Startek Inc (SRT) 2009 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the second quarter 2009 StarTek earnings conference call. My name is Anita, and I will be your conference operator for today. At this time, all participants are in a listen-only mode. We will conduct a question-and-answer session towards the end of this conference. (Operator instructions.) I would now like to turn the call over to Julie Pierce, Director of SEC Reporting. Please proceed.

Thanks, Anita. Good morning, everyone, and thanks for calling in. I'm Julie Pierce, StarTek's Director of SEC Reporting and Investor Relations. And it is my pleasure to welcome everyone to StarTek's second quarter 2009 earnings call. I'm joined on the call today by StarTek's President and Chief Executive Officer, Larry Jones, and Chief Financial Officer, David Durham. Larry and David will deliver prepared remarks today with some brief comments about this morning's release. At the conclusion of their prepared remarks, we will conduct a question-and-answer session. For those of you who have not yet received a copy of today's earnings press release, please go to www.startek.com where you can download a copy from the investor section of our website.

Please note that the discussion today may contain certain statements that are forward looking in nature pursuant to the Safe Harbor provisions of the federal securities laws. These statements are subject to various risks and uncertainties, and actual results may vary materially from these projections. StarTek advises all those listening to this call to review our 2008 Form 10-K posted on our website for a summary of these risks and uncertainties. StarTek does not undertake the responsibility to update these projections.

Further, our discussion today includes some non-GAAP measures. In accordance with Regulation G, we have reconciled these amounts back to the closest GAAP basis measurement. These reconciliations can be found in a table at the end of this morning's release as well as on the investor page of our website under Regulation G.

I'll now turn the call over to Larry Jones, StarTek's President and CEO.

Thank you, Julie. And welcome, everyone. For those of you who have read our earnings release and our financial score card, you are well aware that we have had a fabulous quarter, full of significant accomplishments both on the financial and the operating fronts. Much of the success of the second quarter was a direct result of the efforts we initiated in 2008, namely optimizing, expanding and restructuring our US and Canadian operations, revamping our sales team, opening our first offshore operations in Makati and implementing a number of new programs focused on organizational effectiveness.

I'm most proud of our financial results for the quarter. Dave will cover the details in a moment. But our continued double-digit revenue growth, our gross margins of nearly 18%, which are approaching our target level of 20%, and our ability to invest in new programs while keeping SG&A growth in line with our revenue growth all resulted in our ability to generate over $6 million of EBITDA in the quarter and improve our earnings per share to $0.09. During the quarter, we also paid down nearly $6 million of debt and secured a new credit facility of $15 million with UMB Bank.

On the operations side, during the quarter, we hired a new SVP of sales and signed two new contracts to bring our year-to-date sales to five contracts representing over 700 seats. Our Makati facility continues to ramp nicely. And we are close to signing a lease for a new facility in Costa Rica that we plan to open in the first quarter of 2010.

I'll cover more details on those accomplishments and others after Dave walks you through the detailed financial results for the quarter. Dave?

Thanks, Larry, and thanks to everyone for calling in. As Larry mentioned, we are quite pleased with our financial results for the second quarter. Our top-line growth was solid on a year-over-year basis and was up sequentially compared to last quarter. More important, gross margin improved significantly compared to last quarter and was also up year over year. Our profitability continued to improve, reaching levels not seen since the third quarter of 2006.

So moving on to the details. Revenue for the second quarter totaled $73.3 million, up a strong 12% compared to the second quarter of 2008, and up 3.6% sequentially compared to last quarter. The growth compared to the second quarter of 2008 was primarily attributable to continued ramping of the four sites open throughout 2008, offset by the three that we closed, resulting in a net revenue increase of approximately $5 million. The $2.6 million revenue increase compared to last quarter was due to there being one more billing day in the current quarter plus strong revenue growth in our two newest US sites, Mansfield and Jonesboro.

Our Phillipine operation continued to ramp, adding over 60 FTE in the quarter. But due to lower training revenue this quarter, revenue was flat compared to last quarter. Revenue for the six months ended June 30, 2009, totaled $144 million, an increase of 10.7% compared to $130 million reported for the first six months of 2008. Once again, the new sites opened in 2008, offset by those closed, accounted for the increase, contributing incremental revenue of approximately $10 million.

