Atento S.A.
Q1 2016 Earnings Call Transcript

Published: 12 May 2016

[Operator:]

Greetings, and welcome to the Atento First Quarter 2016 Earnings Conference Call. At this time, all participants are in a listen-only mode. A question and answer session will follow the formal presentation. [Operator Instructions] I would now like to turn the conference over to your host, Lynn Tyson, Vice President of Investor Relations. Thank you. You may now begin.

[Lynn Tyson:]

Thank you, and welcome to our fiscal 2016 first quarter earnings call. Before proceeding, let me mention that certain comments made on this call will contain financial information that has been prepared under International Financial Reporting Standards. This financial information is unaudited. In addition, this call may contain announcements that constitute forward-looking statements which are not guarantees of future performance and involve risks and uncertainties. Certain results may differ materially from those in the forward-looking statements as a result of various factors. We encourage you to review our publicly available disclosure documents filed with the relevant securities regulators, and we invite you to read the complete disclosure included in the second page of our earnings presentation. Our public filings and earnings presentation can be found at Investors.atento.com. Please note that unless noted otherwise all growth rates are on a year-over-year and constant currency basis. Our presenters today are Alejandro Reynal, Atento's Chief Executive Officer, and Mauricio Montilha, Atento's Chief Financial Officer. Alejandro will begin with a brief review of our strategy and highlights from the quarter, after which Mauricio will review our results in more detail. Afterwards we'll open the call for questions, and following the Q&A Alejandro will have a few closing remarks. I'll now turn the call over to Alejandro.

[Alejandro Reynal:]

