Heidrick & Struggles International Inc (HSII) 2011 Q4 法說會逐字稿

Good morning, ladies and gentlemen. Welcome to Heidrick and Struggles fourth-quarter and 2011 quarterly conference call. At this time, all participants in a listen-only mode. Later we, will conduct a question-and-answer session. Instructions will be given at that time. Now, I'd like to turn the call over to Julie Creed, Vice President of Investor Relations and Real Estate.

Good morning, everyone, and thanks for participating in our fourth-quarter and 2011 conference call. Joining me on the call today are Kevin Kelly, Chief Executive Officer, and Rich Pehlke, Chief Financial Officer. As a reminder, we will be referring to supporting slides that are available on our website at heidrick.com, and we encourage you to follow along or print them. As always, we advise you that this call may not be reproduced or retransmitted without her consent. In today's call, we will be using the terms operating income and operating margin, excluding restructuring charges, and operating income and operating margin, excluding impairment and restructuring charges.

These are non-GAAP financial measures we believe better explain some of our results. A reconciliation between GAAP and non-GAAP financial measures can be found on Slide 24 in our supporting slides and at the back of our release. Also, we will be making forward-looking statements on today's call and ask that you please refer to the Safe Harbor language contained our news release and on Slide 1 of our presentation. Our slide numbers refer to the slide numbers in the bottom right-hand corner of each slide. And now I'll turn over the call to Kevin. Please start on Slide 2.

Thanks, Julie. Good morning, everyone. Thank you for joining us. Today, we reported revenue of a $528 million for 2011, a 7% increase year-over-year. With this recovery being slower and more uneven than the ones we've experienced in the past, we saw more volatility in our results from quarter to quarter. At the same time, our full-year net revenue was at the midpoint of our guidance we provided at the start of 2011. On an operating basis, excluding impairment and restructuring charges, we improved operating margin to 6%, having made especially good progress in controlling our cost structure. We are very pleased with this outcome. It's a reflection of our strong client base, the quality of our people throughout the globe, as well as Management's commitment to deliver growth to our shareholders over the long term. We recognize that, although we delivered solid revenue growth and margin improvement, 2011 did not come without costs.

We took some aggressive actions in the fourth quarter, in the form of a restructuring, to better align our geographies with our clients and provide the capital necessary for targeted investments. With that backdrop, let me highlight a few other key metrics of our Business in 2011. The Americas region delivered the strongest performance with revenue up 12%, while Europe grew 4%. Asia Pacific's revenue were down 1% compared to 2010 but against a tough year-over-year comparisons. In 2010, revenue in this region grew 47%, in part due to several large clients. We believe that one of our competitive advantages is the deep industry knowledge our consultants are able to provide our clients.

On Slide 4, we provide you with a breakdown of our 2011 performance by practice and Slide 5 reflects our improved industry diversification. Every practice achieved year-over-year revenue growth in 2011, except the Financial Services practice which declined 10% or approximately $15 million. In the Americas, revenue from the Financial Services practice was up slightly. However, we saw declines Asia-Pacific which was largely expected due to the high volume of work we generated in 2010. The Financial Services practice also saw decline in Europe, but this is more broad-based and largely a function of market conditions in that region. From a functional practice perspective, I'll highlight the performance of our two largest practices. The Financial Officers Practice and the Marketing Sales and Strategy Officer's practice which grew annual billed fees 20% and 12% respectively, compared to 2010.

Our strategy is to extend Heidrick and Struggles' strong reputation as the leading search firm at the C-Suite and Board level to that of a leadership advisor, helping clients not only attract, but also retain and develop, leadership talent for their organizations. On Slide 6, you will see that revenue from leadership consulting services increased 14% in 2011 to $45 million and represented 9% of total net revenue in the year, up from 8% a year ago. Slide 7 shows we confirmed 4,274 searches last year, up 2% compared to 2010. Slide 8 highlights the average revenue per search of $112,900 which increased by $4,400 in 2011.

