Barrett Business Services CEO Discusses Q3 2012 Results - Earnings Call Transcript

| About: Barrett Business (BBSI)

Barrett Business Services (NASDAQ:BBSI)

Q3 2012 Earnings Call

October 24, 2012 12:00 PM ET

Executives

Jim Miller - CFO

Mike Elich - President and CEO

Analysts

Jeff Martin - ROTH Capital Partners

Josh Vogel - Sidoti

Michael Hughes - SGF Capital

Operator

Good morning everyone and thank you for participating in today’s conference call to discuss BBSI’s financial results for the third quarter ended September 30, 2012. Joining us today are BBSI’s President and CEO, Mr. Mike Elich and the company’s CFO, Mr. Jim Miller. Following their remarks, we’ll open the call for your questions.

Before we go further, I would like to take a moment to read the company’s Safe Harbor statement within the meaning of the Private Securities Litigation Reform Act of 1995 that provides important cautions regarding forward-looking statements.

The company’s remarks during today’s conference call may include forward-looking statements. These statements, along with other information presented that are not historical facts, are subject to a number of risks and uncertainties. Actual results may differ materially from those implied by these forward-looking statements.

Please refer to the company’s recent earnings release and to the company’s quarterly and annual reports filed with the Securities and Exchange Commission for more information about the risks and uncertainties that could cause actual results to differ.

I would like to remind everyone that this call will be available for replay through November 24, 2012 starting at 3:00 p.m. Eastern Time this afternoon. A webcast replay will also be available via the link provided in today’s press release as well as available on the company’s website at www.barrettbusiness.com.

Now I would like to turn the call over to the Chief Financial Officer of BBSI, Mr. Jim Miller. Sir, please go ahead.

Jim Miller

Thank you, George and depending upon where you are dialing in from, good morning or good afternoon, everyone. As you saw after the close of the market yesterday, we issued a press release announcing our financial results for the third quarter ended September 30, 2012. The momentum we realized in the first half of the year grew stronger in the third quarter as seen by our 37% year-over-year increase in gross revenues.

We attribute these results to be BBSI’s maturing brand and strong referral channels that have helped fuel new client growth along with our ability to retain existing client.

BBSI’s operations-driven results oriented approach continually supports the evolution of our client’s businesses and is responsible for our better than 90% retention rate. These positive results have also been supported by the proactive investments we made in our operational infrastructure and professional talent which we continue to revolve BBSI into a more mature company.

Before taking into our financial results, I would like to mention that yesterday’s earnings release summarizes our revenues and cost of revenues on a net revenue basis as required by generally accepted accounting principles, or GAAP.

Most of our comments today, however, will be based upon gross revenues and various relationships to gross revenues because we believe such information is one, more informative as to the level of our business activity, two, more useful in managing and analyzing our operations and three, add more transparency to the trends within our business. Comments related to gross revenues as compared to a net revenue basis of reporting, have no effect on gross margin dollars, SG&A expenses or net income.

Now turning to the third quarter results, total gross revenues increased 37% to $558 million over the third quarter of 2011. California, which comprised approximately 87% of our overall third quarter gross revenues, increased 44% due to continued growth in PEO business. Overall PEO gross revenues increased 41% to $522 million over the third quarter of last year primarily due to the addition of new clients as PEO business from new customers more than tripled our lost PEO business from former customers as compared to the 2011 third quarter, which follows a similar trend we experienced throughout 2012. Our PEO revenues from existing customers experienced approximately a 4% increase year-over-year due to increases in both headcount and hours worked.

Staffing revenues for the third quarter of 2012 increased 5% to 36.2 million primarily due to an increase in revenue from existing customers as the addition of new business nearly equaled lost business from former customers.

On a percentage basis, gross margin for the third quarter was 3.9% as compared to 4% for the third quarter of 2011. The key components of this quarter’s gross margin are as follows.

Direct PEO cost as a percentage of gross revenues in the third quarter increased to 84.4% compared to 84.9% in the same quarter last year due to increases in the overall customer market percentages as a result of price increases experienced primarily during the last six months.

