ASGN Inc (ASGN) 2020 Q3 法說會逐字稿

Greetings and welcome to ASGN, Inc. Third Quarter 2020 Earnings Call. (Operator Instructions) As a reminder, this conference is being recorded.

It is now my pleasure to introduce your host, Kimberly Esterkin, Investor Relations. Thank you. You may begin.

Thank you, operator. Good afternoon, and thank you for joining us today for ASGN's Third Quarter 2020 Conference Call. With me are Ted Hanson, President and Chief Executive Officer; Rand Blazer, President of Apex Systems; George Wilson, President of ECS; and Ed Pierce, Chief Financial Officer.

Before we get started, I would like to remind everyone that our commentary contains forward-looking statements. Although we believe these statements are reasonable, they are subject to risks and uncertainties, and as such, our actual results could differ materially from those statements.

Certain of these risks and uncertainties are described in today's press release and in our SEC filings. We do not assume any obligation to update these statements made on today's call. For your convenience, our prepared remarks and supplemental materials can be found in the Investor Relations section of our website at investors.asgn.com.

Please also note that on this call, we will be referencing certain non-GAAP measures, such as adjusted EBITDA, adjusted net income and free cash flow. These non-GAAP measures are intended to supplement the comparable GAAP measures. Reconciliations between the GAAP and non-GAAP measures are included in today's press release.

I will now turn the call over to Ted Hanson, President and Chief Executive Officer.

Thank you, Kimberly, and thank you for joining ASGN's Third Quarter 2020 Earnings Call. ASGN reported strong results for the third quarter with both revenues and adjusted EBITDA, exceeding our expectations. For the quarter, revenues totaled $1.01 billion, up 0.9% from the prior year and ahead of our guidance of $913 million to $938 million for the quarter. Adjusted EBITDA totaled $113.3 million or a margin of 11.2% for the third quarter, well ahead of our guidance.

Performance was broad-based with each segment outperforming our initial expectations. ECS, in particular, saw better-than-expected results for the third quarter with revenues up 40% over the prior year. Apex segment revenues, though lower than Q3 of 2019 on tough year-over-year comp, were up sequentially by 3.3%. The improvement was mainly the result of a turnaround in our Apex Systems commercial business.

Throughout the quarter, clients continue to request bids on new work in both the commercial and federal government markets. In fact, we witnessed very balanced growth in Q3 with week-over-week revenue improvements across all segments. We believe this steady revenue growth during Q3 is evidence that our commercial business hit trough levels in the second quarter and is now on a solid upward trajectory. Ed Pierce, our CFO, will discuss more on this recovery and our fourth quarter guidance later in today's call.

As I've emphasized previously, ASGN scale, high-end IT service offerings and large and diverse client base provide us with stability throughout market cycles. These aspects of our business model also provide us with the ability to accelerate as our clients pursue their IT modernization and digital transformation initiatives.

M&A continues to be a great way for us to build our capabilities in key solution areas, while simultaneously moving higher up in the value chain. In September, we acquired LeapFrog Systems, which is now a part of the Apex segment. Then just post quarter-end, we acquired Skyris as part of ECS. Both companies were purchased with cash on hand.

Our free cash flow is our principal source of liquidity and has enabled us to make acquisitions, an important part of our capital allocation strategy, without the need to take on additional leverage. Before getting into the specifics of the LeapFrog and Skyris acquisitions, let's first turn to our segment performance for the third quarter.

Apex, our largest segment, which includes Apex Systems and Creative Circle services clients across multiple commercial end markets. For the third quarter of 2020, the Apex segment generated revenue of $596.1 million, down 7.5% year-over-year, but up 3.3% sequentially. For the third quarter, Apex Systems revenues declined 2.7% year-over-year, while Creative Circle revenues declined double digit compared to Q3 2019. Importantly, both Apex Systems and Creative Circle continue to rebound from the COVID-19-related slowdown experienced in the second quarter with sequential revenue improvements of 3.3% and 3.6%, respectively.

Apex Systems exited the third quarter at weekly revenue levels above the pre-COVID-19 level. Creative Circles weekly revenues, while down double digits from the prior year, continue to move higher with ad, event and permanent placement revenues seeing the steepest declined and digital-related skills and services holding steady.

Revenues for Apex Systems demonstrated some notable trends for the third quarter: First, top accounts achieved low single-digit growth rates for Q3, while retail and branch accounts were down; second, 3 of our 5 industry verticals saw revenue improvements, including financial services, health care and business and government services. Consumer & Industrial and technology, media and telecom vertical revenues declined year-over-year.

Revenues in financial services accounts, our largest vertical, continue to experience solid double-digit growth across all sectors, including big banks, retail banks, wealth management, insurance and fintech clients. Our Consumer & Industrial vertical, while still showing declines year-over-year, experienced growth within e-commerce, consumer staples and utility accounts while retail, energy, hospitality and transportation, including airlines, were down.

Gross margins for the Apex segment were 29%, down 80 basis points year-over-year due primarily to the lower permanent placement mix in Creative Circle as a result of COVID-19. Gross margins at Apex Systems, however, were up over the prior year period, and both Apex Systems and Creative Circle maintained strong EBITDA margin.

