EPAM - NYSE

Good day and welcome to the Second Quarter 2024 EPAM Systems Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. [Operator Instructions] And finally, I would like to advise all participants that this call is being recorded. Thank you. I'd now like to welcome Mike Rowshandel, Head of Investor Relations to begin the conference. Mike, over to you.

Good morning, everyone and thank you for joining us today. As the operator just mentioned, I'm Mike Rowshandel, Head of Investor Relations. By now, you should have received your copy of the earnings release for the company's second quarter 2024 results. If you have not, a copy is available on epam.com in the Investors section. With me on today's call are Arkadiy Dobkin, CEO and President; and Jason Peterson, Chief Financial Officer. I would like to remind those listening that some of the comments made on today's call may contain forward-looking statements. These statements are subject to risks and uncertainties as described in the company's earnings release and SEC filings. Additionally, all references to reported results that are non-GAAP measures have been reconciled to the comparable GAAP measures and are available in our quarterly earnings materials located in the Investors section of our website. With that said, I will now turn the call over to Ark.

Thank you, Mike. Good morning, everyone. Thank you for joining us today. First, I would like to start off with our second quarter results which came generally in line with our expectations. We believe our performance in the second quarter of 2024 reflects our continued strong execution and adaptability amidst a still complex demand environment. Let me share some current highlights of our business from Q2 up to today. Our underlying business continues to show signs of stabilization. In the second quarter, we delivered very strong growth in our healthcare and life sciences vertical and strong growth in our emerging verticals, where we also saw some slight sequential improvements in financial services. In some of the verticals, namely business information and media, we continue to work through the impact of the ramp downs from the few large clients we have mentioned before. On the demand environment, we do see broad-based signs of stabilization as well across both EMEA and North America. At the same time, clients are still cautious with larger programs and our visibility to a significant increase continues to be constrained by a mix of clients, cost-saving priorities, delays in program starts and clients' own business changes. As a result of this complex environment, we are currently assuming no net improvements in overall demand for the remainder of the year. Jason will provide more details of our updated outlook for 2024. To be clear, notwithstanding the overall demand picture, we are optimistic about certain sectors of our target market and our current portfolio returning to modest growth story in the next 2, 3 quarters as we see it now. In overall, while we adjust our offerings and our delivery mix to see the parameters of the current demand environment, we continue to see significant traction in our data and analytics, core engineering and digital engagement offerings, especially through the broad transformation of reach with AI, as well as increasing evidence that our consulting and advanced technology capabilities are driving new top-of-the-funnel opportunities for us. So meanwhile, we remain focused on responsibly managing our business in this part of the cycle, building on our strong fundamentals and ensuring that EPAM continues to be the partners of choice while the demand environment improves. Turning now to our global delivery strategy. In Europe, our differentiated capabilities continue to create significant opportunities for our clients to leverage the top talent on their most complex business and technical challenges. We believe this traditional EPAM advantage will continue to serve our clients well, especially as they turn from mostly cost-driven considerations back towards driving growth and innovation through the use of advanced technologies for their complex transformation and modernization efforts. We are also continuously investing in our more recently established delivery hubs across Western and Central Asia which are emerging talent markets and where we are enabling strong and experienced tech talent to responsibly lead our future growth in the region. India remains a priority and is on track to becoming our largest delivery location by the end of the year. We have built scaled centers of excellence in data and analytics, digital marketing, commerce, sales force, SAP and other key horizontal and vertical service lines. Our primary focus is on building a scaled EPAM-grade quality engineering, while blending in with many unique enterprise-level capabilities present in India and not available in most of other EPAM locations around the globe. We believe this approach will differentiate EPAM India from our clients and create strong growth opportunities for our people. We are also continuing to expand our core engineering capabilities in LatAm. In addition to Mexico and Colombia, we now have a delivery hub in Argentina. We will continue assessing and developing new local talents across the region. In each of these geos, we are investing in our existing and new technical capabilities, including crucial-for-the-future GenAI data, ML and predictive AI and in corresponding IP development. In short, we are building full-service GenAI delivery practices through a network of GenAI X-Labs [ph] across major dev centers to enable and scale GenAI-enabled client production activities. In addition, both in India and LatAm, we are evolving into strategies that includes not only differentiated delivery capabilities but also being able to offer compelling in-market presence end solutions, particularly as we seek to serve our global alliance in a more complete and strategic manner which means building locally a much stronger partner ecosystem as well. Finally, in all our locations and specifically in our major client markets, we continue to focus on our client engagement programs and to improve our consulting industry capabilities across our service offerings. Now let's turn in a bit more details on our GenAI approach. For the last decade and despite all challenges during the last several years, we are continuously a recognized leader in advanced technology, digital engineering and complete data transformation programs. This naturally extends to EPAM being regarded to the company who understands the complexities of AI transformation, something we are doing for ourselves, our partners and our clients for some time now. Today, I would like to highlight our up-to-date progress in that area and how EPAM is helping clients pragmatically initiate and then move use cases beyond pilots into production deployments. Our current approach to AI transformation is 3 dimensional. Dimension 1, EPAM internal transformation and GenAI enablement investments. We set an ambition goal for ourselves to upskill