Perficient Inc (PRFT) 2006 Q3 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the third quarter Perficient earnings conference call.

[OPERATOR INSTRUCTIONS]

I would now like to turn the presentation over to your host for today's call, Mr. Jack McDonald, Perficient's chairman and CEO. Please proceed, sir.

This is Jack McDonald. With me on the phone this morning are Jeff Davis, our president and COO, and Paul Martin, our CFO. I'd like to thank you for your time this morning.

As is usual, we'll have about 10 or 15 minutes of prepared comments, after which we're going to open the call up for questions. So at this point, I'd like to ask Paul to read the Safe Harbor Statement.

Thanks, Jack, and good morning.

Certain items we will discuss on today's earnings call concern future company performance and our forward-looking statements within the meaning of the Securities Law. Actual results may materially differ from those discussed in these forward-looking statements and we encourage you to refer to the additional information contained in our SEC filings concerning risk factors that could cause those results to be different than what is discussed on today's call.

Q3 was another great quarter for Perficient. We posted record revenues, record cash EPS and GAAP EPS and record cash flow, or EBITDA. We're talking about 77% year-over-year growth in services, with 70% total revenue growth. On an organic only basis, 25% organic services growth on a trailing four quarters basis.

We continue to see strength across all areas of the business as we continue to win larger and more strategic engagements, which Jeff Davis will talk a little bit more about later. And as of today, really, we see no market or industry obstacles to present -- prevent us from building on our great 2006 results well into next year.

We had very good, strong cash collections during the quarter that helped us pay down the balance on our credit facility. We had borrowed sums in the second quarter to finance a couple of acquisitions. Well, we paid that down through strong cash flows and good cash management to about $7 million at the end of the quarter. And as of today, as of November 2nd, we've paid that down to about $3 million, so just showing the great free cash flow characteristics of the business, as we've talked about.

And again, Jeff is going to speak more to this later, but a number of key operating metrics very strong. If you look at services gross margins, they were north of 39%. That's ex stock comp. As we've talked about with many of our investors, we had great gross margins last quarter but that was at an 87% utilization rate and that our goal was to move closer to 40%, even within our normal utilization band of 82 to 84%. Well, in the third quarter we had 39%-plus utilization at an 84% utilization rate, which is again within our comfort zone, and what we've proven, I think, to be a sustainable rate. So some great success on that front.

The third quarter was our 14th consecutive quarter of revenue growth, our 18th consecutive quarter of positive EBITDA. And again, regarding EBITDA, as I mentioned earlier, this business continues to generate substantial cash flow. If you give full effect to our recent acquisitions, we're now generating, ex stock comp, more than $29 million in annualized EBITDA. And as we talked about, I think we're at a point of significant forward operating leverage in the business where we will begin to see better G&A leverage just through scale, giving us the opportunity to increase those EBITDA margins through time.

As you know, we closed an accretive acquisition, the EGG deal that expanded our presence in the southeastern United States during the quarter, so very good news. We enter Q4 at an annualized run rate of more than $180 million and looking quite strong on a seasonally adjusted basis. We've got a solid acquisition pipeline and nearly $50 million of capital available under our credit facility so that we are in good shape to go out and execute on the next opportunity.

And on that note, if we can couple one additional acquisition with this continued strong organic growth, we'll be closing in very soon here on a $200 million revenue run rate, as we've talked about, and we would like to get one additional acquisition done this year. As we always say, with M&A there are no guarantees. But certainly that's our goal to close at least one additional deal. To close, I should say, one additional deal this year.

So hitting that $200 million mark obviously will be another significant milestone in our plan to grow efficient, but really it's a step along the path to the $500 million goal and revenue run rate that we've set for the end of 2010. And as we've talked about, we continue to believe we have a unique opportunity as the best positioned, most profitable and fastest growing U.S.-based technology management consultancy, as a survivor of the internet crash, to continue to pick up the pieces and consolidate this market and build the premier IT services firm in the country.

So with that, I'm going to turn it over now to Paul Martin to discuss in detail the third quarter financial results. Paul?

