Proact IT Group AB

STO:PACT

Earnings Call Transcript 2022-Q3

[Jonas Hasselberg, executive]

Good morning, everyone. We'll start here in a second. We're just let -- letting everybody into the Teams Meeting. So bear with us for a second. All right. Well, just one more minute, then we'll have everybody in the meeting. So bear with us for a little bit longer.

All right. Good. Thank you. So good morning, everyone. My name is Jonas Hasselberg. I have Linda Holjo here with me as well, our CFO. We're going to go through the Q3 results for Proact. Before I start, 2 things that you need to be aware of. One, we're recording this session, so we can put it up on the web, just you know, and then you will all be muted throughout the session. So if you do want to ask a question, you need to unmute yourself first. And obviously, we'll also make sure there's plenty of time after the presentation for questions, but you will be muted and need to unmute when you speak. All right. That's the -- those are the instructions. So here we go. We're going to talk a little bit about as normal. We're going to speak about our brief introduction to Proact. Most of you know us very well, but there may be some new ones out there. So we'll do -- do an introduction, high-level view of the market, then we'll go a little bit deeper into the financial results for the quarter. So that's the agenda that you're getting used to by now. So Proact, like I said, this already we've been around for almost 30 years. Our value to our customers is that we help them get value from IT. We deliver IT infrastructure to large enterprises across Europe within [ 30 countries ]. We're turning over, a bit over SEK 4 billion now or even SEK 4.2 billion this latest -- latest quarter. And we're about 1,200 employees across these countries. And you know this from before, one of the things that are [indiscernible] us is that we're very focused on providing very high skills and expertise to our customers. So these 1,200 people are highly skilled and [indiscernible] what they do. Market wise, same macro or overarching trends that are driving our business. [indiscernible] going on for quite some time, but they are still the engine behind our business to a large degree. Number one is the business [indiscernible], mostly, all of our customers are transforming their business in one way or the other and they use IT and technology to [indiscernible] could be anything, we see customers automating a lot of their productions, we see [indiscernible] smarter decisions or analyze data, deliver better user experience, sell their [indiscernible] sorts of different business [indiscernible] behind the transformation. And a couple of things in common there, definitely IT being [indiscernible] another very important enabler. So being able to not only store, but actually use all that [indiscernible] business better. Again, whether that's making smarter decisions or just automating their processes, typically, that is the core. And that's something [indiscernible], and we've been working on for the past 30 years, helping our customers get value from data. The other trend, which is also very obvious, and it's been going on for quite some time is that practically all these investments are based on cloud technologies or what we call multi-cloud or hybrid cloud. And what we mean is that the actual technology architecture is cloud-based. It doesn't mean that it's what we would call a public cloud like Microsoft, it could be a Microsoft -- could be a Microsoft cloud solution, could be a Google, could also be a Proact cloud solution or in many cases, customers deploying technology in their own data centers using cloud architecture. So cloud here is a technology definition, not so much whether it's a Microsoft or a Proact or on-premise. And then the third one, which may be a little bit less positive, but still very important is, of course, the increased and continuously increasing threat of cyber-attacks, and becomes a very apparent top priority for our customers and an area where we also need to help them. So those are the 3 big trends that we design our strategy around and we deliver value to our customers. There are some more short-term dynamics that are interesting, in particular, semiconductor shortage is actually starting to normalize. You may remember almost a year ago in November, December of last year, we got hit pretty drastically by shortage in semiconductors and some of our deliveries were delayed. We went into this calendar year with a backlog of delivery that was significantly higher than it used to be. And we thought at the time that this will continue throughout the first half of the year and then normalize