Resources Connection Inc (RGP) 2004 Q3 法說會逐字稿

Good day and welcome everyone to the Resources Connection third quarter fiscal year 2004 earnings results conference call. This call is being recorded. With us today from the Company is Miss Kate Duchene, Chief Legal Officer; Mr. Stephen Giusto, Chief Financial Officer; and Mr. Don Murray, Chief Executive Officer. At this time I would like to turn the conference over to Miss Kate Dechene. Please go ahead ma'am.

Thank you everyone for joining us today. John and Steve are both with me. And they will be presenting the majority of the remarks. But I wanted to remind you that during the call we will be providing you with comments on our results for the third quarter of fiscal 2004. By now you should have a copy of today's press release in front of you. If you need a copy, and are unable to access via our year ourwebsite, you can call Margaret Porter at 714-430-6363 and she will be happy to fax a copy to you. Before introducing Don Murray I would like to read an important announcement about certain statements we may make during this call. Specifically, we may make forward-looking statements. In other words, statements regarding future events or future financial performance of the Company. We wish to caution you that such statements are just predictions and actual events or results may differ materially. We refer you to our 10-K report for the year ended May 31, 2003, and subsequent 10-Qs for a discussion of some of the risks, uncertainties and other factors such as seasonal and economic conditions that may cause our business, results of operations and financial conditions to differ materially from results of operations and financial conditions expressed or implied by forward-looking statements made during this call. I will now turn the call over to Don Murray, our Chairman and CEO to give an overview of the quarter.

Thank you, Kate. Welcome to our third conference call of fiscal 2004. Resources Connection is a professional services firm originally founded within the big five accounting industry -- now the Big 4 or the Final 4. The United States and the Asia-Pacific region we were originally part of the DeLloyd and Touche (ph) and in Europe part of Ernst & Young. We provide accounting and finance, human capital, information technology professionals to serve companies' internal consulting needs on a project-by-project basis. Through our subsidiary, Resources Audit Solutions, which we refer to as RAS, we serve our clients with risk compliance and consulting and internal audit services -- including outsourcing and cold sourcing. We deliver supply chain management services through our division Resources Connection Supply Chain Management. And we provide our services to clients through more than 60 offices worldwide. We have been best-known for accounting and finance services and have added our additional service offerings to meet our clients' needs.

First, let me summarize the operating results from our third quarter of fiscal 2004. As indicated in our press release today, revenues for the quarter were 87.8 million. This revenue is higher than the third quarter of a year ago by 78 percent and is sequentially higher by 19 percent. Revenues from our operations that have been part of Resources for twelve months or more, that is, excluding the revenue from recent acquisitions, we were higher by 49 percent than the year ago period. Steve will provide additional detail of revenue trends during the quarter in his review of operations later in the call, as well as a recap of domestic and international revenue. These revenue results reflect stronger demand since the holiday season. Our domestic practice has experienced growing demand through the quarter and our domestic weekly revenues reflected an improving trend throughout the quarter. Revenues internationally continued to be impacted by the European economic slowdown. But the combination of our UK and Dutch practices grew sequentially during the quarter, as they both benefited from multinational opportunities from our U.S.-based clients. The revenue growth contributed to improving operating margins and earnings during the quarter as well. This momentum has so far continued into the first few weeks of the final quarter of the year.

Implementation of our growth strategies is helping us in this ongoing tough economy. First we are continuing to penetrate our largest clients. Total revenue in the quarter from our 50 largest clients was 82 percent greater than the revenue from the top 50 clients in the third quarter of fiscal 2003. Year-to-date, the comparable percentage increase was 59 percent. We have more than 100 clients with $500,000 or greater revenue runrate level. We feel our position in the marketplace is as an alternative to the Big 4 for the work that we specialize in. Second, we are adding new significant clients and some of our new clients is year will generate more than $1 million in revenues. Of our 50 largest clients in fiscal 2004, 13 were not clients two years ago. Third, our international geographic expansion has allowed us to become more relevant and useful to major multinational clients. We believe we're working on the types of large-scale geographic projects that in the past would have been done by a major accounting firm. We recently announced the start of effort in Japan as we continue to expand in the Asia-Pacific region. We believe Japan will be a challenge for us. But we're confident our model has timely relevance there. And forth, we continue to diversify our revenue base across our five services, so that we can expand our services for clients in a variety of professional areas. While accounting and finance is still our largest service offering, it is becoming less significant as our other services grow to scale. These are the four components of the strategy we laid out when we started Resources and later went public. We continue to look for ways to improve our client service and become more useful to our clients. We can do this without the burden of independence necessary for a Big 4 audit firm.

