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Executives

Kevin Kelly - Chief Executive Officer

Scott Krenz - Chief Financial Officer

Julie Creed - Vice President of Investor Relations

Analysts

Tim McHugh - William Blair & Company

Mark Marcon - Robert W. Baird & Co.

Josh Burglow - Unidentified Company

Andrew Fones - UBS

Tobey Sommer - Suntrust Robinson Humphrey

Heidrick & Struggles International Inc. (HSII) Q1 2009 Earnings Call April 28, 2009 10:00 AM ET

Operator

Good day ladies and gentlemen and welcome to the Heidrick & Struggles first quarter 2009 quarterly conference call. At this time all participants are in a listen-only mode. Later we will conduct a question-and-answer session and instructions will follow at that time.

I would now like to turn the conference over to Ms. Julie Creed. Ms. Creed, you may begin.

Julie Creed

Good morning everyone and thanks for participating on our first quarter conference call. Participating on the call today with me are Kevin Kelly, Chief Executive Officer and Scott Krenz, our Chief Financial Officer. As a reminder we’ll be referring to supporting slides that are available on our website at www.heidrick.com on the Investor Relations homepage and we encourage you to follow along or print them.

As always we advise you that this call may not be reproduced or retransmitted without our consent. Also, we’ll be making forward-looking statements on today’s call and ask that you please refer to our Safe Harbor language contained in our news release and on slide one of our presentation.

Now I’ll turn it over to you, Kevin.

Kevin Kelly

Thanks Julie and thanks to all of you who are taking the time to participate on our call today. If you are following along with the slides we posted on our website, I’m going to start with slide number two.

Market conditions around the world continue to worsen more than we expected in the first quarter and even with the benefit of favorable currency rates, America’s revenue declined about 39% year-over-year, Europe was down about 35% and Asia-Pacific declined approximately 28%. All of our practice groups reported year-over-year declines of at least 20% revenue and in the number of searches confirmed.

Looking at slides three and four, executive search confirmations in the first quarter were down 38% year-over-year and down 7% sequentially. We saw a modest improvement each month through the first quarter, but that improvement was not enough to make up for the weak confirmation levels in November and December. Given spring breaks in Easter, we would not be surprised if April confirmations are somewhat less than March, but we won’t know that for a couple of days.

Slide five; total headcount on March 31 was 1593, a decline of 9% compared to December 31. Consultant headcount at March 31 was 403, compared to 480 a year ago and 419 at the end of December. 403 might be higher than you’d expect, given that we let go 37 consultants as part of the global workforce reduction in January, but there were also additions in the quarter.

As part of our annual promotions process 13 of our associates became consultants in January. We also acquired seven consultants in February as part of our expansion into Eastern Europe and we hired 11 other consultants in faster growing regions or practices.

We are acutely aware of the delicate balance between keeping the capacity that positions us for improving marketing conditions and reducing cost. Our strategy is to selectively add and keep high producing consultants or reducing costs associated with underutilized support leverage.

Looking at slide six, productivity; in the past, we have reported productivity as search revenue in the quarter, divided by the number of consultants in that quarter and then annualized that figure. However, beginning this year, we will calculate productivity as total net revenue in the quarter, not just search revenue, divided by the average number of consultants in the quarter.

The consultant numbers we disclosed each quarter, include consultants who only provide leadership advisory services, consultants who only provide executive search and consultants who do a bit of both; but given our increased focus on growing leadership advisory services and our holistic approach to talent management, we think it’s a great time to start reporting productivity as total net revenue divided by all consultants.

In this slide, we provide you with both figures going back to 2004, but if any of you would like the history on a quarterly basis, just please let Julie know. In the first quarter, productivity was $900,000, compared to $1.5 million in the first quarter of 2008. The decline largely reflects much lower revenue in this quarter, but only a slight decline in the number of consultants, which relates to our conscious decision to retain some excess capacity, but also as is typical in professional services firms reflects the fact that the reduction in staff tends to lag revenue declines.

Turning to slide seven, the average fee for executive search was $98,900 compared to $106,700 in last year’s first quarter. As a reminder, this figure is calculated as search revenue in the quarter, divided by search confirmations in the quarter. It is not the average of actual search fees confirmed in a quarter.

Although the decline therefore reflects a very slow first quarter, the economy is having an impact on our average fees per search as well. It is hard to generalize, because the impact has taken on many different forms. In some cases, we have agreed to lower up front retainers, but will make our normal search fee upon completion. In other cases, we have attempts to negotiate lower caps on search and for certain customers we’ve agreed.

We have also seen some plans attempt to negotiate lower percentages of first year compensation. All of these are reviewed on a case-by-case basis and as always, we are committed to supporting our clients in these troubled times. This means, sometime showing flexibility. However, nothing we’ve seen to-date would indicate a fundamental change to the structure of how we are compensated.

Referring to slide eight, excluding restructuring charges in the first quarter of $13.4 million, which we believe more appropriately reflects our core operations, the operating loss would have been $19 million compared to operating income of $10.9 million in the 2008 first quarter.

The reason for this loss is straight-forward, although it doesn’t mean that we’re happy with the results. Despite $31 million plus in reduction we made to salary and employee benefits and continued savings in general and administrative expenses, we did not keep up with such a sharp decline in net revenue.

