Computer Task Group Inc. (CTGX) The Wall Street Analyst Forum November 28, 2007 1:20 AM ET
Jim Boldt - Chairman and CEO
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Application Management Outsourcing consulting, and software development and integration solution to help Global 2000 clients focus on their core businesses and use IT as a competitive advantage to excel in their markets.
CTG combines in-depth understanding of our clients' businesses with a full range of integrated services and proprietary ISO 9001:2000-certified service methodologies. CTG's team of IT professionals based in an international network of offices in North America and Europe have a proven track record of delivering solutions that work.
Following the post, Y2K reduction in technology spending, CTG refocused on core competences and on offering in-demand niche solutions to high growth vertical markets like healthcare.
Today, CTG is a $300 million plus company growing faster than the rest of IT services industry and on-track for a second consecutive year of double-digit revenue and earnings growth. More information about CTG is available on the web at www.ctg.com.
Presenting this afternoon is Jim Boldt, Chairman and CEO and Brendon Harrington, the CFO.
Good afternoon. As was mentioned my name is Jim Boldt, I am the Chairman and Chief Executive Officer of CTG and Brendon Harrington our CFO is also here this afternoon and we are pleased to talk a little bit about our company this afternoon. Like most of the presenters, I am going to spend about 30 minutes going through a formal presentation and then we'll open it up for questions.
I think everybody has probably seen a forward-looking statement disclaimer before. Little background on CTG. If you are not familiar with the firm, we're $325 million IT services company, founded in 1966 or over 40 years old. We have a market cap of little over $100 million. We have 35 offices spread across the United States, Canada and Western Europe. Probably have about 3,400 employees. So, we serve a lot of different markets. Most of our revenues actually come from the Global 2000. A very strong customer satisfaction and, a number of years ago, we focused on selected niche, higher domain markets and offering. And that's what I am going to talk about today.
In 2001, we looked at the IT services industry and we realized that it was a maturing industry. It's not a mature industry. It is going to grow faster than the GDP. Gartner follows our industry, believes that in the next five years the compounding growth rate, for the industry will be a little bit above 7%. But it's not a growth industry, it's not going to grow at the 10%, 20%, 30% rate that it did when the industry was relatively young.
And we believe that, in a maturing industry, you got to be much more focused. So, in 2001, we decided to refocus the company on three industries vertical market. The three we selected were the technology service providers, those are the large aggregators, IBM, EDS, and Fujitsu were the three largest in the world. Healthcare and Financial Services, we did it in 2001 about 38% of our total business was in those three industries and today around 75% of our business is in those industries. So clearly, we moved the company in the direction where we intended.
And in a minute, I will talk about each one of the industries, why we selected it, and give you some examples of our current offerings.
At the very highest level, we really have two offerings, it's IT staffing and IT solutions. In an IT staffing engagement, we will provide a technical employee, let's say: a programmer to one of our customers, and, while they are our employee, their technical staff actually directs them as to what to do on a daily basis. And a solutions engagement, we take responsibility for something inside our client's IT environment, sometimes while we will outsource the entire IT department, sometimes it will be the implementation and integration of a new software package, actually it did quite a bit of that. Could be hiring consultant, could be a variety of things, but in all cases, we have deliverables that we signed up for to deliver to the customer. Historically, our business has been about 50% staffing and 50% solutions, after the Y2K business ended in 1999, the industry went into a prolonged recession.
In 2004, the staffing side of the business came back, efficiently have been pretty good since the middle of 2004. The solution side of the business is only just coming back now and as a result of that, our staffing business grew at a rapid rate, while our solutions business only grew moderately. So today, about 68% of the business is staffing and 32% of the business is solutions. Now, that's not the high-water mark, actually about a year ago 72% of our business was staffing and 28% was solutions.
In the last year our solutions business has grown faster than our staffing business. And that's very important for us, because the operating margins on the two sides of the business are very different, the operating margins on the staffing side of the business are about 3% of revenue, the operating margins in normal market for solutions, generally tend to be about 10%. And as a consequence of that, we've as a stated goal and objective: to get the company back to at least a 50-50 mix of staffing and solutions, because if we do that that'll be a dramatic improvement in our operating margins.
Going into the individual industries. In 2001 we looked at the technology service providers and we realized that there was a shift decline. Every time one of the large technology service providers, IBM let's say, took over an outsourcing of one of their client's IT departments, they immediately stopped using the 300 to 500 IT services companies that their clients used to use, and only used the 10 to 20 IT services companies that run IBM's provider list.