Importantly, we continue to grow our commercial consulting revenues. Consulting work for the Apex and Oxford segments combined totaled $110.7 million for the third quarter, up 10.6% year-over-year, returning to double-digit growth rates. Our pipeline for consulting work also remained strong and was up double digits over the prior year period.

We expect that our high-end consulting offering will remain an important source of value we provide for our clients, and so we continue to make acquisitions that bolster our consulting capabilities. As noted previously, during the third quarter, we acquired LeapFrog, a specialized consultancy headquartered in Boston, Massachusetts. LeapFrog focuses on providing enterprise scale, digital business transformation services to Fortune 500 clients and expands the Apex segment's proficiencies in digital innovation and enterprise solutions for the financial services, insurance and health care industries with an accelerating trend toward digital transformation. Now is an ideal time to welcome LeapFrog to Apex and ASGN.

Under the Apex umbrella, LeapFrog benefits from greater access to industry-leading methodology and a broader talent pool. At the same time, LeapFrog provides Apex subject matter expertise and long-standing client relationships.

While we are just beginning our joint work with LeapFrog, October marks our 1-year anniversary of our acquisition of Intersys. With the addition of Intersys, we've been able to bid on an increased amount of work, including securing new contracts and cloud strategy, data and analytics, agile and DevOps engagements for multiple Apex clients, leveraging Intersys and their work with our cloud partners. We are also seeing great traction with Intersys' nearshore Mexican development center.

For one new client this past quarter, the combined Intersys and Apex team was engaged to provide expertise in cloud data engineering, architecture and enterprise data governance to expand the client's customer service digitization initiative. We provided a digital road map for work execution using both U.S. and Mexican resources to expand our client cloud data warehouse. We also launched a nearshore engagement with a very large global oil and gas company to develop a mobile fueling app as part of this customer's go-to-market strategy. Our work included design and implementation on an Azure DevOps platform consistent with the client's digital architecture.

Let's now turn to ECS, which provides mission-critical solutions to the federal government, including the Department of Defense, intelligence agencies and other civilian agencies. ECS experienced an exceptional quarter of industry-leading revenue growth with revenues of $288.6 million, up 40% year-over-year. This growth was primarily driven by the increased demand for artificial intelligence and machine learning or AI/ML services.

The federal government is rapidly increasing its AI/ML spend. Bloomberg government is anticipating $2 billion in government-wide contract spending on artificial intelligence and machine learning projects for the current fiscal year, up $500 million from 2019. ECS supports customers across a wide range of domains in the AI/ML space, including imagery and video analysis, supply chain and logistics and sentiment analysis.

ECS revenues in the third quarter also benefited from the development and expansion of unclassified networks as well as opportunities presented through previous strategic M&A. ECS' new business pipeline remains strong. The segment was awarded approximately $383.2 million in new business and achieved a book-to-bill of 1.3:1 for the third quarter. Backlog improved sequentially to total $2.7 billion at the end of the third quarter or a healthy coverage ratio of 2.7x ECS' trailing 12-month revenue.

Key contracts won in Q3 include an award to provide the FBI with a full spectrum of cyber and information assurance support across all of their technology systems. Another award to provide data analytics and software development support to the FBI, several contracts to support cloud, DevOps, business intelligence and data analytics to the Department of Homeland Security and AI/ML support to the government's COVID-19 response and management efforts.

Similar to our commercial end markets, we continue to acquire in the government space. Just post quarter end, on October 1, we announced the acquisition of Skyris. Skyris has joined ECS' mission solutions business unit, which is focused on a range of cutting-edge and technically complexed DoD, intelligence community and other federal civilian programs emission. Skyris is one of the largest providers of remote sensing and data science expertise to the National Geospatial-Intelligence Agency and is the prime contractor on several significant NGA contract vehicle.

Adding Skyris' unique capabilities to ECS further advances the mission-critical solution we offer our customer and expands ECS' relationship with the NGA. We expect to leverage ECS' past performances and Skyris' capabilities to execute on existing task orders as well as win new geospatial contracts.

Turning to our last segment, Oxford. Oxford offers on-demand consulting talent for commercial IT, health care, life sciences and engineering clients as well as permanent placement talent through our CyberCoders division. The Oxford segment reported revenues of $127.2 million for the third quarter of 2020, down 16.6% from the prior year, but up 5.8% sequentially.

Both Oxford and CyberCoders are seeing a solid recovery from their second quarter lows. Across the U.S. and Europe, Oxford's offerings in IT, life sciences and engineering are trending up as our mid-market accounts gain more confidence in their own business recovery. Although a small part of the business, CyberCoders permanent placement services also showed strong sequential rebound.

ASGN's business continues to evolve to meet the critical IT needs of our customers. The government market, even with overall market volatility, spurred by the impending election, remains insulated from the COVID-19-induced commercial market recession. The commercial market is making a turnaround and our high-end consulting services and solutions are seeing positive bookings as clients continue to express confidence in our ability to support their needs. I remain bullish on the existing and emerging opportunities for ASGN. We have the right capabilities with the right industry expertise ready to meet the needs of our large and diverse customer accounts.