Moving to slide 9, we ended the quarter with 347 consultants -- the same as the end of last year -- but a decline of 39 compared to the end of the third quarter, reflecting the workforce reduction in October. Globally, our voluntary turnover in 2012 was 9% and in line with an average year. Productivity on Slide 10 is measured by annual net revenue per consultant -- was $1.4 million in 2011, the same as in 2010 but based on 23 higher average consultants in the year. We believe that the combination of hires made in 2010 and 2011 who are now reaching higher productivity and the reduction in force last year that included exiting underperforming consultants should help us achieve higher productivity levels in 2012. With that overview, I will turn the call over to Rich.

Thanks, Kevin. Good morning, everyone. I'll begin my remarks with the discussion of the operating expenses. Starting with Slides 11- and 12, salaries and employee benefits expense increased by $32 million or 10% year-over-year. In constant currencies, the increase was $21 million or 6%. Fixed compensation expense, which includes equity compensation, accounted for $20 million of the increase and is largely attributable to the year-over-year increase in employee headcount that we carried throughout most of 2011 until our workforce reduction in October. It also reflects merit increases that were implemented in early 2011. Performance related variable compensation accounted for the remaining $12 million increase, primarily as a result of the higher bonus accruals related to the growth in net revenue 2011.

Turning to Slide 13, general and administrative expenses declined year-over-year by $7 million or 5% and as a percentage of net revenue declined 23.4%. In constant currencies, G&A expenses declined by $10 million or 8% in the year. We are very pleased with this production, as it comes from tighter controls in a number of area throughout the Firm. Lower professional fees, real estate expense, unbilled travel and entertainment expenses, and general and office and administrative expenses were four of the largest contributors to the decrease. On slide 14, you will see we have reduced our rent expense by $7.9 million over the last three years. This is great progress toward the goal we set in 2009 for a reduction of $10 million in five years. Turning to Slides 15 and 16, we produced operating income, excluding the impairment and restructuring charges of $31.8 million in 2011 and our operating margin improved to 6%. This compares favorably to 3.6% in 2010 and represents good progress.

We did not achieve these results on an EPS basis largely due to our effective tax rate. As I have mentioned in previous calls, our taxes in 2011 reflect losses and charges that cannot be deducted for tax purposes on our book financials. The goodwill and intangible asset impairment in the third quarter is a good example, as we do not have a tax basis in these assets. Therefore, the impairment of goodwill did not generate any tax benefits for book purposes. In addition, there are a number of jurisdictions -- primarily in Europe -- where we have established valuation allowances against deferred tax benefits. Not only does establishing the valuation allowance create a one-time deferred tax expense, but it allows us not to recognize current losses as tax benefits in these jurisdictions. As a reminder, our reported tax rate is not our cash tax rate. Although we reported a 128% negative effective tax rate for the year, we anticipate the effective cash tax rate to be approximately 40%, in line with our 2010 corporate income tax filings experience.

Looking at Slide 18, net cash provided by operating activities in 2011 was $44.8 million, compared to $84.3 million in 2010. The year-over-year decline primarily reflects a decrease in the change in accrued bonuses, partially offset by the improvements we've made in managing working capital, especially in the accounts receivable balance. We ended the quarter with $185.4 million in cash and cash equivalents, up from $135.5 million at the end of September and $181.1 million at the end of last year. Those of you who are familiar with our Business know that our cash position typically builds throughout the year, as we accrue for our variable compensation and deferred compensation and the cycles of these payments occur in February, March, and April of each year. Our fourth-quarter cash position was favorably impacted by our improvement in the collection of our receivables, but this was somewhat offset by cash payments we made related to the restructuring.

Looking at 2012, in February we paid out approximately $10 million of cash related to the portion of consultants' compensation that were deferred in 2008, 2009, and 2010. In March and April, we expect to pay approximately $109 million in variable compensation related to 2011 performance. This compares to last year when we paid approximately $95 million related to 2010 performance. We also expect to pay approximately $8 million in 2012, related to the restructuring actions we took in the fourth quarter. We expect CapEx to be in the range of $8 million to $11 million for the year, a decline compared to $18 million in 2011.