We are striving for the right balance between keeping some excess capacity in order to be better positioned to come out of this downturn and running a profitable company this year. However, given the first quarter, I can assure you that we are taking more aggressive actions in order to achieve this goal.

So I’ll first turn the call over to Julie for an update on some of our key line items and then Scott and I will go into more details on these actions and our outlook.

Julie Creed

Thanks Kevin. Turning to slide nine now, salaries and employee benefits expense of $79.3 million, decreased $31.3 million or 28.3% year-over-year. Variable or discretionary compensation represented $24.5 million in the reduction, mainly as a result of lower bonus accruals related to lower revenue and operating results. Fixed compensation declined $6.8 million, mostly as a result of the reduction in force announced in January 15.

Total stock-based compensation expense in the quarter was $5.9 million, a decline of about $700,000 compared to last years first quarter. As a remainder, this decline largely reflects the shift and deferred bonus compensation from RSUs to cash base that we made last year. Salaries and employee benefits increased to 89% of net revenue, which as Kevin just explain, reflected our cost structure and a very low revenue quarter.

Turning to slide 10, general and administrative expenses in the quarter of $28.8 million declined 9%. The decline reflects our continued cost savings initiatives offset by several small year-over-year increases, including professional fees related to our core process improvement initiatives and the charges associated with vacating one of our old locations in New York City.

If you’ve been following us for the last few quarters, you’ve heard us talk about our core process improvement efforts, to help us, we’ve engaged to Heidrick group, a business advisory firm that is a world leader in best practice research and process benchmarking. In December, we began to benchmark the core processes of the company, specifically focusing on HR, IT and finance areas of delivery. They’ve completed their initial study of our processes and we’ve already begin to assess how to address our efficiency and effectiveness.

In addition to us binding better services, cost savings will be achieved through a combination of business process redesign, standardization, better use of technology, outsourcing and delivery consolidation. Our goal is to achieve $10 million of annualized cost savings from our core processes by 2011.

Looking at slides 11 and 12, excluding restructuring charges, which we believe more appropriately reflects our corporation, the net loss would have been $11.2 million and the net loss per diluted share would have been $0.68. Effective tax benefit rate of 42% in the quarter was slightly higher as a result of lower book income in the quarter and a geographical mix of the book income.

Now I’ll turn the call over to you Scott.

Scott Krenz

Thanks Julie. In an economy which just doesn’t seem to be able to find the bottom, forecasting is incredibly difficult. On our fourth quarter call, we provided you with a forecast for 2009 net revenue, but it has becoming increasingly apparent that with all the uncertainties and in an environment where our clients cannot forecast their own demand business, we just can’t provide an outlook in which we have a reasonable degree of confidence. So the bottom line is that we are not going to provide you 2009 guidance. This is not a change of our philosophy, but simply a reflection of these times.

We know that market conditions will eventually improve and we are certain that when they do, our clients needs for talent manager will be more important than ever. Based on client feedback, we do anticipate a pickup in confirmations in the second half of 2009, where we are not counting on it to manage our business. Instead of trying to forecast when the turn will happen, we are managing our cost structures, if the level of first quarter confirmations continues through 2009.

As we stated in the release, our operating margin goal for 2009 is a minimum of breakeven at our current run rate. If confirmations pickup, results should significantly improve. To be clear, the January to March run rate is not four times the first quarter net revenue. First quarter net revenues are heavily impacted by November and December confirmations. Rather the January to March run rate, if continued throughout the year it would produce approximately $400 million in net revenue.

On January 15, we announced a restructuring plan to reduce overall costs and improve operational efficiencies. That restructuring included a headcount reduction of approximately 11% or about 200 employees, an expected annual savings of approximately $27 million.

So we’ve realized that to make up for the first quarter and to achieve at least a breakeven operating margin, we need to take more aggressive actions to cut both fixed and variable expenses.

We will further reduce our total global headcount by 8% to 10% in May. This is expected to produce an additional $12 million in savings in 2009 or approximately $20 million annualized. As a result of this action, we would expect to take an additional restructuring charge of between $6 million and $10 million in the second quarter, essentially all cash related to severance.

We’re reducing base salaries across the board by 5%, through a combination of cuts, reduced work hours and on paid time off. Also every member of the operating committee, our senior leadership team, is going to forgo one month’s salary. Our Board of Directors unanimously approved a 50% cut in their annual cash retainer. In addition, our Non-Executive Chairman has taken a 50% cut in the amount he receives for acting as Chairman.

Taken together, these reductions and fixed expenses will produce savings of approximately $5 million. As per cost savings targeted at lower and variable expenses, we are reducing our 2009 discretionary bonus pools by $26 million and have identified approximately $10 million of other expenses that will be eliminated in 2009.

Our latest initiatives, not all of which can be outlined here, are targeted to save approximately $60 million in 2009. These savings are in addition to the savings expected as a result of the January workforce reduction.

Our financial position remains solid. Cash used in our operating activities was $113.2 million in the first quarter and our cash balance was $96.4 million at the end of March. The decrease compared to December 31, 2008 reflects the payment of approximately a $123 million in the first quarter, related to 2008 bonuses. There will be an additional payment of approximately $10 million in the second quarter related to 2008 bonuses. This is for payroll taxes in non-U.S. countries.

