Korn Ferry (KFY) 2007 Q3 法說會逐字稿

Ladies and gentlemen, thank you for standing by and welcome to the Korn/Ferry International conference call.

At this time, 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 call over to your host, Mr. Paul C. Reilly, Chairman and CEO, let me first read a cautionary statement to investors.

Certain statements made in the presentation today 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, investors are cautioned not to place undue reliance on such statements.

Actual results in future periods may differ materially from those currently expected or desired because of a number of risks and uncertainties which are beyond the Company's control.

Additional information concerning such risks and uncertainties can be found in the Company's annual report for fiscal 2006.

With that, I'll turn the call over to Mr. Reilly.

Please go ahead, Mr. Reilly.

Well, thank you and good morning, everyone.

Good to be here in the cool big apple.

You know, over the past really, couple of months, I've been traveling nonstop around the world and starting, you know, really with the World Economic Forum in January, it's interesting.

The theme there was the shifting power equation and CEOs from all around the world, all they could talk about were talent issues, shortages of people, developing and retaining talent.

In fact, everywhere I've gone on these trips through Europe, India and China in the last few weeks, the theme was the same.

How do we attract and retain more people?

When you look at our business and you look at CEOs and the demand for people around the world, it's hard for me to see this potential recession, especially as it affects our business, that everyone's talking about.

Demand has continued to be brisk, demand, high and there's clearly a shortage of people throughout the world.

I think these trends have really driven -- continue to drive our results and I'm delighted to announce for the third quarter we received a record quarterly revenue and operating earnings.

Revenue came in at $165.2 million, up 27.5% year-over-year and EPS at $0.33, up $0.07, or 26%, not including a $0.01stock option expense over the prior year.

Profits remain high with solid operating margins at 13%.

Those operating margins are significant considering the growth of our Leadership business whose expense is embedded in those margins.

When the [lead] tables are published in a couple of weeks, we're certain that not only will we continue to be the largest firm but we will significantly, for the fourth year in a row, outgrow our competition through organic growth.

Before we review our individual business lines, I thought I would share with you a recent engagement which we believe represents the full power of what we're doing here at Korn/Ferry.

Just recently, Bruce Power, headquartered in Canada, the second largest nuclear complex in the world, signed with Korn/Ferry a five-year agreement to be the primary advisor for the integrated talent management solutions.

This transformational win, a project that was sold and implemented seamlessly across our businesses is a testament to our KF1 company strategy.

Leveraging our executive search, our middle management recruiting, Leadership Development Solutions and outsourcing capabilities, Korn/Ferry will lead the Bruce Power's efforts to develop its existing talent pool and identify and attract top professionals from outside the Company.

The client is thrilled to have a long-term partner for this effort, a partner that can inculcate into their culture, share best practices and provide counsel and solutions through strong and vying economic cycles.

For Korn/Ferry, we'll execute all of our solutions simultaneously.

This linkage across employee life cycles will make us better recruiters and better advisors through the intimate knowledge that we gain through our Leadership Development efforts.

This assignment represents the true power of Korn/Ferry as indicative of our approach of developing major accounts as we move forward.

Looking at our business segments, all of our operating groups were profitable in the quarter and performed strongly.

For Executive Search, the trend turned in another terrific quarter performance.

Europe and North America led the quarter with impressive year-over-year growth at 31% and 28% respectively.

From a market perspective, all of our sectors have experienced growth year-over-year.

Financial services is up 40%, industrial 27%.

Technology, which increased 59%, had the largest advances.

Turning to our middle management business, Futurestep posted another quarter of sequential growth, 13 consecutive quarters.

Futurestep generated $22.3 million for the quarter and improved its operating margin to 10.1%, up from 9% in the second quarter.

It is clear that demand for recruitment services in the middle market and the trends towards outsourcing noncore capabilities will continue to provide business opportunities for Futurestep in the long-term.

During the quarter, Futurestep added significant bench strength to its team.

A global COO was hired, a head of our RPO efforts in Asia Pacific, also.

Furthermore, we have relocated the President of Futurestep Asia Pacific from Australia to Singapore in lines with the growing demand and huge growth we're experiencing in Asia, particularly China and India.

Recruitment process outsourcing continues to gain traction as an acceptable HR practice around the world.

As the business evolves, we are seeing an increase in the number of our clients that are bundling multiple HR related services for their outsource partners to administer.

This HRO approach represents a significant opportunity for Futurestep to take greater share of wallet.

Our Leadership Development business also posted a good third quarter.

Fee revenue improved $7.7 million and including our Lominger, our recent acquisition, reached $11.7 million for the quarter.

