Resources Connection Inc (RGP) 2014 Q3 法說會逐字稿

Good day, ladies and gentlemen. Welcome to the Resources Global Professionals' third quarter 2014 earnings conference call.

(Operator Instructions)

As a reminder, today's conference is being recorded. I would now like to turn the call over to Kate Duchene, Chief Legal Officer.

Thank you, operator. Good afternoon, everyone and thank you for participating with us today. Joining me on this call are Don Murray, our Chairman, Tony Cherbak, Chief Executive Officer, Tracy Stephens, our Chief Operating Officer, and Nate Franke, our Chief Financial Officer. During this call we will be providing you with comments on our results for the third quarter of FY14.

By now you should have a copy of today's press release. If you need a copy and are unable to access one via our website, feel free to call Patricia Marquez at 714-430-6314 and she will be happy to fax a copy to you.

Before introducing Tony, I'd like to read an important announcement about certain statements that 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 25, 2013 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 condition to differ materially from results of operations and financial conditions expressed or implied by forward-looking statements made during this call. I'll now turn the call over to Tony Cherbak.

Thanks, Kate. Good afternoon, and welcome to the RGP third quarter conference call. I'm going to start by giving you a brief overview of our third quarter operating results.

Total revenue for the third quarter of FY14 was $132.7 million, a 3.8% decrease over the comparable quarter a year ago. It's important to remember that quarter-over-quarter comparisons are impacted by the fact that Thanksgiving holiday fell in our third quarter this year, but was in the second quarter a year ago.

Other items impacting our third quarter results included severe weather in our Eastern markets, which we estimate to have cost us approximately $1 million of revenue, and continued weakness in our European revenues, which declined by 12.3% quarter over quarter. As a result of the continued softness in Europe we will take a charge which will be recorded in the fourth quarter to further reduce our headcount in certain European practice offices.

When complete, we anticipate incurring total severance cost of approximately $2.8 million, an impact of about $0.07 per share to our fourth quarter results. These severance costs will be recorded as either cost of revenues or SG&A, depending upon the role of the impacted employee.

On an annualized basis, these headcount reductions will reduce our cost structure in Europe by approximately $4.5 million, or $0.12 per share. This savings will begin primarily in the first quarter of FY2015. Our European platform remains intact and is vital to us in serving multinational clients; however, these actions better align our cost structure to current revenue levels.

Now, on to other financial highlights. Third quarter gross margin was 36%, a decrease of 110 basis points from the comparable quarter a year ago. During the third quarter our SG&A costs were $41.6 million, the same as the comparable quarter a year ago, and a sequential decrease of $1.5 million. As Nate will expand on in a bit, our third quarter SG&A was lower than anticipated, primarily resulting from lower compensation costs among other items.

During the third quarter we generated cash flow from operations and adjusted EBITDA of $5.2 million and $7.8 million respectively. Additionally, we returned $10.1 million to shareholders during the third quarter in the form of share repurchase and dividends.

Our pre-tax income on a US GAAP basis was $4.9 million. Based upon an effective tax rate of 53.5% during the third quarter, our earnings per share was $0.06 versus $0.11 in the third quarter a year ago.

As we reported in -- now on to revenue trends. As we reported in early January, non-holiday weekly revenues during the first five weeks of the third quarter averaged $11.6 million. As expected, we lost about one week of revenue during the two weeks comprising Christmas and New Year holiday weeks.

Our weekly revenue following the New Year's week was volatile, ranging from $10.7 million during MLK week to $11.6 million. This weekly volatility was partly correlated to weather issues in the East during certain weeks in January and February.

Our weekly consolidated revenue during the first five weeks of the fourth quarter is trending approximately 2.3% higher than the comparable non-holiday weeks a year ago. Now we'll go to Nate for a detailed review of our financial statements.

Thanks, Tony. As mentioned, revenues for the quarter were $132.7 million, a decrease of $5.3 million, or 3.8%, from $138 million in the third quarter of FY13. On a sequential basis, revenues decreased 9.1%. On a constant currency basis, the quarter-over-quarter decrease was 3.4% and sequentially, 9%.

As Tony mentioned, our third quarter revenues are not directly comparable as the prior-year quarter did not include the Thanksgiving holiday. We estimate the revenue impact of the holiday shift was about $3.3 million. Adjusting solely for this impact, our consolidated quarter-over-quarter revenue decrease would have been approximately 1.5%.

