Heidrick & Struggles International Inc (HSII) 2005 Q4 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Heidrick & Struggles conference call. [OPERATOR INSTRUCTIONS] As a reminder this conference call is being recorded. And now it is my pleasure to introduce your host for today's conference, Ms. Julie Creed, Vice President of Investor Relations. Please begin, ma'am.

Good morning, everyone and thank you for participating on our 2005 4th quarter and year end conference call and Web cast. On today's call from Heidrick & Struggles are Tom Friel, Chairman and Chief Executive Officer, Eileen Kamerick, Chief Financial Officer, and Bonnie Gwin, the president of our Americas region. As a reminder there are supporting slides that are available on our Web site at www.heidrick.com to accompany today's comments. As always, we advise you that this call may not be reproduced or retransmitted without our consent. Also, we're going to be making certain forward-looking statements on today's call, and ask that you refer to our Safe Harbor language contained in our news release dated today, March 1st, 2006 which is why we disseminated it by the various news wires and other media this morning. The same Safe Harbor language is also on slide two of our presentation. And at this point I'll turn the call over to you, Tom.

Thank you, Julie and thank you all for joining us this morning. Let me start out by saying that we're very pleased with our fourth-quarter results and their contribution to a year that we are quite proud of. We believe that the fourth quarter and our 2005 annual results truly reflect the success of the strategy we shared with you last year on this very call to improve our operating cost structure. We're now in a much-better position to grow Heidrick & Struggles more aggressively and more profitably in the future.

On the call today I'll go through some of the highlights of the quarter and the year then Eileen Kamerick will review our fourth quarter and annual results in a little more detail. I've also asked Bonnie Gwin, President of the Americas, to give you some color on our plans for growth in this region. At the end I'll come back to provide you with our objectives and our guidance for 2006. Before we start, I also want to take a minute you to introduce you to Kevin McDonald, our new Vice President of Finance. We welcomed Kevin after Todd Welu changed his role from Corporate Controller to Chief Operating Officer and Chief Financial Officer of the Americas region working closely with Bonnie. Kevin has 25 years of experience working for some of Chicago's leading companies and most recently he served as Director of Financial Planning, Reporting and Analysis for Hewitt Associates. Prior to that, he spent eight years with Sara Lee Corporation including several years living in the Netherlands. Kevin will not have any prepared remarks today, but will participate in the Q&A session. Kevin, welcome to Heidrick & Struggles.

Thanks, Tom, I'm very happy to be here.

Okay. Now let's begin. If you're following along with us, with the slides we've posted on our Web site, we are starting on slide number 3. And as you see, our net revenue of $100.7 million in the fourth quarter was up 2.1% year-over-year in line with our expectations and for the year which is even more meaningful to us given the unevenness of our quarters, net revenue was 412.3 million, up 9.8% over 2004 net revenue, and right on plan.

The year-over-year growth in net revenue was driven by several factors. First, we show you on slide five that again this year, we confirmed more executive searches at higher average fees. We had 4077 confirmations in 2005 up 3% over 2004, at an average fee per search of just over 97, 000 or 6.3% higher than the average fee per executive search in 2004. Moving to slide six, consultant productivity was also a growth driver in the quarter and in the year. In 2005 our consultants billed an average of $1.3 million in fee revenue, up from $1.2 million each per consultant in 2004. As we have said in the past, we have many consultants producing at levels well in excess of this average, and we believe there is the opportunity for increasing productivity levels with our existing staff to $1.5 million per consult or higher across-the-board.

Among the investments we're making to drive productivity is the expansion of our knowledge management center in India beyond its current 100 people. The KMC is a competitive differentiator for Heidrick & Struggles providing our consultants and in some cases our clients with worldwide research on people, companies and industries and allowing us to provide superior service at attractive margins. We are also investing in new training, onboarding, and mentoring programs, to bring our new and our existing professionals to higher productivity and quality levels more quickly.

On slide 7, our consultant head count at the end of the fourth quarter was 315, up from 306 at the end of last quarter and from 297 at the end of last year. Year-to-date, we have already added five new consultants and as we shared with you before our goal is to add at least 10% net new consultants by year end, targeting certain industry, functional and geographic gaps especially in Europe. On slide 8, our fourth quarter operating income excluding restructuring charges was $10.1 million, up 37.7% over last year's fourth quarter operating income. And turning to slide 9, the fourth quarter operating margin excluding restructuring was 10%, up significantly compared to last year's fourth quarter operating margin of 7.4%.

Looking now at slides 10 and 11, we are very pleased to have achieved our most important goal for 2005 which was to get to a 10% operating margin. Rebuilding this company's operating platform and margin was a very significant milestone in our strategy and I would to thank now our colleagues around the word for their dedication and hard work in achieving this critical objective. I'll now turn the call over to Eileen to give us more detail on the quarterly results. Eileen?

Thank you, Tom. So as you have seen, our fourth quarter and 2005 revenue, operating income, and operating margin, all met or exceeded our stated objectives. However, our tax rate in the fourth quarter was higher than we forecasted at the end of the third quarter. I'll run through the components of some of the major line items for the quarter and the year.

Starting with the fourth quarter, and looking at slide 12 at the top line, revenue before reimbursements, or net revenue of $100.7 million, increased 2.1% year-over-year, in line with our expectations. Confirmations in the quarter were flat year-over-year, and down sequentially 9%, as we anticipated, because of the holiday season and corporate end-of-year budgeting and hiring plans. The average fee per executive search was up slightly year-over-year and up also sequentially from the third quarter.

