Hackett Group Inc (HCKT) 2007 Q3 法說會逐字稿

Good evening, and welcome to the Answerthink third quarter conference call. (OPERATOR INSTRUCTIONS) Please be advised that the conference is being recorded. Hosting tonight's call are Mr. Ted Fernandez, Chairman and CEO, and Mr. Robert Ramirez, Chief Financial Officer. Mr. Ramirez, you may begin.

Good evening, everyone and thank you for joining us today to discuss Answerthink's second quarter results. Speaking on the call today, and here to answer your questions, are Ted Fernandez, Chairman and CEO of Answerthink, and myself, Robert Ramirez, CFO.

A press announcement was released over the wires at 4:02 p.m. eastern time. For a copy of the release, please visit our website at www.answerthink.com. We will also place any additional financial or statistical data discussed on this call, that is not contained in the release, on the investor relations page of our website.

Before we begin, I would like to remind you that in the following comments, and in the question-and-answer session, we will be making statements about expected future results, which may be forward-looking statements for the purposes of the federal securities laws. These statements relate to our current expectations, estimates, and projections, and are not a guarantee of future performance. They involve risks, uncertainties, and assumptions that are difficult to predict and which may not be accurate. Actual results may vary. These forward-looking statements should be considered only in conjunction with the detailed information, particularly the risk factors contained in our SEC filings.

At this point, I would like to turn it over to Ted.

All right. Thank you, Rob, and just to clarify, it is Q3 so, I will start with providing some feedback on the Q3 overview and highlights. I will ask Rob to comment on operating results, cash flow, and also comment on outlook. Rob will turn it back over to me. I will make some further comments on some of our strategic priorities, and we will then open it up for Q and A. So having said that, let me start with our overview and highlights for the quarter.

Today we reported Q3 results with revenue and pro forma EPS both exceeding our guidance, our much improved operating results and DSO execution resulted in over $9 million of operating cash flow in the quarter. Our goals in 2007 were to continue to aggressively grow our Hackett business, by growing our benchmarking and transformation businesses at no less than 15%, while continuing to grow our advisory services as aggressively as possible. We also needed to resume the growth of our REL group and lastly, to grow in Europe to take advantage of the enormous market opportunity available to our expanding brand. We are delighted to see these strategies impact our results so positively.

As you will recall, at the beginning of the year we changed the emphasis of our go to market strategy to ensure we optimized client relationships and leads across all of our offerings. This has allowed to us engage clients more strategically and has resulted in a significant increase in the number of million dollar plus relationships during the year. This is clearly one of the primary reasons for our increased growth and profitability.

Relative to REL, quarterly results came in higher than expected. We believe that reinstituting the REL dedicated sales channel, in Q3 of last year, has allowed us to continue to build our backlog and pipeline for this business. Our REL team was up strong sequentially and their quarterly year-on-year growth was over 50%. With a growing contribution coming from the REL European team.

In Europe, on an overall basis, we increased our investments in both resources and infrastructure across France, Germany, and the UK. Those investments have resulted in year-over-year growth, in the quarter, in excess of 100%.

On the Best Practice Solutions front, the group was down slightly, more than expected. Activity in our SAP and Hyperion groups has remained solid, but we were negatively impacted by our Oracle group, where we lost a couple of key deals late in Q2. That will take us more than one quarter to replace.

On the SG&A front, the cost reduction actions we took during Q1 have improved our SG&A leverage, and have also allowed us to increase our incentive compensation accruals, as well as our investments in Associates Development Event. We held all hands meetings for Hackett, REL North American, and Oracle, Hyperion associates in August, and we held a similar Hackett REL event in Europe in early October.

These results are starting to reflect the potential of the organizational transformation we embarked on in 2003. We took a strong benchmarking capability and brand, and we have developed it into a powerful, highly recognized global professional services brand, with services that provide a broad array of operational strategy offerings, globally. Let me now welcome Rob to his first earnings call and ask him to provide details on our operating results, cash flow, and to also comment on outlook. Rob.

