Zensar Technologies : Earnings Call Transcript Q2 FY24

"Zensar Technologies Limited Q2 FY24 Earnings

Conference Call"

October 17, 2023

MANAGEMENT: MR. MANISH TANDON - CEO & MD

MR. SACHIN ZUTE - CHIEF FINANCIAL OFFICER

MR. VIVEK RANJAN - CHRO

MR. VIJAYASIMHA ALILUGHATTA - CHIEF

OPERATING OFFICER

MODERATOR: MR. PRITESH THAKKAR - MOTILAL OSWAL

FINANCIAL SERVICES LIMITED

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	Zensar Technologies Limited
	October 17, 2023
Moderator:	Ladies and gentlemen, good day and welcome to Q2 FY24 Earnings Conference Call of Zensar
	Technologies Limited, hosted by Motilal Oswal Financial Services Limited.
	As a reminder, all participant lines will be in the listen-only mode and there will be an
	opportunity for you to ask questions after the presentation concludes. Should you need assistance
	during the conference call, please signal an operator by pressing "*" then "0" on your touch-tone
	phone. Please note that this conference is being recorded.
	I now hand the conference over to Mr. Pritesh Thakkar from Motilal Oswal Financial Services
	Limited. Over to you, sir.
Pritesh Thakkar:	On behalf of Motilal Oswal, I welcome you all to Zensar Tech's Q2 FY24 Earnings Call. We
	have Mr. Manish Tandon - CEO and Managing Director of Zensar Tech; Mr. Sachin Zute -
	Chief Financial Officer; and a few other members of the senior management team.
	Before I hand over the call to Manish, I would like to highlight that the safe harbor statement of
	the second side of the earnings presentation is assumed to be read and understood. Over to you,
	sir.
Manish Tandon:	Hello, good morning, good afternoon, and good evening to everyone. Thank you for taking the
	time to join us today to discuss Zensar's Financial Results for the second Quarter of the Financial
	Year 2024.
	With me on this call are a few distinguished colleagues; Vijayasimha - Chief Operating Officer,
	Sachin Zute - Chief Financial Officer, and Mr. Vivek Ranjan - CHRO.
	Our Q2 performance shows continued strength and demand for our service lines, particularly
	around Experience Services, Advanced Engineering, Data Engineering and Analytics. Q2
	revenue crossed $150 million, a sequential quarter-on-quarter growth of 0.6%. Our PAT
	registered a sequential quarter-on-quarter growth of 130 basis points and year-over-year growth
	of 940 basis points. Earnings per share saw a growth of 11.3% quarter on quarter.
	Let me walk you through the high-level performance of our geographies and verticals for this
	quarter:
	The Europe and South Africa region has shown good growth momentum on account of our
	service line diversification and new wins across long-standing and new clients.
	We saw a decline in the US region due to project closures in a few key customers.
	On the vertical front, I would also like to take this opportunity to update that we will start
	tracking Healthcare & Life Sciences as a separate vertical. In the last four quarters, we have
	identified certain key strength areas, Healthcare being one of them. We see a long-term potential

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in Healthcare and have already identified leadership around it. It is an existing business for us

	and we have realigned our verticals to that effect.
	Apart from this, we have also realigned our other verticals in line with our leadership structure.
	Coming to the sequential Q-o-Q constant currency growth for the verticals:
	Our services revenue in Banking & Financial Services grew by 3.0%, Manufacturing &
	Consumer Services grew by 6.7%, while Hitech declined by 8.3%, and Healthcare & Life
	Sciences saw a decline of 1.7%.
	I am pleased to share that for the second Quarter, our last-twelve-months attrition declined to
	13.1%, a sequential improvement of 280 basis points.
	This quarter, we gave salary increases which was better than the industry average and has been
	very well received by our associates across all levels.
	With that, I will now invite Sachin Zute - our Chief Financial Officer, to provide an update on
	critical financial data.
Sachin Zute:	Good day everyone and thank you for joining the call today. In addition to Manish talking about
	business, I will take you through some of the key financial metrics for the quarter ending
	September 2023.
	The revenue for the second Quarter of FY24 stood at $150.2 million in US dollar terms,
	reflecting a growth of 0.6% sequentially in reported terms and 0.2% in constant currency terms.
	Gross margin for the quarter stood at 31.8%, a decrease of 180 basis points quarter on quarter.
	The decline was primarily due to a wage hike impact of 190 basis points, reversal of one-time
	benefit of 80 basis points, which was mentioned in the last Quarter's Earnings Call. It was
	partially offset by the exchange gain of 30 basis points and utilization benefits of 50 basis points.
	SG&A has improved by 170 basis points. Wage hike had an impact of 30 basis points on SG&A,
	which was compensated by a reduction in discretionary spends. Further, during the quarter, we
	had finalized our annual management bonus of FY23, which had a one-time positive impact of
	160 basis points on SG&A. Normalized SG&A has remained flat quarter-on-quarter basis.
	EBITDA for the quarter was at 18.6%, lower by 10 basis points against last quarter. Net of one-
	timer, EBITDA would have been close to 17%. After Q2 of last fiscal, we have consistently
	improved our EBITDA margins. This was a result of rigorous efforts driven across the
	organization, which involved several tracks including improving commercials, focus on services
	revenue, optimization of subcon, improving utilization, control on attrition, and reducing talent
	acquisition cost resulting in a Y-o-Y improvement of approximately 10 percentage points on
	EBITDA.

