Good day and thank you for standing by. Welcome to the EPAM Systems First Quarter 2023 Earnings Conference Call. At this time, all participants are in a listen-only mode. After the speaker's presentation, there will be a question-and-answer session. [Operator Instructions] Please be advised that today's conference is being recorded. I would now like to hand the conference over to your speaker today David Straube, Head of Investor Relations. Please go ahead.

Thank you, operator and good morning, everyone. By now you should have received your copy of the earnings release for the company's first quarter 2023 results. If you have not, a copy is available on epam.com in the Investors section. With me on today's call are Arkadiy Dobkin, CEO and President; and Jason Peterson, Chief Financial Officer. I'd like to remind those listening that some of our comments made on today's call may contain forward-looking statements. These statements are subject to risks and uncertainties as described in the company's earnings release and SEC filings. Additionally, all references to reported results that are non-GAAP measures have been reconciled to the comparable GAAP measure and are available in our quarterly earnings materials located in the Investors section of our website. With that said, I'll now turn the call over to Ark.

Thank you, David. Thank you for joining us today. Three months ago, we shared some details of what we are thinking about 2023 and how we saw the main factors and trends driving our performance during the year. As you will recall, we anticipated some level of market slowdown in general demand, but we are not certain of the impact level of this slowdown in our own portfolio yet. We also saw that some of our customers were mitigated the risk exposure due to the war in Ukraine and we are showing signs of managing those risk by [indiscernible] and work streams to some other partners. With the understanding of all of that, we were proactively investing in building scalable quality delivery locations outside of our traditional comfort zone to consistently delivering comparable engineering quality across all of our growing global delivery markets. And we also said that we were expecting to continuously optimize operations across our global delivery locations to bring the cost structure back to our traditional metrics in near and medium time frame. And despite a number of EPAM specific challenges, we believe that the market for our services continues to be strong and our proposition remains extremely relevant so we were broadly expecting a general uplift in demand going into the second half of 2023. Today, three months later, we understand that with the visibility we had in fewer quarters we underestimated the breadth of the macroeconomic slowdown and the depths of the impact, specifically in the transformational sector of the IT services market. And as you know, we always stated that our customers are almost exclusively Global 2000 enterprises leading global platform companies and venture backed emerging tech firms who rely on EPAM to design, engineering and deploy a large scale transformational and digital engineering…

Thank you, Ark, and good morning, everyone. Before covering our Q1 results, I wanted to remind you that in addition to our customary non-GAAP adjustments, expenses related EPAM’s manager and commitment to Ukraine and costs associated with the exit of our Russian operations business continuity resources and accelerated employee relocations have been excluded from non-GAAP financial results. We've included additional disclosures specific to these and other related items in our Q1 earnings release. In the first quarter, EPAM delivered solid results. The company generated revenue of $1.21 billion, a year-over-year increase of 3.4% on a reported basis and 4.9% in constant currency terms, reflecting a negative foreign exchange impact of 150 basis points. Additionally, the reduction in Russian customer revenues resulting from our decision to exit the market had a 220 basis point negative impact on revenue growth. Excluding Russia revenues year-over-year revenue growth would have been 5.6% reported and over 7% on a constant currency basis. Beginning with our industry verticals, travel and consumer grew 4.9% driven by solid growth in travel and hospitality and muted growth in retail. The ongoing exit of Russia operations also impacted growth in this vertical. Absent the impact, growth would have been 6.7%. Financial services grew 4.1% with strong growth coming from Asset Management and Insurance Services. Excluding Russia customer revenues, growth would have been 12.5%. Business information and media delivered 4.2% growth in the quarter. Software and Hi-tech produced no growth. The lack of growth in the quarter reflected a reduction in revenue from a former top 20 customer we mentioned in our Q4 earnings call and generally slower growth in revenues across a range of customers in the vertical. Life Sciences and Healthcare declined 10.1%. Growth in the quarter was impacted by the ramp down of a large transformational program mentioned…

[Operator Instructions] The first question will come from James Faucette with Morgan Stanley. Your line is open.

