EPAM Systems Inc (EPAM) — Q2 2023 Earnings Call Transcript

Thank you, Operator. Good morning, everyone. By now you should have received your copy of the earnings release for the company’s second-quarter 2023 results. If you have not, the 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 measures and are available in our quarterly earnings materials located in the Investors section of our website. With that said, I will now turn the call over to Ark.

Thank you, David, and good morning, everyone. Before I get into the results of our second quarter, I would like to spend a few minutes on the mid-quarter update we provided in June. As I said in my prepared remarks, the broader concerns over the economy led to a shift in demand dynamics for our sector. So we found the shift has been much more pronounced due to the geopolitical impact on our delivery centers and our focus on the build and digital product engineering segments of the market, which represents about 80%, or 85%, of our engagement in the first quarter. This was especially evident in the technology vertical, which continues to be impacted by the pull-back in spending after years of strong investments in digital and product development efforts, while being spread broader across other industry segments as well. Over the last quarters, we have also seen this impact in some of our largest clients, as they have held back on direct spending from new build programs due to the economic conditions and caution in their businesses. This factor has contributed to a high percentage of our shortfall over the first half of 2023. Now I will switch to Q3 and the rest of 2023. While we are starting to see a few encouraging signs, we will share more on that in a minute. Today, I would state that, while we do understand that this is a difficult period for us and for those in our sector more broadly, based on insight from the past several years and past quarters especially, we are turning that experience into a pragmatic action plan, which we will be applying to our business throughout the remainder of this year and further into the future and consider this time an opportunity for transforming ourselves. Some of our current plans and actions are focusing on making real-time adjustments to our savings, go-to-market plan, customer engagement programs, and global delivery talent platform stabilization. These key investments help us prepare for a strong rebound. What is also important to note is that our primary focus on digital product and data engineering services combined with digital consulting, agency design, content, and digital marketing services is a real win-win. In other words, the primary services and market segments which allowed us to double the company in the previous three years are staying intact, while we continue to refine our capabilities in line with global market demands. Our point is simple: the entire IT sector is undergoing what we believe is an evolution of the services market, moving from core IT to digitalization, even more broadly and with significant acceleration. And we consider new digitally nascent businesses faster to reinvent entire models and ways of working. The promise of generative AI capabilities empowerment should also be seen as core. We have been at the forefront of similar trends before, and once again, we are looking to position EPAM as a center of the new wave of transformative services. We fully expect as a result to be reinforced and further driven exactly by our traditionally strong product platform engineering, data analytics, and machine-learning capabilities, now in combination with what generative AI promises. So our thesis has been and continues to be that our core services profile will benefit in the medium to longer term from EPAM's higher concentration on cloud data and engineering. We will capitalize strongly on our core capabilities once the general situation in our segment rebounds. The AI impact will become even more real in terms of complexity for future applications and platforms, encompassing not just currently available elements of generative AI and a very visible need for trust, reliability, and security management of AI but also by close integration with new classes of composite and adaptive AI platforms, as well as foundational models in specific industry cloud platforms. In short, we are optimistic about the transformative opportunities to the core application stack coming from AI-led transformation, which is also well illustrated by our latest announcements. That is one of the key areas of our investments. The second critical part is further diversification and stabilization of our global delivery platform, including the allocation of our talent more optimally across the world, while at the same time enabling our strong engineering quality standards across all EPAM locations. This rebalancing effort will be performed over the next three to four quarters to drive higher levels of gross margin performance. Our other plans and actions today are focused on immediate demand generation and new logo acquisitions. During the first half of 2023, and specifically in Q2, we drove new logo activity at higher levels compared to 2021 and 2022. We see this as a positive sign of our return to demand. We should accelerate the recovery and allow us to return to growth as soon as the current client base stabilizes. A few examples of our new Q2 clients include one of the world’s leading B2B travel platforms, a large European-based multi-national resilient marketplace organizing the trading of shares and other securities, a multi-billion dollar molecular diagnostic company specializing in the detection of early-stage