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Luxoft Holding Inc (NYSE:LXFT)

Credit Suisse Annual Technology Conference

December 04, 2013, 05:30 PM ET

Executives

Roman Yakushkin – CFO

Alina Plaia – VP, IR

Analyst

George Mihalos - Credit Suisse

Analyst

George Mihalos - Credit Suisse

Okay. So I think we're ready to begin. My name is George Mihalos; I cover the data processing and IT services space here at Credit Suisse. And our next presenting company is Luxoft. Very pleased to introduce Roman Yakushkin, the CFO. Hopefully I didn't butcher your name, Roman; I think it came out okay and Alina Plaia, the head of IR. And Roman is going to take us through a very brief, quick overview of Luxoft and then we'll jump right into some Q&A.

So with that, I'll turn right over to Roman.

Roman Yahushkin

Thank you. You got my name right. My name is Roman Yahushkin and I joined Luxoft in 2006, it's more than 15 years, so relevant experience overall. So let me just do the brief introduction of the company.

We were formed in year 2000 and we are 13 years old company with experience uninterrupted growth, which was never stopped. So today, we have more than 7,000 people worldwide, out of which about 6,100 are full time delivery employees. We have 19 offices worldwide and that contains 14 delivery -- specialized deliver centers.

We serve more than 130 clients, most of whom are global multinational banks and blue-chip corporations and we have long lasting recurring relationships with those clients. We have quite great financial potential. Our CAGR for the last three years was 26% and as you will see later, we also have great first half of current fiscal year.

So those are our key five value proposition features. First of all we have in excess to the unit current pool in Central and Eastern Europe, the market of which is estimated to be around 0.5 million people. Second we have deep business understanding because we have great relations with our clients, kind of focused verticalization and we work deeply on campus projects and we understand what our clients need very well.

Number three is we have great technology expertise, especially in cutting edge technologies, so that includes HMI, mobile, Big Data and others. Number four is industrial solution which provide us with cross-selling opportunities and enhances (inaudible) of our revenues. And last but not least, we are agile in every aspect starting from the software development methodology and also we are agile in a sense that we are already constantly adapt to change in client's needs and requirements.

Those are two six verticals that we target, basically with financial services being the biggest vertical in which we've sold. And it is also one of the fastest growing vertical with growth rate being above 30% in the first half on year-over-year basis.

Another vertical is automotive, which grows like 65%, which grew at 65% in the first half. We have a number of large blue-chip banks and corporations being our client for more than five years and those include Deutsche Bank, UBS, Citi, Boeing, Avaya and some of the other companies.

We have agile, global delivery model. As I said, we target mainly Central and Eastern Europe. Our four largest deliver centers today are Ukraine, Russia, Romania and Poland. We have also smaller delivery centers in the U.S., U.K., Germany. We have just recently opened 19 office and 14 delivery centers in Stuttgart to be closer to our automotive clients and we are also playing into open and other location in one of the Central and Eastern European countries.

So that gives us basically a number of advantages ranging from the efficient top management, additional flexibility, which also diversify our risk away, meaning that our political risk such as inflation, country risk. Foreign currencies are limited because we are not basically in the single gel in the single economy.

We also have little onsite ratio, less than 10% for headcount [work on site] and the rest is basically is situated global and that makes the Visa problem for our company virtually non-existent today.

So that's the way the company is positioned today. We consider to be in the very unique spot with quite limited competition; the closest competitor to us being EPAM with whom we have number of similarities but also number of differences. On the other hand, we are able to successfully compete with Indian providers and our competitive launches here our ability to take on these complex projects, ability to innovate our agility.

On the other hand we are also able to more than successfully compete with global multinational IT providers such as IBM, Accenture etcetera and here you can see basically on the price and also on our flexibility, ability to adapt to our client's changes -- requirements and needs.

Just few figures from the financials; as I said last year we made 315 vendors with CAGR being 26%. In the first half of current year, we did 181 million with CAGR 25%. So basically we have very balanced geographical mix 46% for our clients come from Western Europe, 45% from North America and remaining 9% from rest of the world.

Our three biggest geographies today are U.S., U.K. and Germany and 80% of our growth today comes from our existing clients whereas 20% comes from new accounts. Similarly we are highly profitable and we have demonstrated superior profitability on all levels. Both our adjusted EBITDA and net income in the last three years grew in excess of 20%.