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These measures have enabled us to make investments into focused areas of business.

Our objective continues to maintain margins at mid-teens trajectory for the financial year despite current demand softness.

LTM attrition levels have shown continuous improvement over the quarter and stood at 13.1% for Q2 FY24.

DSO for the quarter stood at 79 days.

For the quarter ended, cash and cash equivalents including investments stood at $227.1 million,

1. $6.7 million decrease from last quarter. Quarter-on-quarter decline is due to advanced tax payment, dividend payout, and annual bonus payout of FY23 in Q2 FY24.

Order book was 194.8 million for the current quarter. This also includes some spillover from the previous quarter and certain renewals which closed earlier in this quarter itself.

Effective tax rate for the quarter is 22.7%, an improvement of 300 basis points quarter on quarter. ETR improved due to credits received at foreign locations during the quarter, part of which are expected to continue for the balance of the year.

Total amount of outstanding hedges as on September 30,2023 was equivalent to $289.1 million against $246.7 million in Q1 FY24.

On the ESG front, as of Q2 FY24, we have taken specific initiatives to increase green energy component and reduce energy consumption to achieve our goal to reduce Green House Gas emission by 11% compared to FY23. We have achieved approximately 25% green energy component in our energy mix globally. We continue our journey on water positivity with water generation exceeding water consumption at our Pune campus.

With that, I now invite Vijayasimha - our Chief Operating Officer, to provide updates on business operations.

Vijayasimha Alilughatta: Greetings everybody. Manish has provided insights about our business and Sachin has shared details about the key financial metrics. I will share details about our operational efficacy, service line performance, and capability enrichment initiatives.

We are continuing our journey on operational excellence and making good progress on key imperatives like pyramid optimization, managing utilization in an optimal range, and calibrated usage of subcontractors while managing our onsite mix. Disciplined execution on these parameters enabled us to minimize the impact of wage increase on cost of delivery.

Enhanced fulfillment rigor enabled us to minimize the impact of volatile demands due to macroeconomic situation. This rigor enabled us to improve our utilization by 60 basis points.

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This quarter, we saw good growth in many of our Service lines.

On a quarter-on-quarter basis in reported terms, our Advanced Engineering Service line registered a growth of 7.8%, Experience Services grew by 3.1%, Application Services and Enterprise Application Services grew by 0.2%, while Foundation Services remained flat. Data Engineering and Analytics saw a decline. Our key Service lines continue to scale up well, making up to 34.0% of our total revenues.

We are continuing to deliver value to clients via our "Experience-Engineering-Engagement" continuum of service offerings. As part of this, we have developed multiple assets that can help our clients navigate the complex AI ecosystem. These assets help our clients identify the right set of use cases and technology solutions to achieve competitive differentiation. We are accelerating our Talent Transformation journey to increase the depth and breadth of subject matter expertise of our employees on emerging technologies as well as appropriate business domains.

With that, I now hand it back to Manish.

Manish Tandon:There are signs of continued softness due to the difficult macroeconomic environment impacting customer technology spend decisions. We are carefully watching the demand environment and continue to stay close to our clients so as to respond to their needs and accordingly adapt our investment plans.

Over the last 4 quarters, our thrust on client centricity, execution excellence, and employee- centric policies have yielded positive results.

Continued focus on execution of strategy through accelerated go-to-market partnerships and sales rigor with the goal of investing in long-term growth remains our top priority.

With that, we can open the lines for questions.