cancers, a leading global insurance provider of financial protection, absence management, and supplemental sales benefits solutions, and global infrastructure services companies in the energy space. In these new programs, we are starting to include a more diverse stack of our capabilities from consulting to different types of implementation efforts. Some of these clients we expect will support our next growth journey. In addition, we also see some programs with existing clients who have started ramping up. Recently, Canadian Tire announced a seven-year strategic partnership with Microsoft to accelerate their modernization and drive retail innovation across their Canadian markets. Leveraging our decade-long relationship with Canadian Tire, EPAM will be a trusted and proven engineering partner and digital system integrator to lead there. There are signs indeed that the overall demand environment is returning to more normal terms for us. We will likely be able to share more next quarter on how strong those signs are going to be. But in any case, it also confirms that EPAM continues to remain very relevant and competitive, even in the current market of low demand for the build function, which is a good entry point to share some of our go-to-market progress, especially in relationship with hyperscalers. In June, we announced a global strategic partnership with Google Cloud across our global markets, focusing on specific efforts in our larger verticals, including financial services, consumer, and entertainment, healthcare, life sciences, energy, and hi-tech to help our customers modernize and transform their businesses. We are also encouraged and energized by the momentum we are seeing with our other major cloud partners, Microsoft and AWS. More to come on this direction very soon. But just as a preview, you might have seen that we were recently named Microsoft’s Great Partner of the Year for 2023, along with a couple of other notable recognitions with the Microsoft Partner Network. Overall, we made very strong progress in establishing a real 360-degree relationship with all three major players and plan to be sharing more over the course of the next few weeks publicly. Two final points. First, I just want to reiterate our view that there is a tremendous amount of work to be done in continued modernization, application development, integration, and considering and designing the models and strategies for business change. Our commitment to our expanding capabilities and engineering consulting can now work to create a next-generation agency that will help us compete and win in a new demand climate once customers gain confidence in observing optimization initiatives and returning to growth. Second, I wanted to touch on AI once more, as it is obviously on everyone’s mind these days. So how do we see its impact on our business and, more critically, on our customers and the industry at large? And of course, what are we doing to position EPAM for long-term success? EPAM has a long history of investing in R&D, and our call to action over the years has been to make the promises of technology real. Rather than sharing any specific dollar amount we plan to spend on AI, which is very difficult to estimate with the current speed of change, we can instead share how we are thinking about directional investments today. Currently, we pick investments with two principles in mind: whatever we do has to be pragmatic and relevant to EPAM in terms of deliverability for our clients; and second, it has to be responsible and cost-effective. This translates to two broad categories of things we are working on, and you have probably already seen some of this being announced. We are building accelerators in IT that help orchestrate full transformation programs using the best available capabilities of large language models and related toolsets. A significant portion of this work is focused on changing how we ourselves operate, from how we build growth to how we position and run our company. We are working across thousands of use cases to focus first on responsible, and importantly, cost-effective solutions because, otherwise, future real progress will be difficult. To achieve this, we are focused on expanding our partnerships, including with cloud providers and leading research centers to ensure those critical aspects while also focusing internally across consulting and experience in technology to address that. The reality is that the production-ready AI services application landscape is still very much at the entry stage of maturity today. While we see a very large and accelerating opportunity for us, specifically in our primary market segment, we are currently engaging in all types of activities to learn and experiment more, from proof-of-concepts to real-scale pilots and some scaled production initiatives. Just like advancements in our cloud capabilities over a decade ago drove demand for advanced engineering, next-generation architecture, and hybrid delivery models, we are confident that this wave of AI-led requirements will drive more demand for advanced data engineering in cloud computing, content creation, and artificial intelligence-native applications, as well as new UX and UI paradigms. Our clients, who themselves comprise a significant segment of technology companies and technology-led enterprises, are in the mindset of entering an arms race, which we believe will be a real engine for future growth. Some of that we are already starting to see within our demand pipeline. With that, I would like to pass it to Jason to share more details and numbers for Q2 and an update for our business outlook for the remainder of 2023.