Earlier this month, we amended our credit facility with our bank group. Since October 2006, we have had $100 million committed unsecured revolving credit facility. There has never been any borrowing under this facility. As a result of our first quarter restructuring charge, the company would have fallen out of compliance with one of the financial covenants of the facility.

We executed an amendment to the credit facility, which although decreasing the size of the facility from $100 million to $75 million, assures it’s availability throughout 2009 even after January and February run rate and with restructuring charges. Similar to our goal for break-even at the operating level, we expect to generate enough cash flow on 2009 to fund ongoing operations in any bonuses we may pay. We do not anticipate any borrowings under our facility in 2009.

We did not repurchase any shares of our common stock in the quarter. We did continue to invest in our business where we saw opportunities to enhance our market position, like in Eastern Europe, where we acquired seven experienced consultants and we will also look for ways to accelerate our capability to deliver a broader range of talent management solutions. Strategic hiring, training and development and acquisitions have been and will continue to be part of this strategy.

Kevin, now I’ll turn it back to you to close.

Kevin Kelly

Thanks Scott. Clearly these are unprecedented times. According to an article I’ve read in Sunday’s New York Times, which ranked all recessions since 1960 on various measures, this recession is close to being the longest and worst recessions since that of 1973 to ’75. In the two areas in which this is already the worse recession since 1960, our employment and industrial production. There is no consistency by market, industry, product or geography, everyone is affected.

We are doing everything we can to be profitable, but we are also cognizant that the economy will improve and so will our business. As such we need to make sure that we have consultants who are trained, capable and in front of their clients. So that when the markets start to improve, we will be positioned to help our clients with a host of talent management needs. Unfortunately, we cannot forecast demand when our clients can’t forecast demand. We can preserve our strength, stay close to our clients, be nimble and remain profitable.

So at this point we’ll be happy to take any questions that you might have.

Question-and-Answer Session

Operator

(Operator Instructions) Thank you and our first question comes from Tim McHugh, William Blair & Company. Your line is open.

Tim McHugh - William Blair & Company

Yes, first I want to ask Scott, your comment about the difference between the revenue implied by the confirmation trends and Q1 versus late in Q4 that impacted the actual Q1 revenue. Are you seeing that if confirmation just stayed at the same level as Q1, the total annual for 2009 would be $400 million or is that the annualized run rate as we’re going forward here?

Scott Krenz

Yes, a couple of things. I mean I think you know, our revenue recognition model was not terribly complex, but there is a nuance here and that is that we don’t recognize the revenue as we sign a conformation, it’s recognized based on the level of effort expanded to close the search. That means that the revenue you saw in Q1 is really, mainly impacted by what we saw in November and December conformations, and then somewhat by January.

So, you didn’t see the impact of the improvement we saw in January and February and March that will beyond an ongoing forward basis. So, you can’t simply take four times first quarter and say, that’s where the company would end out if you stated that run rate. It’s really based upon the run rate of January, February and March; those conformation levels we saw. If that confirmation level does not improve, then we would end up with about $400 million in revenue for the full year 2009.

Now, there’s two things; one, as I said in my remarks, we still hear from all of our consultants that we expect to see an up-tick in the back half of the year. We just didn’t think it was prudent to take a chance if you will on that happening.

So we made a very conscious effort to move aggressively now and to size our cost structure to the January, February and March run rate; so, something which would produce about $400 million. So, the goal here is to breakeven at a minimum, hopefully show a small profit, even if we didn’t see an improvement from where we were in January, February and March.

Clearly, if what we’re hearing from our clients and from our consultants happens and we have an improvement in the back half of the year, then having taken the actions we are at now, we will have significantly better both top and bottom line results, but we just weren’t willing to I guess, bet on that. We felt, we had to act on the information we had in hand, which is what we’re seeing in January, February and March. Does that answers your question?

Tim McHugh - William Blair & Company

Yes, that’s helpful, and to go along with that, you’ve given out a backlog number sometime in the past, do you have that available for at the end of Q1, to give us a sense for where Q2 might trend?

Julie Creed

Yes Tim, its $35.6 million.

Tim McHugh - William Blair & Company

Okay, then my other question would be the pricing pressure that you described Kevin. Recognizing you weren’t in your current role during the last recession, can you compare that to what you might have seen during deferrals of the last recession? Is this an unusual level of pricing pressure and if so, how confident are you that this is just a temporary thing, as you talk to your client about it.

Kevin Kelly

Tim, it’s a great question. What we’re seeing is quite simply lower, upfront retainers and so what we are expecting is more on the backend and this happened, this is the same thing that happened in 2001, 2002 where clients came to us and said “Okay, usually you have a $350,000 retainer, why don’t we give you a $200,000 retainer and on the backend you will get the other $150,000” and that’s exactly what we’re having now. A lot of our clients are cash trapped, so we want to make sure that we support them through these economic times.

There is pricing pressure across the globe. We do see it, we actually do turndown some search work, which doesn’t make sense for us, because we have to make sure that what we’re doing for one client, we’re consistent with another across the globe, but each market and each practice we have to take case-by-case and work with clients whether they’ve been a client for 10 years or six months to work through this time period.