Reported operating income for the fourth quarter was about $10 million, representing a 9.9% operating margin or 10% excluding restructuring and a significant improvement over where we were last year at this time. Drilling down a little further into operating expenses, salaries and employee benefits expense in the quarter was $66.7 million or 66.2% of net revenue. Total bonus expense in the fourth quarter was approximately $22.6 million of this amount $3.5 million was stock-based compensation expense. Salaries and employee benefits expense is up $3.6 million on an absolute basis compared to fourth quarter last year which includes a benefit of $1.3 million related to bonus payments paid with restricted stock which are recognized over the vesting period as discussed in detail last quarter.

General and administrative expenses in the quarter decreased to $24 million or 23.8% of revenue, something we continue to manage very closely. And finally, in the quarter, we recognized $76,000 in restructuring charges related to real estate that was part of the second quarter restructuring. We reported GAAP net income in the fourth quarter of $6.9 million, and fully diluted earnings-per-share of $0.36. These results reflect a fourth quarter tax rate of 42.2%. In the press release, we explain the components of this additional tax but if you turn to slide 13 we can better take you through what led to this rate.

Going into the fourth quarter, we were estimating an annual effective tax rate of about 20%. This rate was then used to calculate our anticipated fourth quarter rate. As we mentioned on the third quarter call, there was a portion of the valuation allowance that we anticipated would be released in the fourth quarter, and thus, was not included in the $18.1 million reversal noted in the third quarter. That portion was released in the fourth quarter and had the effect of reducing the federal income tax provision on the fourth quarter income. This happened as expected.

However, what we did not forecast is the mix of the income we earned in the fourth quarter. Specifically, fourth quarter income in the U.S. exceeded the amount we had forecasted at the end of the third quarter. As a result, an accrual for this additional income tax expense associated with the higher than projected income was required.

This resulted in an increase to the annual effective tax rate before discrete items from the estimated about 20% to the actual rate for the year of 22.1%. As a direct result, the effective tax rate for the fourth quarter before discrete items increased to 29.2%, largely driven from an adjustment to catch up the year-to-date provision recorded through the third quarter to the new annual effective tax rate. On an adjusted basis, this higher than expected federal income tax provision impacted our fourth-quarter earnings per share by approximately $0.06. Additionally, there were discrete tax items that arose in the fourth quarter which pushed the full tax rate to 42.2% in the fourth quarter, and amounted to an additional impact of $0.08 to earnings-per-share for a total tax impact of $0.14 on the fourth quarter versus our third-quarter forecast. As we stated last quarter, we expect to return to a normalized tax rate of between 40% and 42% in 2006.

Moving to slide 14 in our 2005 full-year results, net revenue came in at $412.3 million, and we surpassed our goal for operating margin for the year by achieving 10.7%. This was a stretch goal for us and one we are quite proud of having achieved. You can see the operating leverage inherent in our business model at the revenue levels we've seen the last two quarters. Of course, the restructuring and our expense controls have helped as well.

Going down the income statement and starting with operating expenses, for the year, salaries and employee benefits were $273.9 million, up 9.1%. Of this expense, approximately 67% was fixed and 33% was variable or bonus-related compensation. Although we initially estimated paying out about $50 million of the bonus in December, instead we paid out approximately $40 million in December and we will pay out approximately $50 million in cash later this month. We will also issue $9 million worth of restricted stock units for total bonus awards of approximately $99 million.

General and administrative expenses of $94.4 million were down 2.2% over 2004 and as a percentage of net revenue decreased to 22.9%. Reported net income for 2005 of $39.2 million included $22.5 million in restructuring charges. Referring back to the tax chart on slide 13, the 2005 effective tax rate before discrete items was 22.1%. The 2005 tax benefit rate, after discrete items, was 37.7%.

Moving on to slide 15 and 16, cash flow from operations was $19.4 million in the quarter, and free cash flow which we define as cash flow from operations net of capital expenditures was $17.8 million. Cash flow in the fourth quarter was down sequentially from the third quarter due to the payment of our December bonuses. For the year, reported cash flow from operations was $33.4 million, and free cash flow less capital expenditures was $27.3 million. Some of the significant uses of cash in 2005 included $37.2 million to repurchase treasury stock, $17.6 million to settle the payment to a consultant for the Google monetization and $35.3 million in cash restructuring costs. The cash, cash equivalents, and short-term investments balance as of December 31, 2005 was $203.7 million. Our original forecast of ending the year with $165 million to $170 million in cash was based on our paying out approximately $50 million of the bonus in December. Instead, we paid out approximately $40 million in December, and will pay out about $50 million later this month.

Additionally, we experienced very good collections during the month of December. For 2006, we are expecting to generate free cash flow of between $50 million to $60 million. We continuously look at all viable options that will maximize our ability to increase shareholder value and we review this at every Board meeting. Our current cash strategy includes investments in our business, for example, to improve productivity or marketing to win more searches, potential acquisitions, and share repurchase programs. We did repurchase shares during the trading windows in the fourth quarter, about 294,000 shares at an average price of $32.91 per share for approximately $9.6 million. We have about 40 million remaining under the current authorized program.

