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Heidrick & Struggles

Q4 2007 Earnings Call

February 26, 2008 10:00 am ET

Executives

Julie Creed - Vice President, Investor Relations

L. Kevin Kelly - Chief Executive Officer

Eileen A. Kamerick - Chief Financial Officer, Chief Administrative Officer

Analysts

Tim McHugh - William Blair

Michael Morin - Merrill Lynch

Kevin McVeigh - Credit Suisse

Duke Buchan - Hunter

Jeff Mueller – RW Baird

Andrew Fones - UBS

Operator

Good day ladies and gentlemen, and welcome to the fourth quarter 2007 conference call. (Operator Instructions) I would now like to introduce your host for today’s conference call, Ms. Julie Creed, Vice President of Investor Relations. You may begin ma’am.

Julie Creed

Good morning, everyone and thank you for participating in our fourth quarter and 2007 year end conference call today. From Heidrick & Struggles are Kevin Kelly, our Chief Executive Officer and Eileen Kamerick, the Chief Financial Officer and Chief Administrative Officer.

Kevin is going to begin by highlighting some of the operational and financial highlights of the year and then Eileen will review our fourth quarter and 2007 financial results in a little more detail; Kevin will add some color on 2008 business initiatives and then we’ll open up the call for Q&A.

As a reminder, there are supporting slides that are available on our website at Heidrick.com that accompany our remarks today and we encourage you to follow along and print them. As always, we advise you that this call may not be reproduced our retransmitted without our consent.

We will be making forward-looking statements on the call today and ask that you please refer to our Safe Harbor language that’s contained at the end of our news release or on slide 1 of our presentation.

At this point, I will turn the call over to you, Kevin.

L. Kevin Kelly

Thank you, 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’ve posted on our website, I’m going to start with slide 3. Today is an exciting day for our firm. Today we are reporting 2007 record net revenue, record operating income and record operating margin, the best in our company’s 55-year history. We are very proud of these results and they represent the collective efforts of more than 1,600 employees around the world and I’d like to personally thank them once again.

Net revenue in 2007 of $619.7 million increased 29.5% compared to 2006. The Americas region grew 25.7%, Europe grew 26.8% and Asia Pacific grew 58.8%.

Looking at slide 6, we opened four new offices in 2007: Auckland, Moscow, Dubai and Geneva. In January this year, we established an office in Bangkok, bringing our total network to more than 60 offices in 33 countries. With the Asia Pacific and Europe regions turning in record net revenue in 2007, 50% of our revenue was from outside the United States. All of our revenue drivers contributed to growth in 2007.

Continuing with slide 8, we confirmed 5,102 executive searches, up 15% from 2006 at an average fee per search of $114,900 or 13.6% higher than the average fee in 2006. The increase in average fee per search was driven by double-digit growth in all three regions, but most notably from Europe and the Asia Pacific region where we are making a conscious effort to focus on moving upmarket and doing work at higher levels in the C-suite.

It also reflects the increasingly competitive market for top talent, which in turn is driving up wages. 48% of our revenue in 2007 came from searches at the Board and C-suite level, and the balance of our revenue largely came from follow-on work as a result of our success at the top.

Looking at slide 9, productivity which we define as average revenue per search consultant, improved $1.5 million in 2007 from $1.3 million in 2006, and we still believe we can drive that higher because we have numerous consultants annualizing at much higher revenue numbers. This metric is key to increasing profitability and is a continued focus for us in 2008.

Turning to slide 10, consultant headcount at December 31 was 386, but our recruiting pipeline is strong. Today, through the annual promotion process as well as new hires already made in the first two months of this year, consultant headcount is at 411.

We are very proud of what we accomplished in 2007, not only because of the financial results we achieved, but because of how it further positions us for 2008 and beyond. We acknowledge there is uncertainty in the U.S. market, but the demographic and secular trends continue to drive good demand for our executive search and leadership consulting services.

According to Challenger Gray & Christmas, the departure of 134 CEOs in January was an eight-month high and a pace 58% higher than in December. This churn in the C-suite will continue and is great for our business. There is also increasing demand in emerging markets like Asia, the Middle East, and we will take advantage of this. We are in the strongest financial position in the firm’s history and we are committed to profitable growth.

With that overview of the 2007 highlights, I will turn the call over to Eileen to give you more detail on the results.

Eileen A. Kamerick

Thanks, Kevin. First I will review our fourth quarter results. Looking at slide 11, net revenue of $153.6 million increased 16.1% year over year. We are very pleased with the year-over-year revenue growth given that this was the first quarter to compare the annualized effect of Highland Partners, which was acquired in October of 2006. Revenue associated with Highland Partners was approximately $14 million in the quarter and about $61 million for all of 2007.

