Computer Task Group, Incorporated
Q4 2016 Earnings Call Transcript

Published: 21 Feb 2017

[Operator:]

Ladies and gentlemen, thank you for your patience in standing by. Welcome to the CTG Fourth Quarter 2016 Earnings Call. At this time, all of our participant phone lines are in a listen-only mode and later, there will an opportunity for question. [Operator Instructions] And just as a brief reminder, today's conference is being recorded. And I’d now like to turn the conference over to Director of Investor Relations for CTG, Jim Culligan.

[James Culligan:]

Thank you, Justin, and good morning, everyone. With me on today’s call are Bud Crumlish, CTG’s Chief Executive Officer; and Brendan Harrington, Chief Financial Officer. Before we begin, I want to mention that statements during the course of this conference call that state the Company’s or management’s intentions, hopes, beliefs, expectations, and predictions for the future are forward-looking statements. It’s important to note that the Company’s actual results could differ materially from those projected. These forward-looking statements are based on information as of today February 21, 2017. The Company assumes no obligation to update these statements based on information from and after the date of this conference call. Additional information concerning factors that could cause actual results to differ from those in the forward-looking statements is contained in our earnings release as well as in the Company’s SEC filings. It is now my pleasure to turn the call over to Bud for his opening remarks.

[Arthur Crumlish:]

Thanks, Jim, and good morning to all of you. On today's call, I'll discuss the highlights of the fourth quarter and the fiscal year as well as the actions we've taken to build a foundation for a new CTG, a foundation that will support our ability to consistently achieve profitable growth and deliver value to our shareholders. As announced in our press release earlier this morning, revenue and earnings per share for the fourth quarter were above the high-end of our guidance with revenue coming in at $77.5 million and earnings of $0.07 per share. Our Staffing business declined less than previously expected and our Solutions business grew modestly over the prior quarter. Notably, we retained a larger portion of the business that was set to expire with our largest staffing clients for year end. When combined with the proactive cost reductions we initiated last quarter, we were able to close out the year with better than expected results. With respect to our largest staffing client, we have worked with them to demonstrate our value to ease the planned reduction of staffing services, so that the loss of revenue from this client will be less than originally expected. Importantly, we have taken steps to reduce cost and right size our organization in the fourth quarter. We are now positioned to achieve greater efficiencies, increase our client base, preserve earnings, and prevent what could have negatively affected profitability. Our results for the quarter demonstrate the entire team’s focus on execution. I would like to summarize what we've accomplished since my appointment in mid-2016. First, we strengthened our leadership and sales teams by hiring and promoting a number of key personnel. This included the additional of multiple account executives focused on expanding the client base and driving new business. Second, we reorganized and expanded our recruiting and delivery capability. This was highlighted by the launch of our 24/7 offshore recruiting and delivery center in Hyderabad, India. Third, as previously mentioned, we took proactive steps reducing and containing costs across the organization. This was done to align expenses with expected revenue levels and drive increased efficiency and profitability. In short, we are taking the necessary steps to address sustainable and profitable growth. On top of that during the fourth quarter, CTG’s board authorized and expanded $10 million share repurchase program, which the Company has acted on aggressively in recent months. Since late November, we spent about $2.5 million and bought back over 0.5 million shares of CTG’s common stock at attractive values. While on the subject of the Board, since November of 2015 we’ve been actively seeking new directors with deep skill sets to help executive management develop strategy and execute to achieve growth. To this end, we had the pleasure of announcing the appointment of Owen Sullivan as our newest director. Owen brings over 30 years of executive-level experience in the staffing solutions and professional resourcing industry. Most recently, he served as President of ManpowerGroup's Specialty Brands, where he was responsible for all the non-traditional staffing and consulting business including IT staffing. I got a chance to sit down and talk to Owen at length and I'm very excited to be working with him. He is a knowledgeable person of the industry. Owen is a great addition to our Board and I'm extremely confident that his experience will prove to be valuable as we continue to execute on our go forward strategy. It is also worth emphasizing that with Owen’s appointment, we've now refreshed over two-thirds of our Board in the last 15 months. Now let’s go back to a strategic plan and financial goals. In January, we issued a letter to shareholders introducing a three years strategic plan and financial targets for 2019. These numbers are intended to be long-term targets, rather than specific guidance. We’re confident that we can meet or exceed these goals with a consistent execution to summarize our 2019 targets are as follows