Thank you, Ark, and good morning, everyone. Before covering our Q2 results, I wanted to remind you that, in addition to our customary non-GAAP adjustments, expenditures resulting from Russia’s invasion of Ukraine, including EPAM’s humanitarian commitment to Ukraine, business continuity resources, and accelerated employee relocations have been excluded from non-GAAP financial results. We have included additional disclosures specific to these and other related items in our Q2 earnings release. In the second quarter, EPAM generated revenue of $1.17 billion, a year-over-year decrease of 2.1% on a reported basis and a decrease of 2.4% in constant currency terms, reflecting a favorable foreign exchange impact of 30 basis points. Revenue in the quarter was impacted by reductions in program spending across several of our clients, as well as ongoing client caution related to new project starts. The reduction in Russian customer revenues resulting from our decision to exit the market had a 100-basis-point negative impact on year-over-year revenue growth. Excluding the Russian revenues, year-over-year revenue for reported and constant currency would have decreased by 1.1% and 1.7%, respectively. Beginning with our industry verticals. On a year-over-year basis, travel and consumer declined 1%, primarily due to declines in retail, partially offset by solid growth in travel and hospitality. Financial services grew 3.2%, with growth coming from asset management and insurance services. Business information and media decreased 4.1% in the quarter. Revenue in the quarter was impacted by a reduction in spending at a number of large clients based on uncertainty in their end markets, particularly in the mortgage data space. Software and Hi-tech contracted 10.3%. The decline in the quarter reflected a reduction in revenue from the former top 20 customer we mentioned during our previous earnings call and generally slower growth in revenue across a range of customers in the vertical. Life Sciences and Healthcare declined 10.9%. Revenue in the quarter was impacted by the ramp down of a large transformational program mentioned during our previous earnings calls. On a sequential basis, growth in Life Sciences and Healthcare actually was a positive 2.9%, driven by new work at both existing and new logos. Finally, our emerging verticals delivered solid growth of 8.6%, driven by clients in the energy, manufacturing, and automotive sectors. From a geographic perspective, Americas, our largest region representing 58% of Q2 revenues, declined 5.9% year-over-year or 5.7% in constant currency. The growth rate in the quarter was impacted in part by the ramp down of life sciences and healthcare customers we mentioned during our previous earnings call. EMEA, representing 39% of our Q2 revenues, grew 8.5% year-over-year or 6.5% in constant currency. CEE represented 1% of our Q2 revenues, contracting 61.1% year-over-year or 45.8% in constant currency. Revenue in the quarter was impacted by our decision to exit our Russian operations and the resulting ramp-down in services to Russian customers. Lastly, APAC declined 19.7% year-over-year or 18.6% in constant currency terms and now represents 2% of our revenues. Revenue in the quarter was impacted primarily by the ramp-down of work within our financial services vertical. In Q2, revenues from our top 20 customers declined 2.4% year-over-year, while revenues from clients outside our top 20 declined 1.9%. Moving down the income statement, our GAAP gross margin for the quarter was 30.9%, compared to 29.2% in Q2 of last year. Non-GAAP gross margin for the quarter was 32.6%, compared to 31.5% for the same quarter last year. Gross margin in Q2 2023 reflects a lower level of variable compensation expense, partially offset by the negative impact of lower utilization. GAAP SG&A was 16.7% of revenue, compared to 19.5% in Q2 of last year. SG&A in Q2 2022 included a more significant level of expenses resulting from Russia’s invasion of Ukraine. Non-GAAP SG&A in Q2 2023 came in at 14.8% of revenue, compared to 15.2% in the same period last year. Reductions in both cost of revenue and SG&A during the quarter reflect the company’s ongoing focus on managing its cost base, as well as reduced variable compensation expense due to the lower level of financial performance expected for the year. In Q2, EPAM incurred $5 million in severance-related expenses included in both GAAP and non-GAAP SG&A, as the company works to better align its cost structure with the current demand environment. GAAP income from operations was $144 million or 12.3% of revenue in the quarter, compared to $93 million or 7.8% of revenue in Q2 of last year. Non-GAAP income from operations was $191 million or 16.3% of revenue in the quarter, compared to $177 million or 14.9% of revenue in Q2 of last year. Our GAAP effective tax rate for the quarter came in at 20%. Non-GAAP effective tax rate was 23.3%. Diluted earnings per share on a GAAP basis was $2.03. Our non-GAAP diluted EPS was $2.64, reflecting a $0.26 increase compared to the same quarter in 2022. In Q2, there were approximately 59.2 million diluted shares outstanding. Turning to our cash flow and balance sheet, cash flow from operations for Q2 was $89 million, compared to $78 million in the same quarter of 2022. Free cash flow was $82 million, compared to free cash flow of $59 million in the same quarter last year. At the end of Q2, DSO was 71 days, compared to 69 days for Q1 2023 and 71 days for the same quarter last year. Looking ahead, we expect DSO will remain steady throughout 2023. Share repurchases in the second quarter were approximately 195,000 shares for $41.4 million at an average price of $212.77 per