Please turn next to the Americas results on slide 17. Net revenue of $59.5 million in the quarter was up 7% year-over-year. Operating income and margin were down compared to last year's fourth quarter for two primary reasons. One, is that because of the higher revenue, and the mix of consultants who generated that higher revenue, there were higher than forecasted bonus accruals in the fourth quarter. Also, as described in the press release, last year's fourth quarter had a number of one-time positives.

Net revenue for the year in the Americas region was up 11.3% and the operating margin was about the same as last year at 21.1%. We still believe that there is room to improve the operating margin in the Americas by controlling and leveraging fixed costs as we successfully grow revenue and hire strategically. Consultant headcount at the end of December was 165, up compared to 158 at the end of the third quarter and 160 at the end of 2004.

Now for Europe's results, please turn to slide 18. Fourth quarter revenue in the European region of $31.6 million was down 9% compared to last year's fourth quarter. Eight percentage points of this year-over-year decline was due to the unfavorable impact from foreign currency exchange rates. The U.K. posted strong results where revenue was up more than $1 million year-over-year. The Nordics and southern European countries also posted better fourth quarter revenues than prior year. Germany's revenues were not as strong.

Annual revenue from the European region was almost up 4% year-over-year despite the reduction of consultants following the restructuring. The currency impact on an annual basis was almost negligible. Again, the most significant growth came from the U.K. during the year, where annual revenue increased substantially. Most of the Nordic offices also turned in significant growth. As expected following the restructuring, fourth quarter operating income and operating margins both saw strong improvement year-over-year. The sequential decline in operating margin compared to our third-quarter was mostly results of lower revenues, most notably in Germany.

When you look at annual results, the growth we achieved and the benefits realized from the restructuring earlier in the year are even more evident. While annual net revenue was up about 4%, the operating margin more than doubled from 2.8% to 5.7%. Consultant headcount at the end of December was 108 compared to 100 at the end of last year and 107 at the end of third quarter. In Europe we're looking to fill some very specific gaps in industry, function and geographic practices.

Now turning to Asia-Pacific and slide 19, the Asia-Pacific region turned in another solid quarter with most offices performing very well. Net revenue of $9.6 million in the fourth quarter was up about 16.3% over last year. And 2005 annual revenue in Asia-Pacific was $39.5 million, up almost 25% over annual revenue in 2004. Operating income and operating margin in the fourth quarter both improved. Operating income more than doubled year-over-year and the operating margin in the quarter was 31.3%, largely driven by increased productivity. The region also benefited from favorable bad debt experience in the fourth quarter and lower professional services fees. In general, the success of the fourth quarter in 2005 in Asia-Pacific is the result of good hiring strategies put in place in late 2004 and early 2005 and strong go-to-market strategies that we put in place.

China in particular is a very important part of the Asia-Pacific story for us. As this market continues to grow, demand for business leadership among global and local companies in China continues to outstrip supply. No other top tier search firm has the same resources and breadth to enable our China-based clients to compete for effectively and our growth in this country reflects our success to date here. In fact, we have launched a China-U.S. initiative to identify talented ex-pat candidates for the China market. We've had Kevin Kelly our head of Europe, in Asia-Pacific on our last two conference calls to address the European restructuring. As our Asia-Pacific continues to grow in importance and size, we will give that region more focus in the future. In the meantime, I'm now going to turn it over to Bonnie Gwin who's going to give you a little insight into the growth initiatives that the Americas region is pursuing for 2006. Bonnie?

Thanks, Eileen. I'm delighted to have this opportunity to participate in our call today and to give you some insight into why we are energized about 2006 and beyond. In the Americas region, we are intensely focused from both a top and bottom line perspective. Many of our cost containment initiatives to improve operating margins are extensions of the plans we implemented in 2005. So let me take a minute to highlight some of our specific growth initiatives.

We have a very well-defined three-part plan. The first involves new targeted investments in marketing. Marketing in 2006 for the Americas will focus on key growth areas such as our Board practice and diversity practice as well as important emerging markets like Brazil and Mexico. All marketing initiatives taken must now have a measurable return on investment, and we're going to be rigorous in our measurements. The second part of our plan is focused on innovative, especially in operations. Although we are at an all-time high in productivity in the Americas, we believe there is room to grow. To that end, we have implemented an initiative this year to streamline our back office processes. We're also using the knowledge management center that Tom spoke about for a variety of new services, and also looking at ways to improve the search process in general.

And the third leg of our plan is focused on people. Last year, we launched an aggressive and targeted program to recruit new consultants. Our offices and practices have collaborated to identify the most critical gaps and we've been deliberate and strategic in focusing only on key geographic, functional, and industry hires. In fact, we have put one of our senior partners and his team in charge of driving this initiative, and we're now ahead of our 2006 plan with multiple new consultant hires already onboard in the first quarter.

A critical component of our plan is getting these new hires up to speed quickly. So, with the help of our leadership consulting team we've designed and are rolling out a new onboarding program that we believe will shorten the time it takes for a new hire to become productive which is critical. In addition, for current consultants we've launched a new competency-based training program that was also developed in conjunction with our leadership consulting team and our office and practice leaders are working on individualized plans to help new hires and seasoned consultants increase their personal productivity. As we develop and test many of these programs, we're going to lead the effort to take them abroad to Europe and Asia-Pacific. The combination of these initiatives will help us drive revenue growth in 2006. I look forward to reporting on the success of these growth initiatives next year at this time but will keep you updated throughout the year.

