Kforce Inc (KFRC) 2016 Q1 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Kforce Q1 2016 earnings conference call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session, and instructions will be given at that time. (Operator Instructions) As a reminder, this conference call is being recorded.

I would now like to introduce your host for today's conference, Mr. Michael Blackman, Chief Corporate Development Officer. Sir, you may begin.

Good afternoon, and welcome to the call. Before we get started, I would like to remind you that this call may contain certain statements that are forward-looking. These statements are based upon current assumptions and expectations and are subject to risks and uncertainties. Actual results may vary materially from the factors listed in Kforce's public filings and other reports and filings with the SEC. We cannot undertake any duty to update any forward-looking statements.

You can also find additional information about Kforce in our 10-Q, 10-K and 8-K filings with the SEC. We also provide substantial disclosure in our release to assist in better understanding our performance and to improve the quality of the call.

I would now like to turn the call over to David Dunkel, Chairman and Chief Executive Officer. Dave?

Thank you, Michael. You can find additional information about Kforce in our 10-Q and 8-K filings with the SEC. We also provide substantial disclosure in our release to assist in better understanding our performance and to improve the quality of this call. We have published our prepared remarks within the Investor Relations portion of our website.

Over the past two quarters, we have been aggressively taking action, particularly in our tech flex business, to reduce reliance on a few large customers by strengthening our position more deeply in our client portfolio and adding sales talent at an accelerated level. Though we are seeing signs of recent improvement from these efforts, first quarter results of $322.2 million in revenue were below our expectations, while earnings per share of $0.24, adjusted for certain non-recurring charges, fell within guidance.

The overall demand environment remains strong. We have begun to see a gradual reacceleration of activity in those few large clients that have slowed their usage of flexible staffing due to transactions, and conversations with client representatives at these clients suggest a strong pipeline of projects. Additionally, as we further deepen relationships more broadly in our portfolio, we continue to identify new opportunities, though building significant presence within these large customers will happen gradually and take some time.

We believe the secular drivers of technology, such as mobility, cloud computing, cybersecurity, e-commerce and the desire of companies to leverage technology for efficiency gains within their organizations, are still intact. Continued high levels of key performance indicators point to a strong market. We are confident that the steps we have taken will result in sequential growth in Q2 and ultimately to a reacceleration of year-over-year growth rates in our tech flex business in the second half of 2016.

FA flex experienced its ninth consecutive quarter of year-over-year double-digit growth rates, though our current pipeline of project activity and difficult year-over-year comparisons suggest near-term growth rates may be in the mid to upper single digits. The market here also continues to be strong across various skill sets and industries as we continue to invest in this business.

The US economy continues to be sluggish, with modest GDP growth levels in recent quarters, including a recent downward adjustment in Q1 GDP estimates. Despite the slow-moving progress in the economy, we are seeing continued stability in areas of strength in the skilled labor markets and a low unemployment rate for college-educated professionals, particularly in the tech and F&A specialties that we serve.

The BLS temp penetration number remains near record highs, as the secular shift towards temporary staffing is continuing. We believe the ever-expanding regulatory requirements, particularly around employee classification, have created a higher-risk employment environment for clients. This trend should continue to benefit the staffing industry and, in particular, larger staffing firms with greater capacity and infrastructure around areas of compliance.

Now I'd like to discuss some exciting developments in our KGS business. The vision we had when we built our KGS government business was to capitalize on Kforce's core competency of being able to quickly identify and provide at-scale talent to the world's largest user of technology resources. We felt this capability would be a differentiator, as it has always represented a significant challenge for government contractors.

We have been patiently working on and investing in this business over the past several years, even as many questioned why. We are pleased that Rear Admiral Patrick Moneymaker, CEO of KGS, is here with us today. Welcome, Pat. Pat and his team have diligently positioned KGS for long-term success by building a first-class leadership team and focusing KGS's business development efforts on prime solutions in our areas of competencies.

These efforts were rewarded during the first quarter of 2016 with the selection of KGS as one of nine large businesses and twelve small businesses to be awarded a prime contract by the United States Department of Veterans Affairs on its T4 Next Generation contracting vehicle. To quote Pat, this is a game-changer for KGS.