So, it’s a case-by-case basis. We’re seeing a lot of different things, but nothing different than we saw in 2001, 2002.

Tim McHugh - William Blair & Company

Okay, that’s helpful.

Operator

Thank you. Our next question comes from Mark Marcon. Your line is open.

Mark Marcon - Robert W. Baird & Co.

Following-on to the prior question, when we take a look at the fee per search, is part of the function just at the mix in terms of where geographically or by industry you’re getting searches now?

Kevin Kelly

Mark, its Kevin, I’m sorry. The question was, is there a…?

Mark Marcon - Robert W. Baird & Co.

When we take a look at the decline in the fee per search, is part of that a function of just a mix of the types of assignments that you are getting now?

Scott Krenz

Yes, I mean; one thing is that historically financial services has been 30% of revenue in the first quarter, it was 24%, although we are seeing a pickup in financial services. As we all know salary or compensation in financial services is higher than any other industry, but across the board, we’re seeing not a discount, but clients asking for better pricing upfront with payment not contingent, but on the backend after the placement is made.

The other thing to mention that’s come up before, particularly in financial services, is even though there’s been a falloff in compensation in financial services, we are caped. So, our caps fall between $315,000 to $500,000. We just tend to be getting more on the backend as we have historically.

If you go back the last two or three years, given bonus payments in February and March for financial institutions, we usually see a load of the up ticks come around the May, June timeframe when those individuals are getting placed, but to answer your question, financial services, often salaries are higher in financial services, but additionally its hitting all of our other practices, as well across the globe.

Mark Marcon - Robert W. Baird & Co.

So you’re seeing the offering salaries for position come down across the globe.

Kevin Kelly

No Mark, sorry; it’s not the salaries that are coming down, its say, historically somebody was getting paid $300,000, we would get a retainer of $100,000. The clients are coming to us and saying, “Okay, we’re still going to pay this person $300,000; yet, we only want to pay you with $75,000 retainer upfront, but we will give you the $25,000 to make up the difference on the back end after the candidate joins.”

Mark Marcon - Robert W. Baird & Co.

Got it, but the 300, that hasn’t changed in terms of what’s being offered to the candidate.

Kevin Kelly

Correct

Julie Creed

And Mark, just as reminder, again, I mean pricing has definitely had an impact on it, but at the end of day it is a calculation which was effected by lower revenue in the quarter.

Mark Marcon - Robert W. Baird & Co.

Sure, and then can you also talk a little bit about Asia-Pac and just the revenue trends that you’re seeing there on a constant currency basis, vis-à-vis the expansion in terms of the consultant base and how you are thinking about that going forward?

Kevin Kelly

Sure. Asia-Pacific, we saw somewhat of blip in Asia, as we did in all markets year end, and into January; however, we want to be well positioned. As I know I’m out talking to clients and as our colleagues are talking to clients around the globe, firms continue to look for areas of growth in Asia Pacific, the Middle East, as well as Central Eastern Europe provides that opportunity and it’s getting the balance right that we’ve spoken about consistently.

Getting the balance right of making sure that we invest in our business, follow our clients and have the capacity and/or the execution capability to deliver what they’re trying to do in Asia. So, we did see a blip in Asia for the first time, but what our consultants are telling us is, after that initial blip, they’re starting to see demand for executive search in the region.

Mark Marcon - Robert W. Baird & Co.

But you would anticipate that would be one of the first areas to come back.

Kevin Kelly

Absolutely

Mark Marcon - Robert W. Baird & Co.

Okay and then can you just clarify what you meant in terms of the breakeven. Were you talking about breakeven for the year or were you talking about breakeven for the balance of the year; in other words Q2 through Q4, exclusive of Q1.

Scott Krenz

No, we were talking about all of 2009, including Q1, but excluding the restructuring charges that we would have either a breakeven or a small profit at the operating income line. So we have no way of saying that as we’re talking about making up for the little loss we’ve seen in Q1.

Mark Marcon - Robert W. Baird & Co.

Okay and that would be at that $400 million revenue run rate?

Scott Krenz

Right, at the $400 million run rate, that’s where we have sized the cost structure and basely what we can afford to pay for things here in order to produce that result.

Mark Marcon - Robert W. Baird & Co.

So, once you’re done with all of the restructurings, obviously there’s seasonal variations, but on a run rate basis, what would the cost structure come down to?

Scott Krenz

I guess that’s a big question, because it’s…

Kevin Kelly

Yes, on a quarterly basis.

Scott Krenz

On a quarterly basis, if we’re producing a breakeven, we’ll have to go back and produce a margin of some amount in the other quarters. I’m trying to remember exactly what it is to get us through the full year result. Hang on a second here, because we’ve got it broken down by quarter. Yes, so it means that we’ll be producing margins which are in double-digits here for the remainder of the year in order to make up for the first quarter here.

Mark Marcon - Robert W. Baird & Co.

And the anticipated reduction, the additional charge that you’re going to take in May and the additional cost actions; that should suffice to get you there, assuming that things do stabilize at these levels?

Scott Krenz

Yes, that’s what it was designed to do, is to make sure at that January, February, March run rate, we don’t have to come back and revisit this again; that we’ve sized the cost structure at that rate.

