I'm Bryan Keane. I cover the IT services sector here at Citi, and we're excited to kick off the Citi's TMT Conference with Kyndryl. We have Martin Schroeter as the CEO and Chairman, and Ellen Johnson, who's the CFO. I'm going to run through my list of questions here, and if anybody's got a question, just feel free to raise your hand and we can get a mic to you, or I can ask the question for you. First, Martin, Ellen, thanks for coming.
Thank you.
Just thinking big picture here. Kyndryl provides the critical IT services to enterprises. In your conversations with CEOs and CIOs, what are the biggest priorities on their tech agenda? Are you guys positioned to remain their partner of choice and deepen the relationship by expanding your scope of service?
Wow, okay. First, we do run the systems that run the world. We run five of the seven largest airlines. We run 50 of the largest insurance companies. We run most of the big banks around the world, etc. Our point of view, my point of view, is going to reflect that big large company set of priorities. Our customers are increasingly focused on really three things. One is modernizing their infrastructure. Just based on the very quick description I gave you would guess that our customers are not the born-on-the-cloud crowd.
Our customers have evolved their enterprise IT landscape over, many of them, decades. The new technologies that are now available to them, each of which they're keen to pilot and experiment with and then put into scale production, each of them needs to figure out how to modernize that infrastructure. Sometimes it comes from the infrastructure, sometimes it comes from the application side, and sometimes it comes from a business process. But each of them needs to modernize because the technologies of today, if you use a metaphor, the technologies of today are a bullet train that can travel 200 mi an hour, but the tracks were built for 30 mi an hour.
So number one priority, our customer base needs to modernize in order to take advantage of the new technologies. By the way, the new technologies are the ones that the new entrants are trying. The new technologies are the ones that are going to find their way into the fastest movers. So modernization, top of their list. Second, we live in an increasingly security risk world, so both cybersecurity and more importantly, the resilience that is required.
By and large, our customers, I think, would say that a security risk is not the existential threat, it is the resiliency characteristics that you need in order to come back online, in order to continue to provide services for your customers. So at a time of modernization, at a time of heavy investment to bring that infrastructure up to speed, they also need to be aware of an increasing threat environment. So cybersecurity and resiliency stay top of mind. Then third, this is different in different parts of the world, but our customer base, again, I gave you a brief description.
You would speculate that many of our customers are in regulated industries, certainly which they are. So there is, even if regulated or unregulated, there is an increasingly complex geopolitical environment that they need to navigate. When they are thinking about who do they trust and how do they partner with us, they are also thinking about longer-term decisions. They are thinking about something that is going to last five or six or seven years.
So in an environment where some of the leading technology firms, some of the new AI firms are making really game-changing announcements every four or five or six weeks, where the regulatory environment is changing rapidly as geopolitics push politicians and others to create new regulatory regimes. Our customers have top of mind this whole new set of stakeholders now around how do I get comfortable that I have the right partner that I can stick with, that are going to bring me into the future when I know that in a week or a month or a year, a lot can change again?
The world is getting increasingly complex, and that is why they use their trusted partner for many, many years, like Kyndryl. That is why we are also signing a lot of new business. That is why we are also signing a lot of new scope with our customers, because we have the expertise, the engineering talent, the innovation that allows them to be comfortable that we can navigate those big priorities, modernization, cybersecurity and resiliency, in an ever-changing geopolitical landscape.
Let me just ask you, on modernization, I feel like we've been working through that for a long, long time. Is there an end road of when we finally get fully through, or is this an ongoing process for years?
I think modernization will always be with us, right? Because today's technology is going to be stale in sometimes it's an hour, sometimes it's in a decade, right? Plus, because of, again, the geopolitical world changing, things come and go in and out of top of mind. As an example, we are seeing now a bit of a resurgence in private cloud, where five years ago, six years ago, seven years ago, private cloud had started to not shrink. Public cloud was more important in certain ways. Private cloud's kind of coming back now.