T4 NextGen, as it's referred to, will be focused on procuring services for the VA in areas that include information technology infrastructure improvements, cybersecurity and operations in network management. The contract vehicle has an overall program ceiling of approximately $22 billion, which is expected to be released over a period of ten years.

As a point of reference, the VA procured over $7.47 billion of services from 15 prime contractors over its five-year term on the original T4 contract, with the smallest total awards to any one prime contractor being $83 million and the largest single contractor, which was a small business, receiving over $1.4 billion in awards. The fact that KGS has been supporting the VA for over 20 years, most recently as a subcontractor on the original T4 vehicle, leads us to be very optimistic about our prospects to capture a meaningful share of this significant opportunity in a prime role.

KGS has had successful past performance in providing solutions to the VA, supported by the backing of Kforce's centralized delivery capabilities, which we believe were key elements in KGS's receiving this award. The T4 NextGen contract vehicle could provide KGS with an opportunity to experience exponential growth over the next several years, beginning in Q4 of 2016.

We are focused on making the necessary investments in KGS to capture the significant future business potential this contract provides. A couple of important points for our investors who are not familiar with the government contracting environment -- our prime award on this contract is expected to yield higher gross profit and operating margins than we are currently experiencing.

Additionally, this provides a stable and more predictable revenue stream over the ten-year life of the contract vehicle. It also raises KGS's visibility within the government services contracting space, which we expect will afford us opportunities to propose on future prime opportunities in other areas within the government.

We are very proud of our KGS's team accomplishments and will provide updates on a quarterly basis as to the anticipated timing and scale of revenue capture opportunities around T4 NextGen as well as other developments within KGS.

We remain confident in our prospects and, therefore, are maintaining an investment posture as it relates to revenue-generating talent additions, technology investments to enable our associates, and the necessary investments in KGS to maximize the opportunities that exist under T4 NextGen. With that said, we remain committed to our profitability target of 7.5% when annualized revenue of $1.6 billion is achieved.

I will now turn the call over to Joe Liberatore, President, who will provide further details on our Q1 operating results. Dave Kelly, Chief Financial Officer, will then add further color on our Q1 operating trends and financial results, as well as provide guidance on Q2. Joe?

Thank you, Dave, and thanks to all of you for your interest in Kforce. Our top-line performance in Q1 was slightly below guidance. Tech flex, our largest business unit, which accounts for 66% of total revenues, performed as we expected, as total revenues grew 1.3% on a year-over-year basis.

As Dave mentioned, the disproportionate decline to the few of our largest clients has abated in the first quarter of 2016. It is worth pointing out that these clients, along with many of our largest clients, have provided significant growth over the last several years, and we continue to believe our long-standing relationships with these clients provide longer-term strength to our overall revenue base within these clients.

Demand remains strong and broad-based across the industries we serve and the skill sets we provide. The ability to access and retain talent continues to be the most significant constraint in tech flex, as exhibited by the continued high level of conversions, which have disproportionately impacted our largest clients over the last several quarters.

We believe we are having success as we diversify our resources within the existing client portfolio, and our activity levels have increased significantly year over year. However, we have not seen an acceleration in start activity, as it typically takes time to turn activity into starts at larger clients.

We expect tech flex revenues to increase sequentially in the second quarter. However, year-over-year growth will likely decelerate slightly due to a challenging comp versus last year.

Finance and accounting flex, which represents 23% of our total revenues, grew 13.8% year over year. We did experience unexpected ends within some relatively significant projects midway through the quarter. These were primarily concentrated in the healthcare industry, as several clients converted a high percentage of consultants to full-time employees.

This business continues to experience high demand and KPI levels. However, as we've seen in our tech flex business, conversion activity remains elevated due to a shortage of available talent. The end of these significant projects in Q1 will moderate year-over-year growth in the near term for this business unit, though still outpace industry levels. We expect Q2 flex revenues to increase mid to high single digits year over year.

Revenues for Kforce Government Solutions decreased, as expected, by 10.7% year over year. We expect KGS revenues to improve in Q2 from Q1 levels and to improve slightly year over year. We are focused on building a solid foundation to capture the significant opportunity that we believe exists under the T4 NextGen award that Dave spoke of earlier.

