The Hackett Group, Inc.
Q1 2013 Earnings Call Transcript

Published: 8 May 2013

[Operator:]

Welcome to The Hackett Group First Quarter Earnings Call. [Operator Instructions] Please be advised that the conference is being recorded. Hosting tonight's call are Mr. Ted Fernandez, Chairman and CEO; and Mr. Rob Ramirez, Chief Financial Officer. Mr. Ramirez, you may begin.

[Robert A. Ramirez:]

Thank you, operator. Good afternoon, everyone, and thank you for joining us to discuss The Hackett Group's first quarter results. Speaking on the call today and here to answer your questions are Ted Fernandez, Chairman and CEO of The Hackett Group; and myself, Robert Ramirez, CFO. Our press announcement was released over the wires at 4

[Ted A. Fernandez:]

Thank you, Rob. As we customarily do, I will start the call by just reviewing some of the highlights of the quarter, then asking Rob to comment on our detailed operating results, cash flow and also a comment relative to our credit facility. Rob will then conclude with outlook, and then he will turn it back over to me and allow me then to cover some of the market strategic overview, and then we'll open it up for Q&A. So first, let me welcome everyone to The Hackett Group's First Quarter Earnings Call. We were pleased to report revenues of $54.3 million and pro forma earnings per share of $0.10 in our first quarter of the fiscal year 2013. As we mentioned on our year-end call, we expected our revenue run rate to ramp throughout the quarter. Although the revenue ramp materialized a little later in the quarter than we had planned, we are pleased to see that this momentum positions us for sequential growth into the second quarter. The momentum is emanating from improving U.S. demand, which is being offset by the increasing volatility in Europe. In the U.S., we experienced an improvement in our revenue run rate in the second half of the first quarter, driven by improved activity in our business transformation and enterprise performance management groups. In Europe, even though we saw the Q4 improvement carry into the first quarter, as we started the second quarter, we experienced increased changes in client decision making, which has impacted our future guidance. Overall, our activity remains healthy as clients continue to value our transformation expertise and our unique intellectual capital to quickly respond to the volatility of the global business environment. On the balance sheet side, our strong cash flow allowed us to pay down $4.5 million on our credit facility during the quarter, bringing the total to $20.5 million. We have now paid off nearly half of our original drawdown from last March in less than 12 months. Our plan is to aggressively pay down the credit facility in order to explore acquisitions and other potential investments should they arise. On the investment front, we continue to develop and attract talent and expand our brand and intellectual property through the development of our new CFO ops offerings and through the constant best practice research that we publish that emanates from our proprietary benchmarking and performance study insights. I will comment about these opportunities in more detail in my strategic overview section of our call. I will also comment further on market conditions and specific go-to-market initiatives. But first, let me ask Rob to provide details on our operating results, cash flow and also comment on outlook. Rob?

[Robert A. Ramirez:]

Thank you, Ted, and welcome, everyone. As I typically do, I'll cover the following topics during our call

[Ted A. Fernandez:]