Gross margins for the quarter were about 39 percent domestically and about 35 percent internationally and overall gross margin was just over 38 percent. As seasonally expected gross margin was impacted by the holiday season, both domestically and in Europe. Gross margins continued to be affected by low conversion fees -- less than one percent of revenues -- and high reimbursable costs. However, our overall pricing remains strong. Results across our service lines were as follows. Our Italian finance business which represented the majority of our revenues, grew 27 percent year-over-year, excluding our acquisitions. Our information management service grew 56 percent. Human capital services grew 16 percent. Supply chain management contracted 9 percent as it repositioned itself as a resources entity, and Resource Audit Solutions which was formed during our last fiscal year, was 12 times larger than the quarter, a year ago. We continued to experience strong demand for engagements dealing with Sarbanes-Oxley compliance. One evolution sparked by the demand for Sarbanes work is that we're winning more engagements that require multiple offices in countries to coordinate service to our clients. This is an area where are Big 5 experience adds to the value we deliver. We have a number of clients that we serve in multiple countries including countries where we do not yet have established offices. And I believe that our corporate culture that encourages teamwork enables us to provide this value-added client service and resource of engagement. These are the types of projects we envision when we developed our strategy of becoming a multinational company. On the other hand, these larger engagements create new management complexities and operating risks. We are cognizant of the potential impact that the end of these large projects can have. We're working hard to ensure that when the biggest Sarbanes projects end, that we have alternative work. Our client service model envisions building client relationships that will continue. The state of the economy will also affect our ability to continue to grow. Revenues from our 50 largest clients represented 48 percent of total revenues during the quarter and our largest client was about 7 percent of revenues. We're providing service to this client throughout the world. Our first engagement with this client was not related to 404 work, but allowed us to build a relationship, so that they trusted us to help with the current for 404 project. Our client retention among our largest clients continues to be excellent. As we have previously discussed, the most significant strategic move we made this fiscal year was the purchase of Ernst & Young's Executive Temporary Management BV in the Netherlands. That practice has now been part of Resources for over six months. Our Dutch practice was affected in the first several months after acquisition by the slow economy and the expected seasonal downturn during the summer. It was modestly profitable during Q3 and on a local currency basis, revenues were up a little from Q2. And a solid result, given the negative impact of the holiday season. We remain cautious about the impact this practice will have on our consolidated results for the year, but are pleased about having a practice on the continent, because it opens up the multinational opportunities we would not otherwise win. Now here is Steve with additional information on the results of the third quarter.

Thanks, Don. Revenues totaled $87.8 million for the quarter versus $49.2 million in the comparable year ago quarter and 74 million in the previous quarter. These results represent year-over-year growth of 78 percent and a sequential improvement of 19 percent. To help put this in context, let me give you some information on how weekly revenues progressed during the quarter. I will start with data excluding the Dutch operations. Revenue trends were positive throughout the quarter. Other than in the four weeks during the quarter that have holidays, revenue grew practically every week. The average weekly revenue, excluding the Dutch practice in the third quarter, was approximately $5.7 million per week. Revenue during the quarter ranged from 2.6 million per week in the Christmas week, to $6.9 million per week, the last week of the quarter. Since the end of the third quarter we have experienced improvement in revenues. Revenues not including the Dutch practice during the first three weeks of the quarter were about $7 million per week. Now let me discuss the Dutch practice. There has been a slight upturn in that business when you factor in the holidays during the third quarter. We feel we feel the practice is stable and has a platform for growth as the European economy improves. Revenues for the quarter were up 3 percent sequentially, on a local currency basis, and up about $1.2 million due primarily to the currency fluctuations. Total revenues for the Dutch practice in Q3 were $13.4 million. This represents a year-over-year decline of 15 percent on a local currency basis, but up 2 percent on a dollar basis. Now let me give you weekly amounts on a fully consolidated worldwide basis. On a consolidated basis, revenues averaged $6.7 million per week during the quarter and we closed out the quarter at about $8 million of revenue per week. As we entered Q4, revenue per week on a consolidated basis grew slightly. There have been three weeks of the end of Q3 and revenues have improved to a run rate slightly above $8 million per week. At this pace we estimate that revenues in Q4 could exceed a $100 million. However, reaching this level presumes that the traction we have seen in Q3 continues through the remainder of the fiscal year.

