Seeking Alpha
We cover over 5K calls/quarter
Profile| Send Message|
( followers)  

Kforce Inc. (NASDAQ:KFRC)

Q1 2008 Earnings Call

April 30, 2008 8:30 am ET

Executives

Michael Blackman - SVP of IR

David Dunkel - Chairman and CEO

Bill Sanders - President

Joe Liberatore - CFO

Analysts

Jim Janesky - Stifel Nicolaus

Mark Marcon - Baird

Clint Fendley - Davenport

Josh Vogel - Sidoti & Company

Rick Dote - Columbia Management

Mike Carney - Coker Palmer

Operator

Good day everyone and welcome to this Kforce Q1 2008 Earnings Conference Call. Today's call is being recorded. For opening remarks and introductions, I would like to turn the call over to the Senior Vice President of Investor Relations, Mr. Michael Blackman. Please go ahead, sir.

Michael Blackman

Thank you. Good morning and welcome to the Q1 call. Before we get started I would like to remind you that this call may contain statements that are forward-looking. These statements are based on current expectations and assumptions and are subject to risks and uncertainties. Actual results may differ materially because of factors listed in Kforce's Form 10-K, Q and other reports and filings with the Securities and Exchange Commission. We cannot undertake any duty to update any forward-looking statements

I would now like to turn the call over to David Dunkel, Chairman and Chief Executive Officer. Dave?

David Dunkel

Thank you Michael. You can find additional information about Kforce in our 10-Q, 10-K and 8-K filings with the SEC. We provide substantial disclosure in our release and our hope is that this will improve the dissemination of information about our performance and the quality of this call

We're very pleased with our year-over-year revenue growth, even as the macro economic picture has become clouded over the past few months. We began to experience an impact in our business as March unfolded. Clients became more cautious, which had a dampening effect, particularly in the financial services industry in the northeast. March was particularly tumultuous with the demise of Bear Stearns financial market liquidity and multiple Federal Reserve intercessions.

With that said, it appears financial markets are stabilizing and we are currently not seeing any additional significant deterioration. We will maintain our vigilance and scrutiny of our KPIs making adjustments as required. Our senior management team has extensive experience managing through different economic scenarios and is seasoned.

Once again, we made no acquisitions during the quarter and have not made any acquisitions in 18 months. With respect to future acquisitions we are maintaining a high threshold and observe that private valuations have not yet come into alignment with the change in public valuations.

Repeating prior comments, regardless of whether the economy does slide into technology recession we believe there are a substantial number of differences when compared to 2001 including no tech bubble, restrained employment growth thus far in the cycle in strong secular drivers, particularly in professional and technical staffing.

In addition, we have a substantially different business model with a diversified revenue stream far less permanent placement as a percentage of revenue and greater variability in the cost structure. Should we experience deterioration in business conditions our priority will be to maintain positive cash flow and to retain and redeploy our people.

With that said, we believe the knowledge economy remains strong with both secular and cyclical drivers fueling excellent long-term growth prospects. College educated unemployment remains at a low 2.1% and the premium for top talent will likely increase for the foreseeable future.

I'll now turn the call over to Bill Sanders, Kforce's President, who will provide his comments. Joe Liberatore, Kforce CFO, will then provide additional insights on operating trends and expectations. Then I'll conclude. Bill?

Bill Sanders

Thank you Dave, and thanks to all of you for your interest in Kforce. The first quarter was one of continued solid results despite a more cautious business environment. The quality and diversification of our revenue stream allowed us to grow revenues for the 9th consecutive quarter to a record $264.5 million.

We also set a record for Flex revenues of $246.3 million. We are accomplishing one of the goals we established in our roadmap to 2008, which was to deliver sustainable and consistent revenue growth and earnings performance.

Our two top performing segments again in Q1 were HLS and Government Solutions, which grew 4.5% and 10% sequentially. For the first quarter 2008 over the first 2007 HLS was up 16.7% and Government Solutions was up 26.8%. The growth in HLS was fueled by continued strong performance in our clinical research and health information management business units whose year-over-year growth was 30.6% and 26.3% respectively.

As we look forward to the second quarter we expect CRS, HIM and Government Solutions to grow as a result of continued strong demand and the long-term nature of our contracts with our clients.

Revenues for our technology staffing segment declined 2.7% sequentially in Q1 but grew 2.9% year-over-year. This anticipated decline from Q4 is primarily from the traditional cycle of year-end assignment ends, which result in lower quarterly or January revenues, however, while we historically see a ramp up in tech revenues in March this year that did not occur driven primarily by client issues in the northeast. These clients were primarily financial institutions. We believe tech revenues will increase in Q2 as the first week-- first three week's revenue in April has improved.

We are pleased that our finance and accounting business, which represents 21.8% of total revenues, grew 2.1% sequentially. As we have previously stated, our core finance and accounting business has performed consistently over the past year but we have been negatively impacted by weakness in our low end mortgage related business, which constitutes less than 1% of total firm revenues and the completion of certain high revenue projects.

We believe these impacts are behind us and believe that the core essay business demand continues. However, Q2 revenues may seasonally decline while their Q1 from their Q1 levels as year-end finance and accounting activities are completed.

I should note that any point in time the firm is providing flexible staffing consultants to approximately 4,000 different clients in many different industries. Our largest end clients represent approximately 17% of our revenues. This diversification is an additional source of revenue stability.

The firm generates approximately 14% of its revenues from a very broad definition of the financial services sector. We are experiencing less revenues from this segment of our client base but this loss is being offset by other areas of strength, such as NCRS and Government. We will continue to align our sales focus to our client demand.