In the first half of current year, our EBITDA adjusted for stock-based compensation was $54 million and that is 42% year-over-year growth rate. Our EBITDA margin has historically been above 18%. Last year we ended up 18.1%. In the first half of current year we were at 18.6% and we target the range of 17% to 19% adjusted EBITDA margin, while we had operating leverage, which gives us opportunity to basically expand the margin.

We target any extra profit that is generated baked into business. So it be additional sales force, important capabilities, R&D, solutions or something else. So also for the net income, it grew 25% over the last three years. In the first half of current year, we were on $27 million adjusted net income with CAGR being 50% and our net income margin stayed around 14% today and in the first half of current year toward 14.7%.

So our key highlights post IPO, just to remind you the Company went public in the end of June current year. So as I showed, we had quite strong financial full allocation vertical perform very well, also with special lift array during our last earnings call, our guidance for both revenue and EPS. Our earnings to date is guided to be at least 22% growth and revenue to be at least $384 million for the full fiscal year.

We also showed quite strong non-financial metrics, for example our attrition is down by 2% from 12.9% to 10.9% due to our basic number of measures and at the personal retention and the decrease of attrition. Our headcount grew in the same period by 22%, which demonstrated the linearity of the company's revenue growth and our revenue per employee increased by 10% in the first half of current year to [68,000 in U.S.]

We have also successfully completed [SPO at 354] per share and today our free flow is between 22% and 23%. Also we have continued to invest mostly into R&D leverage and cross selling opportunities and last but not least, we were able to bring in on Board additional high potential clients.

So far the new clients have been added, also two high potential clients actually joined the top 10 client list in terms of the revenue and today we count altogether 15 clients that we consider high potential meaning the opportunity for the revenue to grow from zero to over $5 million revenues in less than three years during this time.

And now we will happy to answer your questions.

George Mihalos - Credit Suisse

Great, well thank you. Thank you for the overview, Roman. And why don't I kick it off and either yourself or Alina will do the jump off -- whoever wants to answer the question can just jump right in. But I wanted to go back to where you sort of sit in the competitive environment. You talked about being differentiated compared to some of your Indian peers and the same also being true to your closest peer, EPAM, maybe you could elaborate what kind of things you are doing that is different than the Indian offshore providers and even different than your closest comp EPAM.

Roman Yahushkin

Well EPAM is our closest competitor as I said and we have a number of similarities, but also we are different in several senses. First of all, we believe that EPAM is more horizontal structured company whereas we are more focused on the verticals and we have like great business understanding in the verticals where we serve.

Second would be basically the nature of the contract that we perform. While EPAM is more dependent on the time and materials contracts with mix being around 80% in them, 20% fixed price, we have different business model and we have recently done a shift basically of fixed price contracts from 20% of total to 50% and we believe this trend will continue and we will have achieved like 60% to 40% fixed price and we believe that that gives us additional opportunity, additional flexibility in resource allocation. Also it's a great tool like in terms of customer management.

Number three would be basically the way we grow. While EPAM grew like both through M&As and organic, Luxoft was growing mostly organically right. So that's basically different and we had only two acquisitions now history and while one was done in 2006, with small U.S. company and the second acquisition was done in 2008 where the companies in telecom in Romania and last but not least, these geographies were performed while we both targeting like Eastern and Central Europe. We know that's both in different countries, with EPAM being stronger in the Russia and Hungary and us being stronger in Russia, in Poland and Romania.

Alina Plaia

And also as you know, we have solution based approach. We have platforms and products and EPAM for example that's not have that to the same extent as we do. We also have very focused sales force. We don’t have general sales people. We have what we call solution sales experts those are former industry veterans, our former clients, managing directors or even above. So our platforms and together with the platform based on our services and because of that, those solutions and Roman actually alluded to that before, and that actually helps break the linearity, which we have revenue growth and our headcount growth, our cost growth.

So our revenue per billable employee is actually much higher, much higher than the Indian peers and much higher than EPAM and so has quite a bit of room to grow to Accenture level of course. We are not aspiring to get there, but that certainly helps.

George Mihalos - Credit Suisse

Okay, great. And just again, to keep the discussion sort of high-level, you've done a great job coming out the gate in terms of the numbers that you have been able to post over the first half. How do you think about your revenue and EBITDA growth targets long-term looking two to three years out maybe?