Now let me switch to gross margin. I will first discuss domestic gross margin on a basis comparable with prior disclosures and then margins in newer international operations. As we mentioned in last quarter's call, gross margins in Q3 tended to be seasonally lower due to the holiday period. Domestic gross margins were about 39 percent for the quarter. The holiday impact lowered the domestic gross margins by 140 basis points. Furthermore, although conversion fees which have a disproportionate impact on gross margins were up a little as a percent revenue, they were still less than one percent of revenues during the quarter. As we also described last quarter the geographic diversification of our business has resulted in more travel by our associates. And in Q3, these sorts of engagements resulted in higher client reimbursement revenues that have no margin. Reimbursement revenue was three percent of revenue during the quarter. Previous to the accounting change required by an EITF pronouncement in April 2002, reimbursable expenses were not part of our gross margin calculation. Even today we only manage gross margins internally based on factors we control -- bill rates and pay rates, excluding reimbursable expenses. After taking all these factors into account, domestic gross margins during the quarter were above our 40 percent target. Our international practices have historically maintained lower gross margins. They also are impacted by the holidays. Gross margins for these practices were approximately 35 percent during the quarter. The reasons for a lower gross margin include a different employment model to fit the laws and customs of several of the countries. Gross margins for the final quarter of fiscal 2004 should be higher as there are fewer holidays. We expect reimbursement revenue to remain more or less consistent with this quarter as a percentage revenue. And we're unable to predict the conversion fee impact, as this is not a revenue source that is managed. However, we expect continued low conversion fees. Gross margins on a consolidated basis are estimated to be about 39 percent, about a full point above what we recorded this quarter.

Associate headcount at the end of the quarter was 1980 compared to 1181 a year ago, and 1665 last quarter.

Now to the other components of our third quarter financial results. Selling, general and administrative expenses for the quarter were $22.7 million, or 25.9 percent of revenues. In the year ago quarter, SG&A was 28.8 percent of revenues. And in Q2 of this year, SG&A was 27.7 percent revenues. The increase in revenue during Q3 allowed us to leverage the infrastructure and SG&A as a percent revenue fell, as we expected if we grew revenue. Increases in the dollars of SG&A, both sequentially and year-over-year, are primarily the result of internal headcount additions from our newly acquired businesses in the domestic offices where demand is the strongest. SG&A was $14.2 million in Q3 a year ago, and was $20.5 million in the previous quarter. Depreciation and amortization were just over $1 million for the current year quarter, versus $626,000 a year ago. The increase is due to the amortization related to the acquisitions previously described. Interest income was $147,000 for the quarter versus $231,000 a year ago. Invested cash earned 1.3 percent during the quarter and interest income was negatively affected by the very low interest rates available in current market conditions and by lower cash balances as a result of the cash used in acquisitions. Our operating margin for the third quarter was 12.2 percent compared to 10.0 percent in the year ago quarter. This increase is attributable to the rapid improvement in revenue during the quarter. Earnings for the quarter were $5.8 million or 24 cents per share versus $2.7 million and 12 cents per share a year ago. During the quarter, the Australian and Dutch operations contributed about a penny per share on an operating basis.

