Data#3 Limited (DTL) Earnings Call Transcript

Okay. Thanks very much and good morning, everyone. Thank you for joining us for the FY '20 interim results briefing. This morning, we'll be working our way through an introduction to our business for those of you who aren't familiar with us. We'll move on to digital transformation and what's happening in the market and then summarize the FY '20 performance. The financial performance, I'll be handing over to Brem Hill, our CFO, who will take us through a range of the numbers. I'll then round out with some trends that are happening in the IT market both now and in the future and then talk about our outlook for the end of the financial year. We'll then open up, as we said before, for question and answer. So let's begin. And just beginning in terms of our business, let's start off with our vision. Our vision is to harness the power of people and technology for a better future. It's something that -- it's a vision that we've had with us for a number of years now, and it stood us in good stead. And quite simply, it combines people and technology to get great outcomes for our customers. So that's a vision which will remain with us. And moving on to Slide 5 in terms of who we are as a business. Around 1,200 people across the country. And you can see that we've been around for quite some time, which is somewhat unusual in the IT market. A couple of updated facts here as well, and we've updated them as far as the first half is concerned. Our approximate revenue under contract is 60%, and we see that increasing as we continue to grow various parts of our business which -- obviously, revenue under contract is something that we'll continue to strive for. Our market remains the larger enterprise customers and governments and public sector in general. And one fact which we can't -- it's not ranked by any external consultant, however, I think we can safely say that we're the largest provider of enterprise software in the Asia-Pacific region. In addition to that, we provide a range of services, which I'll move onto in a little bit more detail as well, with a range of our services which support not only our software but our infrastructure solutions as well. Now if we move on to Slide #6. And this is how we portray ourselves to the market, in particular, to our customers. And we've changed one of these solutions. And these 5 solutions: cloud, modern workplace, security, data analytics and connectivity, are really the solution -- the technology solutions that help solve our customers' business problems. The modern workplace is one that we've updated or modernized and utilizing industry terminology, in particular, coming from Microsoft. And it encompasses the likes of collaboration, end-user computing and the likes of Office 365 as well that would sit within the modern workplace. These solutions and how we provide these solutions we like to provide as full a life cycle as possible. And what we mean by life cycle is we like -- in an ideal environment and in an ideal starting point with our customers, we would provide advice and guidance with our Consulting business, move on to the design and implementation through our Project services business and then provide Support services on a contractual basis and supporting these solutions for our customers. So that's a relatively simple model in terms of how we go to market. In terms of the market, the largest driver in the market for both business and for technology is digital transformation. It remains so. It is gathering ahead of steam, and we continue to see many of our customers in both public and private sectors embarking on digital transformation projects and, in fact, transforming their organizations. What this means in simple terms, on Slide 8, for us is that the -- where our predominant business lies is in the foundation layer with connectivity, cloud, the modern workplace and security in particular. And where we provide this foundation layer in place, it enables digital transformation to take place. And the enablement of digital transformation makes use of some of the cooler technologies which sometimes are the headline-grabbing ones, such as blockchain, AI, IoT and 3D printing. Now we will continue to work in projects with each one of these cooler technologies, however, we do not provide the full specialization in each one of these technologies. We will partner with specialist organizations and provide a full outcome for our customer. But I'll just emphasize that the foundation layer for us is probably the most important and where the bulk of our business is. Looking through a different lens in terms of our business. We partner with and continue to partner with, we believe, the leading global suppliers, such as Microsoft, Cisco, HP and Dell. These organizations are driving market demands and are driving new markets for us as well and taking advantage and repositioning themselves in an environment where digital transformation is taking a lead. And across each one of these partners, we have a leadership position in our geography. Now moving on to a summary of the FY '20, moving on to Slide 11. I'll read this out, and you can see the picture of myself smiling. And hopefully, you understand why I'm smiling in this because the numbers are -- we believe we're very pleased with the numbers. And starting off with that, we're very pleased with the first half performance, maintaining the longer-term growth trend. The market is growing as digital transformation fuels the overall IT spend, and we've seen sustained large project activity. The current period result demonstrates the inherent strength and relevance of our solution offerings in an evolving market, and we're delighted with the rapid growth of our cloud-based business. Earnings per share increased 41.5% to $0.0565. The Board declared an interim dividend of $0.051 per share, up 41.7% on PCP and representing a 90.3% payout ratio. We believe that payout ratio is consistent with the past few reporting periods. Moving on to the financial performance, I'll hand over to my colleague, Brem Hill, CFO.

