Exponent Inc (EXPO) 2013 Q2 法說會逐字稿

Ladies and gentlemen, thank you for standing by. Welcome to the Exponent second-quarter fiscal 2013 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, July 23, 2013, and I would now like to turn the conference over to Erica Abrams with The Blueshirt Group. Please go ahead.

Thank you. Good afternoon, ladies and gentlemen, and thank you for joining us on today's conference call to discuss Exponent's second-quarter 2013 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 any other reproduction is expressly prohibited without Exponent's prior written consent. Joining me on the call are Paul Johnston, President and Chief Executive Officer, and Rich Schlenker, Executive Vice President and Chief Financial Officer with 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 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 in Exponent's Form 10-Q for the June quarter of 2013. 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. Paul, please go ahead.

Thank you for joining us today for our discussion of Exponent's second-quarter and fiscal-year 2013 results. We are pleased to report revenue, utilization, and EBITDA performance that were better than expected. Net revenues increased 5% to $71.9 million. Total revenues were $75.5 million. Net income in the second quarter was $10.8 million or $0.77 per diluted share. Our EBITDA was $19.5 million.

During the quarter, we had notable performances in our Mechanical, Electrical, Thermal Sciences, Human Factors, and Chemical Regulation and Food Safety practices, as well as our Infrastructure group. Our revenues before reimbursements during the second quarter of 2013 included $1.75 million related to services performed for a foreign client in prior periods, which was recognized upon receipt of payment.

As we discussed with you last quarter, we are experiencing the anticipated step-down in major assignments and we are feeling the impact of the sequestration and the planned reduction of forces in Afghanistan in our Technology Development business. More than offsetting these headwinds, we continue to see a steady flow of reactive engagements to investigate accidents, product recalls, and health and environmental exposures.

Additionally, we are seeing growth in our more proactive services, including Product Design Consulting, Regulatory Consulting, and Risk Management. Now Rich will provide a more detailed review of our second-quarter financial performance.

Thanks, Paul. We are pleased to have delivered another solid quarter. Revenues before reimbursements or net revenues, as I will refer to them from here on, were $71.9 million, up 5% from $68.3 million in the same period of 2012. Total revenues for the quarter were $75.5 million as compared to $74.5 million one year ago. Net income for the second quarter was $10.8 million, or $0.77 per share as compared to $10.3 million or $0.72 per share reported one year ago. EBITDA for the second quarter was $19.5 million, an increase of 6% over $18.2 million one year ago. EBITDA margin on a percentage of net revenue basis was 27.1%.

Our diluted share count decreased to 14 million from 14.3 million in the same period last year as a result of our ongoing repurchase program. In the second quarter, we recognized $1.75 million in revenue related to a contract in our Health and Environmental segment for work performed primarily in the fourth quarter of 2012 and some in the first quarter of 2013.

Due to concerns about collectability, we waited to recognize revenue until we received the cash, which occurred during the second quarter. This incremental revenue contributed $1.75 million to revenues before reimbursements; $1.2 million to EBITDA; $700,000 to net income; $0.05 to EPS; and 2 percentage points to utilization.

In our Defense Technology Development business, net revenues were $3.1 million. We had no revenues from product sales in the quarter. As Paul discussed, we are continuing to feel the impact of defense budget cuts and the plan to reduce forces in Afghanistan. At this time, we do not expect any additional product sales and, as such, the comparison to the fourth quarter of 2012 will be difficult, as we had $2 million of net revenues from product sales in that quarter, which also contributed significantly to margins.

Utilization in the second quarter was 75%, or 73% after adjusting for the Environmental project., as compared to 76% in the second quarter of 2012. We expect full-year utilization to be approximately 70%, which reflects the step-down in some major assignments and seasonality during the third and fourth quarters when we have more vacations and holidays taken.

For the second quarter, billable hours were 280,000. Full-time equivalent employees were 714, which is an increase of 4% from the same period last year. We have continued to add some great talent in several of our fast-growing practices and now expect FTEs to grow 1% sequentially in the third and fourth quarters.

