Huron Consulting Group Inc (HURN) 2007 Q2 法說會逐字稿

Good morning ladies and gentlemen, and welcome to the Huron Consulting Group's webcast to discuss results for the second quarter 2007.

(OPERATOR INSTRUCTIONS)

And now I would like to turn the call over to Gary Holdren, Chairman and Chief Executive Officer of Huron Consulting Group. Mr. Holdren, please go ahead.

Thank you and good morning to all of you, and thank you for joining us for today's webcast to discuss Huron Consulting Group's second quarter 2007 results.

Before we begin, I would like to point all of you to the disclosure at the end of our news release for information about any forward-looking statements that may be made or discussed on this call.

We have posted the news release on our website. Please review that information along with our filings with the SEC for disclosure of factors that may impact subjects discussed on this morning's webcast.

Also on this call we will be discussing one or more non-GAAP financial measures. Please look at our earnings release and our website for all of the disclosures required by the SEC, including reconciliation to the most comparable GAAP numbers.

Joining me here in Chicago today are Gary Burge, our Chief Financial Officer; Mary Sawall, our VP of Human Resources and Dan Broadhurst, our Chief Operating Officer.

Huron is very pleased with our performance in the second quarter. Our balanced portfolio of service offerings has us very well positioned for the remainder of 2007 and for the next several years.

What I am most pleased with is our organic growth rate in Q2, up 29%. You have seen all the numbers in our press release, but organic growth is a very important measure for us.

It tells us if our historic service offerings are winning in the marketplace and the acquisitions that are at least 12 months old are growing at a comparable pace. You will see our organic growth rate remain in the high twenties for the rest of 2007.

Our target organic growth rate for 2008 through 2010 is 20%, and we plan to add 10 to 15% of our revenue base each year through acquisitions.

Now let me talk about the most important part of Huron, our culture which is our people and the foundation of any consulting firm. I believe this is what separates Huron Consulting from its peers, our team Huron culture.

First I want to mention and thank the 74 interns who are finishing their 10 week assignments this Friday. We enjoyed working with them this summer and they showed us just how talented they are.

All of them are going back to school this Fall, but they have shown that they are ready to be consultants. We hope the majority of them will join us next summer. The future of Huron will be very good hands with such talented young people.

Next I want to mention the 200 new analysts who have either started with us already or will start in the next few months.

I spent yesterday morning with 32 of them at their first day of orientation. They are excited and ready to start their careers. And we are equally as excited to have them join us. By comparison, last summer we only had 75 new analysts.

The future of Huron requires us to build from the ground up and retain these talented people. Other peer consulting firms aren't growing from the bottom up like we are.

We believe this strategy will differentiate Huron even more in the years to come as we grow our own. We will start our 2008 campus recruiting effort in the fall and we are targeting about 175 new analysts to join us next summer.

We currently have 162 active MD's in the marketplace with the Callaway and Aegis acquisitions.

We are continuing to attract and retain very good talent and we are increasing our leverage model with our new hires and the different business models of Callaway, Document Review and Wellspring and their use of variable labor and contractors.

Of our existing MD's, 43 have been at Huron since the beginning. This nucleus has been very key to our team Huron culture.

Mary, Dan and Gary have been here since 2002 and Natalia Delgado, our general council, has been here three years. All the practice leaders have been here since the start. We have worked together for many years.

We are a team, has worked together as a team and wants to be a team. We are also improving our retention. Our two largest segments had our lowest turnover. Legal Financial Consulting at 5% and Health and Education Consulting at 8% for the first six months.

Annualized turnover will improve to the high teens in 2007 versus 20% in 2006. Retaining our best people is my highest priority at Huron.

We will continue to improve keeping our best people. What was my reason for going through all this about our people?

I have told all of you many times the consulting business is not so much about the market demand but it is about retaining and attracting talented people who want to go to market as a team and succeed as a team.

That is the culture we are building at Huron. That is why we are different. That is why we are excited. That's why we will excel and we will continue to excel in the marketplace. As we say here at Huron, individuals go fast, teams go far.

Team Huron will go far and we will not disappoint you. Now let me turn to business and market demands.

