Hackett Group Inc (HCKT) 2010 Q3 法說會逐字稿

Welcome to The Hackett Group third quarter earnings conference call. Your lines have been placed on a listen only mode until the Q&A session. Please be advised that the conference is being recorded. Hosting tonight's call are Ted Fernandez, Chairman and CEO, and Mr. Rob Ramirez, Chief Financial Officer. Mr. Ramirez, you may begin.

Thank you operator.

Welcome everyone and thank you for joining us to discuss The Hackett Group's third quarter results. Speaking on the call today and here to answer your questions are Ted Fernandez, Chairman and CEO of The Hackett Group, and myself, Robert Ramirez, CFO. A press announcement was released over the wires at 4.05 PM Eastern time. For a copy of this release, please visit our website at www.thehackettgroup.com.

We will also place any additional financial or statistical data that discussed on this called that is not contained in the release on the Investor Relations page of our website. Before we begin, I'd 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, particular risk factors contained in our SEC filings. At this point I would like to turn it over to Ted.

Thank you welcome everyone. I will start by providing some comments on the highlights of the quarter. I'll turn it back over to Rob and ask him to comment on operating results, cash flow and also in the outlook cable. He will then turn it back over to me where I will make comments relative to market conditions and comment on some of our strategic initiatives. Then we'll open it up to Q&A.

So let me first start by providing some of the overview comments relative to the quarter. Q3 was another strong quarter as we reported strong year-over-year improvements on both a reported and organic basis. Q3 revenues came in at $52.3 million with pro forma EPS of $0.08, both coming in at the midpoint of our guidance. Given our pipeline activity going into the quarter, we believe that, that was an opportunity to exceed these results. But we saw clients start to be a little more cautious about the end of year spending as we were completing the quarter. Having said that, based on our client pipeline activity, we expect 2011 demand to remain favorable. We attribute our solid results to solid US activity, and greater than expected cross-selling synergies from our Archstone acquisition. A special note was the performance of our technology solution teams which experienced very strong growth.

As I mentioned last quarter, we have experienced strong market (inaudible) activity from the go-to-market combination of our enterprise performance management, transformation and technology teams. This process and technology skill combination along with our ability to leverage the Hackett brand and relationships into meaningful enterprise performance management engagement has been a significant part of our success. It is clear that our investments in our brand and our associates and our expanded offerings that resulted from the Archstone acquisition are paying off. We also see strategic opportunities to further expand our business model by further leveraging our proprietary enterprise benchmarking and best practice intellectual capital in new ways.

We expect to continue to do this through the balance of this year and into 2011. I will comment about these opportunities in more detail in my strategic overview comments later on. We continue to believe in economic recovery is underway and even though we expect to continue to see volatility, this volatility will require organizations to remain focused on improved decision-making and operational execution. We believe that our offerings are well-aligned with these market conditions. I will comment further on market conditions and specific go-to-market initiatives but let me first ask Rob to provide details on our operating results, cash flow and also comment on outlook. Rob?

Thank you Ted and welcome everyone. I will cover the following topics and during our call, an overview over 2010 third quarter results, along with an overview of related key operating statistics. I'll break down of our 2010 third quarter revenue as well as an overview of our cash flow activities in the quarter and I will then conclude with a discussion on our financial outlook for the fourth quarter 2010. For purposes of this call, any references to Hackett Group will specifically exclude Hackett Technology Solutions. Correspondingly, I will comment separately regarding the financial results of the Hackett Group, Hackett Technology Solutions, and the total Company. Please note that all references to gross revenues in my discussion represent net revenues plus reimbursable expenses.

Additionally references to pro forma results specifically exclude non-cash stock compensation expense and intangible asset amortization expense and assume a normalized tax rate of 40%. As I mentioned on our second quarter call when I discussed our third quarter guidance, the third quarter was negatively impacted by the timing of the July Fourth holiday as well as the typical increase in vacation utilized in both the US and Europe, which unfavorably impacted available days in Q3 by approximately 6%.

