Kforce, Inc. (NASDAQ:KFRC)
March 12, 2013 1:00 pm ET
Michael R. Blackman - Chief Corporate Development Officer
David M. Kelly - Chief Financial Officer and Senior Vice President
Hello, everyone. Our next presentation is by Kforce. Heading off the presentation will be Michael Blackman, Head of IR, followed by David Kelly, the CFO. Just a note, the breakout session will be held in the Pine room following the presentation. Thank you.
Michael R. Blackman
Great. Thank you very much, and I want to, again, thank the good folks at Credit Suisse and Kelly Flynn and team for having us back to this wonderful event.
I'll spare you. I'm not going to read the forward-looking statements. So I will tell you Kforce is extremely proud of what we view as some of the industry-leading disclosure. Let's look at Kforce at a glance.
Kforce in 2012, celebrated its 50th year of operating history, of course going back to the roots of some of the significant acquisitions we did along the way. Been public since 1995. In 2012, we posted $1.1 billion in revenue. Our CFO, Dave Kelly, will take you fully through the financials. And at any given moment, we probably have roughly 3,000 clients and probably 10,000-plus people out on assignment as we sit here today.
Again, just a snapshot of our revenue stream to give you an idea where we're doing business. I would point out that this is, as a practical matter, all domestic. We do have a small operation in the Philippines that came within acquisition years ago. That is used primarily as a support function, so certainly you could look at this revenue pie as 99% plus domestic. And there are some interesting things going on in the space as I had the good fortune to sit through the prior 2 presentations. And I think you're going to pretty much hear the same theme.
We're obviously, very active in the technology space, including the technology components of our 8% Government unit and some in our Health Information unit. I'd say, as a practical matter, we're probably 2/3 IT, what we call tech-focused. Thus, during the fourth quarter, we reemphasized our focus on accelerating future revenue growth and we added a significant number of new sales and recruitment, internal resources, to help us expand what's our currently roughly 3% market share.
As some of the prior speakers alluded to this morning, particularly in the higher skill sets like technology, it does remain very competitive to acquire the intellectual capital that we need to get in the marketplace to fulfill our clients' requirements. Demand remains very solid, particularly in the technology space. So we thought it very prudent, and Dave will speak some more to the metrics around the hiring we just did.
In addition, since Joe Liberatore, a 25-year Kforce veteran started his tenure as President on January 1 of this year, we, as a management team, have been very outbound focused. I think we visited something like 15 markets and probably 35, 40 clients. And these client meetings are always very important to us because they reaffirmed our assumptions of the many structural shifts, I know you heard a lot about them from the other speakers this morning, that are taking place in the labor markets, some in response to things like the Obamacare, that health care reform that Dave Kelly will speak to and some in, I think, in response to other economic and regulatory challenges. But we see this ultimately as very positive to the sector going forward.
Looking at Kforce, specifically, and some of the key investment highlights. Again, about 2/3 technology. As a practical matter, domestic, we have a very nice position in the market. We have a financial model that Dave Kelly will speak to. I think that's been very efficient. Obviously, a very attractive free cash flow business. And particularly, in 2012, I think we did some very shareholder-friendly actions to return to our investors, and I think Dave will share with you some of the -- just ways that we're going to look back going forward.
Looking at the building blocks of Kforce. We've done, under our outgoing President, Bill Sanders, who's been with the firm, I believe, since 1999, we've done a lot of the heavy lifting. We have the infrastructure in place. We have the platforms. We haven't oft talked about National Recruiting Center. What the National Recruiting Center is and isn't, there's a lot of different perceptions of it out there. The National Recruiting Center is based in Tampa. It's 250, 300 folks. Highly elastic, adoptable recruiting platform that enables us to meet client needs at scale where the needs happen to be. The days of looking at the map, and I remember these conferences 10 to 15 years ago, everyone would want to see where the new pins were stuck in the map. It's really changing. Yes, we still have an office network. Our office has now tend to be a little smaller. They're more focused on client facing. Yes, the degree of recruitment will remain at the local level. But the National Recruiting Center, which I think in the last quarter touched about 1/3 of our revenue is a fantastic enabler to give us that degree of elasticity to meet supply where the demand is versus very candidly the age old problem of staffing businesses, which was trying to match local production capacity with local demand at any given point in time.
