CI&T Inc: High Customer Concentration In Brazil Keeps Me Conservative (NYSE:CINT)

Thesis

CI&T’s (NYSE:CINT) fourth-quarter results were largely in-line, and the company’s forecast for the fiscal year 2023 is similar to those of its peers in the Digital ITS sector. The year is expected to start slowly, with a sequential decline in the first quarter followed by an improvement in trends throughout the rest of the year. However, CI&T’s guidance is slightly more cautious than many of its peers, which could offer some upside potential. CI&T operates in a vast market for digital transformation services, which is estimated to grow to around $4.6 trillion by 2030. I believe that CI&T’s revenue will grow at a faster rate than the market, given its mix of services supported by its ongoing rapid adoption of near-shore delivery for US-based clients and its advantageous position in serving local clients in Brazil. However, the company’s reliance on clients based in Brazil poses a significant geo-political risk and FX risk for CINT that could affect the company’s growth going forward. I remain on the sidelines for now and will keenly observe the company’s execution of targets in the coming few quarters amidst a challenging environment.

Post 4Q Outlook

The company’s revenue of BRL612M was higher than the expected revenue of BRL608/605M. The revenue growth was a healthy 17% when compared to the previous year’s revenue. The gross margin stood at 38.3%. The company’s higher-than-expected revenue and margins were offset by higher interest expense and a higher foreign exchange loss, resulting in lower earnings.

CINT provided guidance for 1Q revenue to be BRL590M or more, which indicates a sequential decline of approximately 5% in organic growth when accounting for foreign exchange rates. The company attributed this weakness to clients postponing new projects and initiatives as cost-cutting becomes a priority. Other companies in the industry also expect a sequential decline in 1Q, which aligns with CINT’s guidance. However, I believe that CINT’s guidance may be conservative since the company has less exposure to the technology, consumer, and retail sectors, where headwinds are the strongest.

CINT provided guidance for FY23 revenue growth to be between 13-17% on a constant currency basis. The guidance also indicates mid-single-digit sequential growth beyond 1Q, estimated at approximately 4% at the mid-point, suggesting that the company anticipates demand to improve throughout the year. Additionally, CINT has observed clients returning with new projects over the past few weeks, likely after setting budgets for CY23, which is a positive sign. If this trend continues, it could drive FY23 revenue to exceed the upper half of the guided range.

The company anticipates an easier supply environment this year as attrition rates continue to decline. However, there is potential for a decline in utilization rates in the near term, which could negatively impact gross margins. To offset this, the company plans to reduce G&A expenses to maintain and improve margins in the event of slower revenue growth.

TAM & Market Growth Outlook

CI&T’s target market is the enterprise spending on digital transformation services that include cloud computing, digital platforms, AI/ML, IoT, and digital customer experience (CX). The global digital transformation market is projected to grow at a CAGR of 26.7% from 2023 to 2030, reaching $4.6 trillion. The growth is mainly driven by the increasing adoption of cloud services and the penetration of mobile devices and applications. CI&T is well-positioned to benefit from these trends and achieve a near-to-midterm growth rate of 20% due to its reputation for thought leadership in the digital space. Unlike other companies, CI&T does not have to support legacy work that is in secular decline, which gives it an advantage in delivering cutting-edge digital transformation services to its clients.

CI&T’s two key offerings, Technology Consulting and Application Services represent about 40% of the total IT services industry, growing at attractive rates. These services are expected to grow at a premium rate over the next four years. Given a highly fragmented market and CI&T’s specific focus on digital-only work, the company should be able to grow at a much faster pace than the broader market.

High Exposure To Brazil-Based Revenues

CINT’s revenue heavily depends on clients based in Brazil (~40%+), which exposes the company to both foreign exchange and geopolitical risks that could affect its growth. If the Brazilian real depreciates significantly against the US dollar, the company’s revenue generated in Brazil will decrease when converted to USD, which could negatively impact its growth rate. Furthermore, Brazil’s macroeconomic and geopolitical risks could lead to higher fluctuations in the company’s revenue growth.

Valuation

CINT stock is currently trading at a discount compared to its own historical multiple as well as to its peers in the industry. I believe a conservative valuation multiple should be appropriate, specifically given the company’s high exposure to Brazil-based revenue. I believe ~40% of revenue stemming from Brazil based clients exposes the company to FX risks (USD-denominated revenue will be lower if Brazil Real depreciates vs. the USD) and geopolitical uncertainty. Moreover, CINT, as a relatively new public company, does not have an execution track record which should also warrant a valuation discount. I currently do not have a price target on the stock and remain on the sidelines for now.

Final Thoughts

CI&T’s provided a conservative guide to 2023 due to cost-cutting prioritization by clients but anticipates demand to improve throughout the year, with FY23 revenue growth estimated at 13-17% YoY. The company is well-positioned to benefit from the growth of the global digital transformation market, with potential near-to-midterm growth rates of 20%. However, its high exposure to Brazil-based revenue exposes it to foreign exchange and geopolitical risks, warranting a conservative valuation multiple. Therefore, I remain on the sidelines for now and will keenly observe the company’s execution of targets in the coming few quarters amidst a challenging environment.