Recognizing that many of you track our client concentration, revenue from our largest client, AT&T, represented 64% of our current quarter total compared to 52% in the second quarter of 2008. T-Mobile revenue totaled 22% for the quarter, an increase compared to the 21% in the first quarter of 2009, but a decrease from the 29% reported in the second quarter of 2008. It's worth reminding that while these clients represent a significant percentage of overall revenue, each of these accounts have numerous programs serving multiple lines of business within both accounts with multiple service types.

More significant than our strong top-line performance was the progress made in the quarter to continue to expand gross margin. For the second quarter of 2009, gross margin was 17.9%, a 510 basis point improvement compared to the second quarter of 2008 and a 270 basis point improvement compared to last quarter. Both comparative increases were due to better performance in our US and Canadian segments. In the US, margins expanded to 19.4%, the highest since the first quarter of 2008 and close to our US target of 20%. The increase was the result of better pricing, productivity and slightly higher utilization.

In Canada, gross margin expanded to 17%, the best since the third quarter of 2005, and exceeded our 15% target for that segment. The absence of losses from our Regina site, closed in February of this year, better pricing in one of our locations, combined with a better US to Canadian dollar exchange rate, all contributed to the improvement in Canada. Improvements in the US and Canada were offset by a small loss in our Philippine offshore segment, resulting from lower training revenue. The ramp of the Philippines continues to progress nicely, however, and we expect healthy margin expansion from that segment in the second half of the year.

Overall, we expect gross margin to expand modestly in the third and fourth quarter of the year, based on the expectation that utilization in the US improves, that Canada benefits from improvement in the US to Canadian dollar exchange rate, due to hedge instruments that we have in place, and that the Philippines continues the ramp of committed business.

Selling, general and administrative expenses for the quarter totaled $10.9 million, an increase of $1.2 million compared to the first quarter of 2009 and an increase of $700,000 compared to the second quarter of 2008.

During the quarter, we reached an agreement for the settlement of a class action shareholder suit that was initiated back in 2005. As part of that agreement, the company will pay $600,000 of the $7.5 million total settlement, an amount which we accrued in this quarter's results and which accounted for much of the expense increase in the quarter. Additional payroll expense associated with new hires accounted for the remainder of the increase compared to both periods.

As a percentage of revenue, SG&A expense was 14.9%, up compared to 13.7% last quarter, but below the 15.6% reported in the second quarter of 2008. Going forward, we intend to continue to invest in additional sales and management talent, expand our at-home platform and make strategic investments in support of our long-term organizational effectiveness goals. Accordingly, we expect SG&A spending to increase and estimate that our SG&A spend will be approximately $11.5 million per quarter for the remainder of 2009.

Our revenue and gross margin expansion resulted in operating income totaling $2.2 million compared to operating income before impairment and restructuring charges last quarter of $1 million and compared to a $1.8 million loss in the second quarter of 2008. Net income for the quarter totaled $1.3 million, or $0.09 per share, up compared to earnings of $0.04 per share last quarter and an adjusted loss of $0.08 per share reported in the second quarter of 2008.

Moving on to the balance sheet, our balance sheet remains strong at the end of June with cash and investments totaling $20.3 million. This cash and investment balance represents a decrease of approximately $7 million compared to the end of March, but takes into account a $6 million debt reduction associated with the early payoff of two term loans. In addition, accounts receivable increased by approximately $7 million due to an invoicing delay which resulted in the collection of a large receivable in early July. CapEx and depreciation expense both totaled $3.8 million for the quarter.

As Larry mentioned previously, during the quarter, we were pleased to close on an expanded $15 million credit facility with UMB Bank. We're very happy with the terms of this agreement, given the challenging credit environment, and thank UMB for their confidence in our business model and support of our long-term strategy.

While our financial turnaround is not yet complete, this quarter was clearly a positive step toward reaching our target gross and operating margin goals. We are pleased with our progress to date and look forward to continued improvement and stability in our financial results.

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

Thanks, Dave. Now I'd like to discuss, in a little more detail, our accomplishments for the quarter in three specific areas: Our sales turnaround, our delivery platform expansion efforts and our organizational effective programs.