Thank you very much, Lynn. Welcome, everybody, to our call. Please turn to Page 5 of the presentation. Let me first start off by saying that we are very pleased with our performance in the first quarter. In the face of the challenging growth environment, particularly in Brazil, where high single digit inflation and declines in GDP have caused broad macroeconomic pressures, we successfully executed on our strategy to drive profitable growth and extend our leadership position in the $10.4 billion Latin America CRM BPO market. We once again acquired new business, grew share of wallet in existing clients and increased our penetration of higher value added solutions. We achieved this by executing against a focused set of priorities to ensure long-term value creation which includes first, driving the optimal balance of growth, profitability, and liquidity, second, making targeted investments to deliver even greater value to our clients; and third, further strengthening our balance sheet. During the first quarter, we made measurable progress against each of these priorities. Starting with growth, consolidated revenue was up 2.5%, with revenue outside Brazil up 9.7%. Targeted investments we've made to enhance our capabilities, diversify our revenue, and generate more balanced growth yielded solid results in this quarter. Revenue in the Americas increased 16%, supported by broad based country and sector gains, including strong gains in financial services driven by new client wins and an increasing penetration of higher value added solutions with existing clients. The solid performance helped to drive our mix of non Brazil revenue up to 56.5%, an improvement of 380 basis points over last year. Revenue from clients other than Telefonica grew 6.1%, lifting their mix of revenue to 56.2% in the quarter, up 100 basis points. This growth was driven by new client wins and gains in share of wallet in Brazil in several sectors, as well as by the strong results we experienced in Americas. Turning to profitability, adjusted EBITDA grew 5.6% with margins of 11.6%, supported by our disciplined approach to growth and proactive actions to drive a more lean and agile organization. Our focus on capital discipline and strengthening our balance sheet drove a 2.4 million improvement in free cash flow before net interest, supported by an improvement in working capital. And we ended the quarter was an ample liquidity of 206 million and adjusted net debt to EBITDA of 1.9 times. Our balanced results this quarter demonstrate the resiliency of our operating model and our ability to outperform the market regardless of the macroeconomic cycle. In the face of the challenging macroeconomic environment, we will continue to focus on profitable growth. This gives us the confidence to reaffirm our full year targets for this year for revenue growth in the range of 1% to 5% and for adjusted EBITDA margin between 11% and 12%. Both of these targets are on a constant currency basis. Please now turn to Page 6. Now let me touch briefly on progress we made in the quarter in support of the three pillars of our long-term strategy; above market growth, best in class operations, and our people. As the largest provider of CRM BPO services in Latin America, we have the unique ability to leverage our scale and financial strength to selectively broaden our footprints in key verticals and countries and increase our share of wallet with existing clients. The result is a winning operating model that consistently drives above market growth. During the first quarter, we won approximately 2,700 workstations. And consistent with our revenue diversification strategy, roughly 92% of these workstations came from non Telefonica clients. 67% of new workstations came from non telco verticals, particularly in financial services, where we had gains in each region and won business in both new and existing clients. Success in financial services is critical for Atento, since it is the second largest CRM BPO sector in Latin America. We have developed deep expertise in this sector, which is why many of our clients utilize our services in multiple countries across the region. In addition to this, we increased our mix of higher value added services in Brazil and in Americas by 130 basis points and 100 basis points respectively. Our commitment to best in class operations was updated in the quarter and spanned over operations' productivity, HR effectiveness, global procurement, efficient IT, and site optimization. For example, in Brazil we took decisive actions to align cost structure with market realities, including the relocation of sites to lower cost cities. 62% of sites are now in lower cost tier two cities, up 400 basis points from year end 2015 as we continue to make progress towards our target of 75%. Our culture of continuous improvement positions the Company well for improved profitability and cash generation as growth improves. Third party validation of our commitment to best in class was reflected in new customer operations performing center certifications for our customer relationship services in Telefonica in Chile and Repsol in Spain. This is one of the most demanding certifications in the customer relationship services industry. We are one of just a few in the sector to have received this double certification, which is predicated on a high performance, integrated management model with benefits that include improved service quality and end user satisfaction. This brings me to our third pillar inspiring people, which is really the foundation of our success. Most recently Atento has once again been recognized as a socially responsible company in Peru, Argentina, and Mexico. This certificate is awarded to companies for their high standards in working conditions, business ethics, engagement with the community, and environmental protection. We were also ranked number eight in great places to work in Mexico, the only CRM BPO company among the top 10. Our financial and operational achievements, especially in contrast to the challenged macroeconomic environment, demonstrate that our long-term strategy is on track. Please turn to Page 7. Before I turn the call over to Mauricio, let me close with this. We successfully executed against our focused set of priorities, highlighted by an optimal balance of growth, profitability, and liquidity. Our focus on cost and efficiency, resilient business model, strong balance sheet, and improving cash flow provides us with the flexibility to deploy capital where it is valuable in the highest in support of our long-term targets for growth, profitability, and cash returns. And finally we are confident that this year we can once again outperform the market and increase our leadership position in Latin America and continue to be the reference partner for the CRM BPO needs of our clients. Thank you. And now let me turn over to Mauricio.

[Mauricio Montilha:]

