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

Executives

Julie Creed - Vice President, Investor Relations

L. Kevin Kelly - Chief Executive Officer, Director

Scott J. Krenz - Chief Financial Officer, Executive Vice President

Jim Andrejko - Vice President, Corporate Controller

Analysts

Kevin McVeigh - Credit Suisse

Andrew Fones - UBS

Tim McHugh - William Blair & Company

Tobey Sommer - SunTrust Robinson Humphrey

Mark Marcon - Robert W. Baird & Co.

Analyst for Michel Morin - Merrill Lynch

David Feinberg - Goldman Sachs

Clint Fendley - Davenport & Co.

Heidrick & Struggles International, Inc. (HSII) Q2 2008 Earnings Call August 6, 2008 10:00 AM ET

Operator

Welcome to the 2008 second quarter conference call. (Operator Instructions) I would now like to turn the conference over to your host today, Julie Creed, Vice President, Investor Relations.

Julie Creed

Participating on the call today are Kevin Kelly, our Chief Executive Officer, Scott Krenz, our Chief Financial Officer, and Jim Andrejko, our Vice President and Controller. As a reminder we’ll be referring to supporting slides that are available on our website at www.heidrick.com and we encourage you to follow along or print them. As always, we advise you this call may not be reproduced or retransmitted without our consent.

We’ll be making forward-looking statements on today’s call and ask that you please refer to our Safe Harbor language contained in our news release and on Slide 1 of our presentation.

And now I’ll turn the call over to you, Kevin.

L. Kevin Kelly

Before I get started with a discussion of the second quarter, I’d like to take a minute to officially welcome Scott to the company and introduce him to all of you. Although Scott’s official start date was August 4 we are fortunate that he has been integrating himself into Heidrick & Struggles for the last month.

If you are following along with the slides we’ve posted on our website, I’m going to start with Slides 3 through 6. We are pleased to be reporting another quarter of growth both year-over-year and sequentially. Consolidated net revenue in the second quarter was $169.5 million up 5.9% compared to last year’s second quarter and up 10.7% compared to our first quarter. On a constant currency basis net revenue in the quarter was up approximately 2% year-over-year.

Net revenue in the Americas region was down 1.4% compared to last year as a result of softness in the consumer goods practice and to a lesser extent continued softness in the financial services practice. But the technology, industrial and nonprofit practice groups each achieved double-digit year-over-year growth. And compared to the first quarter net revenue in the Americas increased by almost $10 million or 12% driven largely by strong performance in the financial services practice.

Europe’s net revenue was up 1.7% although down approximately 7% on a constant currency basis. All of the industry practice groups in this region achieved a double-digit net revenue growth except financial services which declined year-over-year and was the one area of softness. Sequentially Europe’s revenue in the second quarter was about the same as the first and like in the Americas the financial services practice also realized a sequential increase in revenue.

Asia Pacific achieved another record net revenue quarter up 50.65 on a reported basis or about 41% on a constant currency basis. The financial services, industrial, technology, and business and professional services industry groups were the largest contributors to growth. And compared to the quarter Asia Pacific’s net revenue increased 27%.

Since there are very few generalizations that we can make about any industry practice in either quarter or in all three regions this year, we think Slide 7 is helpful in showing how each practice group is performing year to date compared to last year’s first six months. Every industry practice group except financial services is growing.

Turning to Slide 8. Consultant headcount was 408 at June 30 and at the end of March compared to 398 at the end of last year’s second quarter. In the quarter we added 19 new consultants primarily in the Americas region. 13 are experienced in search including through the acquisitions of Schwab Enterprises and IronHill Partners and the other six were new to Search. But offsetting these additions in the second quarter were six consultants who left as part of our ongoing productivity review and five who were reclassified to working as affiliates in our Portuguese operation, and there were a few others who resigned or retired. Year to date voluntary consultant turnover is very low, approximately 4% and no Search consultant has left our firm this year to join another firm or start their own.

Turning to Slides 9 and 10, executive search confirmations in the second quarter were down 2.1% compared to last year’s second quarter and decreased 2.5% on a sequential basis. On a monthly basis confirmations have been very steady so far this year with no big inflections and July trended as expected given the summer holiday season.

Moving to Slide 11. Productivity or annualized revenue per executive search consultant increased to a new record of $1.6 million with improvements in every region compared to last year’s second quarter. Increasing productivity has been one of our major initiatives over the past year and a half and we have every intention of continuing this effort.

