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Earnings call: Nagarro SE maintains steady growth amid market uncertainty

EditorAhmed Abdulazez Abdulkadir
Published 08/14/2024, 08:47 PM
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Nagarro SE, a global leader in digital engineering and technology solutions, has reported a modest increase in revenue and adjusted EBITDA for Q2 2024. The company has seen a 7.6% year-over-year growth in constant currency, bringing Q2 revenue to €244 million.

Despite a challenging demand environment, Nagarro SE remains optimistic about its future, reaffirming its guidance for the full year with expectations of approximately €1 billion in revenue and a 14% adjusted EBITDA margin. The company is also focusing on expanding its footprint and improving customer experience through the use of data and artificial intelligence.

Key Takeaways

  • Nagarro SE's Q2 2024 revenue reached €244 million, a 7.6% increase year-over-year in constant currency.
  • Adjusted EBITDA for the quarter was reported at €35.5 million.
  • The company's cash balance stands at €121.4 million, with a working capital of €236.9 million.
  • Nagarro SE reaffirmed its 2024 guidance, expecting approximately €1 billion in revenue and a 14% adjusted EBITDA margin.
  • The number of accounts generating over €1 million increased to 184.
  • Nagarro's Net Promoter Score in Q2 customer satisfaction survey was 62.
  • The company reported a comfortable liquidity position, with a net leverage ratio of 1.5x.
  • Operating cash flow for H1 2024 increased to €27.6 million, despite a cash outflow from investing activities of €5.1 billion mainly due to contractual obligations.

Company Outlook

  • Nagarro SE anticipates gradual revenue growth and expects to end the year with a 14% adjusted EBITDA margin.
  • The company expressed cautious optimism, with a subdued expectation of a sharp turnaround in demand.
  • Nagarro SE is expanding its footprint and developing various dimensions, despite the slow demand environment.

Bearish Highlights

  • The company is still awaiting recovery in the demand environment, with the impact of a potential slowdown or recession remaining uncertain.
  • Nagarro SE reported an increase in personnel expenses due to appraisal and increment cycles.
  • There is a mismatch between Nagarro's engineering capability and current needs, partly due to industry slowdown and geopolitical factors.

Bullish Highlights

  • Nagarro SE was ranked as a leader in the Life Sciences and Healthcare industry by Everest Group.
  • The company's top-performing industry on a year-over-year basis was Public, Non-profit, and Education.
  • North America accounted for 36% of Nagarro's revenue in Q2.
  • There is room for cost control, and the company is confident in its resilience during economic slowdowns.

Misses

  • The most challenged industry for Nagarro SE was Management Consulting and Business Information.
  • The company did not provide specific guidance for H2 2024 but mentioned that their guidance always includes a margin of error.

Q&A Highlights

  • Nagarro SE plans to adjust personnel expenses with an increase in billing rates over time.
  • The company addressed concerns about working capital, stating fluctuations are normal each quarter.
  • Initiatives in AI aim to enhance customer experiences and internal efficiency.
  • Despite challenges in price increases, Nagarro SE is focusing on client budgets rather than competition.
  • The company has increased headcount in certain countries for geopolitical reasons and prefers more senior engineering colleagues.

Nagarro SE (ticker symbol not provided), with its steady performance and strategic initiatives, continues to navigate through a period of market uncertainty. The company's focus on expanding its digital capabilities and maintaining a strong balance sheet positions it to potentially benefit from any future recovery in demand.

Full transcript - None (NGRRF) Q2 2024:

Operator: Good afternoon to everyone. Welcome to Nagarro SE's H1 2024 Earnings Call. You should have received a copy of the earnings release for Nagarro's second quarter 2024 results. If you have not received the press release, a copy of the release as well as this presentation is available on nagarro.com in the Investor Relations section. Representing Nagarro today on the call are Manas Human, Co-Founder and Custodian of Entrepreneurship in the organization; and Gagan Bakshi, Custodian of Strategic Finance and Head of Investor Relations. Before I hand you over to Manas, I would like to remind those listening that some of the comments made on today's call may contain forward-looking statements. These statements are subject to risks and uncertainties as described in the company's earnings release. Additionally, please also refer to the earnings release for the notice on reported results that are non-GAAP measures. Nagarro is happy to partner with NetRoadshow for today's earnings call again. [Operator Instructions] With that, it is my pleasure to hand you over to Manas Human to begin.

