Exponent Inc (EXPO) 2006 Q2 法說會逐字稿

Good afternoon. My name is Paige, and I will be your conference operator today. At this time I would like to welcome everyone to the Exponent second-quarter earnings conference call. (OPERATOR INSTRUCTIONS). I will now turn the call over to Ms. Brinlea Johnson. You may begin your conference.

Good afternoon, ladies and gentlemen, and thank you for joining us on today's conference call to discuss Exponent's second quarter of 2006. Please note that this call is being simultaneously webcast on the Investor Relations section of the Company's corporate website at www.exponent.com. This conference call is the property of Exponent, and any taping or other reproduction is expressly prohibited without Exponent's prior written consent.

Joining me on this call today are Mike Gaulke, President and CEO, and Rich Schlenker, CFO of Exponent. Before we start, I would like to remind you that the following discussion contains forward-looking statements, including statements about Exponent's market opportunities and future financial results that involve risks and uncertainties and that Exponent's actual results may vary materially from those discussed here. Additional information concerning factors that could cause actual results to differ from forward-looking statements can be found in Exponent's periodical filings with the SEC, including those factors discussed upon the caption "Factors Affecting Operating Results and Market Price of Stock" in Exponent's Form 10-K at the year ended June 30, 2006. The following statements and risks stated in this conference call are based on current expectations as of today, and Exponent assumes no obligation to update or revise them whether as a result of new developments or otherwise.

And now I would like to turn the call over to Mike Gaulke, President and CEO of Exponent. Mike, please go ahead.

Thank you for joining us today as we report our results for the second quarter of 2006. We had a good revenue quarter with net revenues growing 6.5% to $39.1 million. Excluding defense technology development, net revenue grew 9% over the same period last year. Net income was $3.7 million or $0.21 per diluted share, which included the impact of $0.01 per share associated with the implementations of FAS 123R.

In the second quarter, we continued our recruiting momentum with the objective of achieving long-term growth and ended the quarter with our consulting FTEs being up 12% over the prior year. We are particularly excited about the hiring of Dr. Elizabeth Anderson as a Group Vice President to lead our health group. She is an internationally recognized health scientist with over 30 years experience in the industry, specifically in risk assessment of chemicals and other agents in the environment.

Most recently Dr. Anderson was the President of Sciences International. She joined us in early June, along with five other former sciences colleagues. We believe these hires are important investments in our future, and we hope it will help position us for future growth.

During the second quarter, we experienced strong demand in our electrical, biomechanics, civil engineering and construction consulting practices. In electrical we saw increase demand in design consulting from several computer manufacturers. In our biomechanics practice, we continue to grow, and we are capitalizing on the opportunities in medical devices and implants in particular where we have been focusing on product design and regulatory issues.

Our civil engineering and construction consulting practices were also top performers. Both of these practices are working on a wide range of projects, including our active engagement on issues associated with the big dig in Boston. During the second quarter, we made encouraging progress in expanding our business in defense technology development. We have received several new contracts, including an order by the Robotic Systems joint program project office for 215 MARCbots, which are scheduled to be delivered in the third quarter. This $1.6 million order, of which Exponent will realize about $800,000 in net revenue, is part of a $9.7 million indefinite delivery indefinite quality contract award to Exponent.

We also signed a follow-on contract with U.S. Army's Rapid Equipping Force for support of newly deployed technologies in Iraq and Afghanistan. Additionally we have secured a new U.S. Navy contract to develop prototype system to support Maritime security operations during the boarding of vessels.

Overall we are pleased with our results for the first half of 2006. Although our net revenue growth was impacted by the timing of defense technology contracts as expected, our business excluding defense, which comprised over 90% of our net revenues, grew by 10%. With the 12% year-over-year growth in our consulting FTEs and the recent contract awards in defense technology, we believe we are well positioned for growth of revenue and profit in the second half of 2006 and beyond.

With that I will turn the call over to Rich for a detailed discussion of our financial results for the second quarter.