Looking at Slide 12, the average fee per executive search was $122,200 up 10% compared to last year’s second quarter. The year-to-date average fee per search is also up about 10% compared to the first six months of last year.

Referring to Slides 13 and 14, second quarter operating income was $18.7 million compared to $19.5 million last year and the second quarter operating margin as 11% compared to 12.2%.

Now I’ll turn the call over to Julie to go into a little more detail on some of the line items that are key to driving operating income and regional results.

Julie Creed

Turning to Slide 15, salaries and employee benefits expense in the second quarter was $117.3 million up $6.6 million or 6% year-over-year. As a percentage of net revenue salaries and employee benefits were 69.2%, the same as in last year’s second quarter. Of the increase tech salaries and employee benefits expense accounted for $4.7 million and performance based compensation accounted for the remaining $1.9 million. The increase in fixed expense was primarily a function of the 9.4% year-over-year increase in our worldwide headcount. The increase in performance compensation expense mostly relates to higher bonus expense as a result of higher net revenue levels.

Total stock-based compensation expense in the quarter was $5.9 million which is down compared to $10.5 million in last year’s second quarter. This decrease largely reflects a change to our 2008 compensation program. As we discussed on the first quarter conference call, starting with 2008 bonuses which are payable in March of 2009 the portion of consultants’ and managements’ bonus that was previously paid in restricted stock units will now be paid in cash although still deferred over three years. The accounting treatment is fairly unchanged so it’s neutral to the P&L. Another reason for the decrease in stock-based compensation expense is that in last year’s second quarter it included expenses associated with the accelerated vesting of restricted stock units for our former Chairman who retired.

Turning to Slide 16, general and administrative expenses in the quarter were $33.5 million an increase of $3.7 million compared to last year’s second quarter. As a percentage of net revenue G&A expenses were 19.8% compared to 18.7% last year. Similar to first quarter results the year-over-year increase is primarily related to an increase in premise related costs for new offices and for lease renewals since last year’s second quarter including among others New York, Hong Kong and Tokyo.

Looking at Slides 17 and 18, our net income was $12.7 million and diluted earnings per share were $0.72 reflecting a quarterly effective tax rate of 38%. It’s a big difficult to compare these results to last year’s second quarter when we had an effective tax rate of 2.3% as a result of our decision to release a valuation allowance related to certain of our foreign tax credits. That gives a tax benefit of $8.5 million in the quarter.

You will note that we have narrowed our expected 2008 full-year effective tax rate to a range of between 38% and 40% down from 38% to 42%. This is primarily because we’ve honed our forecast for the mix of book income expected from each jurisdiction based on the first half results but it also reflects that we’re not longer planning to incorporate the foreign branch that we were considering for 2008, which as you know would have had an associated discreet tax charge.

Kevin already gave you insight into revenue trends in each of our three regions both year-over-year and sequentially so I’m going to provide color on the operating margin in each region starting with the Americas on Slide 20. Second quarter operating income in the Americas was $12.6 million which is down 35.3% year-over-year and the operating margin was 14.4% compared to 22% from last year’s second quarter. The decrease in operating income and operating margin is attributed to lower net revenue, an increase in salaries and employee benefits, and an increase in G&A expense.

The increase in salaries and employee benefits expense reflects several items. The largest is an increase of approximately $1.8 million of discretionary compensation associated with a mix of consultants who are generating revenue in this region, and Scott will explain this expense further in a few minutes. But the increase in salaries and employee benefits also reflects expense associated with the amortization of new long-term incentive awards that didn’t exist in 2007, severance for consultants and several others who left as part of our ongoing review of productivity, an increased associate leverage, and support staff headcount.

The increase in G&A expenses in the Americas region largely relates to premise related costs and renewal of leases for existing offices, the largest being New York.

Now turning to Europe on Slide 21, operating income in Europe increased 4% to $7.7 million and the operating margin improved to 14.4% compared to 14.1% last year. The increase in net revenue of $0.9 million in the quarter and a decrease in salaries and employee benefits expense were offset by an increase in G&A. The decrease in salaries and employee benefits expense is due to lower discretionary compensation and a decrease in consultant headcount since the second quarter of 07. But the increase in G&A largely relates to our European regional meeting which was held during the second quarter and to a lesser extent an increase in premise related costs and other operating infrastructure expenses.