Our largest business segment and the one where we are currently seeing the most demand is Health and Education Consulting.

The higher education practice continues to expand its service offerings and we are winning new assignments every week. We recently won our first international assignment which we are very excited about.

This practice nearly had a 50% organic growth rate in Q2 and we are seeing many opportunities to grow and expand this practice area in 2008 and beyond. Our higher education practice has the dominant, number one market position within research institutions and our dominance is growing every day.

We also saw good organic growth with our pharma and health plans practice. The drivers in this business include the political, regulatory and industry changes we read about every day.

Federal healthcare proposals, all the complexities around Medicare reimbursement and pharma, sales and marketing regulatory compliance.

The healthcare practice continues to compete effectively for new assessments and implementation engagements.

Wellspring serves clients in a two phase approach involving assessments and implementations where fees can approach $5 million to $10 million per client if a full assessment and implementation is completed. Assignments can span over a calendar year.

As we have previously mentioned, there are almost 5,000 community hospitals in the U.S. Wellspring currently only works with 30 to 40 in a given year at various stages of assessment and implementation, and there is tremendous upside for this business.

The higher education and health practices are teaming to actively pursue the academic medical centers. This market has been very responsive to our performance improvement capabilities in healthcare.

The growth of our practice is currently capacity constrained with 130 professionals on board at the end of June; 26 more professionals were added in July and we expect to add another 30 to 40 professionals by year end.

You will see continued growth for the higher education - for the health and education consulting segment and the operating income will improve in Q4 as the rapid amortization for Wellspring phases out.

Now to legal financial consulting. This continues to be a great business for us with a 36% organic growth rate and a 47% operating margin in Q2.

You see at the utilization rate and revenues are down from Q1. We had many jobs that we're completing at the end of Q1, which spiked utilization.

I'm sure many of you will want to know if this practice is cooling off and whether demand has slowed down. LFC has had a very similar Q1 versus Q2 story last year in terms of engagements actively cycling in and out.

I personally know this practice the best. I have been active in it or following it since 1984. The AM Law 100 billings were $56 billion in 2006 and they have grown at a compounded rate of 10% for the last five years.

We work with many of the largest corporate legal departments in the world and none of them are forecasting lower legal costs in 2008.

The SEC budget for 2007 is $900 million, it was $500 million in 2002. We are aware that SEC enforcement has many companies under review for many things other than stock options.

You will probably also want to know about sub-prime. To date we haven't gotten much work, but there certain is potential work that come from this area and we expect that we will get our fair share of this work.

However, I personally think the current tightening of the credit market will create much more activity, which isn't related to subprime. Deals won't get done, banks will need to take write-down's on bonds, hedge funds won't be able to get bank funding. A lot of people are going to lose money and there will be litigation and bankruptcies.

The hot areas of business disputes and investigations may shift in terms of timing, but demand won't stop. It is all about beat on the street and execution for legal financial consulting. This is a great business. This all goes back to people and that includes people who can adjust, adapt to demand shifts.

A great managing director evolves, reengineers and reinvents his or her practice as business dictates. Our core legal operations consulting practice also continues to experience strong growth and demand for the general councils of the largest corporations in the world.

The practice experienced both strong organic growth year over year and sequential quarter growth.

You can see the practice shows high utilization and rate increases from Q1 of '07 to Q2, but the segment revenues were down 2% from Q1. This was due to a decrease in document review revenues. Our review centers were booked for two very large jobs that were delayed until Q3.

We continue to add capacity to our review centers and we will be online with 50 seats in India on August 15, 2007, which will bring our total capacity to 650 seats. We bought the business last August. There were 250 seats.

Our sales force now needs to get busy selling these seats. We believe that we have the best product offering in the world for document review.

The corporate consulting practice saw a nice improvement from Q1 of 2007. Our strategy practice, Galt, saw a big increase from Q1 to Q2.

Demand for their services currently is substantially more than the resource they have available. They are at high demand by very large corporations to help them improve shareholder returns.