Workers compensation expense as a percentage of gross revenues was 4.1% which is up 40 basis points from the same quarter a year ago primarily due to an increase in the provision for estimated workers comp claim cost as well as to higher broker commissions and higher safety incentives.

Looking ahead to the fourth quarter of 2012, we anticipate that 4% level of gross revenues for workers comp expense to continue. Payroll taxes and benefits for the third quarter increased from approximately 7.5% of gross revenues to 7.7% primarily due to higher state unemployment rates in various states the company does business in.

SG&A expense increased 29% to 12.7 million versus Q3 of 2011 primarily due to a higher rate of profit sharing based upon increased flat performance and increases in management payroll as well as to the variable expense components within SG&A to support the business growth. Our income tax rate for the third quarter was 32.4% and we expect this rate to remain at a similar level for the fourth quarter of 2012.

Now turning to the balance sheet at September 30th cash, cash equivalents and marketable securities totaled 50.7 million compared to $81.1 million at December 31st 2011. This decrease was primarily due to the repurchase of approximately $3 million shares of the company’s common stock associated with Estate of William Sherertz and Nancy Sherertz for total consideration of approximately 59.7 million or $20 per share. As part of the financing of its repurchase, the company issued and redeemed within six months all outstanding shares of the Series A, nonconvertible, non-voting redeemable preferred stock for 34.8 million on September 21st, 2012. We funded the redemption using a combination of cash and availability under a new revolving credit facility provided by our principal bank.

This five year credit agreement is revolving reducing secured loan initially for a maximum amount of $24 million. Advances under the revolving or reducing loan bear interest at our discretion at either a fixed rate for a term from time-to-time or fluctuating rate. In each case, the rate is calculated based on LIBOR plus 1.75%. Redeeming the preferred stock allowed us to avoid paying a semi-annual dividend on a preferred shares of approximately 870,000 that would have been due September 28, 2012.

We are also negotiating with our principle bank for a term loan in the amount of approximately 5.5 million to be secured by our corporate office building here in Vancouver, Washington which is expected to be finalized November 1st and will increase the total credit facility to approximately 29.5 million.

At September 30th, however we had no outstanding borrowing on the credit facility primarily due to temporary steerable timing differences between cash collections and cash disbursements which resulted in a high cash balance that we used to pay down the line completely. However, as we move to the fourth quarter, where we will have the majority of our 2012 corporate estimated income tax payments due as well as inter-company captive insurance premium payments, we expect to carry a balance on the line at December 31st 2012.

We generated approximately 32 million in operating cash flow during first 9 months of 2012. Pre-cash flow during the first nine months was approximately 18 million. Most of our cash generated from operations is in the form of free cash flow except for the build in the workers compensation and safety incentive liabilities. If cash used to fund our insurance subsidiary is primarily generated from the workers compensation expense which we recognize to be not immediately pay out to third parties. During a period of growth as we are experiencing free cash flow tend to be in line or exceed our net income on an annual basis.

Now turning to our outlook for the fourth quarter of 2012, we are expecting gross revenues to range between 585 million and 590 million. This projection represents a likely midpoint increase of 39% over the 423.6 million in gross revenues for the fourth quarter of 2011. The projected increase of 2012 fourth quarter gross revenues is based upon our recent revenue trends.

We expect diluted income for common share to range between $0.75 and $0.78 compared to a net loss per common share of $0.01 in the year ago quarter. Diluted loss of common share in the fourth quarter of 2011 reflected an increase for the company's workers compensation reserve of approximately 8.5 million as a result of adverse loss development, partially offset by favorable income tax rate benefit related to the effect a much lower annual effective income tax rate attributable to life insurance proceeds.

Without the effect of these items, diluted income per common share in the fourth quarter of 2011 was $0.41. We continue to be very enthusiastic about the momentum in our financial results over the past several quarters. I look forward to addressing you again on our fourth quarter earnings call.

Now I would like to turn the call over to our President and CEO of BBSI, Mike Elich, who will comment further on the recently completed third quarter and our outlook for the fourth quarter of 2012. Mike.