Thanks, Jack.

Total revenues for the second quarter of 2006 were 44.3 million, a 70% increase over the year-ago quarter. Services revenues, including reimbursable expenses, were 42.8 million with strong organic services growth of over 25% on a trailing four quarters average annualized basis.

Gross margin for services, including reimbursable expenses for the third quarter, was 36.4% compared to 36.7% in the third quarter of 2005, while 2006 includes a larger accrual for variable compensation based on strong operations performance and stock compensation expense. This gross margin on services included 243,000 of non-cash stock compensation expense, without which services gross margins would have been 37% compared to 36.7% in 2005.

SG&A expense was 9.5 million in the third quarter, including 515,000 of non-cash stock compensation expense. Excluding non-cash stock compensation expense, SG&A was 9 million, which represents 20.4% of services revenue, including reimbursable expenses. This is lower than the 22.1% in the second quarter of this year as a result of growth allowing the company to leverage its infrastructure.

EBITDA was up 50% over the year-ago quarter to 6.3 million, which includes absorbing 758,000 of non-cash stock compensation expense in the third quarter of 2006. We're now realizing annualized EBITDA run rate of 29 million, excluding stock compensation expense and before factoring a full quarter's impact of the EGG acquisition completed in the third quarter. This is our 18th consecutive quarter of positive EBITDA.

Net income was up 37% over the year-ago quarter to 2.8 million, which includes absorbing 520,000 of after-tax non-cash stock compensation expense. This is now our 13th consecutive quarter of positive net income. Diluted GAAP earnings per share were up 25% over the year-ago quarter to $0.10 a share, even with a $0.02 per share after-tax impact from stock compensation expense in the quarter. Diluted earnings per share was up 63% over the year-ago quarter to $0.15.

Cash EPS, a non-GAAP measure which we define as GAAP earnings per share plus non-cash amortization expense and non-cash stock compensation net of taxes divided by average fully diluted shares outstanding for the period. As previously mentioned, during the third quarter of 2006 our utilization was 87%, including subcontractors, and 74% excluding subcontractors.

Our average billable headcount for Q3 was 820, including 182 subcontractors. We ended the third quarter with 850 billable consultants, including 203 subcontractors. In addition to the billable headcount, we currently have 119 SG&A personnel, which brings our total colleague headcount to over 960.

Our cash balance decreased to approximately 100,000 at September 30, 2006, as a result of heightened cash management efforts. Total debt of 6.9 million at September 30, 2006 is virtually flat compared to December 31, 2005. Debt was held constant primarily as a result of heightened cash management and positive cash flow from operations and option exercises, offset by the 15.7 million of cash used to acquire businesses during the year. In addition, continuing strong positive cash flows in the early part of the fourth quarter have reduced outstanding debt an additional $4 million.

Our days sales outstanding on accounts receivable was 74 days normalized for acquisitions at the end of the third quarter, slightly up from 72 days at the end of the second quarter. However, our goal is to maintain DSOs between 70 and 75 days.

I'll now turn the call over to Jeff Davis for a little more commentary behind these metrics.

Well, thanks, Paul.

As previously discussed, we did have another very strong quarter in the third quarter and I think, as Jack mentioned earlier, I think it's important to note that the results that we produced here in terms of margins and profitability was done on 84% utilization for the quarter, which was down a little bit from the second quarter and it is at a level that we believe is a sustainable level.

Our average bill rate did decline slightly in the quarter from 116 to 112 as a result of our midyear acquisition of Insolexen. Organic bill rate net of that acquisition remained strong at 116. And I'd also point out that at the same time in the third quarter we managed to reduce the amount of expenses that are embedded in our rate. So, really, on a normalized basis it's about $1 an hour improvement. We'd be at about 117 if you net out those expenses that are embedded within the rate.

By the way, on Insolexen I'm excited about our early rate improvement success with them. The rates have already increased since the time of the acquisition from $85 an hour to $94 an hour by the end of the third quarter. So I expect that trend to continue and that our overall rates will continue to rise as well.