We have a very active Strategic Accounts group, I'll let Dave Kelly speak to this, but we have a balanced client portfolio. Dave will speak to some of the characteristics of the different clients and particularly how they behave at different points in the economic cycle.
Management team. I know it's a tough Slide 3. Really, the key takeaways, Joe Liberatore, a 25-year Kforce veteran, became President January 1; Dave Dunkel, founder, CEO, remains CEO, very much engaged on a daily basis as those of us in the management team know very well; Dave Kelly, 13-year veteran of the firm, became CFO on January 1. So we have a seasoned team. The takeaway is, to me, this is a team that's been through the cycles.
I would also note what we've not done is staffing acquisitions since 2006. On this slide are a number of names of folks who came to the Kforce family through some of those acquisitions. Actually, both of our national chief operating officers who are running the majority of the revenue came to the firm that way. So we've been very fortunate to acquire some great talent.
This is where we are geographically. We have, I think, 65 offices today. Again, I shared with you our philosophy toward the offices. They are -- tend to be located around where a lot of the significant clients are, but we've had the capacity, and Dave you could confirm this. I think, we, in essence, do business in almost every state in the union. And we're doing much of that through the National Recruiting Center. So thus, the game is changed in that we now have the capacity to serve client needs anywhere irrespective of whether or not we have a specific geographic office.
The prior presenter went quite long in this. I know a number of you were there, so I'll be brief. There are very significant opportunities in the markets that we're looking at. The technology market, which was $24 billion in 2012, I guess looking at about 8% growth forecast at $26 billion in 2013.
Finance and Accounting. I guess, Staffing Industry Analysts, these are their growth projections, are looking I guess for 6%. Our government unit, which of course, I'll speak to in a minute and what sequestration may or may not do to that, that is not a military play per se. It's providing technology and financial infrastructure kind of projects.
And of course, our Health Information Management, which is in, what we think, are some very exciting areas.
Just -- I'm not going to read this one, but there certainly are some structural shifts. How can I prove it? Staffing has not behaved in this recovery like any traditional model would have it. Traditionally, you needed probably the better part of 2.5% to 3% GDP to grow a staffing business, both for us and a number of our domestic peers that have presented here. That has not been the case in the past few years. An extraordinarily disproportionate amount of hiring in this recovery has been through the temp sector. And again, there's a laundry list of reasons. People don't trust the economy, people don't trust regulation, people who are dealing with health care reform. Speaker before me spoke quite well to just the structural nature of technology alone and how that you want the resource there to do the project and then the resource wants to go on and do the next project and you only need them for 7/12 of the year, so that's only 7/12 of your salary costs, health care costs. So particularly around technology, it's project-driven anyway. I think the real shift has been, as we go around to clients, they have really tired of the economic fluctuations. And I think going forward, we can expect to see an increased structural commitment to a component of the workforce being flexible. And I think that will transcend outside the technology.
On top of that, there are some really daunting statistics. I mean unemployment for college-educated workers alone, the last BLS report on Friday, that's 3.8%. Very candidly, once you get to many of the tech niches, Java, .Net to name but 2, as a practical matter, it's a negative unemployment rate. So the war for talent is here in many sectors. That's why Kforce is doing things with internal headcount and resource allocation as we are going to move forward and expand our market share from the 3% it is today.
As any of us parents know here, the colleges are not cranking out nearly enough computer science and engineering majors and those -- there's some very scary projections by McKinsey going forward what that's going to look like. Bottom line: you add this most -- you put this mosaic together and the environment for professional staffing domestically looks very favorable for the foreseeable future barring an out-and-out recession, this in and out-and-out recession, there probably would be a degree of demand destruction.