The sales turnaround. In July of last year, a decision was made to restructure our sales operation by changing leadership, revamping our sales process, changing our sales and marketing messaging and looking at new ways to generate leads. For the second consecutive quarter, we saw the results of these efforts and were able to close two new deals representing over 200 seats. This is on top of our continued success in selling add-on business in AT&T, T-Mobile and our other accounts.

The key next step in the sales turnaround effort was the hiring of John Damian as our new Senior VP of Sales. It took us nearly nine months to land the right leader, and I must say, it was worth the wait. John comes to us after five years with a direct competitor and 18 years as a sales exec at AT&T. John has already hit the ground running, focusing on expanding the number of sales directors and putting together a plan to sell beyond the communications and media sectors. I'm confident that under his leadership we'll be very successful in both selling new accounts and opening up new verticals.

Our delivery platform expansion efforts. While we continue to focus our efforts on optimizing our US and Canadian operations, one of our key focus areas is on expanding our delivery platform to tap new sources of labor. Our current efforts are focused on three key initiatives: The Philippines, Costa Rica and StarTek at home. Let me briefly discuss the progress on each of these areas.

The Philippines continues to be a huge success. We have two programs fully ramped and one more underway. These three programs represent nearly 800 FTE and should be ramped by the fourth quarter, about two months later than originally scheduled. We also are in discussions with a number of clients and prospects to gain commitments to fill the site. With the site exceeding our operational and financial expectations, if the demand continues, we would look to expanding our operations in the Philippines in late 2010.

Our next frontier for offshore expansion is Latin America. Many of our clients and prospects like Latin America for its proximity to the US and for the availability of Spanish-speaking agents. For the last six months, we've undertaken an extensive effort to evaluate and determine that Costa Rica is the next location that we would expand into. We're in the final stages of negotiating a lease for a 400-plus seat facility in a free-to-trade zone in San Jose. We would expect to open this facility with already identified programs in the first quarter of 2010.

Our third expansion project is StarTek at home. We know that many companies and several of our competitors have successfully tapped the huge educated population of at-home agents. Our goal would be to use this channel as a way for us to expand in the US without spending the significant capital required to build new sites. During 2007, we piloted two clients in two locations with limited success. What we did learn was that it takes a significant enterprise-wide effort to successfully launch a scalable at-home program.

Therefore, in March, an existing senior executive was assigned to lead the effort. And we have made great strides in defining the operational, technological and support needs to scale the business to over 1,000 agents in 2010. Our goal is to launch a new 100-seat program under this new structure in the fourth quarter of this year.

Organizational effectiveness programs. Last quarter, I mentioned that we had initiated a number of programs to increase the effectiveness of our organization. During the quarter, we made significant progress in three areas. First, we went live on the new HRIS system that will allow us to streamline our recruiting, onboarding, payroll and performance management efforts in the field. With the hiring of over 10,000 agents a year, this system will produce significant efficiencies in our centers as well as reducing errors and rework.

Second, we made significant progress in improving and standardizing our efforts. This multi-year program is intended to identify key processes throughout the organization that we can standardize and automate it to improve efficiencies and improve overall quality and consistency of our delivery platform. During the quarter, we expanded our process improvement team, identified 48 high-priority corporate and site-level processes and began documenting, optimizing and automating our top five processes.

Finally, we continue to make progress in offshoring a number of our field and corporate support functions. The intent of this effort is not only to reduce operating and SG&A expense, but also to provide value-added services, given the low costs and highly skilled labor force in the Philippines. During the quarter, we secured additional dedicated space in our Makati facility and hired key management to oversee our shared services operation. That is a dedicated operation in Makati where multiple corporate and operating functions will reside. To date, we have three functions and over 60 employees operating in this shared services operation. By mid-2010, our hope is that we will have off-shored over 150 people from six functional areas.

Now let me discuss briefly the key focus areas for the rest of 2009. First, we expect continued double-digit growth driven by our strong first half sales results and continued demand from our existing clients. We also expect continued growth margin expansion as a result of quarterly improvements in utilization and continued site optimization, automation and standardization efforts. This, despite our continued SG&A investment, should produce growing profitability and earnings throughout the year.