Thank you, Alejandro. Let's turn to Slide Number 9. As a reminder, I will be referring to growth rates on a constant currency basis, which we believe is a better representation of our underlying performance, given our exposure to several currencies and geographies. Growth rates are year-over-year unless noted otherwise. We delivered solid results in the first quarter, with revenue growth of 2.5%, as declines in Brazil and EMEA were more than offset by 16% growth in Americas. As Alejandro mentioned, we continued to increase penetration of solutions in Brazil and Americas. However, on a consolidated basis, our mix of high value solutions declined at 120 basis points. This was due to the impact of the FX, the foreign exchange movements, and country mix as Brazil, which has the highest penetration of solutions, was a smaller percentage of our overall mix of revenue in the quarter. Adjusted EBITDA increased 5.6%, with a margin of 11.6%. I want to point out that this year Brazil implemented a more phased approach in the timing of wage increases versus fiscal 2015. Without this timing difference, adjusted EBITDA margin was 10.6%. We do expect this benefit to be offset in the second and third quarters. We have mentioned that the first half of the year will be the toughest comparison for us from a profitability standpoint. This is driven mostly by the shifting country mix due to the material devaluation of the Brazilian real, as well as our ability to offset the double digit inflation through price increases, cost reductions, and efficiency initiatives. Our best in class operations and the restructuring actions are yielding expected benefits. However, we are not completely immune to the protracted adverse macroeconomic pressures in Brazil, its impact on our clients, their customers, as well as the impact on our own cost structure. During the quarter, we invested 11.5 million in restructuring, most of which was related to the proactive alignment of our cost structure with market condition realities, particularly in EMEA and in Brazil. Actions taken in the quarter included adjustments in labor force levels and site closures to accelerate the strategic initiatives to relocate cost centers in Brazil to lower cost sites. We expect this to continue through the second quarter of this year. These proactive actions resulted in a more lean and agile organization, which gives us additional flexibility to invest in higher return opportunities. In addition, these actions improve our operating leverage, which positions us well for the improved profitability and cash flow as growth improves. Turning to EPS, I'll say that adjusted EPS declined 18.8%, driven by increasing net interest expense and depreciation, and a higher share count in the quarter. Please turn to Page 10. Now I'll talk to our segments. In Brazil, revenue declined 5.6%, driven by a 16.5% decline in Telefonica. This decline was expected as Telefonica cut back on certain commercial activity in response to the macro environment. Importantly, revenue from the other clients increased 1.3%, supported by strong growth in most sector clients. This mix of non Telefonica revenue clients continues to increase in Brazil, reaching 65.6% in the quarter, up 450 basis points. Our mix of high value-added solutions increased 130 basis points to 37.8%. And in the quarter, we won business for 1,340 workstations, with 44% of them coming from new clients in Brazil. Adjusted EBITDA increased 4.6%, with a margin of 13.6%. Excluding the timing impact of wage increases, adjusted EBITDA margin was 11.2%. While our motto is resilience and we have taken proactive actions to align our cost structure with the market realities, the sheer dollar amount of inflation that we and our clients face is significant and will continue to impact our margin. On Chart Number 7, Americas delivered a very strong quarter, with revenue up 16% supported by the gain of approximately 1,000 new workstations in the quarter and 100 basis points increase in the mix of value-added solutions. Revenue from clients other than Telefonica increased 17.9%, driven by strong growth across the region from new and existing clients, especially in Mexico, Colombia, and our U.S. near-shore business. The region posted particularly strong gains in telecom and financial services, which were up 15.9% and 22.2% respectively. Revenue from Telefonica increased 14%, supported by double digit growth in Peru and Argentina and single digit growth in Mexico. Adjusted EBITDA increased 23.2% and margin increased 70 basis point to 13.2%, driven by strong growth in revenue and improved operational leverage. On the next Chart Number 12, you can see that EMEA continues to be affected by the competitive telecommunications environment in Spain and declines in public administration. As we get traction with the implementation of new contract wins, we do expect volume trends to improve. Revenue declined 5.4%, driven by 8.9% decreasing revenue from non Telefonica clients, mainly due to the public sector. Revenue from Telefonica declined 