Great. Thank you very much. Appreciate all the color and details so far this morning. It sounds like most of your revision and view for the rest of the year is attributable to macroeconomic environment. Just wondering if you can kind of give more detail on the underlying assumptions there. And I know back in the previous quarter you had talked about that there was some engagement and reengagement that you need to do with clients. I'm just wondering how that has gone and if that engagement and those kinds of conversations are impacting your outlook at all right now.

Good morning, everybody. I think you're asking if or because we were a [indiscernible] trends. One of the concerns coming from clients because of special conditions we are working and second was [indiscernible] economy. And so, what is the main driver here. And I think definitely both of them were playing a role in our previous estimation. I think at this point we definitely see the economy driving the behavior of the clients and the biggest impact on our kind of guidance and forecast on what's happening. And on top of this, if you remember, our previous guidance call was at the beginning of February and already in the beginning of March we will always hear news from the banking sector from North America first and very quickly from Europe as well. And all of these were translated to increased [indiscernible], which was very visible. Specifically on the transformational programs, as I mentioned. So I think at this point, we believe it’s a general slowdown [indiscernible] latest events.

Got it. Thank you for that, Ark. And then, I guess, from the ramp downs and softness, any sense of how much of that. It sounds like you feel like that that is probably broad based, but any clarity on those ramp downs? And is that -- how much of that maybe idiosyncratic to EPAM, given delivery challenges or it sounds like you think it's more really macro driven. I just want to make sure I understand that.

Yes, that's exactly what I’m saying and clearly after our previous call, some new things were happening and now that were driven by client question based on the economy.

Great. Thanks for that Ark.

Please stand by for our next question. Our next question comes from Darrin Peller with Wolfe Research. Your line is now open.

Hey, thanks guys. If you could help just by maybe dissecting a little bit more around the demand environment versus what you're seeing that's more specific to some of the regions you're in now, some of the newer regions. And what I mean by that is really just whether or not there's been anything that is tougher to execute from some of the new regions you've built into post Russia, post Ukraine or is that really not a factor? And instead, it's really just demand and at the end of the day you have all the talent you need executing the way you should. And then I guess a quick follow on related to that is just pricing dynamics to pass through. What's the latest on the wage environment in those newer regions and how you are executing on that and your ability to pass through on pricing around that?

I think that's what we're trying to bring kind of color during this morning [indiscernible] definitely like when the economy acting like this, clients are definitely reacting on this accordingly and the question on pricing and discounts all coming to the play. And this is part of the life right now. It started several quarters ago as we were talking about it, but it's become very visible, specifically today. And that's exactly what we try to highlight that we're executing kind of with multiple approaches. One of them, yes, we do something which not necessarily our traditional approach. We try to put ourselves in client choice. We're trying to understand what we can do and help in short term actively changing some models and focusing on the insurance that we maintain and the relationship with the client and continuously serving them. So -- and that's a big portion of what's happening today. So let's answer to your question. While at the same time there are still transformational deals that’s still happening, not at all at the level [indiscernible] like 12 months ago. And we focus on this and we continuously doing this. Again, we continue to work in the future as we mentioned. But definitely cost pressure is here.

So, no real challenges in terms of delivery or the ability to add headcount or to get work done. But as Ark said, it's really an issue of kind of the uncertain macro environment and clearly more uncertain than we expected by the time we kind of get to summer. And we think that's having an impact on customers investment decisions. From a wage standpoint, we did do our promo campaign here in Q2. And as we talked about, we clearly were seeing wage inflation over the last year, but I think you're going to see a more muted wage inflation environment through the remainder of the year. And then just the pricing environment is clearly not one that is super supportive of price increases and we're finding both clients are cautious in terms of spend and in terms of rates. And even sort of new engagements or requiring that we sort of sharpen our pencils a little bit.

Just a very quick follow-up. You guys have always done a good job of having more visibility than most, and you try to take that into accounting guidance being conservative at oftentimes. I mean how do we feel about it now? I know you've probably given the macro uncertainty wanted to take as much of a stat of being conservative as possible in this case, is that fair?