I'll now discuss some highlights of our revenues geographically. For the third quarter, revenues in the US were $103.4 million, down 2.4% quarter over quarter and down 8.4% sequentially. Adjusting for the previously mentioned shift in the Thanksgiving holiday, on a pro forma basis our US revenue would have increased by slightly less than 1% quarter over quarter.

For the third quarter, total revenues internationally were $29.3 million, down 8.7% quarter over quarter and 11.5% sequentially. International revenue accounted for approximately 22% of total revenues for the quarter, down from 23% in the second quarter.

Europe's third quarter revenues decreased 12.3% quarter over quarter and 12.4% sequentially, while the Asia Pacific region saw third quarter revenues decrease 1.8% quarter over quarter and 12.1% sequentially. On both a sequential and quarter-over-quarter basis, the US dollar was weaker against the euro but stronger against most Asia-Pac currencies.

As a result, on a sequential constant currency basis, Europe's revenue decrease would have been 13.6% and Asia-Pac's revenue decrease would have been 9.9%. On a quarter-over-quarter basis, Europe's revenue decrease would have been 14% and Asia-Pac's revenue would have increased 6.1%.

Let me now discuss early revenue trends for the fourth quarter of FY14. Weekly revenues for the first five weeks of the fourth quarter were $11.6 million, $11.4 million, $11.4 million, $11.2 million, and $11.4 million.

Using the most recent average weekly run rate of $11.4 million over the remaining weeks of the fourth quarter and adjusting for Memorial Day and Easter-related holidays, for which we typically lose an aggregate of two days of revenues, we would achieve fourth quarter revenues of approximately $155 million. This computation is purely mathematical and does not consider potential increases or decreases in weekly run rates over the balance of the quarter. Please remember our fourth quarter includes a 14th week this fiscal year.

On to gross margins. Gross margin for the third quarter was 36%, 110 basis point decrease from 37.1% a year ago, and down 330 basis points from 39.3% in the second quarter. While we anticipated a 270 basis point decrease in sequential gross margin, we experienced compression and bill pay spreads, primarily in international markets, and a slight loss of leverage on benefit costs from lower revenues. These two factors reduced our margin by an additional 60 basis points.

The average billing rate for the quarter was approximately $125, compared to $126 in the second quarter and $127 a year ago. The average pay rate for the third quarter was approximately $64, up from $63 in the second quarter and $63 one year ago. Please remember these hourly rates are derived based upon prevailing exchange rates during each given period.

Excluding reimbursable expenses, our third quarter gross margin was 36.6%, which compares to 37.7% in the third quarter a year ago. In thinking about gross margin in the fourth quarter of FY14, including a 30 basis point impact of estimated European severance costs allocated to cost of revenues, we would expect gross margin to improve sequentially by approximately 230 basis points, primarily due to the reduction of compensated holidays and reduced payroll taxes. The dollar amount of severance we expect to record as cost of revenue is approximately $500,000, or about $0.01 per share.

For the third quarter gross margin in the US was 34.7% and our international gross margin was 31.1%, representing a quarter-over-quarter decrease of 80 basis points in the US and 250 basis points internationally. I'll just repeat, gross margin in the US was 37.4%.

For the third quarter, the average consultant FTE count was 2,233. This compares to 2,293 in the previous quarter and 2,254 in the year-ago quarter.

Quarter-end consultant headcount was 2,346 versus 2,254 a year ago. The total headcount of the Company was 3,064 at quarter end.

Now on to other components of our financial statements. SG&A expenses for the third quarter were $41.6 million, similar to the year-ago quarter, or 31.3% of revenue. SG&A was $43.1 million, or 29.5% of revenue, in the second quarter of FY14.

While we anticipated a $700,000 sequential increase in SG&A for the third quarter, due primarily to the reset of payroll taxes, we benefited from reductions in compensation costs and marketing, as well as several other SG&A expense categories. We believe SG&A expenses in the fourth quarter of FY14 will increase approximately $2.7 million from the third quarter level.

This increase in fourth quarter SG&A stems primarily from the 14th week occurring during this quarter. This estimate also excludes the European severance estimate of $2.3 million, or $0.06 per share, which we expect to record as SG&A expense during the fourth quarter. As Tony mentioned, on an annualized basis these reductions will result in annualized cost savings of approximately $4.5 million, or $0.03 per share per quarter, beginning in the first quarter of FY15.