Again, in this case, it's because of the geopolitical and the private cloud providers, the people who can build the technology for private clouds, have brought a lot of innovation to market. I don't think the idea of modernization is ever going to go away. I think it's always going to be with us. For us, it means that we have to continuously invest in where the world is going. We have to continually build skills that are relevant for today's times. Our view is that the half-life of skills today is probably 18- 20 months.
That's why we have such a heavy investment in skills and education and constantly creating new credentialing for our employees. Similarly, the idea of modernization is not just a technology idea, but we know our customers, employees, we know the workforce, because our customers tell us the workforce is not ready. There's a modernization element that's always going to be with the workforces that we help our customers with as well. I think the short answer is modernization is here forever.
The U.S. segment had 5% revenue growth, I think, for two consecutive quarters. Can you just talk about what is driving that growth and how sustainable it is going forward?
Yeah. Sure. First, I would say arguably, the U.S. is probably the most competitive marketplace there is for a few reasons. One, everybody's here, every competitor is here. Market access is quite good, so everybody is here. That's one. Two, every technology is here. Either it's invented here or it's brought here very quickly. In that environment, it's my litmus test for how competitive are we? What are the value propositions that we're bringing? How deep are our industry skills, and how are we packaging all of Kyndryl together in order to deliver a compelling value prop for our customers?
For us, it's very positive to see that the U.S. has returned to growth. The U.S. has great signings performance because it tells us that what we're delivering to our customers in that arguably most competitive marketplace, where there aren't as many distractions as there might be in other places, tells us we're doing really well. We've won some very substantial new logos in the U.S. in certain industries.
That was driven by our mission-critical expertise. It's driven by our Kyndryl Agentic Framework, which tells our customers how to use agentic in their systems. It's also driven by some new business process innovation that we're bringing to things like state governments, where we're running a number of DMVs, a number of divisions of motor vehicle, because they need to modernize the way they engage with the citizenry in order to provide a more positive experience.
For me, the growth in the U.S., the demand we're seeing in the U.S., the scope expansion that we're getting from our existing customers, plus the new logos that we have driven in the U.S., is a great indicator of how competitive we are, the value props we're able to put on the table, and how our teams are making that shift into the agentic world.
Can you take all that process and that learnings in the U.S., and can you transfer it abroad?
The short answer is absolutely. We run a single global delivery platform. Everything we deliver into the U.S., and we do it on a worldwide platform. Everything we deliver in the U.S., we can deliver anywhere else as well. When you get outside the U.S., the value props change because the priorities change a little bit. There is a lot of discussion right now in Europe, as everybody knows, around sovereignty, data sovereignty, AI sovereignty, services sovereignty, and the Europeans are debating and considering how they want to deal with the sovereignty issue.
That is part of why I say the U.S. is the most competitive, because we just do not have the sovereignty issue here. It really is who has the best value prop for the problem that our customers are facing, again, across what I mentioned around modernization, cybersecurity, and resiliency. In Europe, the priorities are a little bit different. Asia, similarly. Some places, sovereignty is kind of top of mind, and some places, they are really just about how do I get a value prop that is compelling. The short answer, again, for that particular question, we run a single global delivery platform.
We can deliver what we deliver in the U.S. anywhere in the world, and we take those value propositions that we have created. They tend to be more industry than geography-based, but we take those value propositions, and we do show up in our customers, in order to help them modernize. As an example, we just signed a pretty substantial new relationship with the Bank of Luxembourg, obviously European, obviously regulated, and we will turn the Bank of Luxembourg into the first European agentic bank. That was the structure.
I mention that one because some of what we have done here in the U.S. is as we start to move up to the application modernization world, shows up very strongly also in the Bank of Luxembourg. Infrastructure modernization is part of what we have been doing for a long time. Application modernization is something that we have been delivering now in the U.S., and now we are bringing some of that to Europe as well with, again, some good wins. As I mentioned, private cloud is not as big here in the U.S., but in Europe, private cloud is big. We have a lot of new logo, a lot of scope expansion around building and delivering private cloud environments into that customer base because, again, sovereignty is kind of top of mind for many of them.
Just staying on that, I think you guys were seeing elongated sales cycles in Europe and Asia- Pacific. A lot of that was due to geopolitical and some of the sovereignty issues. Are you still seeing those elongated sales cycles? Is there a way to get around that, maybe starting the renewal process earlier?
