Gartner, Inc. (NYSE:IT) Q1 2023 Earnings Call Transcript May 2, 2023

Gartner, Inc. beats earnings expectations. Reported EPS is $2.88, expectations were $2.

David Cohen: Good morning, everyone. Welcome to Gartner’s First Quarter 2023 Earnings Call. I’m David Cohen, SVP of Investor Relations. [Operator Instructions] After comments by Gene Hall, Gartner’s Chief Executive Officer; and Craig Safian, Gartner’s Chief Financial Officer there will be a question-and-answer session. Please be advised that today’s conference is being recorded. This call will include a discussion of first quarter 2023 financial results and Gartner’s outlook for 2023 as disclosed in today’s earnings release and earnings supplement both posted to our site investor.gartner.com. On the call, unless stated otherwise, all references to EBITDA are for adjusted EBITDA, with the adjustments as described in our earnings release and subsequent.

Our contract values and associated growth rates we discuss are based on 2023 foreign exchange rates and exclude contributions related to the recent divestiture and the Russia exits. All growth rates in Gene’s comments are FX neutral, unless stated otherwise. All references to share counts are for fully diluted weighted average share counts unless stated otherwise. Reconciliations for all non-GAAP numbers we use are available in the Investor Relations section of the gartner.com website. As set forth in more detail in today’s earnings release, certain statements made on this call may constitute forward-looking statements. Forward-looking statements can vary materially from actual results and are subject to number of risks and uncertainties, including those contained in the company’s 2022 annual report on Form 10-K and quarterly reports on Form 10-Q as well as in other filings with the SEC.

I encourage all of you to review the risk factors listed in these documents. Now I will turn the call over to Gartner’s Chief Executive Officer, Gene Hall.

Gene Hall: Good morning. And thanks for joining us today. Gartner drove strong performance in the first quarter with double-digit growth in contract value, revenue, EBITDA and EPS. The rate of change and uncertainty in the world continues to accelerate. The tech sector is adjusting to post-pandemic demand. The banking industry is grappling with rising interest rates. Many industries have been impacted by rising inflation and more. Enterprise leaders and their teams need actionable objective guidance. Gartner is the best source for the insights, tools and advice that makes the difference between success and failure for these leaders and enterprises they serve. We continue to be agile with the changing times. We’re helping our clients make better decisions and achieve their mission-critical priorities, whether they’re thriving, struggling or anywhere in between.

Research continues to be our largest and the most profitable segment. We guide leaders across all major enterprise functions. Our market opportunity is vast across all sectors, sizes and geographies. And we’re delivering more value than ever. In the first quarter, we helped clients in a range of traffic, including cybersecurity, data analytics, artificial intelligence, remote work, cost optimization and more. Research revenue grew 9%. Total contract value growth was 10%. Contract value growth was affected by slower than average growth with our technology vendor clients. This also affected the non-subscription portion of our research business. End user contract value for both GTS and GBS continue to grow at strong double-digit rates. We serve executives and their teams through two distinct sales channels.

Global Technology Sales, or GTS, serves leaders and their teams within IT. GTS also serves leaders and technology vendors, including CEOs and product managers. GTS contract value grew 9%. Global Business Sales, or GBS, serves leaders and their teams beyond IT. This includes HR, supply chain, finance, marketing, sales, legal and more. GBS contract value grew 16%. Through relentless execution of proven practices, we’re able to deliver unparalleled value to our clients. Clients continue to prioritize Gartner Research. Our business remains resilient despite a volatile and complicated external environment. Gartner Conferences deliver extraordinarily valuable insights to engaged and qualified audience. This will be the first full year of in-person conferences since 2019.

We’re off to a great start. Attention is strong, advanced bookings are at record levels, and feedback continues to be excellent. Gartner Consulting is an extension of Gartner Research. Consulting helps clients execute their most strategic initiatives through deeper, extended, project-based work. Consulting is an important complement to our IT Research business. Consulting revenue grew 14% in the first quarter. Our business is fueled by our highly talented associates. We have carefully aligned our hiring with recent demand and our long-term opportunity. We are well positioned to drive long-term, sustained double-digit growth. We finished Q1 ahead of our expectations despite volatility in the global environment. We’re increasing our outlook for 2023, while still allowing for a higher-than-normal level of uncertainty in the world.