Now let me turn to our balance sheet. Cash and investments at quarter-end were $48 million. Receivables at quarter-end were $55.7 million. Days-sales-outstanding at quarter end were 49 days compared to 46 days at the end of the previous quarter. The increase in receivables and DSO is primarily the result of rapid revenue growth during the latter part of the third quarter -- a good problem to have. Our goal is to reduce DSO to historical norms. But it will be difficult to make a significant improvement, if we continued to grow revenues as quickly as we did these past two quarters. Even with slightly longer receivables, we continue to have a very strong balance sheet. Now let me return the call to Don for some final comments.

Thank you, Steve. Let me summarize. Our employees are proud of their results during the quarter. They have worked hard during this recession to implement our strategies and lay the groundwork for our growth. We have good momentum heading into what is normally our strongest quarter. We believe we have positioned Resources to capitalize on the potential increase in demand for professional services and the independence issues that have affected the Big 4. There also new risks. We're being asked for help on larger, more complex assignments. Unexpected delays or cancellations of such large projects could affect our ability to grow within a quarter. We need to successfully implement strategies to deal with demand in a post Sarbanes environment, should that occur. Also, we're facing more competitive market for talent. So, if we're not able to attract the number of talented people required to address demand for services, we would lose revenue opportunities and could create service issues for our clients. Fortunately these are issues that result from our success in the marketplace. Internationally we're working to penetrate some of the larger accounts, whereas part of the Big 5, our predecessor practices had conflicts from trying to serve other clients of their parent. These conflicts have now been removed. Our growing international footprint is important to our positioning as a real alternative to the Big 4 for their noncore services. The improving demand for help implementing Sarbanes-Oxley and the additional breath of services we have developed over the course of the recession, position us to continue serving multinationally. I believe the Company has made excellent progress during this quarter and we will work hard to try and continue the progress in the future. We'll continue to be opportunistic, to expand geographically and diversify services. And this expansion may be from appropriate acquisitions or through organic effort. We continue to believe there are services being performed internationally by divisions of the Big 4 that may no longer be viable or appropriate for them as they are precluded for their audit (indiscernible). We continue to see unprecedented change in the professional services marketplace and this creates opportunity. So, we would be glad to answer your questions.

(OPERATOR INSTRUCTIONS). Andrew Steinerman with Bear Stearns.

Obviously a good quarter here. My question has to do with the Dutch acquisition, ETM in particular. If you look at just the Dutch clients, did I catch you right, Steve, to say that that is stable? Or if you looked at just the Dutch clients, that is contracting?

I would say, Andrew, that we feel the whole practice is stable to slightly up. To parse it between opportunities that come from -- multinational opportunities versus Dutch opportunities, specifically, is not something that we're focused on. What we're really focused on is how they can continue to develop their business from within the Netherlands and across Europe. And they're making good progress.

Last quarter, I know you sort of had to inject some investment into ETM. Do you feel like ETM now is in the leverage mode?

I'm not sure we said that last quarter. I don't think we injected the investment into ETM in the last quarter. I think they were slightly profitable last quarter. So, they didn't take any investment. We feel they're stabilized. We believe that and they believe that that I think that their people feel really good about being part of Resources and the opportunities they have. When we have them work on a multinational engagement, especially with some of these very large ones, it takes time away from their prospecting in the Dutch marketplace, too. So I would say the fact that they believe that their market is stabilized and actually improving, while they have been devoting significant time to working on multinational engagements is a very positive thing for us.

Last question. Obviously with such strong growth, I assume you your recruiting engines are going much stronger now. How would you describe the health of your recruiting? Is it possible that recruiting actually will be a constraint to growth this year?

Recruiting could be a constraint to growth, especially in several marketplaces where we have had explosive growth. And in fact we are trying to address that by having, in both April and May, sessions with recruiters from our major marketplaces to get back into the recruiting -- selling mode. Whereas before in the recession, we had been in the recruiting reactive mode. We are going to go back to doing some of the things that we did in the high times of the late '90s, when we were able to grow in a very tough job market.

Sounds good and healthy. Thank you.

Chandy Smith, CIBC World Markets.