We also realized a 2% billing rate increase year over year. For the second quarter, compensation expense after adjusting for gains and losses in deferred compensation increased 4%, which is in line with our headcount growth. Included in total compensation expense is a gain in deferred compensation of $168,000. As a reminder, gains and losses in deferred compensation are offset in miscellaneous income and have no impact on the bottom line.

Stock compensation expense in the second quarter was $3 million and we expect stock compensation for the full year to be approximately $13 million.

Other operating expenses in the second quarter increased to $6.2 million as compared to $6 million in the same period last year. Depreciation was $1.2 million and is included in other operating expenses. We expect other operating expenses to be in the range of $6.4 million to $6.6 million in each of the third and fourth quarters.

G&A expenses in the quarter were $3.7 million as compared to $3.1 million in the same quarter one year ago. G&A expenses are up as we are spending more on recruiting, marketing, professional development, and professional services. For the remainder of the year, we expect G&A expenses to be in the range of $3.8 million to $4.4 million per quarter.

Interest income for the quarter was $36,000. Our income tax rate in the quarter was 40.6%, up from 40.1% in the same period last year. We expect 40.8% for the full year. Operating cash flow for the quarter was $21.6 million. Our cash and short-term investment balance was $123 million at quarter-end.

Year-to-date stock repurchases are $17.1 million or 328,000 shares. We still have $38.8 million authorized and available for repurchase under our current repurchase program.

We also distributed $4 million to shareholders through the dividends during the first half of the year and, today, announced our third dividend to be distributed in September.

Capital expenditures in the quarter were $1.7 million. DSOs were 95 days.

Considering our better-than-expected performance year-to-date, we now expect growth in revenues before reimbursements for the full year to be in the low single digits. We are also improving our 2013 outlook on EBITDA margin by 75 basis points, which means we now expect EBITDA margin to be down by 150 to 200 basis points as compared to 2012. This guidance reflects the offsetting effects of reduced revenues from a few major assignments and a decline in defense work, with increased revenues from growth of the remaining business.

With that, I will turn the call back over to Paul for closing remarks.

Thank you, Rich. In summary, we are pleased with the level of activity in our underlying business in the first half of the year. While last year presents some difficult comparisons for the back half of the year, we are encouraged by the fact that we are continuing to get retained to investigate the most significant engineering and scientific issues in the news.

We remain focused on building our capabilities to assist our clients with their most challenging technology, health, and environmental issues. Our top financial priorities will be generating substantial cash flow from operations, maintaining a strong balance sheet, and enhancing shareholder value through the stock repurchases and dividends.

I will now turn the call over to the operator for your questions.

(Operator Instructions)

Tim McHugh, William Blair & Company.

First just wanted to ask just to get the context right. Are you still seeing an expected fall off in the large cases or have you seen any longer tail to them at all continue here into Q2?

So Tim, the way I would describe that is at the beginning of the year we said we expected them to drop off and we are seeing that happening. Some step-down in the first quarter, some more step-down. We expect to continue to see that this year. So that is in keeping with our viewpoint on those matters.

I think that we sort of expect these to step down from these -- what we've always described as unusually large assignments from our Firm -- back into what might be considered to be normal, large assignments but not unusually major assignments. Just typical large projects. And we expect that to continue through next year as far as we can see. So we do think that these kinds of matters have long tails and we continue to see that.

But as we think about the impact for this year, have you seen the bulk of -- now that we are half way through the year -- did you see the step-down at this point of the year? Or is it a gradual thing that we will continue to see that impact more so?

We have -- we definitely saw a step-down in the first quarter. We continuing to see a step-down and we expect that to -- those step-downs to continue through the year. But we expect at the end of the year and through next year, we will continue to have these as -- what we would call large cases but not the typical -- not the unusual major assignments.

Right. So it's a trend [line] down, not a step function? Is that what you're saying?