share. As of June 30th, we had approximately $450 million of share repurchase authority remaining. We ended the quarter with approximately $1.8 billion in cash and cash equivalents. Moving on to a few operational metrics, we ended Q2 with more than 49,350 consultants, designers, engineers, trainers, and architects. Production headcount declined 10% compared to Q2 2022, as a result of lower levels of hiring, combined with voluntary and involuntary attrition as we continue to balance supply and demand. Our total headcount for the quarter was more than 55,600 employees. Utilization was 75.1%, compared to 78% in Q2 of last year and 74.9% in Q1 2023. Now let’s turn to our business outlook. As Ark mentioned, we have seen a higher level of new logo acquisitions and revenue from our focused efforts on demand generation. While this progress is encouraging, the level of revenue generated is not enough to offset further expected reductions in client budgets, ramp-downs, and delays in new program starts. With the range of outcomes we outlined on our June 5th call, we are maintaining our expectations for a muted demand environment, with a sequential decline in Q3 and further sequential or flat revenue growth in Q4. Our Ukrainian delivery organization continues to operate efficiently, and our teams remain highly focused on maintaining uninterrupted production. Our guidance assumes that we will continue to be able to deliver from Ukraine at productivity levels at or somewhat lower than those achieved in 2022. Consistent with previous cycles, we will continue to thoughtfully calibrate our expense levels while investing in our capabilities and focusing on the preservation of our talent in preparation for a return to higher levels of demand. We expect headcount will continue to decline modestly in Q3 due to limited hiring and more typical attrition, and we will continue to limit hiring until we see improving demand. We expect utilization to decline slightly in the second half of the year, primarily driven by a higher level of expected vacations. Lastly, at the end of July, we completed the sale of our Russian business, which will result in a decline in Russian revenues from Q2 to Q3. But we will also recognize an estimated loss on sale of $18.4 million, which will impact our Q3 and full-year GAAP results. Additionally, this will drive a further modest reduction in headcount. Moving on to our full-year outlook, we now expect revenue to be in the range of $4.65 billion to $4.70 billion, reflecting a year-over-year decline of approximately 3%. On an organic constant currency basis, excluding the impact of the exit in Russia, we expect revenue decline to also be approximately 3%, both at the midpoint of the range. We expect GAAP income from operations to now be in the range of 10.5% to 11.5%, which includes the loss associated with the sale of our Russian business. The non-GAAP income from operations is expected to continue to be in the range of 15% to 16%. We expect our GAAP effective tax rate to continue to be approximately 22%. Our non-GAAP effective tax rate, which excludes excess tax benefits related to stock-based compensation, is expected to continue to be 23%. For earnings per share, we expect that GAAP diluted EPS will now be in the range of $7 to $7.20 for the full year, and non-GAAP diluted EPS will now be in the range of $9.90 to $10.10 for the full year. We now expect a weighted average share count of 59.1 million fully diluted shares outstanding. Moving to our Q3 2023 outlook, we expect revenues to be in the range of $1.14 billion to $1.15 billion, producing a year-over-year decline of 6% to 7%. On an organic constant currency basis, excluding the impact of the exit in Russia, we expect revenue to decline by 8.5% to 9.5%. For the third quarter, we expect GAAP income from operations to be in the range of 10% to 11%, and non-GAAP income from operations to be in the range of 15.5% to 16.5%. We expect our GAAP effective tax rate to be approximately 24%, and our non-GAAP effective tax rate, which excludes excess tax benefits related to stock-based compensation, to be approximately 23%. For earnings per share, we expect GAAP diluted EPS to be in the range of $1.62 to $1.70 for the quarter and non-GAAP diluted EPS to be in the range of $2.52 to $2.60 for the quarter. We expect a weighted average share count of 59.1 million diluted shares outstanding. Finally, a few key assumptions that support our GAAP to non-GAAP measurements in the third quarter and the remainder of the year. Stock-based compensation expense is expected to be approximately $39 million for each of the remaining quarters. Amortization of intangibles is expected to be approximately $5.5 million for each of the remaining quarters. The impact of foreign exchange is expected to be a $1.5 million gain for each of the remaining quarters. Tax effect of non-GAAP adjustments is expected to be around $11.7 million for Q3 and $9.3 million for Q4. We expect excess tax benefits to be around $2.7 million for Q3 and $1.8 million for Q4. In addition to these customer GAAP to non-GAAP adjustments and consistent with prior quarters in 2023, we expect to have ongoing non-GAAP adjustments in 2023 resulting from the Russian invasion of Ukraine. Please see our Q2 earnings release for a detailed reconciliation of our GAAP to non-GAAP guidance. Finally, one more assumption outside of our GAAP to non-GAAP items. With our significant cash position, we are now generating a healthy level of interest income and are now expecting interest and other income to be $11.7 million for each of the remaining quarters. Lastly, I’d like to thank our employees for their continued dedication and focus on our customers.