Direct-hire revenues from placements and conversions increased 4% year over year and remains approximately 4% of total revenues. Following the relatively strong start to the quarter, direct-hire revenues plateaued a bit in March and continued into early April. Our objective is to meet the talent needs of our clients through whatever means they prefer, and providing the highly-skilled capability to deliver resources through direct hire remains important in meeting those needs. We expect direct-hire revenues to be consistent to slightly up with first quarter revenues.

We continue to add to our associate population with a focus on tech flex sales, and as a result, revenue-generating talent has increased 10.6% year over year in Q1. The focus of our hiring has been and continues to be to add resources at some of our largest clients and diversify within our current portfolio within tech flex and FA flex clients.

We believe our shift in revenue-generating investment and expansion of our focus to a greater number of larger clients that began in Q4 of 2015 will result in greater client penetration, market share and better execution of delivery. We believe we are taking the appropriate actions to take advantage of our platform, infrastructure and client base to put our great people in an environment where they can be successful, accelerating revenue growth, while delighting our clients and consultants.

I will now turn the call over to Dave Kelly, Kforce's Chief Financial Officer, who will provide additional insights on operating trends and expectations. Dave?

Thank you, Joe. Total revenues for the quarter were $322.2 million, which represents a 3.1% increase year over year. Our flexible staffing revenues collectively grew 4.3% year over year, while our government business declined 10.7% year over year. Direct-hire revenues of $12.6 million increased 4% year over year.

GAAP earnings per share were $0.14 in the quarter, which includes non-recurring charges, which impacted EPS by $0.10. The non-recurring charges included $1.7 million, or $1.0 million after tax, in severance charges related to our recent reorganization and a $1.7 million charge to income tax expense for certain non-cash true-ups related to prior periods. Further commentary around our first quarter results will exclude the effects of these charges to focus on our core operating results.

First quarter net income and earnings per share were $6.4 million and $0.24, respectively, which represent increases of 10% and 20% on a year-over-year basis. Gross margins of 30.2% declined 10 basis points year over year as a result of a slight decline in flex margins.

Our flex gross profit percentage of 27.3% in the first quarter declined 20 basis points year over year. The decrease was primarily due to higher-than-anticipated health insurance expenses in our FA flex and government businesses.

Larger-than-anticipated enrollment in FA flex health plans drove increased costs, as consultants have been increasingly willing to utilize the firm's health plans rather than pay the individual mandate penalty under the Affordable Care Act. We continue to educate our clients and have been successful passing through these costs.

Year-over-year spread has improved 60 basis points in FA flex. The increase in healthcare costs in our government business was a result of several large claims, which we don't expect to persist at these levels in future quarters. Tech flex margins improved 30 basis points year over year, primarily as a result of a 50-basis-point improvement in bill pay spreads.

As we look forward, after taking into account the sequential improvement in Q2 from the impact in Q1 of seasonal payroll tax increases, we expect tech flex and FA flex margins to continue to be relatively stable at these levels.

Though it won't impact Q2 margins, our government business should benefit from the T4 NextGen prime contract award as it begins to contribute to the top line later this year, since prime contracting arrangements typically carry 3% to 5% higher gross margins than subcontracts. The current mix of subcontract to prime contract revenue at KGS is approximately 60% subcontract and 40% prime, and we expect this mix to reverse over time.

SG&A as a percentage of revenue declined 30 basis points year over year to 26% in Q1 2016, versus 26.3% in Q1 of 2015. We expect SG&A as a percentage of revenue to improve into Q2 with the declining payroll taxes, and to remain in the low to mid 25% range in the short term as we absorb the costs of increased associate levels and investment in KGS that we believe are necessary to generate long-term shareholder value.

We also expect to see some increased costs for technology investments later in the year as we consider replacements of our existing front office tools. The aggregation of these costs has an impact of approximately $0.02 in Q2 and may increase slightly in the second half of 2016. Q1 2016 operating margins of 3.4% improved 20 basis points from 3.2% in Q1 last year.

With respect to our balance sheet and cash flows, our accounts receivable portfolio continues to perform well. Operating cash flows in the first quarter were $3.1 million. Capital expenditures for Q1 were approximately $1.3 million.

