Korn Ferry (KFY) 2003 Q2 法說會逐字稿

Good morning, ladies and gentlemen.

Thank you for standing by.

Welcome today to the Korn/Ferry International conference call.

All participants are in a listen-only mode.

Later we will conduct a question and answer session.

As a reminder this conference is being recorded.

Before I turn the conference over to Mr. Reilly, let me first read our cautionary statement to investors.

Certain matters to be discussed during this conference call will constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995.

Although the Company believes the expectations reflected in such forward-looking statements are based on reasonable assumptions, we can give no assurance expectations will be attained.

Participants on this call are cautioned to consider the risks related to our assumptions and expectations and not to place undue reliance on such forward-looking statements.

With that I'll turn the conference over to Paul who will discuss the quarter and what's ahead.

Go ahead.

Good morning and thank you all for joining us.

This morning I'm going to share some highlights of our fiscal year 2003 second quarter which ended October 31of 2002.

I'll provide an overview of our recent client activity and I'll also touch on our forecast for the current quarter.

I'll then turn the call over to Gary Burnison, our Chief Financial Officer who will provide more detailed financials on the second quarter.

The second quarter of this fiscal year was a continuation of what we've seen since the start of the calendar year.

A relatively flat market with some bright spots of activity, strength at the high end and continued softness in the heart of the search market, the upper middle management.

The good news is that we planned for these market conditions.

The high end of the market continues to be strong at both the Board and CEO level.

In the past quarter we secured a number of high profile CEO searches for very prominent clients which unfortunately I cannot announce due to confidentiality.

However, I can list some of our recent placements which have been publicly which include the CEOs of J. Crew, Factor-to-You, Senergy [ph], and Long Drug, among many others.

We have also picked up several individual assignments, particularly in the financial services area, with large fees in the areas of $500,000 and $1 million range.

So there's still demand for good talent at senior level positions and most companies are willing to pay well for this talent.

I am pleased to say we are also making progress in the key areas of our long-term strategy.

Specifically, we continue to build our global accounts to evolve our account management teams from our compensation systems for these teams.

We are now beginning to pay our global account leaders based on the strength of global client relationships, not on individual volume or size of the search assignments they generate.

This is a very critical step in moving a global client from a transaction base relationship to a consultative one.

We have also had some big successes with future steps management assessment and coaching.

Future Step signed a deal with New Zealand Telecom to provide a managed service solution in which we'll handle all external and internal recruitment for the company which has more than 7,000 employees.

This serves as a proto-type of the kind of managed service contracts that we see as fundamental to the long-term growth, success and strategy of Future Step.

There are a number of similar contracts in the pipeline as well.

We have also completed a seven-figure contract with a large European client for us to assess and coach and develop 60 of their senior managers.

This assignment evolves from a pilot we launched earlier this year to develop operational competencies to their top leadership.

This is assessment coaching assignment is a testament to our integrated, multi-product strategy, improved benefit of a consultative relationship.

These kinds of deals are the bright spots in a continuing challenging environment.

For our core search business, we believe that the key to our success in the near term will lie in three areas: superior client service, taking market share and improving operational efficiency.

Because the search market is currently not expanding, we clearly need to take a larger slice of the pie.

Last quarter we launched an intensified effort focused on taking market share specifically in North America.

We held a series of matrix meetings between our North American market heads and geographical leaders to target specific clients, exploit competitive weaknesses and improve our teaming efforts.

In addition, we installed a rigorous business development process that drives individual consultant accountability at every level of the organization.

This is not just a focus on volume but on best teaming and strategically facing the clients that we see as the most desirable to do business with.

This is an effort that I have personally been driving and will continue into the next calendar year.

On the operational efficiency side of the equation, we continue to take costs out of our system.

G&A expenses remain flat for the quarter.

After taking out the effects of foreign exchange they are down 25% year over year.

We have also launched an analysis of our service delivery model which focuses on operational resources that we bring to bear on every search.

The goal of this exercise was to identify ways in which technology can improve productivity and to fine tune the use of our researchers, senior associates, principals and administrative staff.

Finally, we continue to recruit top talent in this difficult market.

In the past quarter we bolstered our financial services and human resources practices with three key hires in New York office, two from competitors and one from industry.