I should probably add-on, we have plans in place. Let me start this in a different way. The cost reduction we’re taking are not all sort of flexible, many of these things are permanent reductions, permanent improvements in our efficiency, permanent improvements in the efficiency of our leverage model, in the way we run certain things around here, which are meant to stick.

That’s another way of saying that if when revenue recovers and it will, we will have effected the cost basis to produce a better result than we would have had we not taken these actions. We’re not just going to bounce back to the same cost structure we have before.

Mark Marcon - Robert W. Baird & Co.

And I’m assuming that it basically would imply, since the cost structures or the cost actions are going to take place in the middle of Q2; that essentially the year is going to be back end loaded in order to get to that break-even.

Scott Krenz

Yes, in terms of the profit, in terms of the bottom line, you’re absolutely right. For the obvious reason that the cost structure kicks in, the cost savings start kicking in here and really they’ve started to kick in or some of them have already begun, the bulk of them are going to start to kick-in in May.

Kevin Kelly

Mark, this is Kevin. We’re trying to get our costs base down to a $400 million run rate as Scott mentioned before. On the revenue side or the top line side, what our clients are telling us and what our consultants are telling us is, there’s a backlog or pent up demand in terms of the executive search needs across the globe and it’s just taking longer to get some of these engagement letters signed as well, which happened in the last recession. At Tim’s point earlier, this happened in the last recession as well in 2001, 2002. So, we’re fairly confident that we will see an increase in search fees going forward.

Scott Krenz

I just want to reiterate, because we spent a lot of time talking about the run rate; that’s exactly what it is; it’s a run rate. As I said in my remarks, right now we’re hearing from our clients that they can’t figure out in this environment, what’s happening in their business. That’s the reason we just felt, didn’t feel comfortable than have a confidence in providing guidance, but we did decide that we would just assume this run rate was there.

Since, we’ve seen modest recoveries, since what seems to have been a low point in December, what we want to do is size things to the January, February and March run rate.

Mark Marcon - Robert W. Baird & Co.

Then in terms of the cash, did the earn out go out for Highland and how are you thinking about the dividend?

Scott Krenz

The earn-out did go out for Highland, that’s been paid. The dividend is obviously something which is the preview of the board, not ourselves. We continue to have discussions with them, but at this point we have not introduced any discussions. I mean, I’ll go where I think you’re leading the question. We have not introduced with the board, any discussions of cutting or reducing the dividend.

Mark Marcon - Robert W. Baird & Co.

And that wasn’t a condition in terms of the amendment with the facility?

Scott Krenz

No, it was not.

Mark Marcon - Robert W. Baird & Co.

Great, thank you.

Operator

Our next question comes from Josh Burglow. Your line is open.

Josh Burglow - Unidentified Company

Hey, good morning. Thank you. Given the broad based cuts you’re making to the base salary, I was curious if you are now offering maybe a higher bonus payout to the consultants, provided they perform?

Scott Krenz

Josh, we have a very structured compensation system in place, based on tiers and so the consultants know what they’re going to mix. So, the answer there would be, no, we won’t offer a higher payout vis-à-vis the bonus this year.

Josh Burglow - Unidentified Company

Okay and I know this is kind of forward-looking, but at your expected capacity, following the second around the restructuring and if say that run rate on the year is $400 million, would you have an idea what the bonus pay out would look like for ’09?

Scott Krenz

We clearly do, but it’s not something that I guess I’d want to discuss at this point. That amount of that pool is extraordinarily sensitive in something which I’m sure that many of our competitors who may have actually be listening on this call would want to know.

So, we obviously know what it is, it is less than in past, because clearly as Kevin said this is based upon actual achievement, how much you sell. If $400 million continues, if that run rate continues through the year the payout is obviously going to be significantly less than was made in early 2009 for the 2008 bonuses.

But just to come back and reiterate the point I made. Again, in terms of this planning, whether it’s a cost structure or cash or anything, we want to be profitable this year, no matter what this terribly uncertain market hands us and in addition to that we want to be able to be self sufficient in term of cash. That means, we generate enough cash to run this business and we will have generated and put away enough cash in our bank accounts that come first quarter of 2010.

We have essentially funded the amount of bonuses we’re going to paying out and doing that without drawing down on the credit facility. The credit facility remains a safety net for us, and is viewed by us is that that has not changed, that view of that. We just want to make sure that that safety net would be available throughout this period and what really through monkey wrench into it were the restructuring charges which were just not bought up when the original deal was cut.

Josh Burglow - Unidentified Company

Okay so basically the only way you would tap the facility is if you’re going to make an acquisition, is that how I should look at it?

Kevin Kelly

Yes, I mean if we were to make an acquisition or something really unusual happens, that’s what the facility is there for. It’s not meant to be part of our normal operating cash flow cycle.

Josh Burglow - Unidentified Company

Okay and I may have missed this, I apologize, but if the 8% to 10% headcount reductions are isolated for next month, are those broad based or targeted to just one region, in particular maybe Asia-Pacific or…?

Scott Krenz

They are all levels, all regions and include both, search employees as well as support and the corporate employees.

Josh Burglow - Unidentified Company

Okay, great and then just lastly, outside of pricing pressures, I was wondering if you could just gives us some general comments on the environment in general. I know that there’s a much bigger focus today on executive compensation and I was wondering if you were seeing any decline in the company’s average compensation packages for their executives.