In 2003, our Gardner also noticed that shift decline and they projected it within five years. So by 2008, 50% of all of the procurement of US staffing demand would be made by the large technology service providers, and not their clients. Obviously, it's a large volume low cost model. Fortunately, we believe we have the lowest cost delivering mechanism out in the market today. You need a geographic presence in order to serve the large technology service providers that's causing a shift of the business, obviously, the small IT services companies where we have offices in one or two cities can't serve one of the large technology service providers. So, more and more of the business is shifting from the small IT service companies to the national companies like CTG.
The concept says that we have been proven by IBM, IBM is our largest customer. They were 32% of the business for the first nine months of the year, and we believe that IBM has probably been our largest customer for around a 20 or 40 year history. And we have been told from time-to-time by IBM that we have more people on IBM sites than any other company in the world.
Obviously, the only offering we offered to this particular market is staffing. Here are some of the logos of some of our customers in new technology service providers' base. You can pretty much tell from the logos, we already have relationships with most of the large technology service providers.
Without a doubt in mind, Healthcare is probably the most exciting vertical that we are serving today and well, certainly, it has been growing at a rapid rate and we expect it to grow at a rapid rate going forward. In 2001 we were selecting the units that we focused on, we set a lot of different criterions. One, obviously was that we had offerings that would grow within the particular vertical, and other was, that we selected verticals who were growing as fast or faster than the GDP. I mean: if you're going to bet the whole company, than just a couple of verticals. Why would you select in this group if they're not growing as faster than the GDP?
When we looked at healthcare, we thought it was a no-brainer, but the world's population is aging at a rapid rate, because as you get older and you spend, more or less, on Healthcare. So Healthcare firms in the future will have more of the world's GDP to spend on IT services, and about a year ago, I picked up a Business Week and read in the front cover, and validated our decision. It stated that in a five-year period of time, the US economy dated 1.7 million jobs in that, and went on to state that the healthcare industry in the United States, in the five-year period, had also waited 1.7 million jobs net. So, all job creations in the United States over a five year period of time could be attributed to the healthcare industry, all other industries the job growth was zero.
We're all people of business. I mean people really need our products; so obviously, we want to be in industries that are creating jobs. We divide our healthcare business into three different sections because they act differently and the offerings are slightly different. One is, the provider market which for us is large hospitals. One is the pair marker which is health insurance companies, and the third is Life Sciences which was mainly a large pharmaceutical company.
Starting with the provider of hospitals, one of the ways that we go to market is through our reputation. We have a national sales force that in addition to sales people over in Europe that call on the hospitals. Hospitals in the United States have a rating service. Its class enterprises, press enterprise, surveys, all the hospitals in the United States on a monthly basis ask me what IT services companies they use, ask me about services we deliver and ask them relate them. And if you were to look at the class ratings for the last three years and aggregate each one of the individual ratings, CTG has the highest rating in than any IT services company consistently in every monthly rating for the last three years.
A lot of what we do in healthcare is the implementation and integration of software packages. Most customers want a multiple software packages. Cerner, EPIC and Siemens are three of the more popular manufacturers of little software packages. But more and more where we are spending our time on is electronic medical records, most of those packages all of them pretty much stake. We have a form of electronic medical record and the hospitals are trying to shift over to those, because it's more cost effective and also we have a better security over them than people files.
Our electronic medical record business has been growing at a nice rate. In 2007, we project that 5% of our total business would be in electronic medical records. In 2006, it was 3%, 2005 it was 1%.
The aging population isn't just in United States, it's a worldwide problem. Actually, the US aging is less than most of the countries. England, a couple of years ago, decided to do something about it. They have socialized medicine. They decided to roll out all of the software packages that they use, most of which were home grown actually in all the hospitals, clinics and physicians' offices in the UK and replace them instead with state-of-the-art software, which would lower their cost and actually improve medical care
It's referred to as: national healthcare system. A project in the UK is the world's largest IT project with over $10 billion. We have been working on it for the last three years. Unfortunately, the project has been going very slowly. The biggest problem really is that the software manufacturers underestimated the time required to modify the US software, so that it will work in a European, or in an English hospital rather, and the EP NHS's requirement, but we believe that they are committed to what they would to get the project done. We also believe that England would be the first country in the world that has a country-wide electronic medical record system.
