Executives
Tyra Tutor – SVP, Corporate Development
Tim Payne – President and CEO
Bob Crouch – SVP, Treasurer and CFO
Analysts
Kevin McVeigh – Credit Suisse
Andrew Steinerman – JPMorgan
Brandt Sakakeeny – Deutsche Bank
Mark Marcon – Robert W. Baird
Tobey Sommer – SunTrust Robinson Humphrey
Jim Janesky – Stifel Nicolaus
T. C. Robillard – Banc of America Securities
Michael Baker – Raymond James
MPS Group, Inc. (MPS) Q2 2008 Earnings Call Transcript July 30, 2008 10:00 AM ET
Operator
Good day, and welcome to this MPS Group Conference Call. As a reminder, today’s conference is being recorded. At this time, for opening remarks and introductions, I would like to turn the call over to the Senior Vice President of Corporate Development Ms. Tyra Tutor. Please go ahead, ma’am.
Tyra Tutor
Thank you, and good morning. Welcome to MPS Group’s second quarter 2008 earnings conference call. Before we get started today, the Company would like to caution all listeners that the information provided today that is not historical should be considered forward-looking information. All forward-looking information is subject to uncertainties and risks that may be described in today’s call or described in our press release issued this morning, that was furnished with our Form 8-K also filed this morning, and in our other SEC filings including our most recent Form10-K.
Should any of these risks, uncertainties, or other factors materialize, or should underlying assumptions prove incorrect, actual results, performance, or achievements of the Company may vary materially from those stated or implied by forward-looking statements made today. As you know, forward-looking statements are made based on information available today and are not guarantees of performance.
In addition, during this call and in our press release, we have presented certain non-GAAP financial measures. Please consult both the press release and our Form 8-K for a reconciliation of those non-GAAP financial measures to the most comparable GAAP measures. Today’s press release and the Form 8-K are now available on our website at mpsgroup.com.
Now, I will turn the call over to MPS Group’s President and Chief Executive Officer Tim Payne.
Tim Payne
Thank you, Tyra, and good morning everyone, and welcome to the MPS Group second quarter 2008 earnings release conference call. We appreciate your attendance. Again, my name is Tim Payne. I am the Chief Executive of MPS Group, and speaking with me today will be Bob Crouch who is our Senior Vice President and Chief Financial Officer.
On the call today, I’d like to briefly touch on our results for the quarter and provide our viewpoint on the current market for professional and IT staffing and permanent placement services. Next, Bob will be providing us with a detailed financial analysis of our second quarter numbers and also talk about guidance for the third quarter of 2008. At the end of this section, we will wrap up our presentation and take questions from call participants.
First of all, with respect to our second quarter, we were pleased with our results as we continue to see reasonably good demand for our services despite the economic turmoil that we are seeing in the United States and the United Kingdom. Our revenues for the quarter were $589 million, which was up 10% versus last year, and our earnings per share were $0.23, which was up 5% versus last year. Revenue came in above our range of guidance and earnings were within our range of guidance. And again, in just a moment Bob is going to provide you with additional details.
What I’d like to do now is make just a few comments on our viewpoint on the overall state of the market for professional and IT staffing and permanent placement services. All in all, we would say the market is not bad but really to kind of understand it you have to break it down a little bit by client and industry and geography to get a feel for it.
Right now what we are seeing is that anything that’s related to housing or financial services is not surprisingly – not particularly strong. U.S. manufacturing and defense remains pretty strong for us and this was reflected in the second quarter by good performance by Entegee, which is our engineering unit.
In the United States, it appears that the middle of country is showing better demand than what we are seeing on the two coasts. And as for the United Kingdom, we were able to grow both our IT and our Professional businesses very nicely during the quarter, so we feel pretty good about the environment there.
In continental Europe, our results were slightly less robust, but we feel this is really largely an execution matter on our part and not reflective of the overall market. We did have some pockets of business in Europe that actually did quite well during the quarter.
And then our small but growing business in Australia and Asia had a solid quarter and also has a positive outlook for the future.
Couple of comments on permanent placement. We believe that perm placement really provides kind of a window into the overall conditions in the marketplace and for the quarter we saw that demand for perm placement remained pretty solid in both our North American and our United Kingdom, and European operations. And I am going to comment on the perm side of things a little bit more in just a moment.
So, overall, I think what we are seeing now is a little bit of a mixed bag, but certainly we are seeing more positive conditions than you would expect to see given all the economic turmoil that is going on right now. The growth we are seeing in our business has certainly moderated over the past several quarters, but I believe there are indications that we are not on the verge of a meltdown in the market for professional and IT labor as some might think.
And I believe there is four reasons why this is the case, and I’d like to comment on these just for a moment here. Number one, the market for IT labor remains reasonably good. In the past, this sector could be expected to be more cyclical and more prone to falloff early in the down phase of a cycle. So far what we have seen in the IT market in no way resembles the falloff that we saw in IT employment in early 2001.
Second, the demand for permanent placement services I mentioned a moment ago remained strong in the U.S. and really moderately strong in the United Kingdom and Europe. Normally, when employers feel uncertain about prospects for the business or feel their budgets are soon to be cut they curtail their hiring of full-time positions, and we are not seeing indications of this at this time. We have also – at this point, we have not seen an indication.