Moderator:We will now begin the question & answer session. The first question is from the line of Mr. Nitin Padmanabhan from Investec.

Nitin Padmanabhan: I had a couple of questions on the deal wins. I think on the face of it, the deal wins look strong at 1.3x book to bill. Normally I would assume that this would lead to a strong Q4, but I think you made a few qualifications there saying there is a spillover and the renewals. Could you give some color there? And assuming a strong Q4 with these deals flowing through into Q4 revenue, is that a wrong assumption? Just wanted your thoughts on how to think about this.

Sachin Zute:Nitin, as I said that $194.8 million order book which we reported has spillover from Q1. There are certain deals which got spilled over from Q1 to Q2, and there are a couple of deals which we were expecting to sign in Q3 got signed in Q2 itself. So, the normalized run rate could be very close to what we reported last quarter. It will be better than the last quarter. As far as Q4 is

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concerned, Nitin, I think it's too early for us to give you any flavor given the circumstances which we are dealing with, and as Manish specifically called out, the demand environment continues to be challenging, and I think we will be only able to comment on that as we move forward.

Nitin Padmanabhan: So, here's the challenge. The broad thought process was that margins will improve - we have done extremely well on margins - and growth should be tail-ended. And at least on the face of it, it looks like based on the deal wins that it could be. What are the concerns that you have? I did notice that Hitech is down sharply and maybe Q3 is soft because of furloughs. So, I just wanted your thoughts on how to think about this. Do you think that these deal wins will not convert to revenue or there are possibilities of delayed convert to revenue?

Manish Tandon:The way we report the order book, the deal wins will convert and the entire $194.8 million is going to convert to revenues. The question is that you are filling the bucket from one end, but we don't know what will be the leakage of revenues due to furloughs and due to lower number of working days and so on and so forth in the quarter. You can be assured that if we are showing 194.8, 1. it's a very precise number and 2. we will get those numbers.

Nitin Padmanabhan: Lastly, before I exit the floor, what are the areas of worry from a vertical standpoint at this point in time? And when do you think Hitech can potentially bottom out?

Manish Tandon:I think if you look at our performance overall, except for Hitech as a vertical, we have done very well actually. We have done well in Africa. We have done well in the UK and Europe. We have done well in financial services. We have done well in consumer services. Our Experience services business is growing. Horizontals, we are seeing growth, pretty much everywhere. Except for Hitech as a vertical, the growth has been very very promising across the board. But when will Hitech recover? I think that's a trillion dollar question, not even a billion dollar question because as you know, today 70% of the capital spend in the US economy is on technology and technology related products. And as we are seeing elevated interest rates and quantitative tightening, I personally feel that unless we see a dampening of interest rates and a dampening of quantitative tightening, I don't think it will be easy for the Hitech as a vertical turnaround.

Moderator:

The next question is from the line of Sandeep Shah from Equirus Security.

Sandeep Shah:Sir, I just wanted to know within the Hitech vertical, is it a pain within one top client or these are pains beyond some of the other top clients within Hitech? And the way I look at it is these clients are a pain point for Zensar in terms of suppressing growth on a year-over-year basis. So, we can have 2 solutions. One is to open more purchasing windows in these accounts or actually accelerate the growth in the other segments outside these accounts. Which path we are looking for in terms of diversifying and minimizing this risk which suppresses the growth of Zensar year after year?

