TTEC Holdings, Inc. 10-Q

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Executive Summary TTEC Holdings, Inc. (“TTEC”, “the Company”, “we”, “our” or “us”; pronounced “T-TEC”) is a leading global customer experience as a service (“CXaaS”) partner for many of the world’s most iconic and disruptive brands. TTEC designs, builds, orchestrates, and delivers seamless digitally enabled customer experiences that are designed to increase brand value, customer loyalty, revenue, and profitability through personalized, outcome-based interactions. We help clients improve their customer satisfaction while lowering their total cost to serve by combining innovative digital solutions with service capabilities that deliver a frictionless customer experience (“CX”) across different channels and phases of the customer lifecycle. The Company operates and reports its financial results of operation through two business segments: TTEC Digital and TTEC Engage. ● TTEC Digita l is one of the largest pure-play CX technology service providers with expertise in CX strategy, digital consulting, and transformation enabled by proprietary CX applications and technology partnerships. TTEC Digital designs, builds, and operates robust digital experiences for clients and their customers through the contextual integration and orchestration of customer relationship management (“CRM”), data, analytics, CXaaS technology, and intelligent automation to ensure high-quality, scalable CX outcomes. ● TTEC Engage provides the digitally enabled CX managed services to support our clients’ end-to-end customer interaction delivery at scale. The segment delivers omnichannel customer care, tech support, order fulfillment, customer acquisition, growth, and retention services with industry specialization and distinctive CX capabilities for hypergrowth brands. TTEC Engage also delivers digitally enabled back office and industry specific specialty services including artificial intelligence (“AI”) operations, content moderation, and fraud management services. TTEC Digital and TTEC Engage strategically come together under our unified offering, Humanify ® CXaaS, which drives measurable customer results for clients through the delivery of personalized, omnichannel experiences. Our Humanify ® cloud platform provides a fully integrated ecosystem of CX offerings, including messaging, AI, machine learning, robotic process automation, analytics, cybersecurity, CRM, knowledge management, journey orchestration, and traditional voice solutions. Our end-to-end CXaaS platform differentiates us from competitors by combining design, strategic consulting, technology, data analytics, process optimization, system integration, and operational excellence along with our decades of industry know-how. This unified offering is value-oriented, outcome-based and delivered to large enterprises, governments, and hypergrowth companies on a global scale. During 2022, the TTEC global operating platform delivered onshore, nearshore, and offshore services in 20 countries on six continents -- the United States, Australia, Belgium, Brazil, Bulgaria, Canada, Costa Rica, Germany, Greece, India, Ireland, Mexico, the Netherlands, New Zealand, the Philippines, Poland, Singapore, South Africa, Thailand, and the United Kingdom with the help of 62,000 consultants, technologists, and CX professionals. Our revenue for first quarter 2022 was $588.7 million, approximately $113.6 million, or 19% which came from our TTEC Digital segment and $475.1 million, or 81%, which came from our TTEC Engage segment. To improve our competitive position in a rapidly changing market and stay strategically relevant to our clients, we continue to invest in innovation and service offerings for both mainstream and high growth disruptive businesses, diversifying and strengthening our core customer care services with technology-enabled, outcomes-focused services, data analytics, insights and consulting. 24 Table of Contents We also invest to broaden our product and service capabilities, increase our global client base and industry expertise, tailor our geographic footprint to the needs of our clients, and further scale our end-to-end integrated solutions platform. To this end we have been highly acquisitive in the last several years, including in April 2022 the acquisition of certain citizen experience assets of Faneuil, Inc. that include healthcare exchange and transportation services contracts, which will expand our capabilities in the growing public sector market deploying investments to achieve technology-enabled citizen engagement solutions. We also completed an acquisition early in the second quarter of 2021 of a provider of Genesys and Microsoft cloud contact center services, which followed an acquisition in the second half of 2020 of a preferred Amazon Connect cloud contact center service provider. We have extensive expertise in the automotive, communications, financial services, national/federal and state and local government, healthcare, logistics, media and entertainment, e-tail/retail, technology, travel and transportation industries. We serve more