Number three, we have not seen indications from our clients of large scale reductions in white collar headcount, which these types of reductions are normally achieved through layoffs and hiring freezes. Now, in the 2001-2002, which was the last downturn in white collar employment we saw a quite a bit of layoff and freeze activity and we are really not seeing much of that right now.
And then finally, as sort of a fourth point that I think sort of is a positive for the overall white collar labor market, as we pointed out in the past, the unemployment rate in the U.S. for college educated workers, which is really all that we place in MPS Group, remains very low at just over 2%. Given the conditions that we are seeing now, one might expect that this would be much higher. So, perhaps market demand for white collar labor is not as week as some might think. And arguably for us there is still labor shortages in key areas such as accounting, healthcare, engineering, and in some ways even IT.
So, just to wrap it up, we are certainly going to continue to monitor conditions within the markets that we operate and we are certainly going to take actions that we feel are appropriate. In the mean time, we are pleased with our mix of businesses, we are pleased with our geographic diversity, and we feel highly confident in the abilities and the motivations of all of our people.
So, with that as a little bit of a backdrop I will ask Bob now to provide us with some additional financial details.
Bob Crouch
Sure. Thanks, Tim. I am going to give a brief summary of our consolidated financial results, which will also include the detailed breakdown of our segments, and also discuss our balance sheet highlights, and later on I will provide some recent trending information and outliner guidance for the third quarter of ’08.
As far as for the second quarter, as Tim said, the Company reported revenue of $589.5 million, which was above our range of management guidance of $560 million to $580 million, and we reported earnings per share of $0.23, which was in the range of management guidance of $0.20 to $0.24 that we gave in April.
As we look at our consolidated results, on a year-over-year basis quarterly revenue was up 10.2%. Without the effect of both currency and acquisitions, revenue increased 4.9% from the prior year. Total permanent placement revenue was 6.2% of total consolidated revenue in the quarter, which was up from 5.5% in the second quarter ’07.
We were pleased to report a gross profit margin of 29%, which was an increase of 50 basis points compared to the prior year. Our SG&A expenses were at 22.2% of revenue as compared to 21.4% in the prior year, and I will speak about that in a minute. Our consolidated EBITDA for the quarter was $40.3 million, up 5.5%, and our operating income was $34.8 million, up 3.7% from the prior year.
Net income for the second quarter was $20.7 million, and our consolidated EPS was $0.23, which was up 4.5% from $0.22 in the prior quarter. Our tax provision for the quarter was 39%, which compared to 37.3% in the prior year.
In reviewing our consolidated results, I’d like to focus on our increase in SG&A and SG&A as a percentage of revenue. The way we are managing our business units in this current environment is that we are allowing our units with the most growth potential to continue to invest in their operations while scaling back investment in our units, which are not growing as quickly. While investments in most of our units have been relatively constant compared to the prior year a few units, which we are currently focused on investing are our Beeline unit.
Year-to-date, Beeline’s revenue is up over 90% and its SG&A is also up over 50% compared to the prior year. Beeline continues to show tremendous potential for growth, and we have invested appropriately in Beeline’s infrastructure for the future. Beeline’s SG&A as a percentage of revenue is roughly three times what our normal staffing operations. So, this obviously has a greater impact on consolidated SG&A as a percentage of revenue as you look at the consolidated financials.
Badenoch & Clark, our International Professional Services unit, has been expanding in Europe and Asia, mainly on the permanent placement side of the business, which carries a higher cost structure as a percentage of revenue.
And in Special Counsel, we are continuing to invest in our document review centers in the major legal markets, which has been very successful as revenue in this unit is up 14% on an organic basis compared to the prior year. And these centers should provide us with future growth opportunities also.
As we look at our segments, our North American Information Technology Services segment reported revenue of $158.2 million, which was a slight decrease of $1.2% compared to the prior year. This segment’s gross margin was 31.1% for the quarter, which was up 170 basis points compared to the prior year. The increase is due primarily to a larger percentage of revenue contributed from the Beeline unit, which carries a higher risk margin than the other units. In addition, Modis increased its temp gross margin slightly from the prior year.
SG&A expenses increased when compared to the prior year due primarily to investments being made in our Beeline unit. As I just mentioned, in our Beeline unit, our operating expenses were up over 50% as the revenue base of the Company has increased substantially over the prior year.
The segment’s operating income was $12.1 million while EBITDA was $14.4 million, representing increases of 1.8%, 3.5%, respectively from the second quarter of ’07.
In our North American Professional Services segment we reported revenue of $185.6 million, which was an increase of 7.1% compared to the second quarter ’07. Without the effect of acquisitions, this segment grew 4% on an organic basis. This segment’s gross margin decreased slightly compared to prior year by 40 basis points to 31.3% mainly due to an increase in revenue from large document review projects in our Special Counsel unit.
SG&A expenses increased mainly due investments in our Special Counsel unit, which I mentioned earlier, which corresponded to the increase of projects. Operating income was $17.9 million, and EBITDA was $19.2 million, which were both up slightly when compared to the prior year.
As we switch to the international segments, our International IT Services segment reported revenue of $92.2 million, which was an increase of 24.4% compared to the second quarter of ’07. If we exclude the impact of changes in foreign currency and acquisition, the International IT Services unit revenue was up 16.2% versus the prior year quarter.