It is still top of mind, right? Sovereignty is still, like I said, top of mind. We start discussing with our customers usually 18 months before they get to the end of the contract term, which is very logical. Whether it signs in the fifth quarter before or the fourth or the third, our customers need to get to the right spot. They obviously don't want to be in the last quarter. They would feel kind of exposed if the whole thing were ending in a few months. But they have time and as I mentioned earlier, because they're going to make a long-term commitment five, six, seven years, and they know that the world is going to change dramatically.
They're being very thoughtful about who do they want to partner with. There's a whole new list of stakeholders now in the discussion. I mean, not 20, but you do have additional scrutiny from regulators on what are you signing up to do and with whom for a long period of time. You do have additional challenges to navigate in terms of not only the regulatory environment, but the geopolitical environment, as I mentioned. We've seen a number of countries head down different paths, particularly in Europe, on how to deal with geopolitical uncertainty.
Some are trying to support local champions for certain workloads, for certain government kinds of workloads. You have a whole new set of stakeholders. But we have typically sort of seen elongated sales cycles. I don't expect it to change. I don't see it elongating further, but we did see a slight uptick in how long it took to get things closed. Again, because you have new stakeholders, you have long-term commitments, and you have a world that's changing so fast. They just need to be sure that this long-term commitment is not going to be something that they're unhappy with in 12 months' time.
What's driving the strength you guys are seeing in Kyndryl Consult and hyperscalers? Do you expect both to continue to be key drivers of growth for Kyndryl going forward?
Yeah. The short answer is yes. I expect that the momentum we've seen in Consult and the momentum we've seen in our hyperscaler related businesses will continue. Let me start with hyperscalers, because I think it's indicative of what kind of results you can drive when you're the trusted partner, when you have deep understanding of your customers' environments, and you align and partner with the companies that really matter to the customer base in our industry. When we were spun out nearly five years ago now, the commercial construct between IBM and Kyndryl meant that Kyndryl had to buy from IBM about $4 billion worth of stuff every year.
That was a construct that IBM created. Last year, we finished with just under $2 billion. We've been successfully pulling the IBM content out. We still do the services, so the labor-driven elements that sit underneath that, we still have. In fact, they're growing. We run more than half of the world's outsourced mainframes. But the IBM hardware and software content, which we've been focused on, we called it focus accounts for four years, the IBM hardware and software content, we found ways to get our customer base to buy that directly from IBM. We went in that space, we took the four down to two, and it'll continue to shrink in our revenue base.
At the same time, the revenue we had from working with AWS and Google and Azure was zero at spin. It was zero. Last year, we finished just call it $2 billion worth of revenue. We did it because we invested in skills. We have 30,000 credentials now across the hyperscalers. We invested in skills. We built new capabilities specifically around those clouds, around resiliency, around security, around data management. Then we partnered with them, and we built a partnering culture because this customer base has been asking this business to help them with their most difficult technical challenges, like moving workloads onto the cloud and then managing in a more diverse, and complex environment.
They've been asking this business for years to do that, but as part of IBM, we didn't have the freedom of action to partner with those businesses. The hyperscaler business not just makes us more relevant to our customer's future, but it also now aligns us with where they're growing. You see the hyperscaler, they're printing growth numbers 30% a quarter, and we're on that same path. Because again, the work we do around moving workloads to Azure or GCP or AWS means that the resiliency features that they are exposing, the security features that they're exposing as they move into those more complex workloads, drives more demand for us.
I see continued good demand in hyperscalers. We saw it in the first quarter. I think we've got some pretty good growth, for the foreseeable future in hyperscalers. On the Kyndryl Consult side, going back five years when we were spun out, this business was, again, it has the best engineers who know our customer systems well. Our customer relationships, obviously we have new customers as well, but some of them go decades. We deeply understand these complex systems, and these are the systems that have to run.