On the sales front, we expect to ramp the new contracts signed in the first half over the next 12 months, continue to close more sales contracts and secure more add-on business from our existing accounts.

As noted earlier, our expansion efforts will continue as we progress to ramp Makati, secure our Costa Rica facility for a launch in the first quarter and identify opportunities for further expansion in the Philippines in 2010. We also expect to relaunch StarTek at home, as I indicated, in the fourth quarter. Finally, we will continue to pursue M&A opportunities to scale, add logos, diversify our vertical and client coverage and to add new services. And while we've seen a number of opportunities of late, we have not seen any deals that pass our screen. So we will continue looking.

In closing, the management team, our Board and I are extremely proud of the accomplishments of the second quarter and look forward to many more quarters of growth and profitability to come.

With that, Dave and I would now like to open up the line for questions.

(Operator instructions.) Our first question comes from the line of Arnie Ursaner of CJS Securities. Please proceed.

Hi. Good morning, Larry. Good morning, Dave.

Good morning.

Hi, Arnie.

AT&T's percent of your revenue jumped quite materially. I was wondering if you could comment the role the 3G rollout in June and the 3GS rollout we're undertaking right now are having on your business with AT&T.

I think the significant jump is year over year, I think as you indicated. And a lot of that is that the new centers that we built have been fully ramped. But I do think that the iPhone and AT&T Wireless' general success have contributed to that. In addition, AT&T has continued to consolidate their vendors, and we've been the beneficiary of that to be able to scale not only the site that we built but other areas that we -- other sites that we have had for a while. So the programs continue to grow nicely.

My second question is, I'd looked at -- in looking at -- again, in your fact sheet, which I find very helpful, Canada, your utilization dropped from 68% to 64% sequentially in the quarter, but your margin jumped from 9% to 17%. How much of that is currency related? And how should we think about Canadian margins for the balance of the year?

Sure. This is Dave. FX had a modest impact on the sequential improvement. The way that we calculate utilization, as you know, is the number of full-time equivalent agents as a fraction of available seats. The available seat number didn't change in the quarter, even though we closed our Regina facility, and we had a loss in Regina in the first quarter. So the absence of that loss, the improvement of the performance in a couple of locations, namely our Sarnie and Kingston locations. We also had a little bit better pricing in one of our Canadian sites. And then finally, FX was the other improvement. So it wasn't a function of utilization, but rather those other three factors.

My final question on the SG&A line, you did $10.9 million this quarter, but that included a $600,000 one-time item.

Right.

In your prepared remarks, you indicated $11.5 million a quarter for the balance of the year. What's causing that big a jump?

It's mainly the investments in sales and management talent. We actually ended the second quarter at, I'll just say, a running rate that was about 10 point -- a little over $10.5 million. So we've got investments associated with at-home projected for the third and fourth quarter. We've got continued investments in our shared services platform that Larry alluded to. And then there are a number of sales and management positions. I'd like -- I guess it's worth mentioning that with respect to the shared services investment, over time, we do anticipate that that will actually lower our SG&A in the long run. But while we're ramping up that platform, we're incurring double expense for certain functions as we migrate certain things from North America to the Philippines.

I'll jump back in queue. Thank you.

Yep.

Our next question comes from the line of Dave Koning of Baird. Please proceed.

Yeah, hey, guys. Great job on EBIT margins this quarter.

Thanks.

Yeah, and I'm just wondering, looked like about 3% in Q2. Where do you think these could go longer term? And maybe what type of utilization rate would maybe a target require?

David, this is Dave Durham. Yeah, we have long said that target EBITDA margins north of 10% we believe are achievable. And our target utilization across the enterprise is roughly 80%. So getting to those utilization levels I think will naturally get us to those types of EBIT margins. And -- well, EBITDA margins, excuse me. I think you said EBIT. So that the north of 10% would be an EBITDA number. But 80% utilization would be the aggregate target. And we think it's achievable.

And I think over the long haul, as our mix changes to more offshore and potentially at home, I think you have the opportunity to increase those margins on a mixed basis, which is one of the reasons we put out the score card, is to be able to watch the margins by segment.