(technical difficulty). Net income was $3.7 million or $0.21 per diluted share as compared to $4.1 million or $0.23 per diluted share in the second quarter of 2005. Excluding the impact of 123R, net income for the quarter was $3.8 million or $0.22 per diluted share. EBITDA for the quarter was $7.2 million as compared to $8 million for the same period a year ago.

The increase in net revenues this quarter was the result of 6.8% increase in billable hours versus the same period last year growing to 191,000 billable hours. As expected, net revenues decreased in defense technology development from $2.5 million to $1.8 million.

Our effective billing rate was unchanged as compared to the same period last year. Although we did increase individual billing rates by approximately 5% on January 1, this was offset by the fact that many of our new hires are entry to midlevel consultants. Hereafter I will compare all results on a percentage of net revenue basis.

Compensation expense for the quarter increased 10% over the prior year to $26 million or 66.7% of net revenue. This compares to $23.6 million or 64.5% reported in the second quarter of 2005. This increase is the result of year-over-year FTE growth of 12% to 565 for the second quarter of 2006, as well as annual salary increases of approximately 5% which took effect on April 1.

Utilization for the second quarter of 2006 decreased to 65% as compared to 68% in the same period of 2005. Other operating expenses in the quarter were $5 million or 12.7% of net revenues versus $4.6 million or 12.5% in the same period one year ago. Depreciation for the quarter was $895,000. G&A expenses for the quarter increased 25% to $2.7 million or 6.9% of net revenues versus 5.9% recorded in the same quarter one year ago. The primary reason for the increase in G&A are marketing and recruiting expenses, as well as the fact that we had a bad debt recovery in 2005 instead of an expense resulting in $150,000 difference in the category.

Stock-based compensation expense for the quarter was $855,000, which included $182,000 of stock-based compensation expense related to the implementation of 123R. Reimbursable expenses for the quarter were $2.6 million as compared to $3.2 million dollars in the same quarter of 2005, which reflects the lower levels of activity and technology development.

For the quarter, interest income was $533,000, up from $274,000 one year ago. Our tax rate was 39% as compared to 39.6% in the second quarter of 2005. For the quarter, shares used to calculate net income per diluted share were 17,637,000. During the quarter we repurchased 757,000 shares for a total of $12.2 million. As of June 30, we had 15.7 million shares outstanding. These purchases were only partially reflected in our weighted average share for the second quarter and will be fully reflected in the third quarter. We expect our share count to continue to decline in the upcoming quarters in line with our share repurchase activity. We closed the quarter with cash and short-term investments of $61.9 million.

DSOs this quarter increased to 106 days versus 97 days in the first quarter of 2006. We expect to see this return to the low '90s by year-end. Capital expenditures for the quarter were 879 -- $870,000.

In summary, we believe recent hiring and improvements in our defense technology development practice position Exponent to return to high single to low double-digit revenue growth in the second half of 2006. Also, in the second half, we expect our margins to be flat to slightly below the same period last year as we continue to integrate our new hires. However, as we enter 2007, we expect utilization to improve.

Now I will turn over the call to Mike for closing comments.

In the second quarter, we had many accomplishments in our more traditional failure analysis practices and were successful in bringing in several new defense technology contracts. For the second half of the year, we expect to first, capitalize on our investments in our health practice with the addition of Dr. Anderson leading the group; second, continue to make additions to our team of talented professionals; third, see a pickup in our defense technology development practice as we execute on new contract awards; fourth, continue to repurchase our shares on the open market, and fifth and perhaps most importantly, position ourselves for further growth in revenues and profits in 2007.

We look forward to reporting more success to you in the coming quarters. Now I will turn the call over to the operator for your questions.

(OPERATOR INSTRUCTIONS). Mike Crawford.

One, on the Navy contract, that sounds like a little bit different than the work you started investigating for them maybe around the year ago relating more to a submarine detection. Is that correct?