Thank you, Rob. Looking forward, consistent with reported and future estimates of global GDP, economic recovery and related demand continues to be volatile. Our strategy is to ensure that we continue to expand our capabilities and intellectual capital in order to serve clients strategically and allow us to continue to improve our profitability and cash flow regardless of the economic environment. In the U.S., we are seeing improved demand for our services, although we expect the demand -- the environment to remain competitive. As Rob mentioned, our U.S. business is expected to be up 10% sequentially with Hackett up 15% and our SAP business down about 5%, but that's only after a very strong first quarter. They will continue to be up nicely on a year-over-year basis. In Europe, although the activity is good, we have seen some clients defer or reduce previously approved initiatives, which temper our short-term expectations and continue to reflect the challenges the region is experiencing. With that demand overview as a backdrop, let me now comment on some of our strategic priorities. Consistent with prior quarters and consistent with our strategy, we continue to work hard to innovate new ways to develop continuous relationships that leverage our intellectual property, as well as create an opportunity to serve our clients more broadly. The goal is to use our unique intellectual capital to establish a strategic relationship with our clients and to expand that entry point by introducing our business transformation and technology consulting capabilities. This strategy would allow us to increase our client base, as well as increase our revenue per client. The best example of this strategy has been the revenue leverage we have experienced from our Executive Advisory client base. Speaking of continuous client relationships from that Executive Advisory base, our long-term goal is to be able to ascribe an increasing percentage of our total annual revenues to clients who are continuously engaged with us through our Executive Advisory Programs and eventually, through our Hackett Performance Exchange. At the end of Q1, our Executive Advisory members increased to 860 across 253 clients. Additionally, consistent with prior quarters, over 45% of our Hackett Q1 sales were also advisory clients, continuing to show its strong relationship leverage. On the Hackett Performance Exchange front, our goal continues to be to complete our planned enhancements in the first half of this year. Our Oracle-based offerings are nearly complete. Our goal is to complete the same enhancements for our SAP platform users in Q2, which should allow us to fully test and assess the impact of our new offerings in the second half of this year. In addition to our fully automated CFO ops dashboards, we are also developing functionality that will allow our clients to complete and upload cost and FTE data similar to our existing functional benchmarks in less than half the current time. We call this capability CFO ops plus. These new offerings will allow us to offer unmatched data capture capabilities, which complements our unmatched benchmark database. As I've repeatedly mentioned, this is an ambitious new offering but if successful it could help enhance our business model by creating a powerful and possibly continuous relationship with our clients. Although there is much to learn about our new offering, we believe it should represent a new way to monitor and benchmark a client's performance, which could result in a new revenue stream and a significant increase in data capture, as well as operating insights. Lastly, even though we believe that we have a client base offerings and market coverage to grow our business, we continue to look for acquisitions and alliances that can add scope, scale or capability to help us accelerate our growth. In summary, we reported solid quarterly results that provide us with improved momentum going into the second quarter. We also believe that our unique ability to combine proprietary intellectual capital with terrific talent to help our clients optimize their performance in this complex environment allows us to remain top of mind with leading global companies, which we believe bodes well for our prospects. As always, let me close by thanking our associates for their tireless efforts and as always urge them to stay highly focused on our clients, our people and the exciting opportunities available to our organizations. Those are my comments. Operator, let me turn it back over to you and see if we can initiate the Q&A.

[Operator:]

[Operator Instructions] And your first question comes from George Sutton from Craig Hallum.

[Unknown Analyst:]

This is Josh filling in for George. A couple of quick questions here. Number one being, for the past couple of quarters, we've kind of seen competitive landscape in the terms of pricing power. Could you provide an update on what you're seeing in terms of price base sensitivities now?

[Ted A. Fernandez:]

No, actually pricing was stable. So we have not seen, I'll call it what I'll call additional pricing pressure. I would say, Josh, that I think the most important thing that I think we're having to do is to make sure that we are being directly responsive to the client's scope and approach. I think clients have some specific initiatives in mind and I think important and incumbent on us to make sure that we are being highly responsive to that. When we do that properly, we're seeing the projects move quickly and we have not seen any additional pricing pressure. When we try to -- I don't want to say to broaden or change or perhaps try to serve the clients in a slightly different way, even if we believe it's in the client's best interest, we believe those kind of efforts, which are typical in our business and industry, I would say have hurt our process.

[Unknown Analyst:]

Okay. And then it looks like you're making some nice moves in paying off the credit facility. Would you say that this is becoming kind of a more ideal time to participate in either buybacks or acquisitions moving forward?

[Ted A. Fernandez:]

The answer is yes on both. Look, we believe that it was in the shareholders' best interest a year ago to acquire stock back at $5, and we did that to the tune of $55 million. So a year has passed, we paid down that debt by almost half already. We've initiated a dividend. So obviously, we believe that continuing to buy stock at or around those levels is not only accretive but smart to do. Having said that, because you mentioned acquisitions, if we see an acquisition that has great synergy and can help us accelerate our growth, you will see us act on those as well. So look, we know that we're in a highly competitive environment, we know what we need to do, all of the above to create shareholder value. And you can expect us to do that throughout the year.

[Unknown Analyst:]

Okay. And then quickly here, as you move forward with the Performance Exchange, will the transformational benchmark continue to be the lead sales followed by Performance Exchange? Or are we going to see that in earlier stage of the relationship cycle?