Thank you, Eileen and Bonnie. To summarize, we believe that our operational and financial performance in the second half of 2005 validates the strategy that we put in place shortly after I took the CEO role in mid 2003. We have shown that Heidrick & Struggles can and will grow profitably. We've also made a commitment to our shareholders to increase shareholder value and our share repurchase programs reflect that commitment. As you know, we'll paying for the first time 10% of management and consultant bonuses in restricted stock in order to ensure that their interests are fully aligned with those of our other shareholders and this is a permanent program.

Looking at slides 20 and 21, we outline just some of the reasons why we see tremendous growth opportunities for the executive search and leadership consulting professions and how we plan to capitalize on these opportunities. Demographic trends, increasing regulatory requirements, heightened focus on corporate governance, shorter CEO and senior officer tenures, and a limited global talent pool, are just a few of the factors that will continue to drive the need for executive recruiting, director searches, and leadership consulting services for years to come.

We're off to a great start already this year. In the first two months of 2006 we've already completed three Fortune 500 CEO searches for Mellon, bank for Toys "R" Us, and renewal for Rubbermaid. We also made great progress in the development of our targeted account program that began in earnest in 2004 and really took off in 2005. In 2005 we grew to 53 companies the number of clients with net billings in excess of $1 million a year. The average net billings of our top 100 clients were approximately 1.4 million U.S. dollars up 40% from 2003 when we instituted this program and 15 of our top 25 clients generated revenue in all three of our global regions. Our leadership consulting services continue to prove instrumental in deepening our client relationships and enhancing our executive search business, and we'll continue to drive all these programs in 2006.

Quarter-to-quarter, our revenue and margins may move up and down but in the long term this is a growth business. That is why we are stepping up our recruiting efforts in 2006 to meet this demand and to grow our market share worldwide. But we can't just hire new consultants without a corresponding effort and investment in training, and so we've stepped up efforts as well as Bonnie described earlier. In conjunction with our hiring plans, we're also in the process of exploring the opportunity to open a few new offices in some very high potential growth markets including China, Russia, and possibly the Middle East. However, our investments in growing the business will not be at the expense of losing any focus on continued improvements in our business model. We will grow while producing better bottom line results continuously.

As we indicated to you in our press release, beginning with this call, we're going to provide guidance on an annual basis only. As you can see on slide 23, there has been no consistent trend to our quarterly revenue over the last four years. Any quarters revenue can also be easily skewed by a few large searches. This makes it difficult to predict revenue and that leads to difficulty in predicting margins on a quarterly basis. On an annual basis, most of this variability disappears. We manage our business on an annual cycle and for that reason we believe that it is appropriate to provide guidance on an annual basis. Turning to slide 24, for 2006, we expect to achieve consolidated net revenue of between 445 million and 465 million U.S. dollars representing growth over 2005 net revenue of between 8% and 13%.

Now turn to slide 25. Based on these net revenue levels we expect our 2006 full year operating margin to improve to approximately 12%. This margin hurdle takes into account several additional costs we will incur in 2006 including incremental stock-based compensation expense of about $5 million of which $3 million relates to option expense, a worldwide partners meeting in the fourth quarter of 2006, an increased focus on strategic hiring through the 2006, any new offices that we might open during the year, and some increase in our marketing programs and budgets. So with that overview of the quarter, the full-year 2005, and a look at where we're headed in 2006, we will now open the call up for questions.

[OPERATOR INSTRUCTIONS] Our first question comes from Matt Litfin of William Blair & Co. Your question please.

Yes, good morning. Could you quantify the fourth quarter turnover rate along your consultants x the restructuring, maybe describe the trend by geography as well?

Matt, we typically don't give turnover rates on a quarterly basis. And we can tell you that our annual turnover rate has remained relatively steady over the last couple of years. Bonnie and Tom can comments on trends but what we've seen is some voluntary turnover but a very small percentage of those that leave voluntarily leaving to compete against us. Typically it's either retirements or leaving to do something else rather than being executive search consultants.

We actually -- this is Tom -- We actually factor a certain amount of voluntary and some involuntary turnover generated by us into our hiring plans and when we mention our net hiring goals, those would be headcount increases over and above any turnover. Last year, the voluntary turnover was around 9% and as Eileen indicated, the voluntary turnover of consultants who left to join competitors and stay in the business was a little over 3%, actually less than historic average for us which is about 5%, and which we suspect is actually lower than that of many professional service firms and many of our competitors. This is not a problem for us and is not different from the historic trends we've experienced

And again, Matt, that is on an annual basis, so you get a sense of the picture on a full-year basis.

Yes, 9% seems pretty low. That's good. I have a question about Europe. Were you disappointed with the revenue from the quarter in Europe, and if so, should we worry that some of the new hires there might have been the wrong ones and if not, I assume that you might try to dispel those fears. If not, why not?

Matt, let me just respond to that. We were not surprised by that because we had a sense early in the quarter that we did have revenues issues particularly in Germany but when we talk about Europe, obviously there are many individual countries and markets within that. As we noted both the U.K. and Nordics really had very good year-over-year revenue increases. The major weakness in terms of revenue was not exclusively Germany, but it's primarily Germany.