We also hired a new head of our South America operations, Sergio Arback [ph], who came to us from a key competitor.

This brings us to over 20 senior client partners we have brought in this calendar year.

We will continue to selectively recruit in offices and markets where we see opportunities or we need to bolster our positioning.

As we look out on the next quarter, we expect Q3 to continue to be challenging.

Given that the Thanksgiving-Christmas and year end holidays combine essentially to take two to three weeks out of the quarter, we are expecting revenue to be lower in Q3.

Our cash position and balance sheet continues to be strong with more than $60 million in cash on hand and we are operating in a cash positive mode.

We will continue to work in the global accounts area, stay focused and aggressive on taking market share.

I am also optimistic about Future Step which has a large number of contracts in the pipeline that hopefully will be approved this quarter.

A look by markets, the financial services technology sectors continue to be -- remain to be challenging in this marketplace.

Retail is holding its own, educational and healthcare continue to grow with industrial showing renewed life in a strong quarter.

In summery, North America appeared to have been stable for two quarters.

Latin America and Europe continue to be challenging.

We are focused on superior client service and focused business development which I am certain will pay off when the market returns.

Now I'd like to turn this call over to Gary Burnison who will review our financials in more detail.

Thanks, Paul.

Good morning.

I'd like to start with a few highlights before getting into the details for the quarter.

First, the adjusted loss per share in quarter two, excluding charges, was 5 cents in line with guidance.

Adjusted EBITDA was $4.4 million and adjusted operating profit was $342,000, an improvement of $1.4 and $2.3 million respectively compared to the prior year second quarter.

Point out that these improvements were achieved despite a $20 million decrease in fee revenue and clearly reflects the success of our cost savings initiative.

G&A expense excluding depreciation and out-of-pocket engagement expenses declined $6.5 million or 25% compared to prior year second quarter.

We previously announced a corporate reorganization and as a result a restructuring charge of $16.3 million was recorded in the current quarter.

The charge was comprised of $5 million in cash severance, $9 million of facility related charges to be disbursed over the next seven years and $2.3 million of non-cash charges which were primarily related to asset writeoffs.

The facility related charges that are going to be disbursed over the next seven years primarily represents the difference between future lease obligations on certain properties and any estimated sublease incomes on these leases.

We've forecasted additional annualized savings of $17 million as a result of these restructuring initiatives.

Consolidated fee revenue for the quarter was $79.6 million, down $4.4 million or 5% sequentially as forecasted.

The balance sheet as of October 31 reflects almost $61 million of cash with no bank borrowings outstanding.

Net accounts receivable was almost $52 million.

In the current quarter I'd like to point out we modified the presentation of our segment operating results to reflect the business segments without allocations of corporate overhead to give a more meaningful picture of our business unit's performance.

Please refer to the attachments in the press release for further details including a schedule of our FY '02 quarterly operating results prepared on the same basis.

Let me review the business segments in detail now starting with core executive recruiting.

Point out that all comments that follow are made on a comparable basis, i.e. without corporate overhead and restructuring charges as previously discussed.

Fee revenue for executive recruiting for the current quarter was $71.8 million which was down slightly $2.7 million or about 3.5% sequentially.

Yet operating profit was essentially flat at $8.2 million sequentially and the operating margin improved to 11.5%.

EBITDA was $11.4 million for the quarter which is a 16% EBITDA margin.

On a geographic basis with regard to executive recruiting, quarterly fee revenue was slightly up sequentially in North America while Asia Pacific increased about 9% or $700,000.

Europe declined by approximately $3 million and South America was down $500,000 sequentially.

The good news here is that despite North America fee revenue being relatively flat sequentially, both operating profit and EBITDA increased by approximately $1.2 million resulting in an increase in the operating margin to 18% from 15% in our first quarter and an increase in the EBITDA margin to 22.3% in the current quarter from 19%.

The number of engagements and the average fee per engagement of $60,000 remained relatively flat from our first quarter levels.

The average fee per consultant improved slightly.

Future step fee revenue for the current quarter was $7.8 million, that compares to $9.4 million in our first quarter.

The decrease of $1.6 million is primarily due to a difficult economic climate in Europe.

Asia Pacific reported an increase in fee revenues while North America remained essentially flat sequentially.