[Ted A. Fernandez:]

Well, no. The way we are framing it for clients even today, as they ask us about this offering and how it relates to our transformational benchmark, no, the key for us is we're really trying to provide. So for example, when we face off with a CFO, we're trying to make sure that we can walk into that CFO's office and show them all of the services that we would provide entire, what I'll call it, the entire finance and accounting stack. And at the very top of that thrust eventually will be that CFO ops dashboard. So that's our way of saying, no effort on your part, 1/3 of the current costs, we can do that overnight. If the client wants more data, we then move or we can either do it in sequence or we can move right to the CFO ops dashboard, where that is where the client wants to take some time and provide us with cost and FTE data to provide them a more traditional Hackett benchmark. But this new tool will allow them to do that in half the time, and then that transformational benchmark is there. We present the entire stack to clients. Clients decide what's the best way to approach their specific initiative. The client makes 1 of 2 decisions. If they want to perhaps some measurement as part of their initial decision, we show them the benchmark stack, they decide the approach to take. For us, it's to be able to overcome any and all objections and to make sure that the clients see that we have a set of offerings that only exists within this organization. And that ultimately then -- we provide that as if we want to call it our wedge offering, so that clients can help assess their opportunity to improve. And then look, we're looking for an increasing number of clients to let us help them with either the design and the detail implementation of the entire solution, which as you know, even though people recognize us globally because of the uniqueness of our benchmarking and now the Executive Advisory offerings, 75% of our revenues come from designing and implementing those solutions that -- those opportunities, which we identify for clients. And so we just want to make sure that we are being as responsive as possible if we get in front of a client, and we'd love to see the client use as much of our services stack, as they think makes sense for them.

[Unknown Analyst:]

Real quick here, on the Oracle ERP kind of transition phase to KPMG, is there any opportunities with KPMG as a partner kind of deriving from this?

[Ted A. Fernandez:]

As you know, we just initiated that relationship but we are committed to working with them as our Oracle ERP partner. So we're going to be exploring those opportunities with them here throughout the entire year.

[Operator:]

[Operator Instructions] Your next question is from Morris Ajzenman, Griffin Securities.

[Morris Ajzenman:]

It looks like you were going to start getting some traction to the second quarter, and then the international revenue, as you articulated to us based on data points you gave us in the past, 22% of revenues, international revenues being that 20% sequentially. So the math works out to about $2.5 million decline on a top line from the first to second quarter. What's changed? I mean, we understand Europe's been very turbulent the last couple of years, would have been just thought as seeing traction. And again, you kind of offered up clients deferring. What is it -- is it the pulling back and canceling? Or are they just unsure? I mean, it's a question I'm sure you ask also. But how do we interpret this as far as getting traction going forward? Because again, if I'm right on the math, the $2.5 million decline sequentially versus second quarter. That's a pretty hefty number and really could have helped your top line.

[Ted A. Fernandez:]

Well, first of all you have it right. There's no doubt that the sequential decline in Europe, sequential and really it ends up being the same amount on a year-on-year basis was a surprise for us. I guess, I have 2 thoughts. One, if you recall we had a little bit of a stall in decision-making going into the Q3 last year. But overall, we had a very strong finish in the Europe -- in Europe last year. The first quarter was pretty solid. But no, that momentum for Europe from Q1 to Q2 clearly changed. And what does it mean? Well, for us specifically, it represented a couple of things. Just not the same momentum that we're seeing in the U.S. from Q1 to Q2. But it also -- you're right, there were a couple of clients, who on previously approved initiative, are either deferring or reducing the scope of what we're doing, which impacted our guidance into Q2. And that really happened after we had completed Q1 and kind of entered Q2. So the thing that we don't know, it's not -- I would have tried to provide more color in my opening comments. You never know whether okay, is this client-specific, industry-specific? I always hate to overreact because sometimes a couple of decisions or just some client transition can lead to this. The level is disappointing. Because if you would have said, okay, it would have been $0.5 million to $1 million to your numbers, then the answer is hey, listen, you have those quarterly transitions, just sometimes a result of clients or some just regional seasonal difference and the like. But no, this was just a more significant volatility than we've seen in the U.S. And I say that against the comment that I also made when I did the overview comments -- not the overview, the market comments, when I said, "Listen, it's not that the activity with these clients or with our European client base is down." No, I think they're feeling the same kind of profitability and operating pressure that U.S. companies are facing. But I do believe that they're doing that -- if you -- probably you take Germany out of the equation, you're probably seeing that with -- you're seeing that volatility or the severity of the changes are really more significant in Europe outside of Germany. So we felt it. So no, is it surprising? Yes. As we see it right now, because of the strong sequential movement in Hackett from Q1 to Q2, I don't want to react either way. But there's no doubt that it's costing us at least $0.01 from what we expected we could easily do in Q2. And listen, relative to Q1, we lost $0.01 just on the slower ramp. So as far as we're concerned, look, we've given away $1 million. We're potentially giving back $1 million in the first half of the year. Having said that, we know we made some pretty significant changes that helped the second half of the year. So the key for us is just to make sure that the revenue stabilizes as we go to the second half of the year. If that happens, then the profitability goals that we have in place should in fact be intact. If it becomes, I'll call it more volatile or decision-making, well then, it will put more pressure on that goal. But some combination of the improved demand that we're seeing, improved demand activity we're seeing in the U.S. from Q1 to Q2, we hope is more -- will more than offset any additional volatility we face in Europe. Do we know the -- do we know what will actually happen in the second half of the year? Obviously, no one does. But that's our current perspective overall. But you're right, it was -- it is a severe sequential impact. It is money that goes straight to the bottom line. And yes, it's probably cost us a couple of cents, maybe even $0.01, I'm being conservative, into Q2 versus where we thought we could be. Having said that, you'll still see us have a pretty strong solid quarter with strong EBITDA margins and strong cash flow. But you know we want more. We want more.