This customer base has been asking Kyndryl prior, obviously post-spin, but prior, please help us, please advise us. IBM didn't invest in this business, so it couldn't invest in skills, it couldn't invest in capabilities. It didn't bring the industry knowledge that it needed. We made a decision very early. By the way, the mix of Consult within our overall revenue streams was single digit. It was like 8% or 9% of our overall revenue streams were Consult. We knew because we had the trusted spot in our customers' environments, we had the relationships. All we needed to do, I'm going to make it sound easy, it was a lot of work.
All we needed to do was invest in skills, bring in some industry talent, and then make ourselves relevant to where our customers were going and help them with their most challenging problems. That's why just even last fiscal year, we've been running it, the mix has improved dramatically in terms of how much of our revenue streams are Kyndryl Consult versus managed. More importantly, even just Consult as a thing, it's had a book-to-bill north of one since we were spun out. We see continued growth in Consult because the role we play in helping customers modernize and in helping them move into an agentic world, that capability sits in ` Consult.
There's a lot of concern around what AI means for services and the services industry year to date is down a significant number. How is AI, in your eyes, changing the traditional managed services business?
It's a great question. We hear similar, what is AI going to do to us? I will tell you that AI for us is a tailwind for a couple of reasons. First, we have to sort of establish the business model. Our business model is very much an outcome-based business model. We have to deliver outcomes to our customers. We have to deliver uptime. We have to deliver resiliency features, security features, data management features. We get paid when we deliver those things. Whether we use 100 people or 80 people or 20 people, our customers need a great value proposition, and as we get more efficient, they expect to share in that.
We've been doing that for years. We've been delivering productivity to customers for years, and these new technologies allow us actually to deliver even more productivity, because we're outcome based, while still sharing in that. That was how, for the last five years, we took profitability, from substantially very negative, $500 million on an adjusted basis, even a $500 million loss roughly to this year's guide of north of $600 million.
We've been able to create great value propositions, grow signings, build our backlog of business. So that means we're delivering great value props all while improving our own profitability because, again, we're an outcome-based business. AI for us means a couple of things. One, it means we can be more efficient. It means we can get to solutions faster. We can get to understanding faster. As we sit here today, we have about 1,600 agents in our infrastructure.
An agent would do something as simple as soon as there is an issue, collect all the logs, analyze what exactly the state of play was right before it happened, and then share with the engineers as soon as they get on the bridge, "Here's the data that we have. Here's the data that we've collected, and here's what we think you should go look at." That agent does what 20 people would do five years ago and take them an hour. For us, embedding agentic AI into how we work, we are very much customer zero for our customers.
Embedding agentic AI makes us faster. It allows us to deliver better services. It allows us to be more efficient. So there is a cost which flows directly into profit side for us, again, because we're outcome based. On the demand side, our Consult business is getting roughly 15 million- 16 million actionable ideas from Kyndryl Bridge, which is the way we do what we do. It's our platform to deliver services. And some of them are sort of simple and we can just execute, but some of them require discussion with a customer. "Have you thought about this?
Have you thought about changing this, optimizing this? We can save you money." So, our consultants show up with not only a mastery of their environments, a mastery of their industry, but they show up with actionable ideas that our customers can implement to save money. So it's a bit of a revenue driver for us as well on demand side. AI for us in an outcome-based business model is very much a tailwind to top line and to the bottom line.
The question always is, on that productivity side, on these enterprises ask, when you're doing these renewals, aren't they asking for bigger price cuts than normal over the last several years? Because they know you guys are benefiting from AI as well. So the big debate is who gets the productivity gains? Is it the enterprise or is it Kyndryl?
Yeah, it is both actually. We have created very compelling value propositions that allow us to deliver new scope that either maybe they had not had a service provider provide them, but we can do it more efficiently, or they are taking scope away from others. You have to have a compelling value proposition, which means you have to be delivering productivity in some form or function, to our customers. As I mentioned, we do this in a way so that we are benefiting as well. That is already what is in our data. That is how we have been able to improve our profitability so dramatically.
