Executives
Harriet Fried – Lippert, Heilshorn & Associates
Michael P. Marrow – President, Chief Executive Officer & Director
Andrew B. Szafran – Chief Financial Officer & Director
Analysts
Howard Smith – First Analysis Securities Corp.
David J. Koning – Robert W. Baird & Company
Matthew J. McCormack – BGB Securities
Robert Riggs – William Blair & Company
Michael Kim – Imperial Capital, LLC
Cynthia Houlton – HFP Capital Markets
Ron Chez
[George Mila]
APAC Customer Services, Inc. (APAC) Q1 2010 Earnings Call May 13, 2010 11:00 AM ET
Operator
Welcome to APAC’s first quarter 2010 earnings conference call and webcast. This call is being recorded. At this time I would like to turn the call over to Ms. Harriet Fried of LHA.
Harriet Fried
Thanks for joining us for the first quarter 2010 conference call for APAC Customer Services. The company issued a press release yesterday afternoon containing financial results for the quarter. This release is available on APAC’s website as well as on various financial websites. The company representatives on today’s call are Mike Marrow, President and Chief Executive Officer and Andrew Szafran, Senior Vice President and Chief Financial Officer.
Before opening the call I’d like to remind you that statements about future operating and financial results are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 and are subject to various risks, uncertainties and other factors that could cause the company’s actual results to differ materially as today’s earnings release and the company’s annual report on Form 10K for the fiscal year ended January 3, 2010 discusses some of these factors.
The company’s forward-looking statements speak only as of today’s date. Some of the company’s consolidated financial statements that use EBITDA, a measure defined as a non-GAAP financial measure by the SEC. A reconciliation of these results to GAAP is attached to yesterday’s earnings release and additional information can be found in APAC’s annual report on Form 10K for the fiscal year ended January 3, 2010.
The company has posted a downloadable presentation to accompany the webcast in the investor relations section of its website. The presentation can be viewed in the webcast section of APAC’s investor relations website by clicking on the link shown under the title for today’s event. It will also be posted under investor presentations after this call.
I would now like to turn the call over to Mike Marrow.
Michael P. Marrow
Thanks for joining us on our first quarter conference call. As we noted in our press release we had a very solid quarter and we’re off to another good year. Andrew Szafran, our Chief Financial Officer is going to provide additional detail around our results during the course of today’s call. Before he gets started I would like to briefly comment on our guidance for 2010 as well as the class action settlement we discussed in our press release.
As we noted in our press release we are reaffirming our guidance for 2010 where we expect revenue to be in the range of $320 to $330 million and our full year EPS to be in the range of $0.44 to $0.46. With Q1 revenue exceeding consensus by nearly $4 million and EPS exceeding consensus by $0.01 some may think that we’re being overly conservative with our guidance. Although we don’t provide quarterly guidance I think it’s important to note that historically our first and fourth quarters have been the strongest. Consensus has us with EPS at $0.11 each of the fourth quarters this year. That flat $0.11 per quarter does not quite line up with the seasonality we have seen in past years. Again, historically our EPS is higher in the first and fourth quarters as compared to the second and third quarters.
Let me now address our decision to settle the collective action suit that was filed against us. Our estimates of the cost of defending and winning this litigation which we firmly believe would have been the outcome reached the point where the total future costs would have exceeded the cost to settle the case now. Also, settling at this stage avoids the tremendous distraction to our business associated with having to defend this type of litigation. With this behind us we can be laser focused on producing great results.
Now, I’m going to turn the call over to Andrew to discuss our results for the third quarter. Following Andrew’s discussion I would like to review some of the success we have had in the first quarter. After that, we’ll open the call to questions.
Andrew B. Szafran
Our results for the quarter are really good and I’m pleased to walk everyone through the numbers. For those of you following along via the webcast, my commentary begins on page five of the presentation. First quarter 2010 revenue of $85.3 million was up 16.4% from $73.2 million in the first quarter of 2009. Our growth came both organically from existing clients as well as from new clients signed up in the back half of last year.