Our Search revenues were essentially flat sequentially in Q1 and declined 5.5% year-over-year. Search activity remains difficult to forecast but represents less than 7% of total revenues in Q1. At this time our internal KPI suggests that the market for direct hires is stable. As with the rest of our business, we continue to monitor the market demand for Search and moderate the size of our Search teams and the -- with the related cost structure.

Accordingly, our Search head count was flat sequentially as we focus on increasing productivity. However, head count is 4% larger than a year ago and provides us additional capacity to grow this revenue stream. We expect Search revenues to be stable in Q2.

Our gross margins declined in the quarter across all segments. Margins were impacted by the effect of the higher payroll taxes we always experience in the first quarter. In addition for our technology business the sequential decline in Flex margins is largely the result of client mix with a higher percent of high volume, lower margin clients. As we look forward to Q2, we expect margins to improve as the impact of payroll taxes subsides but remains under pricing pressure.

We continue to see demand for our services reflected in the year-over-year bill rate increase of 6.3% in Q1 and the offsetting pay rates of 5.9% across all segments. A primary objective is to optimize gross profit dollars through both revenue growth and careful management of the spread between bill and pay rates. Our revenue footprint continues to deliver some of the highest gross profit percentages in the staffing industry and is indicative of the demand for specialty, technical and professional staffing.

As we continue to navigate through the current economic environment we continually look at internal KPIs as one of our primary near-term forecasting tools. This data driven philosophy allows us to alter course quickly when indicators warrant. Today our KPIs, and particularly job orders, remain stable though clients are extending the hiring cycle.

We continue to utilize these measures in determining an appropriate head count levels of sales associates. We have slightly reduced the number of sales associates in Q1 so sales head count in our strongest business unit, such as HLS and government, have increased. Total sales head count is 6.4% greater than a year ago.

We continue to provide outstanding training and we exit those new hires quickly who do not meet agreed upon benchmarks. We also continue to make strategic adjustments to deploy our resources in the areas of greatest potential return. We believe this focused investment posture will pay great dividends throughout the economic cycle for professional staffing.

In addition, at the beginning of April we also began to adjust SG&A expenses for our reduced revenue expectations. The adjustments include significant reductions in discretionary expenses as well as alignment of field and back room head count. These activities have been concluded unless we encounter greater revenue declines than suggested by our forecast.

Although it has been 18 months, as Dave mentioned, since our last acquisition, we will continue to consider strategic acquisitions but maintain a very high threshold for profitability and geographic and or product set.

We have recently completed a review of our product portfolio and we are pleased to announce that yesterday we completed the sale of our scientific business unit. The firm has also determined to quickly evaluate strategic alternatives for our nursing unit however no decision has been made as to the ultimate outcome. We believe that a focused investment in our core products will provide for their accelerated growth and revenues and earnings.

Finally, we believe our back office continues to be one of the best performing in the industry. We have coupled great people and a cost conscious culture with significant technology investment to provide exceptional service to our sales force and our clients. As we have stated previously, we have substantially completed our significant investment in new technology, which we believe provides an infrastructure on which to build for the next 10 years.

This infrastructure includes a new front end system, people soft modules for back room processing, a state of the art phone system, wireless connectivity in our offices and a long list of infrastructure applications, which provides our clients and associates with exceptional customer service and will allow us to reduce SG&A as a percent of revenue through efficiency gains and adjust our cost structure as economic conditions warrant.

We believe our business is operating efficiently and remains very nimble. Despite our cautious view of the environment, our business remains stable and we have not seen the signs of any significant slowdown in activity. Our seasoned management team has managed through multiple economic cycles.

We are closely monitoring the development of this economic environment and we are reacting accordingly. We are very pleased to once again have record quarterly revenues and believe we are well positioned to take advantage of market opportunities.

I will now turn the call over to our Chief Financial Officer, Joe Liberatore. Joe?

Joe Liberatore

Thank you, Bill. As Bill stated, Q1 was another quarter of record revenues for Kforce. Revenues for the quarter of $264.5 million were up 4.8% from Q1 2007 and up 0.7% sequentially. These improvements were driven by revenue growth in our technology Flex segment, which increased 3.2% year-over-year, HLS, which was up 16.7%, and our government segment, which increased 26.8%. These three segments represent 75.4% of total revenues and are focused in areas of some of the greatest demand in today's economy.

In terms of revenue by time, Q1 Flex revenues of $246.3 million were up 5.7% year-over-year and 0.8% sequentially. Total Search revenues at $18.2 million for Q1 was down 5.5% year-over-year and flat sequentially. Revenue trends for the beginning of the second quarter of 2008 have been strong versus 2007 activity.

Flex revenues for the first three weeks of April are up 7.2% year-over-year and Search is up 3.9% versus the first four weeks of Q2 2007. This past week was the strongest of the quarter to date for Search. We caution that it's difficult to draw conclusions for Q2 based upon this limited data though we remain cautiously optimistic about the near-term prospects.

Net income for the first quarter was $7.2 million and has decreased 18.4% year-over-year as compared to $8.8 million in Q1 2007 and declined 28% from $10 million in Q4 2007. The decline in net income in Q4 is primarily attributable to increased payroll taxes resulting in decreased gross margins and increased operating expenses. Our operating margin in Q1 2008 was 4.8% of revenues or $12.7 million versus 6.4% or $16.1 million in Q1 2007.