than 750 diverse clients globally, including many of the world’s iconic brands, Fortune 1000 companies, government agencies, and disruptive growth companies. Cybersecurity Incident In September 2021, TTEC experienced a ransomware incident that temporarily disrupted the Engage business segment’s client support environment. Certain TTEC systems and data became encrypted and certain TTEC data was exfiltrated or destroyed. TTEC Digital business segment’s information systems and client environment were not involved in the attack. TTEC activated its incident response and business continuity protocols, notified law enforcement, took appropriate measures to restore its systems and was able to restore operations for many impacted clients within hours of the start of the incident, with all client-facing systems returning to operations within five days of the incident. We exercised reasonable efforts to identify data that may have been exfiltrated. We continue to monitor the situation, and we are not currently aware of evidence that exfiltrated data was publicly released. As of the date of this report, data involved in the incident has been analyzed for impact and notice obligations, and we provided appropriate regulatory and individual notices about the incident and its potential impacts. With support from outside forensic experts, TTEC completed its investigation of root causes and impacts of the cybersecurity incident and is working to harden the security of its information technology environment and is taking measures to move to a ‘zero trust’ environment to protect its systems and its data. The Company performed appropriate procedures to validate the accuracy and completeness of information involved in its financial reporting, and we have no indication that the accuracy and completeness of any financial information was impacted as a result of the incident. The temporary operational disruptions that occurred due to this incident did not have a long-term impact on our results of operations. We made additional investments in the hardening of our cybersecurity environment and the operational governance of our information technology systems during the fourth quarter of 2021 and expect to make further investments in 2022. While the total amount of likely investment has not yet been determined, we anticipate that it will be at least $6 million in 2022 and beyond. The incident and any failure or perceived failure by us to comply with applicable privacy laws in connection with this incident could result in government enforcement actions, regulatory investigations, fines, penalties, and private legal actions, which could impact our results of operations and expenses associated with the incident. In the first quarter of 2022, we have been served with certain lawsuits alleging data privacy failures, which are typical when cybersecurity incidents result in data exfiltration. Other actual and potential consequences of the incident may include negative publicity, loss of client trust, reputational damage, litigation, contractual claims, financial judgement or settlements in excess of insurance, and disputes with insurance carriers concerning coverage. See, Part I, Item 1A Risk Factors in our Annual Report on Form 10-K for the year ended December 31, 2021. 25 Table of Contents COVID-19 Pandemic Through the period ended March 31, 2022 the COVID-19 pandemic has not had a material adverse impact on our operational or financial results. While we expect this positive trend to continue only some of our COVID-19 specific surge work has transitioned to more traditional business activities for the same clients, and our clients continue to reposition their work in post-pandemic environment, leveraging new ways of working, and evolving the use of technology, in an inflationary economy with considerable labor pressures. These changes bring more opportunities to the Company, while at the same time temporarily or permanently divert certain business volumes. Based on currently available information, we cannot accurately predict the post-pandemic changes to our clients’ businesses and their effect on the magnitude and timing of our clients’ buying decisions. Further, while to date we have been successful in managing service delivery from a highly disbursed employee population working remotely, certain seasonal weather cycles and their potential impacts on power grid, and internet availability for our employees working from home may impact our delivery capability with little notice, thus potentially impacting our results of operations in the future. Our Integrated Service Offerings and Business Segments We provide strategic value and differentiation through our two business segments: TTEC Digital and TTEC Engage. TTEC Digita l is one of the largest pure-play CX technology service providers with expertise in CX strategy, digital consulting and transformation enabled by proprietary CX applications and technology partnerships. TTEC Digital designs, builds, and operates robust digital experiences for clients and their customers through the contextual integration and orchestration