EBITDA for Future Step was negative $1.1 million.

Compared to an EBITDA loss of $300,000 in our first quarter and that's despite a $1.6 million reduction in revenue.

Let me comment on our outlook.

With the impact of the holidays and a continued challenge in climate, fiscal third quarter fee revenue will likely be in the range of $71-77 million.

The loss per share will likely be 4 to 10 cents.

Those concludes management's remarks.

I'll turn it over to Royanne so we can start fielding your questions.

Thank you.

Ladies and gentlemen, at this time if you have a question press 1 on the touch tone phone.

You will hear a tone indicating you've been placed in queue.

If you pressed one prior to this announcement we ask that you please do so again.

You may remove yourself from queue by pressing the pound key.

Once again, ladies and gentlemen, at this time if you do have questions, we ask that you press 1.

The first question coming from the line of Arnie Usaner [ph] with CJF Securities.

It's actually Mike Ross for Arnie.

Can you give us an update on sort of the switch to more consulting services.

You gave us the update on the New Zealand contracts and where we are with that and what we can see going forward.

I think that where we are is -- you know a key part of our strategy has been major accounts and managed services for Future Step.

We continue to make progress but the market is very difficult.

If you look at the executive level we have a very strong market, as you start moving down between senior management and middle management, the farther you go down, the tougher the marketplace is.

Because people just aren't hiring in those segments.

But we have a number of contracts which are basically managed services or outsourcing of the recruiting at those levels in negotiation, and we expect with any kind of market rebound for those to pick up significantly.

The leverage for us there are two things.

One is in the middle management market, the services we can provide clients by coordinating their hiring through large geographic areas, we think we can deliver better recruiting for our client.

For us it's volume.

The margins in the middle management business are tighter from a fee standpoint, but on the volume they can be very lucrative contracts.

We can continue to stay focused and I think we'll see good results once the market turns.

Can you give us an update on the number of consultants you have now and if we were to start to see an improvement in business, the type of revenue per consultant we could see?

We ended the quarter with about 421 consultants.

You know, if you look at the capacity that we have in the system, we probably have about 30 or so percent capacity.

Our average annualized fee per consultant was about $676,000.

We would like to see that, and have seen it, pre-internet times, at levels that were around $1 million.

I think the good news is if the economy improves at all, an economic upturn, and I'm actually a little bit -- I think there was some bright news in the industrial sector which has been challenging which would be the first to come back, showed an increase this quarter, but we have capacity in terms of office space and we have capacity in terms of our partners.

So any kind of upturn financially I think would show great results.

But again, the market continues to be difficult at the moment.

Thanks.

Thank you.

Next in queue I'll open the line of Joe Joelson with JMPS Management.

Go ahead, please.

Congratulations on struggling through this environment and getting your costs back in line.

I just -- hello?

We're here.

I'm sorry.

An echo on my phone.

Looking at your guidance and I'm trying to understand it a little bit better.

The 5 cent loss that you had adjusted this quarter?

Would that conclude what you would have had if you had those $17 million of annualized cost savings for the quarter?

If you look at the $17 million of savings, talk about it on annualized basis, about 4 or $5 million of that hit in the second quarter, the rest is starting in our third quarter.

So the 4 or $5 million annualized hit.

Yeah.

Annualized.

Look at it on an annualized basis.

So that would be, so -- wait, so that would be 2 cents a share of the 5 cents was kind of looking at as if that was in the whole quarter type of thing?

So without that, it would have been 7 cents of a loss in the quarter?

Yeah.

It would be a little bit more than that.

And we've got 37.7 million shares outstanding.

That's about right.

That's after tax, I guess, if you didn't have taxes this quarter, so maybe it's 8 cents.

The reason why I ask that is just because the guidance in the next quarter, if you annualized, you'll get the full $17 million next quarter, right?

Right.

So that's roughly assuming it was taxable that would be roughly 7 cent a quarter or maybe 10 or 11 cents if it wasn't taxable?

Uh-huh.

And your guidance for next quarter is a loss of 4 to 10 cents, right?

Which is in line quarter with this quarter?

Is that right?

I mean, if you look at it, if you look at our second quarter, we had fee revenues of about $79.6 million.

