EPAM SYSTEMS, INC. You should read the following discussion and analysis of our financial condition and results of operations together with our Annual Report on Form 10-K for the year endedDecember 31, 2021 and the unaudited condensed consolidated financial statements and the related notes included elsewhere in this quarterly report. In addition to historical information, this discussion contains forward-looking statements that involve risks, uncertainties and assumptions that could cause actual results to differ materially from management's expectations. Factors that could cause such differences are discussed in the sections entitled "Forward-Looking Statements" in this item and in "Part I. Item 1A. Risk Factors" in our Annual Report on Form 10-K for the year endedDecember 31, 2021 . We assume no obligation to update any of these forward-looking statements.
In this quarterly report, "EPAM," "
"EPAM" is a trademark of
Executive Summary
We are a leading global provider of digital platform engineering and software development services to many of the world's leading organizations.
Our customers depend on us to solve their complex technical challenges and rely on our expertise in core engineering, advanced technology, digital design and intelligent enterprise development. We continuously explore opportunities in new industries to expand our core industry client base in software and technology, financial services, business information and media, travel and consumer, and life sciences and healthcare. Our teams of developers, architects, consultants, strategists, engineers, designers, and product experts have the capabilities and skill sets to deliver business results. Our global delivery model and centralized support functions, combined with the benefits of scale from the shared use of fixed-cost resources, enhance our productivity levels and enable us to better manage the efficiency of our global operations. As a result, we have created a delivery base whereby our applications, tools, methodologies and infrastructure allow us to seamlessly deliver services and solutions from our delivery centers to global customers across all geographies, further strengthening our relationships with them. Through increased specialization in focused verticals and a continued emphasis on strategic partnerships, we are leveraging our roots in software engineering to grow as a recognized brand in software development and end-to-end digital transformation services for our customers. During the third quarter of 2022, to ensure safety and business continuity in the presence of the COVID-19 global pandemic, many of our personnel continued to work productively through secure remote working arrangements so they can respond to the rapidly changing needs and demands of our customers. We cannot accurately predict the extent to which the COVID-19 pandemic will continue to directly and indirectly impact our business, results of operations and financial condition. For additional information on the impact of the COVID-19 pandemic on our results and for further information on the various risks posed by the COVID-19 pandemic, please read "Part I. Item 1A. Risk Factors" under the sub-heading "Risks Related to COVID-19" which is included in our Annual Report on Form 10-K for the year endedDecember 31, 2021 .
Business Update Regarding the War in
OnFebruary 24, 2022 , Russian forces attackedUkraine and its people and EPAM has repeatedly called for an immediate end to this unlawful and unconscionable attack. EPAM's highest priority is the safety and security of its employees and their families inUkraine as well as the broader region, and we have continued to support relocating our employees to lower risk locations, both inUkraine and to other countries where we operate. The vast majority of ourUkraine employees are in safe locations and operating at levels of productivity consistent with those achieved in 2021. We have maintained our$100 million humanitarian aid commitment to our people in addition to our other donations and volunteer efforts. We also continue to execute our business continuity plans and have sustained our hiring across multiple locations in Central andEastern Europe ,Latin America , andIndia . Our Board of Directors continues its oversight of our strategic, geopolitical, and cybersecurity risks and the risks related to our geographic expansion. Our Board has received updates from management during both regular and special meetings, while also providing oversight of the risks associated with the invasion inUkraine and other strategic areas of importance related to the war. 33
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OnApril 7, 2022 , the Company announced that we would begin the process of a phased exit of our operations inRussia in close collaboration with the Company's employees, contractors, and customers. We have discontinued services to certain customers located inRussia and onSeptember 7, 2022 , we executed an agreement to sell substantially all of our remaining holdings inRussia to a third party. The completion of the sale is subject to customary closing conditions, including regulatory approvals by the Russian government. We expect to continue operating inBelarus while executing on ourBelarus -specific business continuity plans. A significant number of our employees inRussia andBelarus have relocated, and we may assist in relocating employees to delivery locations in other countries in the future.Ukraine remains our largest delivery location with the most delivery professionals and, prior to the attack inFebruary 2022 ,Belarus andRussia were our second and third largest delivery locations by the number of delivery professionals, respectively. We own office buildings and lease office space in a number of cities in bothUkraine and inBelarus that we use for both internal functions and for delivering services to our customers. The impact of the war on our operations, personnel, and physical assets inUkraine has had, and, along with any escalation of the war that includesBelarus' territory or military, could continue to have a material adverse effect on our operations. Actions taken by other countries, including new and stricter sanctions byCanada , theUnited Kingdom , theEuropean Union , theU.S. and other companies and organizations against officials, individuals, regions, and industries inRussia andBelarus , and each of those country's responses to such sanctions, including counter-sanctions and other actions, has had and could continue to have a material adverse effect on our operations. Customers have and may continue to seek altered terms, conditions, and delivery locations for the performance of services, delay planned work or seek services from alternate providers, or suspend, terminate, fail to renew, or reduce existing contracts or services, which could have a material adverse effect on our financial condition. Some of our customers have implemented steps to block internet communications withRussia ,Ukraine , andBelarus to protect against potential cyberattacks or other information security threats, which has caused a material adverse effect on our ability to deliver our services to these customers from those locations. Such material adverse effects disrupt our delivery of services, cause us to shift all or portions of our work occurring in the region to other countries, restrict our ability to engage in certain projects in the region and serve certain customers in or from the region, and could negatively impact our personnel, operations, financial results and business outlook.