We continue to maintain significant borrowing capacity under our $170-million credit facility. Long-term debt at the end of the quarter was $107 million, compared to $83.8 million at the end of Q4, an increase of $23.2 million.

We returned approximately $23 million to our shareholders during the first quarter through the repurchase of 1.1 million shares at a total cost of $19.8 million and a $3.1 million outlay for the payment of our $0.12 per share quarterly dividend.

In the seven quarters since the divestiture of our HIM business, we've continued to provide liquidity in our stock and return cash to our shareholders through share repurchases and dividends. Approximately $160 million has been returned, and outstanding shares have been reduced by approximately 20% over that period. There is approximately $33 million available for repurchases under current Board authorization. We expect to continue balancing the allocation of our capital, after capital expenditures and dividends, between stock repurchases and debt retirements as conditions warrant.

With respect to guidance, the second quarter of 2016 has 64 billing days, which is the same as the first quarter of 2016 and the second quarter of 2015. We expect Q2 revenue to be in the $332 million to $337 million range, and for earnings per share to be between $0.39 and $0.42. The combined seasonal improvements of flex margins and SG&A due to annual payroll tax decreases in Q2 relative to Q1 is expected to be approximately $0.11 per share.

Following two consecutive quarters of sequential revenue decline and significant efforts to refocus our activities, our revenue guidance for Q2 implies sequential growth in the range of 3% to 4.6%. Gross margins are expected to be between 31.4% and 31.6%. SG&A as a percentage of revenue is expected to be between 25.3% and 25.5%. And operating margins are expected to be between 5.2% and 5.5%. Our effective tax rate in Q2 is expected to be 39.3%.

This guidance assumes weighted average diluted shares outstanding of approximately $26.3 million for Q2. The guidance does not consider the effect, if any, of charges related to the impairment of intangible assets, any one-time costs related to any pending legal or tax matters, the impact on revenues of any disruption in government funding or the firm's response to regulatory, legal or tax law changes.

We continue to remain very focused on the actions necessary to reaccelerate revenue growth, in particular in our tech flex business, as well as making the necessary investments in KGS to position us for success in capturing the significant opportunities that we expect to present themselves beginning in the second half of 2016 under the recently awarded T4 NextGen prime contract.

We believe these investments as well as increases in technology spend are in the best long-term interests of our shareholders. Our client relationships remain strong, and our sales metrics are trending positively. We remain very confident in the demand environment within the markets and clients that we serve and still expect to meet or exceed our 7.5% operating margin target when $1.6 billion in annualized revenue is reached.

Liliana, we'd now like to turn the call open for questions.

(Operator Instructions) Randle Reece, Avondale Partners.

The first question was regarding the tech flex business. What kind of sequential growth is implied in your total guidance for tech flex?

Yes, Randy, at midpoint of guidance, it would imply 4.1% sequential growth, and that's coming off of a negative 3.9% this quarter and negative 2.9% in Q4.

Very good. I wanted to hone in on the KGS segment and some expected changes there. First of all, I was wondering if you could give us an idea what the gross margin in that business might look like the next couple of quarters, because it's been a little difficult for us to predict gross margin for KGS. And then when the revenue starts to move on your new prime contract -- congratulations on that, by the way -- how will that affect gross margin from KGS?

Yes, sure, Randy. This is Dave Kelly. So, yes, that has bounced around a little bit. Part of that is a result of some of the volatility when we've had surges in sales of our products in that business, but when you kind of think about that, gross margins in that business as we're in Q2, Q3 are probably in the low 30%'s.

And then, as I've mentioned, when we get into winning the awards on the T4 NextGen contract -- and I'll let Pay speak if he wants to -- since those are prime contracts, we're going to see some benefit there. Typically, as I've mentioned, gross margins on that type of business is 3% to 5% higher, so as that bleeds in over time, that's going to improve margins, so we expect an uplift in gross margins as we move into Q4.

As far as the potential significance of the revenue there, should we start to think about an impact on 2017, and what's a conservative way to go about that?

Hi, Randy, this is Dave. As we mentioned, we anticipate, based on the timing of the award and the task orders coming out, that we will see a significant increase in KGS revenue in Q4 of 2016. It's really difficult for us to give you an indication of what the impact is going to be in 2017, because we don't yet know exactly how many of those task orders we will capture.