Manas Human: Thank you, Harry, and hello, everybody, and welcome to this earnings call for Q2 and H1. Thank you all for joining us. The headline news today is that Nagarro has had a fairly good quarter given the circumstances, but we are still waiting for a proper recovery in the demand environment. Our Q1 numbers had indicated some hope for such a recovery. Q2 again indicates some hope, but the recovery is not fully here yet. All indications are that it is imminent, but when exactly it will arrive is difficult to predict. In the meantime, we continue to utilize this slow period to develop the company along various dimensions. We are happy to share that we continue to deliver high levels of client satisfaction and consequently continue to expand our footprint and influence at our clients. With this expanding scope, we feel well positioned to take advantage of the upcoming data-led and AI-led transformation that we believe will certainly take place across various industries in the years to come. We also continue to develop Nagarro qualitatively, deepening our leadership in various areas. I would just like to highlight one example today, the Life Sciences and Healthcare industry. Last week, the Everest Group put out a report of the Life Sciences Digital Services Space, what they call the PEAK Matrix Assessment for Mid-Market Enterprises. For this report, they surveyed and analyzed 26 different companies, including Nagarro. It was a very rigorous process, like an audit. And as a result of this thorough analysis, the group has placed Nagarro in the top right of their assessment metrics as a leader in this space. With respect to the vendor's vision and capability, which was a part of their assessment, which in their words, translates to the ability to deliver successfully services in this area, they rank Nagarro as the second among the 26 companies surveyed. This is a matter of great pride for the Life Sciences and Healthcare BU, but it's also not really a surprise. Our model of BU-led entrepreneurship and BU-led initiative continues to deliver such exceptional results. We see our BUs as engines of growth that will continue to push forward and develop Nagarro into one of the world's great companies. On to the key numbers, revenue for quarter two 2024 was €244 million, growing 2.1% Q-o-Q in constant currency and growing 7.6% year-on-year in constant currency. Just as in Q1, the gross margin number here, the 30% that you see, it needs some explanation, and you have to read it with the footnote. Since quarter one, we are presenting a revised method for calculation of gross margins, where cost of GBU management, cost of consultative sales within the BUs, cost of thought leadership at the COEs that are in various practices in the BUs, they all have been reclassified to SG&A. Through 2024, through this year, we will continue to present the gross profit and margins with both the current and the previous method to allow for better year-on-year comparisons. So, the gross margin for Q2 2024 was recorded at 25.6%, under the previous method of reporting gross profit and at 30.0% under the new method. Adjusted EBITDA for the quarter was €35.5 million. Our top-performing industry on a year-on-year basis was Public, Non-profit and Education, which grew 40%, mainly because of easy comps from Q2 2023. Our most challenged industry was Management Consulting and Business Information, which de-grew by 3.5%. In terms of the regions, the Rest of the World grew fastest year-on-year at 11%, while Rest of Europe was in last place and de-grew by 2.5%. We ended the quarter with a cash balance of €121.4 million. The number of accounts generating over €1 million in revenue over the trailing 12 months, a key metric for us because we tend to retain these accounts, was 184 at the end of June, up from just 168 a year ago. Meanwhile, our Net Promoter Score in the Q2 customer satisfaction survey was 62, which is a very good number. Our last guidance for 2024 issued in February -- on the 20th of February was for approximately €1 billion revenue, constant currency calculated, and 14% adjusted EBITDA margin. We have no guidance update at this time. As before, our diversification continues to shield us in this rather complex environment, as mentioned in the previous slide, the best-performing industry on a year-on-year basis was Public, Non-profit and Education, and it was followed by Energy, Utilities and Building Automation. The weakest performance was in Management Consulting and Business Information, as I just said, and then in Financial Services and Insurance, and the share of both of these industries in our revenues has dropped a little. We have remained low in terms of client concentration, as always. Our top 5 clients account for only 14% of our revenues for the quarter and clients 6 to 10 account for just 10% of our revenues. One observation here, since 2019, we have more than doubled in size, but our largest 10 clients made up only about a quarter of our revenue back then, and they make up only about a quarter of our revenue now. This shows that we have continued to grow our scale at each client quite proportionately as the company itself has scaled. For quarter two, North America accounted for 36% of revenue. The growth in the region was led by Retail and CPG and by Public, Non-profit and Education. Moving on to Central Europe, which accounted for 28% of revenues, the stronger industries were Public, Non-profit and Education and Automotive, Manufacturing and Industrial. The Rest of the World accounted for 23% of our revenue in the quarter. Growth was led by Automotive, Manufacturing and Industrial and Energy, Utilities and Building Automation. In Rest of Europe, 13%, the industry most under pressure was Telecom, Media and Entertainment, while Public, Non-profit and Education showed the most growth. In terms of people, our headcount increased marginally by 33 this quarter to 18,301, of which 16,772 were professionals in engineering. Now, I'll hand over to Gagan to say a few words on our financial position at the end of the quarter.