We are used to sharing in the savings that we are generating and the productivity that we are generating with our customers. That is no different from what we have always been doing. Five years ago when we started, when we were spun out, our customers said, "Look, I know you are investing heavily in your platform, and you have all of this data." We have more data about how these systems run and what works and what does not. Anybody else, they have been asking us for years. "Well, when you learn, when you use all this machine learning, I need to see some of that in my contract." Of course, we have been sharing that with them for a long time. That is not new. That is not new at all for us.
Okay. What are your views on the development of the AI native forward deployed engineer teams and the potential impact on IT services?
Look, important, I think, and can help in bringing expertise into what can AI really do. From an AI perspective, you need to kind of balance people who are deep enough technically to understand the limitations of AI, and they also need to be sort of business and process oriented so they can understand what good really looks like from a process standpoint. Forward deployed engineers can help with that identification, with shortening the pilot times, with heading down the right path as opposed to finding all the wrong ways to do things.
At the end of the day, the impact from forward deployed engineers just means that we get to what we do well faster. We get to running these environments a bit faster, and the faster we can scale, the more run business that generates for Kyndryl. Because while, again, Consult is a big deal for us, our run business is still the bulk of what we do, and running complex systems happens after the forward deployed engineers have figured out, here's where we're going to do and here's where we're going to go. Now you've got to get Kyndryl to scale this for you into production. Again, in the production world, you have to transform these systems while they're running.
Our Run-Transform Run-A pproach allows these critical systems to keep doing what they do, right? You can't have a banking system down for a nanosecond. You can't have payment systems down. You can't have airline reservation systems down. You can't have telecom networks that can no longer count or know who's calling whom and what the bill looks like. These are very complex and getting these to work at scale, getting these to work in production environments is where our unique expertise and our unique ways of working really help.
I wanted to get to the numbers. I think the Q1 revenue was down 3%. Yet you guys reaffirmed your flat to down 2% outlook for fiscal year 2027, and then low single-digit growth in fiscal year 2028. You're expecting a stronger second half of fiscal year 2027 in both earnings and free cash flow. Can you just talk about this ramp-up coming down from 3% back up in the second half of this year, and then you're talking about positive growth in fiscal year 2028. What are the keys to hitting those targets, and how confident that you can see that reversal?
Sure. We are confident. If you look at our backlog and our signings coming into this year, it gives us confidence that we will generate the revenue in the back half of the year, to get to those numbers. If you look at the growth we've had in Consult and hyperscalers, we're expecting that to continue. And we said we expect the drag from the IBM to be constant. On the cost side, you saw we took some significant charges in the first quarter on rebalancing our workforce because our attrition rates have been lower than historical.
And we're going to see those savings in the back half of the year. And then our cash flow is coming in as we expected with a use in the first half, especially as the funds for the WFR will go out in the second quarter. But in the back half of the year, we expect to generate significant free cash flow as well. We are confident that we are able to hit the guidance for this year.
And then as we get into positive revenue growth in fiscal 2028, is there a lot of bookings that you need to sign in order to hit that, or should that just be the normalized run rate of the business?
If you look at the backlog that we have in our pipeline now, it gives us confidence that it will continue. And the things that are doing very well, you see the growth in the U.S. We have hit 5% two quarters in a row. Again, I think that is a proof point that what we are doing is working and what is resonating, as well as the changes we are making to our cost structure should really bode well for next year because you will have a full year of those savings.
And then Martin, you did touch on IBM and that relationship. How does that relationship impact in the top line, and then what does that trajectory look like going forward with IBM?
Look, the relationship with IBM, I think we're still probably their biggest customer. The relationship with IBM continues to evolve. It's quite good. We show up well together with our joint customers. When we look at the progress we've made in pulling out the IBM hardware software content, I view that as a major win for us. Obviously, our customers, we found a way to make it a win for them. IBM found a way to make it a win for them. Our ability to take the four down to two is a success. In my mind, I think it's certainly been a success from our profitability standpoint, and I think it's been a success from IBM's view and our customer's view.
Last year we saw about a three point headwind from all of that activity. We see another three point headwind from all of that activity again. Over time, it has to diminish. While four went to two, I don't see two going to zero in five years. The fact is that many of our customers like to consume IBM's hardware and their software through a services provider. It depends on how every industry has evolved. It depends a little bit on country.