Moving Forward
We continue to execute our business continuity plans and adapt to developments as they occur to protect the safety of our people and address impacts to our delivery infrastructure, including reallocating work to other geographies within our global footprint. We have engaged both our personnel and our customers to meet their needs and to mitigate delivery challenges. EPAM continues to operate productively in more than 50 countries and provides consistent high-quality delivery to our customers. Our global delivery centers have sufficient resources, including infrastructure and capital, to support ongoing operations. EPAM continues to rapidly respond to the difficult conditions inUkraine while maintaining a focus on customers and long-term growth. Implementation and execution of our business continuity plans, relocation costs, our humanitarian commitment to our people inUkraine , and the cost of our phased exit fromRussia have resulted in materially increased expenses in the first nine months of 2022. We expect some of those expenses will continue to occur in subsequent quarters. In addition to the charges recorded during the nine months endedSeptember 30, 2022 related to our exit from operations inRussia , we could record a loss when we complete the sale of substantially all of our remaining holdings inRussia and conclude our exit. We have no way to predict the progress or outcome of the attack againstUkraine because the conflict and government reactions change quickly and are beyond our control. Prolonged military activities, broad-based sanctions and counter-sanctions could have a material adverse effect on our operations and financial condition and there is significant uncertainty for our business outlook for the remainder of 2022. The information contained in this section is accurate as of the date hereof but may become outdated due to changing circumstances beyond our control or present awareness. For additional information on the various risks posed by the attack againstUkraine and the impact in the region, please read "Part I. Item 1A. Risk Factors" in our Annual Report on Form 10-K for the year endedDecember 31, 2021 and "Part II. Item 1A. Risk Factors" in this quarterly report. 34
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Year-to-Date 2022 Developments and Trends
Our business was disrupted by the war inUkraine that began in the latter part of the first quarter of 2022 and continued to create uncertainties through the quarter endedSeptember 30, 2022 and beyond. For the first nine months of 2022, our revenues were$3.593 billion , an increase of 35.6% over$2.651 billion reported for the same period of 2021. For the nine months endedSeptember 30, 2022 , we experienced strong growth across all of our verticals with revenues growing above 25% year over year with the exception of the Software & Hi-Tech vertical which grew 22.8% year over year. We have built an increasingly diversified portfolio across numerous industry verticals, geographies and service offerings which enables us to continue to grow revenues. Income from operations as a percentage of revenues decreased to 11.2% for the nine months endedSeptember 30, 2022 as compared to 14.2% for the nine months endedSeptember 30, 2021 , largely driven by incremental expenses associated with EPAM's humanitarian efforts inUkraine , the global repositioning of our workforce, the costs associated with our phased exit from operations inRussia and impairment of long-lived asset charges triggered by the discontinuance of services to customers located inRussia .
Summary of Results of Operations
The following table presents a summary of our results of operations for the
three and nine months ended
Three Months Ended Nine Months Ended
September 30, September 30,
2022 2021 2022 2021
(in thousands, except per share data and percentages)
Revenues $ 1,226,920 100.0 % $ 988,539 100.0 % $ 3,593,395 100.0 % $ 2,650,680 100.0 %
Income from operations $ 180,227 14.7 % $ 144,124 14.6 % $ 402,489 11.2 % $ 376,649 14.2 %
Net income $ 156,054 12.7 % $ 115,656 11.7 % $ 264,377 7.4 % $ 339,373 12.8 %
Effective tax rate 18.4 % 14.6 % 13.6 % 9.1 %
Diluted earnings per $ 2.63 $ 1.95 $ 4.47 $ 5.75
share
The key highlights of our consolidated results for the three and nine months
ended September 30, 2022 , as compared to the corresponding periods of 2021, were
as follows:
•Revenues for the third quarter of 2022 were $1.227 billion , representing a
24.1% increase from $988.5 million reported in the same period last year.
Revenue growth was strong in the third quarter of 2022 as a result of robust
demand for our services. The third quarter of 2022 was negatively impacted by
$56.4 million or 5.7% due to changes in certain foreign currency exchange rates
as compared to the corresponding period last year. Revenues for the first nine
months of 2022 were $3.593 billion , or a 35.6% increase from $2.651 billion
reported in the corresponding period last year. Revenue growth in the first nine
months of 2022 was negatively impacted by $119.1 million or 4.5% due to changes
in certain foreign currency exchange rates as compared to the corresponding
period last year. Revenues from acquisitions contributed $41.7 million and
$173.9 million to our revenues for the three and nine months ended September 30,
2022 , respectively.
•Income from operations increased 25.0% to $180.2 million during the three
months ended September 30, 2022 and 6.9% to $402.5 million during the nine
months ended September 30, 2022 , as compared to the corresponding periods in
2021. Expressed as a percentage of revenues, income from operations for the
third quarter of 2022 increased to 14.7% compared to 14.6% in the third quarter
of last year and decreased to 11.2% for the first nine months of 2022 as
compared to 14.2% for the corresponding period in 2021. During the quarter ended
September 30, 2022 , income from operations as a percentage of revenues was
positively impacted by reduced facility-related expenses and decreased variable
compensation expense as a percentage of revenues. During the nine months ended
September 30, 2022 , income from operations as a percentage of revenues was
negatively impacted by incremental expenses associated with EPAM's humanitarian
efforts in Ukraine , the global repositioning of our workforce, the costs
associated with our phased exit from operations in Russia , and impairment of
long-lived asset charges during the first quarter of 2022 triggered by the
decision to discontinue services to customers in Russia .
