Endava plc (DAVA) Q2 2024 Earnings Report, Transcript and Summary

Good morning and welcome to the Endava Second Quarter Fiscal Year 2024 Results Conference Call. All participants will be in listen-only mode. [Operator Instructions]. Please note, this event is being recorded. I would now like to turn the conference over to Laurence Madsen, Head of Investor Relations. Please go ahead.

Thank you. Good afternoon, everyone. And welcome to Endava second quarter of fiscal year 2024 conference call. As a reminder, this conference call is being recorded. Joining me today are John Cotterell, Endava's Chief Executive Officer, and Mark Thurston, Endava's Chief Financial Officer. Before we begin, a quick reminder to our listeners. Our presentation and our accompanying remarks today include forward-looking statements, including, but not limited to, statements regarding our guidance for Q3 fiscal year 2024 and for the full fiscal year 2024; the overall headwinds facing our industry and business, including macroeconomic conditions and the global geopolitical climate and the impact of such headwinds on our ability to grow revenues, and in particular, growth and expansion in our industry verticals; the impact of our investment and cost saving initiatives on our financial performance; our acquisition of GalaxE Solutions, including expected synergies from your transaction, and the overall impact on our business; enhancements to our technology and offerings; demand from clients for our technology services; our ability to create long term value for our clients, our people and our shareholders; and our business strategies, plans and operations. These statements are subject to risks and uncertainties that could cause actual results to differ materially from those contained in the forward-looking statements. Actual results and the timing of certain events may differ materially from the results or timing predicted or implied by such forward-looking statements and reported results should not be considered as an indication of future performance. Please note that these forward-looking statements made during this conference call speak only as of today's date, and we undertake no obligation to update them to reflect subsequent events or circumstances other than to the extent required by law. For more information, please refer to the Risk Factors section of our annual report filed with the Securities and Exchange Commission on September 19, 2023. Also, during the call, we will present both IFRS and non-IFRS financial measures. While we believe the non-IFRS financial measures provide useful information for investors, the presentation of this information is not intended to be considered in isolation or as a substitute for the financial information presented in accordance with IFRS. Reconciliations of such non-IFRS measures to the most directly comparable IFRS measures are included in today's earnings press release, as well as the investor presentation, both of which you can find on our Investor Relations site or on the SEC website. The link to the replay of this call will also be available on our website. With that I'll turn the call over to John.