The Company’s gross margin was down slightly on a year-over-year basis to 17.2% as direct hires as a percentage of revenue decreased to 2.8% from 3.2%. Temporary gross margin remained constant with the prior year.
SG&A expenses as a percentage of revenue were stable when compared to the prior year. Operating income was $3.3 million, and EBITDA was $3.9 million, which were increases of approximately 10% when compared to the prior year.
In our International Professional Services segment, we reported revenue of $153.5 million, which was up 20.3% compared to the second quarter of ’07. If we excluded the impact of changes in foreign currency rates and an acquisition, our International Professional Services segment’s revenue was up 9.2% versus the prior year quarter.
This segment’s gross margin was 31.2% during the quarter as compared to 29.5% in the year earlier period with the majority of that increase coming from an increase of permanent placement as a percentage of revenue to 12.5% as compared to 10.5% in the prior year.
Temporary gross margin was up slightly compared to the prior year. The increase in permanent placement percentage was due primarily to the previously announced acquisition of Judd Farris, which has a large concentration of permanent placement revenue.
The Company’s SG&A as a percentage of revenue increased to 24.3% primarily due to the previously mentioned investments that I discussed earlier.
Operating income was $9.4 million, which is an increase of 10.6% compared to the prior year and EBITDA was $10.7 m, which represents an increase of 14.3% when we compare it to the prior year.
As far as looking at our balance sheet, our balance sheet continues to be strong. Our cash position as of June 30th was $64.8 million, and we had borrowings of approximately $30 million outstanding on our credit facility, which was used to finance approximately $38 million in acquisitions completed during the quarter.
During the second quarter, the Company generated $34 million in operating cash flow, which was slightly higher than the cash flow from operations generated in the second quarter of ’07. Our CapEx for the quarter was $4.6 million, and during the quarter we repurchased 1.3 million shares of our common stock for $14.1 million. As of today, the Company has $41 million remaining under its most recent buyback authorization.
As we look at the trend throughout the second quarter ended July, I want to review some of the items we discussed in our April call. In April we noted that on the direct hire side we had three of our strongest weeks of ’08 as we exited March and entered into April. We noted that on the temporary side of the business, we experienced a flattening of our temporary headcount at the end of March and into April. So, we reported we were seeing a little bit of a mixed signal with early April temporary numbers being flat and direct hire being strong.
During the second quarter, in our North America segments, we continued to experience a somewhat flat temporary environment with more strength coming from our permanent placement operations. These trends have continued in our North America operations as we have entered the third quarter.
Switching to our international operations, we experienced more strength in our temporary operations as we moved throughout the quarter than we did on the permanent placement side of the business. And these trends also have continued as we have entered the third quarter.
So, basically, we have a difference in the trending in the temporary and permanent business when comparing our North American and international operations as we entered the third quarter.
As we calculate our third quarter guidance, we are very cognizant of the fact that many economists are forecasting a further slowdown, a recession, and we recognize that we will not be immune to either of these situations should they occur. However, our current trends lead us to believe we are still able to grow our business in the current environment as we sit here today.
Our expectations for the third quarter of ’08 are for revenue between $580 million and $600 million and earnings per share of $0.21 to $0.24. The high end of our range would represent a GAAP increase in revenue of approximately 8% and an approximate organic growth rate of 5% while the low end assumes 4% and 1%, respectively.
The high end of the range assumes we experience growth in billable headcount and permanent placement fees consistent with the rates we experienced in the second quarter. The low end of our range is an attempt to quantify what we believe our results would be if we are negatively impacted during the quarter by further economic slowdown.
Our earnings guidance includes approximately $0.02 per share of quarterly expense resulting from equity compensation and assumes our effective tax rate is estimated to be approximately 39%. In addition, we estimate our share count to be approximately 90.5 million in the third quarter based upon our current shares outstanding as of today’s date.
So, with that information, I will turn it back over to you, Tim.
Tim Payne
Thank you. That concludes our presentation today. Just to summarize, we feel pretty good about how the Company is positioned right now. If conditions were to worsen in the markets that we serve we have certainly been through this before and we know how to manage our way through it. If conditions should improve, we also feel like we are pretty well positioned right now to start to accelerate growth and move forward as well.
So, again, thank you all for participating in the call today. And, operator, we are available now to take questions from the participants.
Question-and-Answer Session
Operator
Thank you, sir. (Operator instructions) We will take our first question from Kevin McVeigh at Credit Suisse.
Kevin McVeigh – Credit Suisse
Hey, Tim, Bob, and Tyra, nice show in the quarter.
Tim Payne
Thank you.
Kevin McVeigh – Credit Suisse
I wonder if you can give us a sense of trends within North American IT. I know that declined modestly. If you could tell us how Modis trended relative to Beeline on a year-over-year basis and then your outlook over the next quarter or so, specifically within IT.
Tim Payne
I would like to make – Kevin, this is Tim – I will make one comment there, and then Bob can provide you with you some backing on the trending. One of the things we have been trying to do in Modis in North America is sometimes you get into a situation where you will have a client and that – the business you are doing with them builds over time and as it builds sometimes the margin starts to erode a little bit. And we – so gotten ourselves into that situation a few times. So we are in the process right now of sort of weaning ourselves off some of those low margin clients and trying to focus a little bit more on the better margin stuff. So, part of what you are going to see in trending is really a kind of the result of that. And Bob you want to comment further?