Yes -- that is -- there has been a step-down, but it is consistent with what we had expected for the year.

And the strength you have seen in the other parts of the Business, is it the more traditional, smaller cases? Or have you seen anything that's starting to work its way up in terms of more larger cases that you are winning?

So what I would describe there is we have seen some -- a mixture of small cases, medium cases, and I would even say, quite large cases by our normal standard, but not anything that would be described as these more major assignments. We have talked in the past about major assignments maybe being 4% or 5% of revenue each. The major assignments. And whereas large projects for us might be 2% or 3% in a quarter. And the work that is coming on varies from large cases to medium and small cases. But there isn't anything of the scope and size that the major assignments were.

Okay, but do you have--?

But that's what we expected.

Do you have more large cases based on that definition than you typically would have? Or is it reverting back to the historical mix between?

I see it reverting back to the historical mix.

Okay. And then just on the utilization comment, Rich, for 70% for the year, does that exclude the impact of this catch-up in Q2? Because if not, I guess it feels a little hard to see you guys getting down to 70% for the year?

Yes so, look, what -- we were on run rate basis about 3 percentage points below where we were last year in the second quarter, so the 73% versus 76%. We view that in the third and fourth quarters, we will probably have utilization that's somewhere in the 4 to 5 percentage points below where we were last year. So putting us probably in, let's call it high 60% -- 69%, 70% for the -- 68% to 70% range for the third quarter. And then in the mid-60%s for the fourth quarter, which would be still a trend line that would put us in the 70%-ish range. Maybe between 70% and 71%. But that is where that would come out to be.

Okay and why would it be a bigger impact? And I guess just a slightly bigger impact in the second half of the year? What's the--?

Because, as Paul described, we are continuing to see a step-down in the major assignments as well as defense work. We expect that those will be less than they were in the second quarter when we look out to the third and the fourth quarters. So that -- it's just another -- as they continue to gradually step down a little bit

Okay. Fair enough. Thank you.

Joseph Foresi, Janney Montgomery Scott.

My first question here is just on the product sales. What can we expect from that over the long-term? I know that short-term, it's going to be challenged because of sequestration? And then, can you talk about how you have repositioned if you have the resources in that particular offering?

Yes. So first of all, for the long-term with regard to product sales, our view here is that we are a consulting Company, we are not a products Company. We ended up as a result of the work we were doing in the defense area of our Business where we had some particular opportunities to make some product sales that we capitalized on. But we have never felt that was part of our core business. It just was an opportunity we were not going to throw away.

So, is it possible that we could get product sales in the future? It's possible. But we think less likely. We are in a situation where those were developed out of ideas that came out of the Rapid Equipping Force. As we see the wind down going in Afghanistan, along with the tightness on the defense budget, it is not clear to us that we will get those opportunities again.

So, as Richard indicated, we certainly don't expect anything to happen on the balance of this year but we are not necessarily -- we're not giving a guidance for next year yet but we're not necessarily expecting product sales to come back. So that would be the first thing I would say.

The second question, which had to do with how we are utilizing those resources, our Defense Technology Development practice is one that has consistently used a lot of the other practices in the Company to leverage the kind of work that there were doing, particularly in the Electrical practice for example, but also in our Vehicle practice.

So it is a practice that has, when it has been operating at the higher levels, it has utilized resources across the Company in many different offices and a number of different practices.

And so what's -- the first thing that happens when that business scales back, is that the outreach into other practices is much smaller and other practices have other work. For example, in Electrical area, that's with the consumer electronics work and so forth, that is growing very nicely. So it gets absorbed in that way.

Okay so how would you view your long-term targets as far as utilization and EBITDA margins, given the fact that this potential area that you have capitalized on in the product side won't be a part of it? Should we expect that to be a slower ramp as you try and increase utilization rates as we get to a more normalized level next year?

Look, I think that this year's revenues will only end up having $200,000 of product sales into it. So basically, we're going to end up with a year-end 2013 that won't have product sales built into the margins that are there.

