TietoEnator Interim Report 3/2005 (1 January - 30 September 2005)
- Q3 net sales growth 15% to EUR 380.4 (331.4) million
- Nine-month growth 11% to EUR 1 217.5 (1 095.7) million
- Q3 operating profit excluding capital gains EUR 34.6 (23.7) million or a margin of 9.1% (7.2)
- Q3 2004 included impairment losses of EUR 12.8 million
- Nine-month operating profit excluding capital gains EUR 111.6 (103.3) million
- Profit before taxes EUR 27.3 (102.0) million in Q3, EUR 120.0 (181.6) million in the nine months
- Q3 EPS 0.24 (1.09), nine-month EPS 1.11 (3.22)
General market overview
Demand for IT services and solutions is increasing, driven by systems enhancements and extensions and consulting work rather than by big renewal projects. There is a lot of activity in the development of self-services, like internet banking, which typically is an early indicator of growth in IT spending.
There are some early signs of modest price increases in the industry generally. However, customers who are implementing cost-cutting programmes are demanding further price reductions from their suppliers. Consolidation is reducing capacity in the industry as acquired units are quickly adjusted to meet the demand and pricing conditions.
The labour market has become more active and mobility is at a higher level. At the moment there are no signs of increasing wage inflation or shortages of qualified employees, however.
Development of customer industries
In 2005 all of TietoEnator's vertical business areas have been growing, with the highest growth levels in the international verticals: telecom, banking and healthcare. These are also the segments where the biggest acquisitions have taken place during the year.
In the banking sector TietoEnator's partnership customers are still focusing on efficiency improvement. There is a gradual, but slow shift to investments of the business development type. There is constant price pressure in partnership services. The solutions business has returned to growth with customers showing most interest in corporate cash management, card and payment solutions. Demand for partnership services in the pension insurance sector in Finland continues to be high.
In April TietoEnator made an offer for the UK AttentiV Systems Group, whose shares were listed on the London AIM (Alternative Investment Market). The acquisition process was completed in late June and AttentiV was consequently de-listed. AttentiV is an experienced provider of software solutions and associated services to the financial services sector in the UK and employed around 330 people at the end of September. AttentiV's integration into TietoEnator has progressed well. The integration of the administration and business infrastructure will be finalized by the end of the year. Business integration has been started with common strategic planning and the integration of sales functions.
AttentiV was consolidated from the beginning of July and in the third quarter it contributed EUR 16 million of net sales and EUR 6.4 million of operating profit.
In the insurance sector TietoEnator has won several new contracts. The TietoIlmarinen joint venture with 140 employees started operations at the beginning of the year. In March TietoEnator and the insurance company If made a Nordic outsourcing contract covering server management operations and end-user services. TietoEnator's contracts for processing services with Sampo were renewed for a period of 5 years in June. Additionally, TietoEnator and the owners of Esy Oy, a Finnish supplier of employee pension IT services, have signed a letter-of-intent on the start of cooperation and a joint venture structure, where TietoEnator would own 80% of the shares of Esy. The cooperation is planned to start at the beginning of 2006. Esy had net sales of around EUR 24 million in 2004.
Growth has continued in the telecom sector despite constant price pressure. In the third quarter especially Central Europe grew strongly. To meet the price pressure TietoEnator is accelerating its usage of low-cost resources. TietoEnator's low-cost capacity increase for telecom operations, both at its own site in Ostrava, Czech Republic and with the Russian strategic sourcing partner Mera has progressed successfully.
The acquisition of S.E.S.A. Group was completed in January, increasing TietoEnator's personnel by around 480 employees in Germany and by 120 in France. Financially, S.E.S.A. has been performing very well: its nine-month net sales totalled around EUR 62.3 million, which represents organic growth of 28% for the company. S.E.S.A.'s operating profit totalled EUR 7.1 million in the nine months.
In March TietoEnator and TeliaSonera Finland agreed on the transfer of certain software development and service production activities to TietoEnator. 101 of TeliaSonera's employees moved to TietoEnator. In June TietoEnator announced an agreement to take over the administration of all TeliaSonera's billing systems for fixed telephony, mobile telephony and internet connections in Sweden.
In August TietoEnator agreed to acquire 51% of SIA IT Alise in Latvia. IT Alise was the largest independent IT professional services company in Latvia with strong relations to the telecom operators. The staff of around 200 increased TietoEnator's low-cost capacity further. The acquisition was completed in early October.