And finally turning to Slide 22 and our Asia Pacific region, operating income of $6.6 million increased 27.3% year-over-year and the operating margin was 22.7% compared to 26.8% last year. The increase in net revenue in the quarter of $9.8 million was partially offset by an increase in salaries and employee benefits expense and to a lesser extent an increase in G&A expense. As we discussed on the first quarter call the increase in expenses generally reflects the investments we’ve made in growing this region over the last year. In the past year total headcount in this region has increased approximately 34% and we’ve grown our consultant headcount by 36%. The timing of these hires as you know means additional fixed costs without corresponding margin as they get up to speed. The decrease in margin also reflects higher infrastructure costs related to the leases for new and existing offices since last year’s 2Q. And as we said on the first quarter call we will leverage these investments now to drive revenue and margin. In fact the improvement in this region’s operating margin from 11.9% in the first quarter to 22.7% in the second quarter partially reflects this expected improvement in consultant productivity.

L. Kevin Kelly

The outlook for our business is based on multi-dimensional perspectives from each region, industry practice, functional practice, and individual consultant. As a global company we continuously combine these views in order to determine what our business will achieve in 2008. Secular trends, demographics, growth in emerging markets, and continued turnover in the Suite C suite no matter what the economic conditions are all drive the need for executive recruiting and leadership services. That is why we believe this is a growth business. Some industries might be softer than others and some regions tougher than others.

But the strength of our business model lies in our global footprints and revenue is on target as of this date to fall within the range of $650 million to $660 million. As for the operating margin the entire management team remains committed to achieving approximately 13%.

Since being appointed the CFO, Scott has been very focused on our cost structure and the potential for cost savings. So I’d like to turn the call over to him to give you an update on some of our specific initiatives.

Scott J. Krenz

First let me say how excited I am about joining the Heidrick & Struggles team and how pleased I am to be able to participate in today’s call.

As you’ve heard our net revenue is still on track to fall within guidance although with two quarters completed we have narrowed the range to $650 million to $660 million. On the cost side we’ve had several significant unexpected expenses this year. We will need to offset these increases in order to achieve our target operating margin of approximately 13%.

The biggest of these expenses is compensation expense related to the mix of consultants who are producing the revenue. As you know, in our business and in many consultant-driven businesses the compensation model at its basic level is that the more revenue you generate for the firm the higher percentage you keep as compensation. This year there is a wider discrepancy between the number of consultants generating very high revenue and those working in the lower tiers. So to date we have accrued approximately $3.5 million in additional compensation expense for this reason.

Another expense we are looking to offset is approximately $1.5 million in severance, much of which relates to the former CFO.

So to make this up and to protect the firm from future economic uncertainty we’ve increased our focus on cost savings initiatives. We’ve made progress on the initiatives we discussed with you earlier in the quarter but have recently instituted additional cost savings initiatives. These include:

Restrictions on travel so that only travel required to generate revenue or that is necessary for the current operation of the firm will be allowed. A new approval process was implemented to assure the effectiveness of this policy. We are postponing until 2009 or in some cases eliminating all industry, functional practice, training and corporate meetings.

Finally every finance, IT, marketing and training project or open position whether capitalized or expensed is being evaluated as we seek to delay or eliminate what is not necessary. The exception is the new search system. This project will not be deferred as we believe it is critical to the firm’s future.

At this time we estimate that the savings from these additional initiatives could reach $8 million or more. It will be a challenge to fully realize the cost savings and to achieve our operating margin goal. But this is a priority for me and it is a priority for the company. We want to execute the plan that our Executive Committee set forth for 2008 and I know that we will benefit for the increased discipline and sharper focus on the expense structure. Of course we can’t predict the future and our expectations assume that there is no further significant deterioration in the economic conditions in any of our regions. In any event these actions we are taking are the prudent thing to do.

L. Kevin Kelly

I hope that we have conveyed that we think this is a growth business. Our global footprints, our brand and our focus on work at the Board and CEO level gives us comfort in this outlook. And while aggressively pursuing meaningful cost savings in order to pursue our goal for operating margin, we will continue to invest in our business so that Heidrick & Struggles emerges from the economic cycle positioned to be the leader in every practice and in every region.