Turning to slide 12, executive search confirmations in the fourth quarter were down 3.5% compared to last year’s fourth quarter. While December confirmations were slow due to seasonal trends, January confirmations were very strong, the third best in our company’s history for the month, and we see continued strength in confirmations in February.

As you can see, this pattern of confirmations for November, December and January is one of the few seasonal trends we can point to in our business. This year, December was down a little bit more dramatically, but January was up more than usual.

Referring to slide 13, salaries and employee benefits expense in the fourth quarter was $103.3 million or 67.3% of net revenue. The increase of $9.4 million, up 10% compared to 2006, was largely driven by a 6.2% increase in total headcount and an increase in bonus accruals as a result of higher revenue levels in 2007. Although salaries and employee benefits expense increased in absolute dollars, as a percentage of net revenue it decreased to 67.3% compared to 71% in last year’s fourth quarter when we had additional compensation expense associated with the acquisition of Highland Partners.

Fixed salaries and employee benefits of $63.4 million decreased by $3.7 million, or 5.5%. The primary reason for the decrease reflects that in last year’s fourth quarter we had severance expense of $4.4 million.

Performance-based compensation of $39.9 million increased $13.1 million, mostly reflecting higher net revenue levels for 2007, which in turn translated into higher bonus accruals. Stock-based compensation in the quarter was $5 million, down $1.5 million primarily as a result of favorable forfeiture experience in 2007.

Referring to slide 14, general and administrative expenses in the quarter were $32.1 million, an increase of $2.2 million, or 7.5% compared to last year’s fourth quarter. The increase is generally related to operating expenses associated with higher headcount levels and higher discretionary spending. But there are a few specific items that resulted in this year-over-year increase that I’ll discuss because they also affected margins at the regional level.

First, there was a $2.5 million increase in fees for professional services of which $1.7 million related to legal costs incurred in the Asia Pacific region for defending and then reaching a settlement in principle of litigation related to our hiring of some key consultants in the Hong Kong office. Worldwide, premise-related costs increased by $1.6 million year-over-year due to new offices and new lease agreements for existing offices. As a percentage of net revenue, G&A expenses were 20.9%, compared to 22.6% in last year’s fourth quarter.

Looking at slides 15 and 16, operating income in the fourth quarter of $18.2 million increased $9.7 million, or 113% compared to last year’s fourth quarter. The operating margin was 11.9% compared to 6.5% in 2006 fourth quarter, which was negatively impacted by integration costs associated with our acquisition of Highland Partners and by severance expense.

As shown on slides 17 and 18, reported net income was $9.2 million and diluted earnings per share were $0.49, reflecting an effective tax rate of 55.3% after discrete items for the quarter. We had previously estimated a fourth quarter effective tax rate of approximately 70% because of the costs associated with the incorporation of our UK branch. The tax rate was lower largely due to our ability to take a deduction for contributions to our employee benefit trust in the UK.

Kevin has already highlighted our 2007 results but I’d like to provide you with a little more detail. Turning to slide 19, net revenue of $619.7 million increased 29.5% compared to 2006. Looking at slides 20 and 21, salaries and employee benefits expense of $419 million increased 27.5% compared to 2006, but decreased as a percentage of net revenue to 67.6%.

We made more progress in lowering the fixed component of this expense and increasing the variable portion with fixed being 64% and variable being 36% in 2007. We’ve done this by continuing to lower costs like starting base salaries while increasing the variable component of compensation that is tied to driving net revenue. This variable cost structure allows us to respond more quickly to any changes in the market environment.

Looking at slide 22, our general and administrative expenses increased 22% to $121.2 million but decreased as a percentage of net revenue to 19.6%. We were very diligent in managing costs in 2007 and we intend to continue this initiative in 2008.

As you can see on slide 23, rent expense, our largest single expense after compensation, was $34.2 million in 2007 and decreased for the fourth year in a row as a percentage of net revenue to 5.5%.

We have recently completed a detailed review of our existing real estate and assessed our future needs. With each lease renewal we are evaluating opportunities for hoteling where consultants would volunteer to work from home and hotel when an office is needed. Operating income of $79.5 million increased 58.9% year over year, and the operating margin improved to 12.8% from 10.5% in 2006.

Net income of $56.5 million increased $22.2 million from $34.2 million on higher operating income and a lower effective tax rate in the year. Recall that our tax rate in 2007 of 35.3% reflects a very low second quarter tax rate of 2.3% as a result of our release of a valuation allowance related to foreign tax credits. This was offset by a higher fourth quarter tax rate which I explained earlier.