Corporate advisory service, our troubled company business, also had a slight up tic from Q1 of '07 and they have won some new work this month. Now, before I close, let me turn to the two most recent acquisitions. First, the Aegis transaction.

Curt Whelan and Scott Hoffman, two managing directors, have worked with our Wellspring team for many years on joint projects.

We believe the two groups could do better in winning new hospital work and growing our business if we brought them together. We have already seen benefits from this combination out in the marketplace.

Callaway, I won't be able to share all the benefits we see from the Callaway transaction, or I could be talking for a long time this morning. But let me share just a little.

The market for project accounting skills around the world is bigger than any market or service offering we currently have at Huron.

Every major corporation, hospital, university and/or government agency in the world has the need for experienced accounting skills that are available on demand, 24-7, 365 days a year.

Every service offering we have and every customer channel we service, has the need for Callaway type accounting, internal audit, finance and tax skills.

We have a major client where we will have several of our legacy service lines, legal operation consulting, legal financial consulting and corporate consulting, offering our traditional MD led consulting model.

But at the same time the CFO's interested in managing, director led project teams from Callaway at a lower price point performing projects around the world on-demand for the controller's office, tax, internal audit and the treasury department. You will learn more about our developing strategy in the coming months.

So, in summary, we had a very strong second quarter. Demand is strong. I think you can tell how excited I am about the future of Huron. All we need to do now is continue to execute.

I promise we will not let you down. Now, Mr. Burge will cover our financial results.

Thanks Gary, and good morning everyone.

As Gary said, we did have a very good quarter. Some of the financial highlights included revenues of $118.3 million were up 75% year over year with strong organic growth, as Gary mentioned, of approximately 29%.

Our customer diversification continues to improve as no one customer represented 10% or more of revenues and our top 10 customers represented 32% of total revenue for the quarter, compared to 34% a year ago.

EBITDA increased nearly 81% to $26.2 million for the second quarter, compared to $14.5 million a year ago. And our EBITDA margins increased 80 basis points to 22.2%.

Operating income increased nearly 75% to $19.8 million for the quarter, up from $11.3 million last year.

Operating margins remained steady at 16.7% as improved SG&A leverage was offset by higher levels of depreciation and intangible amortization, as well as stock based comp costs. And diluted EPS came in at $0.56 compared to $0.36 a year ago.

Now for some comments on the four segments.

Revenue for the legal financial consulting segment were $32.7 million for the second quarter of 2007, up 36% from $24 million last year. Reflecting continued strong demand and impressive organic growth.

As Gary said, on a sequential basis revenues and utilization both declined from what was a very busy first quarter. Again, we don't see any long term demand issues. We see more of a timing issue as major engagements cycle in and out of this practice.

Segment operating income increased nearly 37% to $15.3 million, from $11.2 million in the same quarter a year ago, and utilization for the segment came in at just under 75%.

Revenues for the legal operational consulting segment were $22.8 million for the second quarter of 2007, up nearly 150% from $9.2 million last year. These results reflect continued success in meeting the needs of the general council market.

We think that there's great potential for our eDiscovery processing and document review businesses, as we continue to push our cross sell efforts and increase the market's awareness of our capabilities.

Operating income for this segment also increased impressively, almost tripling to $7.3 million from $2.6 million in the same quarter a year ago.

Revenues for the health and education consulting segment were $42.8 million for the second quarter of 2007, up from than 100% from $20.7 million last year.

Organic growth for our higher ed and pharma healthplan businesses remain very strong and we are very pleased with the strength that our Wellspring provider practice has provided in the community hospital market.

Operating income for this segment increased nearly 120% to $14 million from $6.4 million during the same period a year ago, as we've taken advantage of improved economies of scale.

Revenues for corporate consulting segment were $20 million for the second quarter of 2007, increasing 44% from the same quarter last year. Segment operating income increased 28% to $5.9 million from $4.6 million last year.

As Gary mentioned, there are indications that the bankruptcy and restructuring market could be starting to turn for us. And we continue to hit the street hard marketing our corporate consulting services.

We also continue to make investments in this segment by building a utility consulting practice and opening a new office in Tokyo.