At this point we’d be happy to take any questions that you might have.

Question-and-Answer Session

Operator

(Operator Instructions) Our first question comes from Kevin McVeigh - Credit Suisse.

Kevin McVeigh - Credit Suisse

I just wanted to focus on the guidance a little bit. You reduced the high end of the range by $10 million. Could you give us a sense of where that’s coming from? Is it across the Americas, Europe, pretty consistent? I just want to get a sense of where you’re seeing the slowing trends?

L. Kevin Kelly

It’s primarily in North America at this point. We are still seeing growth in each region; Asia Pacific as you saw, Europe continues to be strong, and even in America we continue to see demand for our services. It’s just that we’ve narrowed it a little bit in North America which reflects that $10 million.

Kevin McVeigh - Credit Suisse

In terms of part of the incremental cost or higher comp accruals, where is that focused? Is it primarily more seen in senior search executives generating additional revenue or why the incremental accrual and is that pretty consistent with what you’ve seen in previous cycles?

L. Kevin Kelly

It’s actually a little rare this year. We’re seeing it across the board. Historically we’ve seen it in North America to a greater degree but given our investments over the last couple of years and given the number of consultants we’ve hired in each region and given our continued focus at working at the top, we’re seeing it across all four regions today: Europe, Asia Pacific, Latin America, and here in North America.

Kevin McVeigh - Credit Suisse

The $8 million, is that an annualized savings or is that just in the second half of 08 and is that in addition to earlier cost savings or is that in the aggregate?

Scott J. Krenz

It is both related to the second half of the year and it is additional.

Operator

Our next question comes from Andrew Fones - UBS.

Andrew Fones - UBS

I was wondering if you could tell us what the impact of IronHill was in the quarter, I think it was in your results for about maybe a month, and then what the impact is in your full year guidance for revenue?

Scott J. Krenz

We don’t break it out that way but I can tell you that we’re excited about this acquisition. These guys have been a hit internally from a cultural perspective but also in leveraging the Heidrick brand and getting together with a lot of our functional practice leads as well. So it’s been a great impact. It’s early days yet but we just don’t break out that revenue.

Andrew Fones - UBS

In terms of getting from your current operating margin of 11% to the guidance of 13% for the year, you’re currently running at 22% or 23% in Asia Pac. Where should we expect the margin improvement to occur?

L. Kevin Kelly

It’s going to be across the board. These initiatives we’ve taken are global in nature and the entire leadership team irrespective of what region you’re in is committed to them. So I expect to see the results happening across the entire globe.

Operator

Our next question comes from Tim McHugh - William Blair & Company.

Tim McHugh - William Blair & Company

You mentioned some of the headwinds in getting to your operating margin guidance. Excluding those two items that you mentioned, would you otherwise be feeling good about being able to hit those targets for the year or is there anything else that’s kind of holding you back right now?

L. Kevin Kelly

I think given the current environment we’d be confident in hitting the 13%. It’s interesting reflecting on some of the comments we’ve seen over the course of the last couple of days but the front page of the Financial Times last week, and this is what we’re seeing from many of our clients, shows that Morgan Stanley is going on $1 billion recruitment spree. And what we’re seeing across the globe, the Chicago Tribune last Sunday - I know you’re here in Chicago Tim - talked about the number of Wall Street bankers that are moving to Chicago now. So there are organizations that view this as a once in a lifetime opportunity to get the best in class professional they can to execute and drive their strategies. And we’re not only seeing that in North America but we’re seeing it across the globe. And this provides a huge opportunity, and I know what the unemployment rates predict and I know what the labor markets are saying, but at the same time you do have organizations looking at this as an opportunity to upgrade or top grade their employees.

Tim McHugh - William Blair & Company

I can eyeball it from the chart. Year-over-year July it seems relatively flattish at this point. Is that about right?

Julie Creed

Yes. You can eyeball it from the chart. The confirmations in July trend exactly how they have been for many years in terms of July post-June and summer holidays. So slightly down from June.

Tim McHugh - William Blair & Company

The last call you talked about a backlog coming out of the first quarter. Do you have what that would be for the second quarter?

L. Kevin Kelly

We have more significant backlog given the December confirms coming in. I don’t have that. We can get that number to you if you hold on a second Tim.

Tim McHugh - William Blair & Company

While you look for that, actually the financial services sequential strength in the US if you could give a little more color on that too, that would be helpful.