In addition to the opportunity in the UK, almost all the European countries are watching what's going on in England. They all have socialized medicine, medical costs worldwide are going up 10%, 20% a year, and they are waiting for the British to get the bugs out of the system really and we believe, that once the British get their system fairly well installed, that the other European countries will follow soon and probably implement the same packages.
We do deliver both solutions and staffing and the providers space, but, quite frankly, almost everything that we do is a solution, and here is some of the hospitals and hospitals teams that we service, we are going to put a lot of hospitals up in the slide, we are hoping people will recognize one. If you do, we tend to do business with only the large customer chains. We don't do any business at all, actually, with small individual hospital, they don't have the revenue stream that we're looking for and they tend to acquire.
The payer's space, another tremendous opportunity we believe for us going forward, obviously, part of the target market is over 200 private US health insurers. In addition to that though there is a new emerging market is the RHIO, substantial regional health information offices. Almost every city, major city in United States within the last 24 months has formed the RHIO, other three actually here in New York City, 11 in New York State.
A couple of years ago, the Federal Government passed the HIPPA regulations and part of those regulations, were to acquire that hospitals by law had to send their invoices to health insurance companies electronically. They can no longer send them through the US mail system and that's been implemented now and it did reduce healthcare cost to some extent. But the bigger ramp really was the hospitals and health insurers work together and they realized that neither one of them could do it separately, if they work together, they could significantly decrease medical cost increases going forward and actually improved medical care.
So they formed the RHIOs, the RHIOs are being funded by the states payers and providers, one other things that almost everyone of them is looking at is developing a regional electronic medical record system for a lot of different reasons, mostly is cost production. If region in a country has an electronic medical record system, they can significantly reduce duplicate test, I don't feel ever going to doctor's office and get blood work done and he seemed something he didn't like and sent it to a specialist. First thing the specialist asked you to do is get blood work done because he doesn't have access to doctors' files but not it's blood work, it's, x-rays, CAT scans etcetera. If you have the region in the country live and had an electronic medical record system, the specialist could just sign on and look at the blood work that have been done, the physician had reviewed.
In addition to that the specialist is going to have access to your entire medical record. If you think about it already really knows about your medical history is the procedures he did on you plus the 20 questions that you had answered while you are waiting to see him.
In addition to that the healthcare industry believes that if the records are up and running, they can use them for data analytics for disease management. One example that I've heard about is: type 2 diabetes. Most people in the United States who get type 2 diabetes are over the age of 40, 90% are overweight, so we can take the population sort of the people who are below 40 and then the people that under 40, they were overweight and somehow to the cost incentive or whatever encourage them to lose weight periodically at least to eliminate the disease in the United states.
We did do both solutions and staffing at this market as well, but, quite frankly, almost all of them, we are doing now is solutions and here are some of the clients that we have currently in peer space.
The third component of our healthcare is: Life Sciences which for us is mainly the large pharmaceutical companies. We selected it for the same reason when we selected healthcare in general as people get overweight treatment prescriptions, population is aging so Life Sciences companies were the greater portion of the GDP going forward.
We approach it very differently than the other two sectors. We look for regulatory compliance issues that involve IT as an example, number of years ago, the FDA realize that they had multiple occurrences of a pharmaceutical company using the lab equipment to do trials getting approved by the FDA. But later testing and realizing that drug that was in the market was different than the one approved and the reason was that lab equipment was set to different specifications than the manufacturing equipment. They also realize that they had incidents where drugs were approved, however, the IT systems that had a cumulative date on the drug actually, weren't operating profitably enough the FDA team, the information categorize correctly, they probably wouldn't have approved the drug.
So, they put out a regulation and mandate that the pharmaceutical companies have to constantly test and retest when they make changes to their IT systems and validate to make sure their IT systems are working properly, that their lab equipment is functioning the specs as is the manufacturing equipment. And we have a group of people that do nothing, but they do for Life Sciences companies and obviously it's a never ending task. They are constantly changing their IT systems and adding new lab equipment.
We also have an information security group. These are very large companies, they have huge networks, they always need penetration testing, improve firewall et cetera. And we do deliver both solutions and staff into this market. Here some of the low dose for a clients in the Life Sciences space and pretty much that you can tell from the logos, we have large and small ones up there, I guess, but the reality is most of our revenue comes from the large pharmaceutical company like Eli Lilly, Johnson & Johnson and Bayer.