I'd like to thank you all for joining us today. And I hope you're all well. We're pleased to be here to provide an update on our business and financial performance for the three months ended December 31, 2023. As we noted in our press release, obviously, the environment continues to be challenging. Our results and guidance reflects headwinds in IT spending, particularly on discretionary projects, and in the payments and banking and capital markets verticals. That said, we believe we have a very well positioned and strong business. We are confident that despite current softness in demand, in the longer term, the opportunity for us is very attractive. We want to make sure Endava continues to be well positioned to create long-term value for our clients, our people and our shareholders. We continue to pursue our strategy to ensure that, while we are rightsized for the current demand environment, we are also making necessary investments in our business to position ourselves for when discretionary CapEx picks up again. We're seeing three key trends in the market. One, while budgets are up this year, and there's a lot of work to be done, in the short term, spend is being deferred as clients continue to be cautious. As one client put it, we have the budget for a substantial ramp up with Endava, but we're going to go slow for now and see how the year unfolds. Secondly, we are seeing deeper demand for vertical and technology expertise. And thirdly, the growing importance and relevance of a broader diversified delivery footprint. Given these trends, we're continuing to make organic and inorganic investments in a disciplined way to, number one, diversify our revenue, our delivery and invest in technology and domain capabilities. Secondly, attract great talent and take advantage of the difficult times many others are facing to invest in and add to our leadership. And thirdly, evaluate acquisition opportunities that help us accelerate our growth strategy. Some of these investments may result in lower near term margins, given the current market environment. As we know, it takes courage to invest in uncertain times. But we continue to make sure we are being disciplined in pursuing our strategic objectives. Moving on to our results, we reported revenue totaling £183.6 million for Q2 of our fiscal year 2024, representing an 8.1% year-on-year decrease in constant currency from £205.2 million in the same period in the prior year. We ended the quarter with an adjusted profit before tax for the period of £22.7 million, representing 12.4% adjusted profit before tax margin. Some of the large projects we mentioned last quarter have not scaled up to expectations yet, while others have remained in the pipeline for longer than expected as a result of client hesitancy. We now have numerous projects where discovery work has been done, but clients are hesitating on when to commit the sizable spend needed to build production ready systems. Alongside this short term change to our growth expectations, we've started our business optimization program in order to facilitate a return to the medium term to our 20% constant currency organic revenue growth and 20% adjusted profit before tax margin. We remain focused on investing in growth, while simultaneously reducing corporate complexity and eliminating inefficiencies. We believe this will improve our competitiveness and enable us to further invest in growth. Let me tell you about some of these strategic initiatives where we are investing. We will continue with our global industry focus, which is a key additive differentiator. Additionally, we are increasing our use of automation and accelerators to deliver outcomes for our clients more quickly. Increasingly, we are being requested to participate in larger scale enterprise systems integration work. And as a result, this will be a focus of activity in the coming quarters. We are bringing together our close-to-client delivery and nearshore delivery teams under one manager per region in order to further build consistency in our delivery capability. We're starting to see the benefits of our combined sales and client delivery operations, resulting in a more cost effective organization, greater collaboration across industries and regions, and the development of senior multidisciplinary leaders that will ensure Endava is able to continue to scale. We're using the slowdown period as an opportunity to invest in senior go-to-market leadership, attracting dealmakers, who are difficult to shift in the boom times. And we undertook a rebranding exercise at the end of January, which has been very well received. In the last 12 months, we hired a dozen deal makers from leading competitors across our industry verticals. On the technology front, we want to help our clients embrace and explore new technologies more rapidly. Therefore, in addition to our core delivery competencies, we are creating new teams called pods that will be singularly focused on helping our clients accelerate and invent the future around new and emerging technologies. Pods represent an opportunity for differentiation by demonstrating our thoughts and delivering leadership across industry verticals against a key set of technologies and capabilities. The pods pull together existing Endava experts with exceptional thought and delivery leadership within a fast evolving technology domain. They will work with our industry teams to establish thought leading propositions around high momentum technologies and working alongside our delivery locations to ensure that appropriate skills are built and available at scale as acceleration is realized. We're building pods for AI, cloud, intelligent automation, cybersecurity, quantum, sustainability, embedded and physical computing. The right time to invest in these go-to-market technology and sales arenas. And these efforts will lay an even stronger foundation on which to scale as markets return. In addition to the release of our results today, I am thrilled to announce our acquisition of GalaxE Solutions to strengthen our healthcare vertical, as well as establish delivery capabilities in India. This is our largest acquisition to date, and it aligns with our strategic vision of expanding our global delivery footprint and further diversifying our revenue base. GalaxE was started in 1993 by the CEO, Tim Bryan, and is a leading provider of digital transformation and product development services to blue chip US companies with a significant client base in the healthcare vertical and delivery capabilities in India. I met with Tim and his leadership team and visited their delivery centers in India, and I'm excited about the synergies we can create between the two companies. This acquisition significantly expands our presence in the fast growing and exciting healthcare sector in the US. Additionally, with GalaxE, our global delivery footprint now expands to India, the deepest IT talent pool in the world where GalaxE has nearly 1,200 employees. GalaxE will strengthen our North American management team and brings decades of offshore delivery know-how to Endava. In addition, GalaxE has developed a strong accelerator enabled capability, facilitating the understanding of existing enterprise systems and enabling change. This capability, alongside of Endava's existing strength in delivering next generation technology, will allow us to open new opportunities and go deeper into enterprise transformation work, delivering more insightful and predictable outcomes. Mark will provide more details on the transaction shortly. I'm excited to share that we announced yesterday that we're expanding our strategic partnership with Equiniti, a leading international provider of tech enabled, shareholder, retirement and remediation services. We have established a five-year partnership of £75 million to support the delivery of transformative product and tech roadmap. This deal strengthens our existing three-year relationship and delivers significant growth for Endava in our capital markets vertical. With the extension of this partnership, Equiniti has become one of Endava's top 10 clients globally. This revenue is net new, and is an example of the sizable project opportunities that are being slower to convert than expected last quarter. I'd like to provide you with an update on projects we are working on in North America. In our banking and capital markets vertical, we are working with Early Warning Services in launching Paze, an easy online checkout solution offered by banks and credit unions. Endava is accelerating speed to market with the expediting of test environments and the development of an SDK for merchant integrations. We continue to drive market expansion as an