Yes, great. And secondly, if we exclude AT&T and T-Mobile, it looks like revenue, excluding those two, were about $10 million or so this quarter. And it looked like in the Q2 of '08, it was closer to $17 million. Is that decline -- is that mostly just purging some lower margin revenue?

Yes. I think we've been changing the mix down below quite a bit. We lost a significant client in the first quarter of last year, rolled into Q2, which is probably the biggest chunk of that. But I think in general, we've been very happy with the rest of the client base that we have. When we started in 2007, we did have a number of low-performing clients that we had to purge. And I think all of that has culminated in the very stable base that we have today.

The other thing I would mention, David, is that the business that was won in 2009 will continue to ramp through the remainder of this year, namely the Cincinnati Bell Telephone business that we closed in March. So while we did lose a client early in 2008, we're starting to see the sales efforts that have paid dividends show up in our results. And that should continue throughout the rest of the year.

Great. And then just one final question. As we look at organic volumes, I guess at existing clients, were there any noticeable movements kind of month by month throughout Q2 and maybe even into July? And maybe just saying that a little clearer, were certain months of the quarter and into July stronger on a year-over-year basis than other months?

It was pretty consistent throughout the quarter. We were profitable every month of the quarter, and it was no noticeable volume changes throughout.

Yes, the only seasonality we see is toward the holiday season in the last month and a half and into January and February. So we get a little spike there. We get a little downturn January and half of February. But short of that, there's very little kind of peak periods that we typically see, other than ramping of new clients which is the bigger mover as the FTE ramps.

Sounds great. Thank you.

Thank you.

Our next question comes from the line of Tom Carpenter of Hilliard Lyons. Please proceed.

Good morning, Larry and Dave.

Good morning.

Hi, Tom.

Can you give us an update on what you are seeing in the industry in offshoring, onshoring trends and pricing? I know you guys are obviously growing versus some of the (inaudible) industry. But when you're looking at some of the other competitors late last year and the first part of this year, there were some struggles in the industry, and companies were making some pretty tough decisions on what they were doing with their business.

Yes. And I think it really depends on the mix of your clients and what you have. But in the industry in general, I would say that the wireless clients continue to grow, but also are struggling with keeping churn at a minimum and, you know, sustaining their subscriber base. And it is client-to-client based. And I would say that translates, overall, to a reduction in the number of seats in the industry.

But at the same time, we're seeing those same clients consolidate their vendors. And we've been fortunate enough to be on the quality side. And in many situations, quality wins. And so we've been able to grow many of our clients, not just our top two, but tend to win seats from the competition there. We are seeing minimal price pressure. I think there is significant price pressure in the financial services and other segments. But in our segment, we've actually been able to get a couple of price increases over the past six months. So we're pretty pleased with the ability to continue to deliver, gain their respect as a partner and continue to get price increases. This is all offset by basically the ability for our clients to outsource more and offshore more.

So to your question of offshoring, our industry has been pretty late to the offshoring arena. But those clients who are under cost pressure are offshoring more, and they tend to go with their low-end programs first. And we're seeing a little more of that. I wouldn't say there is a rush or a race to it. But there is clearly a methodical strategy to offshore more, again, particularly of the low-end programs. Several of our competitors are feeling pain for sure. It's a quality game, and the top performers are, I think, winning, and the others are losing share. We've got a good story. You know, we've got a strong company. We are a good partner to our clients, and we've got great quality delivery track record. So we're seeing good things happen for us.

That's helpful. Thank you. And part of what your plan is is you want to -- I guess you guys are talking about translating some of that quality and strong results you guys have had in relationships in wireless into other verticals. Year to date, I think you guys have won five new customers at over 700 seats. Are any of those outside of your nontraditional telecom verticals?

No. They're all still in the telecom space. I think we've got some in our pipeline. And as I mentioned in my comments, John is recruiting vertical experts in other arenas to broaden both the depth and the breadth of our sales team.

Okay. Were any of the five customers to date our new -- are any of those offshore, or are they all domestic?

Let's see. One is offshore. One's offshore. And -- one's offshore, and a second one is onshore, going offshore. So they're piloting onshore and then going offshore probably in six months.