Yes, Mike. This is a completely different area. The work that we started on ASW anti-submarine warfare is, in fact, right now in the demonstration phase this current quarter. So that is work that we will conclude the current phase of this quarter. There may or may not be further work on that contract depending upon how our current demonstration goes this quarter.

The new contract here is one that is in the area of Maritime security, and the specific problem that the Navy has is having a good database of boardings of ships at sea. That is what we are assisting them with.

Okay. Great. Then two more questions, quick ones. One, I imagine your work on the Big Dig has stepped up in this quarter?

If you're asking about whether we are involved in the events of last week in Boston, the answer is yes.

Okay. Right. And then, Rich, did you give a specific average FTE for the quarter, or could you if you have it?

Yes, the number that I did give, but I can repeat again, the average FTE for the quarter was 565.

565 and the ending count, do you have that?

The ending count was -- well, the average for June, which has in the ins and outs in that, was 574.

And it ended at 565?

No, no, no, that was June. Because we had a number of hires including [Buddy Anderson] and that team come on board in June, we clearly have momentum already moving forward into June 3 with probably about 10 plus FTEs already picked up from there. So we would expect to see sequential FTE growth from Q2 to Q3 somewhere netting somewhere in the 2 to 3% range sequentially.

Okay. Great. Rich, just to make sure I understood it, it was 565 average and 574 ending?

Yes.

Steve Ranieri, Franklin Advisory Services.

It appears that you stepped up your pace of new hires. And I guess I had been under the impression that it was somewhat challenging to attract some of these new hires. Maybe I'm wrong. So I would like to know if that environment has changed and if the quality of the applicant has changed? And secondly, I'm curious to know your thought process behind the decision to accelerate the pace of new hires at this point.

Well, first we ended up getting behind the recruiting curve about a year and a half ago, and this is a process that unfortunately just in our business you don't just turn on a dime. So we have been seeing here for the last six months in particular the results here of a concerted effort to, in fact, increase our recruiting efforts as a firm that we really undertook in 2005. We kicked off with some major investments in both outside resources, as well as bringing on board dedicated resources to improve our ability to identify and bring in talent. That is paying off, and it is paying off in the numbers that you see today that we are reporting today.

We have a strong belief that the flow of -- continued inflow of new talent into our firm is key for our future growth and future success, and so we will continue to bring talent on board.

Going forward I think from a planning standpoint you should on a longer-term basis look for us to be bringing in on average 5 to 7% new hires over the headcount growth over the course of a year. We have some comparisons here versus prior year that make that higher this year. As Rich has indicated, we will see something in the 2 to 3% perhaps next quarter sequential increase in headcount and then moving into next year returning to a more normal level of addition to talent.

But it seems that -- was there something in your plan that made you -- I appreciate that you have stated that you have been sort of behind the curve, but is there something in your plans for this year that really made you step it up to multiples of what it has been historically? There is just some business down the line that we just cannot see at this point or --?

This is Rich Schlenker. Our hiring plans and the execution of that which is the result of this growth was laid out in individual business plans for each of our practices in the fourth quarter of last year for 2006, and what we are executing right now on is in line with that plan. The practices, many of the practices saw opportunities either nationally or in certain geographic regions to grow. We as an executive management team met with each of those practice directors and reviewed that. We encourage them as we should to be growing, and I think we are executing on that pretty well.

If you look at the results there, the distribution is pretty broad across all of our practices. There are probably more than half of our practices that have clear in excess of this 12% here. It's not just everybody hovering around that number. Some of them have grown 20% in FTEs and are absorbing that in because we have done it in the right way. I mean there is always some short-term impact to bringing people on board and getting them integrated. But we're doing this on a case-by-case basis based on the markets available and what marketing we think we can get done and position ourselves for for certain industries as well as disciplines.

Did the market for talent loosen up a little bit for you?

No, I would say that the results are two things. One, as Mike described, we have clearly doubled our efforts and as such have gotten an increase in the number of hires coming in. So that has picked up by, let's say, 25% or so.