With that said, I'd now like to turn the call over to Ed Pierce, our CFO, to discuss our third quarter performance and fourth quarter guidance in further detail. Ed?

Thanks, Ted. Good afternoon, everyone. Ted mentioned, our financial performance for the quarter was well above our guidance estimates, driven by the high growth of our federal government business and the solid growth of all of our commercial divisions from the trough-level revenues experienced in late May of last quarter. Revenues for the quarter were just about $1 billion, which is the highest quarterly revenue level since Q4 last year. Q3 revenues were up slightly year-over-year and up 8% sequentially.

Net income and adjusted were both up sequentially. Our adjusted EBITDA margin was 11.2%, which was in line with the preceding quarter and higher than our guidance estimate. Commercial revenues for the quarter accounted for 71.5% of total revenues, and because of the pandemic, we're down year-over-year on one additional billable day. However, on a sequential basis, commercial revenues were up 3.7%, and all commercial divisions generated higher revenues per billable day than the preceding quarter.

Federal government revenues accounted for 28.5% of total revenues, up 40% year-over-year and up 20.4% sequentially. The high growth was driven by a number of factors, including increased volume on certain existing programs, new contract awards and the contribution from Blackstone Federal, which was acquired in January of this year.

Gross margin for the quarter was down year-over-year due to changes in business mix, stemming from the decline in permanent placement revenues and the high revenue growth of our Federal government business, which carries lower gross margins than our commercial business. Gross margin on Federal government revenues was lower than Q3 of last year due to high-volume from certain programs under cost-reimbursable contracts, which typically have lower margins than other contract types.

The contract gross margin for the commercial business, which excludes the effect of permanent placement revenues, was up slightly year-over-year. This improvement reflected, among other things, the higher contribution of consulting revenues and lower billable consultant expenses, which are generally passed through to the customer with no markup.

SG&A expenses were 17.5% of revenues, a year-over-year reduction of approximately 130 basis points in the expense margin. This improvement reflected effective expense management by our operating units and lower incentive compensation expense.

Net income was $52.3 million, down 8.9% year-over-year on lower gross profit, partially offset by the decrease in SG&A and interest expenses. As mentioned earlier, adjusted EBITDA was $113.3 million and the related margin was 11.2%, which was 40 basis points above the midpoint of our guidance estimate.

Free cash flow was $81.9 million and the conversion rate of adjusted EBITDA into free cash flow was 72.3%. Cash used for investing activities included capital expenditures of $5.7 million and the acquisition of LeapFrog for $66 million.

Quarter end, cash and cash equivalents were $229.7 million, up 10.5% sequentially. There were also no outstanding borrowings under our $250 million revolving credit facility and our senior secured debt leverage ratio was 1.13:1, well below the maximum allowable ratio of 4.25:1.

We are providing formal financial guidance for the fourth quarter of 2020 these estimates, which are set forth in our earnings release and supplemental materials are based on current production trends and assume no deterioration in the markets that we serve. Furthermore, these estimates are as of the date of our earnings release. Consequently, any worsening of the pandemic could adversely affect results for the quarter.

Regarding our financial estimates for the fourth quarter, we estimate revenues of $968 million to $988 million, net income of $44.4 million to $48.1 million and adjusted EBITDA of $101 million to $106 million. These estimates assume revenues will be down low single digits sequentially due in part to the being 3.5 fewer billable days in Q3, and we estimate revenues per billable day will be up low single digits over Q3.

For our commercial business, we estimate revenues will be flat to down sequentially because of the 3.5 fewer billable days and revenues per billable day will be up 4% to 4.5% sequentially. Although we're not providing specific details on recent weekly production, the weekly production trends and outlook experienced in Q3 have continued into the first 3 weeks of Q4 and were considered in our financial estimates.

For our Federal government business, we expect year-over-year revenue growth will be slightly above 10%, despite the very high Q4 2019 comparable. As we had previously reported, revenue growth for the fourth quarter last year was over 30% and benefited from $34.4 million of revenues from the early renewal of software licenses. Relative to the third quarter of this year, we estimate revenues will be down because of 3.5 fewer billable days and the lower expected government spending on certain cost reimbursable contracts in which there was a high level of spending in the third quarter.

Thank you for your time. I'll now turn the call back over to Ted for some closing remarks. Ted?

Thanks, Ed. As we enter the fourth and final quarter of the year, I can positively say that ASGN has established a solid foothold at scale in the commercial and federal government marketplaces for IT services. Our customers are feeling more confident than in months past, and they are seeing the need to continue moving forward on their strategic technology road map more clearly than ever before. This favorable dynamic creates consistent and growing demand for ASGN's high-end consulting services.

From an M&A perspective, we will continue to look to acquire companies in the commercial and government markets that provide us new capabilities, new customers or new contract vehicles. DHA, which we acquired in January of 2019, expanded our relationship with the FBI and strengthened our cybersecurity offering. Intersys, which we acquired in October of 2019, expanded our consulting capabilities in big data and business intelligence, while also providing a nearshore Mexican development center. Blackstone Federal, which we acquired at the beginning of 2020, provides us with a much stronger footprint with the Department of Homeland Security. Turning to our most recent acquisitions. LeapFrog offers us new capabilities in digital innovation, while Skyris broadens our geospatial expertise and strengthens our position with the NGA.