But I would say to you that we expect it to be significant, and we will be updating you again in Q2 and we'll have a much clearer picture, we hope, as some of these task order will actually be awarded and we'll actually have some visibility into the starts and the timing. Do you want to add something to that, Dave?

Yes. So Dave made an important point in his prepared remarks. These contracts -- the task orders are usually awarded for a period of three or four years, so they're very stable, and so new task orders build on top of those task orders that are won, so longer sustained growth in that contract bid.

I wish we could give you a clearer indication for 2017, Randy, and I know part of this is going to be a little frustrating for some of you that don't yet have experience with the government contracting business, but we would expect that this is going to be exponential growth in KGS. We mentioned that the prior -- in the T4 and the first contract, the smallest was 83 and the largest was 1.4 on a contract. That's a third of the size of this one, so we think it's going to be substantial.

That makes sense. My last question was regarding this severance expense. What kind of costs did you take out during the quarter?

Yes, so, Randy, this is Dave again. So in the second quarter, we're still working through some of the things. One of the things that we're doing, we mentioned, is focusing on repositioning the portfolio, our associate talent to focus on the sale, so this all happens very gradually over the course of the quarter. So when you think about the impact on the second quarter, it's not that significant.

Very good. Thank you.

Tobey Sommer, Suntrust.

I'll start out by asking a question on KGS. Could you maybe break apart the addressable part of the contract to Kforce? I'm sure with that kind of dollar value, you've got a more specialized niche than being able to compete for all that, so if you could size what you think you can viably compete for for task orders, that'd be helpful.

Tobey, this is Pat Moneymaker. Just to give you a kind of frame of reference from our performance in the T4 as a sub, okay, over that five-year period, we participated as a sub for 54 submittals of bids, and they ranged anywhere from infrastructure to IT, across the board. Of those, we've won, collectively, 22 of those bids, again as a subcontractor, for about a 40% win rate.

If you look at where we're investing now, which is principally in our business development capture and proposal excellence and the fact that we are a prime now, where we have, I think you understand, really the control over the bid as it goes in as opposed to a sub that doesn't, and we would expect to at least achieve a similar success rate, although I'll note that we won't go after every bid. As I said, there were 600. We went after 54, which was less than 10%, as a sub in the T4 arena. Does that help?

Okay. Yes, it does. Thank you. And I guess is there a specific set of task orders that are your -- getting your bid and proposals in that give you confidence in the fourth quarter specifically?

Those are still being revealed by our government customer. They come out in (inaudible) every month or so. Right now, we're still in a period of protect with some of the bidders, but we already have probably 25 that we're looking at at the moment, just to give you a rough order of magnitude.

Okay, thanks. And then just a broad question about gross margins, if I could. It's down a little bit in the quarter, and I think you explained why, but I'm curious, why would they be stable sequentially in 2Q and not see a little lift?

Yes, so, Tobey, it may be tough to sift through the language. We expect gross margins will be up Q1 to Q2 because of the relief of the payroll taxes. The point that I made was from those levels, when we think about spreads, we don't expect a big improvement, but certainly we expect that typical 1% to 1.2% gross profit lift from the payroll tax impact Q1 to Q2.

Okay, thanks. And one question from me on the tech flex. You've had some opportunity now to see the pause or slow down from some large customers and digest it and see it evolve. Do you still remain confident that these customers are going to, over time, remain as significant users of staffing, or are they, I don't know, shifting their -- the format in which they're consuming IT services to buy more outsourcing or consulting or offshoring? Thanks.

Yes, Tobey, we at this point in time -- and we're pushing now three quarters into some of the transformations that those organizations are going through -- we haven't seen any major shift in terms of their intended buying patterns, so we would believe that there would be continued opportunity, meaning we're still generating a nice amount of revenue out of those customers, so there's ongoing activity.

Where we really saw the impact was the letting of new work coming out, so we really had that pause there, and it's now starting (technical difficulty) our people as well as we're seeing in terms of job order flow (technical difficulty).

Thank you very much. I'll get back in the queue.

Kevin McVeigh, Macquarie.

I wonder if you could just spend a moment or two on where you are from a sales force perspective given the slowing in IT. Are you ramping up the investment there to try to offset some of that, or is it going to be more focused on the KGS given the incremental upside that's being driven there?