Listen, we understand what you're asking, but I think we reflect on exactly what we're seeing right now. And unfortunately, last quarter, we were seeing this differently.

Understood.

And the stability right now is very different, like this is a pretty new environment. I don't think we can compare this with second quarter of 2020, it was a different reaction of the clients much more sharpened. So right now, it's different, but yes, that's what we see. And I think everybody needs to think about quarter-by-quarter adjustments because that was what we will be the next quarter.

Okay. Understood. Thanks, Ark. Thanks, Jason.

Please standby for our next question. The next question comes from Bryan Bergin with TD Cowen. Your line is open.

Hi, guys. Good morning. Thanks for taking the question. First one, just a follow-up on budget behavior. So I'm curious if you're seeing clients cut an outright cancel programs or if this is more so deferral and delay of spend. So more like a wait-and-see approach? I'm trying to understand if there is potential pent-up recovery that could actually form later this year or if the potential budget dollars are more or less out for 2023?

I think we also try to educate how we're thinking about it. And based on what we saw in our previous slide based on what we think happened with technology right now. We mentioned that we're thinking in terms of quarters, but that's a question how many quarters two, three, four quarters. Not in terms of [indiscernible] the market will restore. That's our belief, we're making mistakes as everybody else. But in this case, still the same quarters versus years.

And so, we saw those couple of ramp downs that we talked about, which one in the health care space and one in the tech space and those were largely -- not largely, they were very much sort of economy-based. A client making a decision just based on kind of how they were looking at their future revenues and profits. What we're seeing today is more kind of, let's say, a trimming or adjustment to spend, which is generally a contraction. So Bryan, it's not a people saying, Hey, look, I'm not going to do any work. It's just people sort of reducing their spend. And as Ark said, eventually, we think that people have returned to a need to make the investments to make their businesses competitive and successful in the future.

And it's definitely combination across all of the different environment. When somebody telling you that we will delay for one quarter, we will start next quarter and the next quarter, we said we have to do it for another quarter and what is happening for several then. Okay, that's not a cancellation, but it's definitely not allowing us to count on this.

Okay. That's helpful. Okay. And then just shifting over to margin here. So can you just talk about any update around your thoughts on structural margin as the business does recover? And then, near-term levers to balance the profitability and the global diversification efforts. I'm just trying to get a sense on how you're expecting gross margin really to trend forward?

Yes. So I think with the updated guidance is that, we're probably thinking that utilization is going to remain more in the mid-70s rather than the high 70s in the second half. However, we do have characteristics in the second half, with generally the higher bill date in Q3, social security caps and a little bit of trend up in utilization. So I am expecting that gross margin will be maybe somewhere around the 33% for the second half. SG&A and other areas of variable expense, we're definitely working to control. And so, SG&A will likely be below 15% as a percentage of revenue. And then what we're looking to do is still run the business at sort of close to 16% for the full year. But what that means is the second half will probably be closer to our -- the top end of our traditional 16% to 17% range.

Okay. Thank you.

Please standby for the next question. The next question comes from David Grossman with Stifel. Your line is now open.

Thank you. Good morning. I wonder if I could just go back to a question that was asked a little bit earlier. If I look at your guidance for the year, just take the midpoint of about $5 billion, it looks like you are kind of guiding to sequential increases in revenue in the back half of the year. So I think, Ark, you said you're guiding to what you see. So does that imply that you have some visibility on backlog or new ramps that give you confidence that revenue growth will kind of accelerate sequentially in the back half of the year?

I think we see programs which started to show up in conversations and based on this, we seek for moderate increase in demand. Especially like if you think about how much technology is potentially changing; as we speak, a lot of experimentation starting and we've seen a lot of conversation across practically all industry components. So that's how we'll get right now for the H2, but it would be moderate increase.

