ASGN Inc (ASGN) 2013 Q3 法說會逐字稿

Ladies and gentlemen, thank you for standing by. And welcome to the On Assignment Q3 2013 earnings call.

At this time, all lines are in a listen-only mode. Later we will conduct a question-and-answer session, and instructions will be given at that time.

(Operator Instructions)

As a reminder, today's conference is being recorded.

I'd now like to turn the conference over to your first speaker, Ed Pierce. Please go ahead.

Thank you, and good afternoon.

I'd like to first remind everyone that our presentation contains forward-looking statements representing our current judgment of what the future holds. Although we believe these statements are reasonable, they are subject to risks and uncertainties that could cause actual results to differ materially from the statements, and we do not assume the obligation to update the statements made on this conference call. We describe some of the risks and uncertainties in today's press release and in our filings with the Securities and Exchange Commission.

I'd now like to introduce Peter Dameris, our CEO and President who will provide an overview of our results for the quarter. Peter?

Thank you, Edward. Good afternoon.

I'd like to welcome everyone to the On Assignment 2013 third-quarter earnings conference call. With Edward and me today are Rand Blazer, President of Apex Systems, and Mike McGowan, Chief Operating Officer of On Assignment and President of Oxford Global Resources.

During our call today, I will give a review of the markets we serve and our operational highlights, followed by a discussion of the performance of our operating segments by Rand and Mike. I will then turn the call over to Ed for a more detailed review and discussion of our third-quarter financial performance and our estimates for the fourth quarter of 2013. We will then open the call up for questions.

Now onto the third-quarter results. Revenues in the third quarter were $432.2 million, up 15.4% year over year, and 3.4% sequentially. Income from continuing operations was $20.2 million or $0.37 per diluted share, up from $14.7 million or $0.28 per diluted share in the third quarter of 2012. Revenues generated outside the United States was $20.1 million or 4.6% of consolidated revenues in the third quarter versus $19.2 million or 4.9% in the third quarter of 2012. Adjusted EBITDA was $48.8 million or 11.3% of revenues.

All markets we serve remained productive and stable during and exiting the quarter, and all of our divisions except physician staffing showed positive momentum exiting the third quarter. Once again, we saw particularly strong growth and strength in the IT end markets. Our IT group grew 19.1% year over year. Our healthcare groups continue to make solid progress in improving their operating performance. And in the third quarter, we saw stable demand for our services in our Allied Healthcare groups.

During the third quarter, we built on the increased end market demand in the Allied Healthcare group. Currently, we are seeing a return to more normal usage of healthcare services than what we experienced during 2009 and 2011. And that return to normality is driving demand for our services.

As we have mentioned many times in the past, we firmly believe that the healthcare end markets will provide some of the greatest growth opportunities for our company in the future. Unfortunately, our physician staffing group experienced a more challenging end market during the third quarter than we had expected at the end of the second quarter of 2013. During the third quarter, we experienced a high level of cancellations of physician days sold due to low patient synthesis at our customers' hospitals. This end market condition, along with less than stellar operating execution, led to approximately $1.5 million less in revenue than we had forecasted for this division in the third quarter.

As for the Life Sciences group, during the third quarter, revenue growth improved from prior quarters. The adjustments we made to our operating plans during the first half of 2013 have started to bear fruit, and we expect sequential growth in the fourth quarter and beyond.

Consolidated gross margin of 30.2% was down from 30.9% in the third quarter of 2012, but up from 29.8% in the preceding quarter. The year-over-year compression was primarily due to a higher mix of revenues from Apex, which carries a lower gross margin, and a lower mix of permanent placement and conversion fees. The sequential expansion in gross margin was primarily due to a higher mix of permanent placement and conversion fees, which were 1.7% of revenues for this quarter, up from 1.5% in the second quarter of 2013.

Regarding our operating efficiency, the percentage of gross profit converted into adjusted EBITDA was 37.4% during the quarter. We believe this conversion rate is among the highest in the staffing industry despite a lower contribution of revenues from perm and conversion fees. Our adjusted EBITDA margin was 11.3% in the third quarter and 10.6% in the preceding quarter. Because of our lack of dependence on perm and conversion fees for profitability, we believe that as we increase our contribution from those services as a percentage of our total revenues, we will expand our profit margin from the levels that exist today.

Regarding industry dynamics, during and exiting the quarter, secular trends continued to permit temporary labor to greater growth prospects than full-time labor. Currently we believe the macro economic environment in North America, where we derive 95% of our total revenues, has remained stable and similar to the beginning of the second quarter of 2013. And we continue to see a classic cyclical recovery in professional staffing. More specifically, we have seen a slight positive change in demand in the markets we serve from those that we saw at the end of the third quarter.

As for the financial services sector, we continue to see high demand from our clients in that sector, and it's higher than the demand we experienced in third quarter of 2012. With respect to the 16 day partial government shutdown, we estimate the effect on Q4 revenue will be $1 million to $2 million lower. Ed will provide you our fourth quarter financial forecast later in this call, but based on our current weekly revenues and the normal seasonal patterns, we do not see any appreciable negative change in demand for our services from our customers.