Craig will take you through our guidance in more detail. In closing, Gartner achieved another strong quarter of growth. We deliver unparalleled value to enterprise leaders and their teams across every major function whether they are thriving, struggling or anywhere in between. We’re exceptionally agile and continuously adapt to the changing world, and we know the right things to do to be successful in any environment. Looking ahead, we are well positioned to continue our sustained record of success far into the future. We expect margins to increase modestly over time. And we generate significant free cash flow well in excess of net income. Even as we invest for future growth, we’ll return significant levels of excess capital to our shareholders, which reduces shares outstanding and increases returns over time.

With that, I’ll hand the call over to our Chief Financial Officer, Craig Safian.

Craig Safian: Thank you, Gene. And good morning. First quarter results were strong with double-digit growth in contract value, revenue, EBITDA and adjusted EPS. FX-neutral growth was even stronger than our reported results. We also again delivered better-than-planned EBITDA margins. The upside reflected stronger Conferences and Consulting revenue and disciplined cost management. With results ahead of our expectations, we are increasing our 2023 guidance. First quarter revenue was $1.4 billion, up 12% year-over-year as reported and 14% FX neutral. In addition, total contribution margin was 69%, down 103 basis points versus the prior year. EBITDA was $379 million, up 15% year-over-year and up 19% FX neutral. Adjusted EPS was $2.88 up 24%.

And free cash flow in the quarter was $144 million. We finished the quarter with 19,830 associates, up 15% from the prior year and 2% from the end of the fourth quarter. We are well positioned from a talent perspective with low levels of open territories and our new associates coming up the ten-year curve. And we will continue to carefully calibrate headcount and operating expenses based on near-term revenue growth and opportunities to invest for the future. Research revenue in the first quarter grew 7% year-over-year as reported and 9% on an FX-neutral basis. Subscription revenue grew 11%, FX neutral. First quarter research contribution margin was 74%, down about one point as we have caught up on hiring and return to the new expected levels of travel.

Contract value or CV was $4.5 billion at the end of the first quarter, up 10% versus the prior year. The first quarter last year was one of our strongest research quarters ever with outstanding performance on nearly every metric we provide. CV growth is FX neutral and excludes both Russia and the recent divestiture. CV from enterprise function leaders across GTS and GBS grew at double-digit rates. CV from tech vendors grew mid-single digits compared to high teens growth in the first quarter of 2022. Quarterly net contract value increase, or NCVI, was $26 million. As we’ve discussed in the past, there is notable seasonality in this metric. CV growth was broad-based across practices, industry sectors, company sizes and geographic regions. Across our combined practices, all industry sectors grew at double-digit rates other than technology and media, which both grew at mid-single-digit rates.

The fastest growth was in the transportation, retail and public sectors. We had high single-digit growth across all of our enterprise size categories. We also drove double-digit or high single-digit growth in all of our top ten countries. Global Technology Sales contract value was $3.5 billion at the end of the first quarter, up 9% versus the prior year. GTS had quarterly NCVI of $10 million. While retention for GTS was 104% for the quarter, which compares to 107% in the prior year when we saw a record high for this metric. While tech vendor wallet retention remained under pressure, on a net basis, our clients spend more with us compared to the prior year. GTS new business was down 1% versus last year. New business with IT function leaders increased compared to the prior year against the tough compare.

New business with tech vendors declined versus very strong performance last year. GTS quota-bearing headcount was up 22% year-over-year and 11% on a 2-year compound annual growth rate basis. We will continue to manage hiring based on both short-term performance and the medium-term opportunity. Our regular full set of GTS metrics can be found in the appendix of our earnings supplement. Global Business Sales contract value was $983 million at the end of the first quarter, up 16% year-over-year, which is at the high end of our medium-term outlook of 12% to 16%. All of our GBS practices other than sales and marketing grew at double-digit rates. Supply chain and HR both continued to grow faster than 20%. GBS CV increased $16 million from the fourth quarter.

While retention for GBS was 110% for the quarter, which compares to 115% in the prior year when we saw the highest end result for this metric. In addition to continued strong client retention, our clients spent significantly more with us than they did a year ago. GBS new business was down 4% compared to last year against a very strong compare. The two-year compound annual growth rate for new business was 6%. GBS quota-bearing headcount was up 18% year-over-year. This excludes headcount associated with the Q1 divestiture. As with GTS, our regular full set of GBS metrics can be found in the appendix of our earnings supplement. Conferences revenue for the first quarter was $65 million, ahead of our expectations as we saw strong performance with both exhibitors and attendees.

