Heidrick & Struggles International, Inc.
Q3 2021 Earnings Call Transcript

Published: 25 Oct 2021

[Operator:]

Good afternoon. I am Blu, today's conference call operator. Welcome to the Heidrick & Struggles 2021 Third Quarter Conference call. Joining today's call is Company's President and CEO, Krishnan Rajagopalan and Chief Financial Officer, Mark Harris. The company has posted third quarter slides on the IR homepage of its website at heidrick.com. Management encourage you see to view the slides for additional context. Please note that in the materials presented today, management may refer to non-GAAP financial measures that we believe provide additional insight into underlying results. A reconciliation between GAAP and non-GAAP financial measures may be found in the last schedule of the earnings press release. Also in the remarks, management may be making forward-looking statements and I ask that you please refer to the Safe Harbor language contained in today's press release. Mr. Rajagopalan, I'll now turn the call over to you.

[Krishnan Rajagopalan:]

Thank you, operator. Good afternoon, everyone. We delivered a record third quarter and I couldn't be more excited that Heidrick is hitting on all cylinders, showing dynamic year-over-year growth on the topline with more dollars flowing to EBITDA and significant margin expansion on the bottom line. Likewise, if we compare our performance this quarter to the same pre-pandemic period from 2019, number one, today's results show a dramatic 45% increase in net revenue to a record $264 million; number two, our adjusted EBITDA is 50% higher at $36 million; and number 3, our Q3 EBITDA margin has expanded by 55 basis points versus the third quarter of 2019 to almost 14%. Each of our three segments

[Mark Harris:]

Thank you, Krishnan, and good afternoon everyone. Thank you for joining our call today. Let me echo Krishnan's comments in that our go-to-market strategy productivity and focus on innovation, together with the favorable external trends, have translated into solid financial performance in the third quarter for Heidrick. We've been able to continue our top line, while expanding margins and we contributed increasingly more absolute dollars to EBITDA net income and earnings per share so far in 2021, all setting new annual records, let alone nine-month ending ones. Further, Heidrick's performance continues to remain strong into the fourth quarter, which I'm excited to share with you today. As has been a past practice, I'll start this afternoon with a run through on our third quarter results with most of my comments around sequential trends given the dislocation from the COVID period in the third quarter of 2020. I'll make further comments on a few balance sheet items that conclude with our fourth quarter outlook. Following that, we'll be happy to take your questions. You'll recall, last quarter, we celebrated the milestone of crossing over $200 million quarterly net revenue mark for the first time in Heidrick's history and I'm proud to say that not only did we do that again, but we added to it. Our third quarter net revenue of $263.8 million, which was 83.8% higher than last year's third quarter and 1.5% above the previous quarter in 2021, is a new record for the company. Even more interestingly, is that, for just the nine months ended September 30, 2021, we had cumulative revenue of $717.5 million, which is more than any annual achievement in the history of Heidrick with three more months to go. It's truly an exciting time in our growth cycle, which we see continuing into the near future. Let me give you some insights on the performance by turning to our three business segments

[Operator:]

Your first question comes from the line of Josh Vogel from Sidoti & Company. Your line is now open.

[Josh Vogel:]

Thank you. Good afternoon, Krishnan and Mark. Certainly impressive results. I have a couple of questions to start kind of around consultant headcount. I'm curious, expectations for new consultant hires and promotions from within, I guess over the balance of this year and maybe even in early read on next year, and just kind of building off that. I'm curious, which industries or geographies, do you find yourself perhaps sitting with a headcount level that's a little bit lighter than where you want to be today given the end market demand you're seeing?

[Krishnan Rajagopalan:]

Josh, thanks for that question. Look, I think we're going to have a strong promotion cycle. We've got great talent and we're expecting to promote from within as usual. We're in the midst of going through all of that. So, I don't have all the details on that, but great class and strong, strong performances here by everybody. So, I think it will be a good promotion cycle for us. I think if we take a step back there, obviously, our needs in Europe and Asia is what I would say where we might be a bit lighter than where we'd like to be. So, we hope to address some of those needs through that. But look the Americas is just strong and strong performance everywhere and we'll reward those individuals as well through the cycle.

[Josh Vogel:]

I appreciate those insights. And I guess just thinking about the competitive landscape. Can you talk about any challenges or successes you're seeing in bringing talents aboard. Basically, are there any notable structural shifts you're seeing in the marketplace, whether it's comp structures for the consultants or anything with regard to the physical locations given the enablement to be remote? Just curious general thoughts on that.

[Krishnan Rajagopalan:]

Yes, Mark, feel free to add to this with what you see as well. Look, I don't think I see in the competitive landscape, too many, what I would say structural things. We have a lot of conversations going and I think the conversations that we've got going are around the platform that we're building, the culture that we've got in place here, how we collