reached the bottom of where we want to bring the telecom portfolio, and then it will start to grow based on what it is, along with some of the new services we do. So, I would consider it likely to continue to grow, but obviously, we're growing the overall business faster and bigger, so it will probably stay roughly around the current percentage of business that we are seeing.

Vincent Colicchio, Analyst

And on the acquisition side, are you finding, I know you guys are careful and diligent in terms of what you pay for deals. Are you finding for the most part, opportunities being too expensive right now?

Chris Caldwell, President and CEO

I think we've said we're seeing unrealistic expectations from some of the sellers in the marketplace, both driven by the robust public markets and private equity that likes the space. That being said, there are still opportunities that make sense for us, and what we're most focused on is ensuring that there’s a strong strategic fit for any acquisition and whether it will drive the right financial returns as the business runs, and if it will enhance shareholder value in the long term. As long as it matches up well, we will execute and complete that transaction within those parameters.

Vincent Colicchio, Analyst

And are you seeing any movement on pricing in any of your geographies given the tightness of the labor market?

Chris Caldwell, President and CEO

No, pricing has remained pretty steady. Going back to an earlier question, we tend to focus more on doing gain share and aligning our economics to our client’s economics, which complicates pricing around those types of relationships. Therefore, it has not changed much. Things are always competitive in this marketplace, but generally, pricing remains steady.

Vincent Colicchio, Analyst

Okay. Most of my questions were answered. Thank you.

Chris Caldwell, President and CEO

Great. Thank you very much, Vince.

Operator, Operator

Thank you. There are no further questions. I will now turn the call back to Chris Caldwell for closing remarks.

Chris Caldwell, President and CEO

Thank you very much, everybody, for joining us today. We always appreciate your interest in Concentrix. We're extremely pleased with our strong execution and confident in the strength of our business model and our track record as a consolidator in the CX industry. Again, please look for the save-the-date for our investor relations day coming up in January twenty twenty two, and we look forward to seeing you in the next quarter. Thanks very much, everybody. Appreciate it.

Operator, Operator

Ladies and gentlemen, this concludes today's conference call. Thank you for your participation. You may now disconnect.