Moving to slide 24, balance sheet and cash flow. The cash, cash equivalents and short-term investments balance as of December 31 was $282.9 million. The increase compared to September 30, 2007 primarily reflects additional accrual of consultants’ bonuses and strong collection of receivables in the fourth quarter. About $150 million will be paid out in bonuses later this week, and we also paid our first quarter 2008 cash dividend on February 15.

As of 12/31/2007, our short-term investments balance of $22.3 million was composed of option rate securities. However, by mid-January, we liquidated all of our investments in option rate securities and currently have no exposure to those securities. We did not realize any loss in value when liquidating our option rate securities. We currently invest our cash in highly liquid, low-risk assets with maturities of three months or less.

Net cash provided by operating activities was $81.5 million in the fourth quarter and $105.8 million for the year. The increase in both compared to last year primarily reflects the increase in net income, and higher accrued bonuses based on the increase in net revenue in 2007 as compared to 2006. Free cash flow, which we define as cash flow from operations, minus capital expenditures and less changes in accrued bonuses, was approximately $85 million for 2007.

Turning to slide 25, we continued to repurchase our shares in our trading window of November and December. In the fourth quarter, we spent $13.6 million on share repurchases. For all of 2007, we repurchased 1.6 million shares at an average cost of $42.96 for a total cost of $69.4 million. The effect of shares repurchased in 2007 on diluted earnings per share was approximately $0.05 in 2007. To give you context for the number of shares we repurchased, we granted a total of 869,583 restricted stock units, and 80,250 stock options in 2007. So as you can see, we repurchased significantly more shares than we issued in 2007.

Looking at regional results, please turn to the Americas results on slide 27. Net revenue increased 8.6% in the fourth quarter and increased 25.7% in 2007. All the key revenue drivers contributed to growth in the Americas. Confirmations, consultant productivity, and average fee per search were all up at least 10% in 2007 compared to 2006.

Operating income increased 8% in the quarter and was up 25.1% for the year, both driven primarily by the increase in net revenue. The operating margin in the fourth quarter was 17.8% compared to 17.9% in last year’s fourth quarter and for 2007 the operating margin was 20.2%, which was comparable with 2006.

Turning to Europe on slide 28, we are very pleased with the continuation of improvements in Europe. Europe achieved a record year for net revenue, operating income and operating margin. Confirmations, consultant productivity, and average fee per search all contributed to the year-over-year net revenue growth.

Net revenue increased by 18.9% in the fourth quarter and increased by 26.8% for the year. On a constant currency basis, net revenue increased approximately 9% in the fourth quarter and 17% for the year. Operating income in the fourth quarter was $9.9 million, a year-over-year increase of 335% and for the year it was $31.9 million, an increase of 114% compared to 2006.

But recall that there was significant severance expense in last year’s fourth quarter in Europe. The quarterly operating margin improved to 18.2% compared to 5% in last year’s fourth quarter, and it was 15.4% for the year, compared to 9.1% in 2006.

Turning next to slide 29 and the Asia Pacific region, net revenue in Asia Pacific was up 49.1% in the fourth quarter and up 58.8% for the year. The positive impact of foreign currency exchange represented approximately 11 percentage points to the fourth quarter revenue growth and about eight percentage points for 2007.

Every country in this region contributed to year-over-year growth. Revenue growth was driven by an increase in confirmations and increases in average fee per search and productivity. Operating income in the fourth quarter decreased to $1.4 million compared to $3.4 million in last year’s fourth quarter and the operating margin was 7.3% compared to 25.6% last year.

As I mentioned earlier, operating income and operating margin in the fourth quarter in Asia were negatively impacted by $1.7 million related to legal costs for reaching a settlement in principle of litigation related to our hiring of some key consultants in the Hong Kong office.

There was also an increase in costs as a result of our having increased employee and consultant headcount in this region by approximately 36% since December 31, 2006. As you know, new consultants are typically not fully productive for at least a year, depending on their background.

Finally there was an increase in infrastructure costs related to several leases for new and existing offices related to this region’s accelerating growth.

For the year, operating income was up 20.1% on higher net revenue levels, but the operating margin was 20.3% compared to 26.8% in 2006. The same items that impacted the fourth quarter impacted the year, including a total of $2.7 million of legal fees.

I’ll review our guidance for 2008, starting with slide 32. We are optimistic about the trends we’ve seen so far in our business this year. As you’ve seen, January confirmations were very strong and we see continued strength in February confirmations as well. Year-to-date, confirmations are up about 5% compared to the same period of 2006. This, coupled with the feedback from our consultants around the world, gives us confidence in our 2008 guidance for net revenue of between $650 million and $670 million, representing growth of between 5% and 8% over 2007 net revenue.

