Exponent Inc (EXPO) 2011 Q3 法說會逐字稿

Good day ladies and gentlemen, thank you for standing by. Welcome to the Exponent third-quarter earnings conference call. During today's presentation all parties will be in a listen only mode. Following the presentation, the conference will be open for questions.

(Operator Instructions)

This conference is being recorded today, October 19, 2011. It is now my pleasure to introduce our host for today, Ms. Brinlea Johnson of Blueshirt. Please go ahead, ma'am.

Good afternoon ladies and gentlemen, and thank you for joining us on today's conference call to discuss Exponent's third-quarter 2011 results. Please note that this call is being simultaneously webcast on the investor relations section of the Company's corporate website at www.exponent.com/investors. 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 the call today are Paul Johnston, President and Chief Executive Officer and Richard Schlenker, Executive Vice President and Chief Financial Officer 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 periodic filings with the SEC, including those factors discussed under the caption "Factors Affecting Operating Results and Market Price of Stock" and Exponent's Form 10-Q for the quarter ended September 30, 2011.

The forward-looking 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 Paul Johnston, President and Chief Executive Officer of Exponent.

Thank you for joining us today for our discussion of Exponent's third-quarter 2011 results. We are pleased with our quarter's performance, which showed continued net revenue growth and profitability.

Revenues before reimbursements for the quarter increased 8% to $61.4 million, and total revenues were $66 million. Net income for the quarter grew 12% to $8.7 million, or $0.60 per share. For the first 9 months of the year, revenues before reimbursements increased 11% to $186.1 million, and total revenues were $204.5 million. Net income for the first 9 months grew 17% to nearly $25 million, or $1.67 per share.

In the third quarter, our growth in consulting revenue was especially strong. As expected, our Defense Technology product sales were substantially lower compared to the same period last year, when product sales were unusually strong.

We are experiencing strong demand from a diverse set of clients for both reactive and proactive services. During the quarter, our utilization of 72% was exceptionally strong. Especially considering it was the summer quarter. As we continue to see elevated levels of activity on a few major assignments.

As we have discussed previously, we are assisting clients with several high-profile projects. We expect these projects will step down in activity late this year or early next year. However, we anticipate these assignments will likely continue at a lower level for several years.

In Health Sciences Consulting, the integration with our new consultants in Atmospheric Sciences, which we hired in the third quarter, has gone very well. We are pleased with how many opportunities have already arisen for cross-selling their capabilities.

In Design Consulting, we are seeing increased amounts for battery consulting from a broad set of industries including consumer electronics, medical devices, automotive, and aerospace, as well as battery suppliers.

We have assembled a unique team of electrical engineers, chemists, material scientists and mechanical engineers who are able to provide multi-disciplinary solutions to our clients. Also, clients have found it to be valuable that we can evaluate their battery cells in several locations in the United dates, as well as in China.

In Defense Technology Development I'm pleased to announce that we have been awarded a new contract to support the US Army's Rapid Equipping Force. Our initial task assignment is once again to operate 2 engineering labs in Afghanistan, as well as provide technology assessment in the United States.

As you may recall, the Rapid Equipping Force was our largest defense client up until 2 years ago. At that time, the Army decided to only issue a cost plus fixed fee contract and restricted the contractor from bidding on follow-on product sales. As such, we did not pursue the contract under these terms.

But in August of this year, we responded to a new request that did not have these contractual limitations and we were awarded a new contract at the end of September.

In summary, we delivered a strong third quarter and first 9 months of 2011. We continue to capitalize on key market opportunities and look forward to continued growth and profitability ahead. I'll now turn the call over to Rich for a detailed discussion of our financial results.

We are very pleased with our financial results in the third quarter, yielding strong year-to-date results. Revenue before reimbursements, or net revenue as I will refer to them from here on, increased 8% to $61.4 million, as compared to $56.9 million in the prior-year period.

Total revenues for the third quarter were $66 million, as compared to $66.3 million in 2010. Net income for the third quarter increased 12% to $8.7 million, or $0.60 per share. EBITDA in the quarter also increased 8% to $15.4 million.