Operating income has improved 16% in the last two years. Q1 2008 earnings per share of $0.18 decreased $0.03 or 14.3% year-over-year and decreased $0.06 or 25% sequentially. We estimate the impact on EPS as the result of higher payroll taxes versus Q4 was approximately $0.06.

In Q1 2008 earnings per share before the impact of equity based compensation expense was $0.20, a 13% year-over-year decrease from $0.23 in Q1 2007. We believe these results are a solid reflection of our balancing near-term profits and retention of great people on which future revenue growth will be built.

Our gross profit percentage of 34.1% has decreased 100 basis points year-over-year and decreased 150 basis points sequentially. These declines are the result of change in business mix both between Search and Flex, as well as the composition of our customers as we continue to see growth in our larger volume, lower margin customer base.

The decline in gross profit versus Q4 is also impacted by increases in payroll related taxes typically seen in Q1. Our Flex gross profit percentage of 29.2% in Q1 2008 declined 50 basis points year-over-year and declined 160 basis points sequentially from Q4 2007.

Bill rates continue to increase and have improved 0.4% sequentially, which we believe reflects continuing demand for our services. Pay rates over the same period have increased 2.6% resulting in some sequential compression of the spread between bill rate and pay rate. We expect our Flex gross margins to flatten out primarily as a result of the balancing volume and rate objectives and the lead lag of pay increases outpacing our ability to increase bill rates.

Operating expenses were 29.3% in Q1 versus 29% in Q4 2007 and 28.7% in Q1 2007. We continue to balance current profitability with selective investments with a focus on maintaining the necessary infrastructure to support the growth of the business. The majority of our cost structure is variable. Compensation expense, which is highly correlated to gross profit, comprises 76.1% of operating expense.

Our non-compensation based cost structure continues to decline as a percentage of revenue and gross profit as a result of the leverage gained from the infrastructure investments made over the past three years. The resulting cost structure allows the firm to act quickly in changing economic climates.

EBITDA, an indication of the firm's strong cash flow was $18.5 million or $0.45 per share in Q1 2008 as compared to $20.3 million or $0.48 per share in Q1 2007. This strong operating cash flow, which totaled $14.2 million over the past quarter allows us to continue to invest in our business, repurchase shares and also retire bank debt. The firm has reduced debt by 50% in the past 18 months to $53 million as compared to the $106 million of debt in the fourth quarter of 2006 immediately following the acquisition of Bradson.

We also repurchased 1.5 million shares of common stock during Q1 2008 at total cost of $13 million. The firm has $51.8 million available for future stock repurchases under current Board of Director's authorizations, which includes the increase of $50 million in February 2008.

In terms of other important financial metrics, capital expenditures in Q1 were $2.8 million versus $3.5 million in Q4 2007 and are expected to continue to decline in Q2 now that we have substantially completed our enterprise optimization program initiative.

Write-offs of account receivables increased in the quarter, including a write-off specific to the Chimes bankruptcy of $250,000. However, the quality in delinquency profile of our AR portfolio remains strong.

As Bill mentioned, we completed the sale of our scientific business unit this week. This divestiture will have a positive impact on cash flow in the quarter. This transaction will also impact operating revenues for Q2 but is not expected to materially impact net income after consideration of all related expenses. Additionally, the timing of activity surrounding our investigation of strategic alternatives for the nursing business may also impact the second quarter. We have begun activities in Q2 to align expenses to minimize any impact of these activities.

In terms of guidance for the second quarter, we expect revenue maybe on the $250 million to $256 million range, which excludes revenue from our scientific business, which was sold this week. We have also excluded nursing revenues from our guidance as we evaluate strategic alternatives. However, no decision has been made as to the ultimate outcome of our nursing unit.

The midpoint of revenue guidance assumes flat sequential Search revenue and flat sequential revenue per billing day. Total firm earnings per share may be between $0.18 and $0.22, which reflects approximately 40.9 million weighted average diluted shares outstanding.

The first quarter of 2008 had 63 billing days versus 64 billing days in the second quarter of 2008. From a financial perspective we are pleased with first quarter results and believe we have a strong operating platform on which to grow the business. We are also well positioned to adapt to the change in the economic environment. Our profitability, cash flows and balance sheet remain strong and we remain cautiously optimistic in near-term and strength in specialty staffing.

I would like to now turn the call back over to our CEO, Dave Dunkel, for closing remarks. Dave?

David Dunkel

Actually we'll open the call up to questions. Bill, go ahead.

Question-and-Answer Session

Operator

(Operator Instructions) We'll take our first question from Jim Janesky, Stifel Nicolaus.

Jim Janesky - Stifel Nicolaus

Yes, good morning. A couple of questions, when you look at financial services as a vertical you did say it's roughly 14% of revenues. How does that mix between Flex and perm? Is it higher or lower in either of the segments?

Joe Liberatore

As a percentage it would be higher in Flex, Jim. Primarily financial institutions, particularly in the northeast we are some large volume accounts and as they move it's very significant and they do less on the Search side.

Jim Janesky - Stifel Nicolaus

Okay thanks. And when you talk about Search being stable in the current quarter, is that versus last year sequentially, if you could just go into that a little bit?

Bill Sanders

Jim, it's relative to last year when we look at Search January was down, February was up and March was up. Also when we look at the trends from March to April our Search is up about 1%, so pretty -- very stable.

Jim Janesky - Stifel Nicolaus

Okay and those were just sequential comments, right?

Bill Sanders

Well I gave you -- I gave the first comparison I gave you by months, that's on a year-over-year

Jim Janesky - Stifel Nicolaus

Okay.