My question is about the strength in Sarbanes-Oxley work. Previously, you provided a run rate for Resources Audit Solutions. Can you provide that again? And, perhaps, break out the amounts related specifically to Sarbanes-Oxley? And also characterize the pipeline -- does it continue to build? Or do you think that we're at a point where most of the clients have already sought out help for those services?

Let me address the question from different angles and then if it's not satisfactory, ask me something else. We know that Sarbanes-Oxley for us is a very unique opportunity. At the same time, it provides a lot -- these big engagements that we have, provide a lot different type of risks than we have had in the past. I would say that the run rate for Resource Audit Solutions currently is about 100 million a year. And so that for us -- we're very proud of it -- being it's an organic business that we have grown. But we also opened RAS at the right time. And we have been using it to market to our client base that we already had. So, we already had a distribution network so we could bring them a service that they needed. I don't think that we have seen the peak of Sarbanes-Oxley, because many companies -- most companies still have not implanted it. Most companies, as far as we know, are still looking for the right solution to implement it. Most companies are going to be resource-bound when they implement it. Part of our strength, we think, is that we are really proficient at client service. Identifying and helping our clients' needs. We look at Sarbanes as one big need that they have. And if we're in a big company, we should be able to help them when they identifying other needs while we're doing Sarbanes. If they do Sarbanes correctly, it is going to identify other errors or issues or weaknesses that they have to address. And we think we will be able to help them with that. Our largest client right now is a Sarbanes project. But that Sarbanes project came to us because we have been doing a very large project for them that wasn't Sarbanes-related. Looking at our second largest client, it is not a Sarbanes client, yet. Though, we're hoping to help them with their Sarbanes work. Our third largest client is also not a Sarbanes client. Our fourth largest client again is not one yet that we are intimately involved with Sarbanes, because the company hasn't really implemented it. And our fifth largest client -- we're not involved at all in Sarbanes. So we think we still have a lot of opportunity in Sarbanes. We also think we have a lot of opportunity to convert the Sarbanes work into other ongoing work. We have to execute and work hard to do this and so we're trying.

That's very helpful. Just one additional question with respect to domestic gross margins. Taking into account all the adjustments that you suggested, it looks like domestic gross margins actually increased year-over-year. I am wondering if there are particular areas of your business where you're seeing significant increases in gross margins year-over-year?

I wouldn't say so, Chandy. I would just say that our model is consistent across our service lines -- that we have a target that is more or less at the 40 percent level. And it moved up or down marginally, between a pretty narrow range, close to 40. We are certainly recognizing that in some of the higher-demand areas, that clients are pretty anxious to get help. And so pricing remains strong. But we're not not pushing hard to expand our gross margins.

Take. Great. Thanks.

Dave Koning, Robert W. Baird.

Congratulations on a very strong quarter. Just wondering -- with the solid ramp in Q4 revenue, how should we expect SG&A to ramp during the quarter?

On a pure dollar format, I don't think we have any real plans of expanding -- in any significant amount -- the dollar of SG&A that we're spending. We are continually hiring resources for the offices by client service directors, recruiting directors. We plan to open another new domestic office in the quarter. So we are going to continue to add that. But, nowhere near an unusual amount. Steve?

I would say that because of the normal addition of things, as growth continues, that there will be some modest increase in the dollar amounts. But we still believe that there is opportunity to leverage the infrastructure. And so if we continue along the revenue path that we have seen in the last quarter, we should have the opportunity to continue some additional leveraging of the infrastructure through the end of year.

Secondly, you mentioned the strength based on practice groups. I am wondering if recent strength over the last few weeks has been pretty similar with RAS being the top -- and just if you're seeing ITNFNA continue to ramp pretty strongly too?

I would say that the RAS work which includes (indiscernible) but also includes internal audit projects that we're doing continually, is expanding. But then again, it's a newer service line. So, newer service lines do expand quicker than the more mature ones. And we're getting strength in most of our service lines. At the same time, part of our demand curve looks like the Big 4 demand curve in busy season. And that starts for the Big 4 ramping down after March 31st, because that is the public reporting deadline. We may see some softening in demand in the normal cycle and some strengthening of the Sarbanes-type demand.