[Brendan Harrington:]

Thanks Bud. Good morning, everyone. As we indicated in this morning’s news release, revenue in the fourth quarter was $77.5 million, compared with $78.1 million in the third quarter and $84.2 million in the fourth quarter last year. Negative currency translation reduced revenue in the fourth quarter by approximately $400,000. We have 63 billing days in the 2016 fourth quarter versus 62 in the year-ago quarter. Staffing revenue decreased by $1.1 million from the third quarter or 1.9% and declined by $2.5 million or 4.4% year-over-year. Revenue from our solutions business increased by approximately $500,000 or 2.2% sequentially during the fourth quarter and declined by $4.2 million or 15.7% year-over-year. Revenue from IBM was $23 million or 29.7% of revenue compared with $24.8 million or 29.4% of revenue in last year’s fourth quarter. Revenue from IBM decreased from $24.4 million in the third quarter of 2017 as we transition certain resources during Q4 as a result of reduction in our services which we had indicated in our October 2016 earnings release. Revenue from Lenovo was $9.3 million or 12.1% of revenue compared with $8.5 million or 10% of revenue in the year-ago quarter. Direct costs as a percentage of revenue were 80.8% in the fourth quarter compared with 82.2% in the third quarter of 2016 and 80.1% of revenue in the fourth quarter of 2015. The sequential reduction in direct costs reflects improved utilization following typical seasonality in the third quarter. SG&A expenses were 17% of revenue in the fourth quarter compared with 18.7% of revenue in Q3, which included severance charges of $1.5 million related to two former executives and SG&A expenses amounted to 15.5% of revenue in the year ago quarter. Excluding the severance charges in Q3 SG&A in the fourth quarter of 2016 was effectively flat sequentially, reflecting our ongoing efforts to contain costs. The effective tax rate for the fourth quarter was 28.8%, compared with the benefit of 1.3% in the third quarter and an effective tax rate of 33% in the fourth quarter of 2015. Net income in the fourth quarter was $1.1 million or $0.07 per diluted share compared with a net loss of $16.2 million or $1.03 per share in the third quarter of 2016 and net income of $2.6 million or $0.16 per diluted share in the fourth quarter of 2015. The net loss in the third quarter of 2016 included a combined $1.07 in charges related to goodwill impairment and severance. The 2016 fourth quarter results include equity based compensation expense of approximately $0.02 per diluted share net of tax. As indicated in this morning press release CTG’s Board recently approved an implemented new performance-based equity plan. For 2017, our equity-based compensation awarded to senior executives were consist of full performance-based restricted stock award that’s only if the Company's stock price increases significantly during a given performance period. This enhanced compensation policy further aligns the interests of senior management with our shareholders. On a full-year basis 2016 revenue was $324.9 million compared with $369.5 million in 2015. Revenue in 2016 was impacted by $626,000 related to negative currency translation. Direct costs for the full-year 2016 were $265.7 million or 81.8% of revenue compared with $302.3 million or 81.8% of revenue in 2015. As detail in today's press release, our full-year 2016 results included a combined $37.3 million in cash or non-cash impairment charges taken in the first and third quarters for the write-down of goodwill related to our healthcare business, as well severance charges of $1.5 million taken in the third quarter related to two former