Bill Sanders

And then the 1% that I gave you at the end is on a sequential from March to April.

Jim Janesky - Stifel Nicolaus

Okay, great thanks for clearing that up. Then moving to margins and the information in the IT segment, when do you expect them to stabilize? I mean, do you expect them to go up through the balance of the year and is there -- if you could give us an idea. You already talked about the bill to pay spread and it's hard to -- you know, first bill rates adjust and then generally pay rates adjust on a lagging basis. Is there a pricing pressure because competitors are trying to get more aggressive on getting business?

David Dunkel

Year-over-year bill rates are up in all segments outside of technology, which is slightly down. It's down about three tenths of a percentage point. The compression in bill rate increases outpacing, or I should say the compression of pay rate outpacing bill rate expanse in year-over-year.

We're mainly seeing that in our Flex technology segment and in the government segment. To a much lesser extent in our technology segment as pay rates have increased 0.5% and bill rates have decreased 0.3%, so not anything real significant taking place there. We see the larger gap is in our government segment, where we've seen bill rates improve 11.1% and pay rates increase 16.9% but some of what's happening in there is the mix of the business as we bring on more technology business versus the F&A business, so overall we're really modeling in based upon what we're seeing at this point in time is somewhat stabilized on margins throughout the year with maybe some slight deterioration.

Bill Sanders

Jim, this is Bill. I'd add a couple, two or three things to that, although this may be digging too far for you. Certainly there's a difference because the taxes will be less in the second quarter and future quarters. Secondly, volume versus rate, we have as we have mentioned in the last two calls we have a morbid emphasis to increase the volume with less rate.

Of course, that decreases margin but increases gross profit dollars and certainly we are beginning to see as there's some softening in the economy competition is ramping up and certainly there will be the effect of pricing pressure as we go through this economic cycle.

Joe Liberatore

And then the last thing that I would close on margins to try and provide a little bit more color I think it's important to note while overall Flex margin decreased 50 basis points year-over-year, they are up 140 basis points over the last two years and that's and all segments are up in that time period.

The other thing that's happening with margins is we are experiencing a little bit higher from a tax standpoint as well as an escalation from a benefit standpoint. We are one of the few that are in the market that offer benefits to basically all of the consultants that we employ whether they be W2 or salary and so we are seeing some benefit escalation as well that is impacting margin.

Jim Janesky - Stifel Nicolaus

Did you say that pay rates are up 16% in the government sector?

Joe Liberatore

I said pay rates are up 16.9% year-over-year.

Jim Janesky - Stifel Nicolaus

Sounds like I want to quit the sell side and go work for the government?

Joe Liberatore

Yes but it's important because it, our mix of business as we continue to bring on more technology business, technology does have an average pay rate and bill rate that's higher than on the financial side.

Jim Janesky - Stifel Nicolaus

Okay, alright thank you.

Operator

We'll take our next question from Mark Marcon at Baird.

Mark Marcon - Baird

Good morning.

Bill Sanders

Good morning, Mark.

Mark Marcon - Baird

Wondering, in terms of the pay rates increasing as much as they are on the government side, is that just because of a changing skill set or is that across the board or is it just because demand is so tight and what's the opportunity for getting the bill rates up at those levels?

Bill Sanders

The answer is yes to all of the above. That is a very, very, very tight market. There is a real war for talent there when you think of finance and accounting and technology people that have to be cleared. That is a very tough find and we are extremely pleased with the combination of our staffing arm and our government arm, government solutions arm, to actually put those two together and make this a real winning combination.

As far as increasing rate, I think that you have some real control features in government contracting that makes it difficult to increase rates. We've also seen the increase in pay rates on the government side just to make sure that we retain our people because it is such a competitive market but real expansion other than what you would see normally from other than some mix changes I don't see anything out of the ordinary.

Mark Marcon - Baird

So would it be difficult to, I mean are you-- in other words, are you going to be looking at additional three quarters of margin compression because of the increase in the pay rates vis-à-vis the bill rates or will you be able to adjust?

Joe Liberatore

Well, remember part of the first quarter is taxes.

Mark Marcon - Baird

Right.

Joe Liberatore

And so from that standpoint there will be a moderation or an improvement actually in the margins as we go forward from the government sector though almost all of those people are full time employees of Kforce and so I see better in the second quarter. For the rest of the year you see better margins but I do not see anything, again, out of the ordinary that would suggest that there is pricing pressure or other activities that would suggest that there would be a real difference.

Mark Marcon - Baird

But on a year-over-year basis for the next few quarters, given that pay bill disparity it's likely that those margins will be down year-over-year?

Joe Liberatore

Mark, you know mix is going to drive that to a certain extent because to put this in perspective our margins in government are up over 500 basis points over the last two years, albeit it they're down 210 basis points on a year-over-year basis. Margins within the government within our government sector still are extremely healthy at 35.9%.

Mark Marcon - Baird

Absolutely

Joe Liberatore

So part of what's happening here if you recall because I know you followed the story, when we acquired PCCI they had a technology government business, which really gave us our first footprint in the prime business and that business we have continue to work on and now we're making some significant strides on bringing on more technology business as finance and accounting from the Bradson acquisition also continues to grow and expand but as that mix shifts the technology space is much more competitive than the finance and accounting space. There are just many more competitors in that space, which does drive some pricing pressure.

Mark Marcon - Baird

Okay. Can you talk a little bit about what the terms are for the scientific sale?