Yes, nothing's changed in terms of what we've laid out going back several quarters now in terms of our 10% target on netting up in tech flex, and with the heavier disproportional amount of that being on the sales side, so we're staying after that. We were kind of right in that zip code in Q1. We'll probably be a little bit lighter, based upon some of the things that I'm seeing here in Q2, but not anything materially. Probably upper single digits would be my guess. So, no, we're staying after it, continuing to build.

We see solid demand within tech flex. All of our KPIs remain at very elevated levels. KGS is really more of a unique investment, specific to that business for the capture aspects and then the recruiting dynamics and those aspects, so we're looking at those as two separate. We're not blending it together.

Got it. And then just a minute on maybe the pricing environment and how it's been sourcing candidates on the IT side, and then just along those lines, can you help us understand where conversions are? I would have thought you would have seen a little more uptick in perm given it sounds like you've seen some full-time conversions. Is that manifesting itself on the conversion line, or is that just converting away?

Yes, Kevin, so relative to the pricing environment, the way that I would categorize what we're seeing in tech flex from a pricing standpoint is stable. Our spreads have remained pretty constant, our bill rates have remained pretty constant, so outside of some slight skill mix that can happen on a quarter-to-quarter basis, I would say it's stable at this point in time.

When we look at conversions, our conversions have been at elevated levels for quite a period of time, and they haven't really changed, and the reason that we don't see that show up in our direct hire number is because typically what we're seeing is the clients converting longer-term people that have been there and now they're making the decision that they want that resource as an ongoing, full-time employee, which, as painful as it is to lose those people, we view it as very much a positive because at the end of the day, our responsibility is to connect the right people with the right opportunities, and the right opportunities are the clients with the right people.

So these are people's careers, so I don't think there's any greater compliment that we receive that we've done a job well is when a client basically elects that they want to bring somebody on full time and that that person wants to go there. So that's why we don't typically see much of an uplift in terms of direct hire or with the conversions, because they're no fee.

Got it. Okay. Thank you.

Sure.

(Operator Instructions). Anj Singh, Credit Suisse.

I guess first off, last quarter you had helped us sizing the impact of revenue from the largest clients as you go through this little bit of a transition period. Could you give us the same this quarter? I'm just trying to get a sense of what tech flex outside of these particular clients was growing.

Yes, well, I guess probably the best way to look at it, again, going back for the better part of the last six months, a little bit over that, one of the things that we were very clear on was adding salespeople to diversify deeper into those customers where we already have relationships and a good footprint.

So to -- I guess this is probably the most relevant number -- our top 25 tech flex clients on a year-over-year basis actually grew 7% against the backdrop of the overall tech flex business being 1.3%. We've seen our top 25 tech flex clients -- the concentration within those clients in Q1 2016 was 47.3%, in comparison to Q1 2015 at 42.8%.

Now, where that becomes really relevant is the significant customers that we have been -- had headwinds against were significant contributors, so they haven't participated in any of that growth and, actually, they've gone in the opposite direction. So it just -- it gives you a sense that we are diversifying that revenue across a much broader base of large customers.

Okay. Okay, that's helpful. And then with regards to your comment that you're building the presence with these significant customers but it'll be a time-consuming, gradual process -- and I realize you don't give longer-term guidance, but could you just frame for us how long that may take? Are we talking two or three quarters? Are we talking longer than that? Just anything to help us there.

I mean, I guess the best thing that I can point to is when we were on our Q3 call, I think we had put out there that it'd probably take us two to three quarters to really start to see that momentum. Here we are looking into Q2 now, which it maps exactly to that timeline that we put out there, and as I stated, we're anticipating at the midpoint of guidance, 4.1% sequential growth, so I believe the plan is working pretty much along the same timelines that we had anticipated when we set out with the plan.

Okay, got it. And one last one from me with regards to KGS. Could you, for perspective, give us the size of the contract that you had won on the original T4 five-year contract? And another question related to that -- could you help us understand what may go into their decisions with the sizing of the piece of the contract that you get this time around and how Kforce may fare on those conditions?