Having said that, third quarter total Company gross revenues were approximately $52.3 million and at the midpoint of quarter's guidance. Year-over-year growth was 54% reflecting the impact of Archstone acquired in the fourth quarter of 2009 as well as improved performance from our other US practices. Excluding Archstone, year-over-year organic growth was 16%. Total Company international gross revenues accounted for 26% of total Company revenues in the third quarter of 2010 as compared to 37% in the third quarter of 2009. As expected, Europe demand continues to lag behind the US.

Total Company pro forma net income for the third quarter totaled $3.3 million or $0.08 per diluted share and was at the midpoint of our guidance. This performance compares to $0.03 per diluted share in the third quarter of 2009, an improvement of 167%. Pro forma net income for the third quarter 2010 excludes non-cash stock compensation expense of approximately $1 million, an intangible asset amortization expense of $520,000, and assumes a normalized tax rate of 40%.

Total GAAP net income for the third quarter totals $4.1 million or $0.10 per diluted share. This compares to $816,000 or $0.02 per diluted share in the third quarter of 2009. Total Company pro forma cost of sales excluding reimbursable expense and stock compensation expense totaled $28.6 million as compared to $19 million in the previous year, an increase of $9.6 million. This increase is primarily due to headcount increases as a result of the Archstone acquisition as well as increased headcount commensurate with revenue increases and other practices.

Total Company consultant headcount was 676 at the end of the third quarter of 2010 as compared to 655 in the previous quarter. The sequential increase was primarily attributable to escalated hiring activities across all our groups commensurate with increased demand. Total Company pro forma gross margin which excludes non-cash stock compensation expense was approximately 40% of net revenues in the third quarter 2010 as compared to 38% in the third quarter of 2009. Excluding Archstone, pro forma gross margin was 41%. The year-over-year increase was primarily driven by increased revenue from professionals.

Pro forma SG&A was approximately $13.3 million or 28% of net revenues as compared to $10.1 million or 33% of net revenues in the third quarter of 2009. This year-over-year decrease as a percentage of net revenues is primarily due to the efficient integration of the Archstone back office functions as well as lower selling costs when compared to the Hackett sales model. Pro forma EBITDA in the third quarter 2010 was $5.9 million or 12.5% of net revenues as compared to 6.9% in the third quarter of 2009. On a year-to-date basis, pro forma EBITDA was $15.4 million as compared to $6 million in the previous year, representing an increase of approximately a 158%. At the end of the third quarter 2010, the Company had approximately $48 million and $18 million of income tax loss carry forwards remaining in the US and in foreign tax jurisdictions, respectively.

Total Hackett gross revenue were $36.1 million, a sequential decrease of 8% and a year-over-year increase of 56%. The sequential decrease is primarily due to the impact of fewer available days as previously discussed. Hackett Group annualized gross revenue for professional was $351,000 in the third quarter of 2010 as compared to $380,000 in the previous quarter and $315,000 in the third quarter of 2009. The sequential decrease was primarily driven by decreased available days as well as increased consultant headcount. Hackett Group gross margins on net revenues was 41% in the third quarter of 2010 as compared to 42% in the third quarter of 2009. The decrease is primarily due to the impact of increased hiring activity and increased incentive compensation accruals.

Our Technology Solutions group gross revenue totaled $16.2 million, an increase of 49% on a year-over-year basis. We experienced increases in all of our technology practices on a sequential and year-over-year basis. For the Technology Solutions group, our hourly grossed realized billing rate was $147 for the third quarter of 2010 as compared to a $141 in the previous quarter and as compared to $139 in the third quarter of the prior year. Consultant utilization for our Technology Solutions group was 84% for the third quarter of 2010 as compared to 81% in the previous quarter commensurate with the reported revenue growth.

The Company's cash balances were $25 million at the end of the third quarter of 2010 as compared to $19 million at the end of the second quarter. Cash increase in the third quarter was due to cash generated from operations of $8.4 million primarily driven by increases in operating earnings and decreased DSO and partially offset by the timing of US payroll. Cash generated from operations was partially offset by our third quarter stock buyback activity which totaled approximately $1.6 million. Our DSO at the end of third quarter 2010 was 52 days as compared to 54 days at the end of the second quarter and compared to 68 days at the end of 2009. This decrease is primarily due to improvements in Archstone DSO, achieved during the quarter as we have continued to migrate Archstone to our contracting and billing practices on new client engagements. We continue to target DSO levels below 50 days as our overall goal.