Yes. And despite, obviously, the guidance for Q2 and some of the growth figures you see in the top 20 and the below top 20 is, we aren't seeing a significant amount of new logo activity. So there's a fair number of wins, a lot of new MSAs being signed. The challenge right now, David, is that most of those new programs are relatively small. And so, they're not contributing to the same extent revenue growth as they might have in the past years, but we are sort of hopeful that they'll grow over time. And then just a quick comment on the growth rates that we saw with the top 20 and the below top 20 is with the movement of clients between those cohorts and particularly the two clients we've talked about in technology and health care when they move from the top 20 to out of the top 20, it tends to distort the growth rates, particularly in the below top 20. And so, that's why we're seeing a somewhat lower level of growth outside our top 20 clients.

Got it. And just to go back to your comments, I guess, 90 days ago when you -- I think you talked about client that shifted a workload to another vendor and you just really didn't get notification, I guess, until late last year. Have you seen any other major clients shift workloads to other vendors over the course of the last 90 days or any activity that would suggest that's still a possibility this year?

I don't think we saw during the last 90 days, specifically as we saw more delays and more delays with decisions and delays with the strategic programs, which we were promising. At the same time, there is a pretty big consolidation effort across the industry. And specifically, consolidation efforts versus pricing and cost cuts, cost kind of sales. So it could be impact across the portfolio in this area, for sure.

So just to be clear, I can...

This is a whole part of the pressure. That's exactly what we try to -- I try to explain this morning that when transformational progress on the [indiscernible] was becoming the main driver. We all know it. And the recent redistribution of the budgets is results. But again, that's why we show the stat, which we're sure. On the other side, it's critically important, and that's what we believe is the reason. Now both quarters, the situation will be changing as we -- many times we see how this redistribution of work were coming back because then you need like actually to deliver and deliver with the quality and deliver on new technologies and business changes. We unfortunately have to share our projections right now as is exactly because of this, because of cost situation and many decisions which clients making right now.

All right. I think I got it. Thanks very much.

Please standby for our next question. The next question comes from Maggie Nolan with William Blair. Your line is now open.

Thanks you. Jason, you started to get into this a little bit, but you've mentioned in past quarters that new client additions were kind of a big focus area for the sales force for 2023 after focusing more on delivery in 2022. Is that still an area that you're really focused on investing into for 2023? Or is that sort of changing alongside the demand environment?

No. That continues to be a really significant focus of the company, right? So in addition to maintaining the existing relationships and growing in existing accounts, there's a huge focus on new logo activity. And just the only challenge right now -- in past years, you might have initiated a new relationship and seen millions of dollars of revenue in the first quarter and maybe over $10 million in the second quarter or third quarter. And right now, just people are more cautious about their budgets. So those relationships are starting with kind of smaller projects. But I think over the period of quarters, may take into 2024. I think a number of those new relationships are going to produce growth, and I think it will begin to show up in our numbers. And at the same time, and I think I talked with some of you kind of face-to-face is we got a little bit of a two steps forward, one step back scenario where we are having some of the larger clients, not discontinued relationship or shift work to another vendor. But what they are doing is they're trimming their budgets. And so, while we get some of these incremental revenues from new clients, then we also have these offsets that are coming from larger clients looking to sort of trim their spend, and that's kind of the behavior that we see in Q2 and was more pronounced than we had expected when we guided in our way in February.

Okay. And then can you comment on how much of a priority M&A is right now or share repurchase?

Yes. So M&A continues to be a priority. As always, we want to make certain that we're acquiring assets that we think can be integrated successfully and will help us sort of drive and evolve our business. And so, we have active discussions going on today. I can't comment what we're going to close and when, but certainly, we've got some active conversations occurring and you likely would see something in the future. And then from a share buyback standpoint, we did initiate our program in Q1, it was modest, less than $10 million bought back, I think, 30,000 shares. And I would expect that we would continue to move forward with participation, although we don't have a predetermined level for Q2 but expect to be active in terms of share buybacks in the quarter.

And on M&A, I would -- as it -- it's pretty much same approach we have before. We're looking for things, which is longer term or strategic, and there is no any specific efforts to make situation better for the short term. So, it's all about longer term what would be happening in the [indiscernible]

Okay. Thanks, Ark. Thanks, Jason.