Gagan Bakshi: Thank you, Manas. Hello, everyone. The chart on the left shows the financial position on June 30, 2024. We reported financial liabilities of €284.6 million, which consists of our syndicated credit facility, various working capital facilities, bank loans, and liabilities from factoring. Our lease liabilities stood at €46.7 million. And with a healthy cash balance of €121.4 million, our net leverage was €209.9 million. Given our LTM adjusted EBITDA of €140.4 million, our net leverage ratio at June 30 was 1.5x. The company's liquidity position at the end of Q2 was comfortable with a working capital of €236.9 million. Now a few words on our cash flows. For the six months period ended June 30, 2024, our total cash flow was €8.8 million as against negative €16.2 million for the comparable period last year. Operating cash flow for the six-month period ended June was €27.6 million as against €15.4 million for the comparable period last year, which is an increase of €12.2 million. The main contributor was an increase in EBITDA by €10.7 million from €58.1 million in H1 2023 to €68.8 million in H1 2024. Further, we were able to reduce the utilization of funds under the factoring program by €7.3 million during H1 2024. Days of sales outstanding, calculated based on the quarterly revenue and including both contract assets and trade receivables, have increased slightly from 84 days at the end of 2023 to 87 days at June 30, 2024. Cash flows from investing activities for the six-month period ended June was an outflow of €5.1 billion, mainly due to payment of €8.7 million to meet contractual payment obligations from older acquisitions, which was offset by an inflow from maturity of a fixed deposit of €4.5 million. For the comparable period last year, i.e., H1 2023, cash outflow from investing activities was €50.4 million. CapEx came in at €2.9 million, which is only about 0.6% of the revenues for this six-month period. And finally, cash outflow from financing activities for the six month period ended June was €13.7 million as against a cash inflow of €18.8 million in the comparable period last year. This cash outflow of €13.7 million was primarily from lease payments of €11.9 million, interest payments of €9 million and repayment of bank loans of €3.7 million, offset by cash inflow from bank loans of €11 million. With this, I hand over back to Manas, and thank you all.

Manas Human: Thanks, Gagan. That is, in fact, the end of our presentation. We can now move to Q&A. So, I'll request NetRoadshow to open up the floor for questions.

Operator: [Operator Instructions] Our first question today is from the line of Andreas Wolf of Warburg Research. Please go ahead. Your line will be open.

Andreas Wolf: Hi. Thank you for taking my question. Hi, Manas. Hi, Gagan. Congratulations on the 4% organic currency growth rate in Q2. I have a question on personnel expenses. If you look on the sequential development of the number of employees, so that was plus 33. The personnel expense, however, grew by, if I'm correct, €10 million. Could you provide more insight on the development inside personnel expenses? And then, following the first look on the results, I was quite positively impressed with the development in Q2. Surprised, however, that the share price [indiscernible] negatively and some investors pointed towards somewhat higher working capital and that it is basically the same amount as revenue growth, more or less. Could you also provide some insight on project development here that might be causing this parallel development? Thank you.

Manas Human: Andreas, thanks, and thanks for the feedback on the results. So, a quick answer to your two questions. On personnel expenses, we, of course, continue to have people go through appraisal cycles and increment cycles. And that is potentially a big part of the increase in the personnel expenses. And typically, this is -- we are able to adjust this with increase in billing rates over time, and we expect that this will happen in the same way in the future. The second question, on the working capital, there is no systematic change in the nature of our working capital. Every quarter, there is some noise based on what -- which invoices we were able to collect on and stuff like that. So I think there is no fundamental change in the nature of our business with respect to working capital. Thank you, Andreas.

Operator: And our next question, apologies for the delay, is a written question submitted by Aitor Garcia Estales of MoraBanc Company. And the first question is, in H1, you finished with a 15.5% adjusted EBITDA margin. Based on your guidance of 14%, do you assume a deterioration of EBITDA margin in Q3 and Q4 to arrive at 14% global EBITDA margins? Based on your revenue guidance, is it fair to assume more growth in the upcoming quarters? What are the seasonality on Nagarro revenues? Thank you.