Stock compensation expense, which is included in the SG&A amounts I just disclosed, was consistent with the second quarter at $1.6 million, or 1.2% of revenue, down from $1.8 million, or 1.3% of total revenue, in the third quarter of FY13. We would anticipate quarterly stock compensation expense in the upcoming quarter to decline by approximately $100,000 from the third quarter's level.

At the end of the third quarter, our office count was 71; 46 domestic and 25 international. Depreciation and amortization was $1.3 million for the quarter, the same as last quarter, and we would expect depreciation and amortization expense for the upcoming quarter to approximate the same amount.

Our adjusted EBITDA, or cash flow margin, which we define as EBITDA before stock compensation, was 5.8% in the third quarter versus 8.3% in the third quarter of FY13 and 10.9% last quarter. During the third quarter on a GAAP basis, we recorded a provision for income taxes of $2.6 million on GAAP pretax income of $4.9 million, representing an effective tax rate of approximately 53.5%.

As a result of recording the European severance charge, which will not be benefited under US GAAP reporting, we anticipate a fourth quarter effective tax rate of approximately 58%. Our effective tax rate is impacted by our current inability to offset income and tax jurisdictions in which we are profitable with losses in tax jurisdictions in which we are not profitable.

Our tax rate continues to -- our cash tax rate continues to approximate 42%. Our GAAP tax rate for each of the upcoming quarters is difficult to predict and could be volatile, as the rate will be dependent on several factors, including the operating results of our US and foreign locations, each of which are taxed and benefited at different statutory rates, and the offset of the tax benefit of foreign losses in certain locations by valuation allowances.

In summary, our per-share income was $0.06 per share for the third quarter. On a non-GAAP basis utilizing a cash tax rate of 42%, our per-share income would have been $0.07 per share.

On to the balance sheet. Cash and investments at the end of the third quarter were $107.3 million, a $3.2 million decrease from the end of the second quarter. The decrease stems primarily from cash generated from operations of $5.2 million, offset by share repurchases and dividends totaling approximately $10.1 million during the quarter.

Capital expenditures were $449,000 during the quarter. During the third quarter we repurchased approximately 522,000 shares of our Common Stock at an aggregate cost of $7.4 million, or $14.14 per share. On a fiscal year to date basis, we have repurchased approximately 1.6 million shares at an aggregate cost of $21.6 million, or $13.18 per share. The shares repurchased represent 4.1% of our outstanding shares as of the beginning of the year.

Our current Board authorization for our stock buyback program has approximately $50.9 million remaining. We will continue to return cash to shareholders through our regular quarterly dividend and share repurchases, while maintaining a balance between the capital requirements of our business and fiscal prudence.

Our shares outstanding at the end of the third quarter were approximately 38.7 million. Receivables at quarter end were approximately $89 million compared to $93.1 million at the end of the second quarter.

Days of revenue outstanding were approximately 59 days, the same as the comparable quarter a year ago and down from 61 days in the second quarter. I'll now turn the call over to Don for some closing thought.

Thank you, Nate. As we enter our fourth quarter, I am pleased with traction we continue to experience in the US. On a comparable non-holiday weekly basis, our US revenues are trending 4.4% ahead of last year.

It is interesting that our weekly revenues in the US during the first week of our fourth quarter was our highest weekly revenue since the third quarter of FY09. The successive weeks have been slightly impacted by spring breaks and negative weather, but we are pleased with the growth we are seeing in the US.

Our US growth results from the continued addition of consultants to some of our clients' initiatives that we have previously described last quarter, as well as the start of some new assignments. Over time we believe certain of these assignments will expand internationally.

Our global footprint remains strategically important to us as we continue to serve our Fortune 500-type client base with their global initiatives. However, as Tony described, we recently concluded it was time to more closely align our cost structures in Europe with the current kind of reality revenue levels. With respect to Asia-Pac, after adjusting for currency, it's nice to see that their quarter-over-quarter revenue growth of 6.1% in the third quarter.

Now, I'll share some additional statistics which we believe reflect the continuing health and strength of our core business. The client continuity remained outstanding. In the third quarter we served all of our top 50 clients from FY13, and 49 from FY12.

Through the third quarter of FY14 on a run rate basis, we have served 220 clients with fees exceeding $500,000, compared to FY13 we had 216 clients for whom we provided services at that level. Our top 50 clients represented 39.8% of total revenues, and 50% of our revenues came from 82 clients.

Our loyal client following is reflective of our client service approach and the quality of the work performed by our consultants. Our largest client for the quarter was approximately 1.8% of revenues.