And if you look at the difference between third and fourth quarter, the difference in revenue on the top line was about $2.7 million. Now we had some positive sort of trade-offs for that, our operating expense was lower in Europe, our interest expense was lower but not enough to hold on to margin and make up the differential of having almost $3 million less revenue in the quarter. We were concerned about and we took steps to address it and we have senior consultants in Germany leading from the front in terms of bringing to bear our key account strategy and also making sure that we have all of the U.S. and other European consultants working with the German consultants to drive revenue performance there. So we are seeing the trend early in January and February that that effort is taking hold and is showing results. So we don't think that the decisions we made on new hires were incorrect. But it takes some time to rebuild a business that we, frankly, restructured in second quarter. We fixed the cost structure, and we're now in stage two which is building back the revenue, particularly in Germany.

Let me just add to that, you know, another point that validates our strategy that we believe we've made the right decisions on not only the restructuring but on the hiring is most of the decisions that we made in restructuring in the U.K., for example, were made a year ago. And what we have seen in 2005 was that the results of both the terminations that we made and the hires that we made in the U.K. and a couple of the other European markets have kicked in enormously in 2005. It's too early for that to have happened in Germany and a couple of the other regions where we made these restructuring decisions in the second, and in a couple cases, the third quarter, where they played out.

But we have every reason to believe that the same result, you know, will follow. One of the things that was particularly gratifying this year was for 2005 really for the first time, we have a greatly increased number of European consultants, many of them new hires in the last two years performing in the top 10% of our consultants worldwide and we've never had that before so that gives us a lot of confidence that we have the right profile, that we're hiring the right people and that given the year or so that new hires take to come up to speed that over the course of 2006 we will see in Germany and in the other parts of Europe the same results that we've seen in a very dramatic way this year in the U.K.

One of the things that we are doing as Eileen mentioned and as Bonnie mentioned, we're putting a lot of management focus and resource into Europe now. As you know, we've moved Kevin Kelly and Jeff Sher [ph], two of our most senior people over there early in the year. We've moved another one of our most senior partners to Germany to help focus on the global account program. That's already in the beginning in 2006 beginning to show some very good results even this early in the year so we're actually very confident in the outlook for Europe for this year although it wasn't reflected and, frankly, we didn't expect it to be reflected in the fourth quarter.

Yes, that's the answer I was looking for. Thanks. Last question is a really easy one. Slide 23 in that chart, what are those numbers there in the columns themselves?

Oh, you're looking at the quarterly revenue trends. It's saying in each of these, what was the highest quarter, what were the -- what were the the highest quarter in each year. So as you can see, I mean, the first quarter was in 2002, the second highest quarter in 2003. It was the third highest quarter. In 2004, it was the fourth highest. In 2005, it was the fourth highest. So that's how you interpret it--

Got it, thank you--

--so you get a sense that there is no real revenue trends that we can, frankly, predict around.

Thanks.

Our next question comes from Kelly Flynn at UBS.

Yes, hi. This is Andrew Fones for Kelly. First of all, it looks as though from your slides that you're looking for about net 10% growth in headcount this year. I was wondering if you could help us inside what we should see in each of the regions or what your goals are there?

Andrew, let me address that. We really don't give that number on regional basis. All of the regions have specific plans to address their headcount needs and on a global basis it will net to 10%. Europe has particular needs to rebuild some of the practice focus that, frankly, was nonexistent in Europe so they'll be focused particularly on that but Bonnie has specific needs in the Americas that she's addressing as does Asia. So, in general, on a geographically worldwide basis we will hit 10% net.

We do expect to have headcount growth in all three regions so I'll just add that as a follow on comment.

Thanks. We're quite a way through the first quarter here, so could you give us a sense of kind of how confirmations trended through Q4 and perhaps in January and February to the extent you're able to give us a little bit of help?

Andrew, basically confirmations look pretty much on track in terms of first quarter. In general, I mean, I hesitate to talk about seasonal trends having just talked to Matt about this chart because there are no consistent seasonal trends in this business. But typically first quarter is not our strongest revenue quarter. March is typically a strong month and we've seen January and February confirmations that are typical for the first two months of the year. And we've certainly are seeing some growth in confirmations in Europe which again to reinforce Tom's point gives us faith that we've made the right decisions in terms of our market initiatives and in terms of hiring in Europe.

Okay. Thanks. On the free cash flow guidance you gave, I see you have that and it's almost doubling, in '06 versus '05. Can you break out what CapEx is or what your expectations are for CapEx and also what total cash restructuring charges there were in 05? Thank you.

Total cash restructuring charges in '05 is $35 million and that's one relate to the second quarter restructuring charge which was mainly cash as I think I've discussed earlier although there were some real estate portions of it, the lion's share was based severance. That was about $22 million and another $13 million throughout the year was cash paid on leases that had previously been restructured. If you look at sort of the cash flow for this year, you will see that it's about $33 million from operations, but remember, there's $22 million of restructuring cash charges in that number. So it's not bad if you look at it on an apples-to-apples basis. There's expansion on a cash basis but it's not that dramatic. In terms of CapEx, we expect it is in line with our $6 million to $8 million a year.

Okay, thanks, and then I think I heard you say on the call that you expect about $3 million of option expense--

Yes.

--in '06. Is that pretax number?

Yes.

So the impact of FAS 123 should be about $0.09 in '06?