During the third quarter of 2010, cash was utilized to purchase 482,000 shares of the Company's common stock at an average price of $3.22 for a total cost of $1.6 million. From a year-to-date perspective, the Company has repurchased approximately 1.2 million shares at an average price of $3.08 for a total cost of approximately $3.7 million. At the end of the third quarter, our remaining authorization was approximately $6.9 million. Before I move to guidance for the fourth quarter of 2010, I would like to remind everyone of the seasonality of our business.

Specifically, the increased holiday and vacation time that is taken in the fourth quarter will decrease our available billing days by approximately 11% when compared to Q3. As Ted mentioned, we expect clients to closely monitor discretionary spending for the balance of the year as companies attempt to better understand the extent of the economic recovery. We expect total Company gross revenues for the fourth quarter of 2010 to be in the range of $46.5 million to $48.5 million. Relative to pro forma diluted earnings per share, we expect the unfavorable impact of decreased available billing days to be partially offset by lower payroll taxes and utilization of vacation accruals. As such, we expect our pro forma diluted earnings per share in the fourth quarter of 2010 to be in the range of $0.05 to $0.07. This pro forma estimate excludes amortization expense and non-cash stock compensation expense and includes a normalized run rate -- tax rate of 40%.

Sequentially, we expect pro forma gross margins to be up slightly as we expect the fourth quarter to benefit from the seasonal reductions in US payroll-related taxes resulting from reaching the FICO limits and the utilization of vacation accruals, offset by lower revenues and by higher costs relating to headcount increases and higher incentive compensation-related accruals. We expect pro forma SG&A levels to be approximately $13 million. We expect our cash balances, excluding the impact of any stock buyback activities, to be up consistent with our pro forma earnings guidance. At this point, I would like to turn it back to Ted to review our market outlook and strategic priorities for the coming months.

Thank you Rob. Looking forward at the macro economic level, we continue to expect to see volatile but gradual improvements in the US and international markets that we serve. Although we know this will vary by geography and industry, we expect the environment to remain favorable for our services. Geographically we expect to see healthy demand in the US , and in Europe we expect to see a more meaningful improvement in demand in the upcoming year.

As I previously mentioned we saw several clients become more cautious with the year-end spending as we exited the third quarter. Specifically we saw several deals that were to kick off or scheduled to expand in Q4 defer into the first quarter. Last quarter, we mentioned that a sluggish economic environment may make client decision-making more thoughtful but should not diminish the need for our unique expertise and intellectual capital. As I previously mentioned, although we will be impacted in Q4, we describe as some year-end defensive decision-making based on our client pipeline activity, we expect 2011 level of demand to remain favorable for our services.

With that demand overview as a backdrop, let me now comment on some of our strategic priorities. Expanding our brand permission. We continue to believe that we should meaningful increase our revenue per client. This will come by extending our brand (inaudible) the premier global benchmarking organization to expanded global consulting capability. During the year, we invested in improving our go-to-market messaging in an effort to help our clients understand why our benchmarking and research insight makes us unlike any other consulting organization. Specifically we must make sure that our clients know that we are every bit as good at helping them implement the outcome as we are at measuring and benchmarking their opportunity to improve.

Our Executive Advisory client leverage, long-term, our goal is to be able to ascribe an increasing percentage of our total revenues to clients who are continuously engaged with us through our Executive Advisory programs. In Q2, we saw our Executive Advisory members increase slightly to 615 with client counts also up slightly at 250. Year-to-date, over 40% of our total Hackett excluding Archstone and Technology Solutions, sales come from less than 20% of our Advisory client. Our Advisory relationship allows us to maintain a continuous strategic relationships with clients that we should continue to serve more broadly. Clearly, a key element of our strategy.

Strategic alliances. Over last several years we have extended our geographic reach by entering into strategic alliances. Recently we have seen some of these efforts in Japan and South Africa start to generate some activity. Although these amounts are small at this time, it is clear these efforts can help us drive incremental growth in markets that we would not otherwise serve. Additionally, this summer we launched a pilot program with a global strategic consultancy which will last through the balance of the year. Based on initial activity, we believe these efforts could help us drive incremental growth in 2011.