Hi. Good morning, guys. Thank you. I wanted to just kick off with large client visibility, and I guess, existing base stability. Can you talk about the conversations you are having among your top 10 or top 20 clients? Are you getting closer to stability in this space? And I am curious, just as we look at the implied sequential decline in Q3 and perhaps Q4, just trying to understand the attribution to the decline among the large clients still in that base versus the intake of new work coming in at lower dollar levels versus like conversion delays and slower ramps of work?

Hello. Good morning. I think visibility or predictability is probably better than it was a couple of quarters ago, so we can plan better. But there is still a slowdown which started a couple of quarters ago, and we are working with it. There are also some asynchronous points between clients when they were making some decisions. So, there are elements of unknown still there. But again, in general, we feel it is much more stable. We also see in the top 20 that some clients are starting to return in discussions about growth. Again, it’s difficult to comment when exactly it happened. But we see some signs that they tried some additional vendors and were not satisfied, then they come back to us with discussions. So, I think in general, the feeling about Ukraine, despite situations that are deliberately more active, is still from the client perspective optimistic, but there remain unknowns and some slowdown going a little bit. So we hope that it will start to normalize in the next couple of quarters.

Okay. And a follow-up just on the workforce diversification. Can you give us a sense of how the current operating footprint is comprised as of the close of the June quarter, just roughly a mix between billable in Ukraine, Belarus, Central Europe, LatAm, and APAC? Thanks.

Yeah. So we are under 30% from a CIS region, so that’s primarily, as you indicated, Ukraine and Belarus. We are continuing to see maybe a little bit of growth in India, so that continues to be a significant delivery location for us. And right now, while we are working through demand, we see some stabilization in Latin America, but again, this continues to be a significant part of our expected current and future delivery footprint.

Hi. Good morning, Ark and Jason. This is Tyler DuPont on for Jason. Thanks for taking the question. I just wanted to start by asking about operating margins. During the quarter, they have seen some pretty strong figures, 130 basis points greater than the top end of the guidance range. Can you just spend a minute or two parsing out what led to that outperformance and sort of how you are thinking about margins through the back half of the year, where there are any sort of incremental investment opportunities available, or any color there?