and effectively train an absolute majority of the company on the usage of GenAI fundamentals and to do so both responsibly and with the EPAM-level technical depth. A dedicated program was established to execute this. And today, with the help of our educational platforms, internal specialized tools and our global maintenance community, close to 100% of the EPAMers have gone through training and applying AI in their daily work activities. While most of the companies have announced similar programs, we believe that during the last 24 months, our early and highly focused efforts across a broad range of EPAMers allow us to better understand future opportunities and to invest in differentiated IP and accelerators around GenAI-enabled engineering solution. Our combination of training, IP and open-source style internal initiatives have now become drivers of scale in our advanced GenAI practitioner communities across all EPAM organizational unit and practices. We assume that well over 10% of EPAMers are now advanced GenAI technical practitioners, while over 1,000 are becoming strong internal AI champions with ability to lead GenAI-enabled business solutions. We believe all that has enabled our dimension 2, client transformation opportunities. Our AI client project today has evolved from exploratory pilots and proof-of-concept late last year to now EPAM being selected by clients as a primary AI partner with involvement into hundreds of GenAI-led engagements. We are helping to change the full value chain of SLDC from one side and enabling implementation of real GenAI-driven business use cases from another. Let me briefly highlight just a few IP investments. EPAM DIAL is a unified GenAI orchestration platform helping enterprises spin the experimentation and innovation efforts to implement real business use cases and GenAI-enabled solutions by connecting into meaningful workflow and load balancing a set of public and proprietary LLMs and SLMs together with different type of internal, external data sources, AI-native applications and customer dots. EPAM AI/Run is a GenAI-powered delivery framework that accelerates the entire software development life cycle and helps clients recognize ROI of their AI investments by improving time-to-market speed up to 30%. EPAM EliteA, it's a comprehensive collaboration platform for teams that streamline the development, accessibility and management of large language model assets, including prompts, templates and agents. Now a few specific examples for the clients which operate across completely different user environments. For Unity, the world-leading platform of gaming tools for creators to build and grow real-time games, apps and experiences across multiple platforms, we helped build Unity Muse. From a multi-cloud migration to Microsoft Azure to aid in GenAI capabilities to make game creation faster and easier for 1 million developers by using natural language prompts to generate sprites, textures and animations and also providing chat-based assistance and troubleshooting, as well as the ability to even create behavior trees. For XSOLIS, a leader in health care system purpose-built solutions and industry-leading AI, we helped to develop a new generation AI platform on AWS enhancing, Dragonfly, XSOLIS's flagship product. The platform provides real-time data and predictive analytics to nurses, case managers, physician advisers, utilization management and revenue cycle leaders across 500 hospitals and health systems with more than 500 payers [ph] connections. Finally, for the IMF, as a part of modernization of their data platform, we built StatGPT which is an SDMX-driven GenAI application for statistical organizations, allowing their users, economists and statisticians to truly transform, analyze, visualize and interpret statistical data using a natural language interface via proprietary talk-to-you-data framework powered by EPAM DIAL and EPAM Quanthub accelerators. Initial results showed a 50% increase in research productivity and 35% increase in research accuracy. And overall, we are seeing a significant rise of GenAI-led engagements across every vertical and a very broad set of use cases. And this is now driving transformation in both front-end customer experiences as well as significant back-office and process-related use cases. Finally, all that in turn allows us to enable dimension 3 for AI transformation, extended client network, first of all, because we saw that we are very practical in our approach. Our technology and AI transformation program are much larger and more complex today than where we started just a few quarters ago and encompasses both consulting and engineering services as well as a broader range of partnerships. With more than 150 strategic partners, we're accelerating modernization, adopting cloud-native architecture and leveraging AI and advanced analytics, particularly when our clients' projects have a high degree of technical and business complexity. We are our partners' partner of choice for making corporate engagement real. In fact, just very recently, we've been named Partner of the Year by several of our cloud data and digital partners, including Databricks' Disruption Partner of the Year, recognized for the industry-leading design and implementation of GenAI-powered conversational interfaces, state-of-the-art machine learning and large language model framework. By the way, as elite level partner, we are 1 of only 5 companies with listed in Databricks' center of excellence. Google Cloud Talent Development Partner of the Year, an award recognized for our commitment to training, upskilling and reskilling our team cloud and AI skills. Microsoft Gaming Partner of the Year, recognized for the pushing the boundaries of creativity and technology. Mark in commerce tools, recognized for delivery best-in-class modern commerce experience for our clients. It's easy to assume the next question, what is the revenue impact of these programs? I guess the answer is probably predictable as well. We are still in early days of the AI wave. But at the same time, we are very optimistic about the accelerating pipeline opportunities coming from AI-led transformation and what that can bring downstream for us as a highly trusted and valued partner. We remain focused on expanding our efforts to drive demand, remaining relevant to our clients and what they need and proactively expanding our global market share. We also remain committed to managing our delivery footprint, expanding to cost-efficient locations and generally optimizing our ways of working, so we can continue to provide premium service at attractive value to our global client base. I firmly believe EPAM continues to be well positioned to capture rebound in market demand, driven by long-term pressures for legacy modernization with needs for advanced customer-centric solution and by significant interest on how to apply GenAI and GenAI capabilities to build new platform and solutions. With this, I would like to pass to Jason to provide additional details on our results in Q2 and our future performance.