Most importantly, as we mentioned last quarter, we have also been collaborating with large software provider on a potential offering that would leverage our benchmarking intellectual property. This type of relationship will result in the sales of our IP in a dashboard offering which would be sold directly by us or by them in conjunction with the sale of their software and could provide an entirely new way to grow our revenues and our brand in a very exciting way. We are now in the middle of our beta testing efforts with plans to launch our offering sometime in the first quarter of 2011. This new offering, if successful, could help us enhance our business model by creating a powerful and possibly continuous relationship with our clients.

It would mean a new revenue stream, a significant increase in data capture and operating insight as well as a continuous way to monitor and benchmark our client's performance in critical business areas that could only help our consulting growth as well. Lastly, let me comment on potential acquisitions. We continue to ensure that we achieve the targeted benefits from the acquisition of Archstone Consulting. But given the success to date, we will continue to look for other acquisitions that can strongly leverage our existing intellectual capital, to drive and accelerate our growth.

In summary, we are pleased with our improved performance and where we believe our year will play out. When you consider our powerful brand along with our unique ability to combine proprietary intellectual capital with terrific talent coupled with a strong balance sheet with ample cash balances and no debt, we remain excited about our prospective. As always, let me close by thanking our associates for their tireless efforts and always urge them to stay highly focused on our clients,our people, and the many opportunities available to our organization. Those are my comments. Let me then turn it back over to the moderator and let's move on to

(Operator Instructions) Our first question will be from Morris Ajzenman with Griffin Securities. Your line is open.

Hi guys. Let's just talk about the guidance from third to fourth quarter, third quarter, $52.3 million revenues and then you're guiding towards the available billing days being down 11%. Does the math work where you take the $52.3 million and decrease it by 11% for the average daily sales (inaudible). If I get $46.5 million, would that be comparable number to the third quarter which if there was similar amount of days, again I'm going down the path on a per day basis if that $52.3 million can equate the $46.5 million.

The answer is yes. Yes, Morris. But just so that you know, even though we have a 11% loss of available days, we tried to create some incentives and sometimes drive revenue to offset some of that loss and available days. So simply said, we're going into the quarter with additional headcount which we decided to invest in as we got to the mid-part of the year and we simply expected to have more revenue in Q4 given the demand that we saw as we guided Q3.

A few clients have changed that prospect for us but I would characterize it doesn't change the prospects for us, again, for the results for the overall year where the prospects going into 2011. But when you consider both the increase in the resources that we made going into Q3 and the deferral of a few clients going into Q4, in my mind given the target that we set for ourselves, we're leaving -- I think we left $0.01 on the table in Q3 and we're probably leaving $0.02 on a table in Q4.

Those three clients, are they US-based and are they concentrated in the same industries?

No, they're not concentrated in the same industries. There was a client which impacted Q3, which was a European-based client, but it is a significant client that we expect to be quite a bit of business with in 2011 and the same with two out of the three clients in the US. Again, which are meaningful clients who just decided to send their trajectory of their spend into Q4 as they exited Q3 and listen, we'll work with them and hopefully they will be very significant clients for us in 2011 the way they were in 2010.

Okay thank you.

Our next question will be from George Sutton, Craig-Hallum. Your line is open.

Good afternoon guys. Just so I better understand the three clients thought process, as were entering the end of the year these are clients that had begun the broader implementation of work with you or is this --

That is correct. We also saw, George, some diagnostic clients sign deals and move them to Q1 but we had enough activity to cover all that. Our activity has actually been pretty good. But when you have several clients do that in one quarter together and we believe that in at least three or four, two out of three, three out of four of those cases, just making sure they're projecting year-end P&L. It can have a bigger impact in our quarter than we would've liked. Like I said, I think we're leaving $0.03 on the table on a year-end basis.

As we look out to Q1, are these the things that could come back as quickly as Q1 or is that not what you would expect?

We would expect some of them to come back as quickly as Q1. We do.

Okay. Separately on the Hyperion piece of your business that's been "on fire", is that still the case in that area for you?

Yes, that group has remained extremely strong. You'll see in both the year-over-year and sequential growth of the Technology group. Technology group did extremely well and the Hyperion group was a strong contributor to that success.