The integration of Lominger to Korn/Ferry's proceeding on plan, several training sessions were held to integrate the business across our staff and partners.

Additional training is being held in Europe, Asia this month.

At the current run rate, we are on pace to have the best year in our company's 36-year history and by any accord, Korn/Ferry is in great shape.

Firstly, we have the industry's only true differentiated business model and have only just begun to understand and to demonstrate how to unlock its full potential.

Next, we have a strong balance sheet.

Our cash position is solid, enabling us to announce another stock repurchase plan.

Furthermore, we have aggressively recruited some of the strongest consultants in the space with significant growth in our consultant count.

We are committed not only to attracting top talent but also providing our employees with an enriching work experience and a career-long approach to professional development.

Looking forward to the fourth quarter, I am optimistic because the CEOs are optimistic and talent is in short supply.

I am convinced we will continue to see demand for our services and it will remain strong and toward the foreseeable future.

With that, I'd like to turn the call over to our COO and CFO, Gary Burnison.

Gary?

Thanks, Paul and good morning.

Today we are pleased to report record results with all-time high fee revenue of $165 million, a 27.5% increase over the prior year with all operating divisions recording strong growth.

Thanks to our colleagues around the world, today we are producing more revenue than at any time in the Company's history.

In fact, more revenue than in the dot com era, but today, with only two-thirds of the number of employees.

Revenue has now grown in 14 of the last 15 quarters.

Including Mexico, third quarter fee revenue was over $169 million.

Third quarter operating profits also reached a record high of $21.4 million while bottom line EPS improved $0.06, or 22% to $0.33 a share excluding a one-time $4.5 million loss recovery recorded in Q3 of last year.

Excluding the effects of the stock option FASB, EPS improved $0.07, or 26% year-over-year to $0.34 per share.

Over the last three quarters we have made targeted investments in people, processes and intellectual property focused on transforming Korn/Ferry into a diversified HR solutions firm.

These investments are paying off.

Our Leadership Development solutions division has continued to grow, reaching nearly $12 million of fee revenue in the quarter including $4.2 million from Lominger and Leader Source, two recent acquisitions in our Leadership Development business.

Our third quarter consolidated operating margin was 13%, down 60 basis points sequentially primarily due to the investments we have made in our businesses.

Our third quarter ending cash balance surged $53 million to nearly $283 million.

In the current fiscal year through yesterday, we have repurchased approximately 1 million shares for total cash consideration of $35 million including $11 million since our last earnings call.

We have approximately $21 million remaining of the $75 million stock repurchase funds authorized and announced in December '05 and June '06.

Additionally, at our March 6th board meeting, two days ago, the board of directors approved an additional $50 million for share repurchase, bringing the total funds authorized and unused to $71 million.

Now, let me review the business segment starting with the Executive Recruiting where fee revenue improved almost $8 million, or 6% sequentially and 28% year-over-year, reaching $143 million.

All regions and divisions were up sequentially.

North America grew 28%.

The fastest growing specialty markets year-over-year were technology up 59%, financial services, up 40%, and industrial up 27%.

EMEA fee revenue reached an all-time high of almost $38 million in the quarter, a 31% increase year-over-year.

Asia Pacific was up nearly 34% over the prior year reaching a record high of $18.6 million.

China and India continue to be growth drivers for Asia Pacific with year-to-date growth rates of approximately 50% over the prior year.

South America fee revenue improved 8% sequentially but was down $100,000, or 2.4% over the prior year.

Operating earnings for the Executive Recruiting segment were up $600,000 sequentially and 12% year-over-year reaching $27.3 million.

Our operating margin was 19.1%.

Third quarter ending consultant count was 485, up seven from the second quarter, and annualized revenue per consultant was over $1.1 million, up a little over 12% year-over-year.

Futurestep increased 24% over the prior year reaching $22.3 million.

Futurestep has now grown for 13 consecutive quarters.

Sequentially, fee revenue grew nearly 17% in EMEA, almost 8% in Asia Pacific and was flat in North America.

Sequential profitability improved again in Futurestep reaching $2.3 million of operating earnings, or a 10.1% margin.

Let me now comment on our fourth quarter outlook.

Assuming constant FX rates, we estimate fourth quarter fee revenue will likely range from 165 to $175 million and diluted EPS will likely range from $0.33 to $0.35 per share.

That concludes our remarks.

I'll now turn it over to Trisha so we can begin taking your questions.

Thank you. [OPERATOR INSTRUCTIONS] Our first question is from Mark Marcon with [inaudible] Baird.

Please go ahead.

Hi.

Good morning and congratulations on the record revenue.

Thank you.