Our proprietary search system is currently in being piloted, and our investment in developing the system will taper off by the summer. We also perceive fewer new office buildouts. As we have said previously, our global cash needs at any given time range between $40 million and $60 million. One small housekeeping item to make note of; in 2012, we will be moving the operating responsibility for our Middle East region from Europe to Asia Pacific, and we will be reporting our segmented results to reflect that change. Currently, we have one office in the Middle East in Dubai and revenue attributable to this region was just under $3 million in 2011.

Slide 19 shows our quarterly search confirmations and Slide 20 shows our backlog. As is typical with our Business, fourth-quarter confirmations were lower than the third quarter, so backlog is lower going into the first quarter. Fourth-quarter confirmations fell off more than what we've seen historically, which was disappointing but not totally unexpected due to the restructuring actions we took in October as well as conditions we experienced in the Financial Services sector. In our monthly confirmation slide, Slide 21, you will see that January improved compared to December and that February will be an improvement to January and on par with February 2011.

As we noted in the release, current market conditions around the world and prevailing uncertainty continue to make it increasingly difficult to forecast our Business. Today, we are a leaner Company than you were last year at this time. Because we expect volatility in the business and economic climate for some time to continue, we will be cautious about hiring levels throughout 2012. We are currently forecasting net revenue of between $510 million and $540 million, which represents a mid- to high single-digit growth from our current base of consultants. We do not expect any practice or region to be the single driver of our growth and to weigh on our growth. We are forecasting an improvement in operating margin, currently expecting between 7% and 9% overall, with the range mostly dependent on how revenue sorts out. The restructuring last October is expected to produce annualized savings of $20 million to $25 million. While some of these savings will be selectively reinvested in the Business, we will be very prudent about how and where we invest. We will continue to apply strong ROI governance to everything we do, and any investment will be evaluated based on the impact on clients, consultant productivity, cash flow, and margin improvement.

As for quarterly guidance, we have provided a forecast for net revenue in the first quarter of between $105 million and $115 million. Given the current volatility and market conditions and the general lumpiness of our quarterly results, our visibility of quarterly margins is too cloudy. We believe it is more meaningful to share with you directionally where we are working to take the Company for the full year. With that, I will turn it back over to Kevin.

Thank you, Rich. Before I turn my comments to 2012, I would just like to note that I'm very proud of our overall performance in 2011. Heidrick and Struggles ended the year in a much stronger operating and financial position than where we began, and as it relates to our Business, we are feeling positive about our prospects for 2012. That said, we fully recognize that our Business is driven by larger macroeconomic conditions and therefore we will continue to manage our costs aggressively, invest selectively to maintain our financial strength and flexibility. Serving our clients around the world is our number one priority, so we are building on our unparalleled executive search capabilities with leadership consulting services to become a leadership advisory firm. Our strategy is continuously reinforced by conversations we are having around the globe with our clients and other CEOs. It's no longer enough to have a strong management team in place. There is a pressing need to ensure that the talent aligns with long-term business strategy.

To support the continued growth of our leadership consulting capabilities, in December, we hired Eric Olsen as global practice managing partner of Leadership Consulting. Eric brings relationships with many Fortune 500 companies and extensive experience, having led several international leadership consulting firms throughout his career. We are very confident that under his direction, we will be able to continue to develop our leadership consulting capabilities to expand our highly successful client relationships. To be a leadership advisory firm not only means growing our consulting capabilities, but also continuing to expand our search Business.

Our focus in 2012 will be to make some selective hires that fill very specific needs throughout the globe and to strengthen our practice verticals or geographic areas that align with economic growth. These investments will be tied to increasing consultant productivity in support of our long-term margin targets. We believe that both profitability and productivity go hand-in-hand to our committed to ensuring our consultants have the best platform from which to succeed. When we roll out Latitude, our proprietary search database at the end of the second quarter, our the consultants will have access to the state-of-the-art technology that will allow them to work more effectively with their clients. We are also introducing our [pass the partner] program this year to strengthen our relationships and ensure our consultants have clearly defined professional development objectives. We believe these types of investments, which are directed in ensuring we serve our clients well, will help continue to differentiate Heidrick and Struggles and allow us to reach our long-term objectives.