If you were just to go to the low end of guidance, you know, which is $71 million, that's a delta there of about $8 million in terms of decline in revenue, and we would expect that we'll pick up additional cost savings in the quarter of, you know, around $4-5 million bonus expense will be a little bit less, probably if revenue is down.

And that's, you know, how it will pencil out.

The challenge for us is really visibility in the holidays.

Obviously, we're a revenue driven business.

If you look at November, look at the number of searches especially in North America, Asia, you're going to find that even November is a relatively flat market so things look pretty stable.

Europe has been a question and continues to be a question.

It's been a soft market in Latin America because of political issues.

What's hard for us to see is typically January has been a very strong month.

But December has been a challenging month and just in this economic environment to say how much get's held off and how much gets booked when, it's just hard.

We are focusing and managing the cost in a down market but we have capacity if there's better revenue, so guidance is tough right now.

Okay.

I mean, I just wanted -- it seemed like the quarter to quarter change seemed like something was missing in the quarter to quarter with those cost savings.

Can I ask you one more question?

Uh-huh.

This longer term with your business, just the secular trends, I mean, obviously you're in a people service business, my biggest fear as a shareholder in your Company longer term is you lose a lot of your good producers in this environment only because they are not getting paid and they're probably still producing, is that like your biggest risk to your business would you say longer term or over the next year or two right now?

Obviously we are a client-serviced people business.

Obviously our consultants are very valuable to us but we're in a challenging market for all service companies.

I think if there is a prolonged downturn, people say should they be in this business.

If it's a cycle.

We have people who have been there through it.

We have a lot of people with tenure who have been through cycles and know it will come back.

We do lose some people in this environment and we recruit some people.

How are you -- is there any strategy to retain the top producers?

I assume your kind of business is like most service businesses where the top 20% produce 80% kind of thing?

Not at all.

We are not near that skewed.

The top producers will get paid well in the market.

Not as well as if the Company is profitable but you always have to take care of the people that make a difference in the organization.

You guys are moving aggressively to right-size the cost.

I congratulate you in this tough environment.

Thank you.

Next in queue from Wachovia Securities, Paul Carter.

Go ahead.

Hi, good morning.

Paul Carter from Mark Markon.

Congratulations for the improvements in this tough environment.

Quickly, in line with your guidance and given the performance of Europe and Future Step, how should we think about from a segment perspective, both the revenues and kind of the op margins for the next quarter.

I mean, essentially should we expect Europe to maybe perhaps still decline a little bit sequentially or trail along the bottom given the improvements and the changes you guys have made?

If you look at what's happening, in North America in November, for example, our unit count, the number of engagements that we opened up with our clients was exactly the same as October which was very encouraging to me given that we had the Thanksgiving holidays.

Europe in November was down from where it was in October and it continues to be a very rough economic climate particularly Germany unemployment 10%, France, unemployment is quite high and that continues to be a challenge for our partners in Europe.

Asia Pacific has held relatively steady.

South America is a difficult political and economic environment.

Our partners in Mexico continue to knock the cover off the ball.

We've had fantastic results there.

As we are looking out, you know, intuitively North America will more than likely be down a little because we have seasonality here.

I would say that Europe will more than likely be down, and that's how we are looking at the business.

But I was very pleased to see in November that North America in terms of the number of engagements that were open was the same as October.

I think you'll see that trend for core and Future Step business.

Next in queue, the line of Kelly Slin with UBS Warburg.

Thank you.

This is Andrew for Kelly Smith.

I was wondering if you could break out on a geographic basis the consultant decline? [Inaudible]

Andrew, did you say the consultant decline?

Yes, that's correct.

I would say, I don't have the numbers in front of me, but it declined approximately 25 or so, and I would say, off the top of my head that, you know, a third of that was in North America, maybe 50% was in Europe and the balance was in the rest of the world.

Okay.

Thanks.

And I found your explanation about what happened in Europe and North America and November helpful.

I wonder if you could give me a month by month blow in the different regions on how you [inaudible]?

It's very, very spotty, you know, to look at it on a month by month basis.

There was no discernible trends.

August was surprisingly stronger than we thought in North America.

In Europe it was weaker than we expected.

October was very strong in the United States.