If you take it on a 42% tax rate, yes, it should be close to that. Yes, it should be about $0.09. In general the stock-based compensation next year compared to 2005, will be up in total about $5 million. $3 million of that will be options expense. So this year our total stock-based comp was about 17.4. Next year it should be about 22.6 and $3.2 million of that is option expense, and another say $2 million of that have is RSU expense, additional RSU expense.

Okay. Thanks, and then I have a question for Bonnie. Bonnie, as you look at kind of productivity, what metrics do you track there, and, you know, can you talk a little bit about what your goals would be for '06? Thanks.

Andrew, this is Bonnie. In terms of productivity, I'm really delighted that the Americas has had about $1.5 million on average revenue per consultant and that's an all-time high for us. We do think that there's room to continue to improve on that particularly because we have a number of our highest performers who are in the $2 million plus range. So this year, our objective is for those who are below our averages to have individualized game plans, if you will, to continue to trend their productivity up, and we believe based on that we can continue to raise the average productivity here.

Okay. Thank you.

Our next question comes from Glen Medley of Wachovia Securities.

Good morning, everyone. Tom, I wondered if you could on Europe again, what is the timing for taking the new onboarding program to that region? And if I understood Bonnie correctly, why not roll out this program there first given your hiring plans?

Well, we actually have-- I'm glad you asked that question. If there was any confusion about that, I'd like to clear it up. We have existing onboarding, you know, plans in all our regions that, you know, are working fine. I mean, we have some experiments with, you know, a few new plans that we're trying out, you know, first, in the Americas and we would expect that these will quickly follow I guess think in a quarter or two or two, certainly in 2006, as we roll these out, we will implement any changes that we find are workable not just in Europe but in all three regions. But we have good programs and good training programs and onboarding programs in place, actually firm wide, and many of these are global programs that we manage on a worldwide basis.

Could you provide a little bit more color on which industry gaps you might be targeting here with your 10% headcount increase you're planning for?

Sure, although we don't tend to comment a lot on industry groupings in terms of our hiring, but generally they follow the growth sectors around the world. Life sciences is a key area of focus for us where we probably have lagged some and we have some very targeted hiring plans. We also have interest in building on our industrial practice strength globally particularly in Europe. We have some opportunities we believe to continue to drive growth in consumer and media.

And then overall, we will continue particularly in Europe to work on the top of the market in terms of additional players that can do Board work, CEO work, and cross-global work for some of our multinational global clients. We're a service business, and really it's our clients and their needs that drive our hiring. We're responding to opportunities that we see and in some ways we staff to those opportunities.

Okay. And you've consistently mentioned your review of potential acquisitions as a way for growth. Could you talk about where you might see opportunities here on a geographic basis, and also do you have any interest in anything aside from executive restructure?

Sure. Let me comment to that. And the statement is correct. We actually continuously and aggressively look at every opportunity to grow the business, acquisitions large and small. Small ones tend to be very much like hiring individual consultants or small groups of consultants if you are talking about small regional boutique firms either in search or in leadership consulting because after the-- as you all know, after a small number of large global firms, the size of firms in the executive search business drops dramatically.

And so while we continuously look at these and, in fact, engage in preliminary discussions from time to time, the bar for us for bringing a firm and going through with an acquisition is very high. We want to make sure that the standards of the people equal our own, and obviously that whatever transaction we would do is an economically sound one. The other question related to potential acquisitions or hiring outside of core executive search. Clearly, we have, as part of our plan for building our leadership consulting business headed by Vince Perro, a pretty focused plan at moment looking at players in that industry in assessment, in some other elements of onboarding and leadership team development that are potential for us as expansion opportunities, and over the course of this year we will look at some of those carefully. If we find some, one or some that meet our standards and will be deals that we feel we can do that are financially acceptable, we'll do them.

And a question for Eileen here. On expense controls, how much additional operating leverage do you see going forward here?

Well, I think it's possible, certainly, for us to grow at the levels that we've suggested for this year without adding really much, if any infrastructure expense. So a lot of the margin expansion that you're getting are two things. It's fixing the comp structure issues that we had particularly in Europe, and it's also getting operating leverage on our fixed costs. So given where we're running right now, I think it certainly is possible for us to grow, again to the levels that we've suggest to you this year without additional uptick in our infrastructure cost. So I certainly think there's still some leverage to be gained on this model.

Thank you.

Our next question comes from Michel Morin from Merrill Lynch.

Good morning. Just a couple of questions. Just to clarify on the free cash flow, Eileen, the $50 million to $60 million, are you assuming any cash expenses related to prior year restructurings in there?

No, that would be excluding any unusual items.

Okay, because we just saw, we had $35 million this year, and we've had, you know, going back -- even if we exclude kind of the restructuring that took place this year, my assumption was that there were still some payments that were flowing through in '06. If I'm understanding you correctly you're saying there probably would still be some payments related to prior year restructurings. Correct?

Yes, there should be. We're estimating about $6 million next year. Just to go back and talk about what we did in terms of restructuring this year, almost all those cash payments are out the door. So there's still some lease payments from past restructurings and a little bit related to a couple of offices and some leases that we restructured in the 2005 second quarter restructuring Michel, but we would expect about $6 million to be running through in terms of cash expense in 2006 and we may have some minor accounting restructuring but nothing significant. As you saw this quarter, there were 76,000 running through and that's just as we sublease as you know. That's trueing up our estimates in terms of how we've accrued or how we would sublease those restructured properties.

Okay, and the 50 or 60 does not include deferred tax benefits, reversal allowances or anything like that?