Looking at our individual business lines. Technology. We're right in that sweet spot. Average bill rate, $64 an hour. Have just under 6,000 FTEs out in an average day in the last quarter. Again, the degree of change, I know this has been internalized by everybody so I'll be very brief, the tech space if you look back 5 to 10 years of what it is today, it's really hard to imagine the genie going back in the bottle and the rate of change slowing down. And I remember 10 to 15 years ago at these conferences, it was around killer app and just CapEx. Today, it's around mobility. It's around web -- it's around security. And we -- as we make the rounds to clients, it's not that we have projects. It's what projects can we do and what order are we going to put them in.
Finance and Accounting. Our average bill rate, about $32 an hour, 3,700 FTEs out. Again, Staffing Industry Analysts expects about 6% growth for this business in 2013.
Health Information Management. This is an interesting business. It's medical coders, billers. So there's a play here around what's going on in the ICD-10 implementation. In addition, we view health care going forward as something we're going to put increased focus on. Again, this is health care from a technology point of view primarily. We got out of the nursing business years ago. We actually sold our Clinical Research business last year. So this is health care in that sense, not health care in the sense of delivering care. And we see this is likely the strongest growing industry vertical going forward.
Government. Based upon our -- 73% of this is prime, about 27% is subcontractor. Based on the best information we have today around sequestration, we expect over the year -- the course of the year for the impact to be less than 10% of this business line. And this business line is about 8% of Kforce revenue.
With that said, I'd like to turn it over to David Kelly, Kforce Chief Financial Officer. Dave?
David M. Kelly
Good morning. Okay, so Kforce had a strong financial model. We see an improving operating margins really through a combination of revenue growth and improving gross margins, which are broadly seen across all of our business lines and some solid expense management, in particular over the course of the last year. In combination with that, our liquidity position, as you would expect, is very strong. We've got a run rate of about $60 million in annualized EBITDA. It allows us quite a bit of flexibility in what to do with that cash as we'll talk about in a moment, what's to invest in this business in an expectation to accelerate growth through some increased hiring that we've seen. Also, over the course of the last year, we returned to our shareholders a dividend, a special dividend, the $35 million dividend last year as well as have done stock repurchases, which in total were 3.4 million shares for about $44 million in 2012.
Our business model, very scalable. As Michael mentioned, we spent really the last 8 or 10 years making pretty significant investments in our infrastructure, in particular in our back office and our National Recruiting Center, as Michael mentioned. We believe that we can grow revenues on that infrastructure by about 50% without making significant investment. And additionally, we think that there's operating leverage that's going to contribute to increasing operating margins as we continue to grow revenues.
We believe really right now we're very poised to accelerate revenue growth. The industry, as Michael touched on, has seen very consistent demand over the past few years that we expect to perpetuate itself over the next few years. The diversified client portfolio of over 3,000 clients, very well distributed really no more than 3% of revenues in any one client and the mix of our client portfolio is about 1/3 in large clients, which gives us a nice degree of stability, a 1/3 in really medium-sized clients and a 1/3 in small clients, so very diversified. And really, with those 3,000 clients really don't necessarily need to penetrate new customers in order to pretty significantly accelerate revenue growth.
We've done, as I mentioned, some significant investment in our revenue-responsible headcount over the course of the last year really concentrated in the fourth quarter. Headcount year-over-year at the end of the year was up 21%.
This slide will show you a look at our revenues by segment, as well as GP percentage. Year-over-year growth in Q4, as you can see, is about 4%. It's really relatively consistent across all of our business lines, inclusive of Tech, which is about 2/3 of our business. As we'll talk a little bit about later, revenue growth really decelerated as we got into the back half of the year. Key driver for that was, from our perspective, given some of the uncertainties in the environment, we didn't make a lot of investment in revenue-producing folks and really spent the first half of this year with our tenured performers really operating near their historical peaks and really ran out of some capacity there. And as we're sitting here in a really supply-constrained environment, the need for those resources we saw was acute, which is really what made us determined to really add those folks in the last half of the year with a goal of accelerating revenue growth as we get into the back half of 2013 at a double-digit rate. Those adds were predominantly in the field, really a combination of client-facing as well as candidate-facing folks. And so we believe we're in a good position there. From a margin standpoint, you can see 100 basis points improvement in flex margins year-over-year, really reflecting strong demand in our business. This is despite the increased statutory costs that we've seen year-over-year. We've done a good job, I think, focusing on improving bill pay spreads, which has been the key driver to that margin improvement.