Gross margin remains strong, as Jack mentioned earlier, 39.3% net of stock comp. This is about 90 basis points over the year-ago quarter, another increased trend that I expect will continue as we set our goal for 2007 at 40% or better. As we've seen in previous quarters, the demand in Q3 was not confined to any particular region, solution area or partner technologies, so we're seeing good diverse demand across the board.

And again, we're closing and executing a number -- a greater number of multiphase, multimillion-dollar full lifecycle engagements. For example, we began the first phase of a multimillion-dollar engagement developing medical management ERP software for a Fortune 500 healthcare IT outsourcer. And this software is going to be used in an ASP model, application service provider model, by their clients.

At the same time we completed another multimillion-dollar engagement where we developed an end-to-end fully integrated customer acquisition fulfillment and customer service solution for one of the nation's largest communications companies. So again, diversity across the industries and diversity in the types of solutions that we're developing. We continue to see strong demand and from our vantage point, we don't see any end in sight to that.

Also want to provide another update on recruiting this quarter. I spoke about it a little bit in the second quarter and feel like it's noteworthy to bring up as we continue to see strong demand. Our recruiting team continues to deliver strong results with our current recruiting capacity at about 400 consultants per year. And again, that can support more than 30% organic growth. Also this year we implemented a recruiting organization structure and support systems that will enable us to quickly scale that capacity, the recruiting capacity on an as-needed basis.

Of course the results are the best indicator of performance and Jack mentioned earlier that we've hired more than 200 new consultants in the year-to-date. And of course that's in addition to the consulting talent we've gained through our acquisitions.

Another thing I wanted to talk about was campus recruiting and I referred to this on our Q2 call and decided to provide an update report on some of the results we're seeing form that program which we launched this quarter, this past quarter in third quarter. Our teams visited several top tier university campuses in the interest that both technology and business graduates, which we're targeting both, our showing at Perficient is really terrific to see.

At one campus event alone, as an example, in Washington University here in St. Louis we had more than 90 technology and business consulting applicants apply and it's exciting to see the very talented people, top tier schools, proactively seeking Perficient out as an employer. In 2007 I expect that campus recruiting program to be a key contributor to the growth that we've talked about and I think it'll also help accelerate, or I'm confident actually that it'll also help accelerate our gross margin expansion.

Finally, as on our Q2 call, I wanted to provide a little bit of insight in terms of the trends that we're seeing and we're witnessing in the market. We're continuing to see strong investment in application and messaging infrastructure, including continued rapid demand, rapidly increasing demand for service oriented architecture foundations, continued strong demand for customer and partner portal solutions, enterprise content management solutions for both internal and extended use to customers, of course the customer relationship management solutions, I referred to one of those earlier.

As I mentioned earlier, we continue to see a greater volume of larger, more complex mission critical solutions. I gave a couple of examples earlier and we're seeing more and more of those as kind of the bread and butter of our business, which is an important factor. 2006 we will post the largest organic growth the business has realized in more than six years. So I remain confident in what I see as a strong market and confident in our ability to continue to be a dominant player in that market.

With that, I'll turn the call back over to Jack.

-- the outlook for Q4. We expect Q4 services and software revenue, that's including reimbursed expenses, to be in the range of 42.4 to 45.1 million and that'll be comprised of 39.2 million to 41.3 million of revenue from services, again including reimbursed expenses, and 3.2 to 3.8 million of sales from software. And of course that would be typical for Q4. You've got a little bit less in the way of billing days and you tend to see a little bit more in terms of software during the fourth quarter.

Now, that guidance range on services revenue would represent services revenue growth of 58 to 66% over the fourth quarter of 2005, so we're continuing to see very, very strong growth going into the quarter. And again, as we move into the second half of the year here, very good profit generating capacity in the business as well as some of the kind of fixed costs burn off as you move through the year.

And of course we didn't note earlier, although we did in the press release, that the cash EPS that we hit at $0.15 is ahead of consensus estimate and that's even after, really, the estimate was raised from $0.13 to $0.14 in the wake of our revised revenue guidance a few weeks ago. So again, continuing to see outperformance not only on the revenue side, but on the bottom line as well.