Yeah. So, clearly, with the demand environment we are seeing, we are trying to ensure that we are cautious about spending while still making certain that we are making investments in sales channels, partner programs, and clearly, our AI capabilities that would allow us to return to significant growth in the future. But we are focused clearly on SG&A, and you are seeing efficiency there. Also, there is some caution around what we are doing with headcount, and generally, what you are seeing is it's a little bit of tuning in different delivery locations and lower hiring, very modest hiring, which is then offset by attrition, resulting in these net reductions in headcount. The other piece, which we discussed in the script, is there is a variable compensation element that’s funded by performance versus our expectations for the full year. With the change in expectations for the full year, we adjusted the expected expense related to variable compensation. That shows up as some benefit in Q2, and we will have a lesser, but some benefit in the remainder of the year. We were just slightly ahead from a revenue standpoint with the $1.170 billion in Q2. From a profitability standpoint, generally, Q3 is a good quarter for us with more bill days. However, I expect you are still going to see somewhat lower utilization in Q3, meaning we are probably not expecting much improvement, or possibly even a little bit of decline, in the range of the 15.5% to 16.5% that we have guided to for Q3. I think gross margins could end up in a 32% to 33% range in Q3 with lower bill days in Q4 that may be somewhat lower, and I would definitely expect to see a decline in profitability between Q3 and Q4 due to a lower number of bill days, vacations, and all of that, which generally impacts profitability in the last quarter of the year.

Okay. Great. I appreciate that, Jason. Thanks. And for my follow-up, I just wanted to double-click on the demand story here as we look towards the back half of the year, specifically your expectations on the evolution of the demand environment across your total client base. The balance between if you are assuming macro stability or any sort of additional softness in any of the verticals or geographies you are operating in. I know Bryan sort of alluded to the sequential declines and the last question in regard to 3Q and potentially 4Q. So just sort of any clarity there helping us frame the demand environment would be appreciated?

I will provide the current forecast numbers for Q3, and then Ark can offer additional insights. Sequentially, due to some budget cuts from major customers, we expect to see ongoing declines across many of our sectors. However, there is potential for sequential growth in emerging sectors, particularly in energy manufacturing. We also anticipate continued growth in healthcare and life sciences, where we are gaining good momentum this fiscal year. That's the outlook from my perspective. Additionally, there may still be some impact from customer spending reductions in Q2. As Ark mentioned, we are hopeful that clients are starting to stabilize their spending and we might see some increases later this year.

Yeah. I think that’s right with what I shared at the beginning of the first question. It’s still soft. It’s still unpredictable. It’s still slightly going down. At the same time, we see different conversations starting to happen. There are more activities with new logos, which we shared during the call, and also from existing clients, different sorts of conversations that we saw a couple of months or quarters ago. Again, it’s still difficult to predict, and we are reacting and forecasting based on what we observe right now.

Thank you. Good morning. I would like to follow up on a couple of the questions that have been asked. My first question relates to customer dynamics and their desire to diversify risk geographically. If things stabilize from here, when can we expect the sequential revenue headwinds to begin to lessen?

Yes. We expect a sequential decline from Q2 to Q3. It’s uncertain when the sequential trend will stabilize. From Q3 to Q4, we need to consider the impact of billing days, and an improvement in demand will be necessary to maintain flat revenue levels from Q3 to Q4. We believe this might be achievable as mentioned in our guidance, or there could be some growth from Q3 to Q4. However, it is important to note that we are facing challenges moving from Q3 to Q4 due to fewer billing days.

I think earlier what I commented, in June when we last talked, and in May when we clearly felt that the situation was worse than we expected before, we said that we are thinking about two quarters, three quarters, or even four quarters. And I think that’s the feeling we still have today because it’s very difficult to predict. So I do believe that within this timeframe, we will probably reach a situation when sequential quarterly growth will start to increase. But we can assess this quarter-after-quarter. We definitely see a slowdown; we are seeing different signs from clients. But again, with some clients making decisions, they have an inertia that will take some time. The entire market will change significantly, and less satisfaction with some matters will not be as high. Some of this is starting to feel like a good opportunity for us, but I don't think we can say anything more definitive than two, maybe three quarters from now, or even four quarters down the line.

Got it. All right. Thanks. I appreciate that. And then just back to your own internal efforts to geographically diversify. Are there some high-level dashboard items that you can share that would provide insight into recruiting yield utilization, attrition? Anything that would give us a sense of how these new geographies are ramping?

You are asking about what we feel about our progress with diversifying our global delivery, right?

Correct.