But in addition to that we have been focusing on also on making sure that we have a good retention. We have always not had a turnover rate very high. We have been sort of in the midteens. But I will say for the first six months of this year we saw that drift even lower closer to 10%. So it is also that net FTE growth is the result of both recruiting efforts as well as retention efforts in the organization.

And I guess finally, I guess I certainly am a little surprised by the growth and hence all these questions regarding that.

That is all right.

I had thought with a 68% utilization for last year I guess for some reason I would have hoped we could have had a 7 handle on that number. Is that just not practical given the friction of the business as a goal?

First of all, the utilization, the overall utilization for last year was 65%. (multiple speakers)

I thought you said 68%?

That was it for the second quarter of last year.

Well, that is what I'm saying. 68 now and 65. I guess (multiple speakers) I was hoping we could go into the 70s instead of ramping up hiring by 12% (multiple speakers). That is not realistic for me to think?

No, it is. It is not unrealistic to believe that we can get to 70% in a second quarter. It is the situation that we had with some softness in our technology development business, as well as a number of hires coming in that we feel that for the mid-term and long-term that continuing to hire where we have identified margin opportunities for the next couple of years is a good move for the Company and will bring returns to shareholders through that process. And I understand sometimes that's going to have a short-term impact on utilization, but if we -- we can always squeeze the staff and stop growing an increased [MUT]. But in the long-term we won't grow the talent that we need to really grow the firm over the next three to five years.

[Jerry Heffernan], Lord Abbett.

Could we perhaps continue with the last caller's questions on utilization? I know that it is a topic that has been discussed in several different ways over the last couple of years. There has always been some -- I don't want to say management discretion as to how you're going to operate the business within a certain utilization range, but there was -- it is not going to be too high because we are trying to grow the account. We did go through a period of slower growth, and going back to the last caller, I would have thought that perhaps during that slower FTE count growth that perhaps we would have seen things move up into perhaps a '70s level.

Just thinking about this on a longer-term basis, the model that you would like to see when Exponent is working at an optimal fashion, what would be the FTE count growth and what would be the 12-month utilization level?

Well, ideally we would like to over the next few years continue to get our utilization rate up into something much closer to 70 and in the low 70s ideally from a long-term standpoint. But that is an aggressive goal from where we are right at the moment. So getting ourselves in the high 60s is a more realistic three to five-year objective. Maybe if we were very successful, we could approach 70. Next year realistically it is 65, 66 given sort of where we are right at the moment.

So the other part of your question?

Is the FTE growth.

The FTE growth. But as I think I mentioned earlier, Jerry, that is something on a longer-term basis where we would like to be in sort of the 5 to 7% FTE growth. You couple that with a 4 to 4% plus price increase, then occasionally moving into new business area, and you end up in the low double digits in terms of revenue growth, and that is what we think makes sense from a steady-state basis managing and growing the firm over time.

Okay. With this step-up in recruiting efforts or I should say with the evidence today of the step-up in recruiting efforts that you have put forth six to 12 months ago, is it practical to expect the long-term operating margin expansion that we have talked about in previous periods?

I think that if we end up seeing the utilization improvement over that period of time, I think you will see some improvement in the operating margins.

I'm sorry, Rich. I was talking near-term for this year over last year. Is it appropriate for us to think that we will have operating margin expansion given the fact that this year we are seeing a comparatively unusually large FTE count growth which is also resulting in rate reduction?

Let me go back to sort of my closing comments when I was speaking earlier. My input was that for the second half we expect our margins to be flat to slightly below the same period last year as we continue to integrate our new hires into the business. However, as we enter 2007, I would expect utilization to improve, and I would expect margins to improve as well.

Okay. I apologize. (multiple speakers). I did not write that down as you were saying it. You guys have a tendency to be able to say a whole lot more than I can write.

Can we talk about the defense tech business again? What were the revenues in the quarter versus the previous period?

Yes, the revenues, on a net revenue basis, the revenues were $1.8 million for this quarter. A year ago it was $2.5 million.