We are targeting to achieve an operating margin in 2008 of approximately 13%. In 2008, we will be making some investments in our business, which we believe will have a significant and positive impact on the growth of our business and productivity of our consultants in the future. Some of these investments involve a new search system, the lifeline of our recruiting and an investment in what will be the largest office in our system, New York. In 2008, we will combine our Park Avenue and Wall Street offices into one. We believe that there are many benefits of combining the people of these two great offices.

Be assured that we are committed to continuing our track record of delivering profitable growth. We expect that net income and earnings per share will reflect a full-year effective tax rate of between 38% and 42%. In 2008, we plan to incorporate a few more branch offices, which as you know involve a one-time discrete item at the time they are incorporated, but then result in a lower tax rate going forward. The guidance we have given you of 38% to 42% reflects the cost and the benefits of our planned incorporations. We will provide you with more precise detail as to the timing of any incorporations as we did with the incorporation of our UK branch, but there will not be any incorporations in the first quarter.

As for quarterly trends, I will remind you that in each of the past four years, the first quarter has been our lowest revenue quarter of the four, and that the operating margin’s often lower in the first quarter. As with most professional services firms, fixed costs for items like FICA and costs for new hires are highest in our first quarter. Additionally, our 2008 bonus accruals will be based on our full-year expectations for revenue and profitability, despite having only one quarter of actual results.

Please turn to slide 33. For 2008, we are expecting to generate free cash flow of between $70 million and $80 million before stock repurchases and the cash dividend. We are planning for capital expenditures of between $22 million and $27 million for our new search system and the New York office, as well as ongoing capital expenditures. The planned increase in capital expenditures is the reason why free cash flow is expected to be slightly lower than in 2007.

In addition, other investments will be made in the strategic hiring of some new consultants in very focused practice, functional or geographic niches.

As for acquisitions, while we did not make significant acquisitions in 2007, we’ve been actively looking at a number of opportunities both within executive search and leadership consulting, as well as in businesses that are ancillary to our own. We are very pleased with the Highland Partners and Renton James acquisitions, both of which have exceeded our expectations.

Finally, we will return excess cash to shareholders. As of December 31, 2007, $19.3 million remained in our current share repurchase authorization. With the new $50 million authorization that we announced two weeks ago, we now have approximately $69 million available for share repurchases.

We also paid our second cash dividend in the amount of $0.13 per share on February 15 to shareholders of record as of February 1 for a total of $2.2 million, part of our commitment to drive shareholder value.

With that discussion of our record results, I’ll turn the call back to Kevin.

L. Kevin Kelly

Thank you, Eileen. Our 2007 results demonstrate that the efforts we initiated in 2004 to accelerate revenue growth and improve profitability have been successful. As I look into 2008, I’m extremely positive and while we do not have a crystal ball, I can tell you that today, we are not seeing a slowdown in our business. I’m on the phone daily with the regional and practice leaders and clients around the world and I have a very good grasp of what’s happening in our business on a global scale.

I can say that business is good. We continue to see a high level of activity across our offices and practices. Within the financial services practice, we are well diversified into six different sub-sectors. And we are also diversified globally. Some of these sub-sectors are off to a great start in 2008, without experiencing any slowdown, like private equity, asset and wealth management, real estate and insurance. We are seeing some pause in diversified consumer financial services and in capital markets, as you would expect, but new opportunities in these sub-sectors have opened up.

For example, there has been increasing demand for functional non-investment professionals like compliance and risk managers, in both these sub-sectors and across the board. We’ve also seen good business in regional and retail banking. And where we are seeing any pause in certain financial services sub-sectors in the US, it is more than being offset by activity in the life sciences practice, the technology practice and in our financial officer practice.

The life sciences practice grew 48% in 2007, and is off to a great start in 2008. They confirmed six board assignments in January alone, one a marquee President and CEO search, and are adding to their list of strategic partners. The life sciences practice consists of work in a number of sub-sectors, like medical devices, which are growing fast and often act countercyclical to down markets.

The technology practice is poised to have a great 2008 as well. We have picked up several high profile searches in the U.S. and expanded our presence in Europe, including high visibility board work for some of the large telecoms both in the UK and Germany.

Our financial officer practice had a great 2007 and their momentum continues into 2008. Some of this practice’s recent wins and placements for clients include MasterCard, Starbucks, Principal Finance, Chubb, Merck and Best Buy. It’s worth noting that in the first month of 2008, 24 companies in the Fortune 1000 had already named new CFOs. As of February 7th, there were 45 open CFO positions in the Fortune 1000. This churn means more work for us.