Scott Krenz

Well there is scrutiny over executive compensation, a couple of things to bear in mind; number one, we are caped in terms of search fees globally, particularly at the CEO and board level at $1.5 million. So if a CEO was getting paid $12 million, then it comes down to $4 million or $5 million, we’re still caped at the $1.5 million. So, it doesn’t really affect us in regard to our fees.

Secondly, in this market our demand will be much more important or greater than ever, primarily because there’s a still adore the talent and leadership and especially for some organizations where they need it more than ever. So given the scrutiny and given the access to that talent, we are only one to four firms, five firms globally, with the global footprint and the capability to actually deliver these talent management solutions to our clients.

So, given the caps, given the fact we have a global footprint I think we’re still very well positioned to serve our clients around the global, Josh.

Josh Burglow - Unidentified Company

Okay, thank you and I’m sorry, if I could sneak one last one in. I know the spring break makes April an interesting month, but I was wondering if through the first three weeks if you could tell us how search gauge were trending year-over-year?

Scott Krenz

Yes, I can make some general comments. It wasn’t just unfortunately spring breaks, we had Easter holiday in there as well, which in many areas of the world is a traditional time to take off. The result was that the month started very slowly, but it has definitely picked up steam in the latter half of the month.

Although, we have an estimate in one of slides here, it really is going to dependent in the next three or four days where we end up and we’ll just have to wait and see it. I talked to everybody. We know there’s a lot of things which are in the queue, we know there’s a lot of paper which is with our clients right now waiting to be returned, but just because of the odd nature of he holidays in April, it’s hard to predict whether that paper will actually hit our desk rule late into May.

Josh Burglow - Unidentified Company

Okay. Thank you very much.

Operator

Our next question comes from Andrew Fones, your line is open.

Andrew Fones - UBS

Thanks. First I wanted to touch on the cost savings you outlined. I think you mentioned that some of the severance and some of the headcount reductions would save about $12 million this year and $20 million annualized. Did you say that you would be savings if $26 million from lower discretionary bonuses, is that right?

Scott Krenz

That’s correct.

Andrew Fones – UBS

And that is related to, is it based Q1?

Kevin Kelly

What is relative to is sort of business as usual, sort of base case. I mean this is just not usual times and whether its in our base salaries or in the amount we can expect; I mean very personally the amount I can expect, as a bonus I think we need to recognize that these are not usual times that we’re committed to producing a profit for our shareholder and we only do to participate in that.

So, what we’ve done is we’ve looked at what the plans would normally be and we simply said, “This is about normal times we need to scale those back” and it’s against that basis that we’re saving $26 million.

Andrew Fones - UBS

So, are you saying that you expect to scale back further than you did in Q1, because Q1 annualized would be $40 million, you did $140 million last year. I’m just wondering what the base is; there’s a big difference there.

Scott Krenz

Well, there’s going to be a very big difference. I mean we produced $600 million plus revenue in 2008. So there’s obviously going to be a huge difference in the amount of payouts, just as you’d normally run the plan.

The way we do this is to reflect in the quarter we’re in, basically what’s earned in that quarter. In other words, for the same reasons that we’re not provide guidance here, we’re not making a full year estimate in terms of approving the bonus. We’re just doing whatever is earned in that quarter, based upon performance is what’s booked.

First quarter was obviously a dismal quarter and it reflects what is probably the low point here, hopefully what is the low point, which is December, but it reflect the fact that our first round of cost initiatives, size of this firm on an amount much higher than we saw in the January, February run rate or for that matter in the first quarter results.

So when we booked that, that is going to be a lower amount, probably than we’ll see for the rest of the year, because as you go forward, it’s going to be better than the first quarter to get us to a breakeven and so the amount of bonuses earned in each of those subsequent quarters will be higher as well.

Andrew Fones - UBS

Okay, maybe I could just try this one other way and then I’ll leave it, but should I think, if this as being a $26 million saving versus what you would have otherwise probably spent on bonuses, if you’d have come at the midpoint of your old guidance range from Q4, that you gave on the Q4 call? Is that how I should be thinking about this $26 million?

Scott Krenz

Well, the reason I’m hesitating is because that’s not how it’s calculated. I was trying to think if you’re getting to about the same answer and I guess I have to go back and look.

Andrew Fones - UBS

Okay, that’s fine and just moving on, the $10 million of other expenses, where are they coming from, is that in SG&A?

Scott Krenz

A lot it’s in SG&A, a lot of it is travel and entertainment related things. It is in SG&A, where we’ve looked at projects, which may not make as much sense in the current environment. We’ve looked at functions that we thought could be resized and in some cases eliminated almost entirely. So it’s a broad range of things, but we really took a hard, hard look at this.

As I said, I guess I’m going to repeat this again, because I think it’s incredibly important to us certainly and I think it should be to our investors and that is, when we looked at this, we took a hard look at things that maybe, people hesitated have had a life of their own for several years as things have set. Now, is the time we can cut this and get rid of it permanently, so we can permanently impact our cost structure, so a lot of our area is like that.

Andrew Fones - UBS

Okay, you mentioned $5 million of savings from board fees and lower management salaries and then the remaining $7 million to get to the $60 million, what is that of the $7 million and where will that come from, if I could?

