CNXC - Concentrix Q3: Ticking The Right Boxes

2023-09-28 13:36:34 ET

Summary

• Concentrix Corporation delivered fiscal Q3 earnings which were roughly in line.
• The announcement of a dividend increase, amid the higher levels of debt and higher interest rates, points to management's confidence.
• The macro environment remains tough, but Concentrix is well positioned for a recovery in the share price.

This is just a brief update following on from my more detailed Concentrix Corporation (CNXC) article published earlier this month, which can be found here .

The company has since delivered results, and I believe the signaling from management was quite positive, and might serve as a catalyst for investors who previously found themselves on the fence.

Summary

Concentrix reported fiscal Q3 results yesterday after hours. After initially looking like the share might be down after hours, the market seems satisfied with the message received from management, and the share is currently 10% in the green (at time of writing).

Earlier this week, they also announced that the Webhelp acquisition has been closed successfully, which also means the share went into earnings with a bit of expectation built in.

Webhelp Update

At their January 2022 analyst day , Concentrix guided to roughly $10 billion in revenue by 2025, of which $8.5 billion would be via organic growth, and $1.5 billion via M&A. They spoke about their view that increased consolidation in the industry would lead to a few large players ($10 billion+ in revenue) with the scale and expertise to serve global customers on a global scale. This acquisition has swiftly moved them to the top of the pile in the CX industry.

Post the acquisition, Concentrix is now sitting with total debt of about $5.2 billion, and a net debt/EBITDA level of about 3x. They have been clear about their intent to get this back to roughly 2x within the next 2 years, and given the high levels of free cash flow ("FCF") produced in this business, I see no reason to doubt their internal estimates that they should be able to achieve this. Even at current levels, they still maintain an investment grade profile.

Earnings Update

Both revenues and operating margins grew in the region of 3% YoY . Operational effectiveness was fairly solid, with operating margins (GAAP and Adjusted) roughly in line with the same quarter a year ago. (plus or minus a few basis points)

A quick glance at the bottom line of the Income Statement might at first look concerning, given the YoY decline of 27% in GAAP net income, and the subsequent drop of 27% YoY in GAAP EPS. This was in large part due to once-off acquisition and financing costs for the above mentioned acquisition. A smaller detractor was the higher interest charge due to higher rates, which was expected.

Improvements in their working capital schedule also drove strong FCF generation which increased by 32% YoY. During the earnings call , the CFO expressed his belief that they will be able to maintain this improved effectiveness.

Aside from the quarterly performance and update on the Webhelp acquisition, management also announced the approval of a 10% dividend increase , and a resumption of the share buyback program. Looking past the scale of these, given that they are not all that large, I believe the sentiment and signaling behind these actions are telling, and gives great insight into management's confidence of their pipeline and cash generating ability going forward.

Normally, after a sizeable acquisition, one would expect the focus to be on reducing leverage. Concentrix indicated that while they are absolutely focused on this, they also feel comfortable raising the dividend and restarting small buybacks.

The below extracts from the earnings call also speak to management's confidence.

On potential cross selling opportunities:

With our combination with Webhelp now complete, we are already seeing client demand for our expanded offerings.

On increasing the dividend:

Given our continued organic growth, strong free cash flow generation and the accretive Webhelp combination, we are pleased to raise the quarterly dividend by 10%."

On financial strength and capital allocation:

This increase to our quarterly dividend reflects our financial strength, our confidence in the future and our commitment to disciplined capital deployment."

While the positive signaling regarding cross-selling and confidence in reducing debt levels is not unexpected, I do believe the sentiment from increasing the dividend is a very positive sign from Concentrix.

Outlook

Guidance for the combined entity in FY23 was provided, as there will only be about 2 months of contribution from Webhelp. However, management indicated that they will only be providing FY24 guidance at the next quarterly (and FY23) results. This makes sense, as they should by that time have a much better idea of the integration timeliness and opportunities for the combined enterprise.

The global macro environment is also finely balanced at the moment, with sentiment taking some strain and numerous indicators pointing to a tougher macro climate ahead - this will, of course, have knock-on effects on corporate spending and potential project pushouts etc. Delaying FY24 guidance thus also gives management a chance to be as accurate as possible in their guidance.

Conclusion

While there is a long way to go before Concentrix Corporation reaches anything near what I would consider to be fair value, the first steps in the right direction have been taken. The market will likely want to see some more evidence that less of the business is under threat from generative AI than what was initially feared.

Once these fears are eased, the Concentrix Corporation share price should be well set for a strong recovery, which could be supercharged if the adoption of GenAI does indeed prove to be a tailwind to margins, as management has suggested, and as has been the case when previous technology inflections were adopted.

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