[Morris Ajzenman:]

Ted, just a quick follow-up to that, if I may. Over the last quarter or 2, you have done some strategic controls on SG&A, headcount, et cetera. Is there any further thought to go further on that sort of column of course vis-à-vis Europe, whatever? Or are you content with what you've done already and you believe this is more short term in nature?

[Ted A. Fernandez:]

No. Sequentially -- if the sequential numbers play out exactly the way we currently expect, we really don't think -- we're always tweaking, but we don't think we really need to do much. Because it then still should allow us to have a pretty decent back of the year, given the actions that we took in the latter part of last -- of last fall, really, when we took -- well, really as we exit the third quarter and the beginning of the fourth quarter of last year.

[Morris Ajzenman:]

Okay. And just last thing and I'll get back in queue. How many -- I'm back on the Hackett Performance Exchange, how many global companies are you working with? I know you threw out a number like 30 in a past call, I think. But can you just give us some -- how many customers you would be dealing with? How many would -- at this point, you think might be subscription payers come 2014? Any broad sort of guide post you can give us on that?

[Ted A. Fernandez:]

Yes. I would say 1 -- well really, the charter launch members, we continue to stay engaged with them just because we want to come back and see if we can do a significant amount of our validation and testing through them, since they know the product and we worked with them in the past. Having said that, our effort over the last 6 months has really been development. So we just started to run the Oracle product with some of our charter launch members to do, what I'll call, a preliminary validation before we kind of really open it up. So we're in that process right on Oracle. On that SAP side -- so Oracle is finishing early, but we're really trying to stack up Oracle clients against the new offering, and that's probably going to take a little bit of time for us. Interestingly enough, SAP, which we're completing -- we expect to complete in the second quarter, we actually have a nice list of clients that is ready to run the product and help us with validation and testing and then give us a chance then to make them a commercial user of the product. So the answer is we still believe that a large number of that initial 30 to 40 we were working with are going to test the product and help us with validation and give us a chance at a commercial relationship. But other than to say that, I think it'd be premature for me to comment beyond any assurance or estimates that I could get -- that I can give you from that.

[Operator:]

The next question we have is from Bill Sutherland, Northland Capital Markets.

[William Sutherland:]

The -- while we're on HPE, the expense, obviously, is going to run from Q2 as you finish up SAP, what -- how should we think about it in the back half when you move to testing and validation?

[Ted A. Fernandez:]

Right now, we've just assumed for the year that we will spend approximately $2 million in CapEx and that the launch support and sales support will run about a $0.01 a quarter. Having said that, if you heard my previous question, the previous answer to the -- to where the product fit in vis-à-vis our traditional transformational benchmark, that sales group, which has been dedicated to HPE, right, is now -- or will be going to market with the entire benchmarking stack. So our desire is to complete the ops offering, the CFO ops and the CFO ops plus and to use that, I'll call it, benchmarking dedicated sales force, then to offer the client any of the alternatives available to them. So when we commercialize and complete the product, those resources are really going to be working on this offering -- really working on the sale of any benchmarking or measurement solution the client desires. They won't be on a fully dedicated basis. Could that change after we launch? Possibly. But we think the right approach, given what we learned from the charter launch member programs is give me the alternatives, let me decide which way to initiate a benchmarking or measurement relationship and allow that to happen. So in other words, not just offer one or the other to our customer, but offer the complete stack and allow them to decide which one they want to avail themselves to.

[William Sutherland:]

That really won't apply to the 30 or 40 that are testing it, right?