Through the third quarter, 96% of our top 50 clients have used more than one service line, and 76% of those top 50 clients have used three or more service lines. And this service line penetration reflects the diversity of relationships we have within our clients' organizations. Now this concludes our prepared remarks, and we will be happy to answer your questions at this time.

(Operator Instructions)

The first question comes from Kevin McVeigh from Macquarie.

Great, thanks. Actually, you guys did a nice job managing the SG&A. Tony or Nate, can you just help us understand the components of, was it kind of bonus, some discretion that was maybe reversed, or just not accrued or advertising, just any thoughts on what drove the down tic?

Sure, Kevin. I would say the significant portion of it is what I would label some of incentive comp, and with the fall-off and then the revenue decline, in particularly in Europe, there was lack of accrual and a reversal of some accruals that we thought would be paid during the earlier part of the year. So that -- the results now would not be paid. We deferred a little bit of marketing costs, and then I would tell you the remainder is just kind of a whole host of just different areas that singularly they're not that significant but they added up to a reasonable amount.

Got it. Just on the severance charge, given the variability of the workforce, how many people does that impact, number one? And number two, given where we are, feel like we're getting a little late in the cycle, is this just kind of adjusting the business for a different run rate in Europe going forward from a structural perspective? Or is it -- just anything kind of country-specific, or just any thoughts around that would be helpful.

It's about 15% of the workforce over there, Kevin.

Okay.

We just decided, we've been thinking each quarter that their revenues would get better. It hasn't happened. So we decided it was time to get the cost structure in line with the revenues. So that's where we came out on it, and it's going to produce some cost savings for us in 2015, and hopefully they can get their revenue going at the same time.

Got it, okay. Thanks so much.

The next question comes from Andrew Steinerman from JP Morgan.

Hi there. Sorry about that. My question is, when I look at the $155 million number that you gave, and I guess if I wanted do a 13-week quarter I just subtract 11.4%. That's quite a mighty sequential pick-up from the $133 million that we just reported.

And my question to you is, do you consider that a normal sequential pick-up? Or how would you describe the cadence of the $155 million minus the 11.4% to make it kind of a same-week basis comparison of where we stand right now?

I think, Andrew, one of the things you got to remember is that in the third quarter we had three major holidays, and going into the fourth quarter we don't have really any major holidays other than Easter, and that pales in comparison to like a Thanksgiving or Christmas or New Year's. So that's one o the factors.

Okay.

Andrew, just also want to make sure you caught that the fourth quarter, you in your question had mentioned the 13 weeks. One of the drivers of that is the fourth quarter has a 14th week in it this year. That happens every four or five fiscal years for us.

Right. So if I want to think about it as a 13-week quarter, I take the $155 million and subtract $11.4 million, right?

That's exactly right. I'm sorry. Then I misunderstood your question. That's exactly right. It's all built on that current run rate during the early weeks of March, which averaged $11.4 million.

Right. And then just one more thing about the normal seasonal pick-up. Obviously the spring quarter usually is one of the strongest sequential quarters for you. Does that usually happen because of weeks late in the quarter, or does that usually happen because weeks early in the quarter, like the weeks that we've already seen?

Why is the May quarter usually a strong seasonal pick-up? When does that usually happen in the quarter?

Well again, Andrew, it can -- it happens all throughout the quarter because, again, we don't have any holidays that are burdening it like we do in the third quarter. I would say you can look more at the fourth quarter kind of like a Q2, where we averaged $11 million per week over an extensive period of time. I think we're going to do the same thing in the fourth quarter.

Okay, and then last question, sort of the same question. If I total up the five weeks that we already saw, the $57 million, how does that compare to a year ago? Is that already in a kind of growth situation?

You really can't compare them because a year ago in the first five weeks we had an Easter holiday in there, and because the Easter holiday is out a little bit, they're not really comparable. But if you looked at it on a non-holiday week basis, it's about 2.3% ahead.

Right. So you really do feel like we are in growth mode already?

Absolutely.

Okay, thank you.

The next question comes from Jeff Silber from BMO Capital Markets.

Thanks so much. I just wanted to follow up about the headcount reductions in Europe. I know this is a sensitive issue. I'm assuming they've already been announced internally?