Manas Human: Thank you very much for the question. Let me answer -- the questions. Let me answer them one by one. So, in terms of our EBITDA trajectory in the coming quarters, we have -- we are taking the line that we will end the year at something around 14%. And this has got to do also with increases in our wage costs and some lack of visibility into how the revenue side will develop, both in terms of utilizing the excess capacity that we have in the company today and in terms of billing rate increases. So we are sticking to that 14% number. In terms of revenue guidance, we have, in general, seasonality of weaker Q4s because of fewer working days, but we are hopeful that there will be a continuing trend of a gradual increase of the base from quarter-to-quarter, the per day base from quarter-to-quarter. But it's, of course, difficult to predict in an environment where a single week of market upheaval can really just reset everyone's view on how the economy is progressing. But at the moment, that's where we stand. Thank you for your questions.

Operator: Thank you. And our next question is another written question from Stefano Grasso of 8Vantedge Pte. Ltd., who asks, congratulations on the consistent results. Can you speak to the cyclicality of [Novero's] (ph) business versus the general economy -- sorry, Nagarro's business versus the general economy? We are expecting a slowdown or recession in the next quarters? How would this affect Nagarro? How confident are you that the business will turn around countercyclically? Thank you.

Manas Human: Thanks for the question. I would say that, in general, the performance of the company does depend on the larger economy. But it's fairly robust on the downside. And when the economy bounces back, it is usually very quick to bounce back as we have seen in all past slowdowns and recessions. And I believe we're in the middle of a slowdown right now in pretty much every respect. So -- but I think that, that's how we see it. We expect us to have resilience on the downside and quick bounce back on the upside with the economy. Thanks for the question, Stefano.

Operator: Thank you. [Operator Instructions] And we have a follow-up question here from the line of Andreas Wolf again from -- my apologies, go ahead. Your line is now open.

Andreas Wolf: Hi. Can you hear me?

Manas Human: Yes, Andreas, we can.

Andreas Wolf: I'll take the opportunity to ask two more questions. So, one would be on AI. Manas, could you update us on your initiatives in this field, whether you're developing any new tools that might be beneficiary for Nagarro and efficiency going forward? And the second is on pricing out there in the market. So apparently, many IT service providers have difficulties with utilization, et cetera. You are feeling some price increases as you alluded to, you're observing them. So, maybe you could also comment on pricing in the current environment? Obviously, there will be a need to increase prices, but it doesn't seem to be the right environment for that right now. Thank you.

Manas Human: Maybe I'll start -- first, thanks for the questions, Andreas. Maybe I'll start with the second question first. I think, there is some pressure on price increases being -- it's not as easy to increase prices today as opposed maybe in '21 or '22. But for us, we feel it's much more due to the circumstances of the client rather than the competition. So, we don't feel -- or internally, we don't have the conversation that we are in competitive -- in a very competitive price-cutting environment. It's more based on client budgets and what they can afford to do and what they want to do with the money that they are willing to spend. So, that's on price. On AI, we have talked a lot about what we were trying to do, and I think some of that still continues and all of that still continues. There's not very much new from the last quarter, but we are working on all aspects of it. So, we are working on the client side on getting the data ready for AI. This is a very big topic. You know that we were -- we had announced a couple of years ago that we were working with Dublin Airport, for example. So, we are working -- taking that example and working with other airports. We are doing -- working in pretty much every industry, there is an effort to try to use -- bring more data to bear. So that's a big part of that effort. And then, on the AI side, whether it be you're trying to create better experiences for customers, whether it's better forecasting, better pricing of energy or pricing of tickets or, I mean, pretty much every topic that where human intelligence is used or has been used, AI is getting more and more used. So, I think that that's on the client side. There's also, of course, a lot that we are doing internally to see where we can use AI for added efficiency and also to bring more flexibility, we call it the fluidic enterprise. We believe that not just us, but all our clients will start to use data and AI to become better internally and thus be able to offer better services to their customers and better partnerships to their partners and so on. So, there's a lot of that thinking both at the high-level, philosophical level and then drilling it down into what does that mean for enterprise architecture, what does it mean for data architecture and so on. So, there's a lot of traction. And that's what is actually the exciting part of being where we are today. Even if the revenue numbers are not very exciting, the conversations are still very exciting. And we -- that's why I say we feel very well positioned to take advantage of this transformation, which we can see is imminent -- is really imminent.