While in Davos a month ago, I attended a private session with approximately 20 CEOs from the major professional services firms. They’re also not experiencing a slowdown. Despite what you’re reading in the paper everyday, these CEOs, like us, are seeing great growth in emerging markets like Central and Eastern Europe, Russia, the Middle East and Asia Pacific and they need Heidrick & Struggles’ Executive Search to help them execute their strategies in these markets.

From a market-facing perspective, we are well-positioned to take advantage of the secular and demographic trends driving the need for executive search and leadership consulting services in each region. We are a very different company today than we were seven years ago. We have built a culture of performance based on profitable growth as evidenced by our almost 60% increase in operating income in 2007 over 2006. The alignment of our businesses around practices continues to meet with great success. We are confident that we are winning business because we are presenting a more global and integrated capability to the market.

In 2007, 83 clients generated at least $1 million in fees. This is up from 62 clients in 2006 and 53 in 2005. Our goal for 2008 is 100 clients generating at least $1 million in fees. Leveraging ourselves as partners with our key accounts is making us less transactional and allows us to add more value through our advisory positioning. In fact, we’re also providing more leadership consulting services to our clients both before and after searches are won.

You can hardly pick up a paper today without reading about succession planning and we are helping companies manage this very important responsibility. Our leadership consulting services are more integral to our business than ever before and have helped us win several high profile CEO searches. In 2007, revenue from leadership consulting services grew 57% and now represents just under 5% of total net revenue.

Our key priorities for 2008 are to grow our core business through the strategic recruiting of consultants in certain sub-sectors, developing more strategic partners or key accounts, and through acquisitions. We are committed to doing accretive deals that we can integrate quickly and efficiently. We’ve been actively reviewing a number of acquisition targets around the world that would enhance our presence in certain sub-sectors, add to our leadership consulting potential or improve our talent management capabilities.

Another priority is to continue the transformation of our business through strategic alliances, joint ventures or investments in order to identify new management talent and to improve our consultants’ productivity.

In the last year, we have enhanced our business model and positioned ourselves for the future by pursuing strategic partnerships with organizations that can provide us added intelligence about and access to new management talent. We announced several of these partnerships in the third quarter: the Economist, the World Economic Forum and NASDAQ’s board recruiting and are in dialogue with a number of others.

A few weeks ago, we announced our investment in a technology company called VisualCV that is going to provide us with our own secure platform for talent management on a whole new level. I want Heidrick & Struggles to continue to be an innovator in executive search, and this is one example of how we believe that innovation will lead to enhanced growth.

We are off to a great start so far and are excited about the prospects for the remainder of 2008 and beyond. We acknowledge the general uncertainty about the U.S. economy and specifically the turmoil in the capital markets but we still believe that there are short and long-term secular trends driving demand for our executive search and leadership consulting services which will buffer us from the kind of downturn experienced seven years ago. We are planning for growth but are prepared for an economic downturn with our continued focus on improving our cost structure.

Thanks for your time today. At this point in the call, we’d love to open it up to questions.

Question-and-Answer Session

Operator

Our first question comes from Tim McHugh - William Blair.

Tim McHugh - William Blair

I want to first touch on the revenue per search trends, which obviously were very good. How sustainable do you feel recent improvements have been in that and will that continue to move upwards? Related to that, perhaps you could talk about the percentage of searches in 2006 that were at the C-suite level or at the board level and compare that to the 48% you just mentioned on the call?

Eileen A. Kamerick

Yes, that number is fairly consistent, Tim. We have moved upmarket more in Europe and in Asia, but that 48% on the Board and C-suite was in 2007 and also in 2006 so it really hasn’t changed very much.

What we are seeing is, there is increased focus on how executives are compensated with equity, and to some extent that and just the demand for talent has driven cash comp up. One of the really positive parts of our business model is that we’re paid based on the placement’s first year cash comp, their base and their bonus. As that increases with market pressures, obviously we see that increase.

Also, the fee per search both in Asia and in Europe, have gone up as we have moved further upmarket and we see those trends continuing. There continues to be demand and pressure on wages, particularly at the C-suite level. So we think that we’ll be the beneficiaries of that.

If you look over the last couple of years, the increases in fee per search will change a bit quarter to quarter, but they’re up at least 5% and often 10% year-over-year over the last four years.

Tim McHugh - William Blair

The trends in confirmations in November, December and January. Was there any particular geographic regions or practice areas that drove the weakness in December more so than others, and then correspondingly the rebound in January?