I'm very pleased to see that our business is on a solid upward trajectory and is meeting or, in many cases, exceeding our internal expectations. Through both organic growth and acquisitions, we have positioned ASGN for continued success in this new remote working environment. We will continue to look for ways to strengthen and advance the IT services we provide each of our commercial and government clients throughout the fourth quarter.

That concludes our prepared remarks for today. I want to thank our management team and all of our employees for a fabulous third quarter. On behalf of our entire company and the Board of Directors, we appreciate your continued support of ASGN.

We will now open up the call to your questions. Operator?

(Operator Instructions) Our first question comes from the line of Gary Bisbee with Bank of America.

Another very strong quarter. I guess, maybe if I could just start with you gave the guidance that it assumes no deterioration in markets. I guess, how are you thinking about the recent spike in virus activity and any impact that could have on your commercial staffing businesses at this point?

Well, Gary, thanks for the question. I think that if we look at what's going on in Europe, we haven't seen an impact yet on this new wave of cases. Our business remains fairly steady there. We haven't seen clients change the behavior there, and I expect since they're a few weeks ahead of us here, that hopefully, we'll see kind of that same trend.

I don't know where this is going. Obviously, we carved that out in our guidance that we didn't know how or if that may affect our performance. But I can tell you, in -- I can tell you, just in terms of what we're seeing every week in the business, our trend continues here.

And some of the things that we've seen, whether it's COVID-affected industries or small accounts, they obviously are still struggling to some degree. And so performance in those areas, although it's a small percentage of our business, is still difficult. But in large accounts, non-COVID-affected areas, Federal government, our business is still on a good footing.

Okay. And then in your discussion of the ECS growth, I think Ed may be attributed the growth in the quarter to several things, growth in existing contracts, new wins, and obviously, there's been some M&A as well. Can you talk a little bit about that concept of growth in existing contracts? Is that a meaningful driver overtime? And how significant is that today or as a driver of growth of the business?

Sure. Well, look, I'll let Ed break the numbers down for you and then let George comment as well, but definitely, the extra growth, if you want to call it that, that we saw in the quarter was driven by some heavy spending on a couple of existing contracts here at the end of the government's fiscal year coming into the end of our calendar third quarter.

Ed, do you want to break down the numbers for Gary?

Yes. Gary, we mentioned in our earnings release, as you know, about -- we made the comment about the existing programs sort of higher spend. There were a couple in particular that we saw a surge in spending in Q3 over Q2. And that increase was about, let's say, $38.5 million. And as Ted mentioned, it sort of coincided with the end of the government's fiscal year.

Look, I think on a go-forward basis, you're going to -- you should expect that largely in terms of sort of where our growth is coming from, it's going to be coming from existing programs.

Now as it relates to that surge, if you were to exclude the surge from the revenue growth that we saw in the quarter, we still had 20% revenue growth, right, for the quarter. So kind of think about it in those terms. And then as it relates to Q4, we don't expect to see a similar surge from those contracts or those programs, and so that's all contemplated in our numbers.

Our next question comes from the line of Jeff Silber with BMO Capital Markets.

You spent some time in your prepared comments, giving us a little bit color on the acquisitions, and I do appreciate it. It seems like the pace of acquisitions seem to have ramped up a bit. Is that something that we should expect to continue? And then I'm also curious what you're seeing in terms of deal multiples. How they're trending as well?

Yes. Thanks for the question, Jeff. I mean, obviously, these acquisitions are an important part of building capabilities. I mean, we have -- we're in the right spot with the right account portfolio across a diversified set of industry segments. And so we have access to a lot of work opportunities and the more capabilities that we can bring into our business, whether we build them organically or we acquire them through M&A is going to give us a real chance for better work, better growth and to move up the value chain, if you will, with these customers.

So will the pace continue like this? I don't know. Obviously, we're always working our pipeline. It's kind of -- we have a hot bar in terms of the type of companies and the things that we're looking for, as we've kind of laid out for you in the past. So I can't quite talk to the pace, but it's been a good marketplace for M&A here lately. And both in the commercial and the government sector, and we've had a lot of good things to look at.

As it relates to multiples, it's -- we've gotten some things done here. It's some pretty -- what I think are pretty good, reasonable multiples, whether it's high single digits on adjusted EBITDA or low double digits on adjusted EBITDA, we've been able to make acquisitions that we believe to be accretive here right off the bat.

And again, what's most important is not the revenues and EBITDA they bring into our business because in the grand scheme of things, that's a little smaller, but the revenue synergy opportunities of having that capability and having those new partners in our go-to-market approach is really paying off, and we mentioned that, if you will, in the prepared remarks.

Okay. Great. That's helpful. My follow-up, can you give us a little bit of color on how bill-pay spreads are trending? And I'm just curious, from a supply perspective, is the talent -- is it easier to find talent? Is the supply constraints loosening up in this environment?

So I would tell you that this unemployment picture in this recession has not been about IT talent being out of work. So I don't see -- think that we've seen a great change, if you will, in that way.

Rand, do you want to talk a little bit about what you see there and also about bill-pay spread?