Bob Crouch
Yes, I think if you kind of breakdown that unit you are going to see Idea and Modis their trend – they were down year-over-year in that 4% to 5% range from a revenue standpoint. And obviously that’s from some of the client events that Tim talked about, but Beeline was up organically about 40% and year-over-year from a GAAP standpoint up about 65%. So, Beeline really has experienced a lot of growth.
Kevin McVeigh – Credit Suisse
Okay, and, Bob, in terms of round numbers what percentage of North American IT do those – each one represent right now?
Bob Crouch
Obviously Modis represents substantially a majority of it, but I – Modis represents 75% of it and – 80% of it, Idea is going to be – Idea and Beeline about split the remainder.
Kevin McVeigh – Credit Suisse
Great, that’s helpful. And then just, if you could comment, Badenoch & Clark obviously a very strong growth in the U.K. and just given a lot of the market headlines you think things were slowing there. Could you just comment on where you are seeing the strength within Badenoch itself?
Tim Payne
I think some of the – there is probably two areas where we have seen pretty good growth, one is in the public sector, we do a lot of work there. And then the second is in the area of property where we are seeing a lot of activity in Asia, and Australia, and pretty good in the U.K. as well. And that’s kind of in line with our strategy of continuing to try to move into the niche staffing markets that really carry good growth prospects and good margins as well. But (inaudible) property and the public sector.
Kevin McVeigh – Credit Suisse
Great. And then just one housekeeping, and I will jump off. And Bob, if you have mentioned this, I apologize, but what was direct hire fees of the North America Professional and IT as a percentage of revenue?
Bob Crouch
Let me – I will throw that out a little bit later on the call.
Kevin McVeigh – Credit Suisse
Okay.
Bob Crouch
We’ll calculate it and get back to you.
Kevin McVeigh – Credit Suisse
Thank you.
Operator
We’ll take our next question from Andrew Steinerman at JPMorgan.
Andrew Steinerman – JPMorgan
Hi Tim and Bob, I do like the thought that we are going to resist low margin business, and you were very directionally to say sometimes these accounts sort of just grow up on us and become low margin business. I don’t remember – and I forger exactly how many years ago we went through kind of the Modis IT portfolio in North America and – or you kind of purged out the margin business that didn’t make our criteria. How did it sort of sneak back in into the portfolio and is your decision to do this kind of a new decision or has this kind of weeding out of low margin business kind of happened over the last couple of quarters and we just wasn’t kind of as much of a needle mover enough to bring it up on a call like this?
Tim Payne
Yes, that’s a fair question. It’s really an ongoing process and the – it’s kind of like a pruning sort of a process but what happens is you get – you have a client and the reason you chose to do business with them is that they have reasonably good rates and you believe you can service them effectively. And then sometimes what happens is over time they will change their policy. For example, they might go from a bill rate style of pricing, which is appealing to us because that allows us to mange the labor cost as well. Sometimes they will do – it has happened recently in a large telecom deal – so they will go sometimes from bill rate pricing to mark-up pricing where they specify the mark-up and that – and then that starts to erode the margin. The second thing that happens is particularly with the advent of a lot of the vendor management systems like Beeline where people are getting – they get a real good visibility into the vendor – how much business they are giving different vendors and so forth. And what they start to do is they start to enforce volume discounts and things of that sort. So sometimes ironically the margin starts to drop just because you’ve actually been successfully at a particular client. But it – and I would say it was nothing more radical in the second quarter than it pretty much and always is. It just kind of showed itself.
Andrew Steinerman – JPMorgan
Right. And would you be able to say that North American IT would have been up without this purging process? I mean is it a needle mover?
Bob Crouch
I mean it would have probably been more flat, Andrew. It would have been flat.
Andrew Steinerman – JPMorgan
Okay. I understand. So you are just saying it’s an evolutionary process?
Tim Payne
It’s ongoing. It’s always going to be there and particularly as these – the vendor management systems become more prevalent it will just be a constant process.
Andrew Steinerman – JPMorgan
Right. And let me just ask the question maybe one more different way. Has your pricing policy changed given the softening environment meaning has the MPS management team said, “Hey, this is the time where we have to be more disciplined you know given the environment?” or maybe the management team has said, “This is a time where we have to be flexible in some areas and you know kind of more strict in other?”
Tim Payne
I think what we have done and this is a lesson we learned in the last downturn of 2001-2002 is you have to focus even more on the clients that offer bill rate pricing because what that again allows you to do is to manage the labor cost. In the last downturn we actually saw labor cost go down by about 11% or 12% and – but actual gross margins stayed pretty much constant back then. So we were able to manage the labor cost and keep things well. So, that’s why I think where the discipline comes in is to try to again gravitate toward those sorts of clients.
Andrew Steinerman – JPMorgan
Excellent. Thanks so much for the color.
Tim Payne
Yes. Thanks, Andrew.
Bob Crouch
And the answer to the prior question direct hire percentage in Professional North America for the quarter was 6.5%. In Professional Europe it was 12.5%. IT North America 1.7%, and IT International 2.85. Thank you.
Operator
We’ll go next to Brandt Sakakeeny at Deutsche Bank.
Brandt Sakakeeny – Deutsche Bank
Thanks. Hi, Tim and Bob.
Tim Payne
Hi Brandt.
