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Executives

Devin Sullivan – SVP, Equity Group, Inc.

David Richter – President and COO

John Fanelli – SVP and CFO

Analysts

Lee Jagoda – CJS Securities

Chase Jacobson – William Blair

Gerard Sweeney – Boenning & Scattergood Securities

Hill International Inc. (HIL) Q1 2013 Earnings Call May 3, 2013 11:00 AM ET

Operator

Greetings, and welcome to the Hill International Reports First Quarter 2013 Financial Results Conference Call. (Operator Instructions) As a reminder this conference is being recorded. It is now my pleasure to introduce your host, Devin Sullivan, Senior Vice President of The Equity Group. Thank you, Mr. Sullivan. You may begin.

Devin Sullivan

Thank you, Kevin. Good morning, everyone, and thank you for joining us today. And before we begin, I’d like to remind everyone that certain statements during this call may be considered forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995, and it is our intent that any such statements to be protected by the Safe Harbor created thereby. Except for historical information the matters set forth herein including, but not limited to, any projections of revenues, earnings or other financial items concerning our plans, strategies and objectives for future operations; statements regarding future economic conditions or performance are forward-looking statements.

These forward-looking statements are based on current expectations, estimates and assumptions and are subject to certain risks and uncertainties. Although we believe that the expectations, estimates, and assumptions reflected in forward-looking statements are reasonable, actual results could differ materially from those projected or assumed in any such forward-looking statements.

Important factors that could cause actual results, performance, and achievements, or industry results to differ materially from estimates or projections contained in our forward-looking statements are set forth in the risk factors section and elsewhere in the reports we have filed with the Securities and Exchange Commission. We do not intend, and undertake no obligation to update any forward-looking statement.

With that said, I’d now like to turn the call over to David Richter. David, please go ahead.

David Richter

Thank you, Devin. And good morning to all of you joining us today. Yesterday, after the market closed, we announced our financial results for the first quarter of 2013. Those results show that our efforts in 2012 to drive revenues up and cost down have already paid off.

Our strong sales effort in 2012 produced net bookings of $546 million, the best year in the company’s history. Those sales of our total revenue and Consulting Fee Revenue is a record highest for the first quarter. Our initiatives last year to lower our overhead costs, grow our EBITDA to one of the highest levels in the history of our company, up nearly 2500% from the first quarter of last year.

And yet we believe that the first quarter will be our worst quarter of 2013 with higher revenues and higher profitability expected for the remaining three quarters of the year.

On this morning’s call, unlike on prior calls, we are going to focus only on year-over-year comparisons of financial performance and not quarter-over-quarter or sequentially. The fourth quarter was such an unusually bad quarter with some significant one-time non-cash charges and we’ve been comparing the first quarter and the fourth quarter is not meaningful.

Total revenue for the first quarter of 2013 was a record $136.1 million, an increase of 18% from the first quarter of 2012. Consulting Fee Revenue for the first quarter of 2013 was a record $122.6 million, an increase of 24% from last year’s first quarter.

Our geographic breakdown in the first quarter was as follows; the Middle East was our largest and fastest growing geographic market at 42% of our Consulting Fees. That is up from 32% for all of last year.

The US was 23% of our Consulting Fees in the first quarter, down from 27% in all of 2012. Latin America was 11% in the first quarter, down slightly from 12% last year; Europe was 16% of our Consulting Fees in the first quarter, down from 21% in 2012. And North Africa and Asia-Pacific were consistent at 3% and 4% of our Consulting Fees respectively during both the first quarter and all of last year.

Every region except Europe grew in absolute dollar terms in the first quarter versus the first quarter of 2012. Europe was the worst performer shrinking by 9% this quarter versus last year’s first quarter and the Middle East was the best growing by 75%.

For other regions, the US grew by 3%, Latin America increased just slightly by 0.2%, North Africa grew by 55%, and Asia-Pacific increased by 32%.

Our gross profit in the first quarter was $49.9 million, up 22% from the first quarter of 2012. But our gross margin as a percentage of CFI dropped slightly by 40 basis points to 40.7% in the first quarter versus the same quarter last year.

This drop was caused solely by a shift in the mix of our business towards more project management work, which has a significantly lower gross margin as the gross margins of both of our operating segments improved slightly this year, versus the first quarter of last year.

As a result of our cost-cutting efforts and significantly improved utilization this year, our SG&A expenses were actually down slightly despite the big jump in revenue. Hill’s SG&A in the first quarter was $42.5 million, down 2% from last year’s first quarter. But this was a much bigger drop on a percentage basis with our SG&A margin down to 34.6%, a 920 basis point drop in just one year.