In the Nordic government sector business growth has been moderate and pricing continues to be competitive. For TietoEnator the highest growth markets have been Denmark and in the third quarter also Norway.
In Finland and Norway the healthcare sector is looking for regional or in some areas even national solutions to modernize healthcare IT systems. TietoEnator is clearly benefiting from this development. In Sweden the market structure is more fragmented and market growth is lagging behind the other Nordic countries.
At the end of September TietoEnator and the Swedish Axiell Bibliotek AB established a joint venture, in which TietoEnator has a 51% holding. At the same time TietoEnator's Finnish library business with its 24 employees was sold to the joint venture.
The acquisition of the German ITB, a healthcare information systems specialist was closed in January. The ITB Group brought to TietoEnator around 50 people in Germany and 120 software developers in India. In August TietoEnator acquired Zait IT Services AB, an IT specialist within healthcare and welfare sector in Sweden. Zait employs 43 people.
TietoEnator's energy business is benefiting from the strong industry development. Oil and gas companies especially are investing heavily in new systems. The Nordic electricity business also continued to perform well. TietoEnator's forest business returned to growth in the third quarter as activities with European customers recovered. The retail business is rather stable. The manufacturing segment is growing strongly as customers' financial performance is good and investments are back at normal levels.
The processing and network services market continues to be active. Customers are concentrating heavily on cost reductions and consolidating infrastructure. In April TietoEnator's Processing & Network business area announced a consolidation process to adjust its service offering and cost base to the competitive environment. At the end of September all of the current mainframe production was consolidated in Helsinki and the centralization of the other infrastructure is on-going.
In the Personec Group, growth in the human resources management business, Personec, was low and the financial management software business, Economa was rather stable.
Third-quarter net sales grew 15% to EUR 380.4 (331.4) million. Organic growth was 2%. Nine-month net sales increased by 11% to EUR 1,217.5 (1,095.7) million. Organic growth totalled 2% in the first nine months. Changes in foreign exchange rates did not affect growth.
The organic growth figures have been adjusted for the discontinuation of the zero-margin pass-through invoicing, which in the first nine months decreased the Processing & Network business area's net sales in Finland by approx. EUR 9 million. The business areas growing organically were Banking & Insurance (12% in the nine months), Telecom & Media (10%), Healthcare & Welfare (4%) and Government (3%). Acquisitions completed in 2005 generated around EUR 96 million of net sales in the nine months.
Nine-month growth was 3% in Sweden, 12% in Norway and 1% in Finland. Excluding the discontinued pass-through invoicing the Finnish growth was 2%. Germany grew strongly at 156% due to the two acquisitions - S.E.S.A. and ITB.
The banking and insurance sector accounted for 18% (17) of Group net sales in the first nine months. Telecom and media increased its share to 33% (29) with the help of the S.E.S.A. acquisition and strong organic growth. The public sector contributed 19% (20) of sales, the forest sector 5% (6) and the energy sector 5% (4).
The order backlog, which comprises only services ordered with binding contracts, amounted to EUR 998 (803) million at the end of September, 24% higher than a year ago. Approximately 29% (33) is expected to be invoiced during the year.
Operating profit amounted to EUR 36.3 (105.2) million in the third quarter. EBIT includes capital gains of EUR 1.7 (81.5) million. Impairment losses were EUR 12.8 million in the third quarter of 2004. Third quarter operating profit (EBIT) excluding capital gains and impairment losses totalled EUR 34.6 (36.5) million, corresponding to a margin of 9.1% (11.0).
Nine-month operating profit (EBIT) amounted to EUR 128.8 (184.8) million. Operating profit (EBIT) excluding capital gains and impairment losses totalled EUR 111.6 (116.1) million.
The third quarter is seasonally weakest for TietoEnator, especially for those business areas with high professional services exposure like Telecom & Media. Telecom & Media's performance was also affected by lower prices. In the third quarter of 2004 the operating margin in the business was exceptionally good. Telecom & Media did not have any performance based rewards from partnership customers in the third quarter as they are potentially realized in the second and fourth quarter only.
For the less labour intensive business areas Processing & Network and Personec Group, the third quarter is strong. The costs related to Processing & Networks' consolidation process were lower than expected at around EUR 4 million in the third quarter and are included in the business area's operating profit.
