EPAM Systems, Inc.

Moat: 2/5

Understandability: 4/5

Balance Sheet Health: 4/5

EPAM Systems is a global IT services company specializing in digital platform engineering, cloud, and software development. It helps companies transform their business using cutting-edge technology.

Investor Relations Previous Earnings Calls

The moat, understandability, and balance sheet health scores reflect a conservative evaluation to ensure a margin of safety in any assessment.

Business Overview

EPAM Systems is a software engineering and IT services company with a global presence. Their core business revolves around providing customized technology solutions to clients across a range of industries. Here’s a detailed breakdown:

EPAM is a highly profitable company that focuses on creating innovative technological solutions for clients all over the world, having a global outreach. They operate as a technology service provider, that creates value using expertise in software engineering, design, consulting, and product development for its clients.

  • Revenue Distribution: EPAM’s revenue comes from various streams, including digital platform engineering, application development, infrastructure management, testing, and consulting.
    • The company operates across three major geographic regions: North America (accounting for about 58% of revenues), Europe (approximately 38%), and others, which includes Asia, Latin America and others (approximately 4%).
    • Key industries served include financial services, healthcare, technology, business information & media, travel & consumer, and life sciences & healthcare. The company does not have heavy reliance on any single customer and has a diversified customer base.
  • Trends in the Industry: The demand for digital transformation and cloud migration is growing massively. Companies across all sectors are investing significantly in software and IT to improve business operations, enhance customer engagement, and create new revenue streams.
    • Cloud adoption is a key trend, with more companies seeking to shift their business operations to the cloud. This is creating a huge market opportunity for companies like EPAM with strong cloud capabilities.
    • The demand for AI, machine learning, and data analytics are also growing rapidly. Businesses are seeking solutions that can help them to leverage AI and data to gain a competitive edge. This is a growing market for EPAM with good opportunities.
    • The global outsourcing market is rapidly increasing as it is enabling many companies all over the world to get access to talent, reduce costs and increase efficiency. As a company that provides services globally, EPAM is able to compete in this segment.
  • Margins: EPAM’s gross profit margin is healthy, but has been slightly decreasing over the last year. It is important to note that gross profit margin was at its highest during covid, and has decreased since. The company is having increasing operating expenses and a higher head-count as it grows.
    • The gross margins were above 30% in 2022, slightly lower than in previous years.
    • Operating income margin was above 12% for all three years in 2020, 2021, and 2022. But operating profit margin has also been decreasing over the last year, which indicates that the company is having more expenses over time.
    • The net profit margin in the recent years is trending towards double digits, being over 9% in 2021 and above 10% in 2022.
  • Competitive Landscape: The IT services market is highly competitive, with many large and small companies offering software and engineering services. Key competitors include: Accenture, Tata Consultancy Services (TCS), Infosys, Capgemini, and Globant, among others.
    • Competitors, such as TCS and Infosys, are much larger compared to EPAM, and provide similar services.
    • EPAM’s competitive advantage comes from its focus on digital transformation, specialized technical expertise, and its strong relationship with clients.
    • The company differentiates itself with its strong focus on high quality technical expertise and the ability to scale and handle large projects.
  • What Makes EPAM Different?: EPAM is a pure-play software engineering and development company, in a market that is mostly populated by traditional consulting services and IT services companies that provide software engineering as just a small part of their business.
  • The company focuses on hiring and developing a team of high quality engineers, designers and consultants, and has a good track record of being early in the adoption of new technologies.

  • It has a diversified clientele and is not dependent on a single client. *The company has consistently maintained a very good relation with its clientele, and provides them with highly efficient tech solutions. The clients also tend to form long-term relationships.

  • Financials in Depth:
    • Revenues: EPAM’s revenues have grown consistently over the past years, increasing from $3.76 billion in 2021 to $4.82 billion in 2022.
    • A good portion of its revenues are from international markets, including Europe, but the main portion is from the USA.
  • Gross profit margins are healthy, but have been decreasing over the past years, from 36.8% in 2020 to 32.8% in 2022.
    • EBITDA margins have also decreased from 17.6% to 15.8% in 2022, while net income margins have been between 10% and 12% since 2020.
  • The company does not have much debt and has a high level of cash on its balance sheet. The company has been increasing its investment in research and development and also in technology acquisitions.
  • Recent Earnings Calls and Reports: During the Q1 2023 earnings call, management outlined the following key points:
    • Business Resilience: The company stated that revenue growth in the first quarter was good, beating the outlook and achieving high revenues, mainly due to continued demand for technology services, and strong growth of its top clients.
    • Cost Efficiency: They were able to control operating expenses and improve operational efficiency.
    • Geographic growth: The company saw good growth across North America, and expects to see a similar performance in Europe in the upcoming quarter. However, some of the key operations in Europe have been affected by the Russia-Ukraine war, but they have been able to adjust their revenue streams to offset this hit.
    • Guidance: They raised their financial guidance for 2023 and are confident that they will be able to generate over 20% of revenue growth.
  • The management talked about the increased interest in AI by the customers and how they are investing heavily in this sector and are getting ready to serve their clients in the AI space. They are using AI heavily in their internal operations to automate processes and increase efficiency.
  • During earnings calls, management has discussed several long-term contracts with their biggest clients, and are working on maintaining them.