Thanks, Laurence, and good morning, everyone. It really is a pleasure to provide an overview of the first half financial result, and the key elements are shown on Slide 13. The total revenue increased by 11.6% to $718.9 million. And considering that the overall IT market has grown at around 3%, we're clearly continuing to gain market share. We are especially pleased with the continued strong growth in our cloud-based business, with public cloud revenue increasing by 76.5% to $251.9 million. The interim financial report gives the breakdown of our total revenue by business unit, but to summarize some of the key elements, we had software licensing revenue which increased by 18.1% to $425 million. And that includes the majority of our public cloud revenue, which is predominantly based from Microsoft's Office 365 and -- as year offering. The Infrastructure revenue increased by 4.8% to $180 million. Our Project services revenue remained relatively steady at just over $27 million. Our Support services revenue increased by 8.9% to $45 million. And the Recruitment and contracting revenue also increased by 5.9% to $28.5 million. And finally, Consulting revenues decreased by 36.4% to $8.4 million. And that decrease is largely due to the decision we made to narrow the Consulting business unit's focus in FY '20 including the decision to avoid large fixed price application projects. The sales mix obviously changed with a relatively large increase in Software licensing and the decrease in Consulting revenue. And that change in mix has reduced our overall gross margin percentage from 12.8% to 12.3%. The total gross profit in dollar terms increased by 7.7% to $88.6 million. Looking at the costs within the business. Our total internal staff costs increased by 4.7%, reflecting headcount growth and general salary increases. And other operating expenses actually decreased by 1.1%, which was helped by savings from the decommissioning of the Data#3 Cloud platform in FY '19. In addition, Discovery Technology, which is 77% owned by Data#3, delivered a close-to-breakeven result which was a significant improvement on the PCP. So putting that together, the growth in our total gross profit combined with the improved operating leverage delivered the strong first half profit growth. And also to help put that first half result in a bit more perspective, the next 2 slides show the longer-term trend in revenue and earnings performance. The total revenue trend on Slide 14 shows the past 6 first halves and clearly demonstrates our record of delivering sustained revenue growth. More recently, this growth has been fueled by digital transformation projects and the demand for cloud-based solutions, and we are very pleased that all our business units, except for Consulting, and all regions performed on or ahead of plan for the first half of FY '20. As mentioned earlier, our cloud-based business has grown rapidly and now comprises a significant proportion of our total revenue. And the chart on the right-hand side of the slide shows the public cloud revenue trend of the past 4 first halves. It's also important to note that the proportion of our total revenue that is recurring or contracted is also increasing steadily and currently sits at around 60%. Next, to look at the earnings and dividend trends on Slide 15. The first half produced a strong profit result at the top end of earlier guidance and maintained the longer-term growth trend. As this chart shows, the first half of FY '18 was an anomaly with a number of timing issues and one-off events impacting earnings, which resulted in a very heavy skew to the second half of that particular year. The subsequent first halves have seen a return to more normal conditions. Now I know I'm repeating myself, but it is really great to report the 41.5% increase in basic earnings per share and the 41.7% increase in dividend in the current first half. The $0.051 interim dividend is fully franked and represents a payout ratio of 90.3%. And that dividend will be paid on 31st of March with the 17th of March record date. And lastly, Slide 16 gives a brief overview of the balance sheet and cash flow. We've continued to enhance Data#3's financial position through careful management of cash flow and the balance sheet. We have no material debt, and any borrowings are supported back-to-back with customer contracts. The cash flow seasonality in our business is important to understand. So the net cash flow from operating activities is typically an outflow in the first half due to the timing of receipts and payments around 30th of June. So the traditional sales peak in May, June produces higher than normal collections pre 30th of June, which generates temporary cash surpluses, which then reverse after 30th of June when the associated supplier payments occur. For the first half, net cash outflow from operating activities for the current period was $84.8 million, which was less than the $109.8 million outflow in the PCP. And that improvement is mostly due to the reversal in the PCP of a higher-than-normal temporary cash surplus back at 30th of June 2018. I hope all of that makes sense. Upside is we ended the first half with $22.8 million in cash, up from $7.3 million in the PCP. We manage our working capital and collections very effectively, and our average days sales outstanding remained ahead of target and well ahead of industry averages. That has helped maintain a very solid financial position. So on that note, I'll hand you back to Laurence to complete the presentation. And many thanks for your interest in Data#3 and for listening to this results briefing.