Banking & Insurance benefited from AttentiV's seasonally strong third quarter, which represented the end of its fiscal year before the acquisition by TietoEnator. AttentiV recognized substantial licence income in the period. On the other hand Banking & Insurance had one-time restructuring and other cost reservations mainly in Germany, Norway and the UK totalling EUR 3.3 million in the quarter. In the third quarter of 2004 Banking & Insurance's operating profit (EBIT) was burdened by an impairment loss of EUR 12.8 million.
The project over-runs in Government continued to have a negative effect on the business area's operating profit. Licence sales in Healthcare & Welfare are seasonally low in all other quarters except the fourth. In the third quarter the operating profit of Healthcare & Welfare benefited from a EUR 1.7 million (EUR 1.3 million after tax) capital gain from the sale of the library business to the joint venture with Axiell. Excluding the capital gain the business area's operating margin is 8.0%.
TietoEnator has continued investments in Group-level synergies and efficiencies. These include the development of service offering, customer relationship management and delivery processes. Investments in harmonization also led to higher expenses in Group Functions, which stood at EUR 4.7 (4.1) million for the third quarter.
The capital gains in June resulted from the divestment of the on-line information services business, the joint venture in direct marketing (together EUR 5.8 million in Processing & Network) and the divestment of the associated company, Dotcom AB (EUR 8.9 million). In the third quarter of 2004 TietoEnator had EUR 81.5 million of capital gains from the divestments of the minority holding in Personec Group and real estate.
Operating profit (EBIT) included EUR 1.9 (0.8) million from amortization on acquired intangible assets in the third quarter and EUR 5.0 (2.2) million in the first nine months.
Stock option expenses (share based payments) of EUR 1.1 (0.4) million in the third quarter, and EUR 1.9 (0.8) million in the first nine months were included in personnel expenses.
Operating profit of entities acquired in 2005, including amortization on acquired intangible assets, totalled EUR 13.0 million in the first nine months.
Net financial expenses were higher at EUR 9.0 (3.2) million in the quarter. Net interest expenses were EUR 2.9 (0.9) million and one-time net losses from foreign exchange transactions EUR 6.2 (1.2).
Third-quarter earnings per share (EPS) totalled EUR 0.24 (1.09). EPS was affected by capital gains of EUR 0.02 (0.93), an impairment loss of EUR 0.16 in 2004, amortization on intangibles of EUR 0.03 (0.01) and stock option expenses of EUR 0.01 (0.0). Excluding these items EPS amounted to EUR 0.26 (0.33). Nine-month earnings per share totalled EUR 1.11 (3.22) and excluding the above mentioned items EUR 1.01 (1.04).
The rolling 12-month return on capital employed (ROCE) was 24.8% and the return on shareholders' equity (ROE) 18.2%.
Financing and investments
Cash flow from operations continued strong and amounted to EUR 118.3 (96.6) million in the first nine months. Operating profit contributed EUR 151.9 (150.8) million and the decrease in working capital generated EUR 15.4 million. Typically working capital has a negative effect on cash flow in the third quarter, but this year some of the one-time items in the second quarter reversed and working capital decreased. Tax payments were only EUR 14.3 (18.1) million as the deferred tax asset was employed.
Net investments used EUR 164.3 (31.6) million of cash. The acquisition payments net of acquired cash totalled EUR 153.2 (72.8) million. The biggest payments have been S.E.S.A. EUR 77 million and ITB EUR 9 million in January, and AttentiV EUR 82.7 million in June-July. Divestments generated EUR 25.2 million in cash.
The total dividend payment of EUR 78.7 million was made in April. Share repurchases were started on the 1 of September and by the end of September the cash effect of the purchases was EUR 38.0 million.
At the end of September the consolidated balance sheet totalled EUR 1,348.9 (1,190.4) million, a 13% increase compared with September 2004. Most of the balance sheet increase was due to the acquisitions of S.E.S.A. and AttentiV.
The equity ratio was 42.5% (58.5). Gearing increased further to 40.4% (-9.0). Net debt totalled EUR 222.8 (-60.9) including EUR 268.9 million in interest-bearing debt, EUR 32.8 million in financial leasing and EUR 78.5 million in cash and cash equivalents. EUR 91.0 million of the debt belonged to the Personec Group. The other interest-bearing debt consists of a three-year EUR 50 million bilateral credit facility, a seven-year EUR 50 million private placement bond and usage of EUR 57 million from the short-term commercial paper programme. At the end of September unused credit facilities totalled EUR 348 million.