integration partner of Early Warning, enabling Endava to drive value across all verticals. Endava is working with a leading fintech company in the alternative investment space, based in North America. Our two-plus year partnership started with a platform envisioning project, working directly with their entire C suite to translate their growth ambitions into executable backlogs in order to jumpstart an actionable delivery plan. We helped build out their Snowflake based data lake and end-to-end data pipeline, enabling sales and operational reporting. Additionally, we provide ongoing support for internal integrations with systems and external integrations with reporting providers. Endava is working with the American Endowment Foundation, or AEF, one of the nation's largest independent donor advised fund sponsors, to help organize their donor advise fund platform. We're supporting their leadership team with their digital transformation journey. The goal is to harness technology and automation, to optimize the end-to-end fund management process, by improving the user experience for firms, financial advisors, donors and internal AEF team members. By curating a seamless interface for both existing clients and prospective partner firms, we will help to scale and streamline AEF's overall internal operational efficiency. In our TMT vertical, we are working for a large US sports media company, organizing their data by building a platform to centralize, monitor and show interactive reports for financial information. The financial data visualizations encompass details relating to ticketing, events, payments, customer information, video visualization and streaming. The centralized information allows our client to make real time data-based decisions and monitor their top sales indicators. Mobile gaming remains an important revenue contributor for clients in the gaming sector. We are collaborating with a global brand in both the console and casual game market, reshaping their direct to consumer platforms to revolutionize their monetization strategy. Through the implementation of streamlined processes, exclusive deals, tailored and compelling transactional interfaces, and loyalty rewards programs, we are enticing mobile gamers to explore web platforms, fostering a more immersive community focused user experience beyond the confines of the game. In the aviation space, Endava is partnering with Delta Airlines, helping them launch and support Delta Sync, a suite of personalized experiences and offers aimed at creating new ways for customers to enjoy their time on board. Endava worked with Delta to establish a cutting edge, agile product strategy and design approach, which has improved customer satisfaction, increased member acquisition, and delivered value to strategic partners through customer engagement. We will continue to bring to bear our capabilities in support of Delta's ongoing investment into industry-leading products and the best-in-class customer experience. We're working with many of the leading brands across different segments of the automotive OEM landscape. From back office and plant floor operations to in-car experience, we are helping our clients leverage technology to solve problems and improve revenue. For example, we used optical character recognition and artificial intelligence to digitize paper vehicle documentation, which expedited processing, improved accuracy and reduced manual labor. We used computer vision and synthetic data generation techniques to accelerate and deepen learning for AI models. We are also helping a top carmaker leverage virtual reality and AI to optimize and validate the design of production processes, to reduce the time required to commission and build. And lastly, we are helping to design and deploy a scalable cloud architecture to enable over-the-air capabilities for millions of vehicles. On the technology side, we are rapidly moving to the point where AI touches just about every project. We continue to see a wide variety of work in our pre-sales pipeline, right across the ideation to operation cycle, and we continue to see a significant increase in client interest in exploring the potential of generative AI. These conversations are becoming more focused, as clients want to investigate specific applications for their business. This is happening across several industry verticals, including insurance, pharmaceuticals, technology, gaming, telecoms, banking, and capital markets. In many cases, clients are taking steps in exploring potential applications. And we help them do this through workshops, and practical proof of concept work. We're also seeing some more forward looking organizations start to actively explore new types of application, such as AI agent automation and combinations of generative AI with other emerging technologies, such as knowledge graphs. Clients are increasingly looking to us for their AI implementation roadmaps, in particular in the insurance and tech sectors. A few examples of our involvement here include work with a large US insurer to explore how they can use generative AI to grow their business, a workshop to demonstrate how generative AI can help a London market insurer and advisory engagement to explore personalization of omnichannel customer communication for a large telecoms company, as well as creating a number of generative AI powered tools for a wealth tech company, and also building an evaluation framework for a question answering bot in the gaming industry. We're also pleased with the level of client interest in our inhouse generative AI based platform, which enables the exploration of a wide range of potential applications of the technology through practical prototype implementations alongside of our clients. Two examples include code generation for pharmaceutical statistics for a global pharmaceutical company and a multi agent prototype, which took a claim through multiple stages and scenarios for a large US insurer. Our deep partnership relationships with major technology providers continue to bear fruit. Here are a few tangible examples of projects we're working on, starting with an exciting generative AI based prototype of a voice and text based call center assistant on Google Cloud for a major UK insurer. We recently held a multi-day hackathon at our offices in Charlotte to explore the latest advances in Microsoft Semantic Kernel platform, targeting the healthcare industry, and developed two compelling prototypes in the areas of pharmacy automation and critical care triage. Internally, we're seeing the early benefits of generative AI in our processes, with production use of tools increasing productivity and generating sales material, producing client insight for our private equity business, as well as helping to generate insights on our workforce. We recently held our Endava Innovation Lab with a total of 75 teams participating in this global innovation competition. And this year, 80% of the finalists applied AI in some practical way, illustrating how knowledge of AI has spread right across the firm. Globally, our recent acquisitions in Asia-Pac and in the US are integrating smoothly. And I'm excited about the prospects of our expanding global footprint. We continue trusted partnerships with NGOs, supporting inclusive education, including Niya, an NGO dedicated to bridging the technology skills gap for refugees by providing free training and matching talent with opportunities around the world. Additionally, we are also leveraging our technical expertise to help solve complex environmental and societal issues. We recently teamed up with the Resilient Building Council in Australia to launch a bushfire resilience app tailored for Australians, empowering users to gauge their preparedness in the event of a fire, providing an easy to use solution to protect homes and communities. We ended the quarter with 11,539 employees, a 5.3% decrease from 12,183 in the same period last year. In the current environment, our recruitment is focused on areas of demand and, as I mentioned earlier, the strengthening of our senior go-to-market leadership. I'd like to take this opportunity to thank all Endavans for their commitment and determination as we persevere through these headwinds. We will continue to manage the business for the long term, maintaining our culture and organizational health and creating exciting solutions for our clients and their customers. We believe clients activities in exploring and commissioning new products will overtake the headwinds and see us return to growth. I will now pass the call on to Mark who will walk you through our financial results for the quarter and provide guidance for the coming quarter and fiscal year.