executives. At the end of 2016 CTG’s balance sheet included no remaining goodwill. Excluding these impairment and severance charges, non-GAAP operating income for 2016 was $5.5 million or 1.7% of revenues. Net income for 2016 on our non-GAAP basis, excluding the goodwill impairment and severance charges with $3.7 million or $0.23 per diluted share. A reconciliation of GAAP net loss to non-GAAP net income for the full-year 2016 can be found in today's press release. Our headcount at the end of the fourth quarter with approximately 3,400, compared with 3,500 at the end of the prior quarter and headcount of 3,600 at the end of 2015, approximately 90% of our fourth quarter employees were billable resources, consistent with previous periods. Turning to our balance sheet, cash at year-end $9.4 million and long-term debt was $4.7 million. Days sales outstanding were 85 days in the fourth quarter of 2016, compared with 76 days in the year-ago fourth quarter, primarily reflecting longer contractual payment terms with larger clients. The cash surrender value of life insurance was $31 million at year-end. Consisting with what we reported at the end of the third quarter, we continue to have two buildings listed for sale. The first CTG’s corporate headquarters building has a net book value of $1.2 million and remains on the marketed an asking price of $3.3 million. The second office property has a book value of $1.8 million and is currently listed at a price of $3.2 million. Although, we engaged a new brokerage firm in the second half of 2016, we have no formal offers in hand today for either property. That said, our ultimate goal continues to be a consolidation of our Buffalo based workforce into a single building here in Buffalo. CTG’s tangible book value at year-end was $4.94 per share. As previously mentioned by Bud in November of 2016, the Company’s Board authorized the repurchase of up to $10 million of CTG’s outstanding shares over a two-year period. During the fourth quarter and through February 20, the Company repurchased 563,000 shares at an average price of $4.40 per share, for a total cost of approximately $2.5 million. And as of today, there are approximately $7.5 million remaining under the existing repurchase authorization. Now turning to our guidance, we anticipate total revenue for the first quarter of 2017 to be in the range of $76 million to $78 million. We expect net income to be between $0.04 and $0.06 per diluted share. Operating margin is expected to be approximately $1.8 million or 1.8% of revenue. There are 64 billing days in the first quarter of 2017 as compared with 65 days in the first quarter of 2016. In terms of our tax rate for the first quarter, we expect an unfavorable change in accounting rules related to the realizable benefit on the equity based compensation to result in an effective tax rate of between 40% and 45%. For the full-year 2017, we anticipate revenue to be in the range of between $312 million and $332 million, which includes previously expected revenue decline of approximately $17 million in our largest staffing client as well as an approximately $4 million negative impact related to currency adjustment, assuming a stronger U.S. dollar in 2017. Excluding the impact of these items, the midpoint of our full-year guidance would represent 5.6% year-over-year growth. Full-year net income is expected to be between $19.29 per deluded share and finally our operating margin for the full-year is expected to be approximately 1.9% of revenue. Lastly, we expect the effective tax rate for the full-year of 2017 to be approximately 38%. With that, we will now open the call for questions. Justin, please manage our Q&A session.