Our operating performance in the third quarter of 2013 and our estimates for the fourth quarter and the full year demonstrate that our business model and areas of focus permit us to grow despite less than optimal economic conditions. As for the actions we took to sustain our positive revenue growth rates, we continue to add to the number of recruiters and sales personnel that we employ.

Exiting the quarter, demand for our services remains stable in all divisions. Our weekly assignment revenues, which exclude conversions, billable expenses and direct placement revenues, averaged $32.9 million for the last two weeks, up 14.7% over the same period in 2012.

Integration, coordination and cash generation related to the Apex acquisition continues to be at or above our expectations. Ed will walk you through the specifics later in this call.

Our leverage is now 2.16 times trailing 12 month adjusted EBITDA. As for an update on our strategic planning, we are making good progress and are in the wrap-up phase. The [Pocranon] group has presented preliminary findings to our board and management, and we still expect to complete this planning process by the end of 2013.

I will now turn the call over to Rand Blazer, President of Apex who will review the operations of his segment.

Great. Thank you, Peter.

Apex Systems had yet another very solid quarter. Our requisition flow from our accounts for Q3 was up on a year-over-year and sequential quarter basis, and we again turn that flow into year-over-year and sequential revenue and earnings growth. We posted represents of $246.4 million, representing 21.6% growth over the same period a year ago and sequential growth over Q2 of 5.5%.

Growth continues to be paced by positive performance across our top 142 accounts in all seven industry verticals. You will recall that our top accounts program represents more than two thirds of our business with retail accounts making up the remainder. Our largest growth came from top accounts in the financial, healthcare, telecommunications, and consumer industrial verticals. We also continue to see positive growth in our other verticals with our technology, business services, and government services verticals growing soundly in Q3 on a year-over-year and sequential basis.

Gross margins for the quarter are up slightly for us from a year ago at 28.2% versus 28.1%. Growth in our revenue mix from the mix of skills required in our accounts impacted positively our gross margin performance. The pricing environment remains steady in the quarter. Our conversion of revenue and gross margin to operating margins continued strong in the quarter. These increases in operating margin resulted from a continued increase in the productivity of our sales, recruiting, and back office teams.

We continue to see a solid market environment for our business in the coming quarter and expect that our revenues and operating performance will continue to grow both on a year-over-year and sequential basis despite fewer billing days in Q4 compared to Q3. Overall, Apex continues to perform very well in a generally positive market environment for IT spending.

I'll now turn the call over to Mike McGowan to discuss Oxford's results and the performance of our other legacy On Assignment divisions.

Thanks, Rand.

Let me start first with Oxford. Our revenue for the third quarter was $100 million, 13.5% over the comparable period of 2012. The increase in revenue is primarily due to an 8.9% increase in average consultants on assignment and a 2.1% increase in the average bill rate to $122.70.

Sequentially, our third quarter revenue was approximately $1.5 million less than the second quarter of 2013. The primary reasons for the sequential decrease in revenue were related to the impact of consultant vacations, overall fewer hours work in the summer months of July and August, especially in Europe, and the completion of a significant project at our largest client.

For those of you familiar with our business model, you often hear me talk about our average client that traditionally has just one or two consultants on assignment. This specific client actually had over 80 consultants on assignment at the peak of the project in the second quarter. This negatively impacted our Quarter three revenue by a little over $3.3 million. We added new clients and projects during the quarter, but not enough to make up for the completion of this large project. In addition, we also saw a decrease in our overall business within the military and defense industries.

Our healthcare IT unit continues to be the fastest growing unit with a current annual revenue run rate of approximately $80 million. Our third-quarter gross margin within Oxford was 34.7% and was 81 basis points lower than the third quarter of 2012 as we expected. This compression was related to a change in our overall mix of business.

The gross margin for our Healthcare IT division is over 500 basis points less than our other divisions, primarily the result of the competitive marketplace and pricing required to assign multiple consultants on each project, and a higher mix of revenues related to reimbursable consultant expenses, which are generally billed to customers with no markup. We continue to believe that our gross margins in all of our high-end IT skill segments are at or near the highest in the industry. Looking to the fourth quarter, the Oxford index, which is our forward-looking survey of our specific clients and not the entire IT market, indicates that the client demand will be relatively flat from the third to the fourth quarter.

Moving now on to Life Sciences, this segment's revenue for the third quarter was $44.1 million, a 5.4% increase over the prior quarter and an 8.6% increase year over year. Our US operations, which comprises 75% of total segment revenues, grew 3.5% sequentially and 9.2% year over year. Key drivers of growth for this segment include an improved operating environment across all core industries with pharmaceuticals, biotech and food and beverage leading demand for contract and direct hire services.

Gross margin for the segment was 32.4%, decreasing just 62 basis points sequentially, and 203 basis points year over year. The sequential decline in gross margin was the result of an increase in contractor-related expenses, specifically workers' comp and holiday pay, and the year over year decrease was due to a non-recurring Belgian payroll tax subsidy that we recognized in the third quarter of last year.