I think you said it correctly. This -- what we're going through is not a recession for IT workers. So it's been steady as we've had for the past years. Bill-pay spread, though, has continued to inch up inside of our commercial units, and I think that's more around the discipline that we have and the fact that we have valued clients that we put these people to work with. And when you're #1 or 2 in the industry, you get some preference, I think, to some extent. So I think it's steady as we go.

Our next question comes from the line of Tobey Sommer with Truist.

I was wondering if you could comment about what you're seeing from and hearing from customers with respect to reshoring or nearshoring work as supply chain and delivery capabilities are retooled and rethought.

And in the context of that, could you let us know what your medium or long-term goals may be for either growth or percentage of sales and profit from the consulting area?

Rand, do you want to talk about that?

Well, first of all, I would say, we have commented all along that when we're in a business, we want it to be a $1 billion business. So our first goal in consulting is to get it to $1 billion and continue to grow double digits. So we're on that path. We've made great gains on that path in the last couple of years. That's on the commercial side and the government side, you can see how fabulously ECS is doing.

As far as offshore, nearshore, Tobey, I'm not going to say there is a megatrend here going on. There are -- certainly, the virus created a scenario where to have better direct control line of sight with some of the things you-- we've put overseas to bring it back onshore was definitely a trend early back in March, April time frame. We reported on that, I think, in the second quarter. There are still some of those discussions, but it's a case-by-case basis. I'm not -- I don't think we're that big in that market to say there is a megatrend going on.

But as you continue to put scrutiny on building the U.S. workforce, American workers, limiting the H1Bs, getting customer, personalized customer assistance, getting direct response and line of sight around these teams, there are some influencers that would say closer the better because I can see it, control it and react to it better, and it's in the right time zone.

Does that answer your question, Tobey?

It does. And as a follow-up, is there a point at which the consulting business approaches such a scale? If you're able to put yourself on the trajectory for $1 billion in sales, at which existing consulting customers of your staffing lines of business see you as a competitor and choose to direct their demand to alternative staffing providers?

Ted, do you want me to say -- take that?

Go ahead.

I'll start, and then Ted will jump on. Tobey, I don't think. So Fortune 500 companies, just use them as a population, spend x amount of money on staffing and x amount of money on consulting. The consulting number is much bigger than the staffing number. I think they're looking for value. I don't think they're trying to mix and match or to use one or the other.

Where there is good value, that is technical competence, quality work and particularly, these new digitization technologies and road maps and price points around it, you're going to win. And I think what we're seeing is, our clients are willing because of our excellence in the staffing world and having a valued account relationship and have brought value to them, they're pulling this into the consulting side, saying, I think you can do more. Let's talk about this.

And once we get going, we certainly win our share of those, but we need to continue to add -- as Ted said earlier, add technical capability and muscle and make sure that we're able to deal with the requirements and the solutions that they're looking for.

But we definitely have a reputation and a value offering to these clients, and we have deep account relationships, which are extremely valuable.

And I think I should -- the customer is asking, as Rand said, for these big traditional consulting firms to stay up in strategy, architecture and design, and they don't want to pay their mark up and fees to execute the work in most instances. And I really think at the end of the day, as Rand said, the client is directing that.

The other thing you have going on here is that the IT staffing market was a $30 billion market, and it's probably not too far off of that, but that's where it was here in the U.S. And the IT U.S. consulting market is more like $300 billion and growing faster. So I just think there is plenty of room here to play in the market, and I don't see there being a conflict, if you will, there around services out we provide versus that of the big traditional staffing -- I mean big traditional consulting firms.

Our next question comes from the line of Surinder Thind with Jefferies.

Congratulations on fabulous quarter. I guess my first question here is just on the commercial side of the business. As a follow-up to the last question, can we talk a little bit about how you're thinking about the outlook for demand on the consulting side versus the staffing side?

And the way that I'm trying to think about this is, maybe a little bit of color on the conversations you're having with clients there in terms of the current environment, and how there may be thinking about -- when we look at the unemployment numbers, obviously, the top line numbers are coming down, but the structural unemployment numbers seem to be growing. And so maybe some color around how businesses and their confidence and if there is a preference for one model over the other, if the structural unemployment was to increase or continued increasing?

Rand?

Yes. Well, thanks, Ted. There is a number of questions in there. Well, first of all, let me go back and say, when a client talked, he talks about -- they talk about their business problem or their technology needs. And so that's where the dialogue is taking place. In Apex terms, and a lot of our Oxford and commercial units where we're doing some consulting work now, in Creative Circle, the conversation goes from, you've always provided the staff, but can you do more? And they see us as an expert in workforce management and productivity of workforces and the ability to quickly surge or pull back and to get productivity out of a smaller team than they're traditionally using.

So we quickly got dragged into that side of our solution set, what we call, workforce management. And you can see that's a natural extension of staffing. But I think what's happened is, as we've built more insight into the client's technology architectures and business needs, we've seen the need to put together what we call digital road maps. And we've had them for the 26 segments of the industry we work in because that road map is different from a hospital, from a retail company, from a bank.