Mike Elich

Good morning. Hard to say anything more than very pleased with the quarter, very pleased with the quarter overall. In the quarter we saw a continued growth in our new client add. I continued to be very impressed with the rate at which we're maturing and as an organization against record levels of growth and overall I'm just very fortunate to be part of this great organization.

In the quarter we added 171 new clients, we lost 34, five of the clients left to AR issues, seven left for non-AR issues, typically risk and work not involving effectively in our tier model of measures for progressing the company, our client. We had 14 clients leave because the business either sold or close, which is a little higher than we've seen in the past. Seven left due to pricing, are taking payroll inside and one left to a competitor. So overall our net build on our client base is 137 clients. The net gain of 137 clients represents a quarter-to-quarter or year-over-year add of 54% growth compared to previous years. In the quarter, we also saw our clients began to higher, 43% of our clients added headcount 28% reduced headcount fairly in line with what we saw in second quarter, 29% remained unchanged.

In the quarter we saw 55% of our clients increased hours worked, while 41% reduced hours worked. So, we continue to see a net gain there. In the second quarter we actually did see gain of 60% of our clients adding hours so 55% was offset like a little bit.

Overall, we continue to run very well. We are seeing returns on the investments made back into the branch infrastructure to support a larger more complex organization. We made significant progress on the quarter on lining investments on our corporate infrastructure which is IC systems, people etcetera to support our future growth. Our pipeline overall we continue to see growth coming from a broader base of branch operations in industry sectors. We feel that the continued strong momentum in our pipeline is attributed to the continued maturing of our brand and organizational culture.

We continue to see a high retention level which is also supporting the growth in the overall business in the client and second and third year yield at higher return on our investment and with a 95 plus retention level at this point, we continue to be able to build and continue managing net gain on our client build.

Overall by region, (inaudible) Southern California still continues to see double digit growth. North West oddly was more flat in the quarter, although we did not lose ground there. Mountain states were seeing growth in both PEO and staffing where on the East Coast we saw strong growth and PEO where staffing was flat.

Continued tailwinds, our pipeline remained strong and our customer base is probably healthy as I’ve seen it. We see ourselves heading ahead of plan to align the organization to support our growth curve. When I took over almost close to two years ago, I figured it was going to take us roughly three years to really convert to do we need to be here, get to where we need to be and today I feel like we’re probably year ahead of where I thought we would be by this point, very, very positive. Headwinds that we’re experiencing and this is an issue that surfaced in mid-September. There is a bill that was passed in California it was targeted towards workers comps form. The bill for 90% of what’s in it is very positive for us and it removes some of the frictional cost that we incur relative to client management and cost of workers comp claims.

The one part of it that becomes a little bit rough for us is section 12 of the bill, there was a targeted some bad actors, be it past performances of PEOs that did not do very well on the stage, unless what's the stage holding the bill and because of that there is a clause that prohibit PEOs from being able to be self-insured in California effective 1/1/2015.

For us we've taking several steps forward in addressing that area as it does affect us, but we feel very confident that we have several mechanisms in place to be able to continue to mature the organization and find alternatives to that section in the bill and by personal I feel that the steps that we're taking are going to continue to make us a stronger company and on the other side of it, it's going to offer us a stronger competitive advantage.

Moving forward we'll continue looking internally to infrastructure to support growth. We gain efficiencies in our branch operations and at corporate. All efforts are geared towards strengthening and maturing the organization’s product offerings and creating a broader runway in front of us so we have time to adapt to any changes in market and overall continue to mature our product.

You have to remember we still don't only have roughly, if it ends at all, 1% penetration in existing market. So we still have a lot of work to get done and as our product continues to mature, we'll continue to get momentum in gaining market share as well. With that I will open up to questions.

Question-and-Answer Session

Operator

We will now begin the question and answer session. (Operator Instructions). Our first question comes from the line of Jeff Martin with Roth Capital Partners. Please go ahead.

Jeff Martin - ROTH Capital Partners

Mike can you elaborate on workers compensation reform bill specifically the section 12. What are the possible outcomes and what are your options in terms of alternatives in preparing for if the you know not a material event for your business?