during the second half. And that's exactly what we're seeing now, it's coming off. We still have a bit of backlog. We'll talk about that when we get to the numbers, but we're delivering more and more of that [indiscernible] normalizing quite nicely now. And then no surprise, quite a bit of macro risks continue to blur our view of the future. We don't know exactly what's going to happen in the next couple of quarters, Ukraine war, inflation, recession or like the ability for us to predict what happens next, a little more difficult and the future a little bit more difficult to navigate. So that's a little bit of an outlook to the market. I think you know pretty well what we do, but I'll give you -- refresh your memories. Again, we put our customers first and foremost, and it's something that makes us very proud. We see it also when we do customer surveys, quite a high degree of customer satisfaction, which is great. We deliver 4 different revenue streams, consulting advisory services to help our customers, anything from design their architectures, work out their digital cloud installations, transition projects, even operational engagements, training, all sorts of advisory services. So that's one revenue stream. Selling, reselling of hardware and software, so the [indiscernible] a data center of the customer. That's the second revenue stream. Third one would be technical support. We have some [indiscernible] hardware and software systems always up to-date and working perfectly. So customer support is a third revenue stream. And then last, but definitely not least, our own cloud services, helping customers move away from having to operate infrastructure and let Proact do it on our customers' behalf. Across all this, we have a number of offerings anywhere from storage solutions, networking solutions, backup disaster recovery solutions, cybersecurity protection solutions and solution to help our customers get value out of the data, including artificial intelligence platform. So a pretty broad portfolio across our value propositions to our customers. And again, we can deliver a number of different ways. One thing that we can't stress enough is that we're very flexible. We let our customer decide how they want these solutions to be deployed. A lot of our customers still have significant amount of infrastructure in their own data centers. It could be for cost reasons. It could be for regulatory reasons. They want to be in control of their data. They don't want their data to be in a different country or more importantly, not in a different countries' jurisdiction. Then we have a lot of legacy applications that are difficult to move. There may be all sorts of reasons. But obviously, most of our customers wants to move to different cloud solutions. And that could be -- again, they could be hosted by the customers themselves. You could host them or a public cloud provider can host them. And we don't really mind. We have an offering portfolio that supports any of these variants. And that's very important, because we believe most large enterprise customers throughout Europe will have a mix of all these models depending on, again, business drivers, cost drivers or legacy. So it's important for us to be able to serve our customers in all these different variants. So that was a little bit of a refresher to everyone. Q3, a quite good Q3. We're very proud of the results. Good growth, 36% revenue growth and quite a bit of organic growth of 21%, which is obviously super -- super good. This is driven by a good [indiscernible]. It is driven by a little bit of [indiscernible] delivered [indiscernible] still a lot of backlog here going in, which is higher than normal. Price increases impacting, of course, our revenue, but still [ 36% ] revenue growth, [indiscernible], total growth, TCV. So the value of new cloud contracts also growing quite well in the quarter. We've had a couple of quarters in a row now with strong sales of cloud services, which is very positive, which means that our annualized recurring revenue is growing. So this is when we've onboarded cloud contracts or support contracts. So these are revenue from customers that are under contracts to almost SEK 1.5 billion in revenue. So good growth there of 26%. EBITA, as a result of all this also up compared to last year, lining at SEK 78 million. And then we mentioned it already in the Q2 briefing, we'll repeat it here today because the actual acquisition was closed in the third quarter on July 1st to be precise. It can be earlier than that in the quarter. But so that's another positive thing. And obviously, we've had a quarter of sepago in our company. Now we've been working on the integration and the