Thank you, Ark and good morning, everyone. In the second quarter, EPAM generated revenue of $1.147 billion, a year-over-year decrease of 2% on a reported basis or 1.7% in constant currency terms, reflecting a negative foreign exchange impact of 30 basis points. Due to our exit from the Russian market, we no longer generate revenue from Russian clients. The impact of this exit had an approximate 50 basis point negative impact on year-over-year revenue growth. Excluding Russia revenues, year-over-year revenue for reported and constant currency would have decreased by 1.5% and 1.2%, respectively. Moving to our vertical performance. Life sciences & healthcare delivered very strong year-over-year growth of 22.4%. Growth in the quarter was driven by clients in both life sciences & healthcare. Consumer goods, retail and travel decreased 7.7% on a year-over-year basis, largely due to the declines in retail, partially offset by solid growth in travel. Financial services decreased 5.6% year-over-year, driven by softness in asset management, banking and payments. In the quarter, the vertical delivered slight sequential growth, indicating stabilizing demand. Software and hi-tech contracted 3.7% year-over-year. Business information and media declined 12.6% compared to Q2 2023. Revenue in the quarter was substantially impacted by the previously discussed ramp down of a top 20 client. And finally, our emerging verticals delivered solid year-over-year growth of 10.6%, driven by clients in energy and telecom. From a geographic perspective, Americas, our largest region, representing 60% of our Q2 revenues, grew 1.8% year-over-year on a reported basis and 2% in constant currency terms. EMEA representing 38% of our Q2 revenues, contracted 6% year-over-year and 5.6% in constant currency. And finally, APAC declined 0.6% year-over-year or 0.2% in constant currency terms and now represents 2% of our revenues. In Q2 revenues from our Top 20 clients declined 3.7% year-over-year, while revenues from clients outside our top 20 declined 1.1%. The relatively stronger performance of this latter group was driven by both new client and inorganic revenue contributions. Moving down the income statement. Our GAAP gross margin for the quarter was 29.3% compared to 30.9% in Q2 of last year. Non-GAAP gross margin for the quarter was 30.8% compared to 32.6% for the same quarter last year. Relative to Q2 2023, gross margin in Q2 2024 was negatively impacted by the strengthening of currencies associated with certain delivery locations as well as the impact of compensation increases, including those resulting from our recent promotion campaign which we were not able to offset through pricing. The negative impact of foreign exchange and compensation increases exceeded the benefit of improved utilization. GAAP SG&A was 16.9% of revenue compared to 16.7% in Q2 of last year. Non-GAAP SG&A in Q2 2024 came in at 14.3% of revenue compared to 14.8% in the same period last year. SG&A improvement in the quarter is the result of our ongoing focus on managing our cost base and increased efficiency in our spend. GAAP income from operations was $121 million or 10.5% of revenue in the quarter compared to $144 million or 12.3% of revenue in Q2 of last year. Non-GAAP income from operations was $175 million or 15.2% of revenue in the quarter compared to $191 million or 16.3% of revenue in Q2 of last year. Our GAAP effective tax rate for the quarter came in at 26.3% and our non-GAAP effective tax rate was 24.3%. Diluted earnings per share on a GAAP basis was $1.70. Our non-GAAP diluted EPS was $2.45 compared to $2.64 in Q2 of last year, reflecting a $0.19 decrease year-over-year. EPS was positively impacted by a Serbian government investment incentive received and recognized in the quarter which improved Q2 diluted EPS by $0.06. Although the benefit from this incentive was contemplated in the full year guidance communicated during our Q1 earnings call, at that time, we had expected to receive the incentive and recognize the benefit in Q3. In Q2, there were approximately 58.1 million diluted shares outstanding. Turning to our cash flow and balance sheet. Cash flow from operations for Q2 was $57 million compared to $89 million in the same quarter of 2023. Free cash flow was $52 million compared to free cash flow of $82 million in the same quarter last year. At the end of Q2, DSO was 76 days and compares to 73 days for Q1 2024 and 71 days for the same quarter last year. The uptick in DSO reflects an increase in the time some clients are taking in the review and approval of payments, combined with the last few days of the quarter falling on a weekend. Share repurchases in the second quarter were approximately 1.16 million shares for $214 million at an average price of $184.97 per share. In June 2024, EPAM completed the share repurchase program authorized on February 13, 2023. Over a period of 16 months, 2.24 million shares were repurchased at an average share price of $222.90. On August 1, 2024, the Board of Directors approved a new share repurchase program with authorization to purchase up to another $500 million of EPAM common stock over a term of 24 months. We ended the quarter with approximately $1.8 billion in cash and cash equivalents. Moving on to a few operational metrics. We ended Q2 with more than 47,000 consultants, designers, engineers and architects, a decline of 4.8% compared to Q2 2023. Sequentially, production head count remained unchanged as the company reduced head count in certain