Korn Ferry (KFY) 2005 Q3 法說會逐字稿

Ladies and gentlemen, thank you for standing by and welcome to the Korn/Ferry International conference call. (OPERATOR INSTRUCTIONS) As a reminder, this conference is being recorded.

Before I turn the call over to your host, Mr. Paul C. Reilly, Chairman and CEO, let me first read a 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, the Company can give no assurance that such expectations will be attained.

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

With that, I will turn the call over to Mr. Riley.

Please go ahead, Mr. Reilly.

Good morning and thank you all for joining us.

Today I'm pleased to announce that we posted a solid operating profit in the quarter and attained global revenues, including Mexico, of $120 million.

More importantly, our operating income and net income almost tripled to 17.1 million, up 10.9 million over prior year.

It is clear the ongoing demand for talent continues to escalate, not only in our business, but for the global economy at-large.

With US professional unemployment a mere 2.5 percent and the economy adding 252,000 jobs in February, it is evident that companies continue to move cautiously but steadily with their organizational expansion plans.

This morning I want to share with you some of the highlights for the third quarter of our fiscal year, which ended January 31st.

I would also like to provide some input on our strategic initiatives.

Then I will turn the call over to our Chief Operating Officer and CFO, Gary Burnison, who will provide more details on the financials.

Overall, each of the Korn/Ferry businesses -- Executive Search, Futurestep, and Leadership Development Solutions -- is up sequentially in the third quarter.

And based on the review of public information for the calendar year 2004, we have clearly reclaimed the top position in terms of worldwide market share.

I'm extremely proud of our entire team for their continuous hard work and dedication.

As I mentioned last quarter, being number one carries little impact on our clients' decisions when choosing a firm.

It is, however, an important achievement for us both internally, and as well as for our industry prominence.

We made some painful decisions during the downturn, and it is great to see that those decisions have paid off and that Korn/Ferry today is a much stronger Company.

Moreover, this success is evident in the way our strategy is working in the marketplace.

However, we don't take our position for granted.

We have very good high-quality competitors and we know we must earn our position every day and continue to focus on our strategy.

To this end, we are dedicated to the plan and will continue to focus on a few strategic elements, which include a number of items.

First, in an effort to drive shareholder value we will continue to evolve our suite of multiproduct offerings with our clients worldwide.

While others have retreated from this approach, we have embraced it, and we are succeeding.

I have no doubt that clients will increasingly turn to trusted partners that fill multiple needs.

Next, we will continue to provide specialized and dedicated account teams to major regional and global accounts.

Having consultants who are focused and well versed with a particular client's needs and culture will maximize both client satisfaction, as well as the potential of the relationship.

And last, although we have well been known as a technology leader, we will continue to focus and invest in technology and training for our employees.

Our goal is to continually leverage technology and knowledge to create efficiencies and leverage the brand Korn/Ferry.

Now let me make a few comments on the third quarter and our year-to-date progress.

In looking at our third quarter, we saw improvement in Europe.

Our financial services business was up 57 percent from Q2; our consumer business up 41 percent; our life science and industrial markets were each up about 25 percent.

As you all know, in Europe has lagged North America in coming out of the recession.

And while the economy stays tough in many of the regions, all indications activity is beginning to accelerate.

From a private sector perspective, the biggest recovery and growth of the year-over-year is taking place in financial services.

In the first three quarters globally of FY05 our financial services sector was up 62 percent over '04.

That also makes financial services now our largest sector just growing to be the largest piece of our markets, while in 2004 they ranked fourth.

The big growth in this sector took place in Asia, where financial services billing has more than doubled, and Europe, up almost 79 percent.

In addition to strong performance from our financial services group, the consumer practice posted its third straight quarterly improvement, led by consumer products and our fashion retail business.

Finally, our life science business is also having a solid year, and posted improvement in the quarter.

This is a business that has always grown, even during the downturn, and is steadily improving.

Pharmaceuticals, up 18 percent sequentially, drove the sector.

But also of note was a 25 percent increase in the activity of our health care provider clients.

As previously mentioned, Europe drove much of the quarter's growth.

The increasing demand we are seeing in the marketplace is reflective of sustained corporate profitability and a continual shifting from retrenchment to growth in most industries.

Additionally, I am pleased to report that our average revenue per consultant is rising as well.