of CRM, data, analytics, CXaaS technology, and intelligent automation to ensure high-quality, scalable CX outcomes. ● Technology Services: Our technology services design, integrate, and operate highly scalable, digital omnichannel technology solutions in the cloud, on premise, or hybrid environment, including journey orchestration, automation and AI, knowledge management, and workforce productivity. ● Professional Services: Our management consulting practices deliver customer experience strategy, analytics, process optimization, and learning and performance services. TTEC Engage provides the digitally enabled CX managed services to support our clients’ end-to-end customer interaction delivery at scale. The segment delivers omnichannel customer care, tech support, order fulfillment, customer acquisition, growth, and retention services with industry specialization and distinctive CX capabilities for hypergrowth brands. TTEC Engage also delivers digitally enabled back office and industry specific specialty services including AI operations, content moderation, and fraud management services. ● Customer Acquisition, Growth, and Retention Services: Our customer growth and acquisition services optimize the buying journeys for acquiring new customers by leveraging technology and analytics to deliver personal experiences that we believe increase the quantity and quality of leads and customers. ● Customer Care, Tech Support, and Order Fulfillment Services: Our customer care, technical support, and order fulfillment services provide turnkey contact center solutions, including digital omnichannel technologies, associate recruiting and training, facilities, and operational expertise to create exceptional customer experiences across all touchpoints. ● Digitally Enabled Back Office and Specialty Services: Our digital AI operations, content moderation, and fraud detection and prevention services provide clients with data tagging and annotation capabilities to train and enable AI platforms, community content moderation, and compliance to meet client content standards, and proactive fraud solutions to assist our clients in the detection and prevention of fraud. Based on our clients’ preference, we provide our services on an integrated cross-business segment and/or on a discrete basis. Additional information with respect to our segments and geographic footprint is included in Part I, Item 1. Financial Statements, Note 3 to the Consolidated Financial Statements. 26 Table of Contents Financial Highlights In the first quarter of 2022, our revenue increased $49.5 million, or 9.2%, to $588.7 million over the same period in 2021 including a decrease of $5.2 million, or 1.0%, due to foreign currency fluctuations. The increase in revenue was comprised of a $50.0 million, or 78.6%, increase for TTEC Digital offset by a decrease of $0.5 million, or 0.1%, for TTEC Engage. Our first quarter 2022 income from operations decreased $25.1 million, or 34.2%, to $48.3 million or 8.2% of revenue, compared to $73.4 million or 13.6% of revenue in the first quarter of 2021. The decrease in operating income is comprised of a number of factors across the segments. The TTEC Digital operating income increased 51.0% due to the acquisition of Avtex and growth in the cloud revenue platform offset by increased amortization of acquisition related intangible assets. The TTEC Engage operating income decreased 39.4% over the same period last year primarily related to the ramp of several new programs, change in revenue mix away from COVID-surge programs, increased sales and marketing expenses and expenses of $3.8 million related to the cybersecurity event from the third quarter of 2021. Income from operations in the first quarter of 2022 and 2021 included $1.7 million and $3.9 million of restructuring charges and asset impairments, respectively. Our offshore customer engagement centers spanning six countries serve clients based in the U.S. and in other countries with 22,800 workstations, representing 63% of our global delivery capability. Revenue for our TTEC Engage segment provided from these offshore locations represented 28% of our revenue for the first quarter of 2022, as compared to 29% of our revenue for the corresponding period in 2021. Our seat utilization is defined as the total number of utilized workstations compared to the total number of available production workstations. As of March 31, 2022, the total production workstations for our TTEC Engage segment was 36,500 and the overall capacity utilization in our centers was 70% versus 64% in the prior year period. While utilization has increased, it continues to be lower than the previous years primarily due to COVID-19 protocols requiring the distancing of employees which has reduced the available seat capacity. Adjusted for social distancing protocols, which reduced the available workstations to approximately 19,800, and accounting for all client paid seats as utilized, whether through actual usage or contractual commitments to hold the seats, current utilization is in excess of 129%. Post COVID-19 we expect our clients to leverage