[Operator:]

Certainly, thank you. [Operator Instructions] Our first question comes from the line of Vincent Colicchio of Barrington Research. Your line is open.

[Vincent Colicchio:]

Yes. Bud, I'm curious at your three-year plan, could you give us some help in terms of expectations for the solutions business?

[Arthur Crumlish:]

Sure. I mean we're continuing to grow. We’ve developed a solutions team to take a look at all our solutions across the entire company. We have some over in Europe that are not been implemented over in the U.S. and vice versa, so we're trying to bring this all together and leverage it as much as possible. Our plan is to grow the solutions business. We don't have a specific percentage that we've put out there, but we plan on investing in solutions and growing those solutions business.

[Vincent Colicchio:]

And in terms of your EHR progress in Europe, it is nice to see some of that. Could you give us a sense for where Europe is with EHR and do you expect to have some more broad success beyond Belgium over time?

[Arthur Crumlish:]

It’s hard to say about beyond Belgium. We have a specific university hospital that we've been working with and we have the five signed contracts today and there's more hospitals. Now this EHR business is not like, it was in the U.S. where you have these 1,000 bed hospitals and there are millions and millions of dollars, they’re much smaller and – but that we've lined up a bunch, we have some really strong capability from technical expertise over there. We’ve leverage some of our expertise from the United States over to Europe. And at this point, we haven't really gone beyond Belgium. Could it happen possibly, but we don't have specific plans lined up for that.

[Vincent Colicchio:]

And on the staffing side, your focus on the mid-size market, is that – I get it that the margins are better there and so – and get the logic. I'm just curious, is part of your decision to focus in on that target due to increased competition in the larger side of the market?

[Arthur Crumlish:]

No I wouldn’t say it. I mean I truly believe we can compete with anybody and this is an area that we never really went after before and as you say in terms of the margin, they don't have the big buying power that Fortune 500 have. So naturally, we can get higher margins and it’s also an area there with this permanent placement business that we’ve got engaged into, it seems like we can really help the mid-market segment with that specifically, and so that's really why we're going after it.

[Vincent Colicchio:]

Okay. I will go back to queue. Nice quarter.

[Arthur Crumlish:]

Thank you.

[Operator:]

And our next question comes from the line of Kevin Liu of B. Riley. Your line is open.

[Kevin Liu:]

Hi, good morning. Just a couple of follow-ons on the EHR business. What was kind of the run rate of EHR revenues in Q4 and then with the addition of these new contracts in Europe? How quickly or to what extent do you expect that business to decline over the course of 2017?

[Brendan Harrington:]

Kevin in Q4, the revenue in EMR was about $2.6 million, just over 3% of the total revenue and for the full-year that gave us about $14 million of total EMR revenue. We would expect that to drop probably not quite by – roughly a half as we continue to see some of that follow-up, especially in the U.S. And as Bud mentioned, the projects in Belgium are a little bit smaller than those projects we have historically seen in the U.S.

[Kevin Liu:]

Thanks. That's helpful. And then in terms of the three-year strategic plan, can you just comment to what extent you see acquisitions playing into that role? Is this all going to be organic growth or will you continue to look at opportunities to add to the revenue base?

[Arthur Crumlish:]

Yes. Kevin, this is Bud. We are always looking at and our Board considers all options in terms of something like an acquisition for growth. The way we built our plan, it wasn't dependent on acquisitions, it's really organic growth. So certainly an acquisition would further enhance our position in the future and it's got to be strategic, it's got to be the right fit, it's got to – everything has to line up for us to be interested in something like that.

[Kevin Liu:]

Got it. And just lastly for me. Can you just talk about the pace of stock buybacks, you expect going through 2017 and then also related to that what level of leverage are you comfortable putting under the balance sheet either on a gross or net basis?

[Arthur Crumlish:]

Yes. Kevin we announced the plan in the middle of November. We said $10 million over two years we basically doubled that pace in this past three months. We think that we will continue to be relatively aggressive related to the share buyback and I think the shares are at a good value. So we'll continue to focus on that, and that will be something that Board looked at on a regular basis to determine if we need to replenish the authorization for exactly how aggressive we are going to be, but clearly over the last three months, we have been. And as for the leverage, we had about $4.7 million a debt, but roughly $4.7 million net cash. On the balance sheet, we think the balance sheet is still very strong and believe that we could certainly add to the leverage there and continue to fund the buyback, and given the guidance that we have for 2017 projections, we would expect certainly the free cash flow to be able to fund the significant portion of that buyback itself.

[Kevin Liu:]

Got it. That's all I had. Thanks for taking the questions.

[Operator:]

[Operator Instructions] Our next question comes from the line of Bill Sutherland of Benchmark. Your line is open.