Okay. And one final question, and I'll jump back in the queue. You guys have done an excellent job increasing your US utilization from the mid-50s, late '06, early '07 to 82% today. Can you give us -- you kind of told us about the Philippines and Costa Rica. In the US, if someone -- can you fill someone that wants a couple of hundred seats at an existing facility by shifting them around, or would it entail a new facility if one of your bigger clients came and said, "Hey, we want to give you guys another line of biz?"

I think we've got capacity across our centers for a couple hundred seats. If somebody came and said they needed a whole center, obviously, we'd have to build one. And I think our plan, as we look forward, is probably to add one US site per year, which we'd do in 2010. It really depends on demand to who we'd give it to and how successful they are at home because our real objective here is to use at-home to grow the US demand while adding one center a year and then continuing to put most of our capital in the offshore arena.

Okay. It sounds like the plan is to space the openings further apart than you did in '08, correct?

Yeah. '08 was a pretty intensive year. Yeah, I would say we're not going back to that.

Okay. Well, thanks. Best of luck the rest of the year.

Thank you.

Thanks, Tom.

(Operator instructions.) Our next question comes from the line of Nicole Conway of Thomas Weisel Partners. Please proceed.

Hi, guys.

Hi, Nicole.

I was wondering, for the new contracts signed in the quarter, could you give us an idea of how big those are? Are they, you know, a couple smaller ones, or is one more like as big as Cincinnati Bell?

There are a couple of good sized ones and a couple of medium.

Okay.

But in total, it's about 300 seats of the clients that were signed in the current quarter.

Okay. And that's like your typical revenue proceeds?

Yes, yep.

All right. Great. Thank you.

We have a follow-up question from the line of Arnie Ursaner of CJS Securities. Please proceed.

Hi. Late in Q2, there was some publicity about some issues you had on hiring practices that could have put some of your contracts at risk. Can you at least give us a feel for the facts related to that, the costs you may incur in Q3 to retrain people you have to rehire?

Yeah. I'll cover that. In June, not every -- I'll give the full details. Not everyone knows the -- in June, we audited a number of our sites, and we found some hiring practices that were out of compliance with one specific client contract that we had. As a result, we had to terminate a number of employees across a number of sites. And some of you may have seen those in different press releases. We'll need to replace and retrain those agents to bring them back, and that will result in some third-quarter expense. The impact on the client relationship is minimal. We worked very hand in hand with the client throughout that period. But I can't answer specifically your questions, Arnie, because, one, it's a very sensitive issue with our client. There's a number of confidentiality issues that I have to dance around. And we're precluded from disclosing either the client, the number of FTE or the specifics around the termination. Needless to say, I think it'll cost us some in the third quarter, but I don't think I would put it in the "significant" category.

Well, we've done math indicating maybe a few hundred thousand for retraining expense, which obviously would come right out of margin. Without, again, violating your confidentiality agreement, would that be a reasonable way to think about the financial impact?

I think so. It is training that we'll have to do where we won't be reimbursed, but I think that's a fair way to think about it.

Okay. Thank you.

Our next question comes from the line of Tom Carpenter of Hilliard Lyons. Please proceed.

Dave, I neglected you in my earlier questions, and I want to rectify that. You guys did a --

Not the first time, no.

You guys made what looks like some very prescient moves last year and earlier this year in your hedging strategy. And now we look at the dollar as giving back a lot of the rally that it had last year versus the Canadian dollar. Can you refamiliarize us with how far out you've hedged in 2009, maybe 2010?

Yes. We have fully hedged our exposure for the second half of 2009. So we would expect, in the second half, some FX improvement, even though the spot rate of the dollar, US dollar versus the Canadian, has dropped significantly in the last month or so.

Right.

We have not hedged any of our 2010 exposure at this point. And we'll look for opportunities to do that in the second half.

Okay. Great. Thank you.

Yes.

This concludes our question-and-answer portion. I would now like to turn the call over to Mr. Larry Jones for closing remarks. Please proceed, sir.

Well, thank you, everybody, for your participation and your active questions. And we will talk to you next quarter. Thanks again.

Thank you for your participation in today's conference. This concludes the presentation. You may now disconnect and have a great day.