Moving on to the fourth quarter of 2013, we are encouraged with the level of contract and permanent orders, number of weekly contract assignments, and permanent placement activity for Life Sciences. We expect greater growth from our US operations than our foreign operations.

Revenues for the Allied Healthcare division were $15.4 million, a 5.4% sequential increase and a 1.1% decrease year over year. The year-over-year decrease in revenues were a result of a few large projects that ended earlier in 2013, which we pointed out last quarter. Revenue generation in the quarter was enhanced by new hire productivity gains, improved delivery of newer skill disciplines in the advance practice arena, and new contract awards. Allied Healthcare's gross margin for the quarter was 31.2%, decreasing 78 basis points sequentially and 130 basis points year over year. The decrease in gross margin was primarily the result of lower perm and conversion fees.

Turning to the fourth quarter, the healthcare markets in which we operate continue to show signs of improvement. Early in the four quarter, we are encouraged with the level of contract and permanent orders, number of weekly contract assignments, and permanent placement activities.

Finally, as Peter mentioned earlier, our physician's segment, VISTA Staffing Solutions, had a challenging third quarter. Revenue was flat sequentially and down 4.6% year over year. Demand from key clients, including some government associated hospitals, slowed in the third quarter. Demand from those clients is returning, but overall demand is relatively flat.

Average bill rates were flat as compared to the prior year period. VISTA's overall margins were down year over year as a result of higher medical malpractice expense, higher mix of lower-margin specialties, lower temp to perm and international mix.

The overall physician staffing marketplace appears to be experiencing slow growth. The staffing industry analysts reported 5% year-over-year growth for the first half of 2013 in a report released last month. This compares to our 7.4% growth during the same period. As we go forward, as with the other divisions, we remain committed to new business development, productivity improvements and a continual focus on our gross margins.

I'll now turn the call over to Ed Pierce.

Thanks, Mike.

As Peter referenced earlier, our operating performance for the quarter was at or above the high end of our estimates. Our revenue has closely approximated the high end of our estimates, and we exceeded our estimates for gross margin, EPS and adjusted EBITDA. Our adjusted EPS was $0.52 per share, which was $0.03 above the high end of our estimates. Revenues for the quarter were $432.2 million, up 50.4% year over year and 3.4% sequentially.

Our technology segment, Apex Systems and Oxford, which comprise 80% of our total revenues, grew to 19.1% year over year and 3.4% sequentially. Our non-technology segments, which account for 20% of revenues, grew 2.5% year over year and 3.4% sequentially.

Conversion and direct hire revenues for the quarter were $7.4 million, or 1.7% of total revenues, compared with $7.3 million or 2% of total revenues in the third quarter of 2012. Gross margin for the quarter was 30.2%, down 65 basis points year over year and up 42 basis points sequentially.

The year-over-year compression primarily related to a decrease in the mix of permanent placement revenues, a higher mix of revenues from Apex Systems whose gross margin is lower than our other segments, and higher growth in lower margin accounts. The sequential expansion in gross margin primarily related to the increase in the mix of permanent placement revenues from 1.5% in the preceding quarter to 1.7% in the third quarter.

SG&A expenses for the quarter were $88.5 million or 20.5% of revenues, compared with $77.4 million or 20.7% of revenues in the third quarter of 2012. These expenses were in line with our estimates for the quarter, and the increase primarily related to incentive compensation on the growth and gross profit and infrastructure investments to support the larger organization. SG&A for the quarter included a $1 million benefit for the reduction of an earn-out obligation. A comparable adjustment was also reflected in the third quarter of 2012, and charges totaling $0.7 million for certain nonrecurring expenses.

Amortization of intangible assets for the quarter was $5.2 million, down slightly from the preceding quarter, and interest expense was $3.3 million, down from $6 million in the third quarter of 2012. The effective interest rate at the end of the quarter was 3.7%, which includes $300,000 in amortization and deferred loan costs.

The effective income tax rate for the quarter was 39.9% compared with 42.3% in the third quarter of 2012. The estimated effective tax rate for the full year 2013 is 41.5%, an improvement of approximately100 basis points from our previous estimates. About 50 basis points of that improvement in the effective tax rate related to a couple of nonrecurring one time items. Income from continuing operations was $20.2 million or $0.37 per diluted share, compared with $14.7 million or $0.28 per diluted share for the third quarter of 2012. Our adjusted income from continuing operations was $28.5 million or [$0.52] per share.

Adjusted EBITDA for the quarter was $48.8 million, up from $43.9 million in the third quarter of 2012. Our conversion of gross profit into adjusted EBITDA was 37.4%, which was up from 35.5% in the preceding quarter. Our conversion rates, which are a measurement of our operating efficiency, are among the highest in the industry. Free cash flow, which is operating cash flow less capital expenditures, was $38.7 million in the quarter, up from $22.2 million in the preceding quarter. Accounts receivable DSOs at the end of the quarter were 56.3, an improvement of 1.7 days from the end of the preceding quarter.