Joe Liberatore

Sure. The price was $10.5 million. $9.35 million was received up front with $1.15 million in a twelve-month escrow for general claims. There's also an additional $1.5 million earn out based upon certain short-term revenue payment measures and the sale includes working capital requirements between $2.6 million and $2.9 million.

Mark Marcon - Baird

So what does that come out to in terms of multiple of EBITDA?

Joe Liberatore

Well, because scientific is embedded inside our overall operating unit, EBITDA is probably not the best indicator. Revenue would probably be a better indicator from a multiple standpoint.

Mark Marcon - Baird

Okay. What is your sense of -- we have a sense in terms of what the revenue decline will be? What sort of operating profit decline should we expect to see from the sale of scientific and nursing?

Joe Liberatore

Between scientific and nursing and you'll see that in the pro forma that we have provided you from a revenue and GP standpoint, from an operating expense standpoint as Bill mentioned and then I also mentioned in some of my comments, we've worked hard in April and we're continuing that process to align expenses with the adjusted revenue levels, so we will continue to work through that through the second quarter.

Mark Marcon - Baird

Right I was just trying to figure out what the operating expenses that were associated with scientific and nursing were.

Joe Liberatore

The operating expenses coupled with the profitability that those units were driving I believe, as I stated, we view that that's going to be pretty much net out and be immaterial in the second quarter and on we move forward

Mark Marcon - Baird

Okay I'll follow up off line. Thank you.

Operator

And we'll take our next question from Clint Fendley at Davenport.

Clint Fendley - Davenport

Good morning gentlemen. On the payroll tax I know we talked about it. Was the impact about $0.05 for the quarter? I think that was the expectation a few months ago.

Joe Liberatore

It was about $0.06.

Clint Fendley - Davenport

And then, Joe, on the equity comp increases here could you explain how the accounting on the amortization of the SARS and PARS how that works?

Joe Liberatore

Yes we work with an outside evaluation as well as Deloitte, our auditors, had their valuation experts evaluate this, so the SARS and the PARS each have different amortization periods that we expense that over the period. And I mean there is a lot of factors that go into that amortization so I think if you look at Q1 at roughly about $1.7 million, that would be the sense on what we would see in a typical quarter for the remainder of the year.

Clint Fendley - Davenport

Okay, that's helpful. Thank you.

Operator

Our next question from Josh Vogel, Sidoti & Company.

Josh Vogel - Sidoti & Company

Hey good morning.

Bill Sanders

Hey Josh.

Josh Vogel - Sidoti & Company

I was just curious. Were there any consultant layoffs last quarter?

Bill Sanders

Certainly as we go through this -- through any period that we are a firm that is very high on a performance so there is always upgrading of talent. People, we establish an agreement with people that start with us and they meet certain metrics or this would not be the best place for them to be and so are there people that leave? Yes. Are the people that are hired? That is also true.

Josh Vogel - Sidoti & Company

And in which business do you see that most, in the IT side?

Bill Sanders

I was talking about associates. What do you mean by consultants? Maybe I should ask that that way. Do you mean people billables or do you mean core associates?

Josh Vogel - Sidoti & Company

The billables.

Bill Sanders

Okay I am sorry. I answered your question wrong. That was about associates. Were there consultants that were fired? I would say this to generally speaking we had a very nice quarter as far as starts go, that is consultants starting. Unfortunately we had a higher than normal end, that is consulting ends, ending assignment. As far as being fired or terminated or projects being concluded, certainly that's an ongoing thing. And was there anything unusual in the quarter? No there was nothing unusual.

Josh Vogel - Sidoti & Company

Okay. And I believe back in mid February you guys announced that you bought back the 1.5 million shares and I was just wondering why the buyback activity stalled since then and maybe if you can comment on how aggressive do you think you're going to be on the repurchase front over the next several quarters.

David Dunkel

Josh, this is Dave. We, as we've said in the past, we're always monitoring the external climate and balancing cash flow against really three competing uses of capital acquisitions, retirement of bank debt and share repurchases, so what you see is a reflection of our execution of that. You can assume that we are very aware of the valuation of our stock and that we are certainly monitoring that very closely. We're not going to signal as to whether we're going to acquire or not now. We had $50 million of authorization available to us and we'll certainly consider that as we evaluate how our stock is performing in the next several quarters.

Josh Vogel - Sidoti & Company

Okay, great. And then just lastly, does your $0.18 to $0.22 guidance for Q2 include any one-time gain from the sale of the scientific unit?

Joe Liberatore

Yes and it's at this point realizing scientific was just finalized yesterday and we're gathering all the relevant information to do the accounting of the transaction. Therefore, it's pretty tough to isolate the gain associated with it, so ultimately there are a number of things that come into play. The allocation of scientific, HLS has 12.5 million of goodwill so we have to work through the analysis on the allocation of that goodwill, a portion to scientific.

There's also impact of certain incentive compensation plans, which could result in the acceleration of non-cash expense into Q2 of anywhere between zero and $6 million for equity grants at for discretion and the amount of that acceleration could be affected by any decisions made related to nursing as well. And then we have the other costs associated with the transaction, such as legal costs, lease acceleration, severance and bonus and such. So we're working through all that.

Josh Vogel - Sidoti & Company

Okay great and as far as the possible sale of the nurse staffing unit, is this, have you been approached or is this just strategy on your end?

Joe Liberatore

We're evaluating the full spectrum of strategic alternatives associated with nursing, so when I say full spectrum pretty much any, all options are being evaluated at this point.

David Dunkel

The options basically are sale, redeployment and shutdown, so all of those are being contemplated.