I was wondering if you could talk a little bit about the margins across the different divisions and you mentioned that you're making investments and that that's having a little bit of an impact.

To what extent is, or what impact is Lominger having on your operating margins across the different geographies?

And then, can you give us a little bit more color with regards to the impact of the investments and, you know, what the longer term outlook for the margins are?

Should we expect margins to ultimately increase or are they going to stay at these levels?

And then finally, what was the bonus accrual for this quarter?

Ok.

Well, that's a multi-part question, Mark.

I'll give it a try.

You're going to need to follow-up.

In terms of the bonus accrual, it was $34.5 million.

Mm-hmm.

So year-to-date, it's almost $98 million.

Okay.

The impact overall on our margin in the investments we've made in our Leadership Development business is probably about 120 basis points.

If you just look year-to-date, that's the impact.

If you look at the last quarter and talk about the margins across our different businesses, on the Executive Recruiting side, they were fairly consistent from North America to Asia Pacific.

EMEA's operating margin was down slightly.

That was probably due to some profitability based accruals.

Futurestep margin actually increased sequentially about 100 basis points.

So overall, Mark, we came in with a 13% operating margin.

That was down about 60 bips from our second quarter and down 140 bips from the last quarter of last year.

And really, most of that, Mark, is due to the investments that we've made across our businesses.

And we believe that long-term, that the investments that we're making will differentiate and drive incremental revenue to this business and so it's something that we are absolutely committed to.

It's part of our strategic plan and you can see the results bearing fruit.

Our Leadership Development business today is almost a $50 million business.

Your question on Lominger, it's actually had a positive impact on the margins.

That business is albeit smaller, so therefore the impact not as substantial, but it's a $16, $18 million top line business that throws off 20% margins.

The opportunity for us there is to take that intellectual property and infuse it into our Futurestep and search channels.

And from a geographic perspective, we have a huge opportunity with that business because 80% of that business historically has been in North American business.

So we have substantial opportunity in Asia and EMEA.

Mark, I just want to add on that we've made a conscious decision to grow our Leadership business and if we acquired something and capitalized it, the margins would look great.

We are absolutely thrilled with the progress of our Leadership business.

And you know, yes, we've had some investment on it but I'll tell you, not only do we have great people we've recruited, it was a lot cheaper than buying something.

So we're committed.

We may have some short-term margin erosion as we had this quarter while we invest in it.

That's ok.

It's a great business.

It's adding value.

And the Bruce Power example, where we hope to have a lot of them, where, because of our Leadership business and our outsourcing and our Futurestep, and our executive search, we're able to sign a very unique, a good contract for us, a good contract for the Company and I think that's our future.

So --

Terrific.

Can you talk a little bit about, in the past, we've talked about you know, where your margin target is longer term and, clearly, you're making some investments that are paying off quite handsomely here in terms of strong revenue growth and strong operating profit growth organically, but where should we think about the margins going long-term?

So that's one question.

And then the second question is, and you've addressed it to a certain extent but I'd like more color if possible, particularly in the U.S., is, you know, what you're seeing in terms of, you know, demand and how it might relate to any sort of cyclical moderation that we might be undergoing?

We continued to see, you know, steady demand, Mark.

Throughout the quarter, we saw that the same trends still hold true.

It's obviously hard to predict where you are in a cycle.

We an only tell you what clients are telling us and t hat is that, you know, talent has really become the world's most precious commodity.

In North America and the unemployment rate, as you know, for people with college degrees is at all-time lows, 1.9%.

So we're still seeing strong demand across all of our businesses.

You commented on North America.

In EMEA, it's interesting, this last quarter, 16 of our 19 markets were actually up so I would say that's fairly broad-based.

And if you look at the -- from an industry perspective, you would draw that same conclusion.

With respect to operating margins, we now have the stock option FASB but you know, taking that into account, we still believe that this business can do 16, 17% operating margins.

Terrific.

And that's exclusive of the options?

Yes.

And how much should the options expense be, you know, on a normalized basis?

It would probably be 100 bips.

Okay.

Great.

Super.

Thanks a lot and congratulations.

Thank you, Mark.

Our next question comes from Michel Morin with Merrill Lynch.

Please go ahead.

Hi.

This is Elliott [Frukter] in for Michel.

Good morning.

Good morning, Elliott.

The European growth rates seemed to fluctuate and accelerated in the third quarter.

Can you describe some of the fluctuation you've been seeing in the growth rates there, some color?

Well, if I could, I don't know if I'd be working today but it's been a fairly broad-based recovery as we said.

Our EMEA business reached an all-time high in terms of top line performance in the Company's history.

And literally, 16 of the 19 markets that we were in showed growth in the quarter.