For the first 9 months of 2011, net revenues increased 11% to $186.1 million. Total revenues increased 10% to $204.5 million. Net income for the first 9 months improved 17% to $25 million, or $1.67 per share. EBITDA in the first 9 months improved 15% to $44.9 million.

Turning back to the quarter, net revenues for our Defense Technology Development business increased sequentially to $3.6 million. But decreased from $6.3 million in the same quarter last year as a result of lower product sales.

Net revenues in the third quarter included $250,000 of product sales, as compared to $3 million in the third quarter of 2010. Additionally, the reason that total revenues for the Company were flat with last year is the third quarter of last year included product sales of $7.3 million of total revenues, as compared to $600,000 in total revenues from product sales in the third quarter of this year.

Looking forward, based on the contracts we have been awarded in Technology Development, we now expect net revenues from product sales of approximately $1 million in each of the next 2 quarters.

As Paul discussed, we have been awarded a new contract to support the Army's Rapid Equipping Force. The contract is for $9.6 million, of which $2.8 million has been funded to date. Of this funded amount, we expect to realize approximately $2.5 million in net revenues over the next year.

Utilization in the third quarter was exceptionally strong at 72%, up from 71% in the same period last year, as we experienced sustained demand related to unusually large assignments.

We expect utilization to moderate in the fourth quarter, reflecting both the potential step-down in some major project work, as well is typical increased holidays and vacations that occur in the fourth quarter. Utilization for the fourth quarter will be in the mid-single -- mid-60s, bringing the full year utilization in at 70% to 71%. Contributing to strong utilization was a 10% increase in billable hours to 250,000, as compared to 226,000 in the same period last year.

Our average technical full-time equivalent employees for the third quarter increased 8% to 664, as compared to 614 in the same period last year. We continue to selectively hire key talent to expand our capabilities. And now we expect growth in FTEs to be about 1% sequentially in the fourth quarter.

The percentages I will reference hereafter are on a percentage of net revenue basis. EBITDA margin for the third quarter improved 20 basis points to 25.2%, from 25% in the same period last year, as increased utilization and leverage of infrastructure more than offset the decrease in net revenues from product sales.

After adjusting for deferred compensation expense, total compensation expense for the quarter increased 8% as compared to the same quarter last year. This increase is primarily the result of an 8% headcount growth, along with annual compensation increases which took place in April.

Third-quarter 2011 total compensation expense has been reduced by $2.5 million due to losses in the deferred compensation plan. As compared to the same period last year, when compensation expense increased as a result of gains of $1.2 million in the deferred compensation plan. As a reminder, deferred compensation expense are offset in miscellaneous income and have no impact on the bottom line of the Company.

As a component of compensation, stock-based compensation expense for the third quarter was $2.3 million. We expect stock-based compensation expense to be approximately $2 million for the fourth quarter.

Other operating expenses for the third quarter increased 9% to $5.9 million. As a component of other operating expense, depreciation was $1.1 million, which was flat over the same quarter last year. We expect other operating expenses to be approximately $6 million for the fourth quarter of 2011.

G&A expenses in the quarter were $3 million. We expect G&A to be approximately $3.7 million, which is flat with the fourth quarter of last year.

Interest income was $79,000, as compared to $36,000 in 2010, due to low interest rate environment. Our tax rate for the third quarter of 2011 was 39.3%, as compared to 40.8% in the same period last year. We expect our tax rate for the fourth quarter and full year to be 40.3%.

Turning to the balance sheet. We closed the third quarter with $90.6 million of cash, cash equivalents, and short-term investments, as compared to $95 million at the end of the second quarter.

During the quarter, we repurchased $16 million of common stock, bringing our total year-to-date repurchases to over $39 million. At quarter end, we had $10.6 million remaining available on our current repurchase authorization. Capital expenditures in the third quarter were $421,000. DSO's were 95 days.

Given our strong performance in the first 9 months of the year, we are raising our expectations for 2011. However, we did consider the difficult comparison against an unusually strong fourth quarter of 2010, where utilization was significantly higher than historical levels.