L. Kevin Kelly

I think the challenge that we had in December, and I spent a lot of time on this as did Eileen talking to our global practice leaders, and what they saw was that basically it was a short month. We had a two-week month versus last year. For December of 2006, where you got about 3, 3.5 weeks in just given the holidays. So a lot of it I attribute to the fact that December was a short month last year and that there was no particular downturn in any specific sector. Then again, we saw the increase in confirms in January and the trend continues into February this year. So a lot of it again I attribute to the fact that it was a short month in December of 2007.

Tim McHugh - William Blair

The headcount, you mentioned you are up to 411 as of now, what would be your expectations for the year? Has the majority of the headcount increase now taken place? Can we see that tick down across the year as we did in ‘07?

L. Kevin Kelly

No, we just went through a promotions cycle, we have a very aggressive recruiting campaign going on, particularly in Europe and all across the board, Latin America, Europe, Asia Pacific and here in North America and we need to fill in a lot of the gaps.

For us, it’s about capturing market share here and looking at areas like energy, asset management, diversity, media entertainment, and technology and also capturing the demand in some of the emerging markets that we’re seeing, like Russia, Central and Eastern Europe and the Middle East. One of the challenges is making sure that we have the consultants in place to execute our strategy as an organization.

Now what you’ll see is, as we go out and aggressively recruit simultaneously, and we talked about this last year, we will also continue and focus on moving out those consultants that aren’t as productive as we expect them to be. So you will see the number probably be somewhat fluid over the course of the next three to four months.

Operator

Our next question comes from Michael Morin - Merrill Lynch.

Michael Morin - Merrill Lynch

I was wondering on the consultant headcount additions year-to-date, can you quantify how much is from internal promotions and how much is from external hires?

L. Kevin Kelly

We had 14 that were promoted.

Michael Morin - Merrill Lynch

Is that pretty typical in terms of on an annual basis, or has there been a change in that?

L. Kevin Kelly

That’s been fairly typical for the last three or four years.

Eileen A. Kamerick

I’ll just add to that. One thing that Kevin has done is really focus on our efforts to really promote people from within because it’s a very positive model for us. It’s less risky, we find, rather than hiring people, bringing people up through the ranks, they’re productive more quickly than when we go out and hire people. So we’re very committed to growing our own and spending the money on training people to be able to bring them up through the ranks and provide them with a real career path at Heidrick.

Michael Morin - Merrill Lynch

That makes plenty of sense. Eileen, on the real estate, you mentioned what you’re looking at in terms of hoteling. Do you have any expectations in terms of how low you might be able to take that real estate expense as a percentage of sales over time?

Eileen A. Kamerick

Well, we certainly think there’s an opportunity to get leverage, obviously from the top line, and also to really work on how we can hotel people and manage that cost down. We don’t have a specific number that we’re aiming for but we think there’s a real opportunity to do that. We need to do this because we’re moving into, in many areas, a rising commercial lease environment. Even to keep it flat, we have to be innovative. But it’s really our intent to try to bring that down as a percentage of revenue over time.

Michael Morin - Merrill Lynch

Specifically to Asia, I think if we were to back out the legal expense, you’re still seeing some margin pressure there based on some of the things you alluded to on the real estate front. Is that something that we should expect would continue in 2008? Also, is the legal expense completely behind you at this point?

Eileen A. Kamerick

The legal expense should be completely behind us. There is some expense associated with the fact that that has been a very high growth region and we have to build out some infrastructure there to make sure that we’re supporting that growth. This was a particularly large kind of hit to our margin in this quarter obviously, but I would expect that we’re going to have to invest something in the region but we expect that they will be able to maintain profitability.

So this was, along with the litigation expense and some of the infrastructure build out, we had very high growth rate there this year but we’re very focused on maintaining all of our regional margins to make sure we can meet our profitability commitments.

Michael Morin - Merrill Lynch

The fee per search, have you quantified that in terms of constant currency, how much it would have gone up?

Eileen A. Kamerick

Well, we could. It’s probably a little bit of that is currency, just as obviously our revenue has a currency effect in it as well. Even backing that out you can see over the last four years our fee per search on a nominal basis has gone up between 5 and 12%. So there’s been some increases because of the weakness of the dollar, but we still think those trends are very positive, even backing out that currency effect.

Operator

Our next question comes from Kevin McVeigh - Credit Suisse.

Kevin McVeigh - Credit Suisse

Could you help us understand what the contribution across the different regions would be to the 13% operating margin? Just a range of where the Americas would be, Europe and Asia Pacific?