synergies for a quarter. We see a couple of low-margin system deals in the quarter, typically one-time deals. And we see this every now and then, they may typically be what we call a foot in the door deal, new customers where we want to get in and claim our business, and then give -- that gives us an opportunity to work with our customer over a longer period of time. So that has impacted our gross margins a little bit. And then as I mentioned already, clearly, the market uncertainties continue and shows a slightly different phase now with inflation and recession coming off of pandemics and semiconductor shortages, slightly new challenges, but we'll continue to navigate them. And we feel that our business is quite salient, and we've proven that over the next couple of -- the past couple of quarters. So as I mentioned, sepago, our latest acquisition, it's about 3 months old now. Sepago is an important acquisition to us because it brings in a very important expertise into our business in general and our German market, in particular, around Microsoft Public Cloud. And this is an important building block as we mentioned already. It's a 20-year-old company that is based out of Cologne. They have about 85 employees working also towards the enterprise and public sectors in Germany, very good in cloud consulting, Microsoft in particular, but also another technology called Citrix, which enables them moving both infrastructure, as well as the workspace, the work environment of the employees to the cloud. So this is quite a bit of a strategic bet for us. They will help us both provide a more relevant offering to our customers. They give us a geographic presence in Germany that we didn't have before in the Cologne region. And that will also bring some expertise into our own efforts to productize and deliver more cloud services on top of the public cloud. So a very good acquisition, both in terms of the strategic value, but also quite a bit of consulting horsepower with 85 people. Most of you noticed already, we paid EUR 12 million in cash-free, debt free compensation for sepago. There is an earn-out structure on top of that over the 2.5 years. And they bring about EUR 15 million of additional revenue into our business on a yearly basis and also positive EBITA contribution because they're running slightly higher average EBITA than Proact. So again, a good acquisition that was closed in Q3. And then a few other highlights in the quarter, a little bit more on the soft side, if I may use that expression, important, but not as numbers-driven maybe. In Sweden, there is a company called Career or organization, I guess, called [ Career Bologan ], the Career organization, they nominate an award, companies that are good in recruiting and developing young people's careers. And we've been awarded the recognition of being one of the top 10 in Sweden, which is great. They use a multi-step process to identify these companies. You need to meet certain requirements of just basic having -- being of a certain size, having an active HR and culture, people culture activities. And then ultimately, there is a skill the jury that handpicks the final companies after they've gone through the finals. And we're one of the top 10 companies in Sweden, which makes us very proud. We also have a number -- another similar appointment in the Netherlands, more from a customer perspective. So they've been awarded or scored very, very high in a local customer satisfaction survey done by a company called Giarte. So they are the authority in the Dutch market on customer experience, customer quality. And we're one of the top players in the IT industry in the Netherlands in terms of customer experience, which is also great. And then more on the product side, you may remember, we launched a product in the second quarter of this year, which we nickname Container-as-a-Service. It's a product that came out of the acquisition of Conoa about 1.5 years here in Stockholm. So we provide a key turn -- a turnkey solution to customers to start doing container application development, so native cloud, rapid application development, and this was launched in the first half of this year. Now we've earned a certification of the global Kubernetes organization. So we're now a certified Kubernetes platform, which is important, that means that we comply to all their standards and requirements. So this platform is a good starting point for our customers to get going with application development and a good complementary product in our portfolio, of course. So a couple of positive things on top of the numbers in the third quarter. With that, let me hand over to you, Linda, and we'll dive deeper into the numbers.