And so we get engaged now around the digital road map, and there is a lot of good work to be done, as Ted was saying. Accenture may be the architect of those road maps, but there is a lot of data movement or housing or even constructing clouds or hybrid clouds or distributed clouds to support different aspects of the business, looking at movements of harnessing and putting business data into dashboards for the client. I mean we're very capable of those things. quality assurance in the health care world, in coding and recoding and recoding, which they've recognized they need to stay up on in order to get their revenue flow going consistently.

So there is always a set of business needs. Some of them are not as sexy, but they are definitely more in the, what I call, modern enterprise or digital transformation area. And as we bulked up our technical skill, we're now engaging in those kind of dialogues, and we're actually winning some work.

In terms of structural employment, I guess I'm not sure, Surinder, where you're headed there, what's your thinking. I mean, are you referring to…

I guess what I was thinking about is, in terms of if we're hearing about things like Boeing increasing layoffs, obviously, more permanently lay off with Disney. I guess that was the genesis of the question. Maybe if we're heading into more of a recessionary-type environment versus what seems to -- initially was a lot of temporary layoffs. And now what we're beginning to see is more permanent layoffs.

And are we potentially -- I guess the question is, how does demand for you guys on a go-forward basis look if we were to enter into a more traditional recessionary environment? I mean, should we expect one business over the other to maybe within the commercial side hold up better? Or are they just -- they're closely tied? I mean obviously, there is different growth rates for different reasons, but it's just more about how the clients view those 2 businesses -- or those 2 services.

Well, Ted, if I could. Surinder, that's why we provide you information around the 8 industries and 26 segments we work in. We have said repeatedly over the last couple of quarters. There is a couple of sectors of the economy like our airline clients, our transportation clients, our -- some of our oil and gas clients, they're in hospitality clients that are definitely on their back and the spending and the amount of business, there is a negative growth for us in service to those clients, okay?

Disney is probably not so much the IT factor. When California shut down Disneyland, you've got a lot of people that were working there that can't go to work. So I mean it's -- Boeing is a little different animal because it's tied into the overall air travel and transportation scenario that the world is facing, not just the U.S.

So on the other side, regional banks, banks, wealth management, e-commerce, or Amazon, Microsoft, Apple, our technology clients, they're continuing to do very well. And in fact, in some of these industries, for example, banks, they've cut back their staff, if not closed, they're branch banks. Well, they have to replace that with automation and better personalized automation that supports their customer base. Those of us that are using the bank for financial transactions.

So if you look at it, 31% of financial transactions in 2019 took place digitally. Today, that number will be 80-some percent, where they're using Zelle or PayPal or Venmo or whatever. And all of that requires technology to get it up and running, make it easy for the customer to use and to maintain those capabilities. Not even to mention massaging the data that you see there and how you can provide better customer service.

So as you just see from the remarks that Ted made, in some of our industries, we're clearly growing. Financial services, health care, the technology side of technology and communication, our government side, where we're working with the big integrators. And you can certainly hear from George, all the interest in modernization and digitization of the federal businesses.

So there is a lot of positives. Are these industries that are a little bit down going to be structurally down forever? I don't -- I'm not a predictor of that, but I think they're going to have to find ways to -- it's hard to change air travel until the world gets passed COVID.

But I'm not sure what their long term is. When we talk to oil and gas or hospitality, I mean, they're still trying to do things to automate, be more productive inside, digitize their business and digitize their relationship with their customer base, which is where we fit in.

Ted?

Yes. And so the only thing I would add to what Rand said, which I agree with, is the value of this firm is its large account portfolio with 1/3 of it in the government services sector almost and the rest in the commercial sector, all of that wrapped around large accounts with the right industry diversification. And so I really believe in that. Those are the clients that are going to need IT services from us. We're growing our capabilities to meet that, and I don't see a structural issue with that going forward.

Our next question comes from the line of Seth Weber with RBC Capital Markets.

Appreciate all the commentary around the ECS business. I just -- I'm trying to understand and the sort of the implications around margin. Is there any color on the contract type that's in the backlog? I see the disclosure by revenue by contract, but is there any way to think about the backlog composition by contract type?

George, do you want to take that one?

Yes, sure. Thanks for the question, Seth. We provide you a breakdown, as you mentioned there, in terms of the types of contracts that we have. We really don't provide sort of the backlog -- breakout of the backlog, and we could look at doing that. But I would say that in general, what you'll see there in terms of our percent of the 3 different types of contracts, it's probably generally reflected in our backlog as well.

Okay. So the current margin dynamic is sort of a fair representation of how we should be thinking about it going forward then. Is that accurate?

Seth. The only thing I would say to that, Seth, is in the quarter, the surge definitely caused a spike up in the cost plus area, and so I don't know if this quarter reflects that. I think if you looked at our mix in the second quarter and what we expect it to be in the fourth is a more equal contribution of fixed price, time, material and cost plus. Obviously, that would lay a different gross -- a little bit better gross margin profile.

Is that fair, George?

Yes. Yes, you don't want to pick one quarter and say that's it. And I will say also that several of the contracts that we've won recently, both with the FBI and Homeland Security, are all in the time and materials, not in the cost-plus areas, and those are just starting to ramp up.

Okay. That's helpful. And then just a follow-up on Apex. I appreciate the color around retail branch versus top accounts. Can you just talk to whether you're seeing I guess, the same degree of sequential improvement across the 2? Or are top accounts performing better sequentially?