Thank you, Ted. Hello, everyone. I plan to cover the following four main topics. An overview of our overall third quarter results, a breakdown of our third quarter revenues, an overview of our key operating statistics, including cash flow activities during the quarter, and I will then conclude with a discussion on our financial outlook for the 4th quarter of 2007. Please note that all references to revenue in my discussion will pertain to gross revenues, which is total revenues including reimbursable expenses.

First, I will discuss our overall third quarter 2007 results. We are pleased to report revenues and pro forma earnings per share that exceeded our previously released quarterly guidance, which was $44 to $46 million U.S. dollars, and pro forma net income of $0.04 to $0.06, per diluted share.

For the third quarter of 2007, the company's revenues were 46.7 million, a year-over-year increase of 7%. Excluding the impact of our exit from our Lawson and SAP staff augmentation practices, the comparison to the third quarter of 2006 was an increase of 14%.

Our pro forma net income totaled 3.1 million, or $0.07 per diluted share, for the third quarter of 2007. Pro forma net income excludes non-cash stock compensation expense of 1.1 million, intangible asset amortization expense of 343,000, and assumes a normalized tax rate of 40%. Pro forma operating profit for the third quarter was 5.1 million, or 11% of gross revenues.

Our GAAP net income totaled 3.6 million, or $0.08 per diluted share. This includes a tax expense in the quarter of 112,000. As of the end of the third quarter of 2007, the company had approximately $68 million of U.S. federal loss carry forwards remaining.

Breaking down third quarter for 2007, total revenues for the Hackett Group were 30.3 million, representing a year-over-year increase of 42%. Further breaking down the Hackett revenue, benchmarking and business transformation revenue totaled 26.5 million, representing a year-over-year increase of 45%. We have seen meaningful improvements across all areas, including REL, which had a year over year revenue increase of 52%.

As Ted mentioned, the strategic changes that were made over the past year regarding the emphasis on transformational benchmarks, and the realignment of a dedicated sales team to REL, as well as our investments made in Europe, have all contributed to the strong performance. Membership advisory revenues totaled 3.8 million, representing a year-over-year increase of 29%. Annualized contract value for Hackett's membership advisory business was 15.3 million, a year-over-year increase of 25%.

Additionally, the strong demand in Europe has continued to favorably impact our year-over-year growth. European revenues in the third quarter of 2007, represented 34% of total Hackett Group revenues. The foreign currency translation impact of The Hackett Group's revenue growth rate on a year-over-year basis was 3%. Our Best Practice Solutions Group revenues totaled 16.4 million, representing a year-over-year decrease of 26%.

Excluding the impact of our exit from our Lawson and SAP staff augmentation practices, the comparison to the third quarter of 2006 was a decrease of 17%, which was primarily a result of lower revenues in our Oracle and Hyperion businesses, on a year-over-year basis. We expect the same comparison for the 4th quarter of 2007, to be a year-over-year decrease of approximately 10%.

I will now discuss some of our key operating statistics. Consultant head count was 753 at the end of the third quarter of 2007, as compared to 830 at the end of the third quarter of 2006. The decrease is primarily related to head count decreases, and our Best Practice Solutions Group, as a result of our exit from our Lawson and SAP staff augmentation practices, in Q4 of 2006. Annualized revenue for professional in the Hackett Group was 439,000 in the third quarter of 2007, as compared to 320,000 in the same period of 2006.

Revenue per professional was positively impacted in the quarter by improved rates and utilization of our business transformation consultants. Revenue per professional is calculated by dividing annualized gross Hackett Group revenues, by the average number of consultants and subcontractors in place during the period. On a fiscal year-to-date basis, our revenue per professional is 396,000. For the Best Practice Solutions Group, consultant utilization was 64% for the third quarter of 2007, as compared to 66% in the same period of last year. Our utilization target continues to be in excess of 70% for this business. Our hourly realized billing rate was $168 per hour, as compared to $173 in the same period of last year, which reflects a growing utilization of our Hyderabad, India-based resources.

