Welcome to Sapiens International Corporation's 2021 First Quarter Results Call. . As a reminder, this conference is being recorded May 4, 2021. It is now my pleasure to introduce your host, Daphna Golden, Sapiens VP, Head of Investor Relations. Daphna, you may now begin..

Thank you, and good day, everyone. Our earnings release was issued before the market opened this morning and was posted on the company's website at www.sapiens.com. Here with me today representing Sapiens are Roni Al-Dor, President and CEO; and Roni Giladi, CFO..

first, to establish long-term customer relationships with the best solution to serve their need and to support their digital transformation initiative; second, to grow our business in our key geographics with our land-and-expand strategy to gain market coverage and become closer with our customers; and third, invest in our products to maintain our market leadership position and competitive advantage.

In quarter one, revenue climbed once again, reaching a record of $110 million, 22% higher than last year. This achievement delivered a 30% increase in operating income, which operating margin reached 17.2%, up from 16.1% last year. Sapiens is a global company operating across multiple insurance markets and deploying a diversified product offering.

This strategy allows us to balance our growth, resource, investment and risk across regions and markets. Over the past quarter, we continued to experience strong industry demand of our core and digital offering globally.

In North America, we have grown our business in recent years, from strategic M&A and organic growth, including investment in the integration and R&D. In the Life & Annuity space in North America, we are starting to see growth in our pipeline for CoreSuite Life & Annuities..

first, our planned initiative to manage our growth and investment in delivery capabilities in the North America P&C CoreSuite business; second, the recent spike in COVID-19 in India, which will increase our labor cost in the short term. We assume these 2 factors are only temporary. In Q2 2021, we expect operating margin to be at least 16.5%.

As to operating margin for the full year of 2021, it is now expected to be in the range of 17% to 17.4% compared to the previous range of 17.7% to 18%. On the M&A front, we have added several companies to the Sapiens family in 2020, and we intend to focus efforts on their integration and supporting the customer of the new companies.

We are still evaluating M&A targets in 2021 and act on them if we find the right opportunities. I will now turn the call back to Roni Al-Dor.

Roni?.

Thank you, Roni. With a focus on growth strategy, global diversity and increasing market demand, Sapiens is well positioned for additional success and growth. On a personal note, I would like to express our deepest concern for our Sapiens family in India. The health and well-being of our employees is our highest priority and concern.

We are making every effort to provide support. I would like now to close our prepared remarks and open the call for questions.

Please?.

. The first question is from Sterling Auty of JPMorgan..

I wanted to better understand, in North America, given the traditional strategy of a single-hand-to-shake, how you're going to balance moving to partnering with system integrators.

What part of the projects do you plan the system integrators to handle? What part of the projects do you intend to continue to hang on in-house? And let's start with that..

Okay. Hi. This is Roni Al-Dor. To answer your question, just to remind, we have several products in North America. We have started with CoreSuite and then we have our DECISION management. We have the Reinsurance. We have the Life component. We have Life Core. And we have workers from so many products.

So if we are going one by one, right now, with our land-and-expand approach, we made the decision to start to do business on the CoreSuite on North America. As you remember, like many years ago, we decide to focus mainly in the Rest-of-the-World. Right now, we did all of our work.

So the product is ready for North America, and we try to do it together with SI. Meaning, right now, we have selected SI in order to do a workforce for them with them on their L&P core system. That's one. The second thing, on the P&C CoreSuite, we are focusing today on the mid- and lower tier.

But we believe that our product is a good fit for the highest tiers, and this is what we plan to do, together with system integrators. So that's the second one. And the third product that we are discussing for a long time with SI is our DECISION management. Again, indecision is pure product.

So it's not a lot of hand-to-shake issues because it's mainly the product and sometimes, the customer or their site can do the work by themselves. On top of all of these -- so those are the main products.

On top of that, we -- as I mentioned, we hired Jamie as President and General Manager for North America, and he came from many years in PWC and he came with all of this experience. So he can really help us in the future to build the relationship to exactly -- to see what they can do, what we can do.

It's gradually, we plan to grow, mainly in North America..

All right. Great. I had one follow-up. And just a heads up, I've got 2 teammates that are on the call in two different locations. They say that the audio went silent. So I don't know if the operator might be able to check into that. But my follow-up question is around gross margin.

Looking at the sequential dip, how much of that is just pure seasonality versus other factors that may have influenced it?.

Hi, Sterling. This is Roni. This is not -- this is mainly coming from P&C CoreSuite, P&C in the States. As we mentioned, we need to increase the team to manage the growth accordingly. We expect to increase the gross margin following from the next quarter..

The next question is from Bhavan Suri of William Blair..

I guess I want to follow up on Sterling's question a little bit more. One of the value adds you've had and the differentiations is the one-hand-to-shake, and the other piece is that in COGS, the reason why professional services is so important, is you get some R&D. And in DECISION, which is a pure product, it makes sense to have partners.