Roman Yahushkin

Right, we are going to circle EBITDA, we guided for this year we guide EBITDA adjusted for stock-based compensation 17% to 19% and we are going to stick to that range into the future basically the idea being that again the extra profit will be back into business and as for the revenues, current year we guide at least 22% growth rate and we believe that with this renovated profits, we will be able to achieve at least 20% for the next three years at least.

George Mihalos - Credit Suisse

Okay. So the long-term revenue growth rate, 20% plus. Sort of a similar rate of growth in EBITDA...

Roman Yahushkin

Correct.

George Mihalos - Credit Suisse

...roughly. Okay, that's helpful. And I was hoping you could talk a little bit about your delivery centers. You're spread throughout Eastern Europe, you're in Ukraine, you're in Poland, you have capabilities coming out of Moscow. Talk about the availability of talent for the type of work that you're doing for your clients. How difficult is it to hire, what's the base available, contractor base.

Roman Yahushkin

Well, we are still here with plenty of room to grow. We've been existing geographies. We are biggest in Ukraine, our second biggest geography is Russia and in all the geographies we still have plenty of talent, which we are able to recruit. We also keep boosting our recruitment capabilities by continuously adding new recruiters so that we are able to basically fulfil the ever growing open position as fast as possible and having said that, we are also playing in to enter like new geographies.

As I said, this year we are probably going to open one more delivery center in new location and there we target mainly senior Java programmers who are considered to be the most kind of rare and hard to get resourced.

Alina Plaia

And we also having people in the audience just want to know that we actually scale more by engineering IQ and by brain power and the talent that we are really after is after the CASS, the CASS book, the deep domain expertise, the knowledge most of our guys are actually very senior, very hefty kind of top heavy pyramid and exceptionally inverted from what you used to see among the Indian providers. So 85% of our force -- of our workforce is actually senior guys, MBAs, Phd, Masters of Science and so forth, in addition to being very senior seasoned programmers.

So when we scale, we don’t aspire to be a Cognizant or a Tata. We need to really hire 200, 300 people a month. We are not taking thousands, talking thousands and also retention ratio is quite high. We spend a lot of money and a lot of time on retaining trained talent pool. So the juniors out of college that we hire are only a couple of basis points. The juniors that we define juniors are guys who have less than three years of experience and that's basically 10% of our force and 90% of our guys are senior, senior guys.

And so once we train them and retain them, we actually try to promote them from within, so that also helps to hiring as we create our tolling pool.

George Mihalos - Credit Suisse

That's fair. Wanted to also ask you, it's certainly not a new trend, but it's something that constantly comes up, this trend towards more vendor consolidation, where the large clients are allocating their revenues over a smaller base of vendors. How has that impacted you and how do you view that in terms of being more of an opportunity or a threat for Luxoft going forward?

Alina Plaia

So far it's been an opportunity we always make sure that the business model that we build is actually very sticky. The engagements that we work on, they are really centered around as I call it cardiovascular system of the client, that we are really mission critical core things that make the heartbeat. So we are not really subject to discretionary fluctuations whether they are good fluctuations or bad. We are not subject to budget pressures because the work that we do again to make sure that the cardiovascular system is sustained. You know, it's forward looking, we see our revenues coming and work plan coming 24 months ahead, almost perfect visibility for 12 months ahead.

So when we do talk about vendor consolidation with our clients, we usually get more wallet sharing, not less and so that's definitely a plus for us and it's been so far and we make sure that we compete successfully and in other thing that we actually would not be subject to, because we target work in the front office and we target work for domains, we don’t see a lot of competition in the front office.

You know, the back office was optimized by Indian providers, obviously, that's how outsourcing started. Mid office, middle office work, we do, do that work. We compete of course with Tata and Cognizant and so forth, but in the front office, it's basically the IT guys, internal IT guys and us. So consolidation there is kind of actually doesn’t apply.

George Mihalos - Credit Suisse

Okay. Well, that's certainly good to know. Wanted to go back to some of the revenue growth trends. You've obviously grown at a rate that's well ahead of what we're used to seeing in the IT services space. I believe in fiscal '12 you posted 37% revenue growth. It decelerated to 16% in 2013, that was a bit of a non-log soft like year. And now again over the first half of this year you are over 25% of growth is really started to come back. I think it was over a 30% this last quarter actually. Maybe talk a little bit about what you saw in '13 and how you sort of coming out of it now 2014.