[Linda Holjo, executive]

Thank you, Jonas. So highlights, as Jonas already mentioned, strong revenue growth, 36%, where we see both systems and services growing quite nicely, systems slightly more at 42% and services 28%. And the revenue growth then in turn translates into nice profit growth. Adjusted EBITA growing to SEK 78 million, growth of 31% and ending at a margin of 7.1%. So quite a nice level. And profit before tax then for the same reasons growing by 13% to about SEK 56 million and margin of 5.1%. So if we go into some more of the details. The revenue growth, 21% was organic growth and then acquisitions, which is ahd that we bought in Germany last year and sepago are the 2 acquisitions primarily contributing here, 10% growth. And then we also have positive translation effects from currency of 4%. As Jonas mentioned, when it comes to our services, strong underlying demand. We closed new cloud contracts at a level of SEK 158 million. If you look at the right-hand side, you see the recurring revenues growth, which is the combination of the managed cloud services and support services growing by 26% year-over-year, of which 6% organically. So also good organic demand to an annualized level of about SEK 1.5 billion. The services growth then 28%, 6% was organic. So we do see organic growth in all of our 3 services streams. Cloud revenues, in particular, growing by 34%, and this is ahd primarily contributing when it comes to the acquired part, but we also do see organic growth. Support services growing very nicely organically, and then consulting services also growing, and here, sepago, of course, is contributing to that growth. So the total there is a 37% growth. And then systems, which those of you who follow it now is more volatile. We had a good quarter. So 42% growth, of which 34% organically. Coming off of a slightly weaker quarter last year, third quarter, but we do see good underlying demand in most of our countries. We have organic growth in all business units, except West here. And we do see, as Jonas mentioned, that, that with supply chains, delivery times normalizing, we have reduced some of our backlog. It's still higher than normal, but it is -- has been going down for the past 2 quarters. So that's contributing to the organic growth as is some of the price increases we're pushing through, but also excluding those, we do see good demand for our systems, as well as our services. We go to the next slide, profitability development. So adjusted EBITA of SEK 78 million, margin of 7.1%. So that is at a high-level for us. Q3 typically with vacations and slightly higher margin. And we see that the Q3 last year was actually even higher EBITA margin. So compared to last year, the gross margin did decrease a little bit, still at good levels, but decreasing them primarily in systems. As Jonas mentioned, we had a few deals with a little bit lower margins and then last year was at a relatively high level comparatively. SG&A costs increasing by 6% for comparable units organically, so less than our organic growth. And we continue to keep control of our costs, in particular, given the macroeconomic outlook. We do, however, see increases in travel, entertainment, other sales-related costs, commissions, those kinds of things. And then finally, in this graph at the bottom right-hand side, here, our EPS is increasing versus last year. And so profit per share on a rolling 12-month basis continued to increase. That's primarily due to the growth in EBITA and EBIT. So then quickly, we move to our different business units, Nordics and Baltics, strong revenue growth. There was a strong systems growth with the majority of countries having a strong growth, Some delivery backlog is we see here. Services growing a little bit less organically, 3%. And here, it's support services that's developing strongly. EBITA margin going down a little bit. EBITA going up as a result of the revenue growth, but here is one of the business units where we have slightly lower gross margins within the systems business compared to last year, but still at a high level of the margin here. So our next business unit is U.K., and here very high systems growth coming off of a weak third quarter last year. So organic growth of 68%. Services decreasing organically. We do see growth here in our cloud services. We've won some bigger contracts last year that were starting to deliver. Support is the one that's developing negatively here, and that is because we've had some quarters here with weaker systems growth. And when we don't sell systems, we sell less of our connected support, so that impacts a few quarters out. EBITA margin is going down. So EBITA up due to increased revenues, but margin going down a little bit with the lower gross margins. Then our next business unit, West, unchanged revenues compared to last year, actually also fairly unchanged EBITA margin, EBITA and gross margins as you seen are relatively unchanged. It is, however, quite a big shift from a continuing shift between systems and services. So we continue to see organic decline in systems while good growth for all our services, but of course, especially cloud services, which is where we see customers moving towards. So that was West. And then our last business unit, Central. Here, as you know, we've then acquired both sepago and then ahd, and we see that revenue growth increasing, of course, with those acquisitions. And so really strong revenue growth of 136%, with ahd contributing SEK 78 million, sepago, SEK 27 million. Organically, also developing strongly, 12% growth, systems, 17%, services, 7%. And we see both support and consulting services increasing here. Then EBITA margin going down with EBITA going up. So a little bit similar trend here. We do see positive contribution from ahd and sepago, and in addition to them, a little bit lower systems margins. We also have a little bit of impact from integration costs of these companies kicking in, especially SG&A costs. And then if we move to cash flow, we have -- yes, as we typically do, positive cash flow from current operations before change in working capital. For those of you who follow us, we do tend to have quite volatile working capital. It follows our systems business, a little bit unpredictable. It's very much about the exact timing of when customers pay and when we pay our suppliers depending on when in the month we close the deals and invoice our different deals. So this quarter, we did have quite a negative effect from working capital, primarily due to a decrease in accounts payables. Cash flow from investing activities, minus SEK 132 million. That's primarily the acquisition of sepago that we paid then in the quarter, which means that then in total, we ended the quarter at cash of SEK 285 million. Okay. If we move to full year positive cash flow from current operations, here as well, of course, also still negative change in working capital year-to-date. For the -- yes, year-to-date, it's a little bit different view compared to just the quarter, here is further increased receivables. But as those of you who follow us and know over time, we do typically have quite good working capital position. So it's -- we don't see any sort of big underlying trend shift here, it's rather timing effects. Other than that, cash flow from investment activities also primarily impacted by acquisition of subsidiaries, financing activities, primarily leasing liabilities, and ending the quarter at a strong cash position of SEK 285 million. And then if we move to the balance sheet, equity ratio of 23%. Our net debt now is increasing given the acquisitions. So we are at SEK 483 million in net debt, including leasing liabilities, which has increased with the acquisitions of ahd and sepago that will find us to increase bank loans. We still have un-utilized overdrafts and un-utilized portion of our revolving credit facility. So strong financial position.