Before we open the call up to questions, I'd like to take a moment to thank our colleagues around the globe for all of their hard work in 2011. Without a doubt, we have the best people in the Business and we couldn't be more proud that they represent Heidrick and Struggles on a daily basis. I would like to thank our shareholders for their support and acknowledge we are committed to delivering the long-term value you expect. Thanks again for taking the time to join us this morning. At this time, Rich and I had would be happy to take any questions that you all may have.

(Operator Instructions)

Kevin McVeigh, Macquarie.

This is Derek Sbrogna on for Kevin McVeigh. I was wondering if you can provide a little more detail on what your guidance implies by each of your three regions?

We don't give guidance by specific regions. We give it by total Company. Clearly, given the nature of the restructuring efforts we took in the fall, you can tell that we are still cautious about the European global economy and the economies within certain countries. The volatility that we have experienced there in terms of all of the sovereign risk and political risk that exists in that region of the world, has caused us to pull back geographically in that region -- in a prudent way.

Nevertheless, se also have a number of up-and-coming consultants in that region that will give a very positive contribution to the Business. US still remains the largest portion of our Business and Asia-Pacific, which was one of the regions that was hit a lot by the financial services sector in 2011 -- is certainly going to be one where we are going continue to invest because of the growth in the economies in the countries that we see. So we are still looking for balance geographically. We are looking for diversification geographically, but that's as far as we'll go in terms of specific direction.

Got it. That's very helpful. Thank you. Just one housekeeping question. You talked about the normalized tax rate of 40%. Was that a 2011 number or is that looking forward for 2012?

It was a 2011 number in terms of the cash tax rate, and we expect it to be about the same. That was for 2010 as well as what we expect the 2011 payments to be, in effect, as well.

Got it. And that will be the same for 2012?

For 2012, I would expect it to be in that range. What's going to dictate that over time is how we make money and where we make money. As I mentioned in the call, our balance sheet is very conservative because we have a number of valuation allowances, so we take a lot of attention to where we want to have costs and where we want to drive profitability because we could have the opportunity to improve that over time, as we grow certain sectors for our Business.

Got it.

Tim McHugh, William Blair & Company.

This is actually Matt Hill in for Tim McHugh. My first question is -- previously, you had talked about shifting your focus for managing the Business on a practice level to more of a regional focus thinking that would drive some cost savings and possibly improve margins. I was wondering if we could get an update of how far along that is and what you are seeing so far?

Yes, this is Rich. I will start with that. The practice focus that we have in our Business is largely one that helps drive the revenue and economic opportunity in the hiring practices of our consultants across the globe. But one of the things that we have taken a hard look at in the end of 2011 was to make sure that we didn't lose sight of managing the costs on a region and office basis. I think we've made some improvements there. One of the reasons we saw a little slippage in margin over the last 18 months was the fact that in driving the practices and focusing so hard on practices that you can lose sight of your cost base, which is much easier and much more appropriate to manage on an office-by-office than a country-by-country basis.

So we balance that. That's always a fine line, but clearly we work very closely with our regional leaders and our practice leaders in almost a cross matrix environment to make sure that were taking advantage of all the economic opportunity and business opportunity we can, but still having a very strong discipline about costs. You started to see that play out in the last two quarters of 2011.

Okay. And then one more. Just an update on Financial Services -- what you're seeing and hearing from some of the clients out there and maybe on a regional basis too with that?

Sure, Matt. It's Kevin. Financial services -- it's been a tumultuous three plus years. I don't think anyone can pick up a newspaper without seeing that there's some challenges still that remain in financial services. Having said that, there still areas of growth in financial services and there is still a number of international banks and investment banks that continue to expand. We've been very well served in helping some of these banks expand, not only into North America but other parts of Europe and Asia and Latin America as well.

What you're also seeing in the market is a shift in compensation towards more equity. That's impacted some of the fees that we have seen out there where we used to get the first year's fee based on net cash compensation, so there's been a little bit of impact there. But as I look forward in 2012, what we are hearing, and I just met a number of executives in the financial services industry, that they expect the business to pick up in the second and third quarter of the year. After bonus time, we will see probably some greater activity in the financial services sector. Continued growth in Asia-Pacific, you will see it's probably fairly flat in North America, and there are still opportunities in Europe as well.