Gross profit in Q1 was quite strong at $20.4 million with a gross margin of 24% compared to a gross profit of $18.6 million or 25.3% gross margin in the prior year’s quarter. Gross margins are also up sequentially from the 20.1% level of the fourth quarter. This reflects our progress in ramping up new business. Our operating expenses increased this quarter to $10.5 million or 12.4% of sales from $7.7 million a year ago. However, this amount includes a charge of $2.4 million to settle the previously disclosed collective action.
Looking at our expenses without the legal settlement shows operating expenses as a percentage of revenues at 9.6% which is a very nice improvement over the comparable 10.5% in Q1 of 2009. Our IBT was $10 million for Q1 of 2010 compared to $10.8 million from our exceptional performance a year ago. As a percentage of sales our IBT or pre-tax profit was 11.75% and above the midpoint of our expected operating range of 9% to 13% even with the legal settlement.
Our results from operations yielded net income for the first quarter of $6.6 million or $0.12 per fully diluted share compared to net income of $10.6 million or $0.20 per fully diluted share in the first quarter of ’09. Keep in mind that we recorded income tax expense in the quarter of this year of $3.5 million versus $0.2 million last year.
Moving on to EBITDA, we were down slightly by $.6 million at $13.1 million from $13.7 million. This amount includes $2.4 million for the legal settlement. On a percentage of sales basis, EBTIDA was 15.4% which keeps APAC as one of the top performers in the industry. The company continued to invest in the business and generated positive cash flow during the quarter. We spent $2.4 million in net capital expenditures related to new business and on our IT infrastructure versus $3.4 million in the first quarter of 2009.
We also had $40.7 million of cash on hand versus $0.8 million a year ago and versus $20.6 million at year end. That’s an improvement of $40 million from a year ago and $20 million since last quarter. I would also like to point out that our days sales outstanding or DSO was 38 days for the quarter which is exceptionally low. We did receive an early payment from one of our clients and if we adjust our DSO to compensate for that early payment it would calculate to be 44 days. Our expectation is that we will run our DSO in the mid to high 40s.
One last note is on taxes, our book effective tax rate for the quarter was 34.5% versus the 38% we had planned. This improvement was driven by higher tax credits and we expect to sustain a 35% effective tax rate for the medium term. We also expect to pay cash taxes at a lower rate of 5% due to our NOL carry forward and other tax credits.
With my review of the numbers completed, I will turn the call back over to Mike.
Michael P. Marrow
On every earnings call we have had for the past couple of years we’ve reminded everyone of our four priorities. Our first priority is to continually enhance the quality, dependability and overall value of the services we provide for our clients. Our second priority is to maintain a constant focus on eliminating waste and reducing overhead so we can operate as efficiently as possible. Our third priority is to continue to win business with both new logo companies and existing clients. Our fourth priority is to ensure we continue to develop and recruit talented people to operate the business and service the needs of our clients both today and in to the future.
With respect to improving quality, dependability and overall value for our clients, you will see on Slide Seven, that we have recently been ranked number one in 13 of 18 categories by the Black Book of Outsourcing. For those of you not familiar with the Black Book, they are part of Data Monitor and the rankings are based on surveys of companies that actually use outsourcing services. They have a number of categories such as best inbound agency, best outbound agency and so on. The category where we scored tops in 13 of 18 criteria is end-to-end call center outsourcers.
We’re very pleased with our rankings and that said we know that there’s always room for improvement and we will continue to make it our first priority to continue to enhance the quality, dependability and overall value of the services we provide to our clients. With respect to our second priority of operating as efficiently as possible, we continue to examine every opportunity to take waste out of the business and drive strong margins. This is important for all our stakeholders including shareholders, clients and employees.
Our third priority, winning new business we have had good success over the last several quarters. We have added business from existing clients and new clients alike. We have a strong pipeline and we expect to continue to close new business as the year progresses. As you know, for competitive reasons we generally don’t announce the names of our clients.