[Jonas Hasselberg, executive]

Good. Thank you, Linda. That takes us to this slide, which is highlighting our financial goals. The -- we then look at the rolling 12 months performance, and it's positive to see that we're now ahead of some of our key targets. So our sales growth is almost 20% over the rolling 12 months. We're making at least some steps in the right direction also to our EBITA target of 8%, so 6.3% over this past rolling 12 months. Net debt over EBITA -- EBITDA, quite healthy, looks better than target. And as we mentioned quite a few times, our return on capital employed is still below target for the reasons we've discussed with a high acquisition pace if nothing else. And then we paid out our dividends here, right, before the summer. We're sticking to the higher end of the -- the span that we have as our policy and paid out 35% of dividends this year. That's good. And then just to summarize before we open up for questions, a good quarter, strong revenue growth, both organically and through our acquisitions. Very happy with the acquisition of sepago, which brings both a lot of consultants into our family, but more importantly, great skills and great expertise that we will be able to leverage in many ways. We see quite good demand in the marketplace, including for our cloud services. So we see good growth in our annualized recurring revenues. All that said, we touched on it a little bit, future remains a little bit more difficult for us to anticipate. And there's been a good demand in the market so far. We don't know exactly how that's going to play out as we go into primarily the rest of this year, but more so next calendar year or 2023. So that's the summary. Thank you very much for listening. We'll open up for questions. And again, you need to raise your hand or unmute yourself, and we'll try to facilitate the questions here. Fredrik, you're quick and first.

[Fredrik Nilsson, analyst]

Thank you, Jonas. I want to start with TCV. It was quite high, especially for the third quarter. Was there any large orders or is this the new normal?

[Jonas Hasselberg, executive]

No, there wasn't a particular single large order. It's quite well spread both in terms of number of customers, but also well spread across our regions, which is good. I think we're going to see a little bit of volatility also in TCV. We've talked about this in previous calls that TCV was slow during the pandemic. So clearly, there's been a good demand in the market now for many quarters. And obviously, we -- as we look forward, this is an area of growth, but I'm not sure we're going to see a steady growth every quarter. I think we may see quarters will go up and down still. But on a -- I don't know, on a rolling 12 months, we'll definitely plan on a positive trend. That's the whole idea of our strategy, we believe in the cloud.

[Fredrik Nilsson, analyst]

Okay. And also your organic growth in recurring revenues have picked up. It was a similar pattern in the last quarter. Could you tell us a bit about why is that are your current customers buying more or are they -- or is it the system sales that now converts into more support, for example?

[Jonas Hasselberg, executive]

We see growth in both support, but we've had a number of quarters now with good cloud sales. And as we onboard the cloud customers, obviously, the recurring revenues are going up. And then on top of that, ahd, as you know, already had a pretty high degree of cloud services in the revenue mix, and that's adding non-organically on top of that.

[Fredrik Nilsson, analyst]

Okay. You mentioned that the economic outlook is uncertain. But if I understand you correctly, it's mostly due to the news flow that everyone can see. But what do you get -- what indications do you get from your customers talking to them about the situation?