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•Our effective tax rate was 18.4% and 13.6% for the three and nine months endedSeptember 30, 2022 , respectively, and 14.6% and 9.1% for the three and nine months endedSeptember 30, 2021 , respectively. The increase in the effective tax rate in the three and nine months endedSeptember 30, 2022 , as compared to the corresponding periods in the prior year, is primarily attributable to lower excess tax benefits recorded upon vesting or exercise of stock-based awards as a percentage of pre-tax income as well as the recognition of certain tax credits in the prior year. •Net income increased 34.9% to$156.1 million for the three months endedSeptember 30, 2022 , compared to$115.7 million reported in the corresponding period last year. Expressed as a percentage of revenues, net income was 12.7% for the third quarter of 2022, an increase of 1.0% compared to 11.7% reported in the corresponding period of 2021. Net income for the quarter endedSeptember 30, 2022 was positively impacted by the increase in income from operations and increases in other income and net foreign exchange gains. Net income decreased 22.1% during the nine months endedSeptember 30, 2022 as compared to the corresponding period in the prior year. Net income for the nine months endedSeptember 30, 2022 was impacted by net foreign exchange losses, partially offset by the improvement in income from operations. Foreign exchange loss during the nine months endedSeptember 30, 2022 was primarily driven by the impact of appreciation of the Russian ruble on the Company's intercompany payables denominated in Russian rubles andU.S. dollar denominated assets held by our subsidiaries inRussia and losses from our foreign exchange forward contracts associated with the Russian ruble during the first quarter of 2022.
•Diluted earnings per share was
•Cash provided by operating activities was$278.0 million during the nine months endedSeptember 30, 2022 as compared to$287.7 million in the corresponding period last year. This decrease was largely driven by a higher level of variable compensation payments made in the first nine months of 2022 based on 2021 performance and cash outflows related to EPAM's humanitarian support efforts inUkraine and geographic repositioning.
The operating results in any period are not necessarily indicative of the results that may be expected for any future period.
Critical Accounting Policies
The discussion and analysis of our financial position and results of operations is based on our unaudited condensed consolidated financial statements which have been prepared in accordance withU.S. GAAP. The preparation of these condensed consolidated financial statements in accordance withU.S. GAAP requires us to make estimates and judgments that may affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. On a recurring basis, we evaluate our estimates and judgments, including those related to revenue recognition and related allowances, impairments of long-lived assets including intangible assets, goodwill and right-of-use assets, income taxes including the valuation allowance for deferred tax assets, and stock-based compensation. Actual results may differ materially from these estimates under different assumptions and conditions. In addition, our reported financial condition and results of operations could vary due to a change in the application of a particular accounting standard. During the three and nine months endedSeptember 30, 2022 , there have been no material changes to our critical accounting policies as reported in our Annual Report on Form 10-K for the year endedDecember 31, 2021 . 36
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Results of Operations
The following table sets forth a summary of our consolidated results of
operations for the periods indicated. This information should be read together
with our unaudited condensed consolidated financial statements and related notes
included elsewhere in this quarterly report. The operating results in any period
are not necessarily indicative of the results that may be expected for any
future period.
Three Months Ended Nine Months Ended
September 30, September 30,
2022 2021 2022 2021
(in thousands, except percentages and per share data) Revenues
$ 1,226,920 100.0 %$ 988,539 100.0 %$ 3,593,395 100.0 %$ 2,650,680 100.0 %
Operating expenses:
Cost of revenues (exclusive of depreciation and amortization)(1) 826,796 67.4 % 653,374 66.1 % 2,453,955 68.3 % 1,756,430 66.3 % Selling, general and administrative expenses(2) 198,021 16.1 % 169,498 17.1 % 667,825 18.6 % 457,797 17.3 % Depreciation and amortization expense 21,876 1.8 % 21,543 2.2 % 69,126 1.9 % 59,804 2.2 % Income from operations 180,227 14.7 % 144,124 14.6 % 402,489 11.2 % 376,649 14.2 % Interest and other income/(loss), net 4,228 0.4 % (5,325) (0.5) % 5,642 0.1 % 2,629 0.1 % Foreign exchange gain/(loss) 6,691 0.5 % (3,441) (0.4) % (102,035) (2.8) % (5,835) (0.2) % Income before provision for income taxes 191,146 15.6 % 135,358 13.7 % 306,096 8.5 % 373,443 14.1 % Provision for income taxes 35,092 2.9 % 19,702 2.0 % 41,719 1.1 % 34,070 1.3 % Net income$ 156,054 12.7 %$ 115,656 11.7 %$ 264,377 7.4 %$ 339,373 12.8 % Effective tax rate 18.4 % 14.6 % 13.6 % 9.1 % Diluted earnings per share$ 2.63 $ 1.95 $ 4.47 $ 5.75
(1)Includes
(2)Includes
Consolidated Results Review
Revenues
During the three months endedSeptember 30, 2022 , our total revenues grew to$1.227 billion or 24.1% compared to the corresponding period in 2021. Revenues have been positively impacted by acquisitions, which contributed 4.2% to our revenue growth, and negatively impacted by our decision to exitRussia and discontinue services to customers there, and fluctuations in foreign currency exchange rates which decreased our revenue growth by 5.7% during the three months endedSeptember 30, 2022 as compared to the same period last year. During the nine months endedSeptember 30, 2022 , our total revenues grew 35.6% over the corresponding period in 2021. The first nine months of 2022 were positively impacted by acquisitions, which contributed 6.6% to our revenue growth, and negatively impacted by our decision to exitRussia and discontinue services to customers there and fluctuations in foreign currency exchange rates which decreased our revenue growth by$119.1 million or 4.5% as compared to the corresponding period last year. 37
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Revenues by customer location for the three and nine months ended