Josh Vogel - Sidoti & Company

Okay, great. Thank you very much.

David Dunkel

Thank you. And by the way, I want to reiterate when Joe's comment, the guidance that we have given you contemplates all of these transactions and would suggest a neutral impact from these two activities.

Operator

And our next question comes from Rick Dote, Columbia Management.

Rick Dote - Columbia Management

Yes a couple of questions. I think the question you answered on the payroll taxes was 6, from Q4 to Q1 there was a $0.06 impact. Is that correct?

Joe Liberatore

Correct.

Rick Dote - Columbia Management

What is the impact from Q1 to Q2?

David Dunkel

Historically what we've seen is about half of that comes back in.

Rick Dote - Columbia Management

Okay you talked about some April SG&A cuts but you didn't quantify that that I heard anyway. Could you quantify that and then differentiate between the scientific related cuts and ongoing business kind of cuts?

David Dunkel

Rick, we really we're looking at the full firm from a standpoint of alignment of overall SG&A within the revenue guidance that we provided you, so we're balancing all those things. We're not necessarily looking at it specific to scientific or specific to nursing. I mean we're taking everything into consideration in terms of some of the margin compression that we've seen and what that does to our cost structure as well as these revenue streams being moved into discontinued operations.

So those are really the activities we started to work through, which is balancing the cost structure that makes sense on a move forward basis.

Bill Sanders

Rick, this is Bill. I'll add to that. We began that as we saw March not coming through as we expected. We began that in early April and we have conclude -- we are by the end of this monthly have concluded all of those activities, so we've been after this aggressively as we try to manage these anticipated revenues and anticipated expenses. So this has been a pretty big deal for the firm over the last 30 days and we're pretty pleased with where we are at the moment as long as there's not another significant shift in revenue levels.

Rick Dote - Columbia Management

Okay again, one thing I just specifically what kind of dollars did we on an annualized basis is the result in savings?

Joe Liberatore

Yes the best way that I could quantify that realizing we only provide one quarter of guidance from a forward-looking standpoint, so if I provide what we anticipate that's going to be throughout the year we're really moving into a different head set than what we've been communicating so the best guidance that I could give is if you were to look at the guidance that we provided, the 250 to 256 and some of the Flex margin assumptions that we used in that guidance that was provided in the pro forma that was released and if you were to look at EPS guidance of $0.18 to $0.22 you can for the most part you can back into what that's going to translate to from a normalized SG&A as a percentage of revenue or operating expense as a percentage of revenue standpoint.

Obviously mix plays into that, Search Flex mix, but that can-- I think it will at least give you from a modeling standpoint at what you're looking for.

Rick Dote - Columbia Management

Okay. Just I'm having a hard time reconciling the $0.18 to $0.22 guidance. You did $0.18 in this quarter. Payroll sequentially you get $0.03 of tailwind. You won't I haven't quantified and I couldn't get you to give me a number on we've got some incremental SG&A savings and you're talking about business being sequentially flat with an extra day. How do we come up with on an apples to apples basis something that looks like $0.15 to $0.19 neutralizing the payroll tax issue?

Joe Liberatore

Yes, Rick, in terms of when you say that you're coming up with $0.15, you're coming up with $0.15 to $0.19?

Rick Dote - Columbia Management

No you gave us $0.18 to $0.22. We now compare to Q1 where you did $0.18 you've got $0.03 of tailwind from the payroll taxes. You've got incremental savings from for at least two of the months on SG&A and you talked about business being a model of the business being, sequentially flat with an extra day, which I assume is positive and so I don't know how we get to a number less than 18 plus 3 which is $0.21. What -- where am I off I guess?

Joe Liberatore

Rick, we're being conservative in the guidance that we're providing because of the lag on the activities that we started to take action on in April, so we don't realize the full effect of what SG&A activities have taken place in the quarter. We will not realize that full effect during the quarter and so from a management of expectations standpoint and guidance we're providing what I would say conservative guidance relative to the overall SG&A makeup.

David Dunkel

Rick, let me clarify something. The low end that assumes a slight deterioration, the midpoint assumes flat and the upper end would assume some slight improvement and that's the way that we've characterized it.

Rick Dote - Columbia Management

Okay. I'll pass it. Thanks.

David Dunkel

Thanks.

Operator

(Operator Instructions) And we'll next to Mike Carney, Coker Palmer.

Mike Carney - Coker Palmer

Good morning.

Joe Liberatore

Good morning, Mike.

Mike Carney - Coker Palmer

Joe, you had given the first three and four weeks of April on the Flex and Search side. Does that include -- well it was specifically Flex. Did that include the nursing and the scientific business or not?

Joe Liberatore

Yes it did but it I think it would be important, I think it's important to note if you look at the pro forma that we provided on year-over-year revenue growth that I provided in my opening comments, which for Flex was 7.2% and for Search was 3.9%. If you back out nursing and scientific actually Flex would be up 8.5% and just to kind of give you a perspective there.

Mike Carney - Coker Palmer

That's great. So just back to the guidance real quick, if I look at those numbers and I plug those numbers in I get materially higher revenue for the second quarter, so is it that I mean I think that typically you've provided guidance kind of to the trends that you're seeing in the first month. Is there something that's different there, especially because you have the extra billing day?

Joe Liberatore

Well but the extra billing day in there really on a flat revenue basis takes you to the midpoint of guidance.

Bill Sanders

But your revenue, this is Bill. Your revenue shouldn't be up if you're taking out the full quarter's scientific and nursing. I don't know. You said up significantly. That should not be the case.