No, we've reversed the valuational allowances. We still have obviously deferred tax assets and we have $11 million of net i.e., tax affected NOLs particularly in Europe. And we don't typically try to forecast the difference between sort of book taxes and cash taxes. As you know, there's typically -- your cash tax is somewhat lower, but it depends on the implementation of your tax planning strategies and how quickly you can realize those. So it's pretty difficult to forecast and we typically don't do that. But you're right, there usually is some benefit to that timing differential. And I will say in terms of our real estate, our major real estate issues are really resolved and what you see is just really the tail end of those cash restructure I can on those properties.

Okay.The second question had to do with the salaries and benefits, I think the number you've mentioned in the press release as a percentage of sales is 66. 2% in the quarter. If I add back the deferral of the RSU amortization effectively that number would be closer to 67.5% which seems pretty high relative to what seems to be your 65% target. If I'm thinking three years out when you no longer have that benefit how are you going to get to that 65% or how can you get there over the next few years?

Well, I think the math that you're doing is you're adding for the quarter about $1.5 million of the benefit?

Right.

Okay. That's accurate. Well, I mean, first of all, it's certain not our intent to make our margin or the percentage of comp as a percentage of revenue based on deferring restricted stock units. As Tom mentioned, the reason we're doing this is to align stakeholders so people are driving revenue in this business with the shareholders. So that you create what I would call a virtual circle where everyone wins to the extent that we drive the stock price and we create wealth both for our shareholders and our internal revenue drivers.

In terms of how we're looking compensation, we're taking a look at how we are paying people appropriately in differentiating between how people are adding more to the bottom line, and frankly, driving appropriate behaviors in the firm. So without going into great detail, we've made a real effort to focus our compensation and alignment on making sure that we're paying people appropriately. In addition, as we drive revenue across the European platform, that comp as a percentage of revenue will improve in Europe and the overall margin will improve as well. Got it, okay. Thank you.

Our last question comes from Tobey Sommer of SunTrust Robinson.

Hi.Thanks. I have a couple of questions for you. In terms of the balance sheet, could you refresh my memory on what proportion that have is kind spendable cash?

Sure. Yes, Toby, let me give you a quick sense of it, first of all, you're looking at $203 million at year end. Now $50 million of that will pretty much go out the door in the next week or so in terms of the second half of our bonus payments, both for management and for the consultants. We have said pretty consistently that we think we need about $40 million or $50 million on hand in terms of cash around the Company. And one of the reasons for that is that there's about $20 million or $25 million at various foreign entities that is difficult or very expensive to repatriate so although we can use it within those countries if we don't have a use for it there as you can imagine, we don't necessarily want to pay high toll gate taxes to bring that back into the U.S. or another jurisdiction. So I know that I have gotten questions on the $40 million, $50 million before but within that you need to understand that there's a pool of cash that is not as easily moved throughout our system.

Okay. So we'll be at about 150ish in a couple of weeks?

Well, I mean, we're also building cash so typically we will generate cash at a rate that's inconsistent throughout the year but will be $5 million or $6 million a month.

Okay.

So you'll have a little bit of uptick from that as well. That varies with collection experience and just how cash is being used throughout the year, but in general, you know, you're generating somewhere around $5 million or $6 million a month.

In taking a step back and looking at your plans to expand the consultant base by 10% or so this year, certainly that'll help drive revenue growth, but I'm curious what the market is like in supply of experienced consultants and maybe you can comment on that as well as maybe what proportion of those new consultants will be experienced consultants, versus industry people, versus, you know, maybe internal promotions?

This is Tom. Let me comment on that and also maybe this is a topic that Bonnie maybe might want to add a comment on. Historically, we have tried to stay relatively balanced most of the time across the three categories where staff come from. You identified them. One is experienced search or leadership consulting professionals from our competitors. Second would be industry hires that are new to our business that we bring in and teach our business, and third would be promotions from the ranks of our associates and principals.

The general goal over time would be to keep those roughly in balance at about a third each. Those percentages vary a little bit over time because we don't try to manage that very directly. But we will certainly have hires in 2006 in all three categories. The supply of talent, we believe, is there. We have had historically, good luck recruiting from our competitors those individuals that both fit our culture and meet our standards. There's not an infinite number of them but there are some and we do go after them and a number of them who have moved from our competitors to us have found those moves to be both profitable and rewarding for them, so we will continue to do that.

As far as industry hires go, our training programs are good and we actually in the past couple of years have shortened the time that we can get those people up to speed from a standing start. I also think our hiring process has gotten much more focused and much more capable and accurate in terms of predicting success, so that percentage of bad hires have gone down fairly dramatically to quite a low level. Bonnie, a lot of this in the Americas, derives under your hiring programs. You might want to add a comment to that.

Thanks Tom. Yes, I completely agree with what Tom said. This needs to be a blend of experienced hires from industry or from our competitors, new to search and internal promotions. The mix has changed. Last year in the Americas, we trended a little bit more heavily towards new to search and we've been very, very pleased with their progress. We've seen really great things from some of our hires, and I know Kevin Kelly would tell you the same thing with regard to Europe, that we think that some of those individuals are bringing excellent skill sets that strategically and market differentiate us.

We've been very, very selective, and very, very strategic about whom we've brought on board. I think one of the competitive differentiators for us is to make sure that we only hire people that we know are going to be very exceptional contributors, not only in the short term, but in the long-term strategy to add depth and breadth, and that's always going to be a blend.