Mike Elich

You know if it were today, it would be a bigger issue with having two years to work through it or actually 26 months from today. One of the things that, if you go back in time, a couple of years ago, workers comp was a much larger portion of our product offering and today, I know as I’ve continued to mature organization and push the envelope towards less reliance on the fact that we’re self-insured. It really puts us in position where one, first of all we’ve been self-insured in the market for close to 20 years and have always been a good citizen in the process. And so we’re going to pursue avenues that are going to get people to really listen to the story and recognize that an adverse selection was created in the bill. That’s step one.

Step two is that there are other alternatives. People asking some time as why are we self-insured. Well, primarily the reasons for being self-insured is that we invest a lot of energy and time into reducing cost for our customers in the area of workers comp through mitigation of exposure to risk and making them cleaner and tidier. And being self-insured allows us to share in that success. So, what the problem was going out to the insurance market is, is that you ultimately might lose some of those competitive advantage that you have to get the job done, mainly in, can we share in the gain, or do we get stuck in the adverse selection of insurance. We end up being better than the whole, and so we end up paying for those that aren't as good.

So as we look to fix that, I think that we’re building better relationships, than we had before in the area of insurers that might offer us a measure, we’ve always been, not really a cast upfront, but in a lot of ways, always having a retention of using Charters or ACE or AIG. That’s five million. We’ve always had somewhat of a front. So the first step is figuring out how can we, maybe mature what that looks like. The other part is that we do own an insurance company and I think that there is more that we can do on that area as well and that will help us to maybe offset some of the adverse effects to, or having to go directly to market to get coverage for our client.

Jeff Martin - ROTH Capital Partners

Okay. Are you going to dedicate incremental resources to this? Namely are you going to have some sort of step up in SG&A that at this point?

Mike Elich

Yes, we’ll see some of that, I don’t know that that will be very material over the next year. We are already actually quite away the head of the ball and it’s process so frankly we are going to see some step up probably on legal and some different areas but I don’t know that it will really be material and the effect to our earnings.

Jeff Martin - ROTH Capital Partners

And then shifting gears to the California market, you had some expansion, two new branches and then creating some braches within branches. I was curious if you could give an update on how that’s going obviously by the growth numbers. It’s going well but if you could give us some detail there and highlight some of the additional expansion plans if you’ve got incremental plans at this point.

Mike Elich

I am very excited about what we are seeing in this area. One of things that we discovered probably close to a year ago or at least in the first quarter of this year was that as we expanded the way that we looked at the structure of our internal branches, needed to mature or going a different direction and not necessarily a different direction but needed to evolve and so the business unit concept or business unit product that we morphed our branches into, or better said branches inside branches, is coming along very well. What we’re seeing out of that is that the product quality and integrity within those business unit is combining resources more effectively as we interface with our client. And so we’re seeing a couple of things. We’re seeing one where we’ve increased capacity but I also believe that our product quality and who we are as an organization is better affected through that business unit infrastructure. So we’ll continue to mature that in a direction and we've got a lot of runway there and a lot of opportunity to continue to mature the business unit concept and we are probably building up front of ourselves a little bit and we've done that probably in the last two quarters to get our first sales moving in that direction. So we continue to see more in that, but two branches that we've opened up, both (inaudible) they've got off the ground very well.

They are contributing to our growth but more importantly, they are allowing us to maintain consistency within our pipeline because the low leveling efforts that is allowing us to focus on those markets as opposed to stretch in branches further than they should be working. And then ultimately, we’re always looking for fillers or gaps within the market. We have some things that we’re doing in the Mountain States that I think are going to help in the next year to expand and continue to mature those markets for us. Within California, we can actually take our client base and spatter up against the Google map and we can literally see where all of our clients are and recognize where we're maybe being pulled and we’ll continue to look to see if we need extra capacity to support clients in those other markets.

Besides from that, we’re still growing up, we’re really trying to ensure infrastructure, one of the areas that we really put a lot of energy this year is organizational and talent development internally and how we’re keeping everybody on the same page. Today, we have again another two day boot camp of new hires at corporate and this is the third one since early July or mid-July and in doing that we continue to mature the organization and keep everybody on the same page and I think that’s probably going as far to increase on our capacity and increasing the leverage within the organization as adding a new branch ever would.