Three Months Ended Nine Months Ended
September 30, September 30,
2022 2021 2022 2021
(in thousands, except percentages) (in thousands, except percentages)
Americas(1) $ 747,091 60.9 % $ 591,368 59.8 % $ 2,155,496 60.0 % $ 1,589,087 60.0 %
EMEA(2) 438,216 35.7 % 323,807 32.8 % 1,283,152 35.7 % 874,460 32.9 %
APAC(3) 31,376 2.6 % 28,386 2.9 % 91,134 2.5 % 74,318 2.8 %
CEE(4) 10,237 0.8 % 44,978 4.5 % 63,613 1.8 % 112,815 4.3 %
Revenues $ 1,226,920 100.0 % $ 988,539 100.0 % $ 3,593,395 100.0 % $ 2,650,680 100.0 %
(1)
(2)EMEA includes revenues from customers in
(3)APAC, or
(4)CEE includes revenues from customers in
During the three and nine months endedSeptember 30, 2022 ,the United States continued to be our largest customer location, with revenues increasing 26.8% to$715.3 million during the third quarter of 2022 from$564.1 million in the third quarter of 2021. During the nine months endedSeptember 30, 2022 , revenues inthe United States grew 36.0% to$2.059 billion compared to$1.515 billion in the same period of the prior year. The top three revenue contributing customer location countries in EMEA were theUnited Kingdom ,Switzerland andthe Netherlands , generating$160.7 million ,$76.2 million and$57.0 million in revenues, respectively, during the three months endedSeptember 30, 2022 . Revenues from customers in these three countries were$126.3 million ,$66.7 million , and$39.6 million , respectively, in the corresponding period last year. During the nine months endedSeptember 30, 2022 , theUnited Kingdom ,Switzerland andthe Netherlands performed as EMEA's top revenue generating locations and contributed$463.6 million ,$237.2 million , and$158.1 million , respectively, compared to$332.5 million ,$198.0 million , and$109.3 million , respectively, in the corresponding period last year. Revenues in the EMEA region were negatively impacted by the weakening of the euro and the British pound relative to theU.S. dollar during the three and nine months endedSeptember 30, 2022 as compared to the same periods in the previous year. Revenues in the region during the three and nine months endedSeptember 30, 2022 benefited from acquisitions which contributed$36.0 million and$144.3 million to revenue growth, respectively.
During the three and nine months ended
During the three months endedSeptember 30, 2022 , revenues in the CEE geography experienced a decrease of$34.7 million as compared to the corresponding period of 2021 and included$8.0 million of revenues from customers inRussia . During the nine months endedSeptember 30, 2022 , revenues in the CEE geography experienced a decrease of$49.2 million as compared to the corresponding period of 2021 and included$56.7 million of revenues from customers inRussia . OnMarch 4, 2022 , we announced that we will discontinue our services to customers located inRussia and have been providing transition support for customers in this market while administering the transition. OnSeptember 7, 2022 , we executed an agreement to sell substantially all of our holdings inRussia to a third party. As a result of this agreement, the revenues from this geography are expected to materially decline in the future.
Cost of Revenues (Exclusive of Depreciation and Amortization)
The principal components of our cost of revenues (exclusive of depreciation and
amortization) are salaries, bonuses, fringe benefits, stock-based compensation,
project-related travel costs and fees for subcontractors who are assigned to
customer projects. Salaries and other compensation expenses of our delivery
professionals are reported as cost of revenues regardless of whether the
employees are actually performing customer services during a given period. Our
employees are a critical resource, necessary for our continued success and
therefore we expect to continue hiring talented employees and providing them
with competitive compensation programs.
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During the three months endedSeptember 30, 2022 , cost of revenues (exclusive of depreciation and amortization) was$826.8 million representing an increase of 26.5% from$653.4 million in the corresponding period of 2021. The increase was primarily due to an increase in compensation costs largely driven by the 21.0% growth in the average number of production professionals during the three months endedSeptember 30, 2022 as compared to the same period in 2021 as well as$5.3 million of higher stock-based compensation expenses,$2.9 million of incremental costs associated with our humanitarian efforts inUkraine and$1.0 million of unbilled business continuity resources. Expressed as a percentage of revenues, cost of revenues (exclusive of depreciation and amortization) was 67.4% and 66.1% in the third quarter of 2022 and 2021, respectively. The year-over-year increase is primarily due to lower utilization attributable to the transition of projects and employees to new geographies, the ongoing transition of customer work to higher cost geographies and increased costs associated with our humanitarian efforts inUkraine . During the nine months endedSeptember 30, 2022 , cost of revenues (exclusive of depreciation and amortization) was$2.454 billion representing an increase of 39.7% from$1.756 billion in the corresponding period of 2021. The increase was primarily due to an increase in compensation costs other than stock-based compensation expense largely driven by the 27.1% growth in the average number of production professionals, a 5.1% unfavorable impact from changes in foreign currency exchange rates, as well as$25.3 million of incremental costs associated with our humanitarian efforts inUkraine and$12.9 million of unbilled business continuity resources, partially offset by the reversal of$21.4 million of previously accrued discretionary compensation expenses during the first quarter of 2022. Expressed as a percentage of revenues, cost of revenues (exclusive of depreciation and amortization) was 68.3% and 66.3% for the nine months endedSeptember 30, 2022 and 2021, respectively. The year-over-year increase is primarily due to higher personnel-related costs and the ongoing transition of customer work to higher cost geographies, increased costs associated with our humanitarian efforts inUkraine , and unbilled business continuity resources, partially offset by the reversal of previously accrued discretionary compensation expenses in the first quarter of 2022.