We're seeing significant pickup in France, you know, Germany, some of the slower markets.

France has been on fire.

The market that was flat for a long, long time.

U.K. remains very, very strong.

And I'll tell you that's why we're optimistic from a cyclicality standpoint.

India and China are both up 50% year-on-year for three quarters.

I mean we are seeing broad-based growth across all industry sectors and even with the moderation in one, they offset each other a little bit and as our other businesses grow, they offset each other a little bit.

But we're not seeing any holes in the economy.

I mean you could say automotive sector or, you know, you have to struggle to find sectors that aren't really creating huge demand right now globally.

Okay.

Thank you, guys.

Second on the acquisition from Lominger, was the contribution this quarter at $4.7 million, did I hear you right?

And did that get reflected in North America or also in some other region?

I probably misstated it.

If I did, Elliott, I'm sorry.

No, it was about $4.2 million and that includes a second acquisition called Leader Source.

You're talking about revenue, right?

Right.

Yes.

Fee revenue.

So it was about, a little, call it $4 million and most of that, Elliott, was in North America.

Okay.

Thank you.

And a final question.

Can you provide the consulting counts by region either the average for the quarter or quarter end?

That's something we haven't broken it out by region.

At the end of the period the consultant count was 485 and on an average basis, it was 482.

Okay.

Thank you.

We have a question from the line of Tobey Sommer with SunTrust Robinson.

Please go ahead.

Thanks.

I was wondering if you could give us a little bit of color on the genesis of your recent [and] global multi-line contract and kind of how you expect progress of additional contracts to proceed sort of -- are those coming from customers or are you driving the process?

I think we are driving.

I think if you look at really what's happening, that was a great example of how this business should work.

We had a partner that had a relationship with a CEO and a team met and the team didn't identify them as different lines of businesses but as our consultants asked them what their issue where and we came back and drafted a solution.

And the truth is, clients don't care about our internal divisions, they care about getting stuff done.

We made the call, listened, crafted a solution that we proved could work for them.

And it's great for the client and great for us.

We expect that as, you know, our businesses develop and our consultants understand more and more the power of that from a client standpoint that will continue to grow.

It's a great example.

Our Canadian business is absolutely one of our leading businesses and the partner that Paul was referring to is one of the 200 new partners that we have brought in over the last 40 months and this gentleman actually didn't have search experience.

But as Paul said, it's a fabulous example of the three lines of business coming together and facing off with a client and meeting their entire talent management challenges.

Just a quick numbers question.

Of your cash balance, if I do the math right, you said you had $98 million in bonus accruals.

Of the cash, is the rest of it all spendable?

Is your position altered at all in terms of how much cash you want to have kind of on the balance sheet for whenever a downturn does occur?

As of April 30th, after the fourth quarter, we will have about $300 million globally of cash, Tobey.

We will probably pay bonuses of 130 or so against that.

So you're talking 170, $175 million after bonuses.

Of course, that's before any earnings in our first quarter.

We want to keep on the balance sheet for not only running the business but as a safety net, about $75 million.

So that leaves us $100 million.

Now, we did authorize, the board authorized, an additional $50 million stock repurchase program.

And so today, as we're sitting here, we have a total of $71 million of authorized and unused stock repurchase program.

Great.

Thank you.

And in that context, would the cash generation that you're having in your internal investments in all of the businesses and LDS maybe in particular, do you anticipate being able to continue to kind of come together with some small acquisitions or has anything changed in your viewpoint as to how that will play a role in growth in the business?

We're continuing to build out, you know, a set a solutions and services that makes us a diversified HR services firm.

And we first would like to use the cash in the business along those lines.

And secondly, if we can't find uses in the business, we will return that to shareholders.

One last question.

In terms of the consultant additions that you've had both in the quarter and maybe more recently, any change in the composition of where you're getting them, whether it's people with executive search experience or internal promotions or from industry?

It's about 50/50 in terms of excluding the promotions for a second.

It's about 50% from search and 50% from outside of search.

Thank you very much.

Thank you.

We have a follow-up question from the line of Mark Marcon with R. W. Baird.

Please go ahead.

You've done a tremendous job in terms of increasing the average revenue per consultant.

I was wondering if you could talk a little bit about, you know, where you think that can go and how you would drive it there.

So far, it's been good increases in terms of productivity and more importantly, the increase in fee for searches, you've moved up the line.

You know, how much more can you do that?

Mark, I think that's up to us.

We are increasing fees by raising minimum fees.

We are, you know, our business continues to move up market and we think productivity continued to increase as we're going through, starting a major process of even re-engineering our delivery capability here and we think we can get more productivity through just more sophisticated way of how we work through our search process.