[Jonas Hasselberg, executive]

I think we've seen actually a good activity in the market as these numbers here in the Q3 are showing. And we've had in the past, downturns been pretty resilient, proud as a company and the IT industry as a business in the downturns. But clearly, we see customers that are a little bit more hesitant in some markets. We see customers that are making their -- they may have planned for slightly bigger investments and the actual investments they make are slightly slower -- slightly lower, excuse me. So there's some anecdotal indications of hesitance, if anything. But like I said, it's difficult because we have seen in the past that quite a few customers invest our ways through downturns and do a lot of their transformation, cost savings and IT investments to come out strong of the recession. So it's quite difficult for us. So good activity in the marketplace right now, but we see the same, just like you said, [ Proact ] the same size as when we read the news as everybody else does.

[Linda Holjo, executive]

Any other question?

[Jonas Hasselberg, executive]

You can either raise your Team's hand or just unmute and shout out. Crystal clear, that sounds unlikely.

[Unknown Analyst]

This is [ Fredrik Skoglund ]. I have a question. If you do elaborate a little bit on the hardware supply chain situation and components, a little bit more about that, how it's looking now and looking forward, so to speak?

[Jonas Hasselberg, executive]

Right. So like I said in the beginning, we definitely see normalizing of lead times for infrastructure components. We think it's partly driven by the fact that during the pandemic, there was a huge -- not only was there semiconductor shortage, and there was also a huge demand for workplace solutions. So laptops effectively to help people work remotely and change their ways of working. We see demand for laptops going down, which opens up a little bit of shift in where the semiconductors are going, so from laptops into infrastructure equipment, which has helped. We also start frankly, seeing a little bit of oversupply almost in the semiconductor business. So in -- our core business with servers and maybe primarily storage is pretty good, delivery times now, they're not back to where they were before, but they're much better than they were in end of last year and beginning of this year. Networking equipment, which is a relatively smaller part of our business is still a little bit of an extended lead times. But like I said, we think it's coming back to normal as we trail off this year and go into next year, and we don't think it's going to bubble back up again anytime soon. So we're still quite a bit higher in our backlog than we would have been a year ago, but it's better than it was when we went into this calendar year. So we've been able to deliver out some of the backlog, but not all of it.

[Unknown Analyst]

A follow-up question on that, do you think during the pandemic, when it was hard to get hold of storage, et cetera, that clients have [ spoiled ] those investments because it was scarce to get hold of it, and we might see a little bit pent-up demand looking ahead or is that not the case?

[Jonas Hasselberg, executive]

No, I think it's realistic. So there was a couple of things happen here. Of course, one was during the pandemic, a lot of the focus for customers was to help the remote workforce and just manage the situation of the pandemic. So some of these infrastructure projects were pushed out in the future. We also -- and we talked about that quite a few times in this forum, a little bit less easy to make business on large contractual deals or selling cloud services took a bit of a hit during pandemic for us because people didn't want to sign up for 3-year commitments without knowing what the future look like. So we think coming off of the pandemic that had eased off, and there was some pent-up demand. If we look at the future, we think our market is -- and we've talked about this quite some time here, we think we can grow by at least 10% per year and about half of that should be organic. So when we look at our revenue -- across our revenue mix, I think that's roughly where the market growth is at. So clearly, the 20% organic revenue growth is great, but it's not where we're going to be forever. Any other questions. All right. You're always welcome to reach out to Linda or myself offline if you have any other questions. If there's nothing more today, we'll be back on February 10 maybe or something like that, anyway sometime in February. Apologies.

[Linda Holjo, executive]

It's just in our report -- interim.

[Jonas Hasselberg, executive]

I'm sure, it does. Apologies. I forgot. But anyway, we will do our full year report in -- beginning with February 9.

[Linda Holjo, executive]

9 -- February 9.

[Jonas Hasselberg, executive]

Apologies. February 9. So feel free to reach out to me or Linda if there is anything else. Otherwise, we will see each other again on February 9.

[Linda Holjo, executive]

Thank you.

[Jonas Hasselberg, executive]

Good. Thanks, everyone. Take care.

[Linda Holjo, executive]

Bye.