Roman Yahushkin

Well, let me remind you that we have experienced uninterrupted growth and we had basically in our 13-year history, we had two years that we consider bad years. So one was 2008, 2009 and the second one was fiscal 2013 when we grew by 13% and that was not company specific issues. That was rather like market related issues associated with some turbulence specially in the financial services market and as you know, the financial service vertical is our largest one, right. We are like 57% revenues is coming from that vertical.

So what happened last year is some of our largest clients like in the mid year decided to postpone a number of projects and basically that cost some decline on the growth rate of the revenue, but on the other hand, what we see this year is we are seeing those projects coming back right, and that helps kind of boosting the growth rate for the company this year to above 20% and basically to restore the growth rate to 20% plus. So as I told you, we are aiming to grow at least 20% for the next two years.

George Mihalos - Credit Suisse

So to be clear, what happened in [16] was not a cancellation of projects it was just a postponement.

Roman Yahushkin

It was not a cancellation. It was like difference of bonus of a number of projects because as the banks were trying to face additional cost in excess of what they have.

George Mihalos - Credit Suisse

I can vouch for that.

Alina Plaia

Which resulted in income to stick business line.

George Mihalos - Credit Suisse

Absolutely. Why don't we pause for a moment see if there are any questions in the audience. Okay, so I will just carry on then. One of the things that you have good insight into is obviously trends in Europe. You have a sizable European business, I think it's about 40% or so of revenue.

Roman Yahushkin

46.

George Mihalos - Credit Suisse

How does Europe feel to you? We've seen a big acceleration in North America from a lot of other vendors. You put up good numbers, but does it really feel like Europe is really starting to turn in your mind?

Alina Plaia

Absolutely. It actually started to trend probably a couple of years ago. Europe is a little behind and always more conservative. U.S. was a pioneer about sourcing as you know during the year, but we see big shift in financial services companies. They are opening up. Now we started seeing a lot of opportunities in the Nordics and Benelux countries. So we are trying to penetrate the market there and then feeling very good response.

Also we do a lot of work with OEMs and of course with a lot of European OEMs and you saw that our vertical, automotive vertical was up 65% year-on-year. So that's obviously that they carried over by that country as well. So Germany was up about 23% year-on-year. So definitely on the upswing.

Roman Yahushkin

But also because they serve mostly like global clients right, just to give an example Deutsche Bank, they serve in the U.S., U.K., Germany, Switzerland, Ukraine, Russia. I mean for us this concept of divide between U.S. and Europe and of less relevance because our clients are of truly global nature.

George Mihalos - Credit Suisse

So simply because it feels like no services discussion is not complete without something about regulation or legislation or something in thereabouts, you cited the 9010 offshore on-site mix. As we think about any potential immigration reform passing through in the U.S., do you expect that to have any sort of an impact on your business model?

Roman Yahushkin

We don’t see any impact whatsoever. First of all, we don’t have personnel on H1-B visas. I think today we have like four FD working H1-B. So we feel that impact is negligible in our case and also because they just set our onsite ratio is quite low. It's less than 10% of our personnel reps on site.

George Mihalos - Credit Suisse

Okay, and then just moving on to the acquisition front. Obviously you've grown very, very well organically. Maybe talk a little bit about what you're looking for in potential acquisitions, your appetite to do acquisitions. And is it more a focus on geography or some sort of technology perhaps that you're looking to acquire?

Roman Yahushkin

Well as I said the company was able to grow largely organically for the last 15 years. So we are in no real need to M&As just to for the sake of scalability or geographical expansions as we are capable to achieve it ourselves in house. Nevertheless having said that we do target some potential M&A targets, but we see most kind of acquiring additional technology or establishing the foothold to enter into new realm, new customer or new like field within existing customer, just to give an example, at the beginning of this year, we bought assets of this small U.S. company called [Freedom] and having done that, we've acquired some new [Standard & Poor] and we were also able to establish foothold in the wealth management segment of UBS and feel until this time, where we were unable to penetrate that. So that's the kind of M&A structure a bit we are going to pursue for the next couple of years.

George Mihalos - Credit Suisse

Okay, so I think we'll have to end it there. Roman, Alina, thank you so much for your time. And congratulations on your results.

Roman Yahushkin

You’re welcome.

Alina Plaia

Thanks so much. Thank you, guys.

Question-and-Answer Session

[No Q&A session for this event]

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