Thanks, John. Endava's revenue totaled £183.6 million for the three months ended December 31, 2023 compared to £205.2 million in the same period in the prior year, a 10.6% decrease over the same period in the prior year. In constant currency, our revenue declined 8.1% from the same period in the prior year, within the range we provided to you last quarter and reflected a 5.3% positive inorganic contribution during the quarter. Sequentially, revenue was down by 3.6% in constant currency on the previous quarter. Profit before tax for Q2 fiscal year 2024 was £10.6 million compared to £20.3 million pounds in the same period in the prior year. Our adjusted profit before tax the for three months ended December 31, 2023 was £22.7 million compared to £43 million for the same period in the prior year. Our adjusted profits before tax margin was 12.4% for three months ended December 31, 2023 compared to 20.9% for the same period in the prior year. Our adjusted diluted earnings per share was £0.30 for three months ended December 31, 2023, calculated on 58.6 million diluted shares, as compared to £0.59 for the same period in the prior year, calculated on 58.0 million diluted shares. Revenue from our 10 largest clients accounted for 34% of revenue for the three months ended December 31, 2023 compared to 31% for the same period last fiscal year. The average spend per client from our 10 largest clients increased from £6.5 million to £6.3 million pounds for three months ended December 31, 2023 as compared to the three months ended December 31, 2022, representing a 3.1% year-over-year decrease. In the three months ended December 31, 2023, North America accounted for 31% of revenue compared to 33% in the same period last fiscal year. Europe accounted for 26% of revenue compared to 23% in the same period last fiscal year. The UK accounted for 34% of revenue compared to 39% in the same period last fiscal year, while the rest of the world accounted for 9% compared to 5% in the same period last fiscal year. Revenue from North America declined 14.5% for three months ended December 31, 2023 over the same period last fiscal year. Comparing the same periods, revenue from Europe grew 1.3%, the UK declined 22.3% and the rest of the world grew 44.8%. Revenue from payments declined 20.8% for the three months ended December 31, 2023 over the same period last fiscal year and accounted for 26% of revenue compared to 29% in the same period last fiscal year. Revenue from banking and capital markets declined 25.2% for three months ended December 31, 2023 over the same period last fiscal year and accounted for 14% of revenue compared to 17% in the same period last fiscal year. Revenue from insurance grew 10.4% for the three months ended December 31, 2023 over the same period last fiscal year and accounted for 8% of revenue compared to 7% in the same period last fiscal year. Revenue from TMT declined 5.2% for three months ended December 31, 2023 over the same period last fiscal year and accounted for 23% of revenue compared to 22% in the same period last fiscal year. Revenue from mobility declined 4.1% for the three months ended December 31, 2023 over the same period last fiscal year and accounted for 11% of revenue compared to 10% in the same period last fiscal year. Revenue from other grew 3.3% for the three months ended December 31, 2023 over the same period last fiscal year and now accounts for 18% of revenue compared to 15% in the same period last fiscal year. Our adjusted free cash flow was £33.6 million for the three months ended December 31, 2023 compared to £37.0 million during the same period last fiscal year. Now cash and cash equivalents at the end of the period remained strong at £198.6 million at December 31, 2023 compared to £164.7 million at June 30, 2023. Capital expenditure for the three months ended December 31, 2023 as a percentage of revenue was 0.8% compared to 2.0% in the same period last fiscal year. As John mentioned, we announced the acquisition of GalaxE today. Consideration for this acquisition totals up to $405 million, primarily in cash with some stock, with $30 million conditional upon future performance. Transaction is expected to close in early April 2024, subject to the completion of customary closing conditions and approvals, and therefore is not contemplated in our current guidance. Now turning to our outlook for Q3 and full year fiscal 2024. On our last earnings call, we highlighted the number of large deals being progressed and a general strengthening of pipeline. Whilst the large deals pipeline has continued to grow in number and value, they have been slow to progress. In addition, deals that we have [indiscernible] and are proving slow to ramp up into the production phase, given the uncertain macroenvironment, creating hesitancy among clients. This has mainly been the case across all industry verticals. This weakness is most pronounced in payments and in banking and capital markets. Payments companies are taking a very cautious view on the macroenvironment. This has resulted in slower release of IT budgets, and we are seeing projects being delayed. In banking and capital markets, we're seeing regulatory work take precedence over large transformation work. Thus, in setting the revenue guide, we've set a narrow range for Q3, given where we are in the quarter, but set a wider range around Q4, which reflects the uncertainty we're seeing in pipeline conversion. The top and bottom of the range for Q4 would be 7% and 0.5% sequential for growth on the midpoint for Q3 respectively. Consequently, whilst this uncertainty persists, our business optimization program that John mentioned earlier, will focus on actively managing headcount appropriately in this environment, with a particular focus on our seniority pyramid. As a result, we expect to take an exceptional charge in H2 associated with headcount reduction. Guidance has been set with these actions underway and reflects the savings we anticipate achieving. With that context, let me now turn to the guidance. Our guidance for Q3 fiscal year 2024 is as follows. Endava expects revenue to be in the range of £174 million to £176 million, representing constant currency revenue decrease of between 12% and 11% on a year-over-year basis. Endava expects adjusted diluted EPS to be in the range of £0.17 to £0.19 per share. Our guidance for full year fiscal year 2024 is as follows. Endava expects revenue to be in a range of £722 million to £735 million, representing constant currency revenue decrease between 7% and 5% on a year-over-year basis. Endava expects adjusted diluted EPS to be in a range of £1.09 to £1.22 per share. This above guidance for Q3 fiscal year 2024 and the full fiscal year 2024 assumes exchange rates on January 31, 2024 when exchange rate was 1 British pound to 1.27 US dollars and 1.17 euro. This concludes our prepared comments. Operator, we're now ready to open the line for Q&A.