But in some of the other businesses, Reinsurance, which you're seeing growth in and innovation in P&C, what happens to innovation and the R&D piece, if you hand that off to a systems integrator? How should we think about the, whatever it is, 8 percentage points of COGS, that are R&D? How should we try to understand where innovation will happen if that goes to Atos, for example?.

Hi, Bhavan, this is Roni Al-Dor. And Roni Giladi will continue. So first of all, all of this idea is part of our product, not all of them, and very focused on a segment. So it's not the entire segment. So I think it's like -- and we plan to do it gradually and mainly in the States and mainly, all the others.

Again, if we are talking about Atos, they are more a BPO type of work, so we are doing the full SI. I -- because we want and we, as a company, that's looking to grow, we believe it will take us much, much faster to grow in the States for the Life.

And anyway, today, we don't have business in the -- or relatively, we don't have a big business on the core product and the same thing on the P&C part. So I think the P&C for the higher tier, today, as you know, it's Guidewire and Duck Creek, and we don't see any reason why Sapiens cannot play in this Tier 1.

And this is why we would like to start to work. As you know, and we know and we learn it right now, it's still a small part of our business, but it can really influence..

If I need to add one more thing. Today, we are working also with a BPO system integrator with a two product work compensation and consolidation master and we know to manage the allocation of resource and still to invest in our products.

And as Roni mentioned, the moving to more system integrators will be gradually over the years, so it's not a onetime event. It will take us time to do this..

I guess just to push a little bit. As you move upper-tier, that's more innovation, that's more complexity, that's more product work.

And so if you give that to system integrators, does your R&D go up? Roni Giladi, should we think of that going up as a percentage of revenue, maybe transferring resources to do more R&D directly in the product? How should we think about that? And then I got a quick follow-up..

You probably are right, but also the license part will go up and that they will compensate for that. Yes, the answer for that is yes. But again, I would like to emphasize this is gradually over time, not in a onetime event..

Got you. Got you. Got you. And then I want to touch on North America a little bit. Obviously, we've seen now two quarters of kind of just not great growth in North America, right? So it's sort of -- we've sort of seen that down sequentially 5% for 2 consecutive periods.

And so help me understand, like I know projects, and so postproduction is less revenue than during the preproduction and the rollout. But given all the wins you've had and the acquisitions, should those just be layering on? So help me think through that process, Roni..

Hi, Bhavan. Several things into it. And I think when COVID came last year in 2020, one of the businesses that we had, worker compensation has been affected by that, and was -- revenue was reduced.

This reduction in revenue has continued from Q3, Q4 and still continued with us going forward throughout the year, and this is one of the reasons for the reduced revenue that you see. The other thing is what Roni mentioned about the challenge in delivery, in managing the growth. We would like to do this more carefully.

And therefore, we see right now a slower growth on the P&C CoreSuite. I want to emphasize that we see quarter-over-quarter growth, but to get to the level of, let's say, you mentioned 2 quarter ends, probably we'll get this towards the end of the year..

The next question is from Chris Merwin of Goldman Sachs..

You have Kevin here on for Chris. It sounds like most of the deals signed over the last 12 months included cloud. Can you unpack that for us a bit? Are those core systems that are being taken in the cloud? Or are they more digital add-ons? Would be great to understand any major change in appetite among customers to migrate to the cloud..

Hi, Kevin, This is Roni G. You're totally right. Most of the deals that we signed in the last 18 months are cloud. I would like to say it's not native cloud, it's single-tenant cloud, both in Europe and in the States. I hope this answers..

Great.

And maybe just a follow-up, I mean, are you seeing kind of more demand from customers? Are you seeing to kind of migrate to cloud within kind of bigger projects? Or is it kind of more kind of incremental kind of add-on deals?.

Currently, what we see is when a prospect would like to go to cloud, this is not if they are existing customer then shift to cloud, this is usually a new deal come to bear, a new deal come to close.

So a new deal comes, and then they move to -- the decision is on the cloud, of course, new technology, with existing customer only when he would like to upgrade. This will come to a question if we move to cloud, yes or no. So right now mainly is a full system solution on the cloud, not add-on..

The next question is from Mayank Tandon of Needham & Company..

I wanted to start with a question about the land-and-expand. Roni Al-Dor, you mentioned that's obviously a focal point for you.

Could you talk about how many products you're selling into the installed base today and how we should think about that over time? Like what is sort of the goal here as you look at the business model over the next few years in terms of selling more and more into your installed base?.

Hi, Mayank. So I will try to answer, and then can Roni help? First of all, the first thing is what we can see more and more is our core products. So this is, for us, is very encouraging that you can see more companies that have policy -- sorry, Life and General Insurance P&C. That's -- and start to want one of them.