a more diversified geographic footprint and an increased mix of work from home versus brick and mortar seats. We will continue to refine our site strategy and capacity as we finalize plans with our clients and prospects. Some of our clients may be subject to regulatory pressures to serve clients onshore. We plan to continue to selectively retain and grow capacity and expand into new offshore markets, while maintaining appropriate capacity onshore. As we grow our offshore delivery capabilities and our exposure to foreign currency fluctuation increases, we will continue to actively manage this risk via a multi-currency hedging program designed to minimize operating margin volatility. Recently Issued Accounting Pronouncements Refer to Part I, Item I, Financial Statements, Note 1 to the Consolidated Financial Statements for a discussion of recently adopted and issued accounting pronouncements. 27 Table of Contents Critical Accounting Policies and Estimates Management’s Discussion and Analysis of our Financial Condition and Results of Operations is based upon our Consolidated Financial Statements, which have been prepared in accordance with GAAP. The preparation of these financial statements requires us to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenue and expenses as well as the disclosure of contingent assets and liabilities. We regularly review our estimates and assumptions. These estimates and assumptions, which are based upon historical experience and on various other factors believed to be reasonable under the circumstances, form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Reported amounts and disclosures may have been different had management used different estimates and assumptions or if different conditions had occurred in the periods presented. For further information, please refer to the discussion of all critical accounting policies in Note 1 of the Notes to the Consolidated Financial Statements in our Annual Report on Form 10-K for the year ended December 31, 2021. Results of Operations Three months ended March 31, 2022 compared to three months ended March 31, 2021 The tables included in the following sections are presented to facilitate an understanding of Management’s Discussion and Analysis of Financial Condition and Results of Operations and present certain information by segment for the three months ended March 31, 2022 and 2021 (amounts in thousands). All inter-company transactions between the reported segments for the periods presented have been eliminated. TTEC Digital ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ Three Months Ended March 31, ​ ​ ​ ​ ​ ​ ​ 2022 2021 $ Change % Change ​ Revenue ​ $ 113,583 ​ $ 63,587 ​ $ 49,996 78.6 % ​ Operating Income ​ 6,347 ​ 4,202 ​ 2,145 51.0 % ​ Operating Margin ​ 5.6 % 6.6 % ​ ​ ​ ​ ​ ​ ​ The increase in revenue for the TTEC Digital segment was driven by the acquisition of Avtex and increases in the cloud platform and the systems integration practice. The operating income increase is primarily attributable to the increase in revenue offset by additional amortization of acquisition related intangible assets. Operating income as a percentage of revenue decreased to 5.6% in the first quarter of 2022 as compared to 6.6% in the prior period. Included in operating income was amortization expense related to acquired intangibles of $6.3 million and $1.2 million for the quarters ended March 31, 2022 and 2021, respectively. TTEC Engage ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ Three Months Ended March 31, ​ ​ ​ ​ ​ ​ ​ 2022 2021 $ Change % Change ​ Revenue ​ $ 475,143 ​ $ 475,632 ​ $ (489) (0.1) % ​ Operating Income ​ 41,963 ​ 69,222 ​ (27,259) (39.4) % ​ Operating Margin ​ 8.8 % 14.6 % ​ ​ ​ ​ ​ ​ ​ The slight decrease in revenue for the TTEC Engage segment was due to a net increase of $38.5 million in client programs, offset by a decrease for program completions of $34.1 million and a $4.9 million decrease due to foreign currency fluctuations,. The operating income decreased primarily due to the ramp of several new programs, change in revenue mix away from COVID-surge programs, increased sales and marketing expenses, and expenses of $3.8 million related to the cybersecurity event from the third quarter of 2021. As a result, operating income as a percentage of revenue decreased to 8.8% in the first quarter of 2022 as compared to 14.6% in the prior period. Included in operating income was amortization expense related to acquired intangibles of $3.2 million and $3.3 million for the quarters ended March 31, 2022 and 2021, respectively. 