Mike Carney - Coker Palmer

Yes I was talking about on a year-over-year basis using 8% growth or 7%, 8% growth.

Joe Liberatore

Okay. Yes well you're what you are doing is you are basically just taking that short window of time that we're providing in terms of our modeling we don't model out that we anticipate that to continue through the quarter, so we're looking at the overall trend being flat, which I would say would be more reflective in what I shared with you when I compared the March trend to the April trend pretty much being flat from a Search and a Flex standpoint.

Mike Carney - Coker Palmer

Okay. And then also could I on the sale of the scientific unit, a couple of questions, one, who did you sell it to? Was it someone internal? And then if I remember right the scientific unit is in the same offices as the other as some of the other health care businesses, so how is that broken apart? How can you do that? And then also, will it be a discontinued operation when we get another quarter?

Joe Liberatore

Starting with your last question, yes it will be a discontinued operation when you get when you see Q2 as well as that will be pro forma back to Q1 as well. Related to the buyer, the buyer will be publicly announcing, so I don't believe it's our place to announce that at this point in time as they are working through the assimilation and the integration of the personnel. We've agreed to let them drive that so that they can be accordingly with the personnel that they're transitioning.

In terms of scientific and our existing operations, our scientific footprint historically had 1 to 5 people in given existing offices for the most part, so in essence what's that going to do is it's going to free up some real estate for us to add people in certain other service lines.

Mike Carney - Coker Palmer

So basically but those associates that do that would just leave the office often to their own new company and then you'd just have the extra real estate.

Joe Liberatore

Exactly. They'll move into the facilities because there is a nice overlay with the acquirer.

Mike Carney - Coker Palmer

Okay. Thanks a lot.

Operator

And we'll taka a follow up question from Mark Marcon of Baird.

Mark Marcon - Baird

Just been a number of questions on this call about the guidance, isn't part of the reason for the conservatism of the guidance simply that you've only experienced one month where you really saw a decline in macro kind of demand activity, particularly of the financial services in northeast. Most indicators would suggest that the economy continues to weaken and you're just trying to be conservative in order to guide for that continued possibility, or am I is there something else that's going on?

David Dunkel

No, Mark, that's right. As we indicated in February, we had not seen any indication going right through into February and it's very difficult to determine a trend off a month particularly when, as Joe indicated, April actually improved.

So there is significant uncertainty and our guidance at the low end contemplates a slight deterioration at the midpoint flat and at the upper end slight improvement sans the nursing and scientific units so when we give that guidance our intention is to bracket the scenarios that we given our assessment of the market at the time of the guidance determine to our best ability is what the most likely scenario will be.

Mark Marcon - Baird

Which makes perfect sense and applaud you for trying to be conservative given that things are moving around but it also sounds like your, the SG&A, you are taking some actions there in terms of right sizing things but there is a lag between when you take the actions and when you actually experience the expense savings, isn't that correct?

David Dunkel

Yes and let's say I would characterize that as a pruning more than anything else and we are carefully and selectively doing so. This is a process that we go through as we evaluate redeployment of resources and making sure that we're investing in the units that are growing and that we feel have great prospects, so this is done very carefully, very selectively and would be more of a pruning than anything else.

Mark Marcon - Baird

Okay and then in terms of your KPIs you indicated that decision making is taking longer among some of your clients. Is that across the board or is that just in certain verticals or certain skill sets?

David Dunkel

I'll let Bill comment on that point. I want to clarify something. In the -- we did not see in March anything in our KPIs that suggested any elongation of hiring or caution and this is probably one of the first times that that's happened and, as we have studied that we would attribute it to the significant and severe disruption in the financial markets because if we think back to what was happening in March there was a great deal of uncertainty and a great deal of concern about what would happen in the financial markets.

There was significant illiquidity. We had Bear Stearns bankruptcy. We had the Fed doing multiple intercessions and frankly, in the financial markets and even in staffing a lot of people were sitting back and saying, Wow, what's going on here?

So I think there was an element of caution which coincided with that business as opposed to a trend line, which suggests that the business was actually trending down. With that said, I'll let Bill comment on our current KPI activity, which we continue to study quite closely.

Bill Sanders

I would say to you it is taking a little bit longer to get the entire what I call the hiring process so job specifics approved, clients are a little bit more selective taking a little bit longer to make decisions, which just it's very hard to detect in KPIs themselves.

When you look at the ratios they are expanding somewhat. But, of course, that's not the only thing that we look at. We certainly have trends, forecasts, anecdotal information from our leaders and our clients, so when we put all that together we are seeing some softening. That's a carefully chosen word. We are not seeing deterioration, degradation or a recession and so it's really hard to say. March did not improve as much as we thought it should. April is improving, so this is a difficult call. It's quite uncertain economy out there Mark, and we're struggling I think along with everybody else.

Mark Marcon - Baird

Sure and it sounds like you're being prudent in terms of being conservative. Can you talk a little bit about you know there's some people who are more pessimistic than others with regards to the economic environment, certainly don't expect the drop off anything close to what we experienced during the last downturn for all of the reasons that Dave cited at the beginning of the conference call but if things do deteriorate further can you talk a little bit about the flexibility that you have with regards to your expense structure and then how should we think about cash flows and can you foresee a scenario where you free cash flow actually goes negative?

David Dunkel

Mark, this is David. I'll let Joe comment on the technical aspects of the free cash flow. I will say this that we've seen lots of opinions about what's going to happen in the economy and we're not going to venture into that space. We had three Fed chairman, two former, one current that couldn't agree on what was going to happen, so how would we know?