Please stand by for our next question. The next question comes from Ramsey El-Assal with Barclays. Your line is now open.

Hi. Thanks for taking my question this morning. I wanted to ask about the -- some comments you made about clients, obviously, shifting to more kind of cost takeout focused work how much of an internal pivot is required for you to address and meet that shifting demand? Do you have to reskill or invest? Or is it just a -- does it take time to get there? Or is it just a matter of you have the skills on hand, you just have to sort of change the orientation a little bit in terms of kind of getting there with your clients?

So we do believe we have -- again, as you know, as we communicated, it's not a primary focus of our services lines. But at the same time, we have the skills we were building on [indiscernible] we have people who understand what to do in this area. And from technology skills in some situations we have definitely capabilities to apply this for cost-out engagements. So we put in our efforts around it. I don't think it's about specific risk [indiscernible]. It's still, even with this effort, it's relatively a small portion of what we do it in general, and there is no goal to repurpose company for this type of cases. So this is much more tactical effort for us those quarters, which we believe this type of trend will be before the market will come back. So we still invest in the very specific area for the future growth.

Okay. And could you also provide a little more color on the pipeline right now? Is it -- has there been a shift to any particular type of deal, large versus small? Is it more new logo versus expansion? Are there easier -- is there a path of least resistance there? How is the composition of the pipeline evolving?

I mean there are still a handful of large deals that are out there, they were expected to generate revenues in the second half that are significant mainframe to cloud type engagements that will have significant revenues. And I think we talked about this in the last conference call as well, which is that, most of the new work that we're seeing is generally smaller in size. There are relatively fewer clients who are kicking off large-scale transformation programs. At this time, they're looking for kind of near-term return on their investment. They're looking for modifications updates to existing platforms rather than sort of creating new platforms. And again, it's back to the, let's say, the instability in the macroeconomic view is long as people aren't certain whether the bottoms are going to be in Q3 or Q4 or Q1 of 2024, it just makes it more difficult for people to make investments in large-scale transformation programs.

Got it. Thank you so much.

Please standby for the next question. The next question comes from Ashwin Shirvaikar with Citi. Your line is now open.

Thank you. Good morning, folks. Ark, I appreciate the thoughtful comments at the top of the call. First question goes to Jason. Is the idea, Jason, to hold the line on operating margins because you kind of mentioned quarter-to-quarter variability and the need to be flexible based on revenues, not having visibility into revenues. So is that the idea that you will hold the line on margins?

Yes. Our focus continues to be on a return to stronger demand over some period of time as Ark talked about, whether that's two or three or four quarters. And to make sure that we're making investments in the business that will allow us to continue to advance our capabilities and be successful in the market. And at the same time, we are being very careful in terms of spending really addressing discretionary costs, controlling anything that's more variable in nature. And Ashwin, trying to drive the business at least to the do it around a 16% or maybe slightly below that range. So trying to maintain profitability throughout the year at 16%. And what you'll find then is that the second half will have stronger profitability just because there are characteristics that make gross margin stronger. And then with continued focus on SG&A efficiency, I expect that SG&A will go below 15%. So again, it will be a focus on the longer term, so we don't want to do anything that hinders ourselves to return to growth. And at the same time, we want to be careful about our discretionary spending.

Understand. And as it sort of relates to the portfolio of services and your delivery do your clients, particularly the older or more -- the more tenured clients, do they all understand at this point that you have a more diversified delivery than before that it's not primarily three Central and East European countries? Or does that come up as a factor? And I just wanted to also clarify from Ark. Is there an intent here to get into things like application management and so on, more deeply broaden out the service portfolio in response to what's going on.