If you’ve seen our recent press releases you’ve probably noted that we’ve had some great success on our fourth priority as well. We have brought on Ruth O’Brien to oversee our client solutions team. Many companies call this account management and at this companies the primary function is one of sales. At APAC, the client solutions number one priority is to truly understand the needs of our clients and translate those needs in to service delivery solutions. We believe and the results have demonstrated that the best path to growth is excellence in service delivery.
To ensure that we continue to deliver that excellence on a daily basis Mike Politz has joined our team as Leader of North American Operations. Mike and Ruth are reporting to Arthur DiBari, our Senior Vice President of Operations. We have also brought on a new leader for human resources Eric Tinch. We are a people business and Eric is going to help take us to the next level. Eric is reporting directly to me. Eric, Ruth and Mike all have deep industry experience and I’m delighted to have them on the APAC team.
So there’s a lot of good happening at APAC. We are keeping our clients happy, we are adding new business, we are adding superior talent to the team and we are financially sound. I could go on for some time however, at this point we will open up the call for questions. Operator, please go ahead.
Question-and-Answer Session
Operator
(Operator Instructions) Your first question comes from Howard Smith – First Analysis Securities Corp.
Howard Smith – First Analysis Securities Corp.
My question I’m sure you’ve heard your competitors calls over the last couple of weeks, many of them discussed seeing clients directing them towards weaker volume particularly in the communications technology vertical. I’m curious as you look at your pipeline of existing business and you’ve talked to your customers, are you seeing strength across the board or is it your new wins you got last year that’s kind of offsetting some weakness from client to client that’s enabling you to keep your guidance?
Michael P. Marrow
I would characterize us as in good shape across the board. We’ve heard anecdotally and seen some information that has come from the other calls, I didn’t listen to them, I’m not sure if Andrew did, I don’t think so. But, yes we’re well aware of the softness, especially in the telco industry. We have not been impacted by that at this point but it’s certainly on our radar screen.
Operator
Your next question comes from David J. Koning – Robert W. Baird & Company.
David J. Koning – Robert W. Baird & Company
I guess following up on Howard’s question a little bit, just going through the Q the communications was actually by far your strongest segment I think up $6.6 million year-over-year so it contributed a nice amount of growth. Is that from new signings that have happen over the last few quarters or are the volumes actually at this clients also in growth mode?
Andrew B. Szafran
It’s both. We were up double digits with all of our clients.
David J. Koning – Robert W. Baird & Company
Then the one vertical that showed a little softness was travel and entertainment, I don’t think any big surprise there. Is that something that you expect to get back in to growth mode over the next couple of quarters again or is there anything maybe you could comment on that?
Michael P. Marrow
I wouldn’t predict timing on it but for sure it’s an area that is important to us and sort of in our wheel house so we pay attention to it. We’re talking to perspective clients and I would see for the future that will certainly be an area of growth for us. Whether it’s in three months, six months or nine months I’m not going to make those kinds of predictions.
David J. Koning – Robert W. Baird & Company
Then I guess finally, your seats were pretty close to flat sequentially so I’m guessing some of the margin strength this quarter was just not having a lot of seat brands and I’m just wondering as we look throughout the rest of the year how do you expect to grow the US seat base and the offshore seat base kind of from where we are today?
Michael P. Marrow
I think I’ve talked about this in the past, in the Dominican Republic we have that sort of pay by the drink set up so there we can expand seats very easily. The physical facility has plenty of room. We do have space in the Philippians, not a tremendous amount but we still have space where we can put cubes in without going out and leasing additional space. We have pockets in the US and we also have an ongoing strategy effort, call it what you will, to constantly look at all of our sites and say is there room for another 20 seats here, 30 seats there and when you add it across all of the sites it becomes a significant number that we could add without having to go out and Greenfield a brand new site.
That said, we have a list of vetted locations both domestically and internationally so if a big opportunity comes along that we need to move quickly on we’re well down the road. We don’t have to go scout locations, we’ve sort of pre-negotiated leases and so on so we’re ready to pull the trigger quickly.