So, 11% of our business is in Financial Services. We select this industry for slightly different reason than healthcare. Healthcare we selected because of the growth. Financial Services we selected because of the size. Financial Services company spend more per dollar of revenue on IT than any other industry. And its because they have to deal with the large number of small transactions.
We approach it though, the same way that we approach Life Sciences. It's a highly regulated industry. We look for regulatory compliance issues that involves IT. An example would be Basel II, which is a European bank agreement. The European banks agreed that would all evaluate credit and new found fashion. It doesn't sound like a big deal, but it takes most banks about four years to get all of their IT systems in compliance with that.
Our information security group also focuses in on this market, as you know the Financial Services companies have had multiple incidents of losing customer data. Visa, for one, came out with minimum standards or one customer data. If you are going to process a Visa transaction, so most likely either our retailer or a financial services company. You have to have an independent firm come in and looking at your security and Visa actually has minimum standards of things they have to have protecting your security. And we don't meet those requirements, you have to quickly remediate any deficiencies, otherwise Visa can and will actually revoke your rights of process of Visa transaction. And we are one of the few companies actually authorized by Visa to go in and do those audits and help the remediation. We do those solutions and staffing to this market.
And here is some of our Financial Services clients. On this particular slide, we actually have more US logos than European logos. The reality is about 60% of our Financial Services, more than 60% is in Europe, a little less than 40% from United States.
I am going to go over our few financial slides. I just have two general comments. One, for all of the 2007 numbers, we are using the midpoint of our current guidance.
Two, we had another company that made an unsolicited offer to acquire CTG at the end of the second quarter. Our Board evaluated that offer and rejected it, as they deemed it inadequate and not in the best interest of shareholders, we have for the purposes of these slides eliminated the cost will incur to evaluate those offers.
This first slide goes over our revenue, our three year compound revenue growth for the three years ended December 31, 2006 was 10.1% if you look at the data for the IT services industry it was between 3% and 4%, so we grew at a rate of about 3 to 4 times that of the industry.
In the third quarter 2006, IBM was our largest customer, [Kim Nelson] said, they had several large projects aiming in one of the larger divisions that we support and as a consequence of that, they no longer needed about 450 of our technical employees that equates to about $35 million reduction in their demand at that point in time. So, we lost that business as you can see, we pretty much made it up, a lot of the additional business was in the solution side of the company.
If you look at our net income for the last few years in 2004, we had our subsidiary in the Netherlands that was losing money and we sold it for a loss and that totally accounts for the loss that year, going back to profitability in 2005 our income went up 46% in 2006 and we are expecting that the mid point of our guidance should go up 34% in 2007.
As our EPS for the last few years again in 2004 the loss was attributed to the sale of the Dutch subsidiary. We earned $0.14 per share in 2005 about a 50% improvement in 2006 and we believe at the mid point of our guidance we have about 33% improvement in 2007.
You probably noticed our revenues are dead flat with last year, but our earnings and net income is going up and that's a sales mix shift that I had mentioned because the solutions business is growing faster than our staffing business. Our operating margins are increasing as a result of that.
Here are our earnings per share for the last few quarters. Our EPS in the third quarter of 2006 was $0.05 per share. In the third quarter of 2007, it was $0.07, so about a 40% improvement. In the fourth quarter 2006, our EPS was $0.06, the midpoint of our guidance we're looking for $0.09 in the fourth quarter of this year, so about a 50% improvement in EPS.
Just a couple other things to consider when looking at CTG, business to that all which is Time Warner Magazine decided that they would identify and publish the list of 100 fastest growing technology companies in the June issue of 2006, and this was all technology. So, it includes video game manufactures, iPod manufacturers, software, services, chips, etcetera, PCs. So they looked at over 2000 technology companies over a three-year period of time. So as the three years ended December 31, 2006, and they evaluated three things, it was revenue growth, operating income growth and cash flow growth. And I am pleased to say that CTG made the list of a 100 fastest growing companies. We were actually the 69th fastest growing tech company of all the public companies over that period of time. And, just to put it in perspective, eBay which most people consider: “our fast growth company”, they were 92. So, we beat eBay.
We have got no point of time where our revenue comparison is more apples-than-apples. I mean for the three quarters because of the IBM cutback, obviously, we were up against some top comparison. In the fourth quarter of the year our guidance is that our revenues have grown between 6.4% and 9%. Going forward, we grew at three times the rate of the industry over the last three years, because the solutions business is coming back, Gardner is projecting revenue growth for the industry at 7% for the next five year, because we were in the higher growth of each market, the industry grows at 7%, we would expect to grow faster than the industry during that period of time. There is no doubt that the increase in revenues is going to drive our earnings growth going forward.