I think we are actually pretty satisfied with the progress. Our efforts in India and Latin America are starting to pay out. India is now our second largest location, which was part of the lab we started in May 2022. Currently, Ukraine and Belarus production together account for about 25% to 26% of our total capacity. Meanwhile, Latin America is expected to be closer to 18% to 20% by the end of the year. The quality and effort we are putting in there are definitely improving. We also have specific programs to share knowledge between our team members for training and ramping up. We remain very committed to Ukraine as we believe there will be growth there, although we don’t know exactly when. But we are likely aligned with the sequential growth we are expecting in the next two to four quarters. Additionally, we are also looking at new growth opportunities in Central and Western Asia, which presents a strong demographic for growth due to the events of the last 18 months. More traditional locations like Central Eastern Europe, primarily within the EU, are also strengthening as they provide high-quality engineering talent. Clients are becoming more comfortable there, and in a good demand environment, there is always a very high demand there.

Hi. Thank you. Just to follow-up on that last question and your last comment there, Ark, around the margins. Can you give us a little bit of a preliminary thought on what all of this might mean for gross margins into 2024, when we might see things kind of start to pick up and to what magnitude?

Yeah. I think I will step in. We are probably not quite ready to talk about 2024 in terms of specifics or even ranges. But as Ark explained, as we moved into different delivery locations, we did so quickly. In some cases, we probably created a little more balance in the higher cost geographies, including traditional on-site markets. We would look to kind of rebalance that, somewhat. As we have talked about over the last couple of quarters, as we move into new geographies, we ended up standing up delivery quicker, and we find ourselves with somewhat more senior delivery organizations and delivery pyramids. We are working to begin introducing more junior members later in the year that would give us a more balanced pyramid, improving margins. Combined with utilization improvement, these are the things we are looking to do to stabilize and improve gross margins over time.

Okay. Thank you. And then on the new logo additions, it was good to hear the progress on that this quarter. Can you talk a little bit about the ability to keep the sales force intact during all this transformation and then any patterns that you are seeing on those new logos in terms of the time it’s taking for them to convert to revenue?

So, regarding new logos and new business, our sales force is working positively at the moment. After a few turbulent quarters where we had to manage staffing and organizational changes, we are now focusing on external opportunities. The emphasis is on driving incremental growth through our account teams, sales force, and executive leadership.

Hi. Good morning. Thanks for taking my question. I wanted to follow-up with your mention of tighter integrations and partnerships with the hyperscalers. Can you talk about the strategy, how these relationships might act or expand your capabilities or your addressable market, and then also just comment on whether this is part of positioning EPAM for growth once the demand environment picks up again?

Yeah. I think it’s a dynamic situation in general due to market changes compared to a year ago. We are discussing much closer relationships from both points of view. We definitely, like everyone else, are focusing on clients’ perspectives where hyperscalers can open additional doors, and all competitors are doing the same. It’s nothing new. On the other side, the partners need to become stronger because migration to the cloud is becoming less appealing; more complex modernization efforts are needed, and this is where EPAM's strengths come into play. That’s why our partnerships with hyperscalers are becoming increasingly important, not only for us but for them as well, as EPAM has the reputation to handle complex innovation, which our recent acknowledgment as Microsoft’s Partner of the Year in that category confirms. Our enhanced partnerships, specifically due to our ability to deliver complexity, are excellent preparation for rebound because when demand returns, everything that hasn’t been finished, which is quite a bit across all categories, particularly cloud and data modernization, will add significant pressure on demand for data engineering because of AI components. So, these hyperscaler relationships are going to be critical.

All right. Thank you. And a follow-up for me. Can you contrast the demand environment in Europe versus North America? It looks like the growth rates are different in those geographies, although admittedly, they don’t necessarily have not tabulated the constant currency number. But is it a different environment you are seeing in different geographies or is it very similar trends across the business regardless of geography?

Yeah. So, certainly, some of what happened in Europe is due to foreign exchange effects. However, what we are seeing is that some of the larger budget reductions and conservatism are actually showing up more distinctly in North American clients. Think about the couple of clients we discussed in healthcare and tech; those were both North American clients. We have observed fewer reductions in spending in Europe. At the same time, we have been able to gain traction on the consumer and retail side in Europe. So, yes, a bit of divergence exists, but we will see how the remainder of the year shapes out.