on-site locations, while continuing to hire in India. Our total head count for the quarter was more than 52,650 employees. Utilization was 77.5% compared to 75.1% in Q2 of last year and 76.8% in Q1 2024. However, on-site utilization remains below targeted levels and the company will continue to take actions to optimize on-site resource levels to improve utilization. Now let's turn to our business outlook. Although client demand has stabilized, we continue to see very little improvement in the near-term demand environment. We are experiencing growth in certain verticals, seeing relatively high levels of new logo activity and working with clients to bring GenAI programs into production. We are also beginning to see some constructive improvement in client discussions with regards to future programs. But decision-making continues to be relatively cautious as some clients continue to have challenges with their own end markets and revenue generated by individual new logo accounts is on average, less than that generated in prior years. Although we believe clients are beginning to more actively engage around new initiatives, our guidance assumes macroeconomic stability with no improvement in the aggregate demand environment for the remainder of the year. We are hopeful that change in the tone of client conversations will result in an improved demand environment in 2025. For the remainder of 2024, we are expecting a slight increase in Q3 revenue relative to Q2 driven by greater build-outs in the quarter, substantially offset by higher vacation levels. We are expecting a modest sequential decline in Q4 revenues, driven largely by some of the seasonal factors mentioned previously. We are maintaining our focus on demand generation and we'll continue to prioritize revenue growth for the remainder of 2024. At the same time, we are taking steps to improve cost efficiency and on-site utilization and now expect to operate at a higher level of profitability in the fiscal year. Finally, our operations in Ukraine continue to run at high levels of utilization, a testament to our team's dedication and focus on maintaining uninterrupted quality of delivery. Our guidance assumes that we will continue to be able to deliver from our Ukraine delivery centers at the productivity levels similar to levels achieved in 2023. Moving to our full year outlook. Revenue is now expected to be in the range of $4.590 to $4.625 billion, a negative growth rate of 1.8% at the midpoint of the range. The impact of foreign exchange rate growth is expected to have a positive impact of approximately 10 basis points. At this time, we expect approximately 1% of revenue contribution from already completed acquisitions. We expect GAAP income operations to now be in the range of 10.5% to 11% and non-GAAP income from operations to now be in the range of 15.5% to 16%. We expect our GAAP effective tax rate to now be 21%. Our non-GAAP effective tax rate which excludes excess tax benefits related to stock-based compensation will continue to be 24%. For earnings per share, we expect the GAAP diluted EPS will now be in the range of $7.18 to $7.38 for the full year; and non-GAAP diluted EPS will now be in the range of $10.20 to $10.40 for the full year. We now expect weighted average share count of 57.9 million fully diluted shares outstanding. Moving to our Q3 2024 outlook. We expect revenue to be in the range of $1.145 billion to $1.155 billion, producing a year-over-year decline of 0.2% at the midpoint of the range. And on a constant currency basis, we expect Q3 revenue to be flat year-over-year. For the third quarter, we expect GAAP income from operations to be in the range of 10% to 11% and non-GAAP income from operations to be in the range of 16% to 17%. We expect our GAAP effective tax rate to be approximately 24% and our non-GAAP effective tax rate to be approximately 24%. For earnings per share, we expect GAAP diluted EPS to be in the range of $1.75 to $1.83 for the quarter and non-GAAP diluted EPS to be in the range of $2.65 to $2.73 for the quarter. We expect a weighted average share count of 57.4 million diluted shares outstanding. Finally, a few key assumptions that support our GAAP to non-GAAP measurements for the remainder of the year. Stock-based compensation expense is expected to be approximately $45 million for each of the next 2 quarters. Amortization of intangibles is expected to be approximately $6 million for each of the remaining quarters. The impact of foreign exchange is expected to be a $1 million loss for each of the remaining quarters. Tax effective non-GAAP adjustments is expected to be around $13 million for each of the remaining quarters. We expect excess tax benefits to be around $1 million for each of the remaining quarters. Severance driven by our cost optimization program is expected to be around $10 million for each of the remaining quarters. Finally, one more assumption outside of our GAAP to non-GAAP items. With our significant cash position, we are generating a healthy level of interest income and are now expecting interest and other income to be approximately $13 million for each of the remaining quarters. While we work our way through this cycle of lower demand, we will continue to run EPAM efficiently, positioning the company to capitalize on a more normalized demand environment. Lastly, my continued thanks to all our employees for their dedication and focus on serving our clients and driving results for EPAM. Operator, let's open the call up for questions.