And it was okay in Europe as well, surprisingly enough in October so there's no discernible trends.

But if you looked over several months.

It appears like things have clearly stabilized in North America.

And France and Germany are problems for a lot of companies right now, for example.

Okay.

You mentioned, I think [inaudible] comment will there be additional charges?

Well, the cost savings based on what we recently went through will result in annualized savings of about $17 million, and on an annualized basis probably 4 or so of that hit in the second quarter and the rest will start in this third quarter.

We think we have costs well positioned given the market so we don't anticipate further restructuring charges or programs unless the market deteriorates.

Okay.

Thank you very much.

Thank you.

Next in queue from Morgan Stanley, David Billick [ph].

This is David Billick [ph] for Chris Butek [ph].

Just a couple of questions in different areas.

Around this time last year, I remember people were talking about pent-up demand going into 2002, for executive search to rebound.

What is your sense of the market beyond looking at the guidance you've given?

Do you hear from the field of any anticipation that there should be significant improvement starting next year or seeing the trend is the same?

I would say now it's hard to tell.

January was a good month for the industry last year.

We did have a good pop and I think people were hopeful that that was a trend but it was a lot of pent-up demand, new budgets, so a lot of hiring in January and the first quarter was stronger than most people thought.

Then it kind of flattened back out.

I think the field today is having a difficult time understanding.

There's clearly pent-up demand.

The number of written proposals that go to clients that never gets signed because clients are waiting to pull the trigger is huge.

You look back at the history, at least of our numbers, after the last few recessions, you know, at some point in time there's a 20-30% pop in the business and I think that will happen again.

Clearly people holding back on hiring.

The question and the issue is when and after going through a cycle like this, we hate to predict because you don't see a discernible trend yet.

The trend we do see is that clearly that North America and Asia have been stabilized.

We're not having the downward slope that we've had for a year.

And Europe is still question when it flattens out.

When it turns, we don't know.

Hard to predict.

Turning a little bit toward more on Future Step, given changes in technology over the past couple of years you guys have taken advantage of and other times, maybe not in executive search, but competition from either companies themselves doing more of their own recruiting given technology improvements and more available labor force, can you talk a little bit about the dynamics of the business of Future Step, when you might expect the business to reach breakeven given that you're talking about large contracts in the pipeline that you've discussed; and then, kind of your long term view of the benefit of playing in this space when, as you discussed earlier, the real strength in this business right now in this business has really been in the high end searches.

I think the issues simply for Future Step is just a very, very soft middle market.

I don't -- there are very few companies in the world that are hiring middle management in any volume.

The companies that are and the ones we are working with contractually believe we can bring a lot more efficiency to their whole hiring process and why there's a managed service arrangement.

We believe there's huge potential in the States.

Our clients are excited about the opportunity, we have a lot of people that are extremely interested.

The problem is not hiring, people are just being very conservative on the cost side of their companies.

So, we believe the strategy is right.

It's hard to prove in this marketplace, obviously even with the drop of revenue we've continued to narrow the losses and we have a lot of capacity to deliver in the system so, you know, the issue, honestly, I don't believe is a structural issue which we may have had a couple of years ago being an internet-based service, the issue right now is just getting enough revenue to really make it a profitable business and I think we are market constrained at the moment.

And last question, if I may, and this could be toward Future Step and the core business.

Aside from significant restructuring that you could do, if we look at the costs following the latest round, how much more room would there be for you guys to squeeze without having restructuring charges?

What would be the mix between your fixed versus your variable costs at this point?

It doesn't take long to look at the P&L.

Our biggest cost is people.

It is the majority of our cost.

If we believed it was a steady state revenue we would have been more aggressive in our people adjustments.

So, what we have done is structured the company so that we are, you know, in a cash plus operating mode and keeping the capacity for when we believe there's a turn.

If you believe that this was the volume that the Company would operate for the next couple of years you would have been much more aggressive in the people side of the business and where most of our costs lie.

The next cost is real estate and we've I think sized appropriately.

So I think the question right now is when -- how do you position for market upturn?

Same thing investment banks are going through?

How much of adjustment people's right versus losing people that'll drive the business when the economy returns and that's a hard bet right now.

And I would say we have, as Paul said, we are very careful here not to overfire then overhire.