Selling, General and Administrative Expenses
Selling, general and administrative expenses represent expenditures associated with promoting and selling our services and general and administrative functions of our business. These expenses include the costs of salaries, bonuses, fringe benefits, stock-based compensation, severance, bad debt, travel, legal and accounting services, insurance, facilities including operating leases, advertising, and other promotional activities. Additionally, selling, general and administrative expenses contain costs of relocating our employees and various one-time and unusual expenses such as impairment charges. During the three months endedSeptember 30, 2022 , selling, general and administrative expenses were$198.0 million representing a 16.8% increase as compared to$169.5 million in the corresponding period of 2021. The increase in selling, general and administrative expenses was driven by a$13.3 million increase in personnel-related costs including stock-based compensation expense largely driven by the 20.6% growth in the average number of non-production professionals during the three months endedSeptember 30, 2022 compared to the same period in 2021. Additionally, we incurred$4.4 million of expenses associated with our geographic repositioning of our workforce,$0.7 million of charges related to employee separation costs inRussia , and$1.6 million of expenses associated with our humanitarian efforts inUkraine during the third quarter of 2022. Expressed as a percentage of revenues, selling, general and administrative expenses decreased by 1.0% to 16.1% for the three months endedSeptember 30, 2022 as compared to the same period from the prior year, primarily driven by reduced facility-related expenses and lower stock-based compensation expenses as a percentage of revenues. During the nine months endedSeptember 30, 2022 , selling, general and administrative expenses were$667.8 million representing an increase of 45.9% as compared to$457.8 million reported in the corresponding period of 2021. The increase in selling, general and administrative expenses was primarily driven by an$98.7 million increase in personnel-related costs other than stock-based compensation expense, which decreased$6.6 million during the nine months endedSeptember 30, 2022 as compared to the same period in the prior year. Additionally, the nine months endedSeptember 30, 2022 were impacted by$37.5 million of expenses associated with our geographic repositioning of our workforce,$13.2 million of expenses associated with our humanitarian efforts inUkraine ,$16.9 million of charges related to employee separation costs inRussia ,$19.6 million of impairment charges related to our long-lived assets inRussia and$5.7 million of bad debt expense attributable to customers located inRussia . Expressed as a percentage of revenues, selling, general and administrative expenses increased by 1.3% to 18.6% for the nine months endedSeptember 30, 2022 as compared to the same period from the prior year primarily driven by impairment charges related to our long-lived assets inRussia , higher bad debt expenses attributable to customers located inRussia , employee separation costs inRussia , increased costs associated with geographic repositioning of our workforce as well as our humanitarian efforts inUkraine , partially offset by reduced facilities-related expenses. 39
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Depreciation and Amortization Expense
During the three and nine months endedSeptember 30, 2022 , depreciation and amortization expense was$21.9 million and$69.1 million , respectively, as compared to$21.5 million and$59.8 million , respectively, in the corresponding periods last year. The increase in depreciation and amortization expense is primarily the result of increased investment in computer equipment used by our employees and amortization of acquired finite-lived intangible assets. Expressed as a percentage of revenues, depreciation and amortization expense decreased to 1.8% and 1.9% during the three and nine months endedSeptember 30, 2022 , respectively, as compared to 2.2% in both corresponding periods of 2021.
Interest and Other Income/(Loss), Net
Interest and other income/(loss), net includes interest earned on cash and cash equivalents, short-term investments and employee loans, gains and losses from certain financial instruments, interest expense related to our borrowings, government grant income, and changes in the fair value of contingent consideration. Interest and other income/(loss), net increased from a$5.3 million loss and a$2.6 million gain during the three and nine months endedSeptember 30, 2021 , respectively, to gains of$4.2 million and$5.6 million during the three and nine months endedSeptember 30, 2022 , respectively. The increase in Interest and other income/(loss), net during the three months endedSeptember 30, 2022 as compared to the three months endedSeptember 30, 2021 was largely driven by a$4.6 million decrease in loss due to the change in fair value of contingent consideration, an increase in interest income from our cash and cash equivalents and short-term investments, and an increase in government grant income. The increase in Interest and other income/(loss), net during the nine months endedSeptember 30, 2022 as compared to the nine months endedSeptember 30, 2021 was largely driven by an increase in government grant income and an increase in interest income from our cash and cash equivalents and short-term investments, partially offset by a$7.2 million increase in loss due to the change in fair value of contingent consideration and a$1.3 million charge related to the impairment of a financial asset inUkraine recorded during the nine months ended September, 30 2022.
Foreign Exchange Gain/(Loss)
For discussion of the impact of foreign exchange fluctuations see "Item 3. Quantitative and Qualitative Disclosures About Market Risk."