Brandt Sakakeeny – Deutsche Bank
Question on Beeline. I am not sure when the Chimes acquisition was but is the growth that you are seeing is that a function of just good retention of the Chimes customer base? And can you talk a little bit about I guess how that acquisition has been integrated today?
Tim Payne
Yes. It’s gone pretty well. A lot the growth that we are seeing is not so much from the Chimes folks coming on line because some of them have still – it takes a while to do some implementation. If you get it that’s where they are online and the revenue is coming. I think it’s safe to say a little bit of the revenue growth came from that. I think one of the things we mentioned early this year and last year was that the sales pipeline for Beeline was very strong and that we are having pretty good close ratios in that. So what tends to happen is you land a big client and we did land a couple of real big ones in the past six to eight months, and then you work, and you work, and you work, and you do the implementation and the integration and then one day the revenue (inaudible) sort of just turns on. The downside, of course, of that is – as we have noted in the past is that all your costs are upfront – not all your cost but a good deal of your cost are upfront in the implementation. But then once it gets online it’s – it’s fairly positive stuff. So, Bob, can you quantify anymore how much of it is the Chimes stuff?
Bob Crouch
Yes, basically, Brandt, Beeline was up 65% year-over-year.
Brandt Sakakeeny – Deutsche Bank
Yes.
Bob Crouch
23% of that came from Chimes, and 41% was organic.
Brandt Sakakeeny – Deutsche Bank
Right. Thanks for the color on that. And then I guess just in terms of the EBIT margins if you look – (inaudible) did see some nice gross margin improvement. Was that just the combination of the increased perm or did you get some better bill rate – pay rate spreads? And then as you look to the EBIT margins, is the EBIT margin contraction again – is that related to the increase in the SG&A associated with Beeline or is there some other reason behind that?
Bob Crouch
You are talking just in North America and IT?
Brandt Sakakeeny – Deutsche Bank
Yes.
Bob Crouch
Yes. I mean obviously Beeline carries a lot higher margin. So really the majority of that increase – most everything else stayed flat. When you look at temp margins, the majority of the increase is just the revenue mix coming from Beeline.
Brandt Sakakeeny – Deutsche Bank
Okay. And then finally just the acquisition pipeline. Obviously the second quarter was fairly robust. How does it look as you look out to the back half of this year?
Tim Payne
For acquisitions?
Brandt Sakakeeny – Deutsche Bank
Yes.
Tim Payne
There are some opportunities out there. We have definitely seen some and we of course recently announced the acquisition of one of the leading pharmacy staffing players and we are very pleased with how that’s going. I think what you would see from us is that we continue to look at acquisitions, we will try to be as opportunistic as we can. We may tend to be little more cautious just not knowing what the environment is going to be going forward but there is – we are pretty positive about the pipeline right now. We think that there is some pretty decent opportunities out there.
Brandt Sakakeeny – Deutsche Bank
Right. Thank you very much.
Tim Payne
Thank you.
Operator
And we’ll take our next question from Mark Marcon at Robert W. Baird.
Mark Marcon – Robert W. Baird
Good morning and congratulations on the nice quarter.
Tim Payne
Thanks Mark.
Mark Marcon – Robert W. Baird
Just wondering on the European Professional Services side, it looks like the organic same currency growth rate actually accelerated relative to the prior quarter and what I am wondering is what would you attribute that to? I know the public sector seems like it’s doing well for Badenoch & Clark but hurdle lines are horrific. So what’s the biggest driver?
Tim Payne
I think some of it is – you know in the past we talked about some of the investments that we made there and when – you know in your business when you talk about investments, you are talking about hiring people, basically. And I think that some of it was just – some of those – as we’ve talked about in the past, once you hire people it takes a little while to get them productive. And so I think some of that was – just some of those people coming online and making a contribution which is certainly positive for us. I was just in England not too long ago and I would agree to the – headlines are pretty difficult over there in terms of how people are viewing the economy. But, Bob, did you have any other thoughts on that?
Bob Crouch
I think just most of that increase is coming on the temporary side. Like we said, the trends from a temporary standpoint are a lot stronger over there than they are in U.S., and then they are on the direct side going forward over there.
Mark Marcon – Robert W. Baird
How insulated do you think the Professional Services will be obviously employment lags just when we think about cyclical sequencing. How resistant do you think they will be to what will be a worsening environment over there?
Tim Payne
Just in the U.K.? It’s difficult to say, but I mean again what we’ve tried to do over the years is we’ve tried to build our strength in areas where we feel like there is a relative shortage of people. A lot of the work that we do in the United Kingdom is related to accounting and finance. We have seen some softening there obviously in the financials – with the financial services companies in the city as would be expected. But I don’t think we would be immune from any large scale downturn. But again, if we are selling people that are in relatively short supply, we think we will do okay.
Mark Marcon – Robert W. Baird
And any impact do you think from the change with regards to the agency work directive that’s currently in parliament?
Bob Crouch
We have not felt anything as of this date.
Mark Marcon – Robert W. Baird
I mean it hasn’t passed yet, so—
Bob Crouch
Right. And we have not seen anything coming our way that is – we think is negatively going to impact us. They may change but as of this point, no.
Tim Payne
It seems like in the U.K. about once every couple of years there is some movement effort that potentially has an impact on the temp market, but historically a lot of it has never come to fruition in a way that really hurts us. But it is something that we are looking at and monitoring.