Rand, do you want to take that?

Yes, there is equal improvement in our top accounts. Yes, there is not in our branch accounts. Remember, top accounts represent about 74%, 75% of the Apex business. We've now put a top accounts program in Creative Circle and Oxford as well. So all of them are at different stages of this. In the Apex case, it's the most mature, but there is sequential growth in the top accounts, but not so in the smaller -- and branch accounts.

Branch accounts are typically more mid-market, smaller accounts that are not natural in scope don't hit 2 or 3 of our offices. So we can service them in one office by themselves. And given that they're smaller accounts, we've seen some, just like the general economy, some deterioration in that sector of the economy.

Our next question comes from the line of Kevin McVeigh with Crédit Suisse.

And nice results for sure. Is there any kind of extended holiday impact we should think about in the guidance as it relates to kind of the way the holiday falls? Or anything you'd call out, Ted, one way or the other, just as we're thinking about the guidance, which obviously looked pretty good regardless?

Thanks, Kevin. So obviously, sequentially coming from the third to the fourth, you always have fewer days.

Ed, can you talk about just the framework of that, and how we thought about it when we put the guidance together?

Yes. I mean, we obviously considered that. And like you say, sequentially, it's 3.5 fewer billable days. When you compare with Q4 of last year, it's the same number of days. And so Kevin, it's not really -- it's already reflected, and we did consider it.

And if you look at it on a billable-day basis, Kevin, you've got solid sequential growth there, third or fourth quarter. So anyway, for what it's worth.

No, I know. I guess I was thinking more along the lines with kind of the New Year's on a Thursday and the Christmas Holiday on the 25th. Do you think it will be…

No, Kevin, we considered all that.

Okay. Okay. And then just, I guess, any other kind of thoughts on just some structural cost/benefit post-COVID, whether it's even less real estate occupancy, T&E, anything like that, that you're thinking about? And can you kind of either let kind of flow through to the margin or maybe reinvest in the business? Anything that you're thinking about along those lines?

Well, you're seeing a little bit of that right now, right? So on the gross margin side, obviously, we have -- our consultants have less travel and billable expenses, which we don't pass-through with the markup. So there is a small almost inconsequential kind of pick up right there.

Within our SG&A, obviously, we're benefiting a little bit from less travel, lower health care, but at the same time, we're investing in the business. So each one of our businesses have invested in a modest amount of headcount where it's appropriate in order to support current account opportunities or even beyond that prepare sales for 2021. And so there is some savings there, and there is also some pickup.

So I'm sure that we'll not travel the way we used to, although there'll be some travel expenses that come into the business. Health care expenses will kind of come into the business.

But we'll -- we're -- I think, overall, if I step back from all that, Kevin, we're still on a march here to try to move our EBITDA margins from where they are kind of in the 11%, 11.5% range up to the 12% range, which is our long-term objective here. And so I still feel confident we're going to get there. Some of these little things are going to contribute, but also, we're going to do a better job of leveraging our SG&A structure through automation and other things. So that's really what we're focused on here is just to move to those margin profiles that we had in our long-term plan.

Our next question comes from the line of Timothy Mulrooney with William Blair.

Two questions here. As consulting work continues to grow as a piece of your business, I'm wondering if you could share some additional details around the services provided outside of ECS. Are there certain project types, account types or industries that are grabbing a larger share of the commercial consulting type of work?

Sure. Rand, do you want to talk to that?

Yes. I would say, most of our consult -- well, remember, we operate in 8 industries, we report on 5. But our financial services sector, our government integrator side of the business and health care tend to be our stronger consulting sectors, if you will.

Consumer & Industrial was strong. In these past 6 months, it's fallen off a bit, but I suspect it will come back. So the only one that hasn't done, and we're doing a little bit in technology, but telecommunications, in fact, probably a little less so than the other areas.

What kind of work are we doing? I think I described earlier, workforce management is a certain base, which is a natural extension of what we're doing where the client is saying. This is your competence, not mine. You take over this responsibility, build it for me, run it, manage it and hit different productivity levels.

They've also turned to us for developing agile teams or different teams to deal with specific technologies, whether that's for in the auto industry or it's in aerospace, defense or other areas we've built a lot of centers of excellence for clients in certain technologies and then manage the throughput through those centers of excellence.

Now we're getting into what we call the digital road map, digital transformation kinds of services, where we've developed a road map. We have some insight based on best practices in different sectors of the economy, where they think they can digitize their business whether that's harnessing and capturing more data or correlating the data and translating that into personalized customer service. It's manifesting itself in mobile apps in different areas.

In some cases, it's a matter of helping them redistribute the cloud for key areas that they need to have either certain security on or certain visibility around. So it varies. What I think we're moving into is dashboards, more dashboards using data that's harnessed in the cloud to help them operate their businesses even more effectively than they're doing today.

But I mean, that's a lot of different things. What we are not is the architect of that structure necessarily. Somebody like Accenture or IBM can do that, but there is a lot of areas here where we can help.

Right. Okay. Thank you, Rand, for all that detail. I've got another one for you kind of along these same lines, but more focused on your consultants. Has the current environment created an opportunity for you to provide additional training to consultants and new technologies or offerings? And if so, which areas are they focused on?