L. Kevin Kelly

Sure. If you recall on the first quarter call, we talked about investments we’re making and how we’re using this as an opportunity to capture market share particularly in those areas of financial services where we didn’t have critical mass. We did make those investments in the first quarter and we’re seeing the results really hitting our books in the second quarter and I think we’ll continue to see that through the course of the next year; not necessarily just in financial services but also in other industry practices as well. Also, given financial services bonuses are paid in March and you’ve seen this historically over the last couple of years, you have investment banks or banks looking to recruit after they lose individuals based on their bonus payouts. So they tend to join sometime in May or June so you’re seeing the impact there.

In terms of the backlog it was roughly $73 million going into the first quarter. It’s about $71 million going into the third quarter.

Tim McHugh - William Blair & Company

Especially with Scott having joined, your views on share repurchases going forward at this point?

L. Kevin Kelly

Why is that especially since Scott’s rejoined?

Tim McHugh - William Blair & Company

Every CFO has a different view.

L. Kevin Kelly

I think consistent with this company and consistent with just about every company I’ve been associated with, it’s not something we talk about in advance. That’s a decision which gets made based upon investment opportunities the company has in front of them as well as what we think will be ultimately the best thing for the shareholders. As you can see from our press release we do have $28 million remaining under our authorization and we know it’s there and we’ll do the right thing.

Operator

Our next question comes from Tobey Sommer - SunTrust Robinson Humphrey.

Tobey Sommer - SunTrust Robinson Humphrey

I wanted to follow up on the last question. You talked about after typical bonuses in financial services people moving and that makes sense. Was the typical seasonal pattern of what you saw in April and May similar to previous years?

L. Kevin Kelly

Yes. We’ve gone back the last number of years and taken a look at what happens in financial services. And you do see an increase in revenue in the May and June timeframe primarily because when you book a search it could take anywhere from three to four months and we also have the upticks we discussed before, the differential between what the perceived compensation is and what the actual compensation is once the individual joins.

Tobey Sommer - SunTrust Robinson Humphrey

In terms of headcount which was kind of held flat sequentially, what’s your outlook there over the next several quarters? Just kind of philosophically are you tightening the screws on productivity despite the fact that productivity actually improved pretty nicely? Any additional scrutiny you’ll be applying to any underperformers within the group?

L. Kevin Kelly

If you’ll recall last year, 2007 was the first year that Heidrick & Struggles actually went through a performance review and took out a group of underperforming consultants and we’ll continue to do that on a quarterly basis. Now what we have talked about consistently is if for example we get to remain at 409 and drive productivity from $1.6 million to $1.8 million we’d be extremely happy with that just continuing to focus on making our consultants more productive. However, we don’t think that’s realistic particularly given that we want to capture market share. So if there are areas such as media and entertainment, asset management, energy, diversity, technology where we can go out and recruit individuals in this market, then we’re going to continue to do that particularly in some of the emerging markets like Central and Eastern Europe, Russia, the Middle East, and parts of Asia such as India and China, we’ll continue to recruit there. So I think it’s a two-pronged approach to driving productivity and continuing to recruit consultants that can actually add value to those areas that aren’t presently covered.

Tobey Sommer - SunTrust Robinson Humphrey

When looking at your pretty ample balance sheet at this point, you’ve got a lot of things in front of you, but on the M&A front I was wondering if you could comment about whether private valuations for opportunities seem to be coming in and whether the sellers are being influenced by an outlook that might include a potential increase in the capital gains rate next year?

L. Kevin Kelly

Correct me if I’m wrong, but I think what you’re asking is where were you expecting a better M&A environment with people looking to close transactions to avoid the taxes? Is that you’re question?

Tobey Sommer - SunTrust Robinson Humphrey

That would be one of the questions and any comment you would have about sellers’ expectations coming down with public valuations in addition to that, that’d be great.

L. Kevin Kelly

You can continue to look at the acquisitions primarily in those areas that are going to help us grow the business and give a better return to shareholders. To a degree Tobey what we’re saying is the same thing that is happening to us. We continue to drive revenue across the globe. You have a lot of boutiques that we’re looking at; other organizations who continue to see strong results in these markets, although coming down somewhat they haven’t come off significantly. At the same time it depends on the organization, whether or not they want to get the transaction. Of course they’d like to get it given the reference to the tax implications next year but of course they’d like to get it closed this year if possible But going into 2008 if we see an opportunity on the acquisition front that’s going to help our business, we’ll take a hard look at it as well.