Mark Marcon – Robert W. Baird
Yes, our current reading is it seems like it would be relatively benign given the way that you are currently structured, but just want to get your sense.
Tim Payne
Yes. We were – we hope and believe so.
Mark Marcon – Robert W. Baird
Okay, and then with regards to European IT, that also picked up nicely above and beyond what one would expect. What drove that do you think?
Tim Payne
I think it’s just a pretty good market for IT. If you look at some of the other public IT staffing companies in England, a number of them are doing fairly well right now as well. I think that kind of what’s going on right now is that we had the – obviously the boom in the late nineties and in 2000 just about everywhere and arguably people over hired in IT and then there was a lot of layoffs from 2001 to 2003, and I think employers took kind of a very measured path in IT going forward from 2003 onward. You know, they hired what they needed. They used contractors when they needed. But there wasn’t kind of the glut of hiring that we saw previous to that. So I think that there is just a lot of IT need out there right now. And so we are just seeing some consistency there. I don’t think we have seen a huge growth in the IT workforce either. We had a lot of people obviously late in the 90s that sort of jumped into the IT market. I don’t see – I don’t think we are seeing a lot of that right now. So I think there is a little bit of a restriction in supply. I think – and that’s particularly true in the U.S. where there is not as many people coming in on H1B visas as we might have seen in the past. That’s just some general thoughts.
Mark Marcon – Robert W. Baird
Okay, and then you mentioned managing pay rates. Typically you like the clients to be more of a bill rate as opposed to a spread client. Can you talk about the – what you are seeing in terms of your ability to mange the pay rates particularly if you have clients that have lower bill rate aspirations?
Tim Payne
Well, we have been able to hold pretty constant on the gross margin, so I think we are managing it pretty effectively. I think what we have not seen now yet or – and maybe we won't, I don’t know, but is – again, in that 2001 to 2002 timeframe we saw a little bit of a scarcity of jobs and as a result of that what – you get kind of a natural downward movement in the labor cost. As we have said before, every assignment we placed is kind of a miniature negotiation that you negotiate on the labor side and you negotiate on the bill rate side with the client. As of now I would say we are not in a position where we are having to go and negotiate a lot of reductions in labor cost. So I would say things are holding pretty constant on that side right now.
Mark Marcon – Robert W. Baird
Okay, and then lastly just on the – you have done a nice job with regards to the SG&A and you have been proactive in terms of being disciplined. As we look out towards the balance of this year just given the headlines it certainly makes sense to continue to invest in the areas that are clearly experiencing secular growth, but in the other divisions how are you thinking about things?
Tim Payne
Well, when we start to – in a – take a given business unit like a – our Modis unit, which is kind of flat right now. When we start to – and we can monitor this pretty closely. When we start to feel like we need more bandwidth, whether it’s recruiting bandwidth to work job orders or whether it’s sales bandwidth because there are opportunities we can't chase with the given one, with the given force that we have, when we start to feel those things, we can start to add headcount in a given division. Right now I don’t think – in some of our divisions we don’t feel a real need to add a lot of headcount, so I would guess between now and the end of the year that would remain pretty constant in a lot of our business units. And in others, as I think Bob mentioned earlier, when we see some opportunities we will go ahead and add the people, but – so – kind of if you look at it in the aggregate kind of for the rest of the year probably a little – maybe sort of modest growth going forward.
Mark Marcon – Robert W. Baird
Great, thank you.
Tim Payne
Thanks.
Operator
And we’ll take our next question from Tobey Sommer at SunTrust Robinson Humphrey.
Tobey Sommer – SunTrust Robinson Humphrey
Thanks. I wanted to ask you a question about the government sector in North America, what that’s been like across the different businesses. You did mention the public sector being pretty strong for you in the U.K. Just curious what it’s like in North America.
Tim Payne
We don’t do a lot of government work in North America. We do some work at various states, State of South Carolina, for example. We do some work at cities and counties, but not a ton. And we’ve never had a lot of – we haven’t really focused on nor had a lot of success at the federal level typically because the contracts are kind of onerous and the margins are not particularly good on those. Now with all that said, I think we have done a pretty good job with some of the defense contractors who themselves have contracts with the federal government and we find that we can compete pretty successfully in those areas. So, we are probably not a good one to look at for any particular trends in government spending in North America.
Tobey Sommer – SunTrust Robinson Humphrey
So at the state level it maybe a little bit too granular for you to have that information in front of you what the spending is looking like?
Tim Payne
I don’t think we have seen a big drop off. And I know a lot of the states are having some financial troubles right now and I know logic would be that eventually we might see some cost cutting there, but I don’t think – it’s nothing worth probably noting at this point.
Tobey Sommer – SunTrust Robinson Humphrey
Okay, and then I heard you say that the perm trends, if I got this correctly, were a little bit less robust internationally I think at least as far as July and maybe even during the quarter, temp was stronger than perm. But I saw your International Professional the percentage increased. Is that just the result of the acquisition or – when you say a little bit less robust were you referring to kind of apples-to-apples or maybe if you can give us a little bit more color there that would be great.
Bob Crouch
Yes, Tobey, it’s a good question. If you look at our trending – if you look at year-over-year internationally perm from a organic standpoint was relatively constant or a little bit down. If you look at it sequentially it was up from the first quarter to the second quarter but I think as we moved throughout the quarter that – it had slowed – that activity slowed a little bit there. So, it’s sort of – and some of that increase year-over-year I mean or all the increase year-over-year in perm is due to that acquisition.