28 Table of Contents Interest Income (Expense) For the three months ended March 31, 2022 interest income was $0.2 million and $0.2 million in the same period in 2021. Interest expense increased to $3.8 million during 2022 from $1.8 million during 2021 due to higher utilization of the line of credit and higher interest rates. Other Income (Expense) For the three months ended March 31, 2022 Other income (expense), net increased to net income of $1.3 million from net expense of $0.8 million during the prior year quarter. Included in the three months ended March 31, 2021 was a $0.9 million expense related to the fair value adjustment of contingent consideration for two acquisitions (see Part I. Item 1. Financial Statements, Note 7 to the Consolidated Financial Statements). Income Taxes The effective tax rate for the three months ended March 31, 2022 was 17.6%. This compares to an effective tax rate of 22.5% for the comparable period of 2021. The effective tax rate for the three months ended March 31, 2022 was influenced by earnings in international jurisdictions currently under an income tax holiday, the distribution of income between the U.S. and international tax jurisdictions and the associated U.S. tax impacts of foreign earnings. Without a $1.5 million benefit related to equity compensation, a $2.5 million benefit related to the amortization of purchased intangibles, a $1.3 million benefit related to changes in valuation allowances, $0.8 million of expense related to other items, a $0.4 million benefit related to restructuring, and a $1.0 million benefit related to the cybersecurity event from the third quarter of 2021,the Company’s normalized tax rate for the first quarter of 2022 was 21.5%. Liquidity and Capital Resources Our principal sources of liquidity are our cash generated from operations, our cash and cash equivalents, and borrowings under our Credit Facility. During the three months ended March 31, 2022, we generated positive operating cash flows of $13.7 million. We believe that our cash generated from operations, existing cash and cash equivalents, and available credit will be sufficient to meet expected operating and capital expenditure requirements for the next 12 months, however, if our access to capital is restricted or our borrowing costs increase, our operations and financial condition could be adversely impacted. We manage a centralized global treasury function in the United States with a focus on safeguarding and optimizing the use of our global cash and cash equivalents. Our cash is held in the U.S. in U.S. dollars, and outside of the U.S. in U.S. dollars and foreign currencies. We expect to use our cash to fund working capital, global operations, dividends, acquisitions, and other strategic activities. While there are no assurances, we believe our global cash is well protected given our cash management practices, banking partners and utilization of diversified bank deposit accounts and other high quality investments. We have global operations that expose us to foreign currency exchange rate fluctuations that may positively or negatively impact our liquidity. We are also exposed to higher interest rates associated with our variable rate debt. To mitigate these risks, we enter into foreign exchange forward and option contracts through our cash flow hedging program. Please refer to Part I. Item 3. Quantitative and Qualitative Disclosures About Market Risk, Foreign Currency Risk, for further discussion. In early April 2021, we drew down approximately $500 million of the availability on the Credit Facility in order to provide funding for the acquisition of Avtex Solutions, Holdings LLC. Although we expect that current cash and cash equivalent balances and cash flows that are generated from operations will be sufficient to meet our domestic and international working capital needs and other capital and liquidity requirements for at least the next 12 months, if our access to capital is restricted or our borrowing costs increase, our operations and financial condition could be adversely impacted. The following discussion highlights our cash flow activities during the three months ended March 31, 2022 and 2021. 29 Table of Contents Cash and Cash Equivalents We consider all liquid investments purchased within 90 days of their original maturity to be cash equivalents. Our cash and cash equivalents totaled $156.8 million and $158.2 million as of March 31, 2022 and December 31, 2021, respectively. We diversify the holdings of such cash and cash equivalents considering the financial condition and stability of the counterparty institutions. We reinvest our cash flows to grow our client base, expand our infrastructure, for investment in research and development, for strategic acquisitions and to pay dividends. Cash Flows from Operating Activities For the three months ended March 31, 2022 and 2021, net cash flows provided by operating activities was $13.7 million and $69.8 million, respectively. The decrease is primarily due to a $16.4 million increase in net cash income from operations offset by a $39.7 million reduction in net working capital. Cash Flows from Investing Activities For the three months ended March 31, 2022 and 2021, net cash flows used in investing activities was $16.7 million and $11.8 million, respectively. The increase was due to a $5.1 million increase in capital expenditures. Cash Flows from Financing Activities For the three months ended March 31, 2022 and 2021, net cash flows used in financing activities was $3.8 million and $54.2 million, respectively. The change in net cash flows from 2021 to 2022 was primarily due to a $58.0 