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SQS Management Elaborates on H1 2013 Results

SQS management has recently elaborated on its recent H1 2013 performance. Revenues were €108m up 4.9% y/y and up ~5.9% (NelsonHall estimate) organic. Adj. EBIT margin was 4.6% up 50 bps y/y.

Activities per Service Line

Managed Services (MS) revenues were up 24% to €42m (39% of total SQS revenues). Growth continues, but at a decelerating pace (H1 2011: +247%, H2 2011: +89%; H1 2012: +89%: H2 2012: +58%), as revenues of MS grow.

MS bookings were up 61% to ~€49m and SQS expects to beat its 2012 order intake record of €101m. Contract extensions are driving multi-year contract bookings. Management reports that in a number of client situations, it is typically one of two to five preferred testing vendors, and is favorably viewed for the quality of its work, therefore being awarded new discrete contracts e.g. expanded scope in terms of new applications or new client subsidiary and wining market share. The company points to a large German bank to which it was awarded a €15m contract in 2009. Over the time, the contract has grown to a TCV of ~€50m.

SQS remains confident of growing MS and now wants to have MS represent 50% of SQS revenues by 2015, up from its previous target of 40%. It is still reports a market characterized by new scope opportunities, as opposed to an existing scope contract renewal market.

Meanwhile, growth in SQS’ professional revenues was flat overall. Specialist Consultancy Services (SCS) were down 4.8% while Regular Testing Services (RTS) were flat (+0.3%). SCS revenues were impacted by two MS clients asking SQS to provide SAP and core banking testing services. MS rather than looking to hire experts externally sourced them from SCS in H1. The impact of such work should be minimal in H2 and SQS sees the H1 event as a positive sign of clients asking for additional services, expanding from their initial contract scope. SQS points to the fact that the temporary of a dozen of personnel from SCS has a quick impact, given SCS’ headcount of ~250.

Meanwhile, SQS has achieved a significant cleanup of its RTS contracts, lowering its number of clients by ~40, exiting low-margin low-volume business and increasing overall revenues of major clients by 15%. SQS believes it has completed its initial contract clean up but is to maintain its attention on an on-going basis. SQS intends to reduce its number of clients by another ~40 in the next 12 months.

The company has also indicated elaborated on the scope difference between RTS and SCS. SCS focuses on quality management services and specialized offerings e.g. around SAP testing; Siemens PLM Software testing; performance testing, project management as well as business process consulting in the banking industry. Meanwhile RTS has a wider services portfolio, ranging from staff augmentation, now as part of contract involving at least ~40 personnel; onsite test preparation, execution.

Activities by Geography

SQS experienced growth in Germany, Austria, the Netherlands and Ireland in H1. Market conditions were tougher in the U.K. and Nordics. In the past two semesters, SQS had suffered from delayed decision-making in the U.K.. Yet, the company points out that in early H2 2013, it has signed several significant contracts in the retail and banking industry, resulting from a better U.K. economic outlook.

The situation in Nordics is different and SQS suffered from a RTS-centric business model. Revenues were down 17% in 2012 and SQS is expecting a poor performance in 2013. As a result, the company is restructuring its sales force and recruiting new sales with experience in large multi-year contracts.

Meanwhile, the company continues to focus on the U.S. market mainly targeting companies in the manufacturing sector, where it sees limited competition and appetite for India-based delivery. The company is expecting Q3 2013 revenues to reach $2.1m. It broke even for the first-time, on a monthly-basis in August 2013. Level of offshore delivery is 60% of revenues, up from 45% in Q2 2013. Interestingly, and against all odds, SQS is reporting limited external competition in the U.S. with the clients it services. Typically, SQS is taking over activities done by the internal IT teams of its clients.

To accompany its growth in MS and in the U.S., SQS continues its effort in growing its global delivery networks and especially in Egypt and in India. Headcount has almost doubled in Egypt from 85 in 2012 to ~150 currently. SQS did not have to interrupt its activities in Cairo even during the August 2013 events. SQS is also investing in India and targets to double its headcount in Pune this year to 700.

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