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Manish Tandon:	One is, I am not as pessimistic about Hitech as you are. 1) I think once we get our act together
	in this vertical, it will turn around. 2) As you have seen, we have added Healthcare as we have
	identified Healthcare & Life Sciences as a vertical and which we are going to put a special focus
	on. We have also opened 8 new logos in this quarter. So, there is a lot of action happening on
	the sales side. And actually that is reflecting in the order book of $194.8 million that Sachin
	talked about.
Sandeep Shah:	In terms of the rejuvenated go-to market, accelerated sales growth aggression, Manish, is it fair
	to assume the roadmap in terms of quarterly TCV is on the up rather than remaining more or
	less at the same range of $150 million to $170 million on an adjusted basis?
Manish Tandon:	As I mentioned in the previous answer - you have seen the order book number - I think it will
	depend on what we see in terms of revenue leakage because of furloughs or specific client
	situations or anything. It's just dependent on that. It's a balancing act that we have to do every
	quarter. And as you know, this quarter Q3 is a very very tough quarter for the entire industry
	because of furloughs and lower number of working days.
Sandeep Shah:	And second, Sachin, a question about the first half normalized EBITDA margin. Even if I skip
	off the one-off in the 2nd Quarter, it looks like at 17.8% and the wage hike is largely behind,
	and we are still maintaining a mid-teen kind of a guidance. So, is it fair to assume the margin
	guidance is slightly more conservative or do you see some unforeseen headwinds, maybe related
	to furloughs, in the coming quarters?
Sachin Zute:	Sandeep, furloughs is a very much known phenomena for the industry and for us as well. So,
	from that perspective, the guidance which we provided for the year actually baked that in. Apart
	from that, as Manish said, we have now created room for creating investments in our capability
	building and, in our sales, & marketing department. From that perspective, that investment will
	definitely have some dilution from the current levels.
Manish Tandon:	Just to reiterate on PAT, I don't know how many of you noticed that in the first half of this year,
	we made more than what we did in the entire last FY23. At least that is something that we
	internally are very proud of.
Moderator:	The next question is from the line of Mihir Manohar from Chameleon Asset Advisors.
Mihir Manohar:	When you mentioned the normal EBITDA is 17% versus the reported number of 18.6%, what
	is the gap here which is there and what exactly is this?
Sachin Zute:	The gap is due to the one-time reversal of management bonuses for FY23, which the decision
	was taken during the current quarter and reversal of that has come in the current quarter's P&L.
	As you all know that FY23 was not a very good year for us as a company and we have very high
	performance driven criteria on the basis of which management of the company gets its bonuses,
	given the performance, we have seen the one-time positive impact of 160 basis points on the
	margin. If you take that out, the normalized margin would be close to 17%.

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Moderator:

The next question is from NGN Puranik from Enam Asset Management.

NGN Puranik:I have a question. You talked about capability building and pyramid rationalization, and these are the best leverage available for an IT services company. If you can elaborate on what all you are doing on the vertical and horizontal capability building at the individual level and at the company level.

Vijayasimha Alilughatta: On the capability building front, we have basically 2 dimensions. One is deepening the technology capabilities of our associates around the 5 Service lines that are associated with Advanced Engineering practices, which is nothing but cloud-native capabilities. We are also significantly increasing the capability of our associates around the Experience Services as well as Oracle, SAP, sales force kind of a thing. Outside of that, we see a strong market for AI and Generative AI. As we speak, we have embarked on the journey of upskilling our people across the Generative AI spectrum. That is completely fully in force. And finally, given our growth potential, we see that we also need to basically have our people sharpen their domain skills because techno-functional skills are what is going to be the need of hour to deliver value to our clients. So, we are sharpening the domain skills as well. And of course, the other things associated with leadership training, project management training, and things like that. We have a very structured capability enrichment program with individualized learning paths for each of our associates, and that is beginning to yield results. Some more work to be done.

NGN Puranik:Can you summarize in terms of the capability building which you use for client operations. What are the key services you are building the capability? Is it how big is the focus on analytics? You talked about customer experience and engagement and others, but in terms of analytics, how big is the focus?

Manish Tandon:No, I think there's a huge amount of focus, Mr. Puranik, on Experience Services which includes both the research, design, UI, and customer experience. We have a very compelling practice on Data Engineering and Analytics already. By the way, we have integrated the generative AI capability with our Data Engineering and Analytics capabilities because we believe that without data, there is no artificial intelligence. It can only be artificial dumbness. So, we have combined the two and we believe that all these newer Service lines are going to be big growth areas for us. And we are actually seeing those in the results.

NGN Puranik:How many projects you have done using analytics with generative AI?

Manish Tandon:Nobody has done any projects, and if they claim that they have done projects, it may be a single digit number, but we have done close to 100 proofs of concept for our clients. And not every proof of concept translates into real projects because the technology is still fairly nascent no matter what people tell you; it is fairly nascent. It is not really ready for prime time on the enterprise, especially on the customer side.

NGN Puranik:So, it can be both productive and predictive?