Jeff Martin - ROTH Capital Partners

And then that kind of segways into at what point do you look to expand outside of California and what would be the (inaudible) to that strategy?

Mike Elich

Well, I think you know the mountain states really gain the momentum that we see potential for and really pushing that over the top is part of it. I think that in pockets we’re already seeing the kind of growth in several markets in the mountain states. Idaho Falls believe it or not is growing at the level and rate of many of our California branches. So how do you unlock what's going on there and then unlock that in actually some bigger markets within the mountain states, that’s a big part of that.

The other part is also looking at what we've accomplished on the east coast. We continued to see 40% plus growth rate on the east coast and so looking at what’s going on and what’s worked there, how do we expand on that and then how come we do tuck in markets.

I still believe that there is a lot ways for us to expand one of the keys to our developing new markets is going to be first off developing talent within our business units, which becomes carry on of our culture and who we are into new markets. So, for instance if we are somebody that worked in a branch in southern California and they really wanted to move to say Texas or New Mexico or some other market besides where they were at and they had been in our ranks and have been able to develop the skill sets and really understand our product, we can now go to either Greenfield or (inaudible) position of some sort, because we can transfer culture more effectively into those markets.

The other part is, if you look at, I kind of use a little bit of how Costco expanded. It’s brand led its expansion and as you reach tipping points in your brand, more people are talking about it in local markets but that has spill over into new markets. So how can we get our message out in front of us and learn how to get it tight enough that as we go to new markets, we have readymade customer basis we move there. And we are working towards that right now, but I say, over the next couple of years we can see that opportunity coming together.

Operator

Thank you. (Operator’s instructions) And the next question comes from the line of Josh Vogel with Sidoti & Company. Please go ahead.

Josh Vogel - Sidoti & Company

Just building off the earlier questions about the branches, I was just curious how much, I think I ask this pretty much every quarter at this point, but how much capacity do you have left add existing branches and should we expect to see any significant hiring or investing in new build outs in the next quarter or two?

Mike Elich

We have done a lot this year and I think that one, the way we’re building our branches now, we don’t see limit yet to the capacity of an individual branch. So, there is significant leverage ahead of us and across the board. Our Ontario branch for instance has five business units. So that's five branches within branches. And as we recognize capacity, we will add to additional business units. The one thing that becomes a little bit of a drawn, our capacity is just the overall function of paper work and how we process payroll and how big the pipe is coming in.

One of things that we've been working on the last couple of years is the implementation of a new payroll system which right now we’re actually stress testing before implementation that's’ scheduled to start February. And that's going to actually add a lot of capacity to each one of our business units and/or branches as they sit. So I don't think we probably know the full potential of each business unit and how much leverage we can get out of it until that comes together. But that will help.

The other issue that we're looking at is how do we refine best practice around just simple things like track paper flow within our organization from our customer, the contracts, all the different places where we touch paper that impinges on our capacity and as we refine that over the next couple of years, I don't see capacity issue being in the market. I see it being more internally as how well can we get the job done faster and focus on the right areas

.

Josh Vogel - Sidoti & Company

Okay. Great. And with regard to the payroll system, do you have a target set for basically like a full roll out?

Mike Elich

We're going to start and we're fortunate that the way we can do the roll out is one client at a time and then once we get that going and we're comfortable with that, then we can go block the clients at the time. So we don't have a kind of a dead man switch where you got to get it done today over the weekend that could really hurt you.

So, we can go as fast or as slow as we need but our target is right now to accomplish that conversion in the year 2013 because we do not want to be operating off two systems by the end of next year. But we're going to take it as slow or as fast as we can. We're not going to get off in front of ourselves, we're trying to maintain transparency even to our clients to the standpoint that they're going to see a cleaner system that has many more capabilities but at the same time we're not going to do it at the expense of making sure that we're maintain the integrity in our product.

Josh Vogel - Sidoti & Company

Okay. Great. And Jim, you were talking about some favorable timing with regard to some working cap items and I was wondering if that's expected to reverse course or it is expected to reverse course in Q4, but should we expect to see a modest free cash outflow.