As a result, we expect full-year growth in revenues before reimbursements to be near the middle of our long-term goal of high single-digit to low double-digits. We also expect EBITDA margin to be slightly up as compared to 2010. Now, I will turn the call back to Paul for concluding remarks.

In summary, we are tracking well to post a strong year in fiscal 2011. As we look at the remainder of the year, we will continue to provide the expertise and experience to answer our clients' important technology, health and environmental questions.

To selectively add new talent to allow us to continue to expand our capabilities and strengthen our skill set. To capitalize on our new contracts in Defense Technology Development. To manage operating expenses to provide the foundation for future growth in revenues and earnings. And finally, to generate cash from operations, maintain a strong balance sheet and undertake activities such as repurchasing shares to enhance shareholder value.

We are excited about our future, and we believe that we are well-positioned to deliver long-term organic growth and profitability. Now I will turn the call over to the operator for your questions.

(Operator Instructions) Tim McHugh, William Blair.

I wanted to follow up on the utilization rate that you saw in the quarter. Did you not see people take normal vacation activity because you said some of these large cases continued? Or was demand so strong or you think it was just an abnormal year and you didn't see the normal seasonality for whatever individual reasons? I just wanted to get a little more color there in terms of what you're feeling the utilization rate is.

I don't think we saw a necessarily a big drop-off in vacations taken. It might have been a little bit less, but not significant. It was really driven by the fact that we continue to see strong activity around a few major projects and in addition to that, we continue to see some strong activity across many practices, from different industries and proactive and reactive.

I think the demand environment was strong over the summer. Laid over that, on top of that was the continuation of some major projects to go along with it, and as such, we just didn't see what we -- in essence, we had a pickup in the business in demand over the summer, because we would normally expect utilization to step down a couple of percentage points from second quarter to third quarter.

Really haven't seen that the last 2 years, but last year was a little bit of the same. We had some major projects come in, in the late second quarter and into the third quarter last year that drove it -- just happens to be this year those things have continued on.

Now, as you look at those major projects, are the clients specifically telling you that the work is about -- your consultants are telling you the work is about to stop, or is there a level of conservatism here in your experience these cases probably won't continue at the pace they are at now?

I think there's a little bit of experience, but there's a lot of discussion with the teams that are working on those matters. We do expect that these projects will continue at a reduced levels for considerable amount of time, but as you go through this there are certain milestones in the project. Those milestones aren't always absolutely fixed. When there are litigation issues or regulatory issues, the goalposts sometimes move.

The fact of the matter is that based on talking with those teams, we do get a sense for how long things might continue at the current level, and then before dropping off, and that's why we currently have described that as being essentially through the next quarter and maybe into the first quarter of next year. But at about that time, we believe we will fall to a lower level.

Is it fair -- part of this abnormal strength in the summer -- are you saying it sounded somewhat like the discretionary part has improved even relative to what you would have said 3 to 6 months ago. Is that fair?

Yes, I think that is fair. I think that while the large projects have had a significant impact as we've gone through here, overall we think our demand is really quite strong.

I think the best indicator of that is looking at the strength of the consulting operation through this third quarter, recognizing that we actually had a hurdle to overcome, because the Defense Technology Development product sales weren't there this quarter. So, the growth we saw on the consulting side was really quite strong, and that was not just the large projects.

My last question would be, obviously, I know this is tough, and it's always hard for a consulting company to see too far out, but as we are getting to the end of 2011 and given your comments about those large companies, have you thought at all about 2012?

And as we set our estimates out there for next year, relative to your longer-term growth rate of 10% top line or so, and gradually improving margins, is there anything you would comment on relative to that, given the trend in those large projects?

We do our planning with our practice and office leaders in the fourth quarter. We are just getting started on that. As far as where we are going to fall out, we don't know at this time. Clearly, we think we've got strength in the core consulting outside of these larger assignments.

We are broadening our portfolio in Technology Development, but coming off of the large UK activity, that offsets each other. But there are a number of things going on there and we clearly need to get through this planning.

The one thing that I would say, I would hope that as we go through that activity, if you take away the larger, unique project activity, we would see something that was approaching our long-term goal of being in the high single-digits to low double-digit range.