The first quarter is always a seasonally small quarter, but we are off to a strong start for the year. Contribution margin in the quarter was 41%, consistent with typical seasonality. We held ten destination conferences in the quarter, all in-person. First quarter Consulting revenues increased by 10% year-over-year to $127 million. On an FX-neutral basis, revenues were up 14%. Consulting contribution margin was 40% in the first quarter, consistent with the incremental hiring and return to travel. Labor-based revenues were $97 million, up 1% versus Q1 of last year and up 5% on an FX neutral basis. Backlog at March 31 was $161 million, increasing 14% year-over-year on an FX-neutral basis with continued booking stream. Our Contract Optimization business had another very strong quarter, up 53% as reported and 56% on an FX-neutral basis versus the prior year.

As we have detailed in the past, this part of the Consulting segment is highly variable. Consolidated cost of services increased 15% year-over-year in the first quarter as reported and 17% on an FX-neutral basis. The biggest driver of the increase was higher headcount to support our continued strong growth. We also saw an increase in cost year-over-year with a return to in-person conferences. SG&A increased 6% year-over-year in the first quarter as reported and 9% on an FX-neutral basis. SG&A increased in the quarter as a result of headcount growth. The increase was partially offset by lower charges associated with real estate rationalization. EBITDA for the first quarter was $379 million, up 15% year-over-year on a reported basis and up 19% FX neutral.

First quarter EBITDA upside to our guidance reflected revenue exceeding our expectations in Conferences and Consulting and prudent expense planning. Depreciation in the quarter of $24 million was up modestly compared to 2022. Net interest expense, excluding deferred financing costs in the quarter was $26 million, down $4 million versus the first quarter of 2022, resulting from higher interest income on our cash balances. The modest floating rate debt we have is fully hedged through maturity. The Q1 adjusted tax rate, which we use for the calculation of adjusted net income, was 18% for the quarter. The tax rate for the items used to adjust that income was 35% for the quarter. Adjusted EPS in Q1 was $2.88, up 24% year-over-year. We had 80 million shares outstanding in the first quarter.

This is a reduction of close to three million shares or about 3% year-over-year. We exited the first quarter with about 80 million shares on an unweighted basis. Operating cash flow for the quarter was $165 million, down 2% compared to last year. CapEx for the quarter was $21 million, up 22% year-over-year as a result of an increase in technology modernization investments and equipment for new associates. Free cash flow for the quarter was $144 million. Free cash flow as a percent of revenue on a rolling four-quarter basis was 18% of revenue and 65% of EBITDA. Adjusted for the after-tax impact of the divestiture and interest rate swap gains, free cash flow conversion from GAAP net income was 120%. Our free cash flow conversion is generally higher when CV growth is accelerating.

At the end of the first quarter, we had $894 million of cash. Our March 31 debt balance was $2.5 billion. Our reported gross debt to trailing 12-month EBITDA was under two times. Our expected free cash flow generation, available revolver and excess cash remaining on the balance sheet provides ample liquidity to deliver on our capital allocation strategy of share repurchases and strategic tuck-in M&A. Our balance sheet is very strong with $1.9 billion of liquidity, low levels of leverage and effectively fixed interest rates. We repurchased more than $100 million of stock during the first quarter. We had about $950 million remaining on our share repurchase authorization at March 31. As we continue to repurchase shares, our capital base will shrink.

This is accretive to earnings per share and combined with growing profits also delivers increasing returns on invested capital over time. We are increasing our full year guidance to reflect the strong Q1 performance, while still allowing for a higher-than-normal level of uncertainty in the world. As we move through the year, we have more visibility into the revenue outlook and the corresponding expenses needed to support the business and drive growth. For research, we continue to innovate and provide a very compelling value proposition for clients and prospects. Our plans for 2023 allows for a higher-than-normal range of outcomes as we discussed last quarter. We’ve got tough compares across the business and particularly with tech vendors and in GBS for another quarter or two.

We’ve taken a prudent approach based on historical trends, which we’ve reflected in the guidance. We expect stronger growth from the subscription business than the non-subscription part of the segment. The non-subscription part of the business faces tough compares and has more direct exposure to tech vendor spending. The outlook continues to be based on 100% of our 47 destination conferences for 2023 running in person. There is seasonality to the business based on the conferences calendar, which is different than the historical matter. We expect Q4 to be the largest quarter and Q3 to be the smallest of the year. For Consulting revenues, we have more visibility into the second quarter than the second half based on the composition of our backlog and pipeline as usual.