I think that if the year, as we have spoken about before, we think that long-term this firm can run up -- move its utilization on a long-term basis up towards the mid-70%s. We think that will be a gradual growth from this year being approximately 70% and then improving there out.

We clearly have our larger practices where there is critical mass performing above that level. We think as we build out critical mass in other practices and offices that we will likewise continue to get improved utilization going on. That, along with the fact that over the years we have continued to demonstrate that we can get leverage out of building up critical mass in our offices by leveraging our operating costs and by being a small public Company, we believe there is continued leverage to be gained out of that.

I think all of that will result in Exponent being able to improve on average its margins about 30 to 50 basis points a year over the next, call it, three to five years, as we continue to gradually get leverage out of the business. And that is something we have been able to do for many years.

There is clearly step-back here but clearly a lot of that has come from the fact that we're going to end up with about $3 million less in product sales this year. And clearly a step-down in the utilization that I think will be a good platform for us to build off of hopefully going forward.

Great. And then just the last one for me. I think you talked a little bit about there being some potential large deals or large deals coming back. Maybe you could give us some color in what area those deals are taking place? And if you could just give us your view on the proactive versus the reactive demand environments that would be helpful as well?

So, Joe, just to clarify, you're talking about project work coming in?

Yes and Paul just in one of his prior answers to one of the questions had talked about there being some large deals in the pipeline as it reverts to kind of normalized progression?

Yes the emphasis there was actually that I think we are seeing a regular flow of projects of small, medium, and large. There isn't a differentiated backlog from -- or pipeline than we have seen in the prior years. We continue to get involved or called upon by clients to address some of these large engineering or scientific incidents on a reactive basis that occur. Those are the types of things that end up hitting the news where there is an accident or a failure in a product or process that has occurred. And there needs to be a investigation as well as potentially future litigation and such going on.

We continue to see a steady flow of that. And we believe that we are continuing to get contacted by clients who really want our help in these areas and want that.

So I think it does not matter if they are in the oil and gas area and there is an explosion or an event, or they apply to medical devices or consumer electronics. We've continued to see that our brand as the old Failure Analysis Associates that has --morphed, grown into Exponent, has continued to play well and have us get those calls in the marketplace.

We are continuing to see again, a build-up of proactive business going on. The work continues to be a lot of focus around the biomedical area as well as the consumer electronics area. We're seeing that our reputation is building in, in those marketplaces and we're getting called upon by more firms, more often in those areas.

Additionally in the proactive area, we continue to see a growth in our consulting to clients as they are working through a regulatory process with their product. That could be the Consumer Products Safety Commission; it could be with the FDA; it can be with a number of agencies. But that work has continued to grow as well.

So those are some examples of what is happening. I don't think there is a difference in the level of a backlog or pipeline that we have. As you know, those are short-lived for us. Cases come in, they settle, they get resolved. Some of them go on for years. It is hard to predict.

Okay, thank you.

Tobey Sommer, SunTrust.

Many of my questions have been answered but you discussed some additional marketing and investments in what seemed like sales generation. Could you describe those and the extent to which it is just an increase in ongoing efforts? Or is there some sort of new investment? Thanks.

Yes. So, again, I had mentioned that G&A was up slightly because -- or up a little bit -- because of both emphasis on recruiting, professional development, professional services, as well as marketing.

The marketing part is probably a little bit more the same. Clearly, as we expand into new industries and as we are doing more proactive consulting, we are finding that we need to be out at conferences, trade shows, events such as that, where clients that are more on the product design, regulatory consulting, risk management side, are there. So we are seeing that we need to put more effort into that, get more exposure, and build our brand on the proactive consulting side.

And then, I just wanted to ask a question about software. In the expertise that you have in the consultant base now, as more and more of your customers and industry verticals have that embedded, the extent to which that may be one of the areas of focus for you to add headcount? Thanks.