In fact, our average fees for the first three months compared to the last three months is up about 12.5 percent.

At the close of the quarter we were in a run rate of over $1 million in fee billings per consultant, the highest we have obtained in the last four years.

Turning to our middle management business, Futurestep progress remained steady in the quarter.

Futurestep posted revenue gains of 1.3 million, or a 10 percent improvement over the second quarter.

Europe and Asia were the key drivers, as France was up 17.5 percent, Italy 41 percent, and Norway 30 percent.

Performance on the Continent and in Asia Pacific, Australia was up 8 percent.

Over the last 12 months revenue at Futurestep is up 53 percent at 49 million.

Under Futurestep's evolving business model we continue to secure and execute more project-based recruitment engagements and fully-outsourced managed-services projects.

This recruitment process outsourcing trend is happening all around the globe.

In addition to the success we've had with assignments in the US and Asia, France and the UK are now also seeing increased interest in Futurestep's RPO recruiting process outsourcing offering.

Not only are we seeing a rise in demand for our recruitment services, but our Leadership Development Solutions as well.

Our LDS business is up an impressive 58 percent year-over-year, driven by Europe and North America.

In fact, performance surged in LDS in the quarter, up a dramatic 74 percent over the second quarter.

Today's leading organizations understand that developing and retaining their human capital is going to be evermore critical as labor markets tighten.

From assessment and coaching (ph) to employee performance management, we believe our LDS group has the right suite of solutions to drive growth in this segment.

I'd like to add one more observation on the quarter that I think it's important in terms of outlook.

Not only our revenue per consultant was up significantly, but we saw a substantial increase in upticks, which is higher-than-anticipated fees.

An uptick occurs when a client pays a higher compensation package to a candidate than initially anticipated.

The rise in upticks, coupled with the rise in revenue per consultant, is an indicator that clients are willing to pay more for good talent and that the war for talent is resuming.

The demographics and demand of the marketplace have long indicated that the war for talent would be strong.

We are now seeing tangible evidence that this is indeed true.

In closing, as we look for our fiscal year end in April, we remain encouraged by the continue demand for human capital around the globe and will remain aggressively focused on helping our global clients and our local clients address their human capital acquisition and development efforts.

With that, I'd like to turn it over to Gary Burnison, our COO and CFO, for a more detailed financial review.

Gary?

Thanks, Paul, and good morning, everyone.

We are again pleased to report another strong quarter.

Quarter three marks the sixth consecutive quarter of revenue growth, and more importantly the eighth consecutive quarter of improved profit margin.

EPS grew 2 cents sequentially to 23 cents per share and is 130 percent greater than last year.

Additionally, thanks to our talented partners and colleagues around the world, Korn/Ferry has recaptured the number one market share position in the industry with trailing 12 revenue of 438 million, including Mexico, which is a 38 percent increase over the prior year.

Third-quarter fee revenue was almost 117 million and grew nearly 44 percent versus the third quarter of last year.

Consolidated operating margin reached 14.6 percent and our cash balance surged to $157 million.

Now let me review the business segments, starting with executive recruiting.

Third-quarter fee revenue grew over $7 million or 7.3 percent versus the second quarter to 102.6 million.

The growth was primarily driven by Europe, which surged 7.4 million, or 31 percent sequentially, and 57 percent versus last year.

Revenue was up sequentially in a number of countries, including the UK, France, Germany, Italy, and the Netherlands, with strong performances in financial services, consumer, life sciences and industrial.

North America and Asia Pacific revenue was slightly down sequentially, but up 32 and 48 percent respectively over the prior year.

Latin America fee revenue grew 400,000, or 16 percent sequentially.

Excluding revisions to prior restructuring liabilities, our executive recruiting operating margin was 19.3 percent.

The number of executive recruiting consultants was 391 at the end of the third quarter.

And consultant productivity continued to climb, reaching an annualized rate of a little over $1 million per consultant.

Now turning to Futurestep, fee revenue rose 10 percent versus the second quarter to 14.3 million, and was up almost 68 percent versus last year.

While revenue remained relatively flat versus the second quarter in North America, fee revenue did improve sequentially in both Europe and Asia Pacific.

Excluding revisions to prior restructuring liabilities, Futurestep operating earnings fell slightly to $2 million or 13.8 percent margin, due primarily to investment hiring.