Tobey Sommer – SunTrust Robinson Humphrey
But did I listen – hear correctly that as far your investments go Badenoch & Clark expanding perm would be one of the places where you would invest?
Bob Crouch
That’s what we have done during the quarter. We have been hiring folks in Europe and in Hong Kong.
Tobey Sommer – SunTrust Robinson Humphrey
Okay, so kind of new geographies for you.
Bob Crouch
Yes.
Tobey Sommer – SunTrust Robinson Humphrey
Okay, and then question, just a general one on bill rates and pay rates I guess specifically on the temp side, but also on the perm side. Have you seen much movement in terms of the salary and compensation on the perm side and then maybe how bill rates and pay rates are moving among your different units?
Bob Crouch
Yes, I think if you – obviously we are – in majority of our units we are in a positive bill rate environment. We have seen increases in bill rates as we look across the board, international and both in the U.S. So, it’s been a positive bill rate environment. I don’t want to get into breaking down every single unit, but it has been positive from that standpoint. And as far as from a perm side as far as salary increases that’s not something we track or have in front of us at this point in time.
Tobey Sommer – SunTrust Robinson Humphrey
Okay, if I look at the revenue and the change in revenue, what sort of contribution would you think you have if you were to break it down between the volume of temps and the bill rates? Would – given in fact you are in a positive bill rate environment, is that accounting for most of the growth or is there growth in volumes as well?
Tim Payne
Yes, I think when we looked at it, it’s – the bill rates increases are contributing probably more than the volume of headcount, little more than 50%.
Tobey Sommer – SunTrust Robinson Humphrey
Okay, and then a specific – is there any change in that relative to the last couple of quarters or will that–?
Tim Payne
No, it’s been pretty consistent.
Tobey Sommer – SunTrust Robinson Humphrey
Okay, and then it’s a specific question in the healthcare piece. Anything – any kind of color that you may have – I know it’s a relatively small part of your business, but on the nurse staffing business whether it’s either orders or volumes or pricing there?
Tim Payne
We still like that business and it’s not – it didn’t have booming growth but it’s doing pretty nicely for us and again as we talked about in the past we are not a good viewpoint into it on how the big chains are buying nurses and so forth. We’ve got gross margin in that division that are in the high 20s comparing that to some of the low 20s for some of the public company ones that do the big volume contracts. So we are trying to do the smaller hospitals, do more of the sort of niche specialties such as pharmacy and therapy and things like that. So – I don’t have a lot of good color for you on how the overall sort of the traveling nurse market is going. For us it’s again a little bit more of a margin game than a volume game.
Tobey Sommer – SunTrust Robinson Humphrey
Well, thanks. That’s helpful that you are able to grow there and congratulations on bucking some of the headlines with you performance in the quarter.
Tim Payne
Well, thank you.
Bob Crouch
Thanks. Appreciate that.
Operator
And we will go next to Jim Janesky at Stifel Nicolaus.
Jim Janesky – Stifel Nicolaus
Thank you. I have a question on international operating margin as both in Professional and IT and despite having a higher percentage of perm than the U.S., the margins did come in a bit lower than expected. Is that have to do with either mix or the hiring that you talked about as you went throughout the quarter and perm softened or pricing, what are your thoughts?
Bob Crouch
You are talking about in the operating margin side?
Jim Janesky – Stifel Nicolaus
Yes, just specifically operating margins.
Bob Crouch
Yes, Jim, I think obviously I don’t know if you have heard the whole call, but we talked about some of the cost that we have increased o the Professional side of the business and we did that during the quarter. So costs were definitely up as we invested in our Badenoch & Clark unit. And then on the IT side, International we didn’t focus on that earlier, but we had been hiring and our fee earners on the permanent placement side are up, and we have not yet got the contribution from that.
Jim Janesky – Stifel Nicolaus
Okay, thank you.
Bob Crouch
On the International side on IT.
Tim Payne
And in the International on the Professional side, we had some – a little bit unusual cost in our continental European operations just kind of management transition issues and things like that as we try to grow that business. So, that probably contributed to it a little bit as well.
Jim Janesky – Stifel Nicolaus
Okay, and then focusing in on perm trends within the U.S., you said that coming out of the second quarter going into the third quarter perm was better than temp trends. Is that any particular geography or I guess importantly are you – is it – you have a large contract with one company or within an industry that’s helping drive that number? Or are you taking share? Or do you think that the environment is just better than the headlines suggest?
Bob Crouch
No, I mean unfortunately it’s no to all those. I think it’s just that the better – it’s just still a good environment for perm versus temp, which is I guess somewhat surprising in this environment, but that’s just really across the board geographically in our different units. It seems that there is more demand for perm right now than there is for temp.
Tim Payne
Yes, I would agree.
Jim Janesky – Stifel Nicolaus
Okay, thanks.
Tim Payne
Thanks, Jim.
Operator
And we’ll go next to T. C. Robillard from Banc of America Securities.
T. C. Robillard – Banc of America Securities
Great, thank you. Good morning guys.
Tim Payne
Good morning.
Bob Crouch
Good morning.