3.1%. Adjusted EBITDA declined 32.5%, while adjusted EBITDA margin declined 170 basis points to 4.5% in the quarter. We have taken proactive actions to align our cost structure with anticipated volume levels, and we are driving improvement in costs and efficiency in the coming quarters. Please turn to Chart 13. As we have stated, we have a focused set of priorities to long-term value creation, including driving the optimal balance of growth, profitability, and liquidity, and further strengthening our balance sheet. Cash flow is a critical factor in value creation, as it gives us flexibility to invest in higher return opportunities and strengthen our competitive position. During the quarter, free cash flow before net interest was a negative 26.3 million, in line with the normal seasonality, as typically our cash flow strengthens and becomes positive in the second half of the year. Free cash flow was better by 2.4 million year-over-year, supported by an improvement in working capital, consistent with our emphasis in improving cash conversion. Adjusted for the cash portion of nonrecurring items, free cash flow was better by 9.9 million versus last year. Our balance sheet remains strong, with low leverage, 1.9 times net debt to adjusted EBITDA. We have ample liquidity of $206 million, which includes cash and cash equivalents and also undrawn revolving credit facilities. Total net debt with third parties totaled 448 million. And importantly, as I had mentioned last quarter, our debt ratings have been reaffirmed by rating agents amidst downgrades in the Latin America debt market, both in corporate and sovereign issuers. This validates the resilience of our strategy and financial health. We do get asked frequently about our currency exposure. I want to remind you that we have limited transaction exposure, since 98% of our costs are denominated in the same local currency as associated revenue. In addition to that, our debt is mostly denominated in local currency or hedged against currency fluctuations, which largely insulates us from high volatility scenarios. The Brazilian debentures and BNDES financing are denominated in Brazilian real, and the U.S. denominated balance is hedged into a basket of the local currency of the countries that back that security. Please turn to Chart 14 on Page 14. Before we open the call for Q&A, let me review our guidance for fiscal 2016. We continue to target revenue growth in the 1% to 5% range, reflecting continued commercial momentum across most verticals and in most countries as we renew business, grow our share of wallet to existing clients, and further diversify our client base. Our guidance range also reflects the negative impact of protracted macroeconomic environment in Brazil. Turning to profitability, we are targeting adjusted EBITDA margin in the 11% to 12% range. This range incorporates several factors, including the improved mix of higher value solutions, increased penetration in verticals such as multi sector and financial service, and the benefits of our cost efficiency initiatives. Offsetting this benefit is the impact of country mix as Brazil with the high margin region, becomes a smaller percentage of total revenues, and also inflationary impact. Relative to liquidity, we expect to continue to improve our management of working capital, which will drive an improvement in free cash flow for the year. Nonrecurring items, which are included as add backs in the adjusted EBITDA, are expected to be approximately 15 million in the year. We also expect net interest expenses in the range of 60 million to 65 million, which reflects the impact of 27 million in debt payments scheduled for this year. As you consider the general accounting principle net financing line in our P&L, which is a combination of net interest and FX, it's important for you to remember that our adjusted net income and adjusted EPS exclude the non cash effects of the net foreign exchange gains on financial instruments and net foreign exchange impacts. We exclude this from our adjusted numbers to more clearly show the underlying health and trajectory for our business. We are targeting cash CapEx of approximately 5% of revenue, driven by investment in both growth and maintenance, and an effective tax rate of about 32%. And finally, a fully diluted share count of approximately 73.8 million shares. As you think about the results this year, please consider that we expect seasonality to be more pronounced for several reasons. First, the macro headwinds in Brazil are still quite strong, especially in the first half of this year, driving tough comparisons year-over-year. And second, the full benefit of price increases is typically captured between our second and third quarter in connection with the annual contract reviews. I'm reminding that our guidance assumes no acquisitions or changes in the current operating environment, capital structure, or exchange rate movement on the translation of our financial statement in U.S. dollars. Now, operator, please explain the Q&A process and poll for questions.