Okay. Rob, with respect to the fixed price contracts that was the issue earlier in the year, is that now completely behind you?

That project was -- as a matter of fact I think it was wrapped up this week, George, so purposes of our reporting, yes,.

Okay, Ted you talked about the economic periods that are best for you being modestly negative or modestly positive. We seem to still be in that environment. Is that still a fair way to represent how you're looking at the business from a macro driver perspective?

I do believe it requires companies to stay focused on productivity and it benefits us. I think the one thing if you said we got -- that we probably missed on slightly is that the disruption in Q2 to some of our clients' businesses have clearly caused some of them to make sure that they have some room for error as they finish the year. My hope is Q3 probably came in slightly better than some people expected at 2% and if we see Q4 GDP activity do better than that which is what we expect, we would expect their behavior to return to the activity that we saw in the first half of 2010.

Lastly, in terms of a pipeline, what pipeline do feel you have with respect to companies that have been in the early benchmarking process looking at some of these broader transformational efforts?

Actually very good. Our benchmarking business has done extremely well this year. I mentioned we have some deferrals in Q4 for signed businesses that we saw in Q3 that would normally be done in Q4. But clients said, look, I would just rather kick this off in Q1. But overall the activity remains strong on that side of the business.

Okay. Thanks guys.

(Operator Instructions) Our next question will be from Mickey Schleien, Ladenburg. Your line is open.

Good afternoon gentlemen.

Hi Mickey.

First question, could you break down your -- number of professionals between Technology and Hackett Group?

We don't provide that Mickey but I believe if you take the revenue per professional in Hackett and divide that into -- come up with a headcount, you could back into it. How's that?

Okay.

I don't know why but I'm giving you an answer and Rob is saying no, I'm giving an answer as a way of getting close to that number and analyzing what you like.

I'll get it. Don't worry. Secondly, Hackett Group revenue for professional was sequentially down. I understand there's the number of days in the quarter that affected that ratio. Was there anything else in terms of business mix that affected the productivity in that group?

No, when I look at the 8%, 6% was unavailable days and 2% was the increased headcount which is lower utilization -- I mean, there is no doubt that we had quite a bit of activity going into Q3 that we believe that if it converted as a plan into Q4 -- at the end of Q3 into Q4. Like I said, we would've been happy with the capacity and the investment that we wanted to make going into the end of the year and preparing for 2011. With perfect information, we probably would be better off deferring some of that, being a little bit more cautious given the Q2 double-dip, second-guessing that I'll say, globally, was taking place but we were seeing enough activity and significant enough conversions into Q4 that we didn't feel that way. In hindsight, we were slightly wrong but we don't feel bad about making those investments into 2011. We're still going to have an excellent 2010. We're still going to cash flow strongly and we think it only positions us more strongly into 2011.

Okay. Could you give us an update on the Membership Advisory program in terms of number of customers and how that's progressing?

Both members and clients were up slightly. So in my view, that was positive. We don't report ACV but ACV was also up, so overall the progress in those programs in our view was good and if we're successful with the launch of our dashboard offerings that I commented, I think that will only help us grow the renewal rate in the number of clients that engaged with us on a continuous basis some time throughout 2011.

Just a couple of housekeeping questions. What accounted on a GAAP basis the provision for taxes was actually a credit? What was going on there?

Thanks to Mr. Obama, we were actually able to carry back some additional losses in previous years and a lot of that is just a true-up in terms of filing our tax return and truing-up our provision. It was mostly being able to carry back some losses into some previous profitable years.

And lastly, Rob, I can't get to your operating cash flow number just looking at your net income and your non-cash items and your balance sheet. Was there some other non-cash item in the quarter that you can tell us about?

Are you not looking look at -- Mickey, all you have to do is look at the Q that will be filed later tonight. The full cash will be there. The big items were the items that I mentioned.

Okay. I'll look later. Thank you.

Mickey, if there's one other item it's the payroll -- in the quarter, the accrual.

That's in the operating earnings.

That will be in the operating earnings -- in the cash flow statement.

