EPAM Systems Continues Its Expansion, but Investors Lose Confidence

By Markets Fool.com

The information technology business is a global industry, and EPAM Systems (NYSE: EPAM) effectively taps into the IT programming and services expertise in oft-neglected areas of the world like Eastern Europe. The company has done a good job of growing to become a leading provider of product development and software engineering services, and coming into Monday's third-quarter financial report, EPAM investors were hoping that the company would sustain its impressive sales growth rate and also boost its bottom line. EPAM's results were slightly stronger even than optimistic investors had expected, and the IT specialist has reason to believe that even better times could come in the future. Let's take a closer look at EPAM Systems' latest results and whether the company can keep delivering on its full potential.

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Image source: EPAM Systems.

EPAM stays the course

EPAM Systems' third-quarter results were consistent with its past performance. Sales were up 26%, to $298.3 million, which was slightly better than what most investors had expected to see from the company. Adjusted net income climbed 21%, to $40.8 million, and that produced adjusted earnings of $0.76 per share, topping the consensus forecast among those following the stock by $0.01 per share.

A closer look at EPAM's numbers reveals the IT specialist once again noted that the negative impact of the strong U.S. dollar hurt its performance. On a constant currency basis, revenue would have been up almost 29% from year-ago levels. That's not entirely consistent with what some of EPAM's peers have reported, suggesting that the company remains more exposed to areas that have weaker foreign currencies than the typical IT provider.

One thing that EPAM has done quite well is to boost its overall workforce. Total head count as of Sept. 30 was 21,720, up by more than a third in just the past year. Among those workers, EPAM had more than 19,000 delivery professionals, up from just 14,000 a year ago.

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EPAM continued to do fairly well at controlling its expenses, although not all of its margin figures were able to sustain previous levels. Gross margin fell by about a percentage point as costs of revenues climbed, and even somewhat better containment of overhead expenses wasn't enough to prevent operating margin from falling a fraction of a percentage point as well. Stock-based compensation continued to play a role in the difference between EPAM's GAAP and adjusted earnings figures.

Nevertheless, cash flows strengthened. Operating cash flow for the quarter was $61.8 million, up by more than a ninth from year-ago levels. The company sports more than $330 million in cash and equivalents on its balance sheet, speaking to its financial strength and flexibility to take strategic action if it so chooses.

How can EPAM keep moving forward?

CEO Arkadiy Dobkin didn't discuss the company's results, instead taking the opportunity to comment on the decision of CFO Anthony Conte to step down in the third quarter of 2017. The CEO pointed to Conte's expertise as invaluable, noting that "Anthony's financial and business leadership has been a key part of EPAM's growth and success." EPAM intends to do a search in which Conte will participate and he will assist in the eventual transition.

Where investors got nervous, however, was in EPAM's expectations for the rest of the year. For the fourth quarter, the company anticipates that revenue will be at least $310 million, predicting about a 2-percentage-point hit from currency impacts. Adjusted earnings should be at least $0.78 per share. Both of those figures are far below the consensus forecasts of $318 million in sales and $0.87 per share in adjusted earnings, raising concerns about EPAM's future growth.

Similarly, EPAM changed its expectations for its full-year results. The company anticipates $1.156 billion or more of revenue for the year, representing growth of 26.5% and actually coming in slightly faster than it previously expected. However, adjusted earnings of just $2.90 per share marked the second straight quarter that EPAM cut its bottom-line guidance.

The departure of the CFO and the cut in earnings guidance spooked investors substantially, sending the stock plunging by nearly 20% in pre-market trading following the announcement. That seems like a huge reaction to the news, but it shows that EPAM Systems will need to work hard to regain the confidence of its investors and keep pushing harder toward finding new growth opportunities.

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Dan Caplinger has no position in any stocks mentioned. The Motley Fool recommends EPAM Systems. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.