This is Hill’s lowest SG&A margin ever as a public company and a great sign those efforts to improve the efficiency of Hill’s operations is succeeding. As I said on our last earnings call, our long-term goal for overhead expense is 35%. So this was an exceptional quarter, but our expectations for SG&A percentage for the full year in 2013 are still in the range of 35% to 37%.

Given the high revenues and lower SG&A costs, Hill’s earnings before interest taxes depreciation, and amortization, or EBITDA, for the first quarter of 2013 increased by 2480% year-over-year to $9.5 million, one of our best EBITDA quarters ever.

EBITDA margin as a percentage of Consulting Fees was 7.8% in the first quarter, up 740 basis points from last year’s first quarter. Operating profit in the first quarter was $7.4 million, a major improvement from an operating loss of $2.7 million in the first quarter of last year.

Our operating margin in the first quarter was 6.0%, a very large 880 basis point improvement from a negative 2.8% in last year’s first quarter. We still had a small net loss in the quarter of $380,000 or less than $0.01 per diluted share, compared to a net loss of $6.7 million or $0.17 per diluted share in the first quarter of 2012.

This was the result of a continued high level of interest expense at $5.5 million for the quarter as well as an unusually high income tax expense which is $1.9 million in the first quarter with an effective income tax rate of 98% of our pre-tax earnings.

This is all from the fact that we have income taxes on much of our foreign earnings; here we cannot at the present time realize any benefit from our current net operating losses in the US which results from the fact that the vast majority of our corporate overhead is expensed in the US.

We believe it is safe to say however that in the first quarter of 2013 we turned the corner on the net losses of last year and expect net earnings throughout the balance of 2013.

Now let’s take a look at the first quarter performance of our two operating segments separately. Total revenue at Hills Project Management Group during the first quarter was a record $107.6 million, a 21% increase from the first quarter of last year. Consulting Fees for the first quarter at the Projects Group was a record $95.0 million, a 30% increase from last year.

The breakdown of the Projects Group’s 30% growth in Consulting Fees was 5% for the US Group and 41% for international. The vast majority of the increased Consulting Fees at the International Projects Group came from the Middle East, where Consulting Fees grew 89% in the first quarter of this year versus last year.

The single biggest driver of this outstanding growth was the start of our work in the Oman airports project which added $8.9 million of Consulting Fees to the first quarter. We also grew our Consulting Fees in Saudi Arabia by $3.4 million versus a year ago, in Qatar by $3.1 million, in the UAE by $2.2 million and in Iraq by $1.3 million. So our growth in the Middle East was spread throughout the region.

The Projects Group as a whole saw a 31% increase in gross profit to $34.7 million in the quarter with gross margin on a percentage basis at 36.6%, seeing a 40 basis point improvement versus last year.

Despite all this growth, SG&A expenses at the Projects Group were down 2% year-over-year to $22.4 million. As a percentage of Consulting Fees, SG&A expenses were down to 23.5%, a huge 790 basis point decrease from last year’s first quarter.

Operating profit for the Projects Group for the first quarter was $12.4 million, an increase of 248% from the first quarter of last year. Operating margin as a percent of Consulting Fees was 13.0%, an 810 basis point improvement from a year ago and very close to our 15% operating margin target for the Group. Overall, this is an outstanding quarter for our Project Management Group.

The Hills Construction Claims Group, total revenue during the first quarter was $28.5 million, a 6% increase from last year’s first quarter. Consulting Fees for the Claims Group were $27.6 million, also a 6% increase...

The breakdown of the Claims Group’s 6% growth was a negative 1% for the US and a positive 8% for international. The biggest drivers of growth for the International Claims Group were increases of $2.4 million in the Middle East, which was 35% growth in Consulting Fees for that region and $1.4 million from Asia-Pacific which was 51% growth for that region.

The Claims Group saw its gross profit rise by 6% overall to $15.1 million and saw a slight improvement in its gross margin as a percent of Consulting Fees to 54.9%, up 20 basis points from last year. Despite the Projects Group the Claims Group also was able to drive down its SG&A expenses despite growing its revenues.

SGA&A for the Claims Group was down 3% to $12.7 million in the first quarter and as a percentage of Consulting Fees, they were down 400 basis points to 46.1%. As a result the Claims Group was able to more than double its quarterly profit; operating profit for the Claims Group in the first quarter was $2.4 million, an increase of 107% from the first quarter of 2012.