T. C. Robillard – Banc of America Securities
Just wanted to revisit the North America IT segment from a temp gross margin standpoint as it relates to both the revenue mix as Beeline starts to increase as a percentage as well as Tim what you were talking about in terms of kind of pruning back lower margin clients. Is it safe to assume that there should be some continued year-on-year improvement in the temp gross margin for that segment over the next couple of quarters?
Bob Crouch
I think if you look at it that’s the hope and that’s in the environments where we have been able to do so far. So, hopefully, that trend does continue. Obviously, if things change significantly there I wouldn’t bank on that but that’s what we are trying to—
Tim Payne
And we – yes, we are trying to accomplish that but we don’t necessarily model it that way. I mean if can keep the temp gross margin relatively flat and again it’s going to come from a mix. Some clients margins will move down, hopefully others will move up, but I think overall keeping the temp margin constant in North American IT would be the goal.
T. C. Robillard – Banc of America Securities
And when do you anniversary some of the lower margin client pruning? I mean I know you had talked about earlier that it’s an ongoing process but if I recall is it then one or two quarters now that it’s been a lot more of an active process. I am just trying to get a sense as to when you get into that anniversary process for actively managing that.
Bob Crouch
Yes. There is a – I know we talked about that, Tim, there is two clients that we mainly were talking about and that gets towards the fourth quarter when those guys are anniversaried.
Tim Payne
It was two fairly large clients and so by the first quarter that will be – worked through the system we think.
Bob Crouch
Yes, exactly.
T. C. Robillard – Banc of America Securities
Okay, great. And then just lastly, if you just look at the overall temp gross margin the second quarter – the results you just reported this is the first time in four years that you guys were actually only flat year-on-year in terms of your temp gross margin, and I mean I know there is a lot of moving parts for this everything from mix to bill and pay spreads and things like that. But I am just trying to get – is this – have we gotten to a point now where there is just not as many leverage for you guys to pull and this really becomes more of a function of controlling the SG&A cost versus percentage of perm? I am just trying to – I am trying to take that and then move it into just the overall kind of – overall operating to a net margin standpoint as to where you guys may have incremental headwinds or tailwinds.
Bob Crouch
Yes. I don’t – I wouldn’t say this has become an SG&A game at this point in time. I think it just depends on where we’d like to make our investments. I think we are constantly investing in higher margin, higher gross margin type revenue streams. That’s what you will see us continue to do. Obviously, we could scale back SG&A. That’s pretty much – that’s an easy thing to do and try to get more profitability out of it, but we are continuing to try to push gross margins up. That’s where we are investing our dollars. Obviously, the perm side will help things. The mix will help things, but we are constantly trying to improve it and I think there is still some room to grow if we can grow the higher margin units.
Tim Payne
You know I think the philosophy we are taking is that the market is still reasonably good meaning we are not at the point where we are seeing revenue declines similar to what we saw before. We still feel like we can be flat to grow going forward. We feel the market is good enough to support that. We have not felt the need at this point to enact cost reductions through internal headcount sorts of thing and the reason for that is that we think the market is going to improve some day. We don’t know if it’s going to be tomorrow or a year from now or whenever, but when it does improve we want to make sure we got the people in place and we have got them trained and the we are ready to grow again. And as we talked about a lot of times in the past it’s very unproductive to be always getting rid of people and then hiring people just because – again, it takes six months for people to get somewhat productive and it takes about a year and a half for them to get fully productive. So, we’d like to think we got a pretty good team in place and when things do get better we’ll be poised to grow.
T. C. Robillard – Banc of America Securities
Makes sense. Okay, great, thanks for the comments.
Tim Payne
Thank you.
Bob Crouch
Thanks.
Operator
(Operator instructions) We’ll go next to Michael Baker at Raymond James.
Michael Baker – Raymond James
Thank you. Tim, I just wanted to get your perspective in terms of how you plan to manage the mix of International, domestic say over the next five year, whether that vies has changed recently?
Tim Payne
No, I think we are still – we still believe that there is a lot of growth potential for us in continental Europe particularly we were talking about margins a moment ago, the gross margins and operating margins in our International IT, which is primarily in the U.K. are obviously quite a bit lower than the rest of the business and we believe what we have seen with the work that we are currently doing in continental Europe, we believe we can grow across the continent and do it in ways were margins are much better and that will help that overall unit, which in addition would help the whole. And then we’ve also have – we kind of planted some seeds in Asia both in the property market and in the – in kind of the search market and we feel like – there is not really a temp market there at least for us in the areas that we are presently but that the perm market should be good and so we’ll focus on growing there as well. I think in the long term I guess I would – to may be three to five years from now I think what we would probably see overall business mix is one where half of our business is in North America and the other half is outside of North America primarily in Europe, partly in Asia as well.
Michael Baker – Raymond James
Thanks a lot.
Operator
And with no further questions left in the queue Mr. Payne, I would like to turn the conference back over to you for any additional or closing remarks.
Tim Payne
Okay. Well thank you again for attending the call today. As I think you can tell, we feel pretty good about the current environment. It’s certainly not as robust as it was may be couple of years ago, but we still do believe that there are some opportunities out there for us. We want to make sure we pursue those opportunities and we do think the market conditions are going to improve at some point, and we want to make sure that we are very well positioned to – for good growth when that happens again. So, that concludes the call today and again thank you all for attending.
Operator
Once again, that does conclude today’s presentation. We thank everyone for their participation. You may disconnect your lines at any time.
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