Relative to last year, Futurestep's operating earnings were up over 200 percent and their operating margin has nearly doubled.

Let me now comment on our fourth-quarter outlook.

Assuming constant foreign exchange rates, we estimate fee revenue will be in the range of 115 to 122 million and EPS will likely range from 22 to 25 cents per share.

That conclude our remarks.

I will now turn it over to Robert so we can begin taking your questions.

(OPERATOR INSTRUCTIONS) Kelly Flynn, UBS.

This is Andrew Fones for Kelly Flynn.

I wanted to ask a couple of questions on Europe.

You mentioned that the UK, France, Germany, Italy and the Netherlands were all strong.

Can you give us a kind of sense of perhaps which countries accelerated during the quarter?

And secondly, I was wondering if you could kind of discuss the changing regulations in France regarding executive recruitment and perhaps any plans for hiring there.

I would say that in Europe it was fairly broad-based between the countries that we alluded to.

We have brought in over the last 19 months about 95 or so partners worldwide.

Many of those were in Europe.

And we are clearly seeing the fruits of our efforts, including the streamlining initiatives that we undertook 2, 2.5 years ago around the world, and also the fruits of our effort in terms of the investment hiring that we've made.

Clearly that's paid off.

In terms of your specific question on France, France and Germany continue to be a tough market, a tough economy.

But we've made progress, despite the fact that the economies are still challenging.

And then in terms of change in the regulatory environment in France and perhaps your hiring plans there, I was wondering if you could get into little more detail on that.

We are still adding resources in France.

We see it as a good market and a good position.

The market is lagging, and I don't think there's anything that's curtailing us in terms of growth.

We've added some partners there recently.

And I don't think there's any regulation that really gets in our way in terms of hiring.

Okay, great.

And then I was wondering if you could just kind of give me a sense of what the investment hiring was that you mentioned in the quarter, and perhaps any impact on the SG&A.

I noticed that kind of moved up a little bit in Q3.

We are still running a very lean infrastructure.

We are going to do that.

In terms of the "investment hirings", like we've done now for essentially six quarters, we've continued to bring talent into this organization, and we're going to continue to do so.

So it's nothing -- I would say that nothing was unusual this quarter relative to last six quarters.

We're continuing to bring talent into the firm.

I think for Futurestep we just have to remember it's a smaller business so that when you bring a number of senior people in it has a shorter-term impact.

But it's been an extremely successful business.

We're very high on it.

We think it is going to continue good growth rates.

So I think you see nothing more than a seasonal adjustment.

They had an exceptionally good quarter two and a decent quarter three, even with the hiring.

Thanks guys.

Randy Mehl, Robert W. Baird.

Good morning, Paul and Gary, and good job on the results again.

I wanted to first ask a point of clarification.

Was the 12.5 percent fees per search growth in fees per search?

Yes, over the first three quarters of last year over the first three quarters of this year.

So year-to-date, good.

Now obviously that's helping productivity here quite a bit.

Would you expect productivity levels to continue to increase in this environment, or are you reaching a level that you think is more than normalized or peak level?

I think what we're hoping for in the market and we're seeing is that fees will continue to increase.

We don't have as much leverage on revenue per partner and professional as we had a year ago.

There is some room in the system, but I think the productivity is going to be a result of an improving market and fee, as well as continuing increases in the number of searches.

So it's a balance between still recruiting and hiring.

We're hiring more and more from industry now.

And our industry hires have been very successful, even though they've had not a lot of search experience.

We've got a lot of people in from the industry who are very talented.

And it's going to be a combination of all three.

Why are you hiring more from industry right now, do you think?

I think as a profession as a whole, this whole industry, not too many people when they were growing up said they wanted to be an executive search consultant.

But most people in this business have come from industry.

And for the growth of the profession, and honestly as you build a culture that we've significantly changed these last few years, you want to build in people that believe in what you're doing.

And as you grow the business, I think you're going to -- that we're seeing that there are a lot of people in industry that are interested in this business that bring some expertise and reach that's unique, and we've been very successful.

So I think the percentage of people from industry versus the people from our profession on our recruits continues to increase.

It's very powerful from a client perspective.

When you're sitting down across the table from a client, to the extent that the person from Korn/Ferry has had operating experience and run businesses is a huge asset to our clients.

Definitely.

Just final question on that front.