On a companywide basis, our pro forma gross margin, which excludes stock compensation expense, was 41.5% of gross revenues in the third quarter of 2007, as compared to 38.7% in the second quarter of 2007, and 37.1% in the same period of last year. Gross margin has continued to increase, as expected, as a result of Hackett Group revenue growth, and the company's exit from its low margin Lawson and SAP staff augmentation practices. For those of you who utilize net revenue calculations, pro forma gross margin was 46.4% of net revenues for the third quarter of 2007, as compared to 41.4% in the same period of 2006.

Our pro forma SG&A, which excludes non-cash stock compensation expense and intangible asset amortization expense, was 31% of gross revenues in the third quarter of 2007, as compared to 32.4% in the second quarter of 2007 and 32.2% in the third quarter of 2006. Our SG&A levels have benefited from strong revenue performance, offset by spending in associate all hands meetings and training, as well as by higher accrued bonuses in the same period of the previous year.

Our cash balances were 25.6 million at the end of the third quarter of 2007, compared to 21.5 million at the end of the second quarter of 2007. Cash flow from operations was 9.4 million for the third quarter of 2007, primarily driven by strong operating earnings, the timing of U.S. payroll cycles, as well as a reduction in our DSOs. Our DSOs at the end of the third quarter of 2007 was 59 days, as compared to 70 days at the end of the second quarter of 2007. This represents an 11 day reduction in the third quarter of 2007, and a 26 day reduction since the beginning of the fiscal year. We believe that we will continue to make improvements in our DSOs as we move into 2008.

During the third quarter of 2007, cash was utilized to repurchase approximately 1.2 million shares of our common stock at an average price of $3.47, for a total cost of approximately 4.1 million. From a year-to-date perspective, we have purchased approximately 1.7 million shares of our common stock, at an average price of $3.46, and for a total cost of approximately 5.9 million.

I would now like to discuss the status of our share repurchase program. During the third quarter of 2007, our board of directors authorized a $5 million increase to the company's share buyback program. Subsequent to the end of the third quarter of 2007, our board of directors authorized an additional increase to the company's share buyback program of 5 million. Approximately 10 million remains available under the company's share repurchase program authorization.

I would now like to discuss our guidance for the 4th quarter of 2007. It is important to note that the seasonality of our business, specifically the increased holiday and vacation time that is taken, will decrease our available billing days in the 4th quarter of 2007, by approximately 10%. As a result, we expect our revenues to be in the range of $41.5 to $43.5 million.

We expect Hackett Group revenues to improve on a year-over-year basis by approximately 40% in the 4th quarter of 2007. We expect Best Practice Solutions revenues, excluding the impact of our exit from Lawson and SAP staff augmentation practices of approximately 1.3 million, to decrease by approximately 10% on a year-over-year basis.

We expect our pro forma diluted earnings per share in the 4th quarter of 2007, to benefit from lower payroll related operating taxes and the utilization of our vacation accruals. As a result, we expect our pro forma diluted earnings per share in the 4th quarter to be in range of $0.06 to $0.08. This pro forma estimate excludes amortization expense and non-cash stock compensation expense, and includes a normalized tax rate of 40%. This does not include the recovery of misappropriated moneys that were collected in October, 2007.

Gross margins are expected to improve sequentially, due to the increasing Hackett revenue mix, lower payroll related taxes, and no further build-up in the vacation accrual. We expect SG&A levels to be comparable to the third quarter of 2007. We expect our cash balances, excluding the impact of any stock buyback activities, to be up, as compared to the cash balances at the end of the third quarter of 2007. This is primarily due to operating income performance, the recovery of approximately $2.3 million in October, 2007, related to the UK misappropriation matter, and will be offset by the timing of our U.S. payroll cycles during the 4th quarter of 2007.

At this point I would like to turn it back over to Ted to review our market outlook and strategic priorities for the coming months.

Thank you, Rob. As we look forward, we continue to believe that the market demand for our services remains healthy. Geographically we continue to expect slower but solid GDP growth and related business spending reflected in our U.S. demand. In Europe, we expect demand to remain strong across the markets that we serve. With that as a backdrop, let me now comment further on our strategic priorities.