Operator

Our next question comes from Mark Marcon - Robert W. Baird & Co.

Mark Marcon - Robert W. Baird & Co.

On the recruiting environment, can you talk a little bit about what the distinct challenges are in terms of recruiting experienced consultants to come over at this point in the cycle and how you look at that? There are some people who would argue that we’re at the peak of the current cycle and that things are likely to slow. When you look at how much you’re going to pay somebody, when you should go after them. How do you think about that?

L. Kevin Kelly

The way we look at it is it has to fit a specific niche at Heidrick & Struggles. And specifically what I mean by that is we can’t go out and recruit somebody from a direct competitor if they are working for a different client base because it would be like hiring a consultant that’s new to search. The ramp up speed for them would be 12 to 18 months and what I mean by that is we work for a select group of clients and we have an off limits issue with those clients. So for example, if we’re working for three consumer goods organizations as a firm and they happen to be at a direct competitor working for three different organizations, then they would come over here and not be able to work with the same client base because we’re already engaged in and involved with working with three global or strategic partners at Heidrick & Struggles. So it’s a long way of saying that when we go out and we are consistently looking at recruiting great consultants here, we have to make sure that they fit a specific niche that’s not covered by our consultant base right now. And that’s why we’re continuing to focus on recruiting MBAs, promoting from within, and developing our own consultants as well.

Mark Marcon - Robert W. Baird & Co.

I guess what I was trying to get at was that many people would argue that we’re at the peak of the cycle and that things are starting to roll over. What I’m trying to understand is, if you believe that, to what extent does that influence the additions that you would bring into the organization?

L. Kevin Kelly

If it helps, I guess one of the ways to look at it is, are we overpaying to bring somebody in at this point in time? You never know. It’s the perceived value or the value we actually get out of hiring somebody and whether or not under the Heidrick brand we can drive significantly greater amounts of revenues. So at this point in time we are systematically, we have a great recruiting process in place, a great talent process in place and we’re making sure that we don’t want to overpay for anyone in this market but if we can leverage their experience and their client base, then we’ll bring them into the firm.

Mark Marcon - Robert W. Baird & Co.

It doesn’t sound like you would pull back in terms of recruiting based on where we are cyclically at this point.

L. Kevin Kelly

Not for the right people.

Mark Marcon - Robert W. Baird & Co.

How about on the acquisition front? Would you pull back or would you -

L. Kevin Kelly

We’re continuing right now. We’re continuing to look at acquisitions as we speak.

Mark Marcon - Robert W. Baird & Co.

In terms of Europe, can you talk a little bit about the trends that you saw there? It looked like on a constant currency basis we were down 7%. Did that worsen as the quarter progressed or how should we think about that?

L. Kevin Kelly

I don’t have the answer right now on that. I can get back to you on that but specifically what we’re seeing in Europe is continued demand for our business. We’re seeing great demand in some of the emerging markets, Central and Eastern Europe, Russia is continuing to grow, and even as we’ve spoken about before, countries such as Germany and France we see continued growth and demand there. It was only financial services that was off and it was off year-over-year.

Mark Marcon - Robert W. Baird & Co.

And that was probably primarily located in the UK.

L. Kevin Kelly

Right.

Mark Marcon - Robert W. Baird & Co.

It sounds like everything else continues to do well and we just have a few pockets of weakness and it sounds like we should be able to offset that.

L. Kevin Kelly

We believe so. And just going back to Europe, even with fx the margin improved from 14.1% to 14.4%.

Operator

Our next question comes from Analyst for Michel Morin - Merrill Lynch.

Analyst for Michel Morin - Merrill Lynch

Looking at consultant headcount in Europe, can you provide some color around that and also any outlook you have around headcount in Europe?

L. Kevin Kelly

What were you looking at specifically in terms of headcount in Europe?

Analyst for Michel Morin - Merrill Lynch

Consultant headcount in Europe fell. I forget the number of heads.

L. Kevin Kelly

About 6. The same thing happened in Europe as happened in North America. We continue to view consultants that aren’t as productive as others. We had six. But one thing to remember is also that five of those consultants as I mentioned in the call earlier were a part of our Lisbon operation that is now an affiliate. So although still engaged or involved with Heidrick & Struggles, we moved them off full-time status into an affiliate status. So that was five out of the six that you were referring to.