[Operator Instructions] Your first question comes from the line of Maggie Nolan of William Blair.

I wanted to dig into the utilization and the dynamics between on-site and offshore. So first of all, what percentage of the workforce is considered to be on site this quarter? And then is offshore utilization running higher than what you view as sustainable to offset some of that weakness on on-site because you're not too far off from your historical range here?

Yes. The -- I think we feel that the offshore utilization is actually quite healthy. And I'm struggling right now to remember exactly what our on-site percentage is but from a total head count -- but from a utilization standpoint, it's definitely lower than we would traditionally run at. And it continues to be the area that I think we find ourselves somewhat challenged in. And so it probably is also contributing somewhat to revenue growth for the remainder of the year, where we continue to see more demand for offshore and incrementally more demand for India and again, continue to run at somewhat lower levels of utilization on site. And that's something that we are working to address, pull-through demand generation and also through taking some actions, as I referred to in my prepared remarks.

Got it. And then somewhat related, just building on that, the improvement in the margin outlook, is that primarily related to those actions that you want to take on utilization? Are there other levers you're pulling? And have you already seen some progress here in the third quarter to fuel that optimism in the increased number that you gave?

No, absolutely. And so the focus has been on sort of cost optimization after we reset our expectations for revenue growth. So we've been more efficient in corporate functions and SG&A. We've been working on utilization. And so yes, the actions that we intended to take are underway and it is beginning to show up probably even in a little bit of the benefit that we saw in profitability in Q2.

Your next question comes from the line of Bryan Bergin from TD Cowen.

I hear you on the overall complex demand environment. I wanted to dig in on the demand progression in the top accounts. that you saw over the last 3 months as well as just how you see the top clients, particularly the top 5 to 10 performing in the second half and as you exit this year.

So I think despite of the opticality of the clients for the top 5, there is only one client which is declining and this is basically a continuation of the trend which we saw before. And even this client decline, kind of getting less and getting to a more stable environment right now. So but in general, it's exactly like we commented before. It is pretty stable.

Yes. And that top 5 client, this is the one that we talked about in the past which is a European business information and media client.

Okay. All right. That's helpful. And then just on the GenAI front, can you dig in a little bit more on the progression of GenAI-related work as far as just maybe any rough quantification on the size of some of these programs and the mix of really the POCs that are moving into production?

So it is pretty challenging, especially when we're thinking that -- we're trying to understand how some of our talents quantifying this. And it's very much all around the well. So that's why for our internal understanding and integration, we have kind of fewer GenAI-related projects and some influence revenue and so on and so on. So from this pure type of stuff, a lot of small POC now approaching high hundreds of thousand or low millions of dollars. This is already starting to happen. So -- and this is dozens in our case. And again, it's very difficult to compare apple to apple when we're hitting some numbers for competition. At the same time, from influence point of view, we started to go already to tens and upwards of hundreds of millions as well. So very different even from 6, 9 months ago.

Okay. Understood.

Still, if you think about it, it's a very small portion of our revenue. And I think general trend that -- when during the POC, there is a confirmation, the potential ROI and excitement, then it's coming back to the technical debt which we were talking about during the last quarter. And companies realize that to actually get the benefit of this, it requires really investments and go to some data modernization program which is much needed and require much more depth. And that's actually one of the showstoppers to real progression, because they are not ready yet.

Your next question comes from the line of Darrin Peller from Wolfe Research.

Could we just touch for a minute on the sequential math? Looking at the guide, it looks like the dollars of revenue expected is pretty much exactly flat or almost exactly flat going from second through the end of the year. And I know you're trying not to embed any type of upside or inflection. Just -- I know there's also some seasonality typically in Q4, although things like budget flows have been tougher lately. But maybe just touch on that for a minute in terms of your expectations on a per quarter basis. And then really just go back to the overall demand environment, where you're seeing clients spend what you think you can do that maybe must -- a little bit less related to the macro and more idiosyncratic as we've been seeing more and more IT services companies trying to really address current needs as much as possible. So anything more you can just comment on where the demand is today, especially if the macro holds at a slower level for a while, what you think you're doing that's resonating the most.

Yes. So I'll just start with the more technical, I guess and I'll leave Ark to answer maybe the harder questions. And so from a Q2 to Q3, you'd have higher vacation and more build days. And so you get a -- you should see a somewhat modest improvement but you should see some improvement in revenues just based on what you can call kind of technical or seasonal factors. And then in Q4, it will depend on what type of vacation levels we see. But usually, you would see even a little bit higher levels of vacation in Q4, lower build days. And then, of course, the question is going to be what type of furlough activity we see. So generally, there is a somewhat significant impact just due to seasonality. And so that's kind of what we're modeling at this time, again, is that generally, a very modest improvement up from Q2 to Q3 based on seasonal factors. And then some degree, a decline unless, as you said, we see some type of budget flush or again, we're able to influence the level of vacations that employees take. Ark, do you want to talk a little bit about overall demand or where we're seeing [ph].