[Operator:]

Thank you. [Operator Instructions] Our first question comes from Susana Salaru from Itau BBA. Please go ahead.

[Susana Salaru:]

Our questions more relate to the business dynamics. We are asking that because our macro team is already anticipating a better environment for Brazil in the second half of the year. And so, the question is, are you noticing already a change in the business dynamics and how you're negotiating with the clients? And also, if you could, elaborate on how the inflation pass-through has been going on, and if the payroll tax hike has also been part of the negotiation with clients.

[Alejandro Reynal:]

In terms of the business dynamic, I think still to this date, as over the past few months, it has been challenging, particularly in Brazil. I do agree with the recent potential changes that would create a more attractive business scenario. I think as this stage reality is that, and which is positive, the clients continue to have conversations with us around potential further outsourcing and how we could be helpful in that environment. I have personally been in Brazil several times in the past few months meeting with actually all the banks and also some of our key telco clients and the good thing is that they see in Atento a strong financial partner. They do have a lot of still outsourcing needs or things that perhaps they haven't even outsourced before, and they do consider Atento as the partner of choice. But, reality is that the business dynamic that they face to this day is still challenging. As that changes perhaps the context might improve, and also it would improve for us. But, I would say that in terms of our interaction with them and potential business opportunities and everything else, it remains fairly positive. And if you step outside Brazil and look into our business in the rest of the regions, it is a very positive dynamic. As you saw, we posted a 16% increase in Americas, which shows that we have a very strong client base in the region. To me, the interesting thing is that as you look at Atento we continue to diversify, which is healthy to the business. Right now Brazil weights 44% of the Group revenues. Last year it was close to 50%. So, that introduces a nice diversification into our portfolio. In terms of the pass-through of the inflation and the payroll tax, I think it is -- I wouldn't say that has been easy. I mean, it's been a challenge, because of course in this macroeconomic environment clients do find ways to contain their cost base, and definitely this is one of them. The positive thing is that -- of course, granted that we are still not finished with the pass-through of the inflation because they tend to happen of course first quarter but also second quarter of the year mainly, and some of them in the third quarter of the year. And what we have been able to achieve is, in the discussions with some of our clients, a successful partial pass-through of the inflation. And in the cases that we haven't been able to do so, we have been able to negotiate with them service level conditions, therefore adjusting some of the operational cost to us and therefore, with that, mitigating some of the inflation pass-through cost. But, again, I would say that this year has been particularly tough because of the particular macro environment in Brazil. The payroll tax is same type of effect. Although that is contractually agreed with many clients, we have been able to pass that through. But, again, we have the same type of dynamic where it ends up being a negotiation with the client. And at the end of the day, in many cases we have been able to obtain the pass-through. In some others, we compensate that through operational efficiencies. So, again, I think on this point in particular it has been challenging. But, we have made good progress, and the progress has been a combination of successfully passing part of the inflation but also successfully negotiating some of the operating level conditions in the service contracts.

[Operator:]

Thank you. Our next question comes from Leonardo Olmos from Santander.

[Leo Olmos:]

I have two questions. The first one is regarding wages. Mauricio mentioned the phased approach that led to raises on the first Q. My question is what is the impact on the second Q and maybe for the full year? You said it's going to have some reversion. How much would that be in margins? It could be overall or just Brazil. And then I'll do the second question after the answer.

[Mauricio Montilha:]

As I mentioned, the agreements with unions this year in Brazil was different from last year. Instead of a one shot salary increase in the beginning of the year, actually the salary increase was phased through the year. So, part in Q1, Q2, and Q3 of the year. So, the benefit we are having in Q1 actually will be reverted mostly in Q2 and part in Q3. So, for the year, it's neutral when it compared to last year with the process. But, there is a benefit in Q1 that will be reversed mostly in Q2 and partly in Q3.

[Leo Olmos:]

Thank you. That's very helpful, including it helps my second question that is the guidance. You had a considerable expansion on EBITDA margin on consolidated view. And you still have a guidance that goes, the top EBITDA margin is 12% in the full year. So, wouldn't that be too conservative? What's going to happen in the next quarter that is going to contract so much the margins?

[Mauricio Montilha:]

It's a good question. As we mentioned when we did the guidance, when we talked about Q4 last year, this is the year with a high level -- I would say one of the highest levels of uncertainty in the last couple of years. First we have to pass through a very high level of inflation, plus the sales tax. So, that per se is a big challenge. And as I just mentioned, we are doing it in an environment that our clients are suffering significant pressure on their business. So, the results of this are still uncertain, although Alejandro mentioned we are doing well. All the negotiation started earlier, but it's still uncertain. The other point is the Brazil situation, particularly the macro in Brazil, is still uncertain. Our view is that despite any potential change in the political arena, the real change on the underlying economics of the country will take a little while to recover regardless of what happens in the political side. And so, there is still some unemployment to go up and GDP is likely still to go down. So, we see still a year with very high uncertain outcomes, still a tough year in terms of volume. So, we don't see honestly at this point of the year as too conservative. We definitely are working. And as we said, we are pragmatic, we are taking an approach, we are focused on the cost base, we are improving the delivery, we're keeping the quality levels with our clients. We believe that will help us really to gain -- to be the winners when the situation stabilizes. But, as I said, we see still a lot of uncertainty and still an economic environment that's not positive for the short-term.

[Leo Olmos:]

Okay, great. Thank you.

[Operator:]

[Operator Instructions] Our next question comes from Mauricio Fernandes from Bank of America Merrill Lynch.