Analyst for Michel Morin - Merrill Lynch

Is that review of the lower productive heads review done now or is that continuing?

L. Kevin Kelly

It’s going to be ongoing. Last year we did it over a period of six weeks. We decided that as any good organization will do or continue to do we want to do it on an ongoing basis.

Analyst for Michel Morin - Merrill Lynch

Could you explain some of the puts and takes in the Asian margins this quarter?

L. Kevin Kelly

I think you saw as we had spoken about in the last call, we made a significant investment in people in the first quarter and we were also hit by some of the real estate renewed leases that we took on in Singapore, Shanghai, Sidney, Tokyo and Hong Kong in the first quarter. So what you’re seeing now are the investments that we made in Q1 falling through into the second quarter and we’re continuing to grow the business out there and I think you’ll continue to see that trend.

Analyst for Michel Morin - Merrill Lynch

So as the revenues grow you would expect further operating margin expansion throughout the rest of 2008?

L. Kevin Kelly

Yes, we would. But we’re still continuing to invest in the business and as you can imagine in one of the fastest-growing regions in the world, real estate continues to be a challenge there. So we will continue to see margin expansion but we want to make sure we invest in the business as well.

Operator

Our next question comes from David Feinberg - Goldman Sachs.

David Feinberg - Goldman Sachs

Just one point of clarification. Your prepared comments about Europe about financial services being the only end market that’s down year-over-year, are you talking on a constant currency basis or on an as-reported basis?

Julie Creed

As reported.

David Feinberg - Goldman Sachs

So if I look at it on a constant currency basis, how do those numbers change?

Julie Creed

I can apply the same exchange rate to every single practice but -

David Feinberg - Goldman Sachs

I guess the question is, none of the other practices turned negative, correct?

Julie Creed

Everything was up except financial services.

Operator

Our next question comes from Clint Fendley - Davenport & Co.

Clint Fendley - Davenport & Co.

Circling back to the July confirmations, recognizing that July is typically down on a seasonal pattern, could you guys provide any more details on a geographic basis as to what you’re seeing out there?

L. Kevin Kelly

What happens, and having spent three years in Europe I can attest to this, is that most Europeans go on vacation in July to the tune of two, maybe three weeks. We’ve seen that year-over-year and August tends to be vacation time here in North America. So the confirms are directly impacted by the vacation season each year. And just as a point of clarification, we still saw strong results in North America and Asia and they were just where we expected them to be in Europe given the vacation season.

Clint Fendley - Davenport & Co.

Was there anything different or unusual in the financial services area this year apart from the typical seasonal pattern that you would expect?

L. Kevin Kelly

No, not so far. And again alluding to that Financial Times article last week about Morgan Stanley and the Tribune article, we continue to see demand in financial services.

Clint Fendley - Davenport & Co.

When we look at the weakness that we’re seeing in the financial services area, it feels similar to the downturn we had in technology a few years ago and that we still have growth in most all areas but significant weakness in one single vertical. I mean, recognizing that you weren’t leading the firm back then, how do you see Heidrick managing differently this time around? And if you could speak to just your views on the retention of your search consultants especially if you consider the possibility of a prolonged downturn here?

L. Kevin Kelly

Clint, you’re asking me one of my favorite questions. If you look at our technology practice, and I was with the firm in 2000, so if you look at our financial services practice today, it’s a much different business than our technology practice was in 2000; number one, from a geographical perspective. Number two, technology was $150 million business in 2000 of which $75 million to $80 million was Internet driven. And that’s a completely different business than we’re seeing in investment banking, capital market, asset management, etc. So we had approximately 90 to 100 more consultants at the time. Our Menlo Park office I think had 40 consultants at the time chasing mostly dotcom searches, so it’s a completely different business. So when that Internet business went away, there was a direct impact and a correlation to the results that we saw at that period in time.

If you look at what we have done as a new organization from a management perspective over the course of the last three to five years, we’ve really focused on our cost base. And you can see that by being very prudent in the hires that we’ve made; we have a training development program in place that I think is second to none in the search industry and that’s in all four regions; we have hired some great people over the last couple of years; we’ve driven productivity up from $1.2 million to $1.6 million over the course of the last four years; we’re focused on making sure that margins, we do see the margin expansion in Europe as we committed to and we’re at 14.2% and we believe we’ll get to the high teens, we continue to drive that margin there; while simultaneously focusing on capturing market share.

