Description

REPLY

https://www.reply.com/en/investors/

At a glance

Reply SpA ("Company" or "Reply") - a family-run business listed in Milan with a €4bn market cap - is a leading player in the Italian IT landscape. It offers consulting, system integration, application management and digital transformation services.

Reply supports its customers in defining and developing business models made possible by the new technological and communication paradigms such as Artificial Intelligence, Big Data, Cloud Computing, Digital Communication, the Internet of Things and Social Networking.

In order to offer the most appropriate solutions to different business matters, Reply has established a set of key partnerships with major global vendors: Adobe, AWS, Google, Microsoft, Oracle, Salesforce and SAP.

The Company was founded in 1996 by Mario Rizzante: it is an extraordinary success story with the start-up becoming a highly profitable €1.5bn revenue business thanks to incessant organic growth. Strategic M&A allowed the Company to complement its service's offering and gradually expand abroad with noteworthy presence in Germany/UK and recent entrance in the US market.

The family still retains the control of the business and leads the Company covering key management roles. Mario (73), the father, is a self-made entrepreneur with humble origins but extraordinary technical skills and entrepreneurial acumen. The sons, Tatiana (51) and Filippo (49), are, respectively, CEO and CTO of the Company and they both share an extensive background in computer science and technology ensuring a credibile, effective and smooth transition.

The business

Services offered

Reply is an IT consultancy offering its services to innovate processes, implement applications and introduce technologies. The core offering - accounting for nearly two thirds of turnover – is designing high-end solutions based on cutting-edge technologies like digital enablers (IoT, Cloud Computing, Big Data, AI, Cybersecurity).

Positioning itself to oversee the emerging and most promising technological niches, Reply has stayed innovative, dynamic and constantly updated with the latest trends. Furthermore, being a player looking at niche segments is a key differentiating factor in the IT landscape in order to direct the business towards high margin projects and discard commoditised services.

To be the reference IT partner for its customers throughout the entire project, the Company designs and develops applications (30% of turnover). To do so, it boasts on long-term relationships with the largest software houses (SAP, Adobe, Microsoft, Oracle, Salesforce) and the cloud leading players.

It is important to emphasise that Reply is not a pure software distributor, but a player to support the customer with the implementation of the entire project leveraging on its deep knowledge of specific softwares and the characteristics of the covered industries.

Customers

It targets mid to large corporations and within a wide range of industries: Telco, Manufacturing, Financial Services, Logistics, Retail.

CNH, ENEL, Generali, Intesa, Unicredit, TIM, Vodafone are the key costumers in Italy while in Germany the most important accounts are BMW, Daimler, Volkswagen, Deutsche Telekom.

One third of the Company's turnover is made up of the top ten customers, but none of these exceeds 10% of sales. In each of the covered end markets, Reply pursues a specific strategy. Below are some examples:

-   In the TELCO & MEDIA, Reply highlights a focus on redefining omni-channel engagement models for its clients both at the touchpoint (physical and digital) level and through the development of innovative customer experience solutions that are integrated with social models.

-   Within the FINANCIAL SERVICES area, Reply works with some of the leading players in the sector to define a comprehensive multi-channel customer journey and customer engagement strategies. These activities range from digital branding to the implementation of strategy apps and from the development of a new generation of multi-channel portals and touchpoint to the complete redefinition of the underlying technological architectures.

-   In the MANUFACTURING & RETAIL space, the Company supports the management with the upgrade of the information system. Reply has repeatedly been selected by Gartner among the “Visionaries in the Magic Quadrant for Warehouse Management Systems”.

-   In the ENERGY & UTILITIES sector, Reply mostly assists the customers defining and developing smart metering, smart grid management and real-time pricing.

Contracts

Contracts might be, alternatively, agreed on the fixed-price scheme (two thirds of the total) or on a time-spent basis (the remaining one third).

The business is organised according to 3 regions: Region 1 (the largest, encompassing Italy, USA and Brazil) accounts for nearly 65% of turnover and mostly refers to the fixed-price scheme while Region 3 (UK, Belgium, Netherlands, France - accounting for nearly 18-20% of the turnover) primarily makes use of contracts based on the time spent. Region 2 (15-18% of total turnover) is centred around the German market where Reply has established a significant position. 