What is a reasonable expectation for consultant headcount additions when you look over the next maybe two quarters?

We've never really pegged a number to that, per se.

We continue to recruit partners into the firm.

And at the same time we've run a pretty lean infrastructure.

I think if you look out over the next two to three quarters I would not be surprised if the number of consultants increases by 15 to 20.

That would not surprise me on a net basis.

So clearly active in the hiring.

In the quarter, it looks like you lost a net seven consultants.

Where were those, what geographies?

Those were primarily in North America.

And as part of our ongoing performance management process that we have, we're fairly active in terms of counseling our partners and the like, and we're going to continue to proactively manage our workforce.

So far our voluntary turnover has been exceptionally low these last couple of years, last year and this year.

We don't take our people for granted.

We've got great people here and we have to make sure they're engaged in our business.

But we've been blessed so far with very, very low voluntary turnover.

The other thing too, when you look at it, we certainly have a level of retirees every three to six months.

And in this particular quarter we had several of those.

Okay good.

Thank you very much.

I appreciate it.

Michael Morin, Merrill Lynch.

A couple of questions.

First, on the war for talent that you're referring to, you just talked about your success at keeping voluntary turnover down.

Is there anything specific that you're doing there or that you feel you're going to need to do going forward to avoid having the war for talent impacting your business and your ability to attract and retain good people?

And then secondly, you're piling up a lot of cash, and I'm wondering if you have any plans either pay a dividend or to return some of the cash to shareholders by way of a buyback.

On question one, I think that clearly we're all facing a war on talent.

I think if you talk to any professional service firms, from accounting firms, to consulting firms to our executive recruiting firm, that people say that they need more good people.

So the war on talent will exist.

I think retention is basically a few items.

It's, one, paying people fairly in the marketplace, which I think is critical in any business.

But more importantly, it is having people, one, believe in a strategy and a direction; believe that a Company and management are executing a plan and that there's an environment that people like to come to work in.

And we have to focus on all of those.

So we're very focused on training.

We're very focused on a value system.

Our comp system includes 360 degree feedback and creating a culture that people want to come to every day.

And we have to work on that just like everybody else.

So it's a keen initiative for us.

We're not naive enough to know that our competitors are talking to our people, and we know that.

But so far we've been very fortunate that people have chosen to be with us.

So we have to continue to provide kind of that guidance that people believe this is a place to be, that we want to be that place where people want to come to work every day.

That's a big part of what we do.

In terms of your second question was --

In terms of the balance sheet and the cash, we're obviously very mindful of that, and we will continue to look and ways to efficiently and effectively deploy any excess capital for shareholders.

We have big plans for this business.

It was no more than 16, 17 months ago this business was doing 250, $260 million of worldwide revenue.

Today we're doing $480 million.

And clearly as we look out in the future, we think that the war for talent is just beginning again.

The demographic trends are startling.

As Paul said, we see that organizations are going to be looking to outside providers to help identify, attract, manage talent.

And we want to grow this business in a very substantial way.

So we will continue to be mindful of the balance sheet and how we effectively and efficiently deploy capital.

Thank you.

Mark Marcon, Robert B. Baird.

Let me add my congratulations, Paul and Gary.

I wanted to follow up on Randy's question.

It sounds like you're going to add 15 to 20 consultants.

I was wondering if you could describe where you think productivity per consultant could go in terms of annualized revenues.

Well, if you look back historically and even kind of chop off the bubble, you know you look Korn/Ferry and it's typically run 1.1 million to 1.2 million, something like that.

And we're obviously shooting for the higher end of that range.

It's going to be a challenge, no question about it.

But we think we can do it.

Margins in the Executive Search were quite strong this last quarter across the board.

Can you kind of give us a feel for where you think margins could go in your major geographies -- North America, Europe and Asia-Pac -- in terms of peak?

Well, If you look back -- again, looking back historically, start with North America -- we have seen in the past margins in kind of the low 20s.

And hopefully we can continue to drive share and drive our business to those kinds of margins.

When you look at Europe, for a number of different reasons the margins historically in the future will not attain.

It's not possible for any business to attain the kind of margins -- given the regulatory environment that you have it's not possible to attain those kinds of margins in Europe.

So I would expect that in Europe those margins would be, say, 3 to 400 basis points or so less than what we would see in North America.