Let me start by commenting on our intent to rebrand the organization as The Hackett Group, in January of 2008. As I commented in our press release, Hackett revenues were 65% of our total Answerthink revenues in Q3. With our belief that this trend will continue, and the strong and growing global market recognition of our Hackett Group brand, we believe this is the right time to make this transition. We will continue to use and support the development of the REL brand, and our plans are to fold our tech groups under the Hackett Technology Solutions name. We will also continue to use and support the Answerthink brand, but on a more limited basis.

Let me comment on strategic priorities and I'll start by commenting on revenue growth. As I said, over the last several quarters, we continue to believe the best way to take advantage of our expanded brand permission and business model, is strongly tied to the way we initially engage with a client. We understand that the clients come to us for our unique ability to evaluate how efficiently they are operating their business, and for our ability to bring proven best practices to bear in their businesses, as quickly and efficiently as possible. They strongly value our unbiased empirical approach. The key, we believe, is to avail the client to our intellectual property and the inside of our associates in the way that best suits their current needs, but to ensure that we have not (inaudible) our opportunity to serve them, as broadly as we can. We believe this focus will continue to favorably impact our revenue growth.

We also see a great opportunity to continue to grow in Europe. Last year when I addressed our European team, I told them that I thought they could be 50% of total Hackett revenues in five years. I addressed them earlier this month, and I told them that we now believe they could reach that target in three years. As an example, we never imagined when the year started that we would serve the number of transformation clients we served this summer in Paris. We also see increasing opportunities to work with alliance partners in markets that we are not currently serving, as a great way to extend our brand and offerings, and to drive incremental revenue growth. We have successfully done this in the European Nordic region, but we see even greater opportunities in other regions, especially Asia.

We continue to believe that our long term growth rate for Hackett, is north of 15%, and we believe that the growth in BPS will only improve by integrating the groups under the Hackett brand in 2008. Let me comment on our goal to increase and expand our trusted and continuous relationships with our clients.

Our goal continues to be 1,000 members and 500 clients as quickly as possible. Our long term goal is to be able to ascribe and predict an increasing percentage of our total annual revenues to our advisory program, members, and clients. Our clients use our advisory programs to track emerging issues and to support performance improvement initiatives that they are assessing or executing. At the end of the quarter, gross membership counts exceeded the 900 mark, while client counts remained constant at 270, as members per client continued to increase.

Even more important is the fact that over 40% of the current year Hackett sales were from clients that we -- where we maintained an advisory relationship. Our long term goal is to be able to ascribe 75% of our total Hackett revenues, to clients that maintain a membership advisory relationship with our organization. To give you an idea of our increasing ability to expand and maintain relationships, advisory inquiries on a year-over-year basis were up 25%, webcast participations increased by nearly 30%, and client research downloads more than doubled, totaling nearly 5,000 on a year-to-date basis.

Let me comment on our desire to expanded leverage our empirical capital. Our organization has always been distinct because of the proprietary data that we capture through our benchmark, and the applied knowledge we have captured in our Best Practice's repository and tools that help clients implement a solution. We are currently working on the refresh of our Best Practices Implementation content, along with a relaunch of our new Hackett client portal. The new portal will include our Best Practice Intelligence Center, which brings together our Best Practice Repository, our benchmark performance metric, research briefs, and also catalog the content from all of our hosted events.

With this refresh and launch, we will come -- will come improved content, tools, and accessibility for our members, as well as our associates. We also see great opportunity to further expand our content and know-how, by further integrating REL content and insight into our Best Practice Intelligence Center. Some of these efforts are now underway, and will continue into 2008. I would like to thank all of our associates involved in this effort, especially those who are putting time after-hours to make this happen.

Let me also comment on our desire to continue to expand the leverage of our India team across all aspects of our business. In Q2 and Q3 we mentioned our expanded resources of our Hyderabad facilities, by launching that we expanded the resources in our Hyderabad facility by launching a new research team, that supports our globalization practice efforts, along with increasing the resources that support our Oracle teams' delivery efforts. During this quarter we moved all of our quantitative analysis resources to India, further increasing our delivery leverage from that team. We continue to expect our India footprint to increase in the delivery of all of our services, and in supporting back office functions, as we head into 2008. We believe this move will further improve our operating margins next year.