And that's the balance we are walking.

In terms of the corporate, the administrative side of the firm, we are going to continue to push very aggressively in that area to make sure we are doing things as efficiently as we can.

Maybe last point looking at the breakdown of the restructuring charges, seems that more is attributable to North America versus Europe and given that Europe has been so difficult, are you leaving more excess capacity in Europe or is it a function of the high costs of cutting head count in Europe?

I would have thought the restructuring charge would have been skewed toward the European operation.

I didn't give a breakdown where, geographically, it was.

Maybe I'm confused on the press release.

If you look at the charge, a fair amount of it was from Europe, and so it's, you know, it would be incorrect to think, David, that a majority of it was here in North America.

Okay.

That's helpful.

Would you say half or more than half came from Europe or that would be inaccurate.

As we look at it here, I think that's a fair characterization, about half.

Thanks for your answers.

Thank you.

Next in queue, the line of Steve Cole with Matador Capitals.

Go ahead, please.

Mr. Cole, your line is open.

All right, we'll move on.

The next line to open is the line of Adam Waldo with Lehman Brothers.

Thanks very much for taking our questions.

I have a number even though you've covered a lot of ground already.

If we could turn to the charge for a second, Gary.

You were going to book about $5 million of cash severance out of the $16.4 million total.

I'd expect you'd pay most of that out in the upcoming quarter?

Is that fair to say?

Of the $5 million?

Yes.

We paid about half of it or so that was paid already in our second quarter, the balance will be paid here in our third quarter, Adam.

Okay.

And of the $9 million facilities rationalization charge, are you going to essentially put all of that as a reserve on the balance sheet and then reverse that as you rationalize the facility leases over the seven year period?

What that essentially represents is, you know, those were either closures or excess space.

And under GAAP, what you do is you reserve for the difference between the operating lease obligation that we are on the hook for and any estimated sublease income.

Okay.

So what would that reserve amount be Gary?

It will be about $9 million, what we've shown here.

But that will be paid over a very long period of time, that will be paid over about seven years as we've indicated.

And if we could turn to a couple of operating questions, Paul.

Could you comment on turnover levels during the October quarter and in November in particular in the North America executive search business on an involuntary, pardon me, on a voluntary basis?

I think the turnover has been very low this last quarter.

We've had few departures, we've had more hires..

I think it's been relatively small on a voluntary turnover.

Relatively the same as let's say the prior couple of quarters, would that be fair to say?

Maybe slower.

Okay.

And then if we could turn for a moment to the drivers of the fee per engagement.

You indicated in your prepared remarks Gary, the fee for engagement at about $60,000 was essentially flat sequentially.

Is it fair to say that that was driven by rising average compensation per placed candidate as you do more C level work and less middle management work in your mix?

I don't know if that's the case.

It's been relatively flat now if you look.

I don't think that would be a fair characterization.

There's no doubt there's a little bit of a mix change, Adam.

But it's not huge.

You get, you know, there's been -- the last count I saw there were 90 fortune 1,000 CEOs.

About half went to search that have changed.

When you talk about 4 to 5,000 searches a year, it's hard to have a huge impact on the mix.

So it sounds like we'd be seeing relatively stable compensation per average place count and relatively stable fees as a percent of first-year compensation?

I think so.

There's no doubt that the higher the search, the less pressure there is on fees as you get lower, you know, people -- there's a little more pressure but overall fees have held up remarkably well given the length of this downturn.

Quite a lot better than the last one, I think, right?

I think so, too.

On the practice side, you gave some comments, Paul, about the industrial practice taking up for the quarter.

What trends did you observe in the latest quarter in the financial services and technology practices?

Continued weakness.

I think that it's very clear, although we've had -- you know, the interesting thing on the financial services, we've had a large number of kind of what I call high-end searches, volume is still way off, obviously.

Investment banking leading the pack in terms of not hiring and layoffs.

The banking part of the business is okay, the asset management business is actually a little better but it's very, very weak.

Insurance has been relatively stable.

But the sector overall because of basically layoffs and hiring freezes are bad.

Technology, you're seeing strategic hires but the volume still is poor.

I think it's reflected with the economy.

And finally, Gary, if you have it handy, what were accrued consultant and management bonuses at the end of the October quarter?