Jim Miller

Yes. There will be some definitely some cash outflow during the fourth quarter coming from income tax payments that are due for corporate income tax and certainly some funding of our captive insurance company too, but on the whole, cash flow, free cash flow should continue to build with that said. And at the end of the quarter here at September 30th we had some situation where you have, probably being a very high collection date, yet the associated payroll and payroll taxes with that collection in a lot of ways does not share account until the following Monday or Tuesday. So, that’s what gave us the very favorable cash position at the end of September.

Josh Vogel - Sidoti

Okay. And I believe you said the available capacity right now on the credit facility is 24 million?

Jim Miller

Right, soon to be 29.5.

Josh Vogel - Sidoti

Okay.

Jim Miller

And so I guess a person can look at that and say geez, why do you need that kind of capacity? And when we’re reporting the credit facility together working with our banks here several months ago, we wanted to remain conservative and given the the environment, with low interest rates the way they are, seem like the prudent thing to do is ask for more than we need. Certainly the old saying goes that when you need it, it’s hard to get, when you don’t need it, it’s much easier to get. So, that’s the route we took.

Josh Vogel - Sidoti

Of course. Can you give us a sense maybe of how much that you expect to be carrying at year end?

Jim Miller

I think on the line of a rough ballpark estimate might be 10 to 15 million.

Operator

Thank you. And our next question is a follow up from Jeff Martin from Roth. Go ahead please.

Jeff Martin - ROTH Capital Partners

Thanks. Wanted to touch on pricing, the majority it sounds like of the recent price changes were over the last six months. Is there still some to go there, I mean is it worked into the renewal process? Are you proactively refreshing existing clients need contracts like that would be helpful?

Mike Elich

No, that's price primarily and that’s something that we’ve done, it’s been very different than what we’ve done in the past. We’ve tied it to the legal process so as contracts continue to come due, we’re going and revisiting. And it’s not an increase across the board by any means; it’s going and looks at the individual clients and figuring out where we really need to be with them doing some retention. I think the biggest thing from my perspective is to get out there, we have to increase prices or we have to look at it differently. It’s more important things in line because what you don’t want to do is go and create a position of that with selection we all decided, your best customers are leaving and the worst ones are hanging around because of price. So, we’ve been very careful about that because of the fact that we have a lot of our customers have been written around the one-one contract date. Maybe a third of our customers probably will be up for review here in the next two months. And so that will create the next little wave. But it's on an ongoing basis than, we've probably two thirds of the way to maybe 75% through it and today, we've really not seen any adverse selection or adverse process because of that change.

Jeff Martin - ROTH Capital Partners

Okay. And do you anticipate to be the case going forward or is this kind of a onetime rationalization given that you really didn’t increase prices for the better part of four, five years.

Mike Elich

Yes, I think that's part of it. We don’t look necessarily to market to figure out what we need to price to. We look at what do we need to price from a capacity utilization. And we look at a lever point and then we have to invest back into our client. We're trying to return ourselves and it’s an amount that fits within our model one and that's where the target remains as opposed to just trying to figure out what we can get.

It's more of an operational look at the businesses as opposed to a market look at the business and so we'll continue to evaluate the situation as customers get cleaner and cleaner and cleaner, we've got some flexibility there for players just because it’s not affecting our overall infrastructure as much.

Jeff Martin - ROTH Capital Partners

Okay. And then, am I correct in understanding that, that shows up as when people model the status shows up in the direct payroll cost percentage of gross revenue coming down?

Mike Elich

Yes, that’s where I look at it. It’s the net spread between top line and then the payroll percent and if you go back to the reason why we look at the growth from a management standpoint, those numbers all stay in line. If you look at the net, I don't even know how you would try to figure out what it is.

Jeff Martin - ROTH Capital Partners

Right, right. Okay. So probably a little bit of room for that number to come down a little further and just looking back on the last three quarter has been coming down. And Q2 to Q3 was the more prominent of the decreases of direct payrolls as a percentage of gross revenue.