Turning to our estimates for the fourth quarter of 2013, we estimate revenues $429 million to $433 million; gross margin of 29.8% to 30.1%; income from continuing operations of $17.1 million to $18.3 million; income of $0.31 to $0.33 per diluted share; adjusted EBITDA of $44 million to $46 million; adjusted income from continuing operations of $25.1 million to $26.3 million; and adjusted income of $0.46 to $0.48 per diluted share. These estimates do not include any acquisition related or strategic planning costs. These estimates assume billable days of 61.4 in the quarter, which are 2.3 fewer days than the previous quarter.

Our estimates for the fourth quarter imply full-year revenues of approximately $1.67 billion, which is $8 million to $12 million above the high end of our previously announced full-year estimates. Our full year estimate of adjusted EBITDA ranges between [$171] million and [$173] million, which is $1 million to $3 million above the high end of our previously announced estimates.

I'll turn it back to Peter for some closing comments.

We believe that we are well positioned to take advantage of what we believe will be a historic secular and cyclical growth marketplace opportunity for the staffing industry over the next three to five years. While the entire On Assignment team is very proud of our performance, we remain focused on continuing to profitably grow our business.

I'd like to once again thank our many loyal, dedicated and talented employees whose efforts have allowed us to progress to where we are today.

I would like to now open the call up to participants for questions.

(Operator Instructions)

Our first question comes from the line of Sara Gubins with Bank of America. Please go ahead.

Thank you, good afternoon. First on Oxford, you mentioned the client that had 80 consultants on assignment and that that hurt by about $3 million in the quarter. I'm assuming that will be a drag, and I think about it on a year-over-year basis, for the next three quarters, and I wanted to check that.

It was a medical device company, Sara. I think that virtually all of the consultants on billing at that customer are pretty much through. And it was at its peak in the second quarter, but it will be first and second quarter in the comparison numbers, so we anniversary it really for all practical purposes third quarter of 2014.

Okay, great.

We've replaced most of it.

Okay. If I think about your bill rates, they were down sequentially in a couple of your segments. Is there any -- can you talk about what's driving that?

That's just normal ebb and flow of business, it's just mix of business. Apex was the fastest grower of all of our divisions.

And how do you think about the ability to move bill rates up over time?

That's just market growth. And we do believe that there's room to expand it. Wage inflation has been pretty muted. But as you know, specifically in the skill sets that we provide, they are becoming more and more scarce. That means our customers are more realistic about what they have to permit us to be able to bill them in order to pay consultants the right level of compensation for them to work at their locations.

And last, any change in the ability to attract consultants?

Say it one more time?

Any change in the supply of consultants or the ability to attract consultants?

No. It's been tough as far as demand and tightness of the skill sets that we recruit to. But we've been -- we expanded our growth rate at Apex and grew 15.4%, which was consistent with the second quarter and dramatically above the entire industry. And so we may have to work a little bit harder. But we're not using that as an excuse as to why we're growing at certain levels. We can still find people.

Thank you.

Operator?

Peter, I can hear you, we're still on the phone.

Sorry about that. That was my line dropped. I'm back on. We'll go to the next question.

Comes from the line of A.J. Rice. Please go ahead.

Thanks, hi everybody. A couple questions maybe.

On your comments on the IT segment, you mentioned the seasonal factors for the sequential performance on Apex. You've got such good secular growth there in those IT segments that I often don't focus on seasonality. Remind me, if you peel back the secular growth, what is the seasonal pattern for the IT business in terms of relative strength among the quarters, and how does it lay out typically?

First of all, the comment was attributable to Oxford. And as you know, Oxford has European operations. And as you know, a lot of the European countries take a full month off in the summertime. And so it affects the ebb and flow more so at Oxford than it does at Apex because Apex is 100% US based.

With that said, typically for most of our divisions, the third quarter is the strongest quarter of the year. And as far as seasonality impacting the IT world, third quarter is a good quarter to operate in, and absent a declining economy, fourth quarter is typically good for flushing budgets.

Okay. In the previous calls, you've commented on -- especially in the last call I think that you're getting to the point where new businesses are running well and you're going to look at cross selling opportunities, maybe realizing synergies broadly in some form or fashion. An update on that if possible?

It has gone well. I think that we'll more fully discuss a variety of things that we have developed in the early part of the first quarter of 2014. We probably will have an analyst day. But we do have some definitive plans moving forward that we think can help us grow a little bit faster and maybe enhance our operating leverage.

Okay. And then maybe I'll just ask you quickly about the position placement business. The softness that you saw, was that focused on any particular geography or specialty? And I know there's been some discussion by some of the players about MSPs and maybe trying to bring that type of format to the business without having any impact.

Let's break it down. So we'll take ownership for a certain part of our performance. I think we could have executed a little bit better.

The truth of the matter is 65% of the overall performance was just a lackluster end market. We had historically high inter quarter cancellations for coverage by physicians, which we typically don't have. We just had a couple of large customers who said. We just don't have the need for these individuals and don't travel them.