I think our equipment, very much in line with the last quarter. So we -- as we mentioned last time that we don't -- we don't think we can project the market in current situation. So I think it's very much similar. And if quarter ago, our projection range was much broader than today, in just saying that our expectation of good news, we are not confirmed. And our expectation for the great news actually didn't happen as well. So we're narrowing and it's a reflection of the type of projects in play right now. There is no big modernization talk. There are conversations about it but it's not turning into reality. There are a lot of noise around GenAI which is not converting to big revenue as well. But around the business, keeping the status quo on production systems, that's what we're focusing, improving. And again, looking for kind of one-off modernization play where we can really bring the value but it's very competitive and again, not necessarily decided for the client right now. I don't know if I'm giving you answer that you want but...

And I would just add that we're working to change the trajectory in Europe and we are beginning to see some better conversations and opportunities kind of appear there. Again, so that's an area where we're looking to sort of, let's say, change the picture. The other thing I think you see in our fixed fee which continues to go up, we're continuing to sort of explore and work with clients to have more of a committed kind of model around what we'll deliver for a fixed fee or a fixed monthly fee and that's a reflection of what we're trying to do to respond to customer needs and win more business.

Okay. Actually one quick one just on hiring, is just on -- I mean do you anticipate -- if utilization stays in these ranges, do you anticipate needing to hire more? Or I mean, maybe AI or other types of efficiencies can help maintain?

There's certainly some programs where we're clearly working to include AI productivity improvements. But no, we would continue to hire and I think you'll continue to see hiring in the types of geographies we've been talking about which is more kind of offshore certainly with someone [ph] in Latin America.

Your next question comes from the line of Jim Schneider from Goldman Sachs.

First of all, on the discretionary demand environment, it's not surprising to hear of the constraints given what the environment is out there. But what are your clients telling you about the conditions under which they would start to release more spending or more aggressive with new projects in 2025? Is that tied to macro? Is that tied to more certainty around their AI strategy or other priorities they have internally in terms of IT spending?

So we do believe that majority of the kind of decision making, it's environment related right now. Because as soon as kind of situation would be a little bit better, I think investment in general data infrastructure and cloud infrastructure which was delayed will be triggered, because everybody understands the impact of GenAI. And without fixing first this, it would be very difficult know for -- so I think market is holding right now.

And then maybe just in terms of the margins, obviously you delivered good growth and operating margin leverage in the quarter. That was good to see. Was that mostly driven by the mix of head count shifting to India? Or are there other factors there besides the SG&A line? And then, I guess, going into '25, as we exit this year, what kind of further gross margin leverage do you expect to deliver or is this sustainable from here?

Yes. So we're continuing to work on utilization. And the improvement in Q2 was probably a combination of efficiency with SG&A and continued to focus on improving utilization. I think what we've talked about over the last couple of quarters is that we continue to have an opportunity because we've got a fairly heavy pyramid still including in India. And so what we need to do is make sure that we're introducing more juniors into the mix which generally has a broader sort of pyramid, it improves profitability overall, also can allow you to be a little bit sharper with pricing. But the Q2 improvement in profitability was not driven by a shift in India. Again, it was more kind of these operational kind of efficiency factors that we're continuing to work on throughout the remainder of the year.

And in terms of the forward improvement there?

Forward improvement, again, is the work that we're doing on utilization improvement, reducing the bench and ongoing efficiency in SG&A. So again, it's just a focus on certain areas of our operations that we think we can see some further sort of reduction in spend certainly as a percentage of revenue.

Your next question comes from the line of Jonathan Lee from Guggenheim Securities.

I want to get a better sense of how India is progressing. Can you help unpack the type of volumes you're seeing there and whether expanded presence has had any sort of influence on new types of demand or types of contract structures being utilized, especially if you think about the revenue and margin dynamics that are contemplating the outlook?

Yes. So I'll let Ark talk a little bit more about the type of work in progress. What I would say is that from the last time we spoke with you, Jonathan, is that India is likely to make a somewhat -- a very slightly greater percentage of head count by the end of the year. So last time, Ark and I were talking about something approaching 20%. We now think that India will be slightly above 20% by the end of the year. And what you are seeing is a modest pressure on average bill rates as a result. And that probably is also sort of shaping how we look at the second half. So it's not super significant. But I think last time -- sometimes we would utter the word, 19.5% and right now, we think that India is going to account for just over 20% of our head count by the end of the year. So we continue to see a modest gradual shift there, while at the same time, we are seeing improved utilization in our other areas of operation, in Europe and Western and Central Asia. So it's not as if all the demand is shifting to India but we are seeing ongoing kind of increment in India. Ark do you want to talk about type of work or...

Type of work, like I think that's what we shared already today. We consider like this into India, there is a pricing pressure. So this is definitely a very objective kind of component. At the same time, the type of work which we do, not changing much from location to location. And as we said before, EPAM has a kind of reputation for more complex quality engineering solutions. And as we said, we're building actually in the very strong data renewing occupancy. We're bringing like everything that we do around GenAI, productivity improvement for SLDC. We built a digital engagement practice. So it's very much in line with the broad EPAM and the type of work is, again, very, very similar. So from overall perspective, it's also creating different profile of our breadth in India. Because when we started to move work there, we have to bring much more proportionally experienced teams there. And only after this, we will be able to scale to the different pyramid. That's what's happening for us in multi-nesting, some movement of the work, rebuilding the pyramid and still investing in -- wanting to be exactly in line with client expectations because they expect from EPAM independently from location, similar type of service.