So again, we are as optimistic as we've ever been about the potential for Perficient. We're extremely well positioned moving forward. We've scaled this business from a startup to a $180 million run rate in just seven years and again, the fastest growing, most profitable IT consultancy in the country. Continuing to realize strong organic growth, chasing the $10-plus billion opportunity and have a credible plan, we believe, to scale the business to 500 million in revenues by the end of 2010.

So with that, I'd like to open the call up for questions.

Thank you.

[OPERATOR INSTRUCTIONS]

And your first question will come from the line of Pete Heckmann with AG Edwards. Please proceed.

Morning, guys.

Good morning.

In terms of your guidance for the fourth quarter, remind me on your software guidance, is the 3.2 to 3.8, is that -- I know you had changed your guidance methodology. That's a true forecast rather than what you have booked to date, right?

That's correct.

Okay. And so if we look at that software number and then we look at the -- if we extract and anticipate amount of reimbursables, the services revenue is down sequentially a little bit from the third quarter number and clearly a little bit lower -- fewer billing days. Do we also expect a slight downtick in utilization in the period?

I think really what you're seeing there is you've got one less billing day in the quarter. The services revenue forecast for Q4 includes about $0.5 million less of reimbursed expenses. Since the seasonal performance of the business, any downtick associated with seasonality tends to hit more on the travel end of the business than the local business. So really, you're looking at better than half of that being comprised of just the fact that you've got one less billing day in the quarter and we're just forecasting less reimbursable expenses.

Okay, okay. And then in terms of just a near term bill rate trend, do we think we should see level to slightly up in the fourth quarter?

Yes, I think again, as Jeff was saying, the organic bill rate on the business is very strong. We did a great acquisition within Insolexen, as Jeff was referring to earlier, tremendous [Tibco] and Websphere capabilities, a travel model and a talented workforce there in sort of an offshore/onshore model, which is great. And we're bringing rates up there immediately.

So we're really seeing a continuation of the trends we've talked about, which is a strengthening bill rate and looking to, over the next four to six quarters, move the overall bill rate up from where we are now to something in the 120s. Now again, you've got to keep in mind that acquisitions can impact that one way or the other and that ultimately what's important is gross margin.

Now, we do track bill rate closely, obviously, as a constituent element of gross margin, but the primary metric is the gross margin number. And of course there you're seeing just tremendous performance with gross margins stock comp at 39.3% at an 84% utilization rate. That's world-class performance for us and really for the industry. And so we're very, very pleased with that.

Great. If I could just sneak in one more question, if you can just give us a quick update on the most recent two acquisitions and talk about what stage you feel they are in integration and as a follow-up, then, what is the outlook look for future M&A over the next two to three quarters?

Let me take the second part of that question first and then I'll let Jeff talk about the integration piece. In terms of the outlook for M&A over the past few quarters, as we indicated in the press release and earlier, we've got a stronger M&A pipeline really than we've seen in some time. And as Perficient has scaled, we've seen benefits of that across the business, bigger projects, more market and mind share from our partners and easier time recruiting than we've ever seen. And of course, we are a much more potent M&A buyer than we've ever been.

We were getting great deals done three, four years ago when our stock was pretty liquid security and today, with the stock where it is, we have a much more potent currency. And of course, our marketing -- our market position, our reputation in the market has grown so we've never seen a better M&A pipeline than we're looking at right now.

As I mentioned, our goal is to close one additional deal this year and of course you never know with M&A and we'll only do deals if they make sense at a given point in time and if they're accretive and if they hit our IRR hurdle rates. But that is the goal. And then I'd like to see us again look at three to four deals in 2007 that add between 40 and 50 million in revenue run rate, consistent with what we've talked about before.

So with that said, I'll ask Jeff now to address status of integration around EGG and Insolexen and any other thoughts he's got on those transactions.