Okay. Now the large number of items that you refer to in the press release -- correct me if I'm wrong -- either you have laid out more items that you were looking to be revenue producing in the next six months here than you have in the past, or there really is something -- this has hit a little bit of an acceleration in this business?

I think that it clearly is an acceleration from where we are today. Each of those opportunities that we have laid out there, the phases or the parts of those projects that have been funded for the third quarter which tend to be shorter increments are clearly as Mike mentioned the robot contract will probably be net revenues of about 800,000.

The Navy piece for the initial phase that started very late in the second quarter and flows into the third quarter is probably something of .5 million or a little bit more. There are nice sized projects or phases. The key is that with the robot project that is the first task order under what was -- what we have been given is a $9.7 million IDIQ. So they can order over the next year up to that $9.7 million. So hopefully they will continue to order, and we will have a more steady business flow from the robots versus just having some each quarter. Right now we have indications that they are prepared to issue a second task order under that.

For the new Navy initiative here around Maritime security, that again is just Phase I, which is an initial concept phase with the hope that the proposal we made had a couple of phases after that that are significantly bigger and would run out over the next several quarters. So there is opportunity on each one of these to do something bigger, and we think that it is different than where we were last quarter or in the last year with the fact that we've got a number of these lined up where they have taken the initiative, the government has, to put in place a larger contract for which they can order against as needed. So that is what is a little bit different than where we have been over the last six to nine months.

, Okay. And kind of phrasing this a little bit differently or looking at this from a different angle, it seems as though beginning with next quarter instead of trying to explain away the defense tech business as to a negative compare in the numbers, it really should be a building number and something that will be as part of the growth of the rest of the business?

Yes, that is what we expect.

Very good. I will get back in queue. Thank you.

(OPERATOR INSTRUCTIONS). Trey Snow, Priority Capital.

I too share a little bit of concern about the growth in FTEs and sort of at leas from our end the lack of visibility for opportunities in the near to mid-term. But it sounds like you guys have kind of explained your position there and I appreciate that.

My question is on the balance sheet. Could you again -- I'm sorry if I missed this -- but the ramp-up in receivables over the last couple of quarters what that result has been from and why you are confident it is going to return in the second half?

Two things. On an absolute dollar basis, the ramp-up is the first two quarters from a seasonality standpoint tend to be our highest revenue quarter. So we tend to see receivables climb as we go through the first half of the year.

As far as it relates to the increase in days sales outstanding, it actually is the fact that there are a few areas or a few clients that have just been slower in paying either in payment systems. What we are seeing is there is lots of -- anybody else who deals with major corporations -- they seem to be changing their billing processing or their invoice processing process on a regular basis. They use somebody from outside, they use somebody from inside and go about it. So we don't have any -- we think we are well reserved for any AR, and we have not seen any significant change in the write-offs or need for reserves. But we have seen in some of, for instance, our work with Ford, they have been changing over how they are going about processing it. We see that with some of the insurance companies.

So we think we have worked through a number of those issues with them and are confident that with some attention to detail that we need to put into it over the next six months that we can bring that down. We have done it many -- we have done it before. This is not a high water mark for us. We have had Q2 two years back was as high as over 110, and we were able to bring it back down within a quarter or two. So we tend to get some fluctuations depending on what is going on with certain clients and billings because we do build through law firms through to corporations and back to us or to insurance companies.

And you calculate that DSO on the net revenue number, correct?

No, that is calculated on the -- that is calculated on the gross revenues because that is the billings.

On growth? Okay. So no real concern about the accounts that are taking a little under, no (multiple speakers) or anything?

No, we continue to see a number that is less than or about at 1% of our revenues that we ever see in write-offs. We have got more than that reserved.

At this time there are no further questions. I will now turn the call back over to management for closing remarks.

Okay. Thank you for joining us, and we look forward to speaking with you in the future. Have a good day.

Thank you. This does conclude the Exponent second-quarter earnings conference call. You may now disconnect.