What makes EPAM (EPAM) systems an attractive investment?

“It was a difficult quarter. Negative results for Endava, EPAM Systems, Inc. (NYSE:EPAM) and Converge could not be offset by the strength of Amazon.com, Nu Holdings and the precious metals licensing companies. The portfolio was impacted by middling gains and downgrades to our IT services and software positions as corporations prioritize IT spending related to artificial intelligence (AI). The market itself had a strong first half, but it is important to note that much of that gain was driven by a select few stocks, with the equal-weighted S&P 500 up about 5.1% in the first half of the year. We explain why we see the current environment as similar to the 1970s, rather than the late 1990s, at the end of this letter.

Our portfolio is heavily weighted towards technology companies. Technology, whether in the form of railways, electricity, radio, motor vehicles or the internet, has always had the potential to disrupt existing industries and create entirely new ones. Our experience is that investing becomes slightly easier and much more profitable when done in secular, high-quality growth companies – as long as you pay attention to valuations.

This positions us in companies like EPAM and Endava, which are IT services companies that help other corporations implement new technologies. These are high-quality companies with solid economics, led by their founder-CEOs. AI is the new technology trend right now, and the focus from investors is on investing in hardware that supports AI capabilities. As the necessary hardware becomes more widely available, the focus will likely shift toward building and optimizing AI applications. EPAM and Endava will benefit from this cycle, as they have built reputations for delivering specialized and complex IT projects. However, AI is still a new technology, and customers need time to identify the best use cases. This has led to a cautious “wait and see” approach from customers that is currently stifling demand for IT services. The timing of the sector’s demand recovery is uncertain, and as we have discussed earlier, the market hates uncertainty.

We believe the market has overreacted, with EPAM and Endava now trading at historically low multiples of reduced earnings. Ultimately, corporations will need EPAM and Endava to help them design, build, test, and deploy AI applications. We have added to both stocks and lowered our cost base, which we anticipate will increase the overall IRR of the portfolio.