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Manish Tandon:	Yes.
NGN Puranik:	From a productive perspective of improving your own operations and predictive in terms of
	building solutions for the client?
Manish Tandon:	Yes. And most of the use cases that we are seeing the clients use it for is more on the productive
	side rather than predictive side because on your inside stuff, you can afford a higher error rate
	than on the client-facing stuff. So, most of the use cases that we are doing POCs on with our
	clients and for ourselves actually are related more to productivity improvements rather than
	predictive capabilities.
NGN Puranik:	When you say you are building capability at different levels, how do you leverage this? Is using
	fixed price one option because fixed price projects are very difficult to manage because if they
	go wrong on estimation either time, cost, effort, value, or anywhere or scope mainly, but when
	you have people who have better Experience capability, can you take a bigger risk of doing fixed
	price projects where the margins can be greater?
Manish Tandon:	Actually, there are 2 ways of using this concept. One is, as we found out with certain clients that
	they didn't have the budget to do an all-natural intelligence project. By introducing artificial
	intelligence and improving the productivity in a low-risk fashion, we were able to reduce their
	overall spend by 50%. And then they had the budget to do the overall project. That is one way
	of doing it. Fixed price, the technology is so new that we don't really want to take high-risk fixed
	price projects, but proof of concepts, demos, etc., we are doing it on a fixed price basis and it's
	not very risky.
Moderator:	The next question we have is from Mr. Pritesh Thakkar.
Pritesh Thakkar:	I just had a question. What I was asking was on the SG&A, you mentioned that the impact on
	wages was 30 bps for this quarter. Are we expecting any residual impact for the next quarter?
Sachin Zute:	No, nothing apart from what I called out.
Pritesh Thakkar:	I was asking on the client buckets. What is driving growth for the Beyond Top 20 clients?
	Because, it reported 9.5% Q-on-Q growth while your top 20 accounts declined by 4.9% Q-on-
	Q.
Sachin Zute:	Pritesh, if you look at when Manish joined, at that point of time, he clearly called out that we are
	going to start a new organization within our sales team which will focus on the net new business
	for the company. For the last 2 quarters, there have been a lot of hiring which is happening over
	there, and gradually we definitely think that that engine will start picking up and will help us
	grow outside the top 20 clients for the company.

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Manish Tandon:	And we are already seeing it, Pritesh, that the non-top 20 clients are growing faster. And this is
	primarily because of 2 things. One is Net New logos and the second is that in our smaller clients,
	we are doing much better on farming and hence trying to increase the numbers.
Pritesh Thakkar:	In the Q3 quarter, since we have the furloughs and holidays coming in, do we expect the impact
	to be in a similar line to what we had last year or you expect the growth to be a little severe given
	we have these macro headwinds coming in?
Sachin Zute:	Pritesh, normally we don't give a forward-looking guidance on this subject, but what I can say is
	that it will be in line with the last 2 or 3 years' impact which you saw.
Pritesh Thakkar:	The reason why I'm asking is because we signed a strong PCB this quarter. I thought if there is
	any ramp-up coming in from there and we should see a little bump-up in Q3 vis-a-vis the last
	quarters.
Sachin Zute:	I think the furloughs are part of the industry and part of the numbers which we have been reporting
	over the years, and we do feel that we will see the impact of furloughs for Q3. Along with that,
	if you see the macro environment is also definitely not helping us. From that perspective, you
	can actually take the impact which you saw over the last 2 or 3 years in Q3. On the similar lines,
	we are expecting given the current situation.
Moderator:	The next question is from the line of Mr. Sameer Dosani from ICICI Prudential AMC.
Sameer Dosani:	Congrats on a robust execution during the quarter in difficult times. On Healthcare, I am sure
	you would have formed GTM strategy, and leadership was inducted. If you can share some
	strategic high-level pointers of what your thought process is, that will be helpful. The second
	part is on BFSI. In times like these where expenses from banks are struggling actually, your
	growth has remained robust. What are those parameters or what are those things that you are
	doing differently? If you can just highlight what are the key differentiators there.
Manish Tandon:	First of all, on Healthcare & Life Sciences I will reiterate. I think without even calling it a
	vertical, we have had a good presence in Life Sciences and Medtech overall and a couple of
	Healthcare accounts. We believe that adding domain capabilities to this mix and offering a
	broader range of our services to the Healthcare & Life Sciences sector will yield richer dividends
	than if it was hidden in the emerging area. We will start by enhancing our domain capabilities
	in this area and marrying our offerings with the domain capabilities and taking them to the
	market. That is broadly the incubation strategy, at least for the first 2 or 3 quarters.
	BFSI, we are doing quite well. Two reasons; one is, in BFSI, especially on the insurance side,
	we have specialized in certain packages and we have both the technical depth and the domain
	capabilities to go deeper into these areas. And once we have entered this, we have expanded
	using our other offerings. That has worked well in overall BFSI for us.

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