Eileen A. Kamerick

Typically, as you know, we don’t give guidance down into the regions. One of the things that’s an advantage of a highly diversified both regional and practice model is that as we see shifts in markets both regionally and in practices, we can adjust accordingly. We have a highly flexible cost structure, so we can adjust in accordance with those.

We really expect all of our regions are going to be hitting on all cylinders. As you can see in Europe, we now have the margins up much higher than they were traditionally, and within distance of both the Asia and Americas margins.

So rather than commenting specifically on that, I think you can see that we’ve been very good at meeting our commitments at raising our margins year over year significantly and we’ll make sure that we do that again. That’s really as a result of our focus on cost containment and adjusting our model according to market conditions in the various regions and practices.

Kevin McVeigh - Credit Suisse

Within financial services, could you give us a sense of trends within the different regions, the Americas versus Europe and Asia Pacific in the fourth quarter and what your expectations are directionally into ‘08?

Eileen A. Kamerick

We can give you a sense of the first month or so of that, and Kevin can give you some more color on this. We saw financial services down in North America, but it was up in EMEA, and it was also up in APAC significantly and it was up in Latin America.

L. Kevin Kelly

I’ll give you an example. We have a clients here in North America that was a major U.S. investment bank that decreased its number of searches in November, December, but gave us 35 searches in Asia Pacific. So Heidrick & Struggles’ ability to differentiate itself through our execution in helping clients on the global scale, I think, is helping us as well, particularly when it comes to financial services. And a lot of the financial services clients, like all the other clients, are expanding internationally as I alluded to earlier in the call.

So we’re seeing great demand in Asia, we’re seeing great demand in Central and Eastern Europe and in Europe and the Middle East. We’re more than making up for some of the shortfall in the consumer banking area by picking up search work in private equity, the CFO space, as well as I mentioned earlier the legal and compliance area of investment banking.

Additionally, we still have an opportunity to capture more market share as I mentioned before, particularly in areas like asset management.

Kevin McVeigh - Credit Suisse

Is it fair to assume that geographically it mirrors the rest of the company, financial services, in terms of revenue contribution overall?

L. Kevin Kelly

Yes.

Operator

Our next question comes from Duke Buchan - Hunter.

Duke Buchan - Hunter

Can you talk a little bit about your guidance? I’m new to your story. It seems very positive. But given the tone on the call, I would have expected something different as far as EPS and revenue growth for the environment in ‘08. In other words, given how diversified your business is, how well you did last year, I would have thought your guidance reflects something a little more optimistic that what you’ve talked about.

Eileen A. Kamerick

Well we’re very focused on making sure that we have very clear visibility to be able to give you a reasonable sense of where we think revenue will be. Based on everything that we’ve done, which is a bottoms-up assessment through all of our practices and all of our regions coming off of really a record year where we raised our revenue guidance three times during the year, we want to make sure that we’re as accurate as possible in terms of giving you our fair and thorough assessment of where we think we can achieve revenue for the year and we’re comfortable with that.

L. Kevin Kelly

Additionally, we’re focusing on three things as we mentioned in the call. Number one, continued focused in how we can be better, faster and more efficient and drive productivity per consultant. We are at the $1.5 million now. How do we increase revenue per consultant to $1.6 million, $1.7 million?

Simultaneously, we know through both acquisitions and recruiting, it takes time. It takes 12 to 18 months on average to get consultants up to speed, about 15 months on average, and that’s why we’re proactively recruiting across all three regions. So between acquisitions, between driving productivity and between hiring to meet the demand of our clients and help them execute their strategies, we are trying to grow this business as best we can.

Eileen A. Kamerick

It’s always a trade-off in terms of managing a professional services business to manage profitability and growth. We’ve had a very high growth year and we think we’ve managed that well to meet our commitments. We’re going into somewhat uncertain economic times. We see, as Kevin said, very strong demand for our services but we’re going to be very careful about how we manage costs and how we think about hiring. That’s the constant balance that we have to work on in terms of being able to drive the top line and still deliver on profitability.

Duke Buchan - Hunter

Right, so basically you’re guiding top line up 3% and EPS sort of flattish?

Eileen A. Kamerick

No, 5% to 8%. Net revenue is up 5% to 8%. And we don’t guide to EPS. The reason for that, let me just elaborate on that a little bit, is because we had previously a valuation allowance against our deferred tax assets and that resulted in a rather lumpy tax rate and for a long time a rather low tax rate and then some aberration. And we also have a tax rate now that will change on a quarterly basis based on when we incorporate some of our branches. So we really would like to focus everyone on operating income. We do see an increase in operating income. We’ll be at approximately 13% on again, 5% to 8% higher revenue.