They are happy with us, happy with the product and implementation. And they're asking us the second core system. This is we can see more, and we also see some kind of a global player that's coming with a package that they want to see, to buy from one vendor all the suites, including Life to Core. That's one.

The second thing that we can see right now, it's the Digital. A majority of our deals are now coming together with the CoreSuite and the Digital. And the next one is the Reinsurance. We -- because we are very strong on Reinsurance, so we again try, sometimes for the first time.

We think companies are selecting us and maybe implement it later on, but that's another type of example. We have DECISION that we already mentioned. So I think the big suite that we have, and big has a lot of combination. And also, we have some type of example that we start with Reinsurance, and then people are asking us for GO.

So we have many products to offer..

Great. That's helpful color. And I wanted to turn to the model.

And for Roni Giladi, Roni, what was the organic growth in 1Q? And then what are you building into your expectations for the full year?.

Yes. Mayank, the organic growth on a consolidated basis during Q1 was about 8%. On a yearly basis, we'll reach the 10% even slightly, slightly higher, slightly..

Okay. And then the final question on margins.

Could you size the impact of the disruption in India from the increased COVID cases on the model? And I'm just trying to understand, like when do you think you'll be able to recover that impact as you move through '21 into '22? And sorry, just to -- not to belabor the point, but the question will be around -- if you already had people working from home, what has been the cost for disruption? Is it the inability to hire more staff, or are there other factors that are causing the impact on margins to be negative?.

Hi, Mayank, this is Roni. As Roni mentioned in his note, we are very focused on the well-being and the health of the Indian employees. Today, we have about 400 -- 1,400 employees in India. About 8% of them, as of today, have been affected by the COVID-19.

You are totally right, in the last year, all of the employees, I would say, 98% of the employees, worked remotely from home and been able to do this successfully and do complete projects and going live, and the customers were very satisfied.

We see this environment right now, in the spike in COVID, can affect some of the resources that we have today in terms of being able to work with their family at home.

And we are basically looking to find other solutions, either hire more in India, either go to other territories in order to compensate for this resource because we need this resource for the revenue that we are focusing on. So this will create some additional costs.

We expect this to happen, will continue for a few months with us until it will go over. You mentioned about recruiting. I can share some insight. For example, in the last week, we recruited about 14 employees in India. So we still continue to recruit. But we need to find ways to compensate if we have some delays in that area..

The next question is from Ashwin Shirvaikar of Citibank..

So I just want to follow up on that last question and the clarification, I guess, is if it seems like a quarter or 1.5 quarters impact, so the margin impact as well, your margins should recover by 4Q. And if you could break down the margin outlook change, how much is India COVID impact versus North America delivery investments..

Hi. This is Roni G. In my notes, I mentioned that the Q2 profitability level can go, at a minimum, to 16.5%. It will be 16.5% or above. You can assume that the entire difference from Q1 will be the India spike. And after a few months, in Q3, it probably will go up. I mentioned earlier a previous question from Sterling about gross margin.

This also will affect Q2 gross margin. And also, from Q3, we will go see it up..

Okay. Okay. Got it. And then I know a few questions have been asked about SIs.

Just from a strategic perspective, the partnering with more SIs, is that driven by you? Or is that ask from customers? Why the change? What's driving it? And assuming you roll out more SIs, how does the financial model change in terms of margins?.

Okay. I will start, Roni Al-Dor. I just want to clarify, maybe it was a little bit confusing. With Sapiens, we believe on one-hand-to-shake. We plan to continue with one-hand-to-shake. This is our business model, and we stick on it. Now what we decide to do, in the past, we have Atos, as an example. They are fully BPO. They look after our product.

We are doing the implementation together with them. That's fine. This is -- we are not calling a side. This is just partner. They are bringing the BPO. We are bringing all the rest. Now in North America, it's in 1 or 2 products. So like DECISION, DECISION is a -- it's like a product that we don't have the services around it.

So why not to go to system integrators. They are looking and they can more like -- almost like a reseller, it's not really one-hand-to-shake.

On the very specific product, in the Life & Annuities space for North America, in order to penetrate -- because we believe that we have excellent product for Life & Annuity, but we had, for many, many years, a reputation issue and we are, based on all the good things that we did in the past, right now, we want to penetrate to the U.S.

with our products. This is why we are going to -- it's not because we -- nobody -- no customer asked us. It came from us. That's one. Second, right now in Europe and Rest-of-the-World, we are competing with many, Guidewire and all the others, sometimes we see others, but we are working in all tiers.

In North America, only in CoreSuite, in order to penetrate in a very cloud environment -- cloud environment, that you have Guidewire and Duck Creek, I think we can increase our chance to go to this market with SI. So it's all -- everything just came from us, and it's very selective and also gradually. I hope....

Yes. Yes. So that's great. It seems like it's entirely about incremental distribution for a couple of products..