[Operator Instructions]. And our first question comes from Ashwin Shirvaikar of Cit.

I was hoping to get some clarity with regards to the implied sequential growth range for 4Q, relatively wide range. So, 0% to 7.5% or so. How much GalaxE contribution is included? And then, when you look at organic sequential growth, what sorts of course corrections have you made with the assumptions you're making in relation to the conversion of pipeline to bookings, bookings to revenue and so on?

The guide doesn't include any contribution from GalaxE. We said in the prepared comments that we hope it will complete early April. So it does exclude in that respect. In setting the guide, we've obviously had issues with the speed at which pipeline is converted. And that's why we've put a large range on the guide for Q4. Basically, the assumptions around pipeline conversion for Q4, we have been more conservative at the top end of the guide than we have previously. So when we are, at this stage, looking at the proportion of contracted/committed, we're typically looking at about a 70% of the guided figure. We're actually going higher this time, around sort of 80%. And our conversion rates – and when I talk about conversion rates, win rate, we tend to win 50% of the [indiscernible] basically go for. The conversion rate is about actually the time it takes from that win to make a contraction with the other party and commence work. So, we haven't changed the assumption on our win rate because it's consistent with what we have done. But the actual conversion rate is going to be somewhat slower. And as John said in his comments, and I did myself, it's because budgets are either being constrained certainly through this first quarter of the calendar year and clients are not willing yet to release them, even though they're saying that there's work there for us to do. So, we're taking a cautious view at the top of the range. But, actually, that is not as conservative. We're basically putting the bottom of range where we see little sequential growth going from Q3 to Q4. So the bottom of the range would be something like £176 million, which is the top of the range for Q3.

There was a prepared remark which alluded to clients asking for diversified delivery. Hopefully, you can walk through that. Is that more a – is it now a necessity to have, let's say, India, South Asia plus LatAm, plus some presence in Central Europe? Sort of, is that kind of a standard ask from a risk management perspective? Or two out of three will do? Or what specific sorts of things are clients looking for from a diversification perspective?

Yes, it is some of the things that you touched on. Essentially, as we're getting into larger projects and larger proportions of the spend that clients have, they want to see that mix of us not just being able to do the more expensive Central Europe/LatAm delivery, but also being able to augment that with some more cost effective delivery capabilities out of places like India and Southeast Asia, and being able to scale that a little bit more, so that it becomes part of the mix. It's not a move into a different sort of service. It's just a move to get an ability to balance our pricing a little bit more and remain competitive by introducing that. Also, the access to the talent pool is another reason why we've been targeting India. We've been hinting at that for a while. With the GalaxE deal, we actually take off a step into India delivering.