Provision for Income Taxes
In determining the interim provision for income taxes, we historically have used an estimated annual effective tax rate, which is based on expected annual profit before tax, statutory tax rates and tax planning opportunities available in the various jurisdictions in which EPAM operates. Certain significant or unusual items are separately recognized in the quarter in which they occur and can be a source of variability in the effective tax rates from quarter to quarter. During the first quarter of 2022, we recorded the interim tax provision using the discrete method rather than using an estimated annual effective tax rate. The discrete method treats the year-to-date period as if it were the annual period and determines the income tax expense or benefit on that basis. The discrete method is applied when the application of the estimated annual effective tax rate is impractical because it is not possible to reliably estimate the annual effective tax rate. During the second and third quarters of 2022, the Company used an estimated annual effective tax rate. The change did not have a material impact on the condensed consolidated interim financial statements. In subsequent quarters, the Company expects to continue to utilize the annual effective tax rate method. Determining the consolidated provision for income tax expense, deferred income tax assets and liabilities and any potential related valuation allowances involves judgment. We consider factors that may contribute, favorably or unfavorably, to the overall effective tax rate in the current year as well as the future. These factors include statutory tax rates and tax law changes in the countries where we operate and excess tax benefits upon vesting or exercise of equity awards as well as consideration of any significant or unusual items. Our effective tax rate was 18.4% and 13.6% for the three and nine months endedSeptember 30, 2022 , respectively, and 14.6% and 9.1% for the three and nine months endedSeptember 30, 2021 , respectively. The increase in the effective tax rate in the three and nine months endedSeptember 30, 2022 , as compared to the corresponding periods in the prior year, is primarily attributable to lower excess tax benefits recorded upon vesting or exercise of stock-based awards as a percentage of pre-tax income in the current periods as well as the recognition of certain tax credits in the corresponding prior periods, partially offset by the impact of the Company's election in the current periods to disregard certain foreign subsidiaries of the Company as separate entities forU.S. tax purposes. Our provision for income taxes was impacted by excess tax benefits recorded upon vesting or exercise of stock-based awards of$10.9 million and$31.4 million during the three and nine months endedSeptember 30, 2022 , respectively, and$10.4 million and$52.8 million during the three and nine months endedSeptember 30, 2021 , respectively. 40 -------------------------------------------------------------------------------- Table of Contents Results by Business Segment Our operations consist of three reportable segments:North America ,Europe , andRussia . The segments represent components of EPAM for which separate financial information is available and used on a regular basis by our chief executive officer, who is also our chief operating decision maker ("CODM"), to determine how to allocate resources and evaluate performance. Our CODM makes business decisions based on segment revenues and operating profit. Segment operating profit is defined as income from operations before unallocated costs. Expenses included in segment operating profit consist principally of direct selling and delivery costs as well as an allocation of certain shared services expenses. Certain corporate expenses are not allocated to specific segments as these expenses are not controllable at the segment level. Such expenses include certain types of professional fees, certain taxes included in operating expenses, compensation to non-employee directors and certain other general and administrative expenses, including compensation of specific groups of non-production employees. In addition, the Company does not allocate stock-based compensation, amortization of intangible assets acquired through business combinations, goodwill and other asset impairment charges, acquisition-related costs and certain other one-time charges and benefits. These unallocated amounts are combined with total segment operating profit to arrive at consolidated income from operations. We manage our business primarily based on the managerial responsibility for its client base and market. As managerial responsibility for a particular customer relationship generally correlates with the customer's geographic location, there is a high degree of similarity between customer locations and the geographic boundaries of our reportable segments. In some cases, managerial responsibility for a particular customer is assigned to a management team in another region and is usually based on the strength of the relationship between customer executives and particular members of EPAM's senior management team. In such cases, the customer's activity would be reported through the management team's reportable segment. OnMarch 4, 2022 , the Company announced that it will discontinue its services to customers located inRussia and is committed to providing transition support for customers in this market. OnApril 7, 2022 , the Company announced that it would begin the process of a phased exit of its operations inRussia and onSeptember 7, 2022 , the Company executed an agreement to sell substantially all of its remaining operations inRussia to a third party. The timing of completing the sale is subject to completion of customary closing conditions, including regulatory approval inRussia . Segment revenues from external customers and segment operating profit, before unallocated expenses, for theNorth America ,Europe andRussia reportable segments for the three and nine months endedSeptember 30, 2022 and 2021 were as follows: Three Months Ended Nine Months Ended September 30, September 30, 2022 2021 2022 2021 (in thousands) Segment revenues: North America$ 748,383 $ 593,862 $ 2,159,751 $ 1,600,737 Europe 470,009 350,080 1,373,923 938,733 Russia 8,528 44,597 59,721 111,210 Total segment revenues$ 1,226,920 $ 988,539 $ 3,593,395 $ 2,650,680 Segment operating profit/(loss): North America$ 175,845 $ 122,232 $ 429,999 $ 327,595 Europe 64,813 60,952 156,920 162,477 Russia 1,507 10,541
(16,315) 17,549
Total segment operating profit
41-------------------------------------------------------------------------------- Table of Contents North America Segment During the three months endedSeptember 30, 2022 , revenues for theNorth America segment increased$154.5 million , or 26.0%, compared to the same period last year and segment operating profit increased$53.6 million , or 43.9%, compared to the same period last year. During the three months endedSeptember 30, 2022 , revenues from ourNorth America segment were 61.0% of total segment revenues, an increase from 60.1% reported in the corresponding period of 2021. TheNorth America segment's operating profit margin increased to 23.5% during the third quarter of 2022 from 20.6% in the third quarter of 2021. Segment operating profit was positively impacted by a decrease in variable compensation expense as a percentage of segment revenues and the appreciation of theU.S. dollar, partially offset by lower utilization during the third quarter of 2022 compared to the third quarter of 2021. During the nine months endedSeptember 30, 2022 , revenues for theNorth America segment increased$559.0 million , or 34.9%, compared to the same period last year and segment operating profit increased$102.4 million , or 31.3%, compared to the same period last year. During the nine months endedSeptember 30, 2022 and 2021, revenues from ourNorth America segment were 60.1% and 60.4% of total segment revenues, respectively. As a percentage ofNorth America segment revenues, theNorth America segment's operating profit margin decreased to 19.9% during the nine months endedSeptember 30, 2022 as compared to 20.5% in the corresponding period of 2021. Segment operating profit was negatively impacted by increased personnel-related costs in part attributable to supplementing delivery resources on certain projects with standby resources able to support projects if delivery resources impacted by the invasion ofUkraine become unable to work, lower utilization during the first nine months of 2022 compared to the same period of 2021, and lower profit margins from acquisitions completed in the last twelve months, partially offset by a decrease in variable compensation expense as a percentage of segment revenues.