Correct..

Correct..

Ashwin, and therefore, the business model will not change, okay? It will continue with that. It may slightly change. But over time, remember that we have, today, 600 pay customers, all of them are one-hand-to-shake. So the additional incremental will have minimal impact in the beginning..

The next question is from Tavy Rosner of Barclays..

Most of them have been asked.

I was wondering, for the new contracts that you signed, are you still primarily formatting them in a license-plus-maintenance type of format? Or you guys are able to offer kind of subscription-based contracts?.

Hi, Tavy. This is Roni G. I think more than 2 years ago, we shifted from a license mode to a term license, which means including license and maintenance bundled together. And I can say, in the last few months, some of the offers that we already sent out moved to a subscription solution.

Again, as we are signing between 25 to 35 new logos, this is only incremental. So we'll not see the effect immediately of that. But we started to do -- shift into this area..

And then I wanted to ask about the competitive landscape. It's pretty clear that Duck Creek, Guidewire that you mentioned are there with the Tier 1, competing head-to-head. I'm wondering more into the Tier 2 and 3.

Do you see them bidding against you? Or you're primarily still enjoying kind of peace and quiet among the customers you have reached into?.

Definitely, we see two of them in also the higher -- in the lower tier. And we see more also Majesco and Insurety. So we see all of them, mainly in the U.S. In all the Rest-of-the-World, we are more seeing Guidewire. Again, they are also going to the lower tier.

But as you know, in Europe, we have, at least in a few of DACH region, that we have a very good reputation, and based on our local SIs, it can give us some advantage. The company that we acquired gives us some advantage. So the answer is yes. They are also looking for the mid- and lower tier..

The next question is from Surinder Thind of Jefferies..

Just another follow-up question on kind of -- this one is about product strategy, I guess. As you incrementally think about partnering with systems integrators on the margin, does that also impact the product strategy in terms of -- right now, you have different products for different regions.

Any consideration about moving certain products to single-code bases, single architectures that may help? Or how should we think about the longer-term implications for a product?.

Hi. The only product -- the only thing that we are now -- have a different product is on our P&C, so we did in the CoreSuite for North America. All the rest, we have -- so take ReinsuranceMaster, is a global one; take our Life CoreSuite, global; DECISION is global.

So that's for a specific case that Sapiens decides, that will take us many, many years to penetrate with our P&C to North America. So the answer is general. We prefer to work with one product to all the territories..

Understood. And then in terms of just the impact from India, I apologize, I missed the very first question as the line dropped.

Did you quantify the revenue impact of the challenges that you were having in India?.

Hi. We mentioned the challenge on the delivery side that we have. We have 1,400 employees that basically support our revenue globally in Europe and in the States. And because of the spike in COVID-19, we see a challenge that if we'll be able to support this. Today, we have about 8% of our employees affected by the COVID.

For that, we need either to recruit more people or to do overtime or to go to other locations, at least only temporary, in the short term, in order to answer the demand for resource..

So just to clarify, those 8% of the employees, they are nonrevenue-generating at this point?.

Correct. Correct. For the time being, correct..

Understood.

And then when you talk about looking for resources potentially outside of India, is that more of a short-term solution or just more of a broader-term strategy that this may be an opening to think about?.

This is only a short-term solution. We would like to continue to grow India. We have a facility there, a management there. We're sure that over time, it will recover, and we'll be able to support Sapiens' in a global level. Just to mention, the 8%, some of them are also including R&D and therefore do not affect the delivery.

But overall, today, all together, 8% of India resource being affected..

Got it. And then one just final bookkeeping question.

What was the impact in the quarter from -- on margins from TIA?.

TIA, as you remember, was an acquisition that we had in November 2020, where we only consolidated for 1 month. Overall profitability level is 14%. And in Q1, it was -- came in full quarter. We mentioned that the transition or integration with TIA will take us a full year.

And therefore, Q1 obviously was being affected by this margin, a lower margin compared to Sapiens. As we continue down the year, we'll see improvement and also improvement in Sapiens' level..

Got it.

Just to clarify, is the anticipation that you will get the TIA margins, or once you're fully integrated, that they will be at firm margins? Or are you just anticipating an improvement at this point?.

It's as we continue down the year, it will be the similar level as of Sapiens..

. There are no further questions at this time. Before I ask Mr. Al-Dor to go ahead with his closing statement, I would like to remind participants that a replay of this call is scheduled to begin in two hours. In the U.S., please call 1 877-456-0009. In Israel, please call 03-925-5900. And internationally, please call 9-723-925-5900. Mr.

Al-Dor, would you like to make your concluding statement?.

Yes. Thank you for all joining our call today, and see you next quarter..

Thank you. This concludes the Sapiens International Corporation First Quarter 2021 Results Conference Call. Thank you for your participation. You may go ahead and disconnect..