Mike Elich

You know it’s the hardest thing for me personally to watch and we’re either get excited about it or know where it’s going to end up. I know where we're trended to or felt we would trend to, those levels have been met. And it’s just like guiding. When we look at the guide in our quarter, we’re not trying to understate, where we are at. It’s just where we run, when we look at the quarter, we kind of look at where we are at in the first quarter, well probably last four weeks and that becomes our trend going into the quarter. And so as we look at those, we look at where that trend moves week to week and then we take to that out and then that becomes our new basis, its beginning of the next quarter. And so it’s really hard to say. I think it will come down a little bit more, but I don’t know how much. But I know that if we can operator our business effectively at the levels we’re at today, it will probably get better and more favorable for us.

Jeff Martin - ROTH Capital Partners

Okay, very helpful. And then a couple more questions. Again on the line of credit, do you see that coming down on a sure shot basis after Q4? Do you think it will remain 10 to 15 million for the balance of next year as well?

Mike Elich

Yes, I would say if we’re 10 to 15 million at the end of the year, we might be at a similar amount at the end of 1Q of 2013. But beyond that, with the strong second, third, fourth quarters of next year, we envision being out of the line for the majority of that time.

Jeff Martin - ROTH Capital Partners

And then Mike, one more, if I may go back to the old press conference forum in California, have you spoken with clients at all about various scenarios and gotten feedback from them? And then secondly on top of that, what percentage of clients right now carry the workers comp coverage for you?

Mike Elich

In California, 100% of our clients, well, I would say 99% or 98% of our clients are within using our self-insurance product. And no, we haven’t directly; I know our branches have addressed questions as they've come from both clients and referral partners. I think at some point, when people understand the value what they are getting from us and it’s our job to continue to make sure that we’re delivering that and making it less and less about comp on a year-to-year basis. And we’ve been on that trend for quite a while but as importantly, we only have stuff that we have to re-engineering and fixing. And so, I think that, people understand that and they’re given us room to do it. With 26 months’ time, people ask maybe you have what is that 2% off comps that you can’t fix it or you can’t come up with a and I go all, that's my 2 O’clock, that’s my 2 AM time. So that’s the thing I wake up every morning and as people ask me what keeps me up at night, that’s 2% faster and because I wake up every morning and think about it, I write a few things down and every day we kind of get a little bit closer to the answer. And so I think within 26 months we’ll have the results. I think we’ll have the result much sooner than that but we've got a little bit of runway.

Jeff Martin - ROTH Capital Partners

And do you see that resolution coming through or reform to the bill or do you see that resolution coming through a work around to the new one?

Mike Elich

Yes, it’s hard to say, we are still really a discovery mode, the bill is still somewhat new. I don’t think anybody knows what the final bill really look like. By the time it gets beat up and it was very unpopular, it was a bill that passed, I think it was 11 o’clock the night that the bill was before the end of the session. It was actually pushed through by the governor because he wanted it done for whatever reason. And so I think it will go through a lot of iterations before its finally done, but at this point, we’re looking at roughly four or five different ways of approaching it or four, five options as we move forward. And to me I look at it as a little bit one of most times where it’s an opportunity to refine or build whatever risks or exposure might have be in the business model out of it. And so I consider this has been one of those things again, it makes you better if you approach it right.

Operator

Thank you. And our next question comes from the line of Mike Hughes with SGF Capital, please go ahead.

Michael Hughes - SGF Capital

Staying with workman’s comp issue, you mentioned having your own insurance company. Do you actually have your own insurance company in California right now?

Mike Elich

Not yet, what we do is we have a company that we run for the last, it will be three years in January and interesting enough, you need craters of seasoning to be able to make application to get that ensure readmitted. And so if that were admitted in the state it gives us a lot of flexibility to be who we are. We’re also, we made application in a couple of other states, Nevada, Utah, Colorado and that’s moving along very well. And so that’s all part of the process.

Michael Hughes - SGF Capital

Okay. So worst case scenario, why wouldn’t you just run this through your own insurance company in California? How would the economics change if you had to do that?