As a percentage of Consulting Fees, this was a 440 basis point improvement with operating margin for the Claims Group growing to 8.9% in the first quarter of this year with a targeted operating margin of 15% as well, we believe the Claims Group can do even better than this going forward.

In addition to the SG&A incurred by our two operating segments, we also incurred SG&A at the corporate level. For the first quarter, our corporate SG&A expenses were $7.4 million, which was down 1% from a year ago, but as a percentage of Consulting Fees, it was 6,0% down 150 basis points from last year’s first quarter.

Regarding our backlog, our company’s total backlog at the end of the first quarter was $921 million, essentially unchanged from record backlog of $923 million at the end of the fourth quarter of last year. This backlog consisted of $880 million in our Project Management Group and $41 million in our Construction Claims Group.

Twelve month backlog at the end of the first quarter was $381 million, also flat compared to record 12 month backlog of $382 million at the end of the fourth quarter. This was broken down into $340 million at our Project Management Group and $41 million at our Construction Claims Group.

Hill had net bookings during the first quarter of $121 million, a solid quarter for new sales. Some of the major new contracts we announced less than two months, since our last earnings call include a $9 million contract to provide PMO services in connection with an upgrade to The Gereshk Hydropower Plant in Afghanistan.

A $6 million contract in the Iraqi State Housing Commission to provide project management oversight or PMO services in connection with various housing developments throughout Iraq.

A $5 million contract to act as construction manager for the new $180 million Tampa University Library in Philadelphia, a $4 million contract to provide construction oversight services in connection with the Trump Towers Rio development in Brazil, three contracts totaling $3 million in the Ohio Department of Transportation to provide construction inspection services on various highway and bridge projects throughout the state.

A $3 million contract from Petrobras, the Brazilian national oil company, and provide technical services in connection with Rio de Janeiro State Petroleum Complex, a $3 million contract from the City of Carson to provide construction management services e I-405/Wilmington Avenue Interchange Improvement Project in Southern California.

A $2 million contract from Prudential to provide PMO services and the$500 million Mitikah Development in Mexico City, a $2 million task order from New Jersey Transit to provide PMO services in connection with its Superstorm Sandy Recovery efforts and quite a few other major wins soon to be announced.

Based on our performance in the first quarter, we reiterate the guidance that we gave earlier this year that we expect Hill’s Consulting Fee Revenue for 2013 to be between $500 million and $520 million, exclusive of any possible impacts from acquisitions this year.

This equates to 20% to 25% organic growth in Consulting Fees from the $418 million we achieved in 2012. With 24% growth in Consulting Fees already booked in the first quarter, we believe that we are well on our way to hitting this target for the year.

With that, our CFO, John Fanelli and I are happy to take your questions.

Question-and-Answer-Session

Operator

(Operator Instructions) Our first is coming from Lee Jagoda from CJS Securities. Please proceed with your question.

Lee Jagoda – CJS Securities

Hi. Good morning.

Dave Richter

Good morning, Lee

John Fanelli

Good morning, Lee.

Lee Jagoda – CJS Securities

So, David, related to Oman, can you give us an idea of what the ramp up in people look like in Q1? And as a follow-up, what’s your total headcount there today versus what you expected to peak both in terms of revenue dollars per quarter and headcount for quarter?

Dave Richter

Sure, Lee. As I said, we saw $8.9 million of Consulting Fees in the first quarter. But on January 1, we had zero people in Oman, that’s the date our contract began. We ramped up pretty significantly over the quarter. Today, we have about 260 people on the two projects that was in Muscat International Airport and Salalah Airport. Our expectations are that probably in the next quarter or so, we are going to ramp up to between 300 and 350 people. So we should see a lot more revenue than $8.9 million in the second quarter.

Lee Jagoda – CJS Securities

And can you quantify that any further?

Dave Richter

I don’t think it will be double, but it could certainly be close to $15 million as an estimate.

Lee Jagoda – CJS Securities

Okay. And then my next question relates to SG&A. You did a great job controlling it in the quarter, were there any one-times that had a positive effect in this quarter?

Dave Richter

John, you want to take that one?

John Fanelli

It was one positive reduction in a payable to our Brazilian directors that we acquired the Brazilian acquisition in 2011. We reduced that by an $800,000 to $900,000. So that’s the one-time we really dropped it below our expectations.

Lee Jagoda – CJS Securities

Okay. And then one more question and I’ll hop back in queue. How should we think about cash flow generation what was it in Q1 and how should we think about it for the balance of the year?