Thanks for the detail there. Can you unpack your comments on the lack of improvement contemplated in the outlook? I want to understand what that means for deals that have been signed but perhaps not yet launched or ramped. How much go-get or pipeline conversion is still required to achieve your outlook at both the high end and the low end?

Yes. And the last time we guided, Jonathan, we did talk about still expecting a very modest improvement in demand and what we're now saying is we don't see that improvement in demand. And so we try to be quite prudent with our guide. Clearly within this quarter and clearly, having set the full year guide which obviously is how we're thinking about Q4, it does very much -- particularly if you take the full guide of $4.590 billion to $4.625 billion, it does encompass even things like some potential reductions in demand due to cost reduction efforts at clients or that type of thing. And so I think we feel pretty confident that, again, we have a little bit of sort of downside as clients continue to be sort of cost sensitive. And then the upside probably would be a little bit more in the lighter furloughs, maybe just a little bit of kind of budget openness in the remainder of the year. And again, our ability to probably influence the level of vacation taken by employees to again, give us a little bit more capacity in Q4.

Your next question comes from the line of Ramsey El-Assal from Barclays.

It looks like your percentage of fixed-price contracts has been trending up and it's a little higher now than it's been at least going back quite a ways in our model. What is driving that mix shift sort of away from time and materials work towards fixed price work? Is it geographic? Is it GenAI related? And I guess, are there any implications for margins when it comes to fixed price versus time and materials work?

Yes. So you're correct that it has been trending up and probably will continue to trend up somewhat. And so it's a mix of what would we call percentage of completion and what is sort of a fixed monthly fee. And so it probably does reflect the fact that we're beginning to try to address clients' needs in a way that's a little bit on traditional prepay where we have traditionally been kind of more bleeding-edge complex projects where it was difficult to estimate. We clearly have that type of work but we are trying to be able to sit with our clients and say we can do this for a fixed amount of money or fixed amount of money on a monthly basis. The other thing I think you are probably seeing is some opportunity with GenAI to introduce not only traditional sort of productivity improvement or productivity improvement from GenAI and commit to a series of savings over a period of time. And so you are seeing us also enter into engagements with clients. It may be more a multi-quarter or in some cases, even multiyear that do reflect what we believe is a productivity improvement that we can achieve over time. And that could go either way, right? It can be net positive to margins. If obviously, we've misestimated or sort of delivered poorly, it could be negative. But generally, with fixed fee, you do have the opportunity to improve profitability relative to time and materials because it just gives you more flexibility in how you deliver.

Okay. And a follow-up for me on M&A. I guess, given the buybacks in the quarter and the additional share repurchase authorization, is larger scale M&A off the table? Assuming you're still in the market for tuck-ins to plug capability gaps, what types of assets might you be looking to bring into EPAM?

I think nothing is off the table. So as always in the past, we constantly have conversations and opportunities for different sizes of acquisitions. And -- by insurance back is actually very much functions of if it's going to happen or not. So it's not must condition, it's a direction which we will be executing only if we think that we will ramp up with any other aspects of the business. So if the M&As will be happening, we will be adjusting the numbers, if necessary.

Yes. So we'll do both. But clearly, our bias would be towards acquisitions. And as Ark said, doing something somewhat larger, certainly not off the table.

Your next question comes from line of Surinder Thind of Jefferies.

Just a question around the global delivery footprint. As you look ahead, if revenues was to remain stable, at what point do you think you'll get to your target delivery footprint?

When you say it will be stable, what do you mean? So...

Assuming -- I think there was commentary on the call about on-site utilization being a little bit below expectations. And so there's continued shift for the requirement of resources in lower-cost regions. I think there's previous commentary around maybe not as much demand in nearshore or Western Europe shifting some of those resources through natural attrition to other parts of the world. So that was the -- what I was trying to get at.

I think -- let me try to answer slightly differently. First of all, we definitely move into global diversification from indications of stability and 24/7 on the growing global climate. And from this point of view, we will be much more diversified than in the past. And right now, it's also -- as we mentioned, probably will be the most balanced global direct company. That's a direction. What exactly proportion of this, it's much more difficult question to answer because it would be a function of general demand. When you say like, for example, the assurance in Europe is not so much in demand, it's in many ways, subject to the type of work, number one and the cost pressure, number two. As soon as the market will start to come back to kind of fix the technical debt which we're talking about, that modernization cloud and data program will accelerate to again, make the progress of GenAI transformation much more real. The demand will come back for practically any region. And because of complexity and creativity of these type of engagements proximity will become much more important and pricing component will become less important. So it would influence the structure as well. So again, number one, we will be much more diversified in India and LatAm, it will be a bit the proportion of the total but exactly proportion, we identify it right now.

That's helpful. And then related to that, when you think about all of the new talent that you're hiring, how do you differentiate or attract that talent in the sense that others obviously have large delivery operations out of India. They have well-established connections to the local universities, whereas I would argue you're newer to that region. I realize you've been there since 2015 but just on a relative basis.