[Mauricio Fernandes:]

Hi, Alejandro. Hi, Mauricio. Two questions, please. First, it looks like the first big component of cash consumption this quarter was working capital, by looking at one of the slides. I was wondering if there is anything seasonal or specific on the quarter, and if you could give us some light as to what to expect for the full year. And the second question is could you remind us -- you were talking about a payroll impact, and this has been mostly -- if I understood, correct me if I'm wrong -- mostly passed through to the clients. But, could you remind us what is the dollar amount of the increase that you have been in most cases able to pass through to clients? Thank you.

[Mauricio Montilha:]

Hey, Mauricio, thank you for the question. On the cash flow, you will see that typically in Q1 of every year, if you look backwards in our Q1 results, you see that typically there is a working capital consumption in Q1. It's normal, especially in Latin America, probably less in the U.S. and the other more mature markets, where we employ a lot of people so we have to pay into the salary, or we have a higher payroll tax at the end of the year. And typically in the industry, at the end of the year we anticipate collections. So, that's usually the main reason why there is a negative working capital in Q1. The second point is we don't start new business in Q4 and Q3. Typically we start new business the beginning of the year because the end of year is high season, so typically ramp up, so you have build up of working capital for new business or, say, volume gains. So, what happened is that you see that working capital consumption in Q1 this year was less than last year. And if you remember, last year we started a program really to improve the cash conversion. We had some overdue that increased in Q1 and Q2, and we started improving it Q3 and Q4. And this same trend continues in Q1. So, just talking about the full year, when we provided guidance we said that we expect for the full year to have a significant improvement in our cash flow for the year. That will take us to a neutral cash flow when you exclude the interest. So, we continue to see this projection materializing through the year. So, there is no change. We are on track with our plan in improving working capital management and delivering strong cash flow generation this year compared to last year. On the second question related to the wage increases, the benefit what I mentioned there is a tiny benefit in Q1 on the wage increase in Brazil that was with this phased approach. As I said, it will be consumed in the other quarters as the increase happens. So, we are talking about something around $4 million, if you do the math on the margins that did benefit Q1 but it will be offset in the other quarters. When we have our discussion with our clients to pass inflation to prices, of course we are taking that into account, because this is 70% of the cost is people related. In our contracts, typically we have the right to pass the wage increases to our clients. Usually it's a blended inflation, 70% based on the union agreement and 30% based on general inflation. And this has been taken into account in our negotiations with the clients.

[Mauricio Fernandes:]

Great. Thank you, Mauricio, just one more. I mean, there is the rate the 15 million one off expenses, the difference between basically EBITDA and adjusted EBITDA. And it's concentrated in the first half of the year. I understand that. But, there was 11.5 million in the first quarter, so that should really revert towards much lower one off expenses towards the rest of the year, right?

[Mauricio Montilha:]

Yes, absolutely. When we communicated the last quarter, we took a decision to one of the key elements of those investments is related to anticipation, acceleration of the program to relocate sites to second tier or third tier cities. If we are taking as volumes in Brazil are not that strong and not growing, so we are emptying the sites in the high expensive areas that we planned to close the end of '16 and end of '17. So, we took a decision in December last year. So, that's why we have a high cost, one of the main reasons we have a high investment in this quarter. This program will--and the cost associated to those site closures will continue through Q2. The majority, I would say 90% of the 15 million will be between Q1 and Q2, just a very small piece through the end of the year.

[Operator:]

Thank you. At this time, we have no further questions. I will turn the call back over to Alejandro Reynal for closing comments.

[Alejandro Reynal:]

Thank you, everybody, as always for your interest in Atento. And again, just leaving you with three key takeaways, even in a challenging macro environment, we successfully delivered the optimal balance of growth, profitability, and liquidity in this first quarter of the year. We continue to be very focused on cost and efficiency, Brazilian business models, strong balance sheet, and improving cash flow. All of this provides us with the flexibility to deploy capital where its value is the highest in support of our long-term targets for growth and profitability and cash returns.And I would say that finally we continue to be very confident that we can once again outperform the market and increase our leadership position in Latin America this year, and continue to be the reference partner for our clients in the region for the CRM BPO needs of them.Thanks again, and we do look forward to providing you with an update next quarter. Thank you for the time.

[Operator:]

Thank you. This does conclude today's teleconference. You may disconnect your lines at this time. Thank you for your participation.