Sure. Insolexen came first, of course, so it's a little further along. Already we're seeing, and I'm going to estimate here, but I think I'd put it at least 15% of the revenue that's going into that business unit now is coming from other business units. So that's always a key measure for us of the success of our integration and sort of where we're at.

As a company, about 50% of our revenue is derived from projects where business units are cooperating, working with one another, where they've got -- we've got delivery people -- or people delivering from one business unit on another business unit's engagement, if you follow what I'm saying there. That's really integration and I think it's important for the business.

Insolexen is a travel model. It's one of our national business units. So that'll happen more quickly, naturally, with them. They've got unique skills and they're seeing opportunities already with other of our more geographic locally based, locally focused business units. So I would say they're kind of at the medium stage, if you want to look at it that way.

And then EGG is a little earlier -- it was a later acquisition, came about a month, month and a half later, and it's going well. We are seeing already some of that research sharing going on in both directions. But it's a little more of an education process with those, since they're locally focused, geographic based, it's a little more of an education process with their team. But we are already seeing that traction. So in both cases, we're real pleased with the results.

As I mentioned earlier, we're seeing rate improvement pretty dramatic with Insolexen and already with EGG we're beginning to see some as well and that'll be more of a branding issue and having a little more scale, a little more ability to be confident in your pricing. And in the case of Insolexen it's just a matter of providing a better source of demand, being our own business units. Does that make sense, Pete?

Yes. Thanks very much.

Sure.

Your next question will come from the line of John Maietta with Needham & Co.

Yes, thanks very much. First question I had was for Paul. Paul, I was wondering if you could provide a rough revenue breakdown either by practice or by industry vertical?

Yes, sure. Let me first say the revenue industry and solution type information is directional in nature and not intended to be absolute. Acquisitions make data assimilation in a consistent format challenging. But with that, the revenue by vertical is financial services, insurance and banking 15%, healthcare 17%, telecom 9%, computer software/computer services 16%, are the largest categories. And from a solution type, 22% for portals and collaboration, 30% for business integration, 15% for content management solutions and 10% for customer self-service.

Got it, okay. And then, Jeff, I know it's still early days with the [inaudible] IBM acquisition of Webify, but have you seen any work around that acquisition?

You know, I wouldn't say that we've gotten any revenue yet from it, but we're certainly plugged into our channels there. It takes IBM a while, as you might imagine, when they acquire a business like that it tends to operate kind of standalone within the environment and then they bring it into the lab services umbrella, who've we've got strong relationships with, and even integrating on the sales force side. So, as you know, obviously we've got those skills, why you're asking the question, and we're starting to see some signs of traction early on. We're not driving a lot of revenue yet, but I certainly expect to. Warm reception, you know we've got a great relationship with IBM and they're excited about getting us plugged into that.

Okay. And then, Jack, more of a philosophical question. Everything that we see suggests that the IT spending environment is strong. But hypothetically, if we were to see that slow a bit, it would seem to me that Perficient has a pretty defensible position given that there's a large backlog of work out there in the midmarket and there are very few quality IT services firms that have the breadth and the depth to provide those services. Is that a fair characterization?

I think it is. I mean literally nine out of 10 of our competitors got taken out during the crash and we see a situation right now where we're competing against the big guys maybe 20% of the time and have had a tremendous win record against the Accenture's and BearingPoint's of the world and have a very compelling value proposition. And again, it's really only 20% of the time because typically they're looking at project sizes above our sort of $3 million and below kind of strike zone.

80% of the time we're competing against smaller boutiques that we can beat pretty handily on depth, scope, scale, vendor endorsement, client references, so it's a very attractive competitive environment. We see a situation with cash on corporate balance sheets at an all-time high, confidence up in executive suites. You've got a six, seven-year backlog of strategic IT projects that haven't been addressed since Y2K and the crash and that demand is being met by a set of technologies now from the major vendors, including IBM, that are really ready for primetime and that are driving material ROI for our clients, which is going to mean increased spending.

So we're very bullish that you're in the early innings of this ball game. You've also got trends, and Jeff referred to this earlier, like SOA, service oriented architectures, which again is just increasing the bang for the buck for our clients and I think is going to drive some significant growth going forward.