[Ted A. Fernandez:]

Well, the 30 or 40 are not currently testing it. The 30 or 40 were the ones that ran -- that were participating in the charter launch member program. So when I look at that population and I'm now trying to get them ready to help us with validation and testing once we complete the CFO ops offering, I would say that we currently have half of those already committed to help us with that process. Then Morris asked me, "Well, do you want to comment or speculate on what could happen beyond that?" The answers is and I said it's just premature for me to do so.

[William Sutherland:]

And will the development of CFO ops plus extend beyond this year? Or is that also going to be finished with Oracle and SAP?

[Ted A. Fernandez:]

No, we don't expect it to extend beyond that. So that we would expect either new modules or additionally new capability beyond that which we've approved and have been building and trying to complete and test here in the first half of the year.

[William Sutherland:]

And should we think about commercial launch potentially before year end? Or probably not?

[Ted A. Fernandez:]

That's -- our hope is that before year end. We've been doing everything to do that. I've tried to set expectations to say, "Listen, let me use the year to test, validate, launch, tweak, do whatever. And then let's see how it can -- how it contributes to 2014." We still hold to that. Are we trying to do every thing quicker? Absolutely.

[William Sutherland:]

Well, I missed the international revenues as a percent of total, or maybe you gave the absolute number.

[Robert A. Ramirez:]

It was 22%, both this year and last year.

[Ted A. Fernandez:]

In the first quarter.

[Robert A. Ramirez:]

Right.

[William Sutherland:]

Right. Okay. I've got the... And then the 20% decline sequentially brings it down to about 70% of total in the second quarter, okay.

[Ted A. Fernandez:]

Yes, applies to that same 22%, correct. With most of that really happening in Europe. Australia is reasonably -- I mean, I'd say, Australia is probably a little bit flatter. Much smaller and flatter in general.

[William Sutherland:]

Right, okay. And any of the offerings in terms of whether it's the additional optimization or more of the working cash vis-à-vis the cash flow optimization, are there any particular offerings that are getting more traction than others? And I guess, that would apply to both. I'm curious about U.S. versus Europe on these, too.

[Ted A. Fernandez:]

Yes, I would say that the only thing I could characterize -- my best way answer to that is that when we look at Europe, we continue to see the fact -- we're seeing almost a resurgence in Germany. And when we look at where that comes, they have always valued the strategic cost-reduction work that emanates from our benchmark. But in general, they answer is we probably had more volatility in, I'll call -- I'll say the transformation work -- I mean, we have had a little more volatility on the cash flow side than we have had on the cost reduction side.

[William Sutherland:]

You don't break out Germany as a percent of...

[Ted A. Fernandez:]

No. I'm just trying to provide some color because I kind of see if you're trying to see if it relates to one or the other. But the answer is no. Even though some areas are going to be down a little bit more than others that both, I'll call it, the transformation or cost reduction side is down, as well as the working capital side in Europe, this quarter. Yes. They had a decent first quarter. They had a very good fourth quarter. But again, we're seeing, this, if you want to call it, this volatility is the only way to say it because I mean, it's just whether it's transitional or not or a client decision or not, look, we've seen it now twice in the last 2 years. So I guess, I forget, which one of you said, "Ted, you use the volatility word a lot." Well believe it or not, we use it a lot with all of our clients. I mean, that's what our client base is seeing. We're just experiencing in Europe -- the experience in Europe has always been a little bit more severe and abrupt than we've seen it in the U.S. But we've seen very strong activity in the U.S. with some competition and pricing, but we like the momentum. In Europe, when at least once last year and once this year, we think something a little bit more abrupt. I'd love to see if it be a one quarter phenomenon the way it was last quarter. As you remember, we had a pretty nice second half of the year for Europe. I hope that plays out that way the last -- if you want to call it the last 4 months of the year.

[William Sutherland:]

Well, is it partly a function of the fact that -- I think you've got a little more client concentration in Europe and as you said that -- or the cash management.

[Ted A. Fernandez:]

No, no. I would say that we serve a large benchmarking base. We serve a large advisory base. I would say the client concentration is consistent with the 22% that it represents to the total organization. Because we have the full set of service. We just don't have the SAP services we now have in the U.S. But outside of that, the other services are there, and our client base in both Australia and throughout Europe avail themselves to all of them.

[Operator:]

And at this time, I show no further questions. I would now like to turn the call back over to Mr. Fernandez.

[Ted A. Fernandez:]

Thank you, operator. And let me thank everyone again for participating in our first quarter earnings call. We look forward to updating you again when we complete the second quarter. Thanks again.

[Operator:]

Thank you for participating in today's conference call. You may now disconnect.