[William Sutherland:]

Thanks. Good morning, guys. Sorry about the background noise. I got on late, I'm sorry. Bud, but curious if you're – what you're seeing in the way of client behavior on sales cycles particularly in healthcare, is there any noticeable change in kind of the level of activity?

[Arthur Crumlish:]

Bill, yes, on our – the client behavior and healthcare level activity it's – I would say it’s pretty stable and it certainly is not what it has been over the last several years. But still there's a lot of things out there. There's different things out there that we're going out there, that's why we're looking at the – we're doing optimization and performance improvement. We're getting a good flow I would say, a decent flow of RFPs that coming that we respond to where people out there, and – but so I would say it's fairly consistent, it’s stabilized, like I said not very enthusiastic like it was several years ago where it was very, very busy involved in that so – but I'd say it's consistent.

[William Sutherland:]

Got it. I'm just sort of wondering about the political environment, whether that's changed, but it sounds like it really hasn't been in the places that you guys are looking for work. And as you develop more yourself over the middle market in the staffing side that is – are you doing any vertical focus or not? And then also how much kind of investment is gone into that at this point? Thanks.

[Arthur Crumlish:]

As far as the mid-market, we’re not going after any specific verticals and what we're offering we can offer across the Board, all industries. I mean today, we’re working in about 23 different industries, so it's nothing from a staffing perspective. It's always helpful to have certain recruiters and capabilities to go after certain industries, which we do have, but we haven’t outlined anything in particular to do that. And then how much investment has gone into it? Well, we're really looking into that. We've hired five account executives in the U.S., and actually we're going to be adding others as the quarters come off, but the five are the basic ones and then we've also – as far as investment to with our operation in India, we've ramped that up and that's been a big help. They've been working on the permanent placement business associated with these middle market opportunities as well as getting us into more, which is on a higher level, the large MSP program, because we've got to have capacity in order to compete and this gives us that capacity to be able to do that. So that's really our investment.

[William Sutherland:]

And so as you are going to be working with another vendor MSP, you’re not going to offer your own MSP at this point?

[Arthur Crumlish:]

We've considered that and that's something that we’ll always take a look at, but right now there's a lot of large programs in place and a lot of them are vendor neutral, which means that they just run the program and organize everything and act as a representative to their client, and kind of the gatekeeper for all the suppliers and our position is we really want to – if we could do that and also place people on the same account that would be the ideal situation. And so right now to get to the answer is that it's something we could consider at the right opportunity came up, the right client came up, but we're not proactively putting together the software application that's involved under management system we have to – rather than develop one, we have to align ourselves with one of the bigger ones like IQ Navigator or Fieldglass, but we're really focused on putting people rather than running the program.

[William Sutherland:]

Right, I understand. Well, thanks guys. Appreciate it.

[Arthur Crumlish:]

Thank you, Bill. End of Q&A

[Operator:]

And at this point, we have no further questions in queue.

[Arthur Crumlish:]

Thank you, Justin. And thank you to all CTG’s shareholders for your continued support and belief in CTG. Let me close by saying, as the result of the actions we've taken over the last eight months, today we’ve much stronger foundation in place. This foundation help us deliver on our three years strategic plan and meet or exceed the financial targets that I highlighted at the beginning of this call. As I said previously, CTG’s success going forward largely realize on one critical thing execution. This concept is something I strongly emphasis with our team on a regular basis. I also believe that our ONE CTG program will encourage and drive collaboration across the organization. With this increased collaboration comes increased value, we are able to deliver to both our new and existing clients. As we achieved greater reach across our target markets, we will generate revenue growth enhanced staff utilization and increase our profitability, ultimately driving our high return on investment for you, our CTG’s shareholders. We appreciate your time today and look forward to reporting on our continued progress throughout 2017. Justin, you may now disconnect the call.

[Operator:]

Thank you, much. And ladies and gentlemen, that does conclude the conference for today. We thank you very much for your participation and using the executive teleconference service. You may now disconnect.