Great. Thank you very much.

Your next question will come from the line of Anurag Rana with KeyBanc Capital Markets. Please proceed.

Good morning, everyone.

Good morning.

Just wanted to get some idea about gross margins. They've been very good for the last two quarters -- I mean this quarter and the quarter before. And I do know there's some seasonality playing in going into the fourth quarter as well as the first. Could you give some idea how you plan to get to 40% for next year, on the services side I mean?

If you look at it, it's really going to be a function of enjoying an increase in bill rate because we're running right now, as we just talked about, at about an 84% utilization rate, except contractors, in the third quarter. And we, I think, have shown over the last 14, 15 quarters on average that we can run the business at an 82 to 84% utilization rate. So you're going to -- and we are seeing in general an increase in average bill rate on an annualized basis of low double digits against wage inflation that's running at about half of that. So you've got a virtuous spread, which should help us to raise gross margins through time.

In addition to that, as Jeff referred to earlier, we are looking at additional opportunities to lower labor costs, both through more on-campus recruiting, which again makes more sense in that the solutions are in an environment in which we're operating, and of course with acquisitions like Insolexen, utilizing a labor pool that has more attractive costs associated with it than might typically be the case. So those are really the factors that are playing into it.

Great. And just could you also comment about the seasonality that's how you envision the next two quarters given there's some seasonality over there in terms of gross margins?

Sure. Jeff, do you want to speak about gross margins specifically around Q4?

Yes. I think as we mentioned earlier, we don't -- we kind of hold ourselves to -- try to hold ourselves to a pretty high standard in terms of the way we measure utilization. So we don't net any vacations out of that. We do net the holidays out. So the one day that Jack was referring to we net out of the denominator for utilization, but we don't on holidays. And Q4 is the -- I mean we don't on vacations, sorry.

Q4 is the time of year when we expect to experience a number of vacations, so I think utilization will be a bit down for the fourth quarter and in turn gross margins will be a bit down but it'll simply be a function of utilization and I expect that that'll rebound in the first quarter. And as I mentioned in terms of our goal for next year, and I think as Jack explained well, I'm very confident that we'll make that happen and get the gross margin for the year into the 40s.

Thank you.

Sure.

And your next question comes from the line of [Quint Slattery] with [Symmetry Peak Management]. Please proceed.

Hey, guys. Terrific gross. Just a quick question, with your cash balance it seems to be a getting a little bit lower and with these extra acquisitions, do you guys intend to raise some more money in order to finance some of the growth and bolster the balance sheet or are you going to just subsidize it with cash [inaudible]? Thanks.

No, there are no immediate plans to raise any equity financing. We have been very consistent on this in what we've spoken to investors about. We have very strong operating cash flows, EBITDA, again giving full effect to our recent acquisitions, running at about 29 million annualized, only 3 million in debt and we have a $52 million facility. So we are a in a very good position to finance, obviously, operations and organic growth and even the cash portion of acquisitions using the debt facility.

We do have an equity shelf out there and if we were to pull something down off it, we said at some point we would look at doing a 10 to $15 million kind of overnight transaction. But we would only do that at a point when we had debt on the credit facility to pay down so that there would be an immediate, I should say, accretive impact from that. And as I say, we're just paying the debt down so fast out of operating cash flow that we don't have a need to do it. So nothing imminent there.

Okay. And just with some of the economics [data out] this morning, they're suggesting wage pressures and wage inflation. Is that something that you guys think you can increase pricing to offset that for the near term and the long term?

Yes, we've seen a virtuous spread there, really. We're looking at average bill rate increases running roughly 11% a year against wage inflation running around 5. So there's a virtuous spread right now and that's one of the things that's going to be contributing to increased gross margins through time.

Thank you.

Your next question comes from the line of Colin Gillis with Canaccord Adams. Please proceed.

Hi, everybody.

Hey, Colin.

HI, Colin.

Can you just talk a little bit, Jack, about some of the larger engagements that you're winning? Does this have the potential to spill over into new business as -- in terms of reaching those customers, suppliers, and those customer's customers?