Moat Assessment: 2 / 5

  • Intangible Assets (Brands, Patents, Regulatory licenses): EPAM has some degree of intangible assets in the form of certifications, and a good brand name that many clients know and trust. However, a company that has high specialization and experience is very hard to differentiate, as this advantage has to do more with quality than any form of uniqueness. There are companies that specialize in different segments of IT services, making this a moderately competitive market.
  • Switching Costs: Switching costs for clients are moderate. While moving software systems could involve some degree of implementation difficulty and disruption, it isn’t generally considered an impossible barrier. These days software implementation is very easy because many software companies provide APIs that allow easy data interchange between different platforms, thus allowing clients to migrate seamlessly.
  • Network Effects: There are low network effects for this type of business. More customers won’t necessarily make the service better for other clients, and even if some clients give a recommendation, it will not be as valuable as more clients on the same platform.
  • Cost Advantages: EPAM does not seem to have clear cost advantages, as all the providers provide similar services. The company has not been able to reduce prices or maintain a clear cost advantage compared to other players. Some clients may prefer the company because it has many offices in the western world, compared to competitors with only offices in India.
  • Barriers to Entry: Barriers to entry are moderate, because many new companies enter this space every year to provide tech services at low prices. This increases competition in the sector, and reduces prices.

Overall, I would give the moat rating of 2 out of 5. The company has some structural advantage in intangible assets and switching costs, but they are not strong enough to prevent new competition. Most of the advantage is based on their specialized work force.

Risks to the Moat and Business Resilience

There are many risks to this company, and it is not a foolproof investment. All companies have risks, and EPAM is no exception. These risks should always be considered before buying the stock.

  1. Intense Competition: As discussed, the IT services market is very competitive with low switching costs, and the company can be easily attacked by companies with slightly better and/or cheaper solutions. Competition also increases when there is a change in tech and other companies jump on the bandwagon to create new solutions based on new trends.
  2. Dependence on Large Clients: While EPAM has a diversified customer base, it’s important to note that its top clients make up for a huge part of the revenue. Losing some major clients could hurt their financial stability, at least in the short term. However, the company tries to minimize this risk by securing long-term contracts.
  3. Geopolitical Risks: The conflict in Ukraine has impacted the company’s operations in Eastern Europe, where it has a large number of offices. Many of its European and global offices were working in Ukraine, and the company has had to do a lot to keep the projects running. The war has caused massive disruptions to the IT sector, and can negatively affect EPAM’s financials.
  4. Economic Downturn: Economic downturns will generally lead to a decrease in business spend in technology, which can result in lower revenue and profit for EPAM. In this scenario, competition will increase and clients may seek cheaper alternatives.
  5. Technology Disruption: Rapid advancements in technology may leave EPAM’s core offerings obsolete. For example, new technologies in AI or cloud might make the solutions that EPAM provides, less relevant and/or less needed.

Despite these risks, EPAM has shown that it is very resilient and has come through multiple economic and geopolitical crises in the last few decades.

Understandability: 4 / 5

EPAM’s business model is based on providing tech services, which is relatively easy to understand, though it is still not as easy as understanding some consumer product companies.

  • Its core business operations are to hire people and offer them to clients at high hourly rates.
  • The company invests heavily in keeping up-to-date on the latest technology.
  • The company acquires other companies with promising tech to incorporate them into their processes.
  • Revenues are fairly predictable with multiple income streams.
  • It is important for the investor to realize that profitability and success greatly depends on the management’s ability to maintain high client demand, as well as maintaining a constant flow of engineers and other professionals that are able to take on the projects. It doesn’t have a simple, easily understandable business model like retailers that just buy from a vendor and sell it to consumers, so it gets a rating of 4 out of 5.

Balance Sheet Health: 4 / 5

EPAM’s balance sheet is generally healthy, but it is important to note that the company is having increasing expenses as it grows.

  • The company has large amounts of cash compared to its current debt obligations, which makes it safe in case of an immediate financial crisis.
    • The long-term debt is also comparatively small compared to the large amounts of cash and other assets that the company has.
  • The company’s current ratio is above 2x, which means the company has two times the liquid assets to meet its debt obligations.
  • The company spends a large portion of its profits on research and development, acquisitions and other capital expenditures, which means that some profits may be reinvested, instead of returned to shareholders.
  • The company does not have any major liabilities or red flags that cause concern.

With those numbers, I would give the balance sheet health a score of 4 out of 5.