Contract optimization remains highly variable. We had a very strong year in 2022, especially in contract optimization in the fourth quarter. With Q1 behind us, we are comfortable we can run the business successfully for this year, while investing for future growth with lower consolidated expenses than we built into the original guidance. We will continue both to manage expense prudently to support future growth and deliver strong margins. Our updated guidance for 2023 is as follows: We expect research revenue of at least $4.925 billion, which is FX-neutral growth of about 7% or 8% excluding the Q1 divestiture. Research revenue guidance is up modestly from February. We expect Conferences revenue of at least $470 million, which is growth of about 21%.

We have increased our outlook for Conferences by $25 million. We expect Consulting revenue of at least $505 million, which is a growth of about 5% FX neutral and a modest increase from February. The result is an outlook for consolidated revenue of at least $5.90 billion, which is FX-neutral growth of 8%. Overall, we’ve increased our revenue outlook by $35 million. As I mentioned in the last quarter, we’ve taken a prudent approach to planning for 2023. This applies to revenue, operating expenses and free cash flow. We now expect full year EBITDA of at least $1.33 billion, up $70 million from our prior guidance and an increase in our margin outlook as well. We expect to be able to deliver on our margin guidance in most economic scenarios.

If revenue is stronger than our outlook, we expect upside to EBITDA. We now expect 2023 adjusted EPS of at least $9.50. For 2023, we still expect free cash flow of at least $920 million. This reflects the conversion from GAAP net income of almost 140% excluding the after-tax divestiture proceeds. Our guidance is based on 80 million fully diluted weighted average shares outstanding, which reflects the repurchases made through the end of March. Finally, for the second quarter of 2023, we expect EBITDA of at least $350 million. We had a strong start to the year despite continuing global macro uncertainty with notable performance in Conferences and overall profitability. Contract value grew double digits. EPS grew more than 20%. We repurchased over $100 million of stock during the first quarter and remain committed to returning excess capital to our shareholders.

Combining our expected free cash flow generation with the after-tax proceeds of our recent divestiture, we have more than $1 billion available to deploy on behalf of our shareholders in 2023. Looking out over the medium term, our financial model and expectations are unchanged. With 12% to 16% research CV growth, we will deliver double-digit revenue growth. With gross margin expansion, sales costs growing in line with CV over time and G&A leverage, we can modestly expand margins. We can grow free cash flow at least as fast as EBITDA because of our modest CapEx needs and the benefits of our clients paying us upfront. And we’ll continue to deploy our capital on share repurchases, which lower the share count over time and on strategic value-enhancing tuck-in M&A.

With that, I’ll turn the call back over to the operator, and we’ll be happy to take your questions. Operator?

Q&A Session

Operator: Thank you. [Operator Instructions] Our first question comes from Jeffrey Meuler from Baird. Your line is open.

Operator: One moment for our next question. We have a question from Heather Balsky from Bank of America. Your line is open.

Operator: Thank you. One moment. We have a question from Toni Kaplan with Morgan Stanley. Your line is open.

Operator: Thank you. And our next question will come from Seth Weber with Wells Fargo. Your line is open.

Operator: Thank you. [Operator Instructions] Andrew Nicholas from William Blair. Your line is open.

Operator: Thank you. Our next question comes from George Tong with Goldman Sachs. Your line is open.

Operator: Thank you. Our next question comes from Jeff Silber with BMO Capital Markets. Your line is open.

Operator: Thank you. Our next question comes from Manav Patnaik with Barclays. Your line is open.

Operator: Thank you. One moment. We have a question from Stephanie Moore with Jefferies. Your line is open. Stephanie, your line is open.

Operator: Thank you. And there are no other questions in the queue. I’d like to turn it back to Gene Hall for closing remarks.

Gene Hall: Well, here’s what I’d like you to take away from today’s call. In the first quarter of 2023, we again saw strong growth across the business. Gartner delivers incredible value of enterprises that are thriving, struggling or anywhere in between. Our insights address today’s mission-critical priorities. And by being exceptionally agile and adapting to the changing world, we’ve delivered a sustained record of success. We’ve covered around and aligned our hiring with recent demand and our long-term opportunity. We know the right things to do to be successful in any environment. Looking ahead, we are well positioned to drive growth far into the future. We expect margins to increase modestly over time, and we generate significant free cash flow well in excess of net income.

Even as we invest in future growth, we’ll return significant levels of excess capital to our shareholders, which reduces shares outstanding and increases returns over time. Thanks for joining us today, and we look forward to updating you again next quarter.

Operator: This concludes today’s conference call. Thank you for participating. You may now disconnect.