Operator

Our next question comes from Jeff Mueller – RW Baird.

Jeff Mueller – RW Baird

Obviously you’re in investing mode in the Asia Pac region right now, but as you look out over five or ten years, what do you think the margin potential is there?

Eileen A. Kamerick

Well, the margins in Asia Pac have been very high. They’ve led the company and I still think that Asia can be a very profitable region. It’s run by two people who are in charge of it who are very focused on not just growing, but growing profitably. So the fact that we have one quarter where we have a lower margin and a full year somewhat lower margin than the year before doesn’t dampen certainly Kevin and my enthusiasm for the fact that we can have very strong margins in the region. Again, we don’t guide to profitability or margins by region, but on a full consolidated basis we are very committed to the goals that we’ve set.

Jeff Mueller – RW Baird

In the region, I was wondering if you could give us some sense for what salaries and benefits were up relative to rent expense since it seems like you’re investing in both? I am just trying to figure our where some of the opportunities are for leverage there as we look out a couple of years.

Eileen A. Kamerick

In Asia Pacific you really need to look at the full year basis rather than the quarter, and I think that you’ll find that the infrastructure expense was up certainly more than the year before. That’s really due to building out infrastructure in what was a very light infrastructure business.

Particularly in Asia, the fixed component of our salary and benefits is very low. In general, when we hire there we have very low fixed salaries so we have a highly variable salary and benefits model there. So in terms of getting leverage on that, particularly in the region salary and benefits, I think it’s probably our highest opportunity there.

Operator

Our next question comes from Andrew Fones - UBS.

Andrew Fones - UBS

Of the 25 hires in the first quarter, can I ask what the breakout was by region, please?

Eileen A. Kamerick

We don’t have that at our fingertips, Andrew, but they were fairly evenly spread throughout the regions. Kevin has a particular focus on some areas of practice in Europe, but they were really fairly proportional. About half in the US and then spread as our revenue is spread, about a third in Europe and about 13% or so, 15% in Asia.

Andrew Fones - UBS

Okay, thanks. You gave us an interesting breakout in terms of the amount of work from C-suite searches of the entire company, where you mentioned that you see opportunity in Asia and Europe. Can you give us some guidance or directional guidance as to what that percentage would be in Europe and Asia versus Americas? Thanks.

Eileen A. Kamerick

Well in general, the C-suite work that we do in the U.S., there’s a higher proportion of it in the U.S. because traditionally our brand has been stronger here. It’s a more mature search market but our opportunity to expand that percentage both in Europe and certainly in Asia I think is significant. By the way, that’s C-suite and board work, the 48% includes that.

L. Kevin Kelly

Andrew, if you look historically at both Asia Pacific and Europe, most of the domestic companies promote internally, which dovetails nicely with our leadership consulting business today, in terms of succession planning, assessment retention, et cetera. So it’s also focusing on winning C-level searches through leadership consulting.

But I’ve mentioned before, that we have a huge opportunity as an organization, particularly in Asia and Europe, primarily because 98% of our business excluding Australia and New Zealand is with those multinational companies that are expanding into the region. Now the opportunity lies in those domestic companies that I just mentioned, the Japanese, Korean, Chinese companies looking to expand in both Europe and North America and we’re just on the cusp of having that happen.

Andrew Fones - UBS

That actually dovetails nicely into my last question, which was, can you tell us what proportion of work in Asia you get from the large multinationals versus the local companies? Thanks.

L. Kevin Kelly

Well it’s roughly, if I exclude Australia and New Zealand, it’s probably around 96%, 97%. There again lies, what we believe, a huge opportunity for us as an organization. We’re already seeing CEO searches in Europe and North America for Chinese and Japanese and Korean companies. We’re just on the cusp of that happening, and eventually the possibility of helping these domestic companies do executive search in their local markets.

Operator

There are no further questions at this time.

L. Kevin Kelly

Well I just wanted to wrap up by saying thanks for your time and I’d like to leave you with a few quick thoughts. We’re one of the few top global firms who can execute searches for companies around the world in order to find the management talent they need to compete. We think we’re the best firm.

I want to reiterate that we’re not seeing a slowdown in our business at this point and time. Our business overseas, especially in the emerging markets, is solid and growing. And we’ll continue to invest in the business through strategic recruiting and acquisitions in order to capture more market share.

I want to thank you again for your time, and I’d like to thank all the employees at Heidrick & Struggles for a record year. Thanks a lot.

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Source: Heidrick & Struggles Q4 2007 Earnings Call Transcript
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