Having said that, this last quarter was -- really Europe turned in a fabulous performance.

Their operating margin was 21 percent, which in the quarter was actually a little higher than North America.

So we still have quite a bit of capacity in Europe and we've been very aggressive in our hiring plans.

We think we can drive more share, particularly throughout Europe.

And Asia-Pac?

Asia-Pac again, I think that the margins there will be slightly less than what North America can achieve.

Asia in our second quarter this year had an exceptionally strong quarter.

Their operating margin was 22.5 percent or so, something like that.

This quarter it was down somewhat.

But we have a talented team.

We're number one in almost every geographic region there in Asia.

And we would like to see those margins increase over what we hit in the third quarter.

I think it's important to realize that we're still investing.

And we've been able to drive margins, grow the business and invest simultaneously, and that continues to be our challenge.

In Asia we've been recruiting.

We've added a partner recently.

We've moved our President of Asia to Shanghai.

And we're making other investments in China.

Even though we've been in the number one position, we're a great believer in the future there.

And so our challenge is to continue to grow the margins, which we've continually done now for quarter after quarter, and invest in the business.

And we expect to still do that.

Two more follow-up questions.

What was the bonus accrual?

The bonus accrual in the quarter was almost $24 million.

And what was the trend in confirms (ph)?

The trend in confirms.

It was fairly, consistent, I will tell you that December in Europe was certainly stronger than we expected, which surprised us a little bit.

But it was fairly consistent throughout the quarter.

We've found we're actually presently surprised pleasantly surprised that between the year end holidays in North America and Chinese New Year in Asia this is a quarter that we always see seasonality in.

The truth is that North America and Asia held its own really during even this holiday period.

And Europe put in an exceptional quarter end.

Net-net we're very, very pleased with the results of the quarter.

Did you see a pickup in January and going into February, if you can comment about Feb?

I would say that it's been fairly consistent.

That's the way I would characterize it.

Thank you.

Ty Govatos, CL King.

Add my congratulations to that quarter also.

Gary, on the bonus accrual, could you give us an indication now that Europe is turning around what you think that might be as a percentage of revenues next year?

We really don't look at it that way.

It's really dependent upon the profitability of the firm.

And I will tell you that for the first three quarters of this year the results have exceeded our expectations in terms of where we would come out so far after three quarters.

And as Paul said, we are going to invest in new folks coming in the firm, but we're also going to make sure that we pay our people fairly.

I think that people when they look at our business get a little misguided in terms our bonus program.

Our bonus program clearly has an element of individual performance, but really what drives the pool is regional and corporate goals and performance against margin.

And that's really what drives our accrual and the pools.

So the firm has done an excellent job of delivering results that I think at the beginning of the year people would say weren't possible, both from a revenue standpoint and a profitability standpoint.

Obviously we have to pay well for that performance, and I think the shareholders will be very happy with the returns so far.

But it isn't just a revenue-based system at all.

It's really dependent on profitability.

Thanks an awful lot.

Toby Sommer, SunTrust Robinson Humphrey.

It's actually Chris Joseph for Toby Sommer.

Congratulations on the quarter.

A question.

Do you have a consultant bonus payment coming up?

And if so, what would the cash balance be net of the bonus?

We pay bonuses about 2.5 months or so after our fiscal year end.

Fiscal year end is in April.

And obviously a part that is dependent upon how we do in the fourth quarter.

I would say, though, however, that it's reasonable to assume the cash balance after we pay bonuses is at least 105, $110 million.

I would say it's more than reasonable.

It should be at least that.

And then another question, if I could.

Have you looked at what the impact of option expensing might be on your quarterly EPS?

And then I guess kind of assume that your guidance for the next quarter doesn't include the impact.

Is that correct?

That is correct.

It does not include that.

We're still looking at it, but I would say that right now the best estimate that we have is about 3 cents or so a quarter as we go into next fiscal year.

That will drop down the following fiscal year as far as we can tell to about 8 or 9 cents a share in total for the year.

Thanks.

It appears there are no further questions, Mr. Reilly.

Great.

We appreciate everyone on the call, and am thankful for your following and really to our partners.

They have done a terrific job of delivering exceptional results.

So to our management team and our partners, thank you.

Thank you for calling us.

And we're looking forward to closing out the year end strong.

We'll talk to you in another quarter.

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