So, you know, we continue to push it.

We think it's an important number.

I don't know what the cap is.

We've passed our short-term goals but we certainly have growth.

Mark, we're really proud of this.

Our average fee is up about 15% year-over-year to almost $81,000 and if you look over the last 12 quarters, it's gone from 55 to $81,000.

Clearly, part of that reflects favorable economic tailwinds but also part of it is very much part of a strategy to move the brand upstream and to have discipline in the business.

You talk a little bit about, like, when you take a look at your top producers, where are they and, you know, what percentage of your consultant base, I know it's going to vary by geography, but what percentage of your consultant base is still at a relatively early stage in terms of ramping up and has the potential for significant productivity increases?

Well, you know, we think it takes about 12 to 18 months to fully come on line.

We're up 50 or so over the last four quarters, assuming half of those are firm search and half of those are, you know, without search experience, you can kind of, you know, guesstimate in terms of the ramp up.

But the real leverage is actually what you pointed to, and that's the revenue per partner.

And as Paul said, we are looking to inject our intellectual property and Lominger into our search processes and -- but the average fee, there's substantial room for growth there and that creates an enormous amount of leverage.

The other thing that's, again, in those numbers is our Leadership partners.

We've added 25 plus in the last year.

And the consulting business clearly takes, you know, a year or so to ramp up.

So, we expect -- they're doing just a terrific job.

They're ahead of schedule, ahead of budget.

More importantly, they're just adding value to our client interfaces and extremely well, accepted by our consultants.

Even just getting them up to, you know, full speed, it will be significant and it drags the number of partners because they're almost 10% -- they're 10% of our partner count right now.

So, you know, it's all going in the right direction.

We're still a growth business.

We view this as a growth market even in this economy, especially considering our Leadership business and our LDS business.

What are the barriers from your perspective to ultimately achieving the revenue per consultant that some of your, either your one pure play public competitor currently as or, you know, if we take a look at somebody like Spencer and what they're doing.

I think there's a couple of things, Mark.

First, the comparisons in total are unfair.

We have extremely large businesses in Asia and South America compared to our competitors which have lower average fees.

Yes.

But secondly, I think that, and we've also got a broader business.

The part of being significantly larger is, you know, in the same market is we have a broader business and a different approach to business, we feel that, you know, it's not just the CEO and board space that counts to companies, it's CEOs and, you know, certainly senior management, even upper level middle management.

So that's going to drag on average the fees but look at the results in terms of profitability.

I mean even with our investments we've got very good profit margins where everybody else is really focused on the executive recruiting business.

We've grown two other businesses in addition.

And even if you took out those two other businesses, we'd still be the largest executive recruiting firm on its own and its growth rate will outpace the competitors.

So, it's just a different strategy and I think a face on face metric is a little bit of an unfair comparison.

Having said that, we continue to move up market.

We continue to do more work.

We continue to push fees up and we plan to continue doing it.

And then you mentioned that the financial services practice was up 40%.

Can you talk about how big that is right now as a percentage of your overall business?

Overall, it's about 21, 22% of our business, Mark.

Are you seeing any signs of a slowdown there?

We have not.

Okay.

Great.

Thank you.

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

Great.

Well, you know, we're just really excited about the quarter and the trends and yes, you know, I think that we're investing, you know, intelligently and yes, you know, we could drive margins even higher right now but I think the important thing is to fill out the strategy in a very cost-effective, you know, prudent investment manner and I believe that's what we're doing.

We're developing a Leadership business that's soon on its own will be a significant business and known in the market.

Our Futurestep business was there and we believe has a lot more opportunity for scale.

And our Executive Recruiting business continues to grow, move up market, be more significant and becoming more of a dominant player in every market it works in.

So we're very proud of what's happened.

We're being prudent.

We know that no cycle is forever.

So we watch costs, especially our fixed costs of real estate and everything else where sometimes I know our partners may be a little upset but we watch those costs closely.

But, you know, we're running a prudent business.

We're growing and based on our clients, we see a lot of run room left.

So, we'll tell you how we do at the end of next quarter.

Thanks for joining us.

But we're very optimistic about the future.

Thank you.

Moderator, we're all finished.

Ladies and gentlemen, this conference will be available for replay for one week starting today at 11:30 Eastern Standard time and running through March 15 at midnight.

You may access the AT&T Teleconference Playback Service by dialing 800-475-6701 and entering the access code 865670.

International participants may dial 320-365-3844.

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

That does conclude your conference for today.

Thank you for your participation and for using AT&T Executive Teleconference.

You may now disconnect.