Yes, thanks very much, Brem. Some very solid and very strong financial numbers there. Probably one of the most excited presentations I've seen from Brem Hill as CFO. The FY '20 to '22 trends and just what's happening in our market. I've touched on some of these before. I'll provide a little bit more detail on Slide 18. The -- moving back onto digital transformation, it's not -- as I've described before, it's not just a technology trend, it is actually impacting business and is inherent in most business strategy. It is becoming one of the #1 or #2 business driver that we're seeing across all sectors. The -- and then as a result of the digital transformation-driving business strategy, the IT spend is also increasing. So the global IT spend is up 3.5%. That was trending at 3.5% per annum. And as Brem mentioned earlier, our growth rate is far greater than the 3.5%, but it's, from our perspective, operating in a market -- in an overall market that is growing. And technology being high on the business agenda is a -- it's a market which we enjoy operating within, and we see plenty of upside. Talking of upside, some of the trends, and there's increasing convergence particularly in the resource sector and some of the utilities and transport sectors, we're seeing a convergence of the IT operations and the operational technology which traditionally have been separate domains. And this is creating additional markets for which we can start operating within. I'll also touch on cybersecurity as well because it is very much a 2-edged sword. It does pose increasing threats for every business and every individual, which many of us are very familiar with. And that's -- those threats continue to grow. But our security practice, it operates right across our portfolio, is one of the faster-growing parts of our business. So we see increasing opportunities as cybersecurity increases -- or cybersecurity threats increase. Now one additional thing that I'll also pick out from this particular slide is that with vendor channel models changing, we're seeing a greater emphasis on customer experience and also adoption of the technologies that are coming from the global vendors. And the adoption means that the global vendors have an expectation of channel organizations such as ourselves as providing a full range of services as possible. We see that we are well positioned, as I've described before, with the full life cycle of services supporting our global vendors' product sets. Moving on to Slide 19, picking out some of the key priorities in which we will invest and continue to invest in over and above our business as usual. And we picked out 4 key priorities for our strategy going forward. These are services, digital enablement and customer experience and vendor relationships. Each one of these we have teams of people working in cross-functional teams that are making headway and improving business outcomes internally for our business. So we're actually making our business better in each one of these key priorities. That's in addition, obviously, to the financial performance. We see the financial performance being an outcome of the great work that we've been putting in, in each one of these areas. Looking to the outlook now and just moving on to Slide 21 and some of the business outlook we split into 2 factors. We've got external factors, which there's plenty happening in the globe -- around the globe at the moment. As we've said before, the IT market remains buoyant. We expect that to continue. There's a range of things in the geopolitical market as well -- or geopolitical such as trade agreements with China, agreements with and decisions that Australian governments make with the likes of Huawei operating within the local market. That has impacts on the local market which we believe we can take advantage of. Secondly, we're also monitoring and continue to monitor supply chain and supply chain impacts. That has been -- it's also been a continuation from last year, if you recall, been working with our business. We had supply chain impacts with Intel, which we've closely monitored and worked very closely with our vendors on. And then likewise, we are continuing to do that with our hardware vendors for a part of our business that supply the hardware components. And we're continuing to monitor any supply chain impacts coming out of China. Internal factors that we can control, and these are the integration projects which we're still seeing a solid pipeline of these projects, which is the combination of the hardware, software and services. And these are the ones that we really enjoy working on. And secondly, from a -- as Brem mentioned before, we had a less-than-satisfactory first half performance from our Consulting business. We expect to see an improvement in the Consulting business in the second half. Putting all that together and in terms of the FY '20 outlook, I will read this out on Slide 22. We see ongoing growth in the Australian IT market with digital technologies leading business transformation in both the commercial and public sectors, and we believe we remain well positioned to capitalize on these opportunities. The strong first half performance and pipeline of opportunities for the second half gives us confidence that we will achieve our full year financial objective, being to deliver sustainable earnings growth over time. On that note, I'm happy to open up to question and answers. Thank you.