Scott Krenz

Well, it’s a variety of things. When we look at what was planned for hiring and we know we’re not hiring anymore, it’s what we look was planned for certain expansions and stuff and we’re not going to do that. It’s a whole host of little things that add up to it and I would bore everybody to tears here, if I went through all of them, it’s a long list.

Andrew Fones - UBS

Okay and then just if I could just add one other; you had $96 million of cash at the end of the quarter. I think you mentioned $10 million of additional bonus payouts in Q2, $6 million to $10 million of charges in Q2, that will be mostly cash, brings you then to about $78 million of cash. I was just wondering kind of where that’s located and then on CapEx, I think you’ve guided us to about $17 million to $21 million of CapEx for ’09; is that still a good number?

Scott Krenz

No. Well, the answer to the last question first is, no. CapEx is one of the areas we’re impacted and we’ve looked at things which we don’t necessarily have to do and we’re now looking at a range of probably $11 million to $13 million. As to where the cash is located, there’s two things to recognize. When we payout that second quarter $10 million, we’ll generating cash in the second quarter as well, as the operations continue to generate cash.

So for the full year, we’re expecting somewhere in the order of magnitude of $30 million free cash flow for the full year here, and when I say free cash flow in that $30 million, that’s after having set aside the amount within the series, but what we think we’re going to be paying in bonuses; so that’s true free crash after. Even though the bonuses won’t get paid until the following year, I understand that we realized in search of that sort of encumbered amount, as we give that guidance of what free cash flow is.

The other thing, where it is; it’s spread around the world. We pay a lot of attention to where it is, trying to make sure that we’re optimizing tax payments and we keep cash in country, so we’re not moving it around and it’s something we monitor all the time. That’s more than sufficient to fund just our working capital cycle here, we don’t have to worry about that.

Andrew Fones - UBS

Okay. Thanks.

Operator

We have a follow-up question from Mark Marcon. Your line is open.

Mark Marcon - Robert W. Baird & Co.

I’m wondering, if you could comment with regards to the expectations of some of the consultants and it sounds like your new hiring activity is going to be minimized here, but one thing that, at least towards the tail end of an upturn, you typically end up seeing fairly aggressive demands by some of the consultants, particularly those that are still producing.

How is that looking now and are your competitors becoming more rational with regards to their recruiting efforts? Are they still trying to porch people and offering them things that are more commensurate with peak revenue run rates as opposed to where we are in the cycle now?

Kevin Kelly

When you say, how our consultants were feeling, first of all Mark, I think that given that what we do for a living is engaged with clients across the globe and I don’t think you can pickup a news paper today, without seeing what’s happening to one organization after another.

So number one, we have a great group of consultants across the globe and we pride ourselves in having the best in the industry and so I would say, I know that our competitors consistently will try to go after our consultants in any geography or any industry and we work, that’s just the nature of the beast.

In terms of expectations, I believe they’re here for reason; I mean our consultants are here because of the brand, because of the partnership and team work we see across the globe and because of the strategy and vision that we’ve set forth for the organization and we’re excited about it, and they believe in it and they’re here for the long term.

Our competitors will continue to look at recruiting some of our top talent, as we will continue to look at them to recruit some of there top talent. The challenge in this market is how you balance, focusing on growth in the future or a rebound in the globe economic environment, with maintaining your cost basis and I know that for a fact it’s something that all of the search firms are struggling with globally.

So, we want to be prudent in terms of our cost base, but simultaneously as Scott mentioned, we’ll continue to invest in our leadership advisory program and we will look at strategic hires where they make sense across the globe, because we want to make sure when we do come out of this and we know we will, we are well positioned to capture growth at that point in time.

Another point I’d like to make is and we’re focused on us consistently; to Scott’s point earlier about making sure that we do things that are right for organization, that haven’t been done historically in good times, is right on. Simultaneously, if I look at productivity and this is the question that you all have asked for the last two or three years. We believe that we can take productivity up to $2 million.

So, by making some of these investments in technology, by making sure our structure is in the right and best shape it can be, we believe that investing and training will help bring productivity, even if our consultant ranks remain stagnate around the 375 to 400 range. We believe that we can drive productivity from anywhere from $1.5 million up to $2 million, and that’s our consisting goal over the course of the next two years.

Mark Marcon - Robert W. Baird & Co.

Okay, but it sounds like that the poaching activity is probably going to be reduced a little bit, which should reduce some of the pressure?

Kevin Kelly

It is, but one thing to bear in mind. It’s very challenging for us or any of our competitors to pickup one of our consultants, because take an industry sector, whether its financial services or technology, we work for a select group of investment banks across the globe and therefore our competitors work for different investment banks.

So if we picked off a consultant from another firm, unless they’re working for the same clients, which most of the time or 99% of the time, they’re not. It’s basically like hiring a brand new consultants and having them to start from scratch; where we have made investments in hiring from our competitors before is to build and/or bolster those industry practice groups across the globe, what we were lagging behind.

I think you recall two years ago, we made a conservative effort in our life sciences practice and I think you’ve saw the results last year, based on the recruiting we made in that area. So that’s the way we view it; it’s tough to recruit from our competitors in a particular area, unless we have the bandwidth to bring them on and the client base that we need going forward.