Hey. Thanks. Good morning. A couple of follow-ups here. So do you confirm that you are actually getting the same bill rates as those from some of the other delivery centers, including India, as you have been getting in Eastern Europe? Are we talking about comparable billability?

What we usually talk about is an environment where potentially you can get higher bill rates with new engagements. That’s less likely to occur in today’s demand environment. And generally, Moshe, if you are trying to assess what happens as you deliver more out of India, it does have somewhat lower price points than Eastern Europe, but it may not be significantly different from a few of the geographies in Southwest or Western Asia. However, we generally have lower price points than Central Europe.

Okay. So would you say that the new logos that are coming on board are more dilutive to margins compared to what you were accustomed to, or is there any way to mitigate that?

Yes. You can have different bill rates in different geographies and still have the same margin percentage. We have different cost structures depending on various factors: cost of benefits, and so on. Lower price or higher price doesn't necessarily equate to a lower or higher margin. Again, yes, we can mitigate, and I do not expect that new business is being attained at extraordinarily high margins. We are indeed sharpening our pricing approach while being appropriate.

All right. That makes sense. And lastly, I remember visiting your center in Hyderabad; you have significant capacity to expand there. Can you talk a bit about your future plans in terms of how important India will be for onboarding new logos and accelerating growth down the road?

India remains a critical part of our future. However, I want to emphasize that the current market environment is quite different compared to what it was 18 months or two years ago. The rate structure for everyone, not only us, differs for new deals. The future demand for complexity in builds is what will drive market corrections in the sector. Currently, new deals coming in today face very different conditions compared to two years ago. We still have five development centers in India, with Hyderabad being the largest, but two others are growing strongly, along with recent expansions in Punjab and Chennai. These sites are definitely part of our broader vision for our balanced global delivery network.

Hi. Thanks for taking my question. I also wanted to ask about demand. Do you expect clients to spend on CapEx investments to modernize or re-platform their core systems sometime this year, maybe in Q4, or is that type of work something that could come through on their next year’s budget, meaning it might not come until next year?

It's difficult to say right now. Some clients might make unexpected decisions in Q4 that could drive spending, but we will have to wait and see.

Got it. And are you seeing pricing pressure on a like-to-like basis?

Pricing pressure on a like-for-like basis is definitely something we are experiencing. Clients are particularly cost-sensitive, which is reflected in pricing. As I mentioned earlier, traditionally, in certain newer engagements, it has been an opportunity to improve pricing, but that’s less the case this fiscal year.

Got it. Thank you.

Hi. Thanks for taking my question. I wanted to ask you about your new clients. Are they coming from specific industries and geographies or can you provide some color on the nature of the work with your new clients?

At this time, some industries, such as oil and gas, are in great shape, but that's more of an exception. Most new clients we see fall into two categories: those who are trying to use this period as an opportunity to invest for a competitive edge, and those looking to build relationships with stronger vendors for future needs. We anticipate that demand for talent will remain strong when the market rebounds, driven by technical debt and uncompleted projects triggered by all movements, particularly around generative AI in operations.

I know that typically when you start relationships, they begin small and ramp up over time. Is that dynamic also the case with these new clients?

There are a few examples we provided across different vendors. Some are significant, and we mentioned they might drive our growth in upcoming years. Others are more framework contracts that just started and are anticipated to bring results closer to the end of the year or beginning of next year. Some involve specific programs, small but interesting from a technology standpoint, showing a variety. Improved trends would suggest market changes.

Perfect. And just last question from me. I wanted to ask about Belarus. Can you share some sort of headcount trends and utilization in Belarus, and are you also seeing any pushback regarding your exposure there?

With Ukraine, clients who remain with Ukraine are much more comfortable right now, and we see some of them coming back. This demonstrates that nothing detrimental has occurred in our delivery quality or production activities over the last 18 months, providing clients with comfort. Yes, it is a new normal, and Belarus has seen a slowdown. We still have clients operating there, but some are exiting, meaning headcount in Belarus is decreasing slightly faster than other areas.

Thank you. Thank you, everybody. I think we will update you in three months. But in general, while we face unpredictability, we feel a little bit more stable and predictable than the quarter ago. Thank you very much and talk to you in three months.