David J. Koning – Robert W. Baird & Company
So in your guidance is it assumed that you have the capacity just to ramp any new wins or within guidance do you expect to open another center?
Michael P. Marrow
It depends on the form of the work that ultimately materializes over the remainder of the year. When we lay out our plan we make assumptions for growth with existing clients and some wins and so on and it’s not a perfect science so we may have an opportunity that we thought would occur and doesn’t and something different comes up. So, it may be more growth within an existing client that we could squeeze something in to a new center versus maybe a new client that we might want to start out in their own space. So to answer your questions, we do anticipate later in the year we’re going to probably be adding some capacity in both domestic and offshore but in reality that is more for the work we expect to have in 2011 than 2010.
Operator
Your next question comes from Matthew J. McCormack – BGB Securities.
Matthew J. McCormack – BGB Securities
Could you give us I guess a bit more color in terms of the seasonality in which specific verticals you saw strength because the growth was quite strong and the year-over-year comps were pretty tough as well so quite impressive.
Andrew B. Szafran
Matt, we saw strength in our communications vertical which was nicely double digits, our business services was up in the low double digits and that’s primarily due to taking over the other site that we talked about towards the end of last year.
Michael P. Marrow
That was a mid Q4 takeover so we got a full quarter impact of that in the first quarter.
Andrew B. Szafran
Correct. We showed some growth in healthcare as well so it was nicely spread amongst our key verticals.
Michael P. Marrow
In general the seasonality is in the fourth quarter you have the package delivery service, obviously that’s our biggest time of the year, the wireless, there’s a lot of wireless in terms of gift giving and so on so you have new users or people with new devices that have questions and so on that tends to roll in to the first quarter. Then the fourth quarter is also time to prep for the open enrollment season on our healthcare insurance clients and that’s really a lot of training and so on and in the first quarter the revenue rolls in on that. Second and third quarters don’t have a lot – those are the softer quarters for those three areas.
Matthew J. McCormack – BGB Securities
Then in terms of the margins, again very, very strong as it was in the year ago quarter, should we expect seasonally 1Q to have these types of margins or is it really kind of a reflection of higher than expected revenue?
Michael P. Marrow
I think that if you look at our business today, we have a good amount of the healthcare business that has a lot of work in the first quarter so that drives the first quarter and the package delivery and the wireless are sort of softening off in the first quarter. We always have attrition, everyone does. In the first quarter we have less costs of replacement because we’re sort of trickling down the level of heads to service them so we’re not faced with the attrition training costs that you’d have in the remaining quarters. So looking at the makeup of our business today, yes first quarter is always going to be a strong quarter.
Matthew J. McCormack – BGB Securities
Then if I recall correctly, I think you signed eight new logos in 2009, is there any way to kind of anecdotally quantify where they are in the ramp up? Are they all fully ramped, are they 75% ramped? Is there any way to look at that as we head in to this year?
Michael P. Marrow
Well, I’ll start with they’re all happy and second is that they’re not all fully ramped, they all have growth opportunities and the types of clients we look for are ones where we can have a long term many year relationship which we do with a lot of our clients and continue to grow year-after-year.
Matthew J. McCormack – BGB Securities
My last question, obviously nice cash flow in the quarter now with $40 million in cash so use of cash, I doubt you’re going to use that to buy back stocks so I guess if you could comment on the M&A environment in light of I guess Alorica recently bought Ryla, so is that an indication that deals are going to start getting done or do you think that was more of a one off? Any kind of color you could give there.
Michael P. Marrow
There’s been a number of them over the last year or so for sure. I guess my answer would be that we feel a whole lot better with $40 million in cash than we did a year ago with none and that opens up lots of opportunities for us. You can think of what they are, acquisitions, dividends, what have you and so we continue, and I’ve mentioned this in the past and it may have been before you started listening in, but we look at those on a regular basis. What’s really nice is we’re in a position now we’re we can look at all those seriously.