There's a bunch of pluses and minuses from the balance sheet, Mickey. Some increase in A/R, the decrease in accrued payroll,obviously, the depreciation and amortization, the ins and outs, but I gave you the big ones and it will be in the cash flow statement --

Mickey, if it's helpful, pro forma EPS times $700,000 which is our pre-tax number plus the improvement in DSOs was going to get you over 90% of the way there -- balance sheet changes.

And do you expect similar level of the cash flow in the fourth quarter?

I can't say if Rob is going to commit to another decrease in DSOs. The answer is I don't believe so but it -- we'll have, obviously we're expecting slightly lower EPS so that will drive a slightly lower number. And our hope is that DSOs would stay at least flat but the answer is no, it would not because slightly lower EPS and I think you just can't plan on the same level of DSO days improvement that we had in Q2 to Q3.

Q4 is typically the hardest quarter in DSO, Mickey, because of the year-end and the holidays. Obviously, overall, I think we're doing a nice job in terms of keeping it down. But it will be difficult to take it down tremendously in Q4 given that. But we do expect cash to be up exclusive of any activities we take in buying back stock.

Okay. Thank you for your time.

the next question is from Bill Sutherland, Boenning & Scattergood. Your line is open.

Thanks. Hey guys. I wonder if you have, or maybe Rob, do you have a breakout on verticals in terms of the revenue by vertical and then just, maybe Ted, some color on the client in those verticals.

We don't have the breakout in verticals but perhaps if you got some specific questions we could follow up with you on those later, Bill. But I would say we continue to serve a pretty broad client base. There's no doubt that we continue to have very significant activities in global consumer goods and Industrial products companies but, again even though we say financial services is small part of our business which it is, we still have very meaningful clients there across utilities and services and technologies. So it's a pretty broad base with, I would say, financial services and government being smaller than the rest of the major industries.

And one last one of the sales force. Just can you talk about how you expanded that and what your plans are? Thanks.

No changes in the sales force from Q2 to Q3 and none are planned from Q3 to Q4. We've been trying to leverage our sales force more broadly and that's probably been the signal biggest initiative, broadly speaking with the exception of practice -- maybe one practice throughout our portfolio. We've seen pretty reasonable performance from our sales force throughout the year and we would expect them to continue that way. You always ask me the capacity question. We still have tremendous capacity. We still believe the quota per person is something that can continue to grow. We're seeing our over-performance by a few people which we traditionally do but we think we have an excellent team and I really believe that there is still an opportunity for many of the team to drive some of the level of over-performance that we continue to see a couple drive each and every year.

Okay thanks.

Our next question will be from Morris Ajzenman, Griffin Securities. Your line is open.

Hi. Question on international Europe. I think you said it's about a 25% of the revenues in the Company right now exiting the third quarter. And I think it's the first time I've heard in a while where you said, looking particularly into next year you see more of a healthier improvement in Europe. Can you tell us -- you've always said that's lagging several quarters to what's happening domestically. Any improvement or is it wishful thinking? What's happening? How does that look and does that help or not help fourth quarter and into next year?

Europe has clearly lagged Q3 probably because of the vacation or August impact, if you want to call it, a vacation -- the broad vacation impact that you have from that region. That being pretty broad, I would say didn't allow us to make noticeable improvement but we have seen in September, October and now the start of this month, overall activity pick up. We also saw one of the large clients who has impacted the tail end of Q3 and Q4 unfavorably, we see that the activity -- the possibility for activity with that client to resume in 2011 has improved nicely here over the last 45 days.

So when we look at overall activity, some of where we see some of our larger relationships positioning in 2011 if I stand here today. We believe that we can expect Europe to be a stronger contributor in 2011. As you know, overall, Europe is probably contributing at about one-third of the overall profitability that contributed in 2008. So where -- as Europe comes back, obviously, our opportunity to grow top and bottom line can be very meaningful especially if we continue to improve the leverage we're getting from the Archstone team.

At this time, there are no further questions. I would now like to turn the call back over to Ted Fernandez.

Thank you operator and again, let me thank everyone for participating in our third quarter earnings call. We look forward to updating you on our fourth quarter results and total annual results sometime in mid-February. Thanks again for participating.

Thank you for your participation in today's conference call. You may now disconnect.