The following table presents
Three Months Ended Nine Months Ended
September 30, Change September 30, Change
2022 2021 Dollars Percentage 2022 2021 Dollars Percentage
Industry Vertical (in thousands, except percentages)
Software & Hi-Tech $ 170,818 $ 146,532 $ 24,286 16.6 % $ 488,134 $ 406,756 $ 81,378 20.0 %
Travel & Consumer 131,181 98,494 32,687 33.2 % 384,360 252,998 131,362 51.9 %
Financial Services 134,673 100,631 34,042 33.8 % 381,887 253,713 128,174 50.5 %
Business Information & Media 121,703 100,536 21,167 21.1 % 346,675 280,120 66,555 23.8 %
Life Sciences & Healthcare 116,878 85,534 31,344 36.6 % 344,148 241,835 102,313 42.3 %
Emerging Verticals 73,130 62,135 10,995 17.7 % 214,547 165,315 49,232 29.8 %
Revenues $ 748,383 $ 593,862 $ 154,521 26.0 % $ 2,159,751 $ 1,600,737 $ 559,014 34.9 %
During the three and nine months ended September 30, 2022 compared to the same
periods in the prior year, revenues from each vertical, except Software &
Hi-Tech in the North America segment grew in excess of 20%. However, Software &
Hi-Tech remained the largest industry vertical in the North America segment,
which was a result of the continued focus on engaging with our technology
customers. Travel and Consumer grew 33.2% and 51.9% during the three and nine
months ended September 30, 2022 , respectively, primarily due to growth from
retail customers. Financial Services grew 33.8% and 50.5% during the three and
nine months ended September 30, 2022 , respectively, largely due to growth in a
group of wealth management customers and growth from insurance customers added
in the last 12 month. Business Information & Media grew 21.1% and 23.8% during
the three and nine months ended September 30, 2022 , respectively, primarily due
to growth from existing customers in our top 20 customers. Life Sciences &
Healthcare grew 36.6% and 42.3% during the three and nine months ended
September 30, 2022 , respectively, primarily due to growth from customers added
in the last 24 months.
42-------------------------------------------------------------------------------- Table of Contents Europe Segment During the three months endedSeptember 30, 2022 ,Europe's segment revenues were$470.0 million , representing an increase of$119.9 million , or 34.3%, from the same period last year. Acquisitions completed in the last twelve months contributed$40.5 million to revenues during the three months endedSeptember 30, 2022 . Revenues were negatively impacted by changes in foreign currency exchange rates during the third quarter of 2022. Had ourEurope segment revenues been expressed in constant currency terms using the exchange rates in effect during the third quarter of 2021, we would have reported revenue growth of 49.3%.Europe's segment revenues accounted for 38.3% and 35.4% of total segment revenues during the three months endedSeptember 30, 2022 and 2021, respectively. During the third quarter of 2022, the segment's operating profit increased 6.3% to$64.8 million compared to the third quarter of 2021. Expressed as a percentage of revenues,Europe's segment operating profit decreased to 13.8% compared to 17.4% in the same period of the prior year. Segment operating profit as a percentage of revenues was negatively impacted by changes in foreign currency exchanges rates and lower utilization, partially offset by a decrease in variable compensation expense as a percentage of segment revenues during the third quarter of 2022 compared to the third quarter of 2021. During the nine months endedSeptember 30, 2022 , revenues for theEurope segment increased$435.2 million , or 46.4%, compared to the same period last year and segment operating profit decreased$5.6 million , or 3.4%, compared to the same period last year. During the nine months endedSeptember 30, 2022 and 2021, revenues from ourEurope segment were 38.2% and 35.4% of total segment revenues, respectively. Acquisitions completed in the last twelve months contributed$149.7 million to revenues during the nine months endedSeptember 30, 2022 . As a percentage ofEurope segment revenues, theEurope segment's operating profit decreased to 11.4% during the nine months endedSeptember 30, 2022 from 17.3% in the corresponding period of 2021. During the first nine months of 2022, segment operating profit was negatively impacted by changes in foreign currency exchanges rates, increased personnel-related costs partially attributable to supplementing delivery resources on certain projects with standby resources able to support projects if delivery resources impacted by the invasion ofUkraine become unable to work, lower utilization during the first nine months of 2022 compared to the first nine months of 2021, and lower profit margins from acquisitions completed in the last twelve months, partially offset by a decrease in variable compensation expense as a percentage of segment revenues during the first nine months of 2022 compared to the first nine months of 2021. The following table presentsEurope segment revenues by industry vertical for the periods indicated: Three Months Ended Nine Months Ended September 30, Change September 30, Change 2022 2021 Dollars Percentage 2022 2021 Dollars Percentage Industry Vertical (in thousands, except percentages) Travel & Consumer$ 147,271 $ 91,197 $ 56,074 61.5 %$ 424,140 $ 235,552 $ 188,588 80.1 % Financial Services 115,372 98,711 16,661 16.9 % 345,468 262,716 82,752 31.5 % Business Information & Media 87,028 71,953 15,075 21.0 % 253,610 197,142 56,468 28.6 % Software & Hi-Tech 34,513 27,103 7,410 27.3 % 100,814 72,010 28,804 40.0 % Life Sciences & Healthcare 12,569 10,374 2,195 21.2 % 37,378 36,505 873 2.4 % Emerging Verticals 73,256 50,742 22,514 44.4 % 212,513 134,808 77,705 57.6 % Revenues$ 470,009 $ 350,080 $ 119,929 34.3 %$ 1,373,923 $ 938,733 $ 435,190 46.4 % Revenues in Travel & Consumer grew 61.5% and 80.1% during the three and nine months endedSeptember 30, 2022 , respectively, as compared to the corresponding periods in 2021 primarily due to increased demand from customers in the retail and distribution industries and revenues from acquisitions completed during the last twelve months which contributed$25.1 million and$81.0 million to revenue growth during the three and nine months endedSeptember 30, 2022 , respectively. During