And we had one particular hospital that is really struggling financially in the southwest that said, You know what? As much as we need the physicians, we've got to hold costs off in the quarter, and we're not going to take the coverage.

As it relates to the MSP space, I would tell you that again, you can ask others in the space too. That is not going to gain traction. First of all, you're dealing with physicians. You're dealing in smaller numbers. There's not bulk buying of physicians.

It's not unusual within the industry practice that you may have a couple of firms that are filling a single order, meaning a couple of weeks, and then another firm is covering the other couple of weeks, et cetera. And we've actually seen the exact opposite. We've seen a couple of situations where some hospitals companies awarded MSPs and notified the quote sub contractors and the sub contractors said, We understand that's your strategic decision, but we're going to place these physicians elsewhere, and started ripping the physicians out. And they backed up on having us to work under the terms they had dictated under the MSP.

I get it for the nursing space because that's a commoditized vocational skill. I just do not see it on the physician side.

Thanks a lot.

The next question comes from the line of Tim McHugh. Please go ahead.

Yes, thanks. First, I was going to ask on the physician side just to follow-up on that. Were you seeing I guess a smaller set of orders for physicians from some of the clients versus entire contracts? I'm trying to get a sense for what's the risk that you lost some customer relationships versus smaller demand?

Tim, we didn't lose the relationships. And we're talking about 6% of our total revenue. But the point we're trying to make is, entering the third quarter when we did our guidance for you all, we had many more dates sold booked than typically turn into revenue. And you don't have inter period cancellations.

But because of the patient admissions environment right now, we saw some unexpected cancellations of assignments. It wasn't a -- because remember the work that we do in -- or anyone does in the physician space today, you won't generate a dollar of revenue for about three months. That's how far the advanced booking is.

We wouldn't see a slowdown in demand. What we saw is what we perceived as book backlog fell off because of the patient admissions environment getting sloppy and people concerned with Medicare expense cuts and stuff like that.

Okay. I guess you also mentioned government. And I'm assuming that's part of the weak environment. How much of a hit was the government?

In the physician space? It pains me to talk about this. We told you that we missed our second quarter -- our third quarter forecast by $1.5 million out of $433 million. So I can't really break down how much was day sales canceled versus the government space. Qualitatively, I would tell you some of the government space was slightly less buoyant than we would have expected and in a particular state.

Okay. And then on the Apex side, the press release talked about what you talked about before, just taking share from other sources of -- or other delivery models for IT services.

Can you talk about -- did you see anything different this quarter, or s it just a continuation of the trend? Is there anything in terms of the project management skills you need to oversee temp staff that you're having to invest in that's helping you to do that?

Again, it's a deployment model versus a conversion of a staff augmentation model. What we're seeing is that CIOs are looking at staff augmentation as a more attractive deployment model than potentially offshoring or project consulting outsourcing because of the cost, flexibility, visibility, and accountability. And we have the people and the business model and the controls in order to deliver the service, even when it's on a statement of work basis.

And what I would tell you is we haven't seen a change in the CIO's mindset at this point that they think they'll spend a bigger chunk of their total IT services dollars on projects that are deployed or developed with staff augmentation versus other deployment models. Rand, do you want to add anything to that?

No, I don't know. Tim, did that answer your question do you think?

I was just trying to understand if that's an area you are trying to build up on or if it's not part of the solution that they're turning to you for.

I think the answer is we're winning. We're winning top accounts, we're winning across the board. We're winning in our staffing and project services.

Tim, I just want to be clear on this. We're not saying that we're beating Accenture at project consulting. We're saying that the customer is deciding more often than not now that maybe they should do this on an IT staff aug basis versus a project consulting basis. We are not bidding with the same deployment model against Accenture.

Sure.

We may be bidding against Accenture. Accenture is saying, I'll do it on a consulting basis. And we're telling the customer we'll do it on an IT staffing basis. And the customer is saying, On this project, we're going to do it on a staff aug basis versus a consulting basis.

And last question on Apex. I think you said the top accounts continue to grow quickly. Is that growing faster than the the non-top accounts? The smaller clients?

It is.

Okay.

And I think that's a fair comment that what we're saying is the larger, more sophisticated organizations, despite uncertainty et cetera, are engaging more forcefully than $1 billion and below revenue-type companies.

Okay. Thanks. Next question comes from the line of Paul Ginocchio with Deutsche Bank.

This is actually Ato on for Paul. First, I wonder can you give me the billing days in the third quarter and what you're expecting in the fourth quarter?

We did, it's in the press release. But I'll repeat that. It's 63.4 in Q3, and we're estimating 61.4 in Q4. Sorry, so 63.7 and 61.4.

Okay. Great. And looking -- considering the 80 consultants that rolled off to single client for Oxford and labor tightness -- tightness of the labor market for IT, was it easy to redeploy those consultants? Or how long did they sit around?

I think the answer is I wouldn't say easy, but it was manageable because we were basically flat quarter to quarter even though we had a lot of consultant project completion.