[Operator Instructions] Your first question today comes from Nick Harris with Morgans.

Laurence, I think calling it a solid result was a bit of an understatement. That was a really good result, so well done. A couple of questions from me. I might just do them one at a time, if that's all right. Just the first one was thank you for giving us the revenue under contract at about 60%. Are you able to give us a bit of an idea of what that's been historically? Was it 50% a year ago or just a bit of background on how that's growing?

Yes, sure. I'll let Brem talk about the specifics on that, but thanks very much for your comment regarding understatement of our strong financial performance.

Yes. Nick, on that revenue under contract, it was -- last time we reported that it was 55%. That is increasing gradually. And hopefully, it will continue to do so.

I was just going to ask as well just on the China supply side -- sorry, China supply chain side of things. Do your partners hold a reasonable amount of inventory which can provide a buffer if delays sort of continue? Or I'm just curious if things don't improve soon, is there any potential risks, or are we okay?

We're -- I think it's too early to tell in a range of things, so we don't -- we have no impact currently. Our suppliers do carry substantial stocks. They do have a range of manufacturing both inside and outside of China as well. And we also have the ability to buy from a distribution channel as well who hold significant stock. So there -- we're quite familiar with sometimes stock shortages, and we look to plan ahead as rapidly as possible. But that's why we say we're monitoring it right now. I also would just point out that a very large part of our business, so for instance, all of our services business, all of our software business, all of our maintenance business, our contracting and people solutions business, our Consulting business do not have any impact in terms of the supply chain. Likewise, our Infrastructure business, there are a portion of our Infrastructure business which is increasingly becoming software. A portion of our hardware business does rely on the physical hardware product these days, but increasingly, it is moving very much to a software world, which we don't have supply chain constraints, obviously.

Makes sense. And just one last question from me, if I might. Just in the first half, was that all really business as usual in terms of the financials, or were there any one-off projects, sort of big projects in there? And if there were, could we expect them to continue in the second half of '20? Just trying to understand if there's anything lumpy.

Yes. I'll -- there wasn't one large project. So that's -- it's -- I wouldn't necessarily call it business as usual, but I suppose it can be coined that way. It was a well-rounded performance across -- as Brem said, across each one of our business units and each one of our geographies as well. So it's one of the -- it's very pleasing in terms of across a pretty significant group to see that we've got overperformance in all of our major areas. We do have with the exception of the Consulting business, which is a small component of our services business. Is that okay?

Yes, I'll take that. Yes, that makes sense. Well done.

Your next question comes from Adam Dellaverde with Taylor Collison.

Congratulations on the strong result.

Thanks, Adam.

Thanks, Adam.

Just a few from me, but they're all kind of related. Given the strength of first half, is there any reason to expect a different kind of earnings skew to normal?

Look, I'll have a go at that first.

There will be a skew to the second half, the effect of which...

It's hard to call.

Yes