the three and nine months endedSeptember 30, 2022 , revenues in Financial Services experienced 16.9% and 31.5% growth, respectively, primarily driven by increased revenues from commercial and investment banking customers and revenues from recent acquisitions which contributed$2.7 million and$17.4 million to revenue growth during the three and nine months endedSeptember 30, 2022 , respectively. During the three and nine months endedSeptember 30, 2022 , the increase in revenues in Business Information & Media was largely attributable to the expansion of services provided to one of our top 5 customers. For the three and nine months endedSeptember 30, 2022 , the increase in revenues in the Software & Hi-Tech vertical was attributable to the expansion of services provided to one of our top 20 customers as well as growth in customers outside of our top 100 customers. Revenues in Emerging Verticals experienced higher growth primarily attributable to growth in existing customers in the energy, telecommunications and automotive industries, a new customer that we added in 2022 as well as revenues from acquisitions completed during the last twelve months which contributed$7.4 million and$28.2 million to revenue growth during the three and nine months endedSeptember 30, 2022 , respectively. 43
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Table of Contents
Russia Segment
During the three months endedSeptember 30, 2022 , revenues from ourRussia segment accounted for 0.7% of total segment revenues and decreased$36.1 million , or 80.9%, as compared to the corresponding period in the prior year. The decrease in revenues was primarily attributable to decreased operations inRussia as we proceed with the phased exit fromRussia while discontinuing services to customers there. During the three months endedSeptember 30, 2022 , operating profit from theRussia segment was$1.5 million , representing a decrease of$9.0 million , as compared to a$10.5 million operating profit in the corresponding period last year largely driven by reduced revenues attributable to the discontinuance of services to customers inRussia . During the nine months endedSeptember 30, 2022 , revenues from ourRussia segment decreased$51.5 million , or 46.3%, as compared to the corresponding period of 2021 and accounted for 1.7% of total segment revenues. During the nine months endedSeptember 30, 2022 , operating loss from theRussia segment was$16.3 million , representing a decrease of$33.9 million , as compared to a$17.5 million operating profit in the corresponding period last year, largely driven by discontinuance of services to customers inRussia which led to reduced revenues, increased bad debt expense, and expenses incurred for services provided to customers for which revenue was not recognized as collectability was not considered probable after announcing the discontinuance of services to customers inRussia . The following table presentsRussia segment revenues by industry vertical for the periods indicated: Three Months Ended Nine Months Ended September 30, Change September 30, Change 2022 2021 Dollars Percentage 2022 2021 Dollars Percentage Industry Vertical (in thousands, except percentages) Financial Services$ 4,741 $ 31,542 $ (26,801) (85.0) %$ 38,477 $ 77,251 $ (38,774) (50.2) % Travel & Consumer 1,950 7,875 (5,925) (75.2) % 13,539 19,572 (6,033) (30.8) % Software & Hi-Tech 59 662 (603) (91.1) % 1,248 1,757 (509) (29.0) % Business Information & Media 167 500 (333) (66.6) % 786 1,323 (537) (40.6) % Life Sciences & Healthcare 228 155 73 47.1 % 444 534 (90) (16.9) % Emerging Verticals 1,383 3,863 (2,480) (64.2) % 5,227 10,773 (5,546) (51.5) % Revenues$ 8,528 $ 44,597 $ (36,069) (80.9) %$ 59,721 $ 111,210 $ (51,489) (46.3) % Revenues in theRussia segment are generally subject to fluctuations and are impacted by the timing of revenue recognition associated with the execution of contracts and the fluctuations in the foreign currency exchange rate of the Russian ruble to theU.S. dollar. OnMarch 4, 2022 , EPAM announced that it will discontinue services to customers located inRussia and will provide transition support for the customers in this market. OnApril 7, 2022 , the Company announced that it would begin the process of a phased exit of its operations inRussia and onSeptember 7, 2022 , the Company executed an agreement to sell substantially all of its remaining operations inRussia to a third party. The timing and completion of the sale is subject to customary closing conditions, including regulatory approvals by the Russian government. As a result of these announcements, the revenues from this segment are expected to dissipate in the future. See Note 2 "Impact of the Invasion ofUkraine " for more information regarding the Company's decisions to no longer serve customers inRussia and exit our operations inRussia .
Effects of Inflation
Economies in many countries where we operate have periodically experienced high
rates of inflation. Periods of higher inflation may affect various economic
sectors in those countries and increase our cost of doing business there. We do
not believe that inflation has had a material impact on our business, results of
operations or financial condition to date. We continue to track the impact of
inflation, particularly on wages, while attempting to minimize its effects
through pricing and cost management strategies. A higher than normal rate of
inflation in the future could adversely affect our operations and financial
condition.
44-------------------------------------------------------------------------------- Table of Contents Liquidity and Capital Resources
Capital Resources
Our cash generated from operations has been our primary source of liquidity to fund operations and investments to support the growth of our business. As ofSeptember 30, 2022 , our principal sources of liquidity were cash and cash equivalents totaling$1.488 billion , short-term investments totaling$60.2 million as well as$675.0 million of available borrowings under our revolving credit facility. See Note 8 "Debt" of our condensed consolidated financial statements in "Part I. Item 1. Financial Statements (Unaudited)" for information regarding our debt.
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