John Fanelli

In Q1, our cash flow from operations declined around $7.9 million primarily due to the significant growth in our AR and the payment of the Gerens Put Options to a majority of shareholders around $9.5 million. For the balance of the year, we anticipate that we are going to generate cash by improving our AR days which came in at 95 days in Q1. We are going to improve that to at least 90 days at the end of the year not includes to Libya acquisition in those calculations.

And we have a significant amount of restricted cash that we used for our outstanding letters of credit. We expect a significant reduction in that account and are continuing to improving our operating results.

Lee Jagoda – CJS Securities

And the reduction from 95 to 90 days, do you include any payments from Libya in that reduction?

John Fanelli

No, we exclude Libya in that calculation.

Lee Jagoda – CJS Securities

Okay.

Dave Richter

Lee, over the balance of this year, as now we are ramped up and we are into a sort of a more normal payment cycle with some of these large Middle East projects. We are expecting our cash flow – operational cash flow to improve significantly. And over the course of the balance of this year to be significantly positive.

Lee Jagoda – CJS Securities

Okay. Thanks very much. I’ll hop back in the queue.

Dave Richter

Thanks, Lee.

Operator

(Operator Instructions) Our next question is coming from Chase Jacobson from William Blair. Please proceed with your question.

Chase Jacobson – William Blair

Hi, good morning.

John Fanelli

Good morning, Lee

Dave Richter

Good morning, Chase.

Chase Jacobson – William Blair

Just a follow-up on this question on the SG&A, so the SG&A was about 35% or so this quarter that it’s – that in the guidance you gave previously was 36% to 38% is that’s so? How we should think about it?

Dave Richter

Yeah, now we are at – for this year, we expect it to be between 35% and 37%.

Chase Jacobson – William Blair

Okay.

Dave Richter

It was 34.6% in the first quarter, but probably close to about 35.5% if we take out the one-time adjustment John just mentioned.

Chase Jacobson – William Blair

Okay. And looking at the Project Management, the operating margin was fairly pretty good at 13% this quarter. The strong cost controls in the SG&A, but the gross margin was up year-over-year, but it was down a little bit from the second half of 2012. Could you just maybe talk about the pricing environment that you are seeing in Project Management? Or if it’s just a mix issue based on where your projects are being executed with work getting done in the Middle East right now?

Dave Richter

Yeah, I would say that the gross margin in the Middle East tends to be slightly lower than throughout the rest of the company. And as the Middle East grew, it had a slightly negative impact, but only marginally. There really is no pricing pressure.

In fact, the whole last five years, there really has not been a lot of pricing pressure on our services, because our clients don’t, generally don’t – there are certain exceptions – generally are making their hiring decisions based on price, it’s based on a lot of other technical factors.

And so, even when the 2008, 2009, 2010, when there was certainly lot of worry in the market and a lot of areas were hard hit by the economy. We really didn’t see much pricing pressure at all. And now we have certainly, I’d say over the last 12 months, we have certainly seen an improvement in our sales environment.

The amount of work that we are winning is significant; the amount of opportunities that we see out there and projects moving forward is better than it’s been in the last five years. No question about it.

Chase Jacobson – William Blair

Okay. And I guess, that will be next question that was on awards; book-to-bill was about just about one which is good. We have seen an uptick in awards in the commentary. Can you – I think to get more positive, but it was below the average level of last year. Is this just a timing thing and which you kind of expect the book-to-bill to go back above one as we go over the next couple of quarters? Any commentary there on the level of awards?

Dave Richter

Yeah, I would say that, so far this year, it’s been strong. The ones that we booked actually in the first quarter was almost right at one-time sales. So our backlog didn’t shrink. I’d be crazy if I try to guess what our wins are going to be over the balance of the year, because you just never know.

But, I know, we’ve been doing a fantastic job of bringing in significant amounts of new work. The key is how much we win. I can only point to that historically, it’s tough to try and make any kind of guess as to where backlog is going to go or any kinds of trends based on just one quarter.

Chase Jacobson – William Blair

Okay, that’s helpful. I appreciate it. Thanks.

Operator

Thank you our next question is coming from Gerry Sweeney from Boenning & Scattergood. Please proceed with your question.

Gerald Sweeney – Boenning & Scattergood Securities

Good morning, John, good morning David.

John Fanelli

Good morning.

Dave Richter

Good morning, Gerry.