Well, in this quarter we accrued a little bit over $9 million and the accrual for the first six months is around 20.

Thank you, all.

Thank you, Adam.

And a follow-up from the line of Paul Carter with Wachovia Securities.

Go ahead.

Adam, just asked so I'll take mine out of the queue.

At this time if you have further questions, please take the opportunity to press 1 on the touch tone phone.

And we do have another follow-up from Steve Cole with Matador Capital.

I must have missed the first one, my apologies, guys.

A quick couple of questions.

I guess, could you maybe speak a minute about the compensation.

You mentioned earlier I think Paul, about the leaders, how you rejiggered the compensation and it's gear more towards relationships than it is towards volume.

Can you speak about what that means from a practical standpoint and how that will work and how do you assess the quality of a relationship?

First a transition and a cultural change and honestly I think an industry change in our approach and it's going to take some time.

But the goal is, honestly, is to incent people for institutionalizing clients and managing relationships versus purely executing searches.

So, part of the strategy on global -- on large clients where they demand that kind of service but also is to increase really our share of wallet and penetration into those clients.

So, it's a transition strategy.

Obviously, in a growing market it's a lot easier because it's easier to reallocate compensation and to reward people than in an tough market where it's tight.

So, it's a transition strategy in this industry, but it's the same transition that investment banking, consulting and accounting firms have gone through in the last ten years.

Next question, just looking at breakeven levels, you mentioned obviously if you stayed here for the next couple of years you could have cut costs more.

But, let's assume, let's take the positive side and some things do pick up in '03 and into '04.

Any ideas, if we assume the current business mix, what the incremental margins look like and what type of incremental capacity on a revenue basis you have from here going forward without having to add material [inaudible]?

I think they are very good.

If you look, and we have studied this in depth.

If you go before the internet run and look at the average revenue per partner and number of engagements and all that, it would clearly tell you that we've got about 30% or so capacity today.

And we are in -- geographically we are just about everywhere we would like to be.

The brick and mortar is there.

We have fantastic partners and colleagues throughout the world.

I think we've got the leverage right.

If you look at the incremental amount that falls to the bottom line.

I mean, literally, you know, the only real incremental cost is the bonus and, you know, a substantial amount of the dollar does fall and it is quite, quite scalable.

If you look, Gary, again, without being an expert on this, but if you look at the bonus, is there some formula that we can assume what percentage of the incremental would fall back to bonus and, you know, what range would be reasonable?

Well, we typically -- we haven't disclosed that obviously for various reasons but clearly if you look at what would fall to the bottom line it's north of 50%.

On a pretax basis?

Yeah.

Okay.

And, just on future stuff, can you give us a little flavor, you mentioned it was down quite a bit sequentially, and I think Adam was asking about fees on the higher-end holding up better than if you came down lower.

What is the -- what are you seeing on the verticals on future stuff number one, and number two, do we see any pressure on fees?

Are you seeing volume discounts there?

First, I think the decrease in Future Step was really just due to the European market and economy and that's where the pressure mainly was this quarter.

I think what you are seeing is an unfair comparison because we are really changing the model to a managed service model from of a -- what I'd call a one-off placement model that was internet-based.

So, comparisons are hard that way but I think if you see the decline in the costs this quarter, it was mainly all due to Europe.

Okay.

Thank you guys very much.

At this time there is no one else in queue.

Well, thanks for coming on this morning.

Obviously, you know, market's tough.

I think the one thing is clear is we are very focused on the operational costs.

We are managing this like a business and hopefully waiting for an economic turn.

I don't know when that is but having been in the service business for a long time, it will come.

We are well-positioned, very focused on operating the business for that inevitably upturn which I hope comes sooner than later.

So thank you all for joining us this morning.

Ladies and gentlemen, this conference will be available for replay for one week starting today at 12:45 P.M.

Eastern Standard Time and running through the day December 11 at midnight.

You may access the AT&T executive playback service by dialing 1-800-475-6701 and entering the access code of 662299.

International participants may dial 320-365-3844.

Additionally the replay will be available for playback at the Company's website, www.kornferry.com in the Investor Relations section.

That does conclude your conference for today.

Thank you for participating and using AT&T.

You may disconnect now.