(Operator Instructions)

Tobey Sommer, SunTrust.

I was wondering if you could give us the main contributors of what will be an improved operating margin compared to last year despite the fact that, based on annual revenue guidance, revenue looks to be more or less flattish?

I will start on that. The biggest driver is a of couple things. Number one, we've made a few refinements in our expense management and cost base, and we are going to continue to give that attention. But the number one area is the actions we took in the restructuring and where we reset our footprint, if you will, geographically and also to match our client needs. We have taken a significant amount of fixed compensation out of our cost base. It's one of the areas that we are going to continue to put a very stringent control on, only from the standpoint that we want it to be as variable able as possible over time so that we make sure we are paying our best people. It works better for retention, also drives productivity. It also helps us manage the overall return on investment.

The biggest majority of the cost savings really came out of the fixed compensation line and will come out of that line in 2012. That being said, we are going to be selective about how we hire. We are still going to continue to address market needs, and we have the funds to do so. I feel very good about the strength of both the cash position as well as the balance sheet; that we have more than ample resources should we start to see investment levels pick-up by our clients, we will be a great position to address those, both with our current base of consultants and to fill out any growth needs that we may have in certain geographies. But that is really where the bulk of the savings will come.

My second question has to deal with driving increased productivity as measured by the annualized revenue per consultant. How do you look at the -- first of all, do you expect to be able to increase it this year? If so, how do you expect to do that if financial services may be a little bit more modest because of the increased equity component?

Sure, a couple things. As Rich mentioned, we went through a restructuring last year and we took out a number of underperformers in the Organization, number one. Number two, we did a lot of recruiting over the last 18 months. As we have analyzed how long it takes individuals to get up to speed, it's anywhere from 12 months to 18 months. What we've seen over the course of the last three or four months is we have a lot of hires that we made at the end of 2010, 2011 really start to ramp up. So it's a combination of those as well. And one thing to remember with financial services is, even though investment bankers or bankers get paid a decent sum of money, we've always had caps in place. Even though someone may have made $1.5 million, $2 million, we still had a cap of $400,000 or $500,000, so the impact was not as great as we have seen.

Plus, we have a great group of people in financial services. They are very entrepreneurial. One thing to mention is we've also seen new areas of growth in financial services in back-office infrastructure technology, legal and compliance, and risk. We are seeing growth in that area. Quite frankly, given the state of the financial services market, risk and compliance is huge, and compensation in those areas is still fairly high. Between the restructuring, between our development of people, between the time it takes to get up to speed in areas of growth in financial services, not to mention industrial and consumer goods and technology, we believe we can continue to increase productivity this year.

Okay, so you do expect to increase it. Kevin, you mentioned the equity component in financial services as increasing. Are you just citing it anecdotally but saying it does not impact the financial performance of the Firm within that segment.

You know, it depends. It's a case-by-case basis. There are ways to structure fee where it doesn't impact it and we've been working with clients to make sure that we are paid fairly for compensation that is given. We have seen some firms do it for a year; some may do it longer-term. But investment banks have always had a deferred element, be it 30% or 40% for some of the larger investment banks. For this year, some have increased it more. What I'm saying is, yes, it should impact it somewhat, but given the entrepreneurial spirit of our financial services practice and the talent that we have in that sector -- they are engaging with their clients to figure out how we can maintain the fee levels that we have historically.

And my last question. Just wanted to get some color on how you are thinking about your consultant headcount this year; if you have plans to increase it on a net basis or at this point, you are thinking more stable numbers?

Currently -- by the time we are at the end of the year, you might see stable to a very slight increase in terms of headcount. A lot of that will be driven by promotions, as Kevin indicated. We have a number of people in our pipeline that are up and coming. It certainly could be organic growth in the number of consultants. We are going to watch that carefully. It's really important to mention that we are taking a slightly more stringent and focused approach on performance management. So the numbers of consultants, while may not be growing much, I think the quality of what we have in our Firm will be much greater.