Sure. I'm going to let Jeff talk a little bit about this, but maybe Jeff specifically the healthcare outsourcing deal and the opportunity once that application is fully embedded to tap into some of the supply chain there.

Sure, absolutely. I think certainly that's true in that the one healthcare company that I referred to in and of itself I think can yield a great deal of new business for us and I think that's already begun, we're already being introduced into other areas of their business. But I'll give you an example without naming names.

We did -- actually, it was nice to see, not something you've seen in a few years and we're seeing it more and more, where we've actually got clients calling us. And in fact, it was exactly the scenario that you're asking about where we had done work for the provider side of the equation, and again, this is back in the healthcare space, insurance space, and we had their -- one of their clients contacting us to do work for them on the kind of receiving end of that. So and that's not the first time it's happened. It happens time and again.

Also when you establish yourself in a particular industry, and one of the examples that I cited earlier was in the communications side, and we do a lot of work actually in communications and it's a growing part of our business in terms of industry vertical. And again there, once you've done work there, something as large as we've done and one of these large multimillion-dollar high impact solutions for those companies, you certainly have a much better entrée into the rest of that sector. And we're seeing traction around that as well.

So the short answer is yes. Hopefully the context provided some help there.

Yes, great. And then just along those lines, two of your competitors or two of the companies that are in the same range in terms of size are experiencing significant management turmoil. Any comment as to what that does to your business or do you not see those people in the marketplace all that much?

You know, I think it does -- I think it does help. You always want to see the industry, our industry as healthy and it doesn't hurt us certainly when the issues are not market driven and they're internal, driven by internal strife. So I think we haven't seen any direct impact from that, I wouldn't say, but anytime that the standard or the vendor of choice sort of falls on hard times, especially self-made, it doesn't hurt us.

Yes, got it. And so once you look beyond the [inaudible] [bracket], I mean the pathway in terms of your ability to win business, has it ever looked better?

Oh, I would say not, not at all. Our win rate is the highest it's ever been. When we get the opportunity to really compete on an even playing field, I would put our win rate above 70%.

Okay. And then just on turnover issue, can you just discuss what it's looking like in terms of the company and then just anything versus turnover versus expectations for Insolexen and EGG?

Sure. Our -- you mean -- within Insolexen and EGG you mean specifically the turnover?

Yes and then company-wide, too.

Sure. Our voluntary attrition rate is running in the high teens, just below -- well, in the high teens, right around 19% trailing 12 months. The industry -- I don't know if you read Consulting News, it's a Kennedy Information publication; they track a lot of metrics in our industry. I find it very useful. And they reported in the second quarter industry averages and they're citing Accenture, [Cyber, Keen], Answerthink, companies like that, the industry average was over 23%. So we're enjoying below average voluntary attrition and I expect that to continue. I think this is a good environment. I think we have a good culture, et cetera, and we'll continue to try to work on that and maintain that.

In terms of EGG and Insolexen, there's always a little bit of a blip as we do an acquisition, but no more than usual with those two guys and, in fact, they're really both already behind us. So they're baked into those numbers I just quoted. We don't -- we don't carve out -- we don't carve out acquisition attrition from our normal attrition numbers, so when you consider that we've got -- attrition does spike a little bit right after an acquisition and, like I said, that's baked into the numbers I gave you, I think we're in good shape there.

So basically attrition versus expectation, it's in line or it's -- ?

I think we're -- yes, I think we're a little bit ahead of the rest right now, knock on wood. I think we can continue that.

Yes. How about addressing the overall skill the company has at integrating deals now? 2006 was an active year; you've gotten a lot of different hurdles thrown at you. Are you more comfortable in your ability to integrate deals and the speed with which you can pull in these smaller operations into the company?

Yes, absolutely. And the easy part of integration, I think, and the hard part about the easy part is making sure you don't disrupt things for the employees, the things that are important to them, compensation, healthcare benefits, things like that. Like any of us, that's why we're here, right? So you've got to be careful about those and I think we're doing a very effective job of transitioning those systems quickly and relatively painlessly. That's not to say we never have an issue but we deal with it right away. But that's sort of the easier part.