And yes, this is Mike. They actually are 95% of them we were able to keep in our stable if you will. And they've been reassigned to other Oxford projects that we got through the quarter.

Great. And looking at your share gains, looking at some data from the SIA puts your market share at about 5%. And they're expecting the IT staffing market in the US to grow at about 7% in 2013, which we think adds about $1.5 billion of revenue. And our estimates show you guys are gaining -- adding about $200 million incremental IT staffing revs, and that implies about 13% of the incremental market growth. I was wondering are you guys really gaining that much share? Or is the SIA estimating market growth too low?

No. I mean, I can't tell you what percentage of the incremental growth we're capturing. But we are taking market share, because we're growing faster -- forget about the data points that SIA gives out. We are growing faster than what other people are reporting. And it's faster than what -- and I don't think anybody thinks that the market is growing 19%.

Okay. Thank you.

The next question comes from the line of Edward Caso with Wells Fargo.

Thanks for taking the call here. In prior calls, you talked a lot about healthcare IT, and I was curious how important it is to you at this point.

We had another company that had a difficult time at ICD-9 to -10 because of reduced Medicare, Medicaid payments down to the hospitals. Did you see any issues in the last quarter?

Yes. So Ed, first of all, we do certified coding and billing. But we do that in our Health Information Management practice, which is part of our Allied Healthcare group. And it's not part of our quote Healthcare IT group. Our Healthcare IT group currently only works on technology and deployment implementation of ERP, EMR record systems.

With that said, there was a little bit of a lag at the -- in the third quarter, but we're starting to see a pickup again. The growth rate for the Healthcare IT groups was significantly above some of the other IT skill set growth rates. And we just finished our quarterly reviews with that group. And they feel relatively positive for the next couple of quarters out.

So it's important. I think you'll continue to hear us talk about healthcare being important to us, specifically on technology. And we think it's a big space that will continue to get more sophisticated with its use of technology, so we're staying focused on it. And we don't think that we have, at this point, big [grover] problems because of all the HITECH Act stimulus dollars. We think there's plenty of work behind that.

Is any of the work you do involved with the Affordable Care Act deployment?

Mike, do you want to address that?

No, most of the stuff that we're all doing as Peter mentioned is primarily within the EMR world. And then it gets into the HIM activity as Peter also mentioned. And we're not involved in that part of the implementation of that.

I can definitely say we were not part of building the website for healthcare.gov.

That's good to hear. It's been a while since you did a large acquisition. At what point do you feel comfortable, at what leverage ratio, what trigger or is it all dependent on your finalizing your strategic plan?

I think when you look at it on a capitalization basis, we've been pretty open that once we got to 2.5 times trailing 12-month adjusted EBITDA leverage ratio that we felt that we could do some acquisitions again. And we've been looking hard. And getting close to a couple of things. And we are a lot closer today to a couple of things than we were in the second quarter.

But to find the right deal and the right fit and on the right terms for both parties takes time. And it's been a difficult marketplace because the debt markets have been so robust. There are a lot of people in the private equity world that will pay more because they can put another turn of leverage. Not because the company is worth more, but just because they can put another turn of leverage. We've walked away from a number of opportunities and remained disciplined. But I tell you today, we're on several fronts a lot closer to things than we were in the first half of the year.

Last question, you made some comment earlier about the fourth quarter usually do well with flush. Is that a comment about this year, your expectation for some levels of IT flush? Or is that more of a generic comment?

That was more of a historical, generic comment.

And do you have thoughts on what you're hearing from your clients regarding the potential to clean up some budgets here?

Rand and Mike, do you all want to address that? I don't think we've heard anything passionately different than what the historical trends are. Rand, why don't you go first?

No. But Ed, you're familiar with the government marketplace. I don't know that there's flushing any more. Who knows what the government budgets are and when the right flushing time is. As we said, we're seeing steady environment out there for us, and we're doing quite well, both collectively Apex and Oxford.

I wouldn't add anything else. I agree.

Thank you.

Next question comes from the line of Tobey Sommer with SunTrust. Please go ahead.

Thanks, Pete. Many of my questions have been answered, but I wanted to get your perspective on temp penetrations since we got a September BLS number a few weeks late this week.

What do you have as an expectation for the overall temp market in terms of where temp penetration is likely to go this cycle? I wanted to also get your perspective on the professional staffing sub component. The BLS doesn't give us transparency into that kind of data. But any color you would have on where you think temp penetration is professionally and where it could ultimately go.

I don't have specific numbers for you. But just remain consistent with what I said previously on the call. I do believe that we're seeing a very attractive marketplace for professional staffing services. And it's because a lot of customers are realizing that some of the projects that they do, whether it's in science, technology, engineering, or mathematics are better suited to be done on a staff AUG basis than on an internal execution basis.