So in Japan, for instance, our Japanese customers like to consume entirely through a services contract. They're, excuse me, they're customers, big customers in the U.S. who've chosen to consume it through a services contract. Again, over time, just because the numbers change over the time, the two will have a smaller and smaller impact as a growth headwind. Our guidance this year of down 2% to flat included that three point headwind. So, that's a good indicator, again, with the signings that have gone in.
It's important, I think, to note, you mentioned bookings. Bookings, very common frame. We report signings, so the difference being that when we renew something, and we get new scope, we report only what's being added to the backlog. To the extent we're renewing something that's already in the backlog, which would be included in a bookings number, we don't report that as new. We only report the signings number, right? So there's a difference there. We're booking more than we're signing, I'll say it that way.
No, we appreciate that as analysts, because-
Yeah.
...a lot of people will hide the renewals, and they'll be quoting a big bookings number. We don't know duration. We don't know how much of that is a renewal versus new.
We think it's more important for people understand what's actually adding to the backlog as opposed to what's coming out and getting replaced immediately. The relationship is very good. That impact, that headwind will diminish over time, including just mathematically. With the continued growth vectors of hyperscalers, with the continued growth vector in Consult, you can see why even now, without that three point headwind, we already see a little bit of growth this year. Then obviously, as you said, we get a little bit of growth next year as well.
All right. We just hit the two minute warning, and I got two questions left. We'll see if we can do it in each. I know you guys just announced a tuck-in acquisition, and you have $700 million in debt. You guys also have a share repurchase program, if I'm not mistaken. How do we think about capital allocation and the strategy going forward?
I'll give you my answer, and then we can have the CFO answer as well. Look, I think we've been very consistent in how we allocate capital. First and foremost, because of the role we play in the world, because of the role we play in our customer environments, because of the nature of what we're delivering into regulated environments, we have been very protective of our balance sheet and making sure that our customer base is confident that we are stable and around for the long term. Recently, each of the agencies has reaffirmed us as investment grade is very important to us.
We finished last quarter with very low leverage. We will continue to focus on our balance sheet. Yes, we have a maturity coming up, which either we will refinance or we will just pay down in the cash we have, but we are focused on the balance sheet. Secondly, we are focused on investing in the business. Again, I mentioned earlier a few times our investments in Kyndryl Bridge, our investments in Kyndryl Consult, our investments in capabilities.
That is really important. It is driving growth. So those investments are working, and we will continue to make those. Another form of investment is the tuck-in acquisition that we announced. Not yet approved, so we are not through it. But we will continue to look for those tuck-in acquisitions because it allows us to either maintain or extend our lead in certain places. In this case, it is around healthcare. We have been very successful in healthcare in the U.S.
Not surprising given, again, the trust that our customer base has in us, the nature of what we do. So we will continue to look at tuck-in acquisitions. And yes, we do have a share repurchase authorization. We have bought back, I think since we put that in place, about 8% of our shares. But it has always been at the end of protect the balance sheet, keep investing, both internally and inorganically, and then with the extent there is excess capital, of course, we are a shareholder-friendly place, so we will return the capital. Now Ellen gets a chance, though, to change any of that.
I couldn't agree more. Investment gradings, financial flexibility, strong balance sheet, and investing in the business.
All right. We are going to go over time, 60 seconds here. The investor base has been rattled in IT services. Obviously, the whole industry is under pressure. What gives you confidence, or what confidence should investors take away about Kyndryl and the outlook?
Yeah, look, the nature of what Kyndryl does, our investments, we are a very sticky platform. We also have pretty good visibility to what's coming because we have a pretty big backlog. Every day we have to deliver. Every day our teams have to deliver the most important workloads. This is a very stable long-term business that is not going away. This is, in fact, a business that is going to get a tailwind from AI. In the world of AI, what really matters is your infrastructure and your data, and there's nobody better on the planet than that world and helping our customers move to that world because we are the largest in infrastructure, and we have the data that helps them understand their systems.
Awesome. Martin, Ellen, thanks for coming.
Thank you.
Thank you, Bryan.