Business model

Reply adopts a unique network model which is the key strength and peculiarity of the organisation: the group consists of more than 150 entities which are boutiques specialised in technological niches. The network model ensures to catch the benefits of a large enterprise through the sharing of knowledge and "on field" experiences. At the same time, such organisation is intended to create a number of independent units, each of them strictly focused in developing and providing tailored services in their respective competence areas. The model fosters entrepreneurship and is aimed at aligning the incentives: each unit is run by an operating partner appraised on the economic performance of his/her reference business.

Reply adopts a sales model pillared on the continuous interaction of its managers with the customers. Within the Company, there is no sales team separate from the operating partners of the business. Reply leverages on the capabilities of both product/technology and industry experts who have a deep understanding of needs and the developments within the respective sector. Reply places the partners at the forefront of acquiring projects and tries to propose original and specific solutions.

With the development in technologies, the start-up creation process within Reply in non-stop and permits to avoid the bureaucratisation of the organisation. About 10 startups born every year, making Reply an incubator.

More, the bolt-on acquisitions are intended to complement the organic growth through addition of businesses to the network rather than pursuing large transformation deals that would not fit with the character of Reply.    

R&D

Reply is involved in a continuous process of research and it promotes initiatives to support customers in the efforts to adopt new technologies. Reply dedicates resources to R&D activities in order to project and define highly innovative products and services as well as possible applications of evolving technologies.

Reply has established a number of platforms designed to experience the potential offered by the new technologies. The platforms represent application solutions to respond to new needs generated by the trends in business and innovations. This ecosystem of communication, experiences and connections with the customers keeps Reply at the forefront of the developments in its field.

The flagship of Reply are the "labs", physical spaces that help the technology transfer.

People

Like a typical consultancy, the key value of the business is embedded into its workforce. The Company has always been oriented towards young (average age 30-31) highly skilled employees recruited from the top universities. Reply grants its most successful people with a rapid career path and a rewarding professional environment. The network model adopted by the group favours the specialisation and the possibility for young professionals to become leader in their competence area.

Due to the distinctive character of Reply’s business model, the remuneration policy has always identified EBITDA as the prevailing performance indicator, both for the short-term and the long-term. In order to properly align the incentives to the actual value creation, the group takes into account additional performance indicators for the variable medium-long term component of the compensation: it is set in accordance with performance targets like Total Return to shareholder, Free Cash Flow from operations, Return on capital employed. Assignment of the long-term variable component occurs at the end of the 3-year period. From a strictly quantitative standpoint, Reply sets a relationship between the overall variable component and the fixed component of 4 to 1.

In accordance with the network model, top managers’ variable compensation is recognised and paid by the respective reference companies/businesses of the group.

The industry

Reference market

Within the tech industry - estimated to be worth more then $5tn, the IT services market is globally valued more than $1tn and is expected to progress at a 7-8% CAGR in the coming years with the developing of the innovative technologies: cloud, software, metaverse, cyber security, use of big data, AI.

IT services' spending grew consistently in the last 20 years. The pandemic highlighted the need to accelerate the pace at which firms invest in IT in order to face coming challenges. This new digital wave ix projected to trigger a rise in demand for system integration services, as an increasing number of companies need to implement the new technologies to keep top with innovation.

Competitive framework and Reply positioning

The most important players within the competitive digital transformation landscape are firms like Accenture, Capgemini, Indra Sistemas (especially in Europe and U.K.), Cancom (in the US and Germany), Sopra Steria Group, Atos, Bechtle (particularly in Germany), TietoEVRY Corp, CGI, Epam Systems, Cognizant Technology Solutions Corp, Globant.

Most of the mentioned players offer the same services as Reply, others are specialised only on some of them. Nonetheless, they are not really peers to Reply due to their massive size and different organisation/governance.

Going deeper in detail with this business, it emerges that human capital organisation/management and its cost are the key success factors in the field. For the large global corporations, in order to rapidly expand the business and gain wide geographical footprint, a strategy option is to develop outsourcing business, leveraging on the low-wage countries to exploit economies of scale. Differently, in order to compete at an higher level and privilege the profitability over revenue growth, a different strategy is deploying high value-added services in innovative niches anticipating competitors by leveraging on the quality of service provided and a strict tailored relationship with customers. According to this strategy, it is not the formal length of the contract that assures stable volumes, rather the degree of satisfaction of the customer that becomes loyalty and a "de facto" long-term partnership with the IT services provider. All the value proposition of the "high value-added strategy" is strictly dependent upon the ability to retain skilled employees and incentive them appropriately.