As Gary mentioned, our strategy practice Galt, continues to have a lot of success in the market with increasing demand for their services.

As we've said many times a balanced portfolio serves us well, giving us the ability to manage through fluctuating markets. And we continue to make acquisitions such as the recent Callaway and Aegis deals that add to our portfolio of services.

Now for a few more stats, DSO came in at 65 days at the end of the quarter. While that number remains very good for our industry, we continue to work on our collection processes to see if we can improve that statistic. Cash generated from operations was a little over $8 million in the quarter.

And finally, return metrics for Huron remains strong with a return on assets of approximately 15% and a return on equity of 29% over the last 12 months.

As you saw, in connection with our Callaway acquisition announcement we amended our credit agreement and expanded the maximum amount of principal that may be borrowed to $200 million from $175 million.

No other key terms of the credit agreement were modified. The company borrowed approximately $59 million to fund the acquisition of Callaway, and borrowings outstanding are at approximately $170 million today.

Now guidance for Q3 and full year 2007.

Based on currently available information for Q3 we expect with the Callaway acquisition revenues in the range of $136 million to $141 million. EBITDA of $26.5 million to $28.5 million. Operating income of $19.5 million to $21.5 million, and $0.55 to $0.60 in diluted EPS.

Third quarter results will include approximately $2.5 million or $0.07 per share in rapid amortization costs associated with the Wellspring, Aegis, and Callaway acquisitions.

We expect that third quarter results will also include approximately five million in stock based comp costs.

For the full year 2007, again with Callaway, we expect a revenue range of $510 million to $523 million, EBITDA in the range of $106 million to $110 million, operating income of $79.5 million to $83.5 million, and diluted EPS in the range of $2.24 to $2.37.

It should be noted that we expect Callaway to be EPS neutral for both the third quarter and full year 2007 due to rapid amortization of intangibles and acquisition related interest expense.

Callaway is expected to be accretive to earnings starting in the first quarter of 2008, as their rapid amortization will be behind us as we enter next year.

In total, results for the full year 2007 are estimated to include approximately $8.3 million or $0.26 per share in rapid amortization costs. These costs for Callaway and the other acquisitions completed to date will lapse this year and not carry over into 2008.

Also, full year share based comp costs is estimated to be between $19 million and $20 million. And we expect the cash flow from operations to approximate $60 million for the year with $20 million in estimated capital expenditures.

As you review your models for 2007 and compare the model results with our reported results, you should note that approximately 17% of our $118 million in reported revenues for the second quarter were generated by independent sub-contractors and business services revenues such as eDiscovery processing and document review.

For modeling purposes for the balance of 2007 we expect that these same revenue sources, sub-contractors and business services now including Callaway, will increase to approximately 25% of total revenues.

In addition, assuming no additional acquisitions this year, we are targeting to have approximately a 1,250 billable consultants on board by the end of 2007.

Average utilization rates of 75% in the second half of the year and a 5% lift in our average hourly bill rates compared to the second half of 2006.

Average bill rates will be influenced in the second half by our new college hire class, which will increase MD leverage ratio and serve to bring our weighted average bill rate down slightly.

Weighted average diluted share counts for 2007 are estimated to be approximately 18.2 million for Q3 and 18 million for the full year 2007. Lastly, you should continue to assume effective tax rate of 44% for the year.

To recap, we are very pleased with strong results for the second quarter.

We are also pleased with our outstanding organic growth rates and we are very excited about the Callaway acquisition and the business services expansion they bring to Huron. Let's now open it up for questions.

(OPERATOR INSTRUCTIONS)

And our first question comes from the line of Tim McCue of William Blair and Company.

Yes. Hi. I just want to start off with the, you know, your appetite for acquisitions at this point both as it relates to the financing of those and your debt levels as well as the management bandwidth in terms of integrating some of the recent ones you've done?

Well I'd say Tim, right now, we're looking at some but I think right now if I were to say where we stand, I think we're pretty well situated. That we've now got the resources we need to make our '08 plan.

If something came along, great. Would we look at it? Yes. But probably nothing going to happen the rest of '07. But we've got a lot of really good companies who want to join Huron.