Tech spread improved 90 basis points year-over-year. I'll note our Tech margins are only 1% away from their prior peak. F&A's bill pay spreads were up 70 basis points year-over-year. Our HIM business is a result of some client mix. Shift is down 120 basis points year-over-year. And our Government business, although margins were up, there were some adjustments in the fourth quarter. Bill pay spreads have declined about 1% over the course of the last year.
As we think about 2013, we expect to see continued modest bill pay spread expansion, which we think will at least offset and maybe slightly better than offset those increased statutory costs that we anticipate in 2013.
We think we've done a nice job in improving profitability in 2012. You can see operating margins have improved from 3.2% to 5.1% year-over-year, really a combination, as I said, of that revenue growth and gross margins which you can see, 32.8%, are up 110 basis points really due to our Flex margin improvements. And good SG&A expense management, down 40 basis points year-over-year, which is despite some of the significant investment that I referenced earlier. EPS up 20% year-over-year.
So as we look forward, our expectation is that the leverage that exists in the platform, combined with continued revenue growth is going to result in good improvement in operating margins, especially as we get into the back half of 2013 and that's just some of the hires that we made earlier, late in 2012.
I'll touch very briefly on the Affordable Care Act here as we kind of look forward our expectations are that this law is going to be, at worst, really neutral for us and potentially a slight positive. We have a very highly benefited consultant population, about 2/3 of our employees are consultants, are benefited at a level well in excess of that minimum requirement. And those are concentrated really in our Tech business. Really, the area that we're looking at and we're obviously taking a look at the best way to address this in our finance and accounting area is where we will be looking to handle what happens with the Affordable Care Act.
As a couple other presenters have mentioned, we think generally speaking, that this is just one more increase in the cost of employment, which we think will tend to drive clients maybe more into temporary staffing as I think we kind of move forward. This is again another tax that we expect over time to be able to pass through to our clients.
This is a pie that shows you the revenue mix between our temp and our perm business. You can see temp is about 4% -- or perm is about 4% of revenues. It's up 9.2% year-over-year. And our expectation is that percentage to be stable as our revenues grow and we move forward.
In terms of annual revenue growth, you've seen relatively consistent growth over the years, particularly in Tech Flex despite really a tepid GDP environment, which, as Michael mentioned, we wouldn't typically have seen revenue growth in.
You can see the annual growth rates here: about 10.5% in 2010, 13% in 2011 and about 8% in 2012. Really, the revenue growth is slowing, as I mentioned, as a result of some of those capacity issues that we ran into but still growing at about industry levels.
This is a quarterly look at revenues. And you can see a little bit better that revenue trajectory, which was at 10%, 12% at first half of the year that decelerated into 4%. Again, against a backdrop of consistently good demand. Really, as we move into the back half of the year and we saw that revenue deceleration, we also saw some resolution of some uncertainties as a result of the election, the finalization of the Supreme Court of what the Obamacare whether it was going to be passed and implemented. And our view as we look forward is a very good environment for tech staffing in particular, which resulted in our decision to really shift our focus and accelerate revenue growth through revenue-responsible headcount additions in the back half of the year.
From a balance sheet perspective. Again, strong balance sheet cash flows, 13.5%. Debt-to-equity, you can see, I'd already mentioned, the annualized EBITDA of $60 million. We've reduced debt $28 million at the same time. I'd mentioned to you that we bought 44 million of shares and did a special dividend that is on top of the prior year repurchase of $60 million of our stock or 5.7 million shares.
So to wrap things up here. We believe that we expect a really stable solid environment for our business and the industry as a whole. We think we are in the right businesses and Tech, in particular, should continue to be very good. And as a result of those of those uncertainties being resolved, we've reemphasized revenue growth, as Michael mentioned, looking for an acceleration in revenue growth in the back half of 2013. And then improved operating margins once we digest those new hires that we had made in the back half of the year, which we expect to improve operating margins as we move forward.
And I think we're out of time. I think we are scheduled for a breakout in Pine level well, so we can take questions there. Thank you.
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