Within this framework, Reply positioned itself as a boutique consultancy built on an ecosystem of independent and highly specialised businesses belonging to the same network. It competes in niche markets characterised by intense innovation and technology content, where flexibility and innovation rather than economies of scale are crucial characteristics for success.

Financial information

Historic data confirms the success of the business vision and strategy.

In the last 9 years reply posted a remarkable growth (CAGR 12.8%) thanks to organic expansion and strategic acquisitions. Revenue exceeded €1.5bn in 2021, LTM sets close to €1.7bn and forecast for FY2022 is at €1.8bn.

This is a typical asset-light business with limited operating leverage. Key cost item is represented by personnel expense while peaks and slumps in demand are managed through services acquired externally (free-lances). Profitability measured by EBIT sets at 14%: the historic performance highlights steady gains with the margin gradually and consistently improving from 11.4% reported in 2012 to the current level. EPS followed the same path and more than quadrupled in the period (CAGR 20.7%) with unchanged number of outstanding shares. 

Capital employed is in excess of €0.5bn but, excluding goodwill, it totals nearly €0.2bn (the company exhibits negative working capital while required physical investments are minimal).

2021 net operating cash flow before outflow due to  acquisitions was in excess of €200m.

Cash flow is reinvested and/or used to pursue strategic acquisitions. Reply stayed profitable also in 2009 and between 2011-2013 (a period of protracted recession in Italy) proving an extraordinary resilience to severe economic downturns. I think Reply is positioned to preserve its profitability in the future thanks to a flexible and agile organisation.

The business posted consistently outstanding return on capital employed. In particular, excluding goodwill, in the last years, ROCE was on average ranging around 80-100%: this is the result of the mentioned consistent gains in profitability (EBIT margin) and turnover acceleration thanks to effective management of working capital (Receivables and Inventory under the form of projects' work-in-progress are offset by advances on projects, making the cash flow management of the business neutral, on average).   

Investment case

Reply is a company that specialises in consulting, systems integration and digital services

with a focus on the conception, design and implementation of solutions based on the new

communication channels and digital media. Its distinguishing feature is an organisation set in accordance with a network model of focused units where a business grows within the group and then it is spun off in order to become independent,  distinct and highly specialised. 

Reply intends to scaling up its services focusing on the prospective mega trends of the coming decades. The Company can continue to enjoy a long period of sustained growth due to the expansion of its services in connection with the growing pervasiveness of the new technologies in every industry.

The family-owned model assures a proper alignment of incentives with minority shareholders. Ownership still in the hands of the founding family assures skin in the game, accountability and choices oriented at the long-term value creation. The second generation is young enough to assure long-term leadership but also experienced and with an extremely solid background. They would never look at different options for their professional life. This is their business and it intersects with their life in consideration of  the understandable human involvement. More, they are enthusiast data scientists and business developers. The family rightly tries to position the Company on the frontier of innovation to preserve the "boutique" character of the organisation. They understand that the benefits of internationalisation far outweigh the difficulties associated with entering new markets. This highlights the development-oriented character of a management that accepted the challenge to offer tailor-made IT consulting on a global basis. As the management indicates: “to win the projects with large multinational corporations it is necessary to be physically in the reference markets. Furthermore, innovation comes from interaction with the different end markets and the customers”.

The success of the Company can be summarised highlighting the 5 key features that have always driven it towards ever-growing results: (i) winning management team and effective governance, (ii) unique network model, (iii) marked attitude towards innovation (iv) distinctive service offering (v) disciplined serial acquirer.

At the current market price, the business trades at 22x forecasted 2022 earnings and 20x 2023 expected profit. It looks like a reasonable multiple for a business whose recent growth rates (close to 15%) are expected to continue in the future.

The stock is down more than 40% in the last 12 months as per the general market rout. I believe this represents a fairly attractive entry point with a long-term investing perspective to acquire a proven compounder with outstanding track record. The solid growth prospects coupled with high return on reinvested capital create the framework to capitalise the investment at a very high rate. 

Catalyst

Further visibility on the creation of value over the long-term.