Gerald Sweeney – Boenning & Scattergood Securities

A question on SG&A, obviously it ticked down, I mean, what was the driver? How did you achieve it? In the past, I want to say, two years, sometimes you’ve taken some good steps forward, then you take some robust, maybe taken a step back on the SG&A as a percentage of the revenue side. So, I am curious to see what you’ve done? Is this going to be something that’s going to be much more consisting going forward maybe you can provide a little color on that front?

Dave Richter

Yeah, I think the challenge that we had over the last couple of years really related to the fact that we had some very high margin, low overhead projects and in 2010, 2011 which were Iraq and Libya. We were able to grow through that period with we were adding work throughout the world that we want organically and we brought some acquisitions in that came with overhead and had significantly higher SG&A than the revenue that we lost.

So there was an increase in our SG&A expenses overall. I think that, as we continue to grow, I think that our SG&A is not going to grow nearly as fast as our Consulting Fees and we are going to be able to bring a lot more profitability out of the business. We don’t have to add a lot of overhead.

So, I think the short answer is it’s two-fold. It was a combination of the significant cost-cutting efforts that we went through last year and the growth that we had in the first quarter and the growth comes from a combination of tremendous year in 2012 in selling new work which we are in the middle of ramping up on and a significant improvement in the first quarter in utilization as a result of that work

Gerald Sweeney – Boenning & Scattergood Securities

Okay, and then, back to the sales environment. You said you are seeing, I guess – would you characterize it, as more demand for your services, is it just for Hill or is it more demand in general in the market. The market seems to be opening up maybe CapEx powers are staring to flow, especially in the Middle East which has been your fastest growing segment. Any thoughts on that front?

Dave Richter

Yeah, I think both. I think the economy overall in the construction sector are getting better and they are getting better globally. And I think we are doing a better job of winning work versus our competitors.

Gerald Sweeney – Boenning & Scattergood Securities

And I would say, that’s uptick quite a bit. What’s the driver behind some of that growth acceleration? Is it just some new hires? Is it, especially again in the Middle East, it’s been phenomenal growth?

Dave Richter

I think it’s a combination of the outstanding people we have in the company and I think that group of people get better every year. And, we have really created a very unique company within the construction industry that’s we are not a big design company, we are not a big construction company.

We are focused on project management. I think that resonates with clients that are looking to hire project manager. Clients really don’t want a Jack of all trades, they want the expert in whatever service they are hiring at that moment. And on a lot of projects in a lot of places in the world that’s us.

Gerald Sweeney – Boenning & Scattergood Securities

Okay. And then finally, circle back to the level of interest cost. Do you expect cash flow to accelerate throughout the year, but also what will be as cash flow accelerates? Will that payment be at the top of your list? And then, secondarily, as your EBITDA if you continue on this path, if I read your covenants correctly previously, as your EBITDA increases, you may actually be knocked down around one or two in terms of some of the interest costs you have to pay to some of your creditors?

Dave Richter

I think as we continue to increase our EBITDA and I think it will increase over the balance of this year. Debt pay down is our top priority. There is no question the company is overleveraged and I think it’s been a big and heavy weight on our stock price of late. We are going to be working on paying down our debt and deleveraging the company.

That has multiple benefits, as we have less debt and higher earnings, the cost of that debt comes down. I think in the short-term Q2, we are going to be able to restructure our debt and get back to more closer to market type interest rates which we certainly have not been paying over the last six months.

We put the second lean term loan in place. And that’s without question our top priority. As I said to lot of people, you could take a look at the income statement, the income statement was fabulous, so our problem is the balance sheet. And as soon as we can fix the balance sheet, we are going to fix it.

Gerald Sweeney – Boenning & Scattergood Securities

Got it. I agree with you, I mean, much – looks great, the income statement looks great, so you hit the interest line.

Dave Richter

We can agree too.

Gerald Sweeney – Boenning & Scattergood Securities

Yeah, so, but anyhow, it’s great to see. Thanks for your time this morning.

Dave Richter

Thank you.

Operator

Thank you. (Operator Instructions) If there are no further questions at this time, I would like to turn the floor back over to the management for any further or closing comments.

Dave Richter

Thank you everybody. We are very pleased with our financial performance in the first quarter of this year, but we believe that we have more room for improvement over the remaining three quarters. John, I and our entire management team appreciate your continued interest in our company and our stock. So, thank you all for participating in our call this morning.

Operator

Thank you. This does conclude today’s teleconference. You may disconnect your lines at this time and have a wonderful day. We thank you for your participation today.

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