So there’s a huge difference in what happened in the technology practice in 2000 versus what’s happening in financial services today. If we were going to see a similar thing happen, we would have seen the financial services practice fall off a cliff about six months ago as it was perceived to and not seeing the growth that we’ve seen sequentially quarter-on-quarter here in 2008.

Operator

Our next question comes from Andrew Fones - UBS.

Andrew Fones - UBS

I had a quick follow up. It looks as though across your practices, technology and education accelerated from Q1 to Q2 in terms of year-over-year growth while the others kind of slowed. Can you talk about what was driving the strength in technology and education and if you wish to comment on the other practices, that would be great?

L. Kevin Kelly

One thing that we consistently do is we look at our portfolio of industry practices and functional practices. And when you’re skewed towards one such as financial services, we want to make sure and our goal is a collective goal not only as an Executive Committee but a management committee is to have a broader spectrum of industry practices. Last year we realized that our technology practice wasn’t as strong as it had been historically. Heidrick & Struggles was known for its technology practice. Our life sciences practice wasn’t as strong as it had been or could be, and our education/nonprofit practice.

So if you look at the investments we have made across the globe and vis-à-vis people and our recruitment effort and our go-to-market strategy or key account strategy, we’re very proud of what we’ve accomplished not only in life sciences under Graham’s leadership but also under [Verna Pank’s] leadership in technology, and particularly here in North America we’ve added six new consultants in technology. And a lot of it I attributed to getting back to basics, going after our key accounts, and delivering a better relationship management capability with our clients. And that’s something we’ll continue to do.

Will financial services remain at 33% of the firm? Probably not and that’s not because financial services is going to fall off a cliff, that’s going to be because we continue to invest in those areas that we don’t have the strength that we believe we need across the globe.

Andrew Fones - UBS

So in terms of what does appear to have been a difficult quarter in Q2 last year but a very strong quarter perhaps for you this year in Q2 for technology, you would attribute that mostly to the hires that you’ve made?

L. Kevin Kelly

We hired a new global head of technology from a competitor last year. We hired a number of consultants in Asia and in North America in technology and Europe. So it’s adding bench strength and covering those clients that we haven’t historically covered.

Operator

Our next question comes from Tobey Sommer - SunTrust Robinson Humphrey.

Tobey Sommer - SunTrust Robinson Humphrey

I was wondering if you could quantify the contribution of the incremental cost savings initiatives that you’ve instituted for the back half of the year. In other words, I’m trying to get a sense of the contribution that has to the 13% operating margin for the full year.

L. Kevin Kelly

I think we stated and we expect it to be $8 million or more in the second half of the year here, all of which we expect to drop to the bottom line. I’m not sure I want to get into the granularity of how much that’s going to come from travel and other areas other than to say that in our business, obviously compensation so anything related to open positions and stuff is our biggest expense and travel is right up there as well as an area where we can do much better; get people off the planes and on phones and on video conferences. But beyond that getting into which one’s going to contribute how much, I really don’t want to get into that level of granularity.

Tobey Sommer - SunTrust Robinson Humphrey

In terms of the ranking of your costs, obviously human capital and compensation is the largest. Is travel kind of third behind real estate generally?

L. Kevin Kelly

It’s down there, yes. Real estate’s clearly number two. Real estate’s obviously something we’re going to look at but that’s not a short term item. That’s something which I think there’s a lot of room for improvement which we’ll roll out over the next year, frankly probably the next couple of years given the nature of real estate. Travel falls right into the next category. I think travel, IT spend are probably pretty close to each other in sort of the next level of spend. But that’s a fairly significant step down from real estate and compensation.

Operator

I am not showing any other questions at this time.

L. Kevin Kelly

I’d like to say thank you for joining the call today. Scott, welcome to the firm. And I would like to thank all of our consultants across the globe who continue to make a significant impact, not only for Heidrick & Struggles but for the regions in which we operate. Thank you all and we’re excited about the business and the next six months. Have a great day.

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: Heidrick & Struggles International, Inc. Q2 2008 Earnings Call Transcript
This Transcript
All Transcripts