The service is gaining traction, and it goes beyond just GDP growth or economic recovery. And I do think that penetration rate is higher for professional staffing than it is for commercial staffing. And I think that's what is really going to drive the overall temp penetration rate being above its previous historical norms, is that the professional staffing temp penetration rate will be much higher than it has been historically. And I think that correlates to what our thesis is that IT staff augmentation today -- it may change -- but today is getting a bigger percentage of total IT service dollar spend than it did several years ago. It may be 0.1%, it may be 1%. But we think that our deployment model is gaining traction versus the other deployment models.

Okay, thanks. That's helpful. And a question about M&A and capital deployment, if I could follow up. You in your previous response to a question gave an upper bound of leverage, 2.5 times trailing where you would again start to revisit acquisitions. Is there a lower bound of leverage at which point you'd feel a little bit more compelled to return cash to shareholders through some other mechanism?

Yes, I mean I'm not trying to be elusive. Our primary focus or preference would be if we can do accretive acquisitions and grow our earnings, that would be better than just surely purchasing shares.

And by the way, I didn't mean to imply that 2.5 times trailing 12-month EBITDA is the upper bound of the amount of leverage that we put on the business. That was just an internal marker where we wanted to get below to show our shareholders that we can lever and de-lever quickly. And now that we've demonstrated that and demonstrated that we can de-lever quickly and that we're disciplined, if we can find the right acquisitions, we would re-lever and de-lever quickly again.

Right. Okay. Thank you very much.

Next question comes from the line of Paul [Cordura] with BMO.

Great, thank you. I wanted to follow-up on the Apex, really positive results there. And you mentioned the skill mix, which is helping gross margins trend positive. And I just wondered if you can talk at all about if you expect that to keep trending in that direction. Can you put any margin expectation for that business, just gross margin expectation.

It depends on client acquisition. It depends on particular demand for a certain skill [by] customers. But, what I would tell you, the real takeaway from our guidance is that we see continued positive growth momentum at very high growth rates. And we believe we have a stable margin environment to execute these high growth rates.

Okay, great. That's helpful. And with the IT staff augmentation, and you talk about the story there. What does that mean for length of assignment and conversion rates? Is there any impact that you expect may be longer term from this secular story?

The length of assignments have not been shortening, typically, five to six months. The amount of repeat business is continuing to go up amongst our customers. And as far as conversion rates, it just depends on the divisions. But, conversion of temps to full-time employee goes against the argument of the four deployment models, right?

It goes that you have something that we couldn't find, and we tested it out and we like it and we want to bring it in full-time, versus this is a discrete project, we need some very specific skills, we're going to use them for the period we need and then we'll turn them back over to you. And we think that deployment model is better than offshoring or project consulting or internal execution.

And remember, Paul, we say this in jest, but you can see it in some of our contracts. We refer to conversion fees as liquidated damages. We prefer people not to convert our temps because then there's one fewer person we can put on repeat assignments.

Understood. And switching to Oxford. The completion of the large project, I'm just wondering did that happen sooner than you had expected, and did that at all impact the results being a little lower than you had given soft guidance for last quarter?

The answer is yes and yes.

Great. Thanks a lot.

Next question comes from the line of Dan Dolev with Jefferies. Please go ahead.

Thanks for taking my question. Question on gross margin. It seems like the implied gross margin, or the guidance of gross margin for Q4 is a little bit less than the implied gross margin. When you look back to when you were giving guidance earlier this year, what was the reason for the gross margin coming in a little bit lighter? Were you just not expecting your Apex business to grow as fast as it did, or maybe the other businesses to grow slower?

And how should we think about the discrepancy of EBITDA doing better than expected versus gross margins doing lower? Are you just converting more? Just to understand how it works. Thanks.

As it relates to gross margins that we're estimating for Q4, we're estimating its going to be down slightly. And it's due to a couple of things. The primary thing is we're expecting the mix of permanent placement revenues to be down sequentially. You probably remember from comments that we made earlier, it was up sequentially in Q3, and it's going to be down sequentially in Q4. Which is a normal, typical, seasonal pattern.

The other thing is, as it relates to Q4, that contemplates that Apex Systems will continue to grow faster than our other segments, which has an effect on the consolidated gross margin. So those are the two factors driving the sequential reduction.

As it relates to year-over-year, quite honestly, I think we're lucky to be as close as what we are, because obviously, there's a lot of moving parts. I think the key thing for us is that we more than make up for the any erosion or compression in gross margin by an improvement in our efficiency. And we saw significant efficiency gains in certain of our businesses.

And we did a lot of hiring early in the year, and some of those people are now becoming productive.

That makes sense. Understood, thank you.

Next question from the line of Mark Marcon with Robert W. Baird. Please go ahead.

Good afternoon. With regards to Apex, the growth has certainly been impressive, particularly with the gross margin improvement commensurate with that.

Rand, can you talk a little bit, follow-up from last quarter in terms of the runway of expanding the top accounts, 200 of the Fortune 500. Describe what you're seeing there in terms of the opportunities for next year as it relates to that.

And secondly, can you describe your capacity? You have been ramping up quickly. Are there any sort of step functions that we should expect with regards to needing to add capacity?