Operator
Your next question comes from Robert Riggs – William Blair & Company.
Robert Riggs – William Blair & Company
Just one quick question, thinking about the new business where is that coming from? Is it more kind of first time outsources, are these competitive wins, any notable changes in the type of work you’re doing for people?
Michael P. Marrow
It’s a combination. I’m thinking about the ones we’ve one and some of them are clients that had sole source and they want to diversify a little bit. I’m thinking of a client that’s never outsourced before and I’m thinking of a client that was not very happy and made a switch so it’s a mix.
Robert Riggs – William Blair & Company
Any change in the length of the sales cycle or the size of the deals that you’re seeing?
Michael P. Marrow
No, not really. The one consistent is it’s unpredictable. You talk to a client and four weeks later you’re working on an SOW and there’s another that you’ve been talking to a year ago, it really varies. It depends on what their need is and their pain I think more than anything else.
Operator
Your next question comes from Michael Kim – Imperial Capital, LLC.
Michael Kim – Imperial Capital, LLC
Just a quick housekeeping question, can you talk about your expectations for cap ex for the balance of the year and how that might shift with the addition of a Greenfield site if you do end up building that out this year or initiating that next year?
Andrew B. Szafran
I think we’ve said in the past that we expect to spend about $13 to $14 million and in that we’ve earmarked funds towards the end of the year on new capacity.
Michael Kim – Imperial Capital, LLC
Would that cap ex ramp in to the following year then with the new capacity?
Michael P. Marrow
Most likely, we wouldn’t just take a 500 seat domestic site. If we had business lined up and we knew we were going to need it, we’d get the shell and we would outfit the portion of that capacity we needed. We outfit capacity to be in lock step with needs. So we wouldn’t build 500 seats and put 500 phones and computers in it, we’d put whatever we’d need for the first tranche of trainees graduating and then over the course of months or quarters, however the ramp plan looks we would fill out that capacity to match the need.
Operator
Your next question comes from Cynthia Houlton – HFP Capital Markets.
Cynthia Houlton – HFP Capital Markets
Just a couple of quick questions, first can you just discuss employee attrition turns in the different geographies if you’ve seen any uptick or change to that? Then also competitive pricing, obviously some of your peers seem to be struggling a little bit in terms of the demand side within their basic clients so can you discuss if you’re starting to see anything different on pricing from some of your peers?
Michael P. Marrow
The first question on attrition is that I know what our numbers are and I know what our competitors generally run at and I know what I’ve been at the past and other organizations and we do good. We’re I think at or near the leader of the pack. One of the things, I mentioned earlier is Eric Tinch coming on and that is an area that even though we’re out in front, Eric and I have talked about we want to be way out in front not just a bit out in front.
In terms of pricing, it’s a competitive business. There is no shortage of players out there who claim to be able to do the work. The trick for the clients is find someone who can actually do the work and offers a competitive price and our pricing is definitely market competitive pricing. If it wasn’t I don’t think we’d be getting the wins we’re getting.
Andrew B. Szafran
And growing the way we’ve been growing.
Michael P. Marrow
Right.
Andrew B. Szafran
I think just to add on to what Mike is saying, we get market pricing. Our margins that on an operating basis that are superior to our competitors is not coming from price, it’s coming from execution. As we’ve talked about before, better execution leads to happy clients and one thing that we’re pleased about with our financial stability is it avoids the temptation for us to cut corners in our service delivery. We’re very proud of that.
Cynthia Houlton – HFP Capital Markets
Just as a follow up on your comments on the people side in terms of keeping attrition down and trying to continue to lead on that front, could you just highlight maybe specifically what are the things that you can do to improve attrition and what are the things you think you can do to make it better? I would say we understand what the job is, a lot of overnights, a lot of young people, etc., etc. so what are kind of the tangible things you can do to keep attrition down?
Michael P. Marrow
I’m assuming that there may be some of our competitors on this call and that falls in to the category of secret sauce. A highly competitive area is keeping attrition down because of the cost involved with replacing employees as well as the efficiency and quality you get with retaining your employees.