Our largest task order -- that's what these are, these are task orders underneath the umbrella contract, just for clarity -- was about $100 million. It was -- and it was the largest that was left, and we are subbed to a small business on that one. That was called the [DCAT] task order, and it serviced data centers. And everything else, the other 21 wins that we had, were spread around everything from IT support to cyber intelligence, cybersecurity, data analytics, kind of across the board of their asking.

So in this -- in the new order here, we preference that if they're going to stick to their same way that they conducted T4, they will give preference to small businesses first because they liked to support the veteran-owned small businesses, and that's where we would come in and be a partner and a sub. From there, they will open it up to broader -- what they would call full and open competitions, where we will play very well as well.

I'm not sure if that answers the specific question you had regarding the way forward here and how they call that.

Yes, and this is Joe. I just wanted to add a little bit other color that might help bring this into light. So -- and Dave mentioned this in his opening comments. We've been doing business with the VA for over 20 years. It currently is roughly 40% of KGS's total revenue, so this is -- we already have a very strong foothold and good standing here.

The other things that are very important to note is even when you look across the government and you look at exposure in different governmental areas based upon sequestration and various other cutbacks, the VA has been immune to all those exposures. I mean, we all see what -- we all see the headlines and we see the news and we know the dynamics that they're facing in terms of the amount of technology upgrades and just overall process enhancements that have to be taking place, so we feel very confident. If there was a place we wanted to be playing within the government, this is the area we would want to be.

I would characterize it that the 20 years of relationships and knowing the people, if you think about the captures being a hunt, we know where the animals are hiding.

Okay, got it. That's really helpful color. I was just trying to get a sense of if there were any benchmarks or benchmarks done across the different people competing for the contract and if Kforce -- if you guys had any sort of metrics as to where you stood on those benchmarks and so forth, but it sounds like it's more the length of relationship that you guys have there.

Yes, it's certainly a big part of it.

Absolutely.

All right, got it. Thanks a lot.

Tobey Sommer, Suntrust.

On the KGS side, do you have to do much in the way of investment to augment your business proposal group so you can handle the flow of task orders and capture your fair share?

Tobey, Pat Moneymaker again. Yes, there is investment, but I would characterize it as modest. The interesting phenomenon that's developed here is that as we emerged as a winner, one of the nine large winners, we began to see that the talent in the small universe that it is that supports the VA were gravitating towards us, and that talent -- we feel like we've really, I would say, assembled an A team that is based on seasoned people that participated very favorably in the T4 arena and also ones that know the VA customer intimately and have the relationships across the VA spectrum.

Tobey, as you well know, when these major contracts are awarded, you typically have a whole rotation of populations. You have those that were deselected out, and you see people just exiting those organizations because they're leveraging and parlaying their relationships. And Pat and his team, to their credit, because Pat's being pretty humble here, have really attracted some very top talent that have long-standing relationships that we're very excited to have onboard as part of the KGS team.

Great. And then you mentioned something in your prepared remarks I wanted to elaborate on a little bit, if you could. You talked about investing in replacing some systems. Could you give more color on the costs, when you decided to do that and kind of what you might hope to achieve? Thanks.

Yes, Tobey -- Joe. No, when I was talking about systems, I was talking about the amount of work that's necessary at the VA. Internal to Kforce, actually with KGS, we've gone through all of our upgrades, so that's all behind us. We feel we're in very good shape from an internal system standpoint.

So I think, Tobey, your question also may have been --

Yes, I think it related to the front-end system that you talked about.

Yes, so we are looking at upgrading and providing new tools to our associates, front-end tools, and so we're doing our diligence around those things, and we're starting to spend some money there as we look to the back half of this year. We think it's a slight increase in cost over the -- in the second half of this year in our commercial staffing business support. We'll give you more color as it unfolds, but we're looking forward to a longer-term view on replacing those.

And I'm showing no further questions at this time. I would now like to turn the call back over to David Dunkel.

Okay, great. Thank you for your interest and support of Kforce. I'd like to say thanks again to each and every member of our field and corporate teams, and to our consultants and our clients, thank you for allowing us the privilege of serving you. And Pat, congratulations on the big win. We look forward to speaking with you again soon. Thank you very much.

Ladies and gentlemen, thank you for your participation in today's conference. This does conclude today's program. You may now disconnect. Everyone have a great day.