Peter, I'll go ahead and say the first part is no, I think penetration of Fortune 500 along with our retail account business, and this is growing as well, not as fast as our top accounts program is, but, no it continues to be a focus and an objective. And there are 500 Fortune 500s and 1000 Fortune 1000, we're in 200 of them. And there's plenty of market opportunity for us to continue to grow and take market share, and we think we'll continue to do that, obviously.

As far as step function of our capability, internal capabilities, we're disciples of conversion and improved productivity as Peter mentioned in both our sales force and delivery teams. Some of that is automation, better process, better techniques, better leadership, and I think we're continuing to grow. We've had a long history of that kind of growth. And at this point, it's a matter of sticking to it and focusing.

Mark, just on -- we've always been pretty clear about the investments we've been making, and we've been making investments, and still been able to expand our conversion ratios and operating leverage. So it's not like we've been holding back on hiring and investments. And all of a sudden we have a huge investment cycle. We've been investing along the way. So I don't see any sort of stair step significant up investment period that would affect our conversion ratios.

Great. And with regards to the Oxford business, what are you seeing with regards to the client willingness to absorb higher bill rates?

Obviously, the consultants -- the really in-demand ones are getting multiple offers. Are you able to pass that through?

The gross margins continue to be some of the best in the industry. They're down just a little bit. How should we think about that?

Mike, do you want to go first?

Yes, I can. Really, Mark, we're not seeing much difference. We're able to pass to most of our customers that increased pay rate that we have to pay those high end consultants to the clients. So we're seeing that.

And part of the reason, as I mentioned, we're down a little bit on gross margins primarily is our Healthcare IT business continues to grow. It's much more competitive than the other segments, as well as the reimbursable expenses that are passed through the client at no markup are becoming larger. So we're seeing part of that come down in terms of the gross margin. Other than that in most cases, we're still able to pass the costs on to our end user.

I agree.

Great. And with regards to the healthcare vertical, and what you're seeing at the hospitals, are you getting any sort of color with regards to when they think things might change? Or anything along those lines?

Not really. But there are normal seasonal weather patterns that affect patient admissions, flu season, cold weather affects old people a lot more adversely than the younger population, so there's -- at times, that weather seasonal pattern that can affect demand. But it's just the healthcare clinical side, Mark, has just been very, very choppy.

And the customers have gotten very aggressive about turning on and off utilization of contingent labor much more so than any other flavor of staffing I've been associated with. And I think that's the reality of that marketplace. And as -- that they're having to adjust their expenses realtime much faster than the profit organizations, or I should say non-healthcare organizations.

And I think that will only dissipate when labor gets so tight that someone can say -- we understand your need to do that, but if you do that, we can't work as forcefully with you because another hospital won't do that to us. But we're not in that environment right now.

So it sounds like that could persist for quite a while. How does that impact your appetite on the physician staffing side? You've been in a conference where you indicated an interest in expanding that. And you certainly sound like you're still positive from a long-term perspective.

We're trying to make long-term decisions. And we still find that space very attractive because of the bill rates. The maldistribution of physicians, how long it takes to mint a baby physician and the influx of a bunch of additional patients.

So right now it's a little bit sloppy. But I don't think that will continue forever. And we did grow 7.4% for the first nine months of the year. And, I think it's a decent marketplace. But it's more challenging than life sciences and IT right now.

On the Life Sciences, that was down a little bit year-over-year, it actually grew slightly. You're expecting it to pick up a little bit in the fourth quarter?

Is that just from some new projects that are coming on? Or anything that we should -- ?

It's based on demand that we have right now. Our Life Sciences group US operations actually grew 9.2% year-over-year. And it grew 5.4% over the prior quarter, and it grew 8.6% year-over-year on a consolidated basis.

And Europe is still a lower growth than the US. And the fourth quarter can have -- we do a lot of work with biotech companies that can close their research facilities for longer periods than other corporations. But with that sad, we're seeing a continued improvement in demand in that space, and I think some of the tweaks we've done to our business and our management are starting to pay dividends.

Great. Super, thank you.

The last question we have in queue comes from the line of Randy Reece with Avondale Partners.

Good afternoon. I'm getting mixed messages from the marketplace about the trends in gross margins and vendors; willingness to compete on price. I was wondering if you'd seen any changes in that?

Randy, were those comments related to professional staffing or commercial staffing?

It was professional. But it was specific geographic markets.

Yes, we haven't seen that as an overarching challenge to growth. Our gross margins actually realtime expanded third over second. And so, look, pricing is always a challenge, specifically if you're in certain marketplaces with competitors that are not as disciplined on pricing.

With that said, we're able to grow very high levels. I think the real takeaway is how were we able to grow 19.1%, which is probably 1000 basis points faster than anybody else, and we had margin expansion and not compression. And that tells you we're not giving our services away, right?

Definitely. Thank you very much.

We have no further questions in queue.

We appreciate the time and attention and look forward to speaking with you on the fourth quarter conference call. Thank you, everyone.

Ladies and gentlemen, that does conclude today's conference. We want to thank you for your participation and for using AT&T Executive Teleconference. You may now disconnect.