Accrual-based investments totalled EUR 247.8 (125.8) million for the period. Capital expenditure including financial leasing accounted for EUR 67.1 (35.1) million, investments in business activities for EUR 9.3 (2.7) million, and investments in subsidiary and associated company shares for EUR 171.4 (87.9) million.
The number of full-time employees totalled 14,435 (12,435) at the end of September. Acquisitions and new outsourcing contracts added around 1,500 employees during the first nine months. Recruitment has increased from the previous year: a total of 1,305 (669) employees were hired.
Personnel adjustments recuded staff by 270 during the first nine months. In May Processing & Network started personnel negotiations related to the consolidation process in Finland, Sweden and Central Europe to reduce a maximum of 160 jobs. Negotiations in Finland were completed at the end of August, but in Sweden they are still on-going. In Finland the job reductions were achieved through voluntary leaves, pension plans, internal job rotation and to a lesser extent layoffs.
Employee turnover is on a slowly increasing trend. The 12-month rolling figure stood at 6% at the end of September.
On average the number of employees totalled 14,024 (12,454) during the first nine months.
At the end of September the number of people in low-cost countries totalled about 870. With the acquisition of IT Alise in Latvia, this number will increase to well over 1,000. TietoEnator is planning to increase its low-cost staff to roughly 2,000 by the end of 2006.
Mr Ari Karppinen was appointed President of the Processing & Network business area from 1 October 2005.
Shares and options
In July TietoEnator's Board of Directors decided to start a share repurchase programme. Under the 2005 AGM authorization shares are being purchased to develop the company's capital structure. The maximum amount to be used under the programme is EUR 80 million to purchase a maximum of 3.11 million shares. By the end of September 1 638 500 shares had been purchased. The price for the shares was EUR 45.8 million or an average of EUR 27.97 per share. The company now holds 2.1% of its shares and voting power. TietoEnator will continue the share repurchases and its Board of Directors will propose the cancellation of all repurchased shares to the AGM in 2006.
The outstanding number of shares adjusted for the shares in the company's posession was 77,103,622 at the end of September. The average number of shares in the third quarter was 78,484,665 and in the first nine months 78,655,360.
The average share price in the third quarter and in the first nine months exceeded the subscription price of the 2002 options programme thus resulting in minor dilution. The diluted number of shares was 77,292,189 at the end of period. The average diluted number of shares was 78,631,428 for the third quarter and 78,711,172 for the nine months.
The Board of Directors' authorization to issue share and option rights or raise convertible bond loans was not used during the period.
Prospects for 2005 and early 2006
TietoEnator expects that the positive development in the business sentiment will continue in the last months of 2005 and early 2006. The acquisitions finalized up to this date are expected to contribute around 8% of growth in the fourth quarter of 2005. The discontinuation of the zero-margin pass-through invoicing from Processing & Network will reduce the Group's top line by close to 1% for the full year 2005.
The amount of performance-based rewards from Telecom & Media's partnership contracts is expected to be lower in the fourth quarter than in the second quarter of 2005, when they totalled EUR 6 million. In 2004 the fourth-quarter performance-based rewards were exceptionally high at EUR 10 million. Licence sales are seasonally strong in the fourth quarter, but are difficult to forecast. In 2004 fourth-quarter licence sales were very high.
The consolidation process investments in Processing & Network are expected to total around EUR 12 million, of which EUR 8 million was incurred in the first nine months. The remaining cost is expected to take place in the fourth quarter and in early 2006.
In the fourth quarter sales are forecast to grow 7-10% compared with the fourth quarter of 2004. The lower growth rate in the fourth quarter compared with the third quarter is due to the very strong organic growth in the fourth quarter of 2004 and lower expected contribution from acquisitions. TietoEnator expects organic growth to increase to a level of 5-10% in early 2006.
EBIT margin is expected to range between 10% and 12% in the fourth quarter.
Net sales guidance does not include potential new acquisitions. The full-year EBIT is expected to include around EUR 7 million of amortization on intangible assets and around EUR 3 million of stock option expenses.
The full-year cash flow from operations is expected to continue strong and is improved by the utilization of the tax asset.Download the document now 264.7 kb (Adobe Acrobat Document)