But I would say that these major assignments have been larger than our normal bid projects. While maybe a year ago, it was adding 2% to 3% to what we did, this year it probably is, if there were excess, the amount of what would be larger in total might be 5% or so. It could be a little more.

But I think as we have to overcome that hurdle next year, I think we're going to need to take that into account when we are looking at where we are. It's just going to be the fact.

I do think that the underlying business is healthy. But I think that because of the high hurdle that we have to overcome for 2010, and we did feel that -- 2011, we did feel that coming into 2011, and some of the projects have really stayed at a sustained level longer than we expected. But I think it's similar to coming into this year.

The hurdle is high, and while we think we are going to see long-term activity there, I think we're going to have to take that into account in setting expectations for 2012.

David Gold, Sidoti & Company.

Couple of questions for you. Can you give a little more color on the hiring success that you had during the quarter? I know you made a quick comment in there. But the strength that you are seeing there, and how you think about that on a go-forward basis? I know you spoke to the fourth quarter, but how we would think about it on a longer-term basis.

Let me start with a little bit about the hiring environment. We still consider the hiring environment to be an excellent time to be looking to add young talent. There is a lot of very good young talent available. That makes things easier from that standpoint.

The more seasoned talent that might join the firm with a book of business, continues to be as difficult as it always is. People who are performing well elsewhere are usually happy where they are.

So, for us, I think we have had a good demand environment for our consulting services, as this year has moved on. And so we continue to use that as an opportunity to recruit new staff.

Most of the staff we recruit are relatively junior. We did have an opportunity to bring in a couple of senior people in the Atmospheric Sciences area, which allowed us to attract a number of people there. But in general we feel as long as our demand is strong, we are going to make use of that, and pickup some good new talent.

As you think about go-forward hiring, is it more opportunistic or do you look at that as the environment for hiring is good, so why not add, make up a number, 10% more heads next year?

Our hiring is actually a little more, in some ways, planned out more than that. You can't make it happen in one quarter or the other. But as I mentioned before, each of our practices and offices put together a plan for the following year, and that includes a business development plan, but related to that, and looking at how busy their business is and where things are picking up and what type of things we need, is actually a hiring plan that goes into that whole human resources plan.

And part of that is what offices, under which principles, and what technical areas are they looking to fill, and then working with our HR group out at the different universities and such. That's how they go about it.

So, in some ways it's very well planned out. On the other hand, we can always go a quarter and be flat. That sometimes is because of turnover, sometimes it is because of start dates. But we are going to go out there and if we've got a practice that can support it, we are going to be out there hiring.

We clearly encourage our people to what we call opportunistic hire, which you just meet a great talent and you shouldn't be passing up on it. If we can upgrade, that's great. That's how we go about it.

As far as the hiring activity in the areas that you are looking. Can you give a sense -- do we just assume it mirrors the areas that you called out in the release as far as being busy or are there other areas where you are --

Those would be the areas that clearly are stronger, and seeing activity, but right now, there is demand for hiring in almost all of our practices. Some a little bit more than others.

There has clearly been a real push in the mechanic and materials area. They've been busy, there's a lot of different activities going on; they serve broad set of industries, so we've got very focused university recruiting going on in that area.

When you look over more into the health and environmental area, probably more of that has been focused on continuing to add senior-level people who bring in new capabilities and new markets for us, because although those are 10 or 15 years old, it's a little slower to grow people. You've got to continue to add laterally as you're developing people in those areas.

One other question. Can you give us a sense for what the average share price was on the repurchase? And with that, how many -- what the actual share count is perhaps at the end of the quarter.

Just around $40. And the diluted share count was at 14.3 at the end of the quarter.

You said the average was $40?

Yes.

Joseph Foresi, Janney.

First question is on the demand side, I wonder if you could give us a little bit more color on where you are seeing the opportunities. You talked about a large case. Maybe you could talk about where that is taking place. And as we position ourselves heading into 2012, maybe you could give us a feel for how this demand environment compares to heading into 2011?

I can give you a few things, and there are quite a few things I can't give you, and I apologize for that. The reality, as you know, in our business is that confidentiality is exceptionally important for our clients. So, I really can't talk about the major assignments and what the nature of some of those are at the present time.