Well, first of all, if you look at our -- Ted, sorry, go ahead, respond. I'm sorry, but Ted's well versed in this as well. I mean our deployment model is to use contingent labor to build many of our consulting teams. So while we may have the leadership and the structure and the methodology and the experience, we do rely on pulling in contingent labor that have specialized industry experience in specialized technologies, whether it be ServiceNow, Salesforce, Workday or a specific operational requirement around the cloud or in dashboards. So we don't have to overly train our team because we're bringing and using a workforce that's generally very experienced and very industry specialized.

Now to that extent, we do have ongoing technical training and technology training for our national account leaders and for our salespeople as well as for our consulting people. And we do that around certain technologies. We've certainly done it around cloud. We've certainly done it around cybersecurity. We've certainly down around Salesforce, ServiceNow and some of the other very hot areas.

Dashboards is something -- and by the way, we ourselves are a digital business, a highly digital business. Ted alluded to this in a minute ago about continuing our investment in that. We also have our own experience around building dashboards and doing things, consolidating in our cloud, information that can support across the ASGN networks. So we do have expertise. We are relying on a contingent labor pool that is trained and specialized. And when we do have to go out, we'll pick certain select areas and/or we'll work with our talent university network, which we have, which will help us put that training in place.

Did that give you a feel?

Yes, it's worth adding there. Remember, our clients never come to us for an experienced workforce. I mean they always want workforce experience in technology with industry expertise based on their own business.

So that's their need to us and really our model around providing talent and consulting services in the commercial part of our business, the Apex and our other units, is really around not carrying a bench and bringing that talent on a just-in-time basis. That way, we're 100% utilized, and we're not worried about all the time about utilization, and we can charge a rate and a fee for that kind of work that's very competitive. So that really is a differentiated part of our business model there.

Our next question comes from the line of Mark Marcon with Robert W. Baird.

I want to give my congratulations. I was wondering what are you thinking with regards to your current capacity? And what sort of internal headcount additions you're thinking about from a short-term perspective? And I've got some follow-ups for George on government.

Okay. So Mark, I mean, like I mentioned earlier, we're -- we feel like we have capacity right now to do more, and so you're seeing that in our performance. We are modestly adding to headcount, maybe a little less than we would typically do, but we don't have a freeze on, if you will. So if there are account opportunities that we can serve, if there are -- typically, if there are other work opportunities where we need to deploy talent that we don't have, then obviously we're out of that. So a little bit of investment in headcount, not only for today, but getting ready for 2021, but a little less than our regular pace.

Great. And then, I mean, how much excess capacity would you say you have? I'm just trying to think through like what the incremental margins might look like on the commercial side when we get on the other -- when we truly get on the other side of COVID?

Yes. Well, I think, Mark, that's difficult to say. I mean I would just guide you back to -- we've been performing kind of in the mid, I'll call it, that 11.5% range kind of pre-COVID in that part of our business. And obviously, there are times that we performed at 12% EBITDA margins, and we're kind of moving there on a sustainable basis. So I'd kind of keep you right there, if you will.

And you had a question for George, you said.

Yes. Can you talk -- George, can you talk a little bit about the implications from the election? Assume that the polls are right, how does that impact you? What have you seen in prior changes when we've had sweeps?

All right. Yes, thanks for the question, Mark. Sure. We have seen some shifts. And if we do get a sweep here, obviously, we're going to get some changes in policies and such. But what we've tried to focus on at ECS is to stay focused on mission-essential customers and product lines that have broad support across the political aisle.

So we are really not specialized in something that you could classify as Dem more or Republican more. And we're going to stay focused that way because that's where we chase the R&D dollars, that's where we chase the high-end applications, the high-end technologies. And so we -- either way it goes, we don't think there's going to be any significant impact to our programs.

Great. And then from a short-term…

Mark, one thing, too. If you think about the areas where we traffic and specialize, right, cybersecurity, AI, machine learning, cloud and data migration, I mean those are things that are going to be in the long term -- have long-term budget support, if you will, across the government. So I think George is right, and we feel really confident that those are going to be things, areas that we want to be, and we're going to be fairly disciplined about staying there.

Great. And then from a very short-term perspective, would you expect the same sort of mix in terms of pass-through software revenue as we had a year ago? Or is that -- how should we think about the seasonality from that perspective? Just a really short-term question.

George?

Yes. So we had continued pass-through to accomplish our missions, that's forms of license as well as also technology, other technology purchases. We do not expect a huge slug in Q4 like we did last year in Q4. We've got a pickup in this Q3, and I expect it moving forward, we will have continued pickups, but it's not necessarily seasonal, but it will -- just like it is in Q3, provide a supplemental surge to our revenue.

There are no further questions in the queue. I'd like to hand the call back to Mr. Hanson for closing remarks.

Great. Well, I want to thank everyone for being on the call today, and we look forward to talking to you about our fourth quarter results in the first parts of 2021. Everyone stay safe and healthy.

Ladies and gentlemen, this does conclude today's teleconference. Thank you for your participation. You may disconnect your lines time, and have a wonderful day.