Okay. And then wanted to touch on the Callaway acquisition as well as how that relates to the document review business and how that's growing as a percentage of the mix.

What's your appetite for the growth of that? Is that something as you look at acquisitions as a priority as well as the, you know, in terms of organic growth?

With the Callaway, if you think about it, we did all of document review just by adding seats and recruiting people through our normal means of recruiting so we make sales. And we think the same thing is true with how we'll grow Callaway.

They've got a very active search engine to be able to search for people. So we believe through our customer channels and geographic expansion that we should be able to add -- grow Callaway with organic type growth.

Okay. And then last if I could touch on the legal financial consulting segment, you mentioned some contracts and the timing of those coming off during the quarter. Is the Q2 run -- did that happen early in the quarter or late in the quarter?

Is the Q2 run rate about right for where that business is probably going to operate on over the next few quarter? Or is that something that probably will tic down again in a little bit in the third quarter?

I mean, this business is -- it's a business that we've got some capacity in right now because we're adding a lot of people to. But that business is just -- it's one job away from being backed.

If you had a job that was 200 to 300,000 a week that job -- that practice is right back running where it's been running. So you shouldn't see -- unless something really happens that we're not anticipating, you should see that business back to its normal level in not too distant future.

Okay. And then I'm sorry if I could slip in one last one.

The 200 people you're bringing in from the college campuses this summer, is that a particular practice that you're going to put them into, you mentioned kind of constraints in terms of your health and higher education? And is that sufficient to meet those constraints in terms of what you talked about?

No, because we -- you can put them all across all the practices, but we need more senior people.

Okay. Thank you very much.

Your next question comes from the line of Brandt Sakakeeny of Deutsche Bank.

Thanks. Hi Gary and Gary. Question I guess for Gary Holdren, Gary, can you talk about just with the acquisitions how you maintain sort of the cohesiveness that sort of existed that Huron -- prior to the rapid expansion, and do you have a history with any of the individuals at some of these acquired companies?

Yes. We, as we said with the Aegis transaction the Wellspring people have been working with these people for a long time. It was only nine people so that ones sort of self explanatory.

When we look at the Callaway transaction the Chairman of the board of that company was a former Anderson partner and I've known him for 35 years.

And we got comfortable with the meeting of the Callaway people, you know, almost all of them are former big four partners. Some of them have been Anderson partners.

And when you -- as we started explaining this business to you as to how we're going to get it integrated and how we're going to go to market, I think you'll see that this one is going to be just a real easy fit in for us. And it's going to be something that's pretty special for Huron.

Okay. Great. And then Gary Burge, just in terms of the headcount, so third quarter ending headcount you would expect to be up by those 200 new hires from the colleges, plus some new seniors. Is that right?

The, you know, on a net basis so we won't necessarily rise 200 in the third quarter because, of course, we do have a little bit of turnover. But the majority of those new college hires will come into the third quarter. But some started in the first quarter. Some started in the second quarter.

Okay. Great. And I'm sorry. I jumped on late. In terms of attrition, has their been any change in the attrition?

This is Mary Sawall. I'll take that one. We continue to be pleased with the improvements we see in our attrition.

And as Gary mentioned, our fastest growing practices are experiencing the greatest retention of their people. So our year to date turnover was 9.6% voluntary and that's through the first half of the year. That's down two percentage points from a year ago.

Right.

Mary Sawall. We're pleased with that. Okay. Thank you very much.

Your next question comes from the line of Andrew Fones of UBS.

Yes. Hi guys. It's Andrew Fones. I had a couple of follow up questions on some of the earlier questions. On the legal financial group could you kind of give us a sense of where utilization was in June or July, please?

It's a little bit up. It's probably right at the same level, maybe just a little bit up.

Within the Q2 average?

Yes.

Okay. Thanks. And then the two projects that you mentioned that were delayed for the legal operating consulting group, have those started in Q3 now?

Yes.

Okay. Great. And then, you know, again this was a follow up as well. In terms of the new hires, can you give us a sense of which divisions those will go to? Roughly what the break down may be?

I don't know. Does anybody have that?