Last question. Spendable cash as of next month or April -- by my math, with your bonus accrual in the severance payout, it's about $65 million or $70 million. Is that about right?

It could be. A lot it going to depend upon how we manage the working capital over the next 30 days or 45 days. You're absolutely right. As we said on previous calls, our cash balance -- some of our cash is restricted in countries and is somewhat logistically difficult to move around to all the right jurisdictions. We do have a considerable amount of outflows coming in the next 60 days between restructuring and bonus payments. I am not afraid to use my credit line if I would have to in the short-term just to balance that, to avoid moving money unnecessarily or at high costs, but we are just going to wait and see. We are just managing that very tightly. I don't foresee that as any kind of long-term issue over 2012.

Kevin Steinke, Barrington Research & Company.

I had a question about the Leadership Consulting business. You said, overall, you are going to be cautious on hiring this year. But first of all, I was wondering if the hiring environment for Leadership Consulting still is competitive and if you plan to continue to add there in 2012?

Yes. This is one of our key focal points for 2012 is scaling the Leadership Consulting business. That's one of the high priorities. We brought Eric in in December and we will look to invest in that area. We are seeing a lot of client demand, not only here in the United States but globally -- Europe, Latin America, and Asia Pacific. We will continue to recruit in that area and look to how we can scale that Business, given the demand we are seeing in the marketplace.

And how do you feel about the overall progress of integration between Search and Leadership Consulting, at this point?

It has worked great well. You may have been on the call where we mentioned before, we find that the retention rates of our clients jumped significantly, and our fees are much higher as well when we have an integrated approach to Leadership Consulting. I can tell you from, just seeing a number of clients across the globe, that they are really delighted with the service offering that we have, whether it's on the succession planning, assessment, or development front. At this point inn time, the integration is going well. The biggest challenge we have, and as I mentioned is a focal point, is delivering for our clients because of the demand out there and how we can scale the business at a much faster pace.

Okay. Thanks for the update.

Tobey Sommer, SunTrust.

Another follow-up question. Kevin, where do you see social networking now impacting the Business? I am interested in your thoughts as far as it being a tool, but also I'm curious if -- at the margin at the lowest end of where the Firm operates if you are seeing it as a competitor as well.

It's a great question. You know we have been focusing on these technologies for a number of years at Heidrick & Struggles to make sure that there isn't a risk of disintermediation and how do we embrace these technologies and really help our consultants as well. What we seen in this area is, yes, there is a number of web 2.0 technologies out there, and we actually use them. We are probably the first to admit that it helps us in terms of delivering at a much faster pace to our clients. It really cuts down the front end of the research phase that we have to go through every time we execute a search.

But something to bear in mind, and I've asked this to a number of clients over the last year -- one of the strengths we have as a Firm is not just putting a resume in front of someone or using technology to shoot a resume at someone, it is assessing and developing these candidates to make sure that they stick in an organization for a long period of time area. We use this statistic frequently, that 40% of senior executives don't last 18 months in an organization, and a lot of that has to do with the fact that culturally they might not fit in. That can be missed if you just pass a resume on, in terms of technology. So it's the assessment process that we go through that differentiates us from these competitors. To put it in perspective for you, I was seeing a client recently. To your point, they have hired a number of people internally to use these technologies; LinkedIn, specifically.

If you -- and I am referring to a specific technology client. They advertised on LinkedIn for one position and ended up with 1,700 resumes. Now, when you get 1,700 resumes, it takes a lot of time and effort to sift through them. You're not going to get the quality control that we provide as an Executive Search and Leadership Consulting firm to the assessment process that I just mentioned. Could there be potential down the road for disintermediation? Absolutely. Is that why we are focusing on looking at different business units and lines here at Heidrick & Struggles? Absolutely. Right now, we're embracing the technology and we hope to provide the best technology we can for our consultants so they can deliver for our clients.

Thank you, and there are no further questions.

All right. Well, thank you, everybody, for joining the call today. Appreciate your support, and I hope you have a great day.

That concludes today's conference call.