Based on what we see at this point, we run multiple scenarios and those scenarios contemplate, as we have indicated, more caution but not a downturn. The underpinnings are still very strong. The knowledge economy is still very strong so with all of those things being said with the stimulus that's in place we actually our sense at this point is that this still smells more like a mid cycle than it does the beginning of a recession but we're not going to make the call.

As I indicated, our number one objective is to hold on to our people the cost people and the people that are performing and to preserve our infrastructure so we will maintain positive cash flow and hold on to our people. There can be lags where in a quarter should there be a significant and precipitous drop that we would need to make a significant action but that is our target. Our target is to maintain positive cash flow and to hold on to our people so I know that's difficult to forecast but it puts a stake in the ground to let you know that those are the priorities one, two.

Mark Marcon - Baird

Yes I was just trying to get you to elaborate a little bit on the variability with regards to the operating expense structure specifically if we see a decline of say 10% in gross profit in say the Tech division, what does that do in terms of your commissions and how much do the commissions come down, just the natural contraction in some of your SG&A that would go along with any sort of a central contraction that you might experience on the top or gross lines?

Joe Liberatore

Yeah Mark, this is Joe. You're absolutely correct. I mean as gross profit compresses there's a direct linkage to commissions. Where it gets a little bit tricky is you have the commission aspect and then you have the fixed compensation aspect, which is whether it be somebody's draw or whether they're on a base program, which is really more fixed.

So I think the key in how we look at this is we look at compensation as a whole and we look at productivity as a whole, so with compensation making up 76.1% of our overall operating costs, there's a high degree of flexibility and variability to adapt and adjust.

The other place that I could take you there is going back to we talk about productivity, we saw a slight productivity improvement in Q1 over Q4, nominal, up about 1.5%. It's still down 3% on a year-over-year basis and if we go back to that peak point in Q2 2005 there's still 25% capacity in the system.

Now the reason there's 25% capacity is not necessarily in the top performers but that's in a lot of the new people that are ramping up and if there were a major shift in the economic climate it's that much more difficult for those new people to ramp up, which means the ones that are getting it done we would continue to back and support those individuals and we would adjust accordingly in other areas.

When you look at sequential I guess this is the best way I can maybe articulate the operating leverage is operating expense was up $1.1 million sequentially. Payroll was up $2.4 million sequentially just to give you a feel of how it's moving.

David Dunkel

Mark, we've got one more question after you that we're going to take and then we're done.

Mark Marcon - Baird

Thanks.

David Dunkel

Thank you.

Operator

And we'll take a follow-up from Rick Dote at Columbia Management.

Rick Dote - Columbia Management

Dave, you probably wish you had to cut it off right there.

David Dunkel

Rick, we have such a high degree of respect for you that any question you ask we wouldn't want to miss it.

Rick Dote - Columbia Management

Okay a financial area you know a hitch in the quarter, particularly March, what's your exposure there to further degradation? Do you feel like it's bottomed out or you've already taken the pain there or is there potentially more to come?

Bill Sanders

Well, the financial institutions we certainly have clients throughout the United States but this has been some larger clients in the northeast, we have taken that hit. Will there be other large clients as we go through this process? Yes. Will there be financial or non financial? I'm sure there will be. That we've already seen a pretty significant pick up because of redeploying those consultants, so we are -- will we see more? Yes. Do we recover from that? Is that part of our business? Yes it is, Rick.

Rick Dote - Columbia Management

So are you saying that the northeast where you saw the March hit you've now seen a turnaround or you're saying I guess maybe you can just answer that.

David Dunkel

I would say to you that there hasn't been continued deterioration. It's actually been more of stabilization and some of the transactions that you've seen in the market have impacted us both favorably and negatively so we're not looking at the financial services in the northeast as an area that we have significant risk at this point. It does appear to have stabilized.

Rick Dote - Columbia Management

Okay and then my other question is the productivity numbers that you just I think it was responded to Mark on up 1.5% yet the peak was 25% or so higher than you're currently running. Kind of hard for me to understand if you guys are pruning your under performers I would think that alone would produce much stronger productivity numbers. Maybe you can help me understand or reconcile that?

Bill Sanders

Rick, it really boils down to the makeup of the population. We still have over 50% of our total population is very new to the firm, so there's a lead lag that takes place there. When we go back to the peak of productivity in Q2 2005 the makeup of population in the different tenure buckets was very different than what it is today.

So the key is getting these people over these hurdles and these thresholds and holding on to them. Our turnover of more seasoned personnel still remains in single digits so our comp plans are working and we are holding on to the people. It's just we have to move more of those newer people through and so it's really time.

Rick Dote - Columbia Management

Okay. That's all I have, thanks.

David Dunkel

Thank you. We're going to go ahead and close the call and, as we've indicated, we're still moving forward the execution of our plan and this is our third year and final year and even so we're still closely monitoring market conditions and with these adjustments now to our service offerings to sharpen our focus we expect that the secular drivers will continue to provide an underpinning and a catalyst for future results and once again, we wish to express our sincere appreciation to our field and corporate teams, our consultants and our clients for allowing us the privilege of serving them. Thank you very much.

Operator

And once again, ladies and gentlemen, that does conclude today's Kforce Q1 2008 earnings conference call. We thank you for your participation. You may disconnect at this time.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!

Source: Kforce Inc. Q1 2008 Earnings Call Transcript

Check out Seeking Alpha’s new Earnings Center »

This Transcript
All Transcripts