Greg Cappelli from Credit Suisse First Boston.

What ever it is you're doing out there, if you could send some our way, we would appreciate it. First question is on the -- you guys talked a little bit about the ability to deal with additional demand. And you added the 200 associates, the headcount -- how much, Steve, if you can give us a little color about performance, this quarter, was associated with that? And where you see -- where would you like to be at -- are there some targets out there you can share, in terms of what you would add maybe to the rest of year? And then as we going into '05?

Most of the improvement during the year was from headcount. Our rates continued to improve and improved by about 10 percent. When you look at really the primary driver of revenue growth -- it is headcount growth. And that has always been the case and it will continue to be the case. Our ability to continue driving weekly revenues to a higher level will at some level, as Don alluded earlier, will depend on how successfully we can continue to attract talent. And also as he said, while we have a couple pockets up where we have seen very, very rapid growth, where there might be some pressure across the board, we're still comfortable that we have a recruiting model that is effective and an attractive place to work. And, therefore, we expect to have -- at least within some reasonable level of growth -- the capacity to grow. We have not set targets in terms of headcount growth for our associate base. That level really just changes with demand and we'll push as hard as we can to make certain that we get appropriate talent levels to handle the demand that we see in the marketplace.

I'm sorry if I miss this earlier, are the deals -- are you just getting more -- are you signing more clients? Or are you actually -- are the deals with current clients getting larger with each week that goes by, as well?

I would say both of those factors were true in the third quarter. Our larger clients got bigger, as we did more work for them multinationally. And at the same time, we have been adding new clients.

Don, maybe just general tone of your clients right now, in terms of their future spending?

I think it is still very cautious out there. We look at our conversion rates as an indication of the strength of job hiring and the strength of clients' confidence. And our conversion rates are still very low. Again, they are less than one percent and in April 2000 they were 5 percent of our revenues. Clients are spending the money -- because one, they have to do it in certain areas. Some of our projects -- big projects -- are projects where it is not Sarbanes-related, it is some area that they had been ignoring, that clients are now trying to a implement. We have one large client that -- this has gone on for a year or plus -- that is really an operational improvement -- various projects for operational improvements. They're doing it because they think we need to do it to be competitive. But I still think is a cautious spending environment.

Got it. One more quick one. Assuming it holds -- the increased demand, are you still thinking of six to eight new office in '05?

We have said that that was kind of an annual target, generally. But for instance in the last year, our additions have been through acquisitions. We don't have -- specifically identified -- that many new markets that we are anxious to open, though we do have a couple that we're looking at actively, domestically. And we did add the Japanese practice recently. I wouldn't use that is a hard and fast number, Greg -- it's just more of a guideline, in terms of what we have done, historically.

Great job, guys. Congrats.

(OPERATOR INSTRUCTIONS). Randy Mehl, Robert W. Baird.

Congratulations on the great quarter here. Can you guys hear me okay?

Yes.

Don, you mentioned the challenge -- or the upcoming challenge in getting people. Are you more concerned about the directors or producers or the associates?

The associates.

You're obviously ramping the producers as well here. And I'm wondering is that -- that hasn't become a limitation at all?

No, no. In fact, some of the people we have seen recently are just really excellent. The individual that we hired to start the Tokyo practice for us is -- we think he is just an outstanding professional. And so that has not been a limiting factor for us.

Pardon me if you gave this out. But what were the bill rate and pay rate changes in the quarter?

Bill rates were up 10 percent and pay rates were up 15 percent.

Thanks a lot. I appreciate it.

(OPERATOR INSTRUCTIONS). At this time, we have no further questions in queue. I will turn the conference back over to Mr. Don Murray for any additional or closing remarks.

Thank you. I would like to thank everyone everyone for their time and their continued interest in Resources. And again, just add that we would like to thank our investors for believing in us and staying with us. And we look forward to chatting with you after the conclusion of our final quarter of 2004. So, thanks.

That does conclude today's conference call. You may disconnect at this time. We do appreciate your participation.