Mark Marcon - Robert W. Baird & Co.

Great, thank you.

Scott Krenz

If I can just take a second and quickly clarify something I said, just to give people off the base point here. I had mentioned we would expect to produce $30 million of free cash flow after having made provision for the bonus, which would be earned in 2009 here; that’s a estimate at the $400 million level.

Again, like a lot of these things, that’s just asking ourselves the question if the January, February, March run rate persisted, which would annualize to about $400 million, that’s what would result. So, it really is consistent with the philosophy we’ve got here, that it’s just such an uncertain environment they’re providing guidance. It’s just not something we want to do right now. It’s really an estimate of what would happen at that level and sort of the baseline will look at the run rate here and figure out where we are. Hopefully, it will be better than that.

Operator

We have a question from Tobey Sommer. Your line is open.

Tobey Sommer - Suntrust Robinson Humphrey

Thank you. I was wondering about what you are hearing from clients, potential kind of lot of projects in the queue, lot of paper with clients etc. Do you think that they need to see a pickup in their own business in order to execute and kind of real some of that Q in or will you expect your clients to basically just need some stability in order to make decisions?

Kevin Kelly

I think it’s the latter Tobey. It’s more of the stability. We talked about our financial crisis; we also saw leadership crisis at the end of last year, where individuals were afraid to pull the trigger, but there’s a couple of interesting things happening in the market.

Number one, you have clients using this as a once in a lifetime opportunity to go out and recruit top talent and also simultaneously, you have some individuals and organizations that would not lead their firm over the course of the last three, five, seven years, because (1) it was costly; (2) they were pretty confident in what the direction or strategy that the organization was taking.

With most individuals, equity being where it is today, the cost of acquisition of talent is cheaper and so individuals are more willing to go look at another firm, hit the reset button so to speak and share on the upside. So, there is a lot of fast hitting things happening in the human capital area and you also see a lot of pent-up demand that just has been budgeted for and although some of the budgets vis-à-vis requiring have been cut, they still need to have great talent in place to maneuver through or execute their plans over the course of the next 18 to 24 months.

Tobey Sommer - Suntrust Robinson Humphrey

I wanted to ask a question and I think you’ve touched on it to some degree already. In the past, on your slides that accompany the conference call, you’ve had a slide that showed the move and favoring variable compensation and expense on the P&L. Are some of the efforts that you’re making now actually going to propel that further and increase the proportion of expenses that are variable?

Kevin Kelly

Yes, I mean in general, yes, we are striving to do that in a whole host of areas. Julie had mentioned earlier, outsourcing. I mean one of the reasons we would look at outsourcing much more aggressively in various functions is to try and turn what’s essentially a fixed cost to at least fixed with the medium term into something which is variable.

We certainly are looking; I think we’ve discussed before; we’ve got a group internally here, which is are looking at just in fundamental structure of our comp plans and one of the philosophies behind that is certainly to create a much larger variable component of that and a much less fixed components.

Yes, I mean that’s part of our philosophy. I think it’s especially important in a business like this and we’re dealing with it right now. You want as much variability in there, whether it’s compensation or other costs. So, if a downturn happens, things comedown automatically, you’re not having to let people go and do other things. So, it is a major goal of ours.

Tobey Sommer - Suntrust Robinson Humphrey

In terms of the confirmations that you had in the first quarter, I just wanted to follow-up on a previous question. You described in perhaps an opportunity for Asia to be one of the first to bounce back; did that manifest itself in the confirmations towards the end of the quarter or April?

Kevin Kelly

Well, if you look at the slides, you’ve seen a steady increase in comp firms since December and so that’s been across the board. I mean we’ve seen an increase in North America, Asia, Latin America and Europe. So, it’s been fairly consisting across the board.

My point was that, when we talk to clients about their expansion plans, a lot of them, particularly European companies and/or U.S. companies have expansion plans into Asia Pacific. Simultaneously, what we’re seeing in Asia, is the Indian companies, Chinese companies, Japanese and Ukraine companies looking to expand internationally as well.

In my point earlier about being well positioned is we’re only one of the five search firms, that can help them execute their growth plans, be it in other parts of the Asia Pacific region, Europe, Latin America or North America, so that’s where we’re also seeing an uplift in comp firms in Asia.

Tobey Sommer - Suntrust Robinson Humphrey

Thanks you, that’s helpful and one last question Scott, the $30 million in free cash flow after bonus, again, if we maintain this $400 million revenue run rate, would that also be encumbered by the dividend or does that exclude the divided and cash payment?

Scott Krenz

No, it would be encumbered by the divided. I mean we obviously would have paid everything. They would have paid 2009 that’s taken out of it, but to the extended that there are future dividends, they’d have to be taken out of that $30 million.

Tobey Sommer - Suntrust Robinson Humphrey

Okay, thank you very much. I appreciate it.

Operator

I show no further questions.

Kevin Kelly

Alright, well listen, we appreciate you all taking the time to get on the call today and thank you very much and I’d like to thank our consultants and our employee across the globe for their continued efforts and hope you all have a good day.

Operator

Ladies and gentlemen, thank you for participating in today’s conference. This concludes the program. You may now disconnect.

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Source: Heidrick & Struggles International Inc. Q1 2009 Earnings Call Transcript
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