Momentum Builds in Strong Start to 2021
CTG, Inc. (CTG) reported Q1 ‘21 results slightly ahead of expectations as robust growth in Solutions revenue and budding momentum in Europe accelerated top line growth to nearly 12%. Much like last quarter, currency provided a favorable tailwind and the addition of three more billable days than last year further boosted growth. Still, the acceleration from growth of 2% in Q4, which marked the first quarterly revenue increase since the onset of the COVID-19 pandemic, was encouraging from our perspective and leaves the company well positioned to deliver on its promise of solid growth this year. Moreover, CTG secured a double-digit number of new client wins in Europe despite much of its operations in the region remaining subject to lockdown restrictions. As the upside in revenue was largely attributable to higher margin Solutions services, gross margin expanded considerably from the prior year period and was modestly ahead of our assumption. With CTG undertaking a corporate re-branding initiative to accentuate its digital transformation solutions, however, expenses ran higher than modeled and limited the flow through to the bottom line. As such, adjusted EBITDA was in line with our expectations while non-GAAP EPS beat our forecast by a penny due to a lower tax rate.
Turning to Q2, management expects revenue per billable day to remain relatively consistent on a sequential basis, which combined with the operating expense run rate exiting Q1 points to a modest uptick in revenue and adjusted EBITDA relative to our prior projections. For the year, management continues to anticipate solid revenue growth and a rising mix of Solutions revenue. Of note, approximately $17 million in revenue during FY ’20 was recast from Staffing to Solutions as part of CTG’s comprehensive review of its offerings and subsequent realignment of its Solutions business into three areas: Business Process Transformation, Technology Transformation and Operations Transformation. That said, the reclassification has no material impact as it relates to CTG’s 2023 Vision, which calls for Solutions revenue of $250 million (versus $158 million in 2020) and adjusted EBITDA of $35 million. We continue to believe organic Solutions growth in the low double-digit range along with an acquisition or two of similar scale to the company’s prior transactions is the likely path to achievement of CTG’s aspirational targets for FY ’23.
We raise our estimates slightly for this year and next, reflecting an uptick in our growth expectations largely offset by higher investments. Our price target remains $11.00 based on an unchanged FY ’21 EV/EBITDA multiple of 8x. Shares of CTG have appreciated meaningfully since the start of the year, which we believe reflects the consistent execution of late and signs that the company’s transformation is rapidly progressing. We see potential for the stock to move higher as CTG makes additional strides towards its long-term targets but believe the current valuation is reasonable considering our forecasts for mid-single digit growth and adjusted EBITDA margins.
Exhibit I: Reported Results Versus Expectations
Q1 revenue totaled $97.1 million (+11.7% Y/Y), exceeding our estimate of $92.5 million and consensus of $93.2 million. Due to the recast of some revenue from the IT Staffing segment to IT Solutions, the revenue contribution by segment was not directly comparable to our projections. Regardless, we believe both segments would have outperformed our prior estimates even absent the change given the magnitude of the upside and amount of revenue shifted between segments. As it stands, the Solutions business reached $43.0 million (+25.3% Y/Y) in revenue while the Staffing business generated $54.1 million (+2.8% Y/Y) in revenue. Management attributed the robust growth in Solutions to high utilization of resources in Europe as well as new business wins in the region. CTG also landed two new multi-year, multi-million dollar awards in the healthcare space. Headcount at quarter-end was approximately 3,700, of which 90% are billable, and was down sequentially from 3,900 due to the completion of a large healthcare project in Q4.
Reflecting a higher mix of Solutions revenue, gross margin expanded by 180 basis points from the year-ago period to 21.4% and was modestly above our 21.3% assumption. By segment, IT Solutions gross margin was 30.1% compared to 31.3% a year ago, and IT Staffing gross margin was 14.4% versus 12.0% in Q1 ‘20. We continue to expect margin expansion across both segments with the former benefiting from incremental growth and the latter from CTG’s disengagement from lower margin staffing arrangements. Selling, general and administrative expenses of $18.7 million ran higher than our $17.5 million estimate due to the company’s rebranding initiative and ongoing investments to support Solutions growth. As such, flow through from the revenue upside was limited with adjusted EBITDA coming in line with our $3.7 million projection. Non-GAAP EPS of $0.13 beat our estimate by a penny due to a lower tax rate than modeled and were $0.02 better than consensus.
Exhibit II: Estimate Revisions
Although no formal guidance was issued for Q2, management indicated that revenue per billable day is expected to be comparable to Q1. With two fewer billable days this quarter, the commentary implies Q2 revenue of approximately $94.0 million versus our prior estimate of $91.2 million and consensus of $93.3 million. Given the upside in Q1 and an uptick in our growth expectations for both Staffing and Solutions, our revenue estimates move higher for this year and next, while our profitability expectations increase nominally as we incorporate higher expenses to support the company’s growth aspirations.
Our report with model and disclosures is available here.
Disclosure(s):
K. Liu & Company LLC (“the firm”) receives or intends to seek compensation from the companies covered in its research reports. The firm has received compensation from CTG, Inc. (CTG) in the past 12 months for “Sponsored Research.”
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