million net increase in the line of credit, and a $2.4 million increase in tax payments related to restricted stock units offset by a $9.6 million increase in payments of contingent consideration. Free Cash Flow Free cash flow (see “Presentation of Non-GAAP Measurements” below for the definition of free cash flow) decreased for the three months ended March 31, 2022 compared to the three months ended March 31, 2021 primarily due to an increase in net cash from operations offset by a decrease in working capital and higher capital expenditures. Free cash flow was $(3.0) million and $58.2 million for the three months ended March 31, 2022 and 2021, respectively. Presentation of Non-GAAP Measurements Free Cash Flow Free cash flow is a non-GAAP liquidity measurement. We believe that free cash flow is useful to our investors because it measures, during a given period, the amount of cash generated that is available for debt obligations and investments other than purchases of property, plant and equipment. Free cash flow is not a measure determined by GAAP and should not be considered a substitute for “income from operations,” “net income,” “net cash provided by operating activities,” or any other measure determined in accordance with GAAP. We believe this non-GAAP liquidity measure is useful, in addition to the most directly comparable GAAP measure of “net cash provided by operating activities,” because free cash flow includes investments in operational assets. Free cash flow does not represent residual cash available for discretionary expenditures, since it includes cash required for debt service. Free cash flow also includes cash that may be necessary for acquisitions, investments and other needs that may arise. The following table reconciles net cash provided by operating activities to free cash flow for our consolidated results (in thousands): ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ ​ Three Months Ended March 31, ​ 2022 2021 ​ Net cash provided by operating activities ​ ​ $ 13,686 ​ $ 69,787 ​ Less: Purchases of property, plant and equipment ​ ​ 16,691 ​ 11,565 ​ Free cash flow ​ ​ $ (3,005) ​ $ 58,222 ​ ​ 30 Table of Contents Obligations and Future Capital Requirements There were no material changes to the Company’s contractual obligations and future capital requirements outside the normal course of business from the date of our 2021 Form 10-K filing on March 3, 2022 through the filing of this report. Future Capital Requirements We expect total capital expenditures in 2022 to be between 2.9% and 3.1% of revenue. Approximately 65% of these expected capital expenditures are to support growth in our business and 35% relate to the maintenance for existing assets. The anticipated level of 2022 capital expenditures is primarily driven by new client contracts and the corresponding requirements for additional customer engagement center capacity as well as enhancements to our technological infrastructure. The amount of capital required over the next 12 months will depend on our levels of investment in infrastructure necessary to maintain, upgrade or replace existing assets. Our working capital and capital expenditure requirements could also increase materially in the event of acquisitions or joint ventures, among other factors. These factors could require that we raise additional capital through future debt or equity financing. We can provide no assurance that we will be able to raise additional capital upon commercially reasonable terms acceptable to us. Client Concentration During the three months ended March 31, 2022, one of our clients represented more than 10% of our total revenue. Our five largest clients, collectively, accounted for 37.0% and 41.8% of our consolidated revenue for the three months ended March 31, 2022 and 2021, respectively. We have had long-term relationships with our top five TTEC Engage clients, ranging from 16 to 22 years, with all of these clients having completed multiple contract renewals with us. The relative contribution of any single client to consolidated earnings is not always proportional to the relative revenue contribution on a consolidated basis and varies greatly based upon specific contract terms. In addition, clients may adjust business volumes served by us based on their business requirements. We believe the risk of this concentration is mitigated, in part, by the long-term contracts we have with our largest clients. Although certain client contracts may be terminated for convenience by either party, we believe this risk is mitigated, in part, by the service level disruptions and transition/migration costs that would arise for our clients if they terminated our contract for convenience. Some contracts with our five largest clients expire between 2022 and 2023, but most of our largest clients have multiple contracts with us with different expiration dates for different lines of work. We have historically renewed most of our contracts with our largest clients, but there can be no assurance that future contracts will be renewed or, if renewed, will be on terms as favorable as the existing contracts.