In summary, the changes we have affected heading into 2007, have been favorable to our growth and profitability prospects for our business. We understand that the key will be to maintain this momentum through the 4th quarter and to strongly position our organization for 2008. As always, it is important to recognize the outstanding contribution of our associates during this strategic transformation of our entire business model . I want to thank them and recognize their outstanding efforts and spirit. Having said that, let me go ahead and open it up for Q and

Thank you. (OPERATOR INSTRUCTIONS)

Our first question comes from Bill Sutherland. Please state your company name and you may ask your question.

Thank you. It's Boenning & Scattergood. I wanted to ask you a couple things on the margins. The SG&A had a couple, or at least one or two events, I guess one event, for your-- parts of your management team, and I wanted to get a sense of the impact, and it sounds like you're going to do another one in Q4?

We did hold two all-hand meetings, as we mentioned, for a couple of our teams in Q3 and yes, we held one -- we've already held one in early October for our entire European team.

So, Ted, it's just an ongoing -- I mean I didn't know whether to normalize SG&A expense, with or without this kind of activity. I guess, is this worth calling out, the way your big Hackett meetings are, I guess the one in Q2?

Well, I guess first, we're delighted with the fact that our operating profit was 11% in the quarter, so no. We believe that as our revenue increases, Bill, we will continue to see the percentage of it -- SG&A as a percentage of revenue, go down as we try to move, as you know, our target model is 12 to 16% with the current revenue mix. So no, we believe gross margins will hold or increase, especially if you look at how they expanded from the beginning of the year through the end of the year, and we expect SG&A, as a percentage of revenues, to continue to decrease throughout '08.

Okay. But, Ted, you're not speaking to each -- I mean obviously we've got the seasonality, particularly in the 1st quarter, right? As far as --

Yes. These comments are on an annual basis.

Annual basis.

Yes.

I tried to do the math based on how you stated the guidance for Best Practice Solutions, and I'm coming up with a pretty significant sequential revenue decline from the 16.4 million in Q3. I'm coming in around 14.5, if I'm doing the math right, versus last year's adjusted number.

Is this for Q4 or for Q3?

Q4.

For Q4 if you --

Last year I adjusted down to 16 million without the --

Is that 1.3 million that you reduced it by?

Oh, you know what? I'm thinking about this backwards. I should add 1.3 to what you reported, right? In Q4 last year.

No. You would take what we reported in Q4 of last year. You would reduce that by the 1.3, and we're saying that we approximate the DPS number will be, on a year-over-year basis, will be down 10% from that number.

Okay. So it is a meaningful decline sequentially. Is this a-- maybe if I just ask you to speak to that a little bit. It seems like you were getting more stability out of that group.

No. We're actually expecting -- I mean the group is impacted by the available days, since that business is entirely U.S.-based. So the U.S. available days impact for that business is actually closer to 12% than the 10% that we provided for the total business, but no. We would expect that group, the Oracle group, which is the one that impacted us most negatively in Q3, to stabilize somewhat and we expect Hyperion and SAP to be pretty constant, in fact, both of them to be up from Q3. So maybe we can work the math after the call.

Okay.

But I just want to make sure you have it right.

No. I appreciate that. The REL numbers were very impressive. Is this a group that, in Q4, will be able to sustain the number that-- the range that they're in for Q3? I'm just using some old numbers that I had for REL to try to approximate where I think they're running.

The answer for them is yes, because they actually have a higher Europe to U.S. mix, so they have less of an impact from the available days impact of Q4.

Okay.

But yes, they will maintain their momentum into Q4.

Okay. Well, let me jump off. I think I have a few more, but let me get my questions in order. Thanks, guys. All right. Come on back.

Thank you. George Sutton, your line is open. Please state your company name and you may ask your question.

Craig-Hallum. Guys, it's been a long time since I've said congratulations, so I'd like to say congratulations.