Andreas Wolf: Thanks for the question.

Manas Human: Thank you.

Operator: Thank you. And our next question is a written question submitted by [indiscernible], who asks, you mentioned the impact from underutilized software engineers, but we have an increased small headcount this quarter. Does this suggest you have reached a comfortable cost level given the outlook and current activity levels? Thank you.

Manas Human: I did not fully understand this question. The small headcount...

Operator: I'm sorry.

Manas Human: Sorry, if you could just read the question one more time? Thank you.

Operator: Certainly. Sorry, my apologies. The question is as follows. You mentioned the impact from underutilized software engineers, but we have an increased small headcount this quarter. Does this suggest you have reached a comfortable cost level given the outlook and current activity levels? Thank you.

Manas Human: Thanks, [Graham] (ph), for the question. Actually, the context is quite complex because you -- while we like to see a lot of our engineering as being able to be deployed across technologies even, but -- even across countries, there are certain reasons why our clients are rejigging their exposure to certain countries, for example, geopolitical reasons. So, we have increased headcount in countries which are deemed to be a little bit more risky from geopolitical reasons. We see that we have an increased interest in more senior engineering colleagues rather than people who are really at the start of their careers because a lot of our programs or projects are not necessarily scaling so fast that you can add younger resources to them. So, there is some of that. And then, there are technologies that are hotter than other technologies. So, as a complete, as a whole, you have the mismatch to some extent of what you have in terms of engineering capability and what the -- what you need in that -- at this particular point in time. And a bunch of this is related to this slowdown and a bunch of it is related to the geopolitics of the current environment. So, there is definitely room to control the cost basis, that's the short answer. Thank you for the question, Graham.

Operator: Thank you. And our next question today is from the line of -- sorry, it's a written question submitted by [indiscernible], who asks, why do you feel less optimistic about demand, that you referred to as recovery is still imminent today compared to the last quarter? What has changed that you have changed your tone? Thank you.

Manas Human: I think it's psychological. I think for all practical purposes, this quarter was a more positive quarter than last quarter. But somehow the end of last year, I think there was a psychological belief that across the industry that the following year, that is this year, 2024 would be when everything would turn around dramatically, and that has not happened. So, I think I'm more optimistic -- more comfortable, I should say, this quarter than I was last quarter. But the optimism of a sharp turnaround just around the corner is perhaps a little bit subdued. Thanks for the question.

Operator: That's great. Thank you. Our next question is a written question submitted by Liana Abraham of RBI, who asks, I see the company was able to build up €121 million cash on balance. How much cash on balance is needed for the company's operations? Thank you.

Manas Human: Gagan, would you like to answer that?

Gagan Bakshi: Our working capital is €236.9 million. So that should give you some sense of how we sort of look at this. Does that answer your question? Sorry, it was a written one, isn't it?

Operator: Yes, that's right. [Operator Instructions] Okay. We have a follow-up question here from the line of Andreas Wolf. Please go ahead, and unmute locally. Your line will be opened.

Andreas Wolf: Thank you. One follow-up, Manas, on the prospects for H2. Could you also comment on the pipeline? So, just taking H1 times two will not exactly get us to the €1 billion. Is there anything else that we should bear in mind when looking at H2? I know it's a number of additional working days that we have in H2, anything else that we should bear in mind when looking at H2? Thank you.

Manas Human: So, I think that our guidance always has a certain margin of error on either side, right? And we're always trying to predict the future, and that's part of what is at play. But also, we are looking at how we are exiting the quarter. And on the basis of that, we are just not issuing any guidance at the moment. Thanks, Andreas.

Operator: Thank you. And we have no further questions in the queue. So, this will bring us to the end of the Q&A. I would like to hand back to Manas for any closing remarks.

Manas Human: Thank you, Harry, and thanks, everyone, for joining us, and thanks for supporting Nagarro. We continue to believe in the real potential that the company has, even though this is a slow environment. So, please continue supporting us. Thank you very much.

Operator: Thank you, everyone. This will conclude Nagarro SE's H1 2024 earnings call. Thank you all for joining, and you may now disconnect your lines.

This article was generated with the support of AI and reviewed by an editor. For more information see our T&C.

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