They have, and they have, and it's very much on its way, or it's very much underway. We've had, Jeff, our COO has been spending plenty of time over in Europe making sure that as these headcount cuts get made that we're not risking some of the revenue that would be associated with those people. So we're trying to do this in a very methodical order and not lose any revenue but adjust our cost structure to the revenue run rate.

All right. That's great to hear. Can you tell us a little bit more about where specifically, which countries you're focusing on for these headcount reductions?

It's really all across-the-board. It's just across the board. Probably a little bit more so in Sweden than anywhere else, but it really -- there's people coming out of the practice all across the European operations.

So should we infer from that that the weakness you've been seeing in Europe is also really across-the-board?

I'd say outside of the UK and outside of Italy, of all places, that's correct.

Okay, great.

But the UK and Italy are doing very well in this environment.

All right, that's helpful. And just looking at the balance sheet, can you remind us, is there a minimal cash level that you need to operate the business under?

No. Jeff, we get asked that a lot. We don't really have a set balance. I think as you've seen over the last numerous quarters we've been bringing that cash down as we return cash to shareholders. We're not working towards a magic number, but I think we'll also continue the track record of returning capital as the Company does generate cash flows, typically more than we need to invest in the business.

Yes, the great part about our business model is we do generate a lot of cash. I guess if you had to pin us down to a number, we would probably say roughly $25 million, and that would give us a little bit of cushion. But we like retaining a fair amount of additional cash over and above the $25 million so that if we see any type of acquisition that we believe would improve our business for the long term we could hop on it.

Again, I know you're not going to disclose specific things, but are there specific holes in your portfolio that you are looking to fill via acquisition?

No, but we are always open to something new that might improve our business.

Okay, great. Thanks so much.

(Operator Instructions)

The next question comes from Mark Marcon from Robert W. Baird.

Good afternoon. I was wondering if you could talk a little bit about any sort of anticipated revenue impact from the reduction in terms of the European headcount? Were any of them productive, or do you anticipate any revenue shortfall?

Yes, Mark as I mentioned, our Chief Operating Officer has been spending a lot of time to make sure that that very thing doesn't happen. So there could be some minor revenue impacts, but we're hoping to achieve this headcount reduction without impacting revenue.

Okay, but I mean, like all the remaining offices in Europe will continue to be pretty well staffed? It's not like any of them are going down to skeleton crews or anything?

Yes, like I said, I think that if you look at it as a percentage of our overall staff it's about 15% reduction. So in all of our offices we have a critical mass, I think, of people that can continue the business.

Okay, great. And then can you talk a little bit about the revenue? You had talked a little bit about US trends, exclusive to holidays, over the first few weeks. How should we think about international?

Well, like we said, the international, and if you'd take Europe and Asia-Pac individually, Europe was down about 12% for quarter. It's trending -- it's staying about even to down a little bit.

That's what I was asking is, was it -- is it a little bit worse, or is it about the same?

Well we've always expected it to improve, and we've been wrong in that regard over the last several quarters, and that's why we took the charge. But on an ongoing basis if you look at it going into Q4, they're hanging in there, kind of about their previous levels in the third quarter.

So meaning still down around 12%, 13%, 14% on a constant currency basis?

Probably a little less than that, probably trending down about 9% to 10%.

On a constant currency basis?

We don't look at currency on a weekly basis.

So on a dollar basis is what you're saying in terms of that, 9% to 10%?

Yes, right.

Okay, and then in Asia-Pac are you continuing to see growth?

Yes, and especially there, on the -- the currency has hurt us in Japan, the constant currency has kind of been backwards there for us, but we're seeing some good -- Japan's business is coming back. They are up over $300,000 a week.

And in China, we're still getting some good growth out of Shanghai and Hong Kong is starting to come online. So we just hired a new MD in Beijing. So I'm confident in the Asia-Pac practice.

Great. And then can you talk a little bit about in the US, the practices and specific areas where you're seeing growth?

Well, the primary area is certainly information management, we're seeing a lot of data governance work, we're seeing security privacy issues, in A&F, kind of the regulatory compliance side. Dodd-Frank has still been a big winner for us, especially on the East Coast, Supply chain management is strong, and our legal practices has been going great guns since Kate Duchene took over the leadership of that practice.

Great, thank you.

I am showing no further questions. I would now like to turn the call back over to Don Murray.

Well, I'd like to thank you all for your interest in Resources, and we look forward to our next update after our year end of FY14. Thank you.

Ladies and gentlemen, that does conclude the conference for today. Again, thank you for your participation. You may all disconnect. Have a good day.