So, cost is driving this rather than geopolitical risk, I guess that was the gist of my question?

Yes, it's much more about competitive pricing than geopolitical risk for us.

The next question comes from Puneet Jain of J.P. Morgan.

Follow up to what Ashwin asked. Can you talk about the pricing trends you are seeing? And are you seeing, on sequential basis, clients continuing to push for like-to-like price declines as well?

The pricing that we're finding is actually stable. The diversified delivery comment I was making was the ability to widen our footprint in clients by having a wider footprint in more cost attractive, from a client point of view, delivery locations, i.e. it opens up parcels of work that we previously wouldn't have available to us, just delivering out of Central Europe and Latin America. But within the zones that we're operating in, we're actually finding pricing is pretty stable, arguably even getting smaller increases.

Can you share more details around the plan, business optimization program, how many heads you expect to cut, potential cost savings? And more importantly, how are you going to ensure that that does not create any disruption in delivery?

So the initial phase, which is going to lead to the determination of costs, as I sort of outlined in the prepared comments, is basically looking at areas of overlap in SG&A and addressing the bench that we have built up as a result of deals and pipelines slipping to the right. So we're losing about 450 people. There'll be a termination cost of about £7.5 million. And it should generate an annual savings of about £23 million. But this is a tough – first part really of the program that we wanted to put in place. But we'll be looking basically at the – because the market part of the organization where we're aligning sales and delivery more closely and where we get some overlap in that area, we will seek to sort of streamline. And again, John talked about the pods on the call as well, which is to push more technology from a horizontal perspective into these new verticals. And again, as we sort of focus more closely on that, we anticipate that it will drive higher utilization with our staff, our external focusing staff. So it's initially two phases. The first phase is to address pension, look at SG&A. Second phase is basically to streamline and simplify by reducing duplication across the org.

Next question comes from Maggie Nolan of William Blair.

This is Jesse on for Maggie. So, first, I had a question about margins. Are you still expecting the fiscal second quarter to be the trough in margins, given the revision to guidance here?

When you say fiscal second quarter, the one we just reported on? The quarter to December?

Yes.

I would say we've got a little bit further to go in terms of Q3. I think that is going to be our nadir. We will see a little bit of weakness in the gross margin despite bench reduction exercise that's going on in the quarter, but it is happening in the latter part of the quarter. And we also have some investments that we're making to SG&A. In terms of adjusted PBT, we'll be in Q3, so the quarter to March, when we'll be probably sub-10%. But then, as the program starts to have a more impact on profitability and we see the sequential sort of growth in revenue that we anticipate, gross margin will improve, the bench will reduce, and then we will be delivering an adjusted PBT which would be low-double-digits. It's also worth saying that, during this quarter, we're investing pretty heavily. We're bringing in the deal makers, we're investing in the pods. We don't carve out our transaction costs on M&A. And so, that hits Q3 pretty strongly. So, that's all part of the margin pressure in Q3.

For my follow-up, in the past, you've talked about pursuing acquisitions that are 5% of the business. And obviously, this one is a bit larger. Could you talk about how the growth and margin profile compares? And maybe what type of multiple you paid? And how you make sure that this one goes well as the others have done in the past?

We talked about 5% to 10%. And we said we'd go over 10% for something that was really strategic. And this is a little over 10%. But it is really strategic for us. If you look at it, it moves the US to being our largest region in terms of client revenues, that is absolutely crucial. And it's been a target of ours for a long time. And great to see a step up there, the US is the largest market in the world, and needs to be our largest. Secondly is perhaps India talent pool, which we touched on earlier in the call. And that's pretty strategic. They bring decades of experience, they've been operating there for over 20 years. And that sort of offshore delivery model is pretty crucial. I went out to India with my team, we spent a lot of time with the GalaxE guys out there, really got to grips with how they do it, and confident that it's a very, very strong delivery operation. Thirdly, it's a big step forward in healthcare, takes healthcare to being one of our largest vertical. So we'll be pulling that out, I'm pretty sure, next year mark as a separate vertical as a result of having done this deal. It's also one of the more stable sectors through this period. So a great area to invest in. They're a growing business, very healthy. And they have a bunch of accelerators, which fit very, very well with ours. And we spent quite a bit of time as a team working through how they would work. The client calls that I did, which was yesterday, were frankly astounding. They're the best set of client calls that I've ever had, going through an acquisition in terms of clients belief in GalaxE and their ability to deliver. So a lot of plans around how we do the integration properly. We we've done a lot of work on making sure this is the right deal for us in execution terms as well as the strategic side that I just went through. Mark, anything on the financials?