But I certainly can tell you about some areas where I would say that we have seen a stronger flow of work, where it's picked up. That would be for the work for the utilities, for oil and gas, pipelines. That area is certainly considerably stronger. I think that the regulatory environment for our food and chemicals practice, both in the US and in Europe, continues to be strong, and consumer products and electronics, consumer electronics also very robust.

We have had a very good flow of projects, and I would say that demand is definitely ahead of where it was a year ago from our standpoint. We feel that it is not just we've got some large assignments that have really helped out, but the underlying flow of work is why if you break it down, you'll see that our consulting activity as opposed to product sales grew this last quarter, in the double digits. That's the reason.

As far as how it feels versus last year, if you can measure your level of optimism. Clearly, the numbers would point that it is increasing.

Absolutely. I think that another way of looking at it from our standpoint, is we are always managing in a sense you might say a portfolio here. We've got people in a very wide range of disciplines in the sciences and engineering, and they serve also a very wide range of industries. There's always some that are up and some that are down, but we seem to be in a situation where there is very little drag in the system.

I know that a lot of the work that you do is not necessarily correlated to the economy, but with the fears out there that there may be a double dip, I know that some of it is not correlated, but it certainly sounds like the decision-making process has improved, despite what we are hearing on a macro level. Is that fair?

Again, we've still got our usual split. Roughly 65% is reactive in nature, and so a lot of our business is driven off of certain events, certain product recall issues, certain regulatory issues, and our clients are responding to the regulatory environment and need assistance in that. So, that has always helped in a sense because if there is a double dip or a downturn, that part still seems to hold up pretty well.

And then it turns out on the more proactive work, over time we feel that the demand has picked up. We feel the demand is better where is today than it was a year ago for that. I am not making that a reflection on the whole economy. It's a reflection on our client base, but it's not necessarily on the whole economy.

But the fact is that we feel that it is not just the reactive side of our business that is performing well. We feel that the proactive side is doing well, as well.

As you look at the pricing that you are potentially looking to put through next year, do you expect it to be higher than what you put through last year? Maybe give us a little color on that?

We've just begun to start on that process. As you, I think, you are aware, we review each individual and where their growth is and value to the clients that they typically serve. And so we are in that process.

I would say the first cut of that is that I expect it to be about the same, actually, because I think that the market is actually still relatively price sensitive. I think we have been fortunate that we continue to move our business to where the high value is. If certain engineering or scientific services become more commoditized and been around, we tend to do less and less of that. And we tend to grow people up through the organization.

So, we have been fortunate enough to realize 2.5% to 3.5% bill-rate increase this past year. I would view that our realized bill rate will come in somewhere in that range. 2.5%, 3%, somewhere in there.

(Operator Instructions) Tobey Sommer, SunTrust.

I wanted to ask about Rapid Equipping contract. You obviously won some product stuff through that avenue in the period that you didn't hold the lab contracts. What kind of estimated incremental gain could you get in revenue sitting in a cat bird seat, having the reins of the labs again?

The short-term upside to what we have laid out there really as we and they come up with opportunities to explore new technology solutions for them. And a lot of times, just for everybody on the call here, what we have done for them in the past is try to identify issues and problems that are coming about in asymmetrical warfare that they are involved in. A lot of it is around protecting our soldiers and those systems that go long with that.

So, what we will be doing out there is our people out in the labs, we put at least 1 PhD, if not 2, out there together in a lab at a main base, around a lot of people. People can come in with the issues they have and we are trying to identify commercial off-the-shelf, government off-the-shelf that they may not know about, or some modification there too, to try to identify a solution.

It might be just one for somebody who was going out that night on a mission, or it may be a bigger problem that they've got, and we will try out a prototype out of the lab over there, and then maybe we will try 10 out of the lab from our Phoenix location. And if that is successful, which usually it is, if they want hundreds of them, or more, then they will have us continue to revise the design and maybe do a product.

The past would tell us that there will be some of those solutions that they want a few hundred of; there maybe even some that they need a few thousand of. If it goes beyond that, it usually is put out for an outsource where it might go off to pure manufacturing environment, but the opportunity is there to do that. But predicting which quarter and how soon, we don't know. It's just another way of being out there.