So this is what we do as we speak. At the same time -- okay, let's -- from the beginning. First of all, absolutely, clients understand that we have a different delivery kind of structure today. So that's what also I was talking this more about that we bringing new clients and existing clients coming to new geographies, which they didn't experience with the bank before. And we have pretty good progress because it's not already like one or two quarters. It's already almost like 18 months. And we have a new client, which is very typical clients as for engineering differentiation. And technology services, which come into new locations with us as well and appreciate the differentiation which we them because again, as I mentioned, the direction was taken even before war started for globalization of our services and investments were done in different regions for some time. First of all in India, but then very actively in Latin America as well. Other degrees for us like Central Western Asia, which is benefiting strongly from the Italian from our traditional historical locations as well. So, which is a little bit more predictable from this point of view for clients, too, because some projects move in there because of the talent well. So from this point of view, there is everybody that is direction. So from the portfolio of the business, definitely, we do more new saw experiencing with our staff. We also were growing over the years application management component as well, but it's still a relatively smaller portion of what we do. And it's addition user addition to transformational work, which we do it as soon as we do it big modernization, we have taken on increasing components of application management as well, but still focused on transformation program, as I mentioned. What we see right now is that the delayed and we do believe that while Q2 definitely was impacted I think some of that will start to be realizing in H2, and that's why we believe that it would be some growth there because there are too many programs and we don't believe that clients will be able to afford to delay the full load. They already delayed them for multiple quarters. So I think it's -- it will start with H2.

Understood. Thank you for that.

Please standby for the next question. The next question comes from Jason Kupferberg with Bank of America. Your line is open.

Good morning, Ark and Jason. This is Tyler DuPont on for Jason. Thanks for taking the question. I know I'm putting up on time, so I'll try to be quick. I think you briefly touched on this, but maybe just to ask it in a different way and just to clarify on my end, if you could spend a bit of time talking about the linearity of the quarter. For example, the last print was in the second week of February. And at that time, you talked about some positive green shoots. Did the demand picture fall off significantly in March, particularly? And if so, is that fully attributable to the banking sector crisis? Or just any clarity there would be helpful.

All right. I think we do believe that the news of the market was impacted a lot of decisions. And it's not necessarily impacting just banking or financial services, but most of the other industries put a lot of programs on hold. And you can see with company like this announcement of other technology-driven companies due to the last couple of months. So this is the sole part of the same very kind of sharp reaction of the situation. For transformational aspect of all the services which we provide. And as a reminder, that this is majority, big majority of what we do.

Okay. Great. Thanks, Ark. I appreciate that. And then just as a follow-up, it seems like while financials and travel seem to put up pretty solid growth numbers ex-Russia, I was a little bit more surprised to see the life sciences and to a lesser degree, high-tech experienced a bit of a slowdown. So I was just wondering if you could parse out what you're seeing in those verticals? Like how much of that decline, for example, was from the ramp down of those large clients mentioned on the last call compared to, I guess, as Jason described, more of a trimming of spend across the client base?

Yes. So quickly, on the Life sciences and health care, it's largely a significant sort of ramp down. And specifically, they put a program. They effectively sort of ended a program kind of restarted some work, but not specific to that program, and there's been a very significant difference in the revenues we generated last year from that client from the revenues we expect we'll generate this year. And then, from a high tech standpoint, again, you've got the one client, but then you also just have a generalized kind of slowdown in spend and I think we all see in the news from the high-tech sector.

And if you will, this is, in some ways could be accidental or driven by a couple of clients, but in some ways, very logical industries, if you see, because software and high-tech more obvious life science, if you've seen how much investment was done there during the core time and how much all the investment was done as well with current situation, some things should be done and a lot of sinking would be that way vestment were pool. So I think it's a lot of thinking is by science industry right now after a huge spread due to the pandemic or big portion of pandemic.

Okay. Thanks.

At this time, I would now like to turn the call back to Ark for closing remarks.

Thank you again for joining us. And, yes, it's unusual period in our kind of life after a significant growth and now seeing a little bit different well, but again, our belief that technology will be derived in the future. We didn't talk too much about all this nice conversation about open AI, et cetera. But we do believe that a lot of engagement, digital ecosystem will have to be rebuilt very, very soon and it will be inclined for competition and those who would like to drive the future will come to us for help as well. So thank you, and talk to you in three months.

This concludes today's conference call. Thank you for participating. You may now disconnect.