And the more lengthy and strategic part of it, as I was referring earlier, is that cross-selling education and really getting that teamwork, effective teamwork going on right away and the nice thing about that is that we've done enough deals now to where everybody's on board with that. So when we bring a new business in, we've got, as the leaders in our organization, about half organic and half folks that have joined us probably in the last 18 months and they all get it, they've been there before.

So we leverage them to help integrate the new business and it actually works very well. They reach out very quickly, they understand what those folks are going through in terms of maybe some uncertainties, help to ease that, and then also immediately seek to leverage the skills that they bring to the table. Everybody's got an equity stake and they want to see that perform and it's actually there's a lot of, I hate to use the word but I'll use it anyway, there's a lot of synergy. It's actually pretty cool right now.

Okay, great. I have a question for Paul and then one final one for Jack. Paul, could you talk about tax rate, your thoughts in terms of your ability to lower that in '07? And then also do you expect to get through the 404 process cleanly this year?

Sure. With respect to the tax rate, it's really driven by the federal and state rate are roughly 39%. And then we also have some legacy ISOs that were issued that under the accounting pronouncement for stock compensation we have expensed for those, it's not deductible. So it should stay in a reasonably similar range to where it is -- to what you're seeing here in the third quarter.

And with respect to SOX, as I think everyone knows, the company had a material weakness in 2005. The company has aggressively committed additional internal and external resources to addressing this in 2006 and have put in plans to address the significant deficiencies that were identified in 2005. And the company is committed to removing that material weakness here in 2006. We have a plan put in place to do so and we're tracking on that plan. We'll continue to aggressively work at that through the rest of the year.

Okay, great. Thank you. And just, Jack, sort of the questions we're getting is tied to the guidance range you gave. The top end of it is the current first call estimate. Can you just wrap some color around your thoughts about that, seasonality in the December quarter, your historical patterns of the company, that type of item?

Sure. I think in terms of the top end of that range and the consensus out there, I actually think there was one outlier on revenue that probably drove that range up a little bit, so I wouldn't read too much into that. This is a very, very, very strong Q4. You've got one less billing day, as I mentioned there's $0.5 million less of rebuild expenses in there, and we're assuming, I think, two additional vacation days over what we had in Q4 and that really just relates to the fact that it's the holidays and that you've got -- we've had a very, very busy year with high utilization. So people should not read a negative into that. That is normal seasonality.

And if you look at it on a year-over-year basis on services, you're looking at 58 to 66% growth and, as you know, we always employ a conservative guidance methodology. This does not represent any kind of a slowdown in growth. Again, we're talking 58 to 66% growth, it's normal seasonality; we have not seen a stronger environment for organic growth than what we're seeing right now. Margins, the gross margin side are just excellent, we're really hitting the goal we had set out on the gross margin side a full year here ahead of when we talked about it and now we've got to execute on that consistently through time.

And in addition, as we look into 2007, what we've talked about in terms of operating leverage and being able to increase those EBITDA margins due to better G&A leverage of the business, I think we're going to be able to execute on that. So you're looking at great organic growth, improving gross margins, an opportunity to increase EBITDA margins and the bottom line in a material way, we've got the largest M&A pipeline we've ever had, we've got just $3 million of debt and $50 million of capacity and just great free cash flow characteristics.

So I am as optimistic about this business as I have ever been.

Okay, great. Congratulations on a fantastic quarter. Thank you for taking my questions.

Thank you.

Thank you.

There are no more questions in the queue. I would now like to turn the call back over to Mr. Jack McDonald for closing remarks.

Okay, well, thank you very much. Appreciate everybody's time today. As I said, I think we are extremely well positioned as we head into next year and we look forward to getting back together with you to discuss the Q4 results. So again, thank you for your time and good morning.

Ladies and gentlemen, thank you for your participation. This concludes your presentation. You may now disconnect and have a great day.