Mike Elich

It’s just one of five of the options that we’re looking at. I chose to not have all the eggs in one crate. We’re looking at that. We’ve operated as a good citizen in California. We have done a lot of real good things for a lot of small businesses and I could kind of get probably a really honoree about the situation where legislators will go and make decisions without really understanding the fact. And the way the bill went through, there were even some businesses inline that were protecting themselves, they got behind the bill and hindsight, I think that they fell and their conversations that we had that they were maybe misinformed about all the facts before it went through. So I think it’s one of the things that we’re not just going to give up on, we’re going to work through it, but we do have several options. Part of it is that I’m using this as an organization to mature who we are and so I’m not just say the facts and we can move on and I’m trying to use it as a way to make we’re maturing in the most effective way.

Michael Hughes - SGF Capital

Okay. Could you actually work this to your advantage, meaning if you use your insurance company in the State of California, could you move to like a reinsurance model and then the excess coverage insurance to that cost would be reduced and this actually could be a net positive at the end of the day?

Mike Elich

Yes. And ultimately I think that when we get this piece resolved, we’re going to be very, very, very powerful company and I think that with where we’re going, however work starts it will give us a platform that's consistent across the board and we can ultimately replicate it anywhere we go. And there is some fundamental things, you grow up from who you have been to who you are, that’s one way. And then you look who you have to be moving forward and we’re really looking at how we fix the saturation more systemically then we are just as our goal, and this will a fixed problem. I see great benefit if we do it right.

Michael Hughes - SGF Capital

Okay. And then a couple other detailed questions. The SG&A was about $2.2 million sequentially, could you bucket that that $2.2 million increase between incentive comp and other categories?

Mike Elich

You know bonuses sequentially year over year; it’s going to be up because our branch is being more profitable. You’re going to see more dollars being accrued back in to profit sharing. Also we continue to build infrastructure and we’re building out in front of ourselves. We hired probably one of more aggressive rates this year than we have in several years. And are continued to build our bench yet. I like to say our payroll per week is up roughly on a year-over-year; I want that two years is up about 100,000 a week. But our margin generated in that same period is about, up about 1.3. So, even though SG&A has increased, we are levering that and we continue to gain more leverage against that. But yes, now we are going to continue our job and the way I see it is to run a company that’s built to last and it’s going to be built under the future, around a strong culture and a strong infrastructure that can support and stick up and basically be able to bend in the wind but not break and that’s all part of the process.

Michael Hughes - SGF Capital

Okay. And then my last question for you, just looking back to last year, I see the new customer adds in the third quarter of last year were I think 113 and they had been 151 the prior quarter whereas this year you added 182 last quarter and 171 this quarter. So I don’t know, if last year was an anomaly but it looks like the third quarter is typically more or less seasonally weak quarter for new customer adds but you overcame that this year. So, our performing, the economy in general, are things as strong today as they were coming into the quarter?

Mike Elich

I think the bigger way to measure it is what kind of new hirers and different things, but I think our brand continues to mature. I think it’s maturing across the broader base of branches. I think that if look at growth a year ago, it was concentrated a little more, today it’s much broader spread. Recent third quarter gets a little soft is because August and everybody had gotten vacation. This year seems like we had a lot more activity going on in August, but I would say probably the growth rate is 54% year-over-year, build is more in line with the broader base of branch growth operation adding to clients.

Operator

Thank you. And at this time this concludes our question-and-answer session. I would now like to turn the call back over to Mr. Elich for closing remarks.

Mike Elich

I truly appreciate you being on the call. I appreciate the patience that you have may be have to have throughout the years and trusting the leadership and the direction we try to take things. And I do feel very fortunate to be part of a great organization. And I really believe that our best phase are in front of us. I am very excited about things that were getting done. I am seeing things that I didn’t know were possible related to the maturing of our director level and our senior management and just the overall leadership bench in the organization. It’s not that we won’t stumble, we will, I don’t know when and I don't look for that, but we're trying to build those areas out. But I think as an organization, you're going to continue to see the product get stronger, you're going to continue to see us evolve and I like to think that we're building something that's not been done before. Thank you.

Operator

Ladies and gentlemen this concludes the BBSI conference call. Thank you for your participation. You may now disconnect.

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