Not really. The 1,600-odd people that were on board, high proportion of them are in North America, 30% of headcount. They deliver broadly the similar revenue per head that we do, and profitability is similar to Endava, although we will need to invest in their support functions which as a private business, they have run very lean. When it does complete, it is likely to add 4% to our guide full-year growth that we just outlined.

The next question comes from Bryan Bergin of TD Cowen.

On the outlook here, are there also cancellations that have occurred as clients kind of went through the year end period? Or is this entirely delayed release? Because I heard you mention client IT budgets actually – I guess potentially up this year. So, trying to understand the aspect of lost revenue versus delayed growth potential. And really, are some of these bigger programs that you expected to help you with that prior fiscal 4Q growth ramp still on the table in calendar 2024, meaning potentially they can cross the line for you in the first half of your fiscal 2025?

I'll let Mark do some of the detail on that. But you're right, we are seeing client budgets, IT budgets up. We're just not seeing them spending it yet. And that's where some of our confidence about an upturn later in the year comes from because there is backlog of work, there is budget to go against it. We just need to get through this hesitancy.

Yeah, that's exactly right. In the opening question, when it was talking about the delays and the conversion of pipeline, that has been our issue. We haven't seen erosion on the base. Actually, for us, pricing remains stable despite comments we've heard from other players in the space. And in terms of our sort of larger deals, which, for us, we monitor deals that are over about $5 million or $10 million TCV, the volume has gone up in a number of deals. When we look at it from when we were talking in the guide in mid-November, we've lost a couple, but we have gained sort of $5 million. So, we were up in absolute numbers. And the actual value that we now have in the hopper compared with back in November is up by 75%. And there are much larger deals coming into play. I think John referenced the Equiniti deal, which was something that we anticipated would land before Christmas. And we we've only been able to announce today, which sort of gives an illustration of the issue that we've been facing as we've dealt with the uncertainty of pipeline conversion.

On the margin front, if you can talk about near term utilization considerations as you move through the second half year, and are you able to quantify the level of investment you're making here in the near term, just to give us a better sense of how much is investment driven versus top line driven?

Utilization for the current quarter, so which is the quarter to December, which was reasonably low, that sort of 67%, we think it will be in Q3 maybe a little bit below that, say 66% or so. So, bench will be quite high until the actions that we just announced are going to take effect, and will then revert to something that is more normal as we go into Q4. So we'll be heading up towards the 68%, 69%. In terms of investments, we continue to actually invest in our sales and marketing activity. So it is around about, at the moment, about 6% of revenue. Obviously, with the deal that we have just landed with GalaxE, we've invested quite a lot of money in terms of deal-related fees. So, it's pretty crunchy in Q3. And then, we have ongoing M&A integration. So we had two before this deal in Asia-Pac and North America that we will complete by the year-end, but that will continue as we take onboard GalaxE, which will roll on into FY 2025. And then we're looking also at a simplification of our processes and systems. That will be a continual P&L investment for us as well. So we just want to get lean for the future and make sure that we have some thought processes to scale.

Next question comes from James Faucette of Morgan Stanley.

This is Antonio Jaramillo on for James Faucette. I wanted to dig in more on the marquee client spend, namely around MasterCard and also Worldpay. I know, previously, you had mentioned that was not contemplated in the guide, but I just wanted to ask about that first, and then I have a follow up as well.

We've been facing quite a headwind in payments, as you'd expect, with our two largest clients, being MasterCard and Worldpay. But they're part of those headwinds. MasterCard is split into two streams of work for us. [indiscernible] in the UK, which came off peak in FY 2023. So it is lower than FY 2023 – our fiscal 2023. That is performing in line with expectations. Where we're seeing headwinds is in the non-vocal [indiscernible] where budgets have been set flat or actually, indeed, below 2023 levels. So we've seen some come off in terms of what we previously anticipated with MasterCard. But we are seeing some areas where we are able to get into new areas of growth, although it's not at a level that we anticipated back in November. And Worldpay, again, has come off slightly from our view in November. The transaction has gone through with [indiscernible]. As yet, we don't have any concrete plans around the spend that they intend to put in place. But we expect them to pick up investments as we – our sense is that they have lost ground to their competitors. But, again, it is slightly [indiscernible] compared to what we anticipated [indiscernible] it is slightly flat there as well.

For my follow-up, I wanted to ask more on the embedded payments opportunity. I know that you guys have also highlighted that in the past. I'm curious if there's any green shoots in that area and what it looks like for the rest of the year.

Embedded payments is one of the stronger areas. If you look under the surface with payments, there are areas like traditional acquiring, where the investment has been pulled right back. Clients are getting by with existing systems rather than pulling them forward and continuing to invest in them. The places where they are continuing to invest is the new areas, the open banking areas, the embedded payments areas and so on, where they have the opportunity for more differentiated higher margin proposition in the market. So that's where we're continuing to see new work coming through.