But clearly, all of the things that today we have to classify for revenue recognition is product sales. If it was the MARCbot robots years back, if it was the culvert denial system, if it was the surveillance system that we have done into a new piece of work that we are in the early stages of working on.

An idea we had before that we made a few of them for, we are going to make 20 of them now. A device to stop cars at road stops if somebody goes through it. This type of device snares the vehicle and stops it. So, there continues to be some legacy, even out of what we have there, and GPR started through the rough as well.

So, we will see where goes, our goal is to try to find the best solutions for them, sometimes it is something we can produce for them, many times it is something that we direct them to go buy from someone else. But we do think that there are upside opportunities, not just for some product, but more importantly, opportunities to get more money to explore other technology ideas.

Or what they are really looking at as well is potentially having more labs in different geographic locations, having the ability to deploy a lab somewhere in a new theater or area where you need to be able to adapt technology based on what you're seeing out in the field on a daily, weekly basis. And hopefully, we can help provide that solution to them long-term.

Let me ask the question a different way if I could. You definitely did include a lot of good background there. Did you win more of the products opportunities when you were holding the keys to the lab than over the last 2 years when you weren't holding the keys?

When we had the labs, that's where the ideas got generated. Our product sales over the last 2 years have been at or above the level it was when we had the labs, but we have only been delivering on technologies that were developed back when we had the labs. There is no new ideas or new products that have been generated over the last 2 years because we weren't in that circle.

Do you have a number for gross consultant additions and subtractions in the quarter?

The gross -- I don't have that number right in front of me.

Maybe I will ask another question while you're looking, if not I will get it off-line. How large, as a percentage of revenue, did the largest project rise to in recent quarters? I'm just wondering whether the historical reference point that I have, maybe you've set a new high watermark.

As I mentioned earlier, they are approximately 5% of revenues, in the range.

Is that the largest individual one?

Yes.

Paul, you mentioned oil, gas, pipelines, utilities, and some other areas, consumer electronics as being strong. I was wondering on the reactive side, where you have seen demand grow, can you point to and trace an element that would be more regulatory intervention? Or are there other drivers behind what your customers are seeking from you?

I think there are two things. I think the regulatory environment is a key to many of our larger projects. With regard to some of the proactive work that we do is driven off of making sure that products meet certain quality objectives.

And I think that certainly in consumer electronics, that would be the main driver. In consumer electronics, the regulatory environment is not what is driving our business. It is getting the product right, and not getting returns, and having good product satisfaction is what our clients are interested in.

It's really, for those clients, a reputational thing. I think it's even some on the medical device side. Medical device provides a very different environment. There is clearly a regulatory part for which clients are very focused on driving, but the impacts on their business of a recall and failures are so substantial that I think they -- we are starting to see some balance of work that comes in that may not be totally regulatory driven.

Tim McHugh, William Blair.

Just had a couple of quick numbers ones. One, what was the ending headcount?

The ending was right around that average there, it's about 64, 65.

And then did you give cash flow or can you give cash flow?

Net cash from operations in the quarter was $12.1 million.

And did you give CapEx?

CapEx in the quarter was $971 million.

I think earlier this year you had talked about stepping up the buybacks towards $40 million or so from the last couple of years. I think you are pretty close to that now. Going forward from here, did you pull forward buyback activity from Q4 or should we expect the you're just going to continue at a similar pace going forward?

Yes, I think the expectation should be that we are going to be in this 40 to 50 range this year. We have another $10 million on the current authorization, I don't think that is a limitation on us. The board has been supportive of the program, and we can revisit that. But I think we have been talking more recently about this being in the 40 to 50 range.

Based on the fact that we had a good quarter of repurchases here, I think we will probably be in the top half of that 45 to 50. And as we look going forward, I would expect that 2012 we will see a similar level of activity.

Ladies and gentlemen, that does conclude the Exponent third-quarter earnings conference call. If you wish to listen to the replay for today's conference the phone number is 1-800-406-7325, access code 447-8201. Thank you for your participation. You may now disconnect.