So if we're talking about India specifically, I think a couple of factors need to be acknowledged. We have an image of different type of services company, we have an image of much more quality engineering companies and much more closer to what people would think about software tech companies. And from some talent point of view, we compete with these type of companies, the same like with some captives which are trying to build a high-end tech purchases in India. So the image is there already. So at the same time, we are also kind of an underdog in India which means that we have opportunity to play differently and in specific parts of the market, including like bringing our training capabilities and different type of work. I think while there are very large companies, it's -- for us, it's relatively clear how to differentiate us for the labor market, for the type of market. And if you say that we're growing much, much -- like how -- you see it like how India is growing pretty strongly in this situation.

Your next question comes from the line of David Grossman [ph].

Just quick -- a couple of quick follow-ups. If I recall, you said the headwind from India, the mix shift in India was going to be about 200 basis points this year on revenue. Is that still a fair assumption? And do you have any initial thoughts on whether -- or the magnitude of the headwinds would be in 2025?

Yes. I would say that 2% is generally correct. It probably has gone up slightly from when we guided at the end of the Q1 call. And then I would say for next year, my guess is the headwind from India might be greater than 2%. So I guess that's how I'd respond to that, David.

And that's just because of the ramp of headcount? Is that why it's higher in '25?

Yes, it's probably a little bit higher in billable India and a little bit lower in billable on site. And those 2 things are kind of producing what is probably a modest -- modestly lower average bill rate for the company.

Got it. And similarly, I know you've talked quite a bit about the lost clients, I think one was M&A and one was something else. And I'm just trying to remember whether you quantified that headwind this year and next and when we come out against that headwind?

Yes. So the one that is kind of the M&A like exit which is the one I usually refer to, I think we called out at the end of the year. And then it was double-digit revenue, like it was over $10 million a quarter. So it was a significant number. And then the other one is the one that has been sort of slowly reducing their demand for our services and that continues to be an ongoing trend. And that was a little bit related to their hesitation around our Ukrainian footprint. And then I think they're also just doing a little bit of work around bringing some positions in-house. But we still, again, have demand from them but just there's been a gradual decline over time. And I think you'll continue to see that for the next couple of quarters.

Got it. And just one last thing. Just on the DSO, Jason, I know it was up last quarter and it was up again sequentially. Should we see that or do that as maybe a macro dynamic that's affecting all your accounts? Or is this another way of providing better terms to remain more competitive? Or is there something else going on?

Yes. I would say that on the 76 was definitely a result of just the last couple of days being on a weekend and so we saw a significant amount of cash coming on the Monday and Tuesday but that was here in Q3. But David, I would say that as we've moved towards more fixed fee, that is having an impact on DSO, because it does kind of impact the invoicing. And I do think that you're likely to see something closer to 74 for the second half of the year. And again, that's due to the shifting in the type of contracting we've been doing. So then I guess with that, maybe we're...

Operator, we have time for one more question.

The final question comes from the line of Jamie Friedman from Susquehanna.

So with regard to your last answer, Jason, that was really interesting about the fixed price to DSO. I'm just wondering also just related to that, is fixed -- is the growth in fixed price related to generative AI or outcomes-based pricing? That's my first one. And then my second one, I'll just ask it upfront, is Ark, could you call out what's going on in life science? I know Jason mentioned it's a combination of both healthcare and life sciences in his prepared remarks. It was a featured topic at the Analyst Day a couple of years ago. It seems like it's working now. So any high-level stuff, first, on fixed price; and second, on life science?

Fix fees, certainly, there's, I would say, some experimentation with sort of fixed fee with productivity that's GenAI driven. I don't think that's showing up in the numbers right now but it may continue to sort of show up in increased fixed fee. I would say more so, again, clients are looking for us to step in and say, we can deliver a certain program for a fixed amount of money or we can deliver a certain amount of story points for a fixed amount on a monthly basis. And again, it is -- it allows us to be a little bit more competitive. And then we are doing a little bit more business in the Middle East and that market tends to be more fixed fee oriented as well. And so those would be the two things on that. And then growth in life sciences & healthcare, Ark?

Yes. I think we were talking about it. We were talking about building more industry expertise in this area. And in general, from our conversation several years back, it was positive growth, while it was a couple of things when client situation was actually changed. Right now, it's pretty positive. I think concentration of data programs in our life sciences & healthcare business is actually very high which is still in demand today. And again, combination of industry expertise which we invested in some level of consultancy and again data program proportion makes this a benefit for us. And that's with how we look into some other industries, how we can change the trend similar to what is happening here. I think time is over. And as usual, thank you for joining us today. So I think we're trying to communicate that while situation as it is right now, we do believe that EPAM is all focused on cloud data engineering and with GenAI, pretty well positioned for the future growth when markets come back. So I know we repeated this each time but it's actually -- we very much believe it. And we will be ready for a comeback and anticipation. We'll see how many quarters we will have to still wait for this. But again, thank you and let's talk in 3 months.