Operator
Your next question comes from Ron Chez.
Ron Chez
Are you continuing to pursue getting day time business?
Michael P. Marrow
Yes, and by that you mean to leverage our Philippians sites?
Ron Chez
Yes.
Michael P. Marrow
Yes, we are.
Ron Chez
Are you making the kind of progress you want to make?
Michael P. Marrow
Yes, we’re doing good.
Ron Chez
What about other services, are you exploring that, doing any of that?
Michael P. Marrow
Yes, we are. The day time services are primarily off phone back office services. We have brought in several people in to the organization over the last couple of quarters with a great amount of expertise in that area. We have actually won some business and we are engaged in more than a couple meaningful discussion with perspective clients as well as existing clients on doing that type of work. So we’re right on track with where we want to go with that.
Ron Chez
Is it desirable work from a margin standpoint?
Michael P. Marrow
Very. We have a guy, I think I mentioned him in a previous call but I hired someone, his name is Trevor Allen. Trevor reports directly to me and his job is to help us build that business and he’s doing a very good job.
Ron Chez
A digression back to the cap ex and your ability to go to several different places for adding capacity. I remember last year there was the question about constantly spending and not leveraging the expenditures but it seems to me that that is very constructive what you’re doing.
Michael P. Marrow
Just in time, that’s our philosophy on capacity.
Ron Chez
What is your understanding of how the healthcare legislation or healthcare activities are going to impact volume?
Michael P. Marrow
Well there are people will far more expertise in the healthcare world that don’t have a clue as to what it means but I think that logic says if there’s 30 or 40 million people that haven’t had insurance before and suddenly they have insurance they are more likely to call than those who have had insurance for some time and we would be beneficiaries of that.
Ron Chez
You remain in the under promise over perform mode?
Michael P. Marrow
That is one of our core philosophies Ron. We’re not going to promise something we don’t believe we can deliver on.
Operator
Your next question comes from [George Mila].
[George Mila]
Could you maybe give us some color on the ramp up of the new two facilities that you had in the Dominican Republic and the one that you got in Arizona?
Michael P. Marrow
Let’s talk about the one in Arizona first. That was a facility that was wholly occupied by our package shipping client and what we’ve done is isolated the area we performed the work for them and opened up the remaining center for other clients and we have two other clients in there currently either of which has the capability of alternately filling that extra space and we may end up having to move one of them out but good prospects for filling that up quickly. You may recall a year ago we opened the site we have in [inaudible]. We had I think an 18 month plan to fill it up and we filled it up in nine months so hopefully we’ll have similar results in some of the other spaces.
In the Dominican Republic, what’s nice about that is that it is we sort of rent by the seat versus having to rent the entire complex so we don’t have extra cost to carry empty seats in that location. We only pay for what we need.
Operator
Your next question comes from Howard Smith – First Analysis Securities Corp.
Howard Smith – First Analysis Securities Corp.
Just some quick follow ups on some housekeeping items, on the settlement, the $2.4 million would that be a Q2 or might that drag on to a Q3 cash payment?
Andrew B. Szafran
It’s probably Q3 based on the timing of it Howard.
Howard Smith – First Analysis Securities Corp.
On the cash taxes, you said 5% for the year, I assume that’s somewhat [inaudible] in the first half of the year and then ramping at a run rate going to the next year of cash taxes approaching your accrual GAAP rate?
Andrew B. Szafran
Correct.
Operator
I’m showing no further questions at this time.
Michael P. Marrow
I’ll close by once again saying thanks to everyone for joining us this morning. As you know, we are a results oriented company focused on delivering great services to our clients and great results to our shareholders. We appreciate your interest in the business. We are especially grateful for the work our clients trust us to perform and the dedication of all of the people who are part of APAC. We look forward to our next call and we’ll be sharing the results for the second quarter of 2010. Thank you.
Operator
Thank you for your participation in today’s conference. This concludes the program. You may all disconnect.
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