I've been waiting for you, George.

Thank you very much.

As I look at the results, and I try to it dumb it down to percentages, you obviously have the new sales program, you have REL improvement, you have the up-front benchmark selling, and then you have a percentage, I guess you would like them to be a macro factor. How would you dumb it down to those percentages, in terms of your improvement, and the sustainability of those?

I don't know if I can use those percentages, but just to say that the overall change in market strategy, which has primarily impacted our Hackett benchmarking and transformation business, has been very significant. That is the largest absolute dollar of that total that we report, so they grew very strongly in the U.S. and grew very, very strong in Europe. So the focus in the way the sales force is engaging clients more broadly, and the number of large deals, has clearly impacted the performance of that group very favorably. The second piece, I mean the REL number is both impressive sequentially, both top and bottom line. They're really just starting to demonstrate what we hoped when we originally acquired the group. Our hope continues to be to get that group to return to their pre-acquisition run rate. Hopefully we can do that in 2008. So that impact in this quarter is pretty significant. As you knew, they were building their momentum in the first two quarters of the year, and then the last impact-- I'm trying to think of what you said the last impact was.

Well, the sales, we talked about the sales program.

What the sales program has really done is just changed the way we engage clients. So that's being reflected in the revenue growth in the benchmarking and transformation business, and I said that's been very, very favorable. When you look at the growth, the change in the way we focus on clients, the REL not only growing, but contributing bottom line as clearly as they did this quarter, and then the strong growth in Europe, those three things have really changed the prospects and potential of the business very significantly.

Now your guidance in Q4 I assume is a combination of a bit of seasonal slowdown and then also these Oracle deals that you lost late in the quarter. Let me make sure I'm correct in saying that, but when we look at your bottom line, you're obviously giving a pretty healthy bottom line expectation. Should we assume that that is a comfortable run rate for you going into 2008?

Well, we clearly -- the operating model as we exit the year is clearly more profitable than when we entered the year last year, but it's important to note that at the beginning of the year we end up-- then our operating taxes and vacation accruals negatively impact our Q1 cost. Having said that, the available day increase from Q4 to Q1 is pretty substantial.

Right.

So we would hope that we could go from Q to Q1 and maintain a majority of our operating leverage.

You mentioned that you will fold your tech group under the Hackett brand name. We obviously saw a very favorable impact when you did that with your business transformation segment. What are you anticipating the impact of that change to be, and is there any concern you have in including that part of the group under the Hackett name?

Well, I can tell you-- clearly our Oracle and Hyperion groups really would like to use the Hackett brand and have wanted to leverage that for a while. So they see it as highly favorable. We actually plan to continue to have our SAP group continue to leverage the Answerthink brand just because that's becoming so significant in our relationship with SAP. But yes, we believe the impact should be favorable by driving higher alignment and letting them leverage the benefit of the expansion of the Hackett brand that we've received. Having said that, when we model, we try to be very conservative. We continue to believe that if things go well, that group will grow 10% in '08. If things don't go well, they'll -- growth, they will actually decrease by 10%. So we model that group as we go forward on basically a flat kind of year-over-year number. And then we really focus our earnings leverage and growth on the fact that we believe that Hackett, in total, should grow north of 15%, and that growth in Hackett on that very high gross margin, will continue to increase our operating margins throughout all of '08. So, you know our target is 12 to 16% with our current mix. As I said in the quarter, we got it up to 11%. We expect that things go as planned for that operating margin to expand throughout '08.

Got you and then Rob, great job on the DSOs.

Thank you very much. We're very proud of them actually.

Thank you. (OPERATOR INSTRUCTIONS) At this time I'm showing no questions in the queue. We can give it a few moments if you'd like.

Just want to make sure that Bill wasn't trying to get back on for a follow-up call. All right. We believe he's not, so first, we're delighted to have reported such strong results in the quarter. We look forward to updating everyone again when we report our 4th quarter and annual results in the beginning of '08. Thank you again for joining our call.

Thank you. That concludes today's conference. You may now disconnect from the audio portion.