Yes, that is an area of focus for us to add headcount. We have been doing that. I think that we have a concerted effort here to make sure that we can, on the reactive side, cover all of the kinds of things that can lead to failures or products not performing. And obviously those can be overall design type things, they can be materials type things, they can be mechanical, they can be electrical. But they can also be software and that is an increasingly important part of our analysis for number of different areas.

Also, when you look at the intellectual property, the patent litigation area, there is a demand for some services in that area as well.

So we are very focused on trying to build up that area. We're building it up organically. So it is brick-by-brick, person-by-person. And so that will take some time to make a meaningful impact on the firm as a whole. But we feel pretty good about some of the recent hires that we have had in that area.

And then my last question is, are you seeing any new competitors emerge, any boutiques that are starting to assemble more of a critical mass? Or is it still the same disparate set of competitors by scientific and engineering specialty as well as geography?

It is really a bit more of the same. We have got competitors in every practice that we are in. They're mostly smaller firms. There are some areas where there are large firms but a small portion of it competes with us.

For example, in the environmental area, construction consulting area, would be examples of that, some in the infrastructure. So there are those ones. In terms of at our level and our tier, I think we continue to be absolutely the major player.

Thank you very much.

(Operator Instructions)

David Gold, Sidoti.

Was just hoping for a little bit more color on -- you spoke a little bit to Tim on the step-down. But just a little bit more color on where we are today versus, say, the expectation at the beginning of the year. So it sounds like you have seen some of the step-down. But my sense is it has been a little bit less maybe than you thought it would be or less quick than you thought it would be six months ago.

So, A, curious if I am correct on that? And then, two, given any changes, how does your thinking change on the step-down over the next, let's say, 12 months?

Yes, I think another way to look at it -- first of all, I think you are correct, the step-down was maybe a little slower than we had thought. And I think part of that was because we previously described that January was slow and so forth.

But I think part of the challenge in trying to sort of be precise about answering the question is that the major assignments we have, there is parts of the work that are what I would call clearly related to the original events or alleged events and that we were investigating at a very strong level. But I think over time part of what happens is that you end up doing more work for those clients and those clients -- you find other opportunities with those clients that are maybe not directly, but still somewhat related to the original event. And over time, you may continue to do quite a bit of work for that client that is pretty loosely related to the original assignments that you got.

So in all of these cases, what we are dealing with is -- I would describe it as pretty major organizations, very large corporations that have a lot of different issues. And so as a result of that, it is difficult to pin exactly what is related to what. We just think we are on track to have these major assignments fall into the category of typical large products by next year.

Got you. So that's presumably to say -- when we spoke about it six months ago, the thinking was that they could maybe [0.5] over 2013 but we'd still be up and running next year. So presumably the thinking is still that they would be sizable next year, it's just a question of how big sizable is and maybe it is a little bigger than maybe we thought before?

Yes they are going to be sizable next year. It's just a matter of whether I would put them in the classification of a large project as opposed to what we would use the term of major assignment.

Yes, I think when we get -- where we are headed is where we thought we would be at the end of the year. There was a little bit of slowness in January. We saw some strength in February and March. We probably saw them step down to the level we expected them to be at during the second quarter. And it will continue to -- a little bit of a step-down the next few quarters. And we will move on.

Got you. So before all that works out, by the end-of-year, do you think -- still think there'd be -- that maybe if we were talking 13%, 14% revenue last year, do you think for this year, we are at a rate of say 7% towards the end of the year?

Yes, I'm not sure I want to try to put a specific number on it. But certainly if you were thinking that cases -- that projects that were in the 2%, 3% of revenue are what we would call typical large projects and you had three of those, yes, you are probably in the right ballpark.

Perfect. Perfect. All right, thank you both.

And at this time, there are no further questions in queue. Ladies and gentlemen, that does conclude our conference for today. If you like to listen to a replay of today's conference, please dial 303-590-3030 or 800-406-7325 and enter the access code 462-6926. We would like to thank you for your participation and you may now disconnect.