I don't have that.

I think you'd probably ought to just -- they're pretty well going to go the way the revenues fall. If you stick --

The majority are going to LFC and higher ed. The healthcare practice is taking a number. All of the practices are taking some. But primarily LFC, higher ed and LOC would be.

But if you just follow the headcount in the Q or in the press release, Andrew --

Yes.

You can pretty well see that it's going to go pretty equal to those practices.

Okay. And in terms of LFC, obviously it sounds as though you still see strong demand there and you're expecting these new hires to be diffused.

Well, yes. I mean, as I said we're one job away. I mean, we had a job that we didn't win that we lost to the big four that was an investigation that the demand was for 225 professionals. So tell me if you think the demand is slowing.

Okay. And then just kind of finally if you could kind of talk a little bit about the strategic rationale for the Callaway acquisition, you know, how you think that will change your go to market product and the delivery. Thanks.

Its yet to be determined, but I think what you'll see is you'll -- we've already seen this week several opportunities where we see where we can team the market. We've got a situation where the Callaway people are bringing valuation people to a very large company.

We've got various opportunities where we think we can team together. And we think that we can go in and we hopefully can raise up their rates and where we can use our relationships and our client channels.

And we just think that there's so many things that are done in carve outs and accounting skills and a lot of things we're doing in legal financial consulting. We just think that it's going to be just a one plus one is going to equal five for us in this acquisition.

Okay. Thank you very much.

Your next question comes from the line of Toby Sommer of Suntrust Robinson Humphrey.

Thanks. [Mike Setz] on for Toby this morning. Just a question following up on the new college hires.

Could you give us a sense now that you've got some of them started if they're getting busy in ramping up on par with your expectations, or just some of the progress there?

Well the first group, the biggest group, started their orientation was a week ago Monday. So their first day was last Monday. So I don't know that we know exactly how many of them, but I know that several of them are busy.

The majority would have been in training last week, and then because we have so many coming in this year we have special practice level training programs a lot of people will be going through.

So people will on average have a couple weeks of orientation and training before they're actually even available to go onto jobs.

But I was in with the higher education group and they were already - a lot of them already knew assignments they were going on. So I would tell you that they are pretty well taken care of.

Okay. Great. And then could you comment on the hiring environment? I apologize if this was already discussed, I came on a little late. But among the more senior levels, are you seeing more interest in some of the senior guys coming over to work at Huron?

Yes. I think the demand is clear. We've got enough demand on people wanting to join us.

I think the number of people you saw that we said we added to our Wellspring practice is just reflective of it, and then I think if you look at the types of acquisitions and the people that want to join us. Clearly we've got plenty of demand of people who want to join us.

Okay. And then just looking at your SG&A expenses, you have some really nice leverage in the first quarter and the G&A spending picked up just a little bit in the second quarter. Is this a more sustainable level, or do you think you can see down at first quarter levels going forward?

Hi Mike, this is Gary Burge. Where we look at SG&A is that we'll invest in the right things in terms of infrastructure to allow us to grow the business, and over time we will continue to manage that SG&A leverage.

We showed nice improvement from last year and we would expect next year we'll see similar improvement. But I wouldn't want to say we're going to see a dramatic move in a favorable way in the third quarter versus what you saw in the second quarter. But look at it year to year.

Okay. Thank you very much.

(OPERATOR INSTRUCTIONS). And you have a follow up from Andrew Fones of UBS.

Yes. Hi guys. I just wanted to check and make sure I understand how utilization should trend seasonally through the second half of the year.

Obviously you've taken on a few more college hires in Q3 this year than you have in the past, and so should we expect little bit lower utilization due to that, than we've seen in past seasonal trends?

All depends on how much sales we make, Andrew. I think Gary told you to forecast 75%.

Okay, okay. Thank you.

Mr. Holdren, we have concluded the allotted time for this call. I'd like to turn the call back over to you.

Okay. Thanks all of you for joining this morning. I think hopefully you can tell that we're very excited about Huron and its future and we look forward to giving you our results again in November. Thanks.

That concludes today's conference. Thank you everyone for your participation.