But, quite frankly, we believe that the larger factor in growing our income going forward and earnings per share is going to be the sales mix shift. It's getting more solutions and our sales mix will drive more income improvement going forward in the next few years, then even the revenue growth would.
Clearly, we had double-digit EPS growth in 2005, 2006, 2007. We're anticipating -- we're also anticipating it in 2008. And the strongest sectors, I touched some about healthcare, we didn't talk about geographies. Our European operations have been growing at a nice pace over the last three years and I don't count the foreign currency exchange. I actually look at it in Euros because it's a much better comparison. And in Euros its been growing between 10% and 20% over the last couple of years and then on top of it, of course has been that we've seen in the dollar effect.
That's actually it for my presentation. I don't know if there's any questions that I can answer.
Unidentified Audience Member
We're involved in the UK project. The question was: how much of the UK project are we involved in? There are five regions in the UK, that's the way that they set up in each one of them as a separate project for them. We're involved in through the project; it's the southernmost region. So, it's the London region, and the region in South England. We've been involved for three years. We started off by doing the implementation plan actually for one of the regions, but unfortunately then the software wasn't available. There are over a 1,000 hospitals that they have to do installs in, plus clinics and doctors offices. To-date, they have done seven hospitals with kind of beta versions of the software. We actually participated in all seven of the beta tests. We think probably next year, we'll probably have the software (inaudible) and let them begin to do the massive implementations.
Unidentified Audience Member
What do they mean for revenue for the company?
The question was: what do they mean for revenue for the company? We don't have a projection over there, because one quick like I am a little gun shy the software guys originally said it would take them one year to get the software ready, it's three years, and it's next year that it is coming out. I don't know what it is. Our run rate which we have disclosed currently, which was kind of few people to do primarily planning, etcetera, is about $6 million a year. I would expect it definitely would be a multiple red number. And then, we have had debates, each one of the regions has a prime contract line, and were actually a sub to one of the primes, two of the primes, rather. And they have approached us about opening offices in Europe, because they believe that the European countries are getting close to the point that they will begin our implementations. Yes, Europe is kind of funny, I mean in everything. Alright, so everything, I let the Brits top it out, figure out how to get it done and in most of the comments is opposite.
Unidentified Audience Member
Right. I don't have the history very well, but: can you just talk through what happens at IBM? And you have lots of contracts, and are: how you dealt with those in place? Do you keep them on sanity of other projects in the pipeline? Could you talk a little bit about how you see a pipeline investment? These are projects that you are constantly getting new project…
Yes. First, the question is: could I talk a little bit about the IBM relationship and the cutback that occurred? We actually didn't lose the contract. We are the only provider of resources for that particular division. What happened is that they are a huge division to one of IBM's largest and they just had a whole -- it's the server division and they had a whole bunch of projects ended. And what we think the 450 people is being very large, they probably have 75,000 employees, so they didn't think about as much of an adjustment.
So we didn't lose any business there at all, actually the year before their larger projects starting, so we gain 200 people. Because of staffing that's kind of the nature of. I mean: some years, they're going to need additional resources, some years, they won't, just tends to go up and down. Unfortunately, this was kind of painful. We like that, we don't, we love it when they go up, but it's kind of tough when it comes back down again.
In terms of redeploying the people, we try to as best as possible, but quite frankly that's somewhat difficult. These people have expertise in things like programming servers, so unless you have a need for someone that -- I mean: the operating system not working at a plan. So unless you have another client that needs somebody who understands program and operating system in the same city is really tough to redeploy, so most of those people unfortunately we lost.
Unidentified Audience Member
The 11% of the Financial Services: what piece of that is the piece of PCI work?
The question was: on the 11 percentage Financial Services, what percent is the PCI work? The answer to that is: right now it's a very, very small percentage. We think going forward that probably all of accounts are going to put our requirements like this. They gave their customers and people that transact their transactions fair amount of time to get this done, but more and more our security group is working on. It's not just customers information security, but it's also employee information security, because I understand there was another problem in the UK recently where they were -- I guess they lost bank data, you know the world just got to stop doing this because there is really no reason to do that anymore.
Any other questions, if not, thank you very much. Thanks for coming.