Just a follow on comment. It really does vary by region. If you take a region like Asia-Pacific for example, where the search business is not mature, there is actually not much talent available, with the exception of experience from our competitors. There's some, not much, so, we've tended to have a high percentage of new to the business people and they've actually ramped up quite nicely and quite aggressively in those markets so again, we tend to be a little bit opportunistic, but at the end of the day we want the best people in any market sector, in any industry sector, working for us. We know how to train people to get there but if somebody is out there with anybody else that we think would be better off here and that fit our standards and reflect our values, then we're going to go after them.

Two other questions and then I'll let you go. One, I was curious if you could comment on your longer-term margin outlook. In the past I think I have heard you say that a well-run business services company could eventually achieve high-teens operating margin, could you update us on your thoughts there and whether this business cycle will let you get there or not? And then, I am curious about the decision to provide annual guidance but not quarterly guidance? I understand it is a very difficult business to break down on a quarterly basis. It is very lumpy but I was wondering if it is becoming more lumpy. Or whether that is a recognition of the lumpiness that has been persistent in the business over time? Thank you.

Sure, let me address that initially and then Tom may want to add some color to it. First of all, what I think is the standard of a well-run business services company, the standard to that is about 15%. And we're really on our way to achieve longer term a 15% operating margin. Doing that in a balanced, thoughtful way so that you can still drive revenue, hold on to your best people and align people towards that objective is really the process that we're going through now but we've been very consistent in saying that, that goal of getting to 15%. Whether or not you can leverage that beyond that, really remains to be seen. You've got to walk before you can run and we've moved the operating margin in this company in the last two years from around 4.5% to now just over 10.5%.

And although one could argue that that is easy to do because one thing you can do is just pay people less money, it's not easy to do because you need to balance the demands and requirements of people in the market who are driving revenue for us and align them with shareholders and I think all of us feel, on the management team, that we've done really a good job at moving the margins forward, aligning the people in the business to drive revenue with our shareholders to create a sustainable advantage over time.

In terms of the business cycle, our plan is to make sure that we can hold on to this margin regardless of business cycle. And let me just comment a little bit on that. Our view is that this is a less cyclical business than people perceive it to be. If you look at Heidrick & Struggles historically, even in fairly down business cycles, our growth rate was not affected much and the fact that we had dramatic fall off in the early part of 2001, we think that is untypical.

That having been said, we are running this business to address any change in the business cycle, although in the moment, we see the short term, intermediate term, and long term business as essentially a growth business for all of the reasons that Tom described. The demographics, the churn in executive jobs, the focus on corporate governance, all of those, and the growth in emerging markets, and the upgrading of talent through out the world, we think lends to executive search and Heidrick & Struggles in particular, the means of expanding both on the revenue side and on the operating margin. We're not dependent on the business cycle in order to hold on to and expand the margins that we've committed to.

In terms of the annual guidance, we run this business on an annual basis. As Tom described, it is very difficult for us to try and match perfectly our expenses with our revenue which is why you'll see fairly disparate margins throughout the year. We just think it is more appropriate since we manage our business in that way, to provide you guidance in that manner. It is a better business practice. I think it is recognized by many experts in corporate governance as a better way for us to be as transparent and honest with you as possible in terms of what our expectations are and how we manage our business.

And in terms of whether or not the results are lumpier, I will say there were seasonal trends in the executive search business prior to again the retrenchment in early 2000/2001. We have not seen as this business has come back a return to those seasonal trends. So it does make it more difficult to forecast. So again, the reason we are going to annual guidance is because we think it is more appropriate because that's how we manage our business, on an annual, not quarterly, cycle. I hope that answers your question.

It does. Thank you very much.

This is Tom. I would only add one comment to the annual cycle. We're a client-services business and one of the reasons why our business drives on an annual cycle is because our clients' businesses, as they relate to us, generally drive on an annual cycle, hiring and organizational planning as opposed to an occasional one off assignment for a CEO who resigns or leaves where you have a specific, unpredictable event, but beyond that, many of our clients do their staff planning on an annual basis, and we are beginning to work with our big ones more and more integrating into their planning cycles, which is good for us but actually allows us to match our business more closely to theirs. But that does tend to be annual. So a lot of these things does tend to come together to make annual planning for us much more valid as it really is a reflection of how we deal with many of our clients.

This concludes the question and answer session. Ms. Creed, any closing comments?

This is Tom Friel. I would just have a couple of quick closing remarks. I first want to thank everybody for participating and I would close with just two quick comments. First, returning Heidrick & Struggles to profitability has been our most significant challenge as a firm and as a management team for the past two years and we believe that this part of our journey is largely completed and that our results for 2005 demonstrate our ability as a team to deliver on our commitments in this area. I'd like to thank our management, our Board, and our employees worldwide for their efforts towards achieving this goal. It was hard. They've done it and we're proud of them for having done it. Second, and now most important, having achieved that now gives us the ability to aggressively focus on growth while continuing to increase our profitability, and the alignment of all of our stakeholders in our success. As we head into 2006, we're more optimistic than we've ever been about the future of this profession, and Heidrick & Struggles. Thank you all for your support and your participation in the call today.

Ladies and gentlemen, thanks for participating in today's conference. This concludes the program. You may now disconnect.