The next question comes from Moshe Khatri of Wedbush Securities.

I just want to go back and just maybe discuss the GalaxE acquisition. You indicated that the revenue per billable headcount and the margins are at par with Endava's. But then you also indicated that you needed to make some investments in the business. Should we assume that the acquisition is at least somewhat dilutive for the first year, given some of the investments that you need to make into what you're doing in India?

In terms of, I think, deeper dive on EPS for full year, I don't think it will make a contribution in terms improving it, although it will do from a revenue perspective. We have to make some investments basically in that sort of finance function and some of the support functions to take them from the sort of private world up to public company speed. And then, again, it is plugging the Indian offshore capability into the Endava nearshore business model. And that will take some investment on our part. So I think for the near term, which is probably six months or so, it won't be earnings dilutive. I think it'll be earnings neutral, but thereafter we anticipate that it will be earnings positive.

Looking at clients budgets and looking at the pipeline conversion here, has anything changed since the quarter ended? Are we still kind of in a wait and see mode or things have changed in terms of ramp up?

There are signs as we're getting through February that clients are starting to ease off a little bit. You saw it in the Equiniti deal that we announced yesterday. That got signed, wasn't getting signed earlier in the quarter. And the clients are looking at their budgets, looking at the things that they want to do. And we're seeing some of that come through. I actually think others across the industry also seeing that. We're seeing the same trend.

The next question is from Bryan Keane of Deutsche Bank.

Mark, I guess on GalaxE, what's the normalized revenue growth rate of the company and maybe how's it growing more recently? Is it being impacted by the economy?

Well, they have a December year-end at the moment, so they haven't concluded December 2023. But the growth rates there [indiscernible] 10%. The expectation sort of growing into calendar 2024 is probably around 10% to 15%. So they are growing quite nicely actually. As I said, their sort of financial profile is similar to us, with the one caveat is they don't carry the SG&A that you would expect from an organization like Endava. So, the systems investment, I mentioned the finance function that needs to be put in place, but that won't be prohibitive for us because we will just move them on to our platform. The one caveat is it is in a different continent, so we do need to establish some presence there. So, the profitability is good. And I think the growth prospects are good. And I think they're probably going to be better under Endava ownership than they were as they were.

On a normalized basis, you think they can grow somewhere near the 20% constant currency revenue growth outlook that you guys think is possible?

Oh, yes, absolutely. In fact, we think that as we get to go, there's opportunity cross-fertilizing the capabilities of the businesses, the accelerators that I was talking about to actually see opportunities to accelerate both core Endava and the GalaxE business. GalaxE, because we widen their capability, we give them scale, they do have large clients who hesitate to spend more with them because of that scale. Endava, because of the access to these accelerators, that will help us drive a little bit deeper into enterprise transformation with our larger clients. So there's some very good revenue opportunities as we combine the businesses on top of the [Technical Difficulty] process.

Just on the demand question and timeline and conversions, when do you now guys expect maybe that to fall? Do you have any visibility to know – is it the beginning of calendar year 2025? Is it kind of a TBD environment out there? Just where do you think the environment could improve at this point or is it just too uncertain to know?

Next question comes from Spencer Anson of Susquehanna. Please go ahead.

How have you seen the demand environment evolve since macro conditions became more difficult and what should we watch for to get an indication that things might be standing up going forward? Did you guys hear the question?

Pardon me, this is the conference operator. We seem to be experiencing a technical issue. Please hold while we get the speakers reconnected. Thank you for holding. We do have the speaker line reconnected.

How have you seen the demand environment evolved since macro conditions became more difficult? And what signs should we look for indicate that products might be standing up?

I suppose, at the moment, are sort of macros, as we've sort of outlined, as we've seen it through hesitancy and progressing with work. I guess it has something to do with our exposure, particularly for Europe and UK [Technical Difficulty] giving people pause. So we're not actually seeing much of a change from that perspective. But, actually, the work is building up. I gave sort of indication of the pipeline of bigger deals building up, the size of them. The number is just the willingness of clients to commit at this stage.

Thanks very much. This concludes our question-and-answer session. I would like to turn the conference back over to John Cotterell for any closing remarks.

Yeah. So, thank you all for joining us today. As you can see, we're investing in Endava in order to facilitate a return in the medium term to our historical profitability and growth levels. And we're in gearing Endava to continue as the leader as tech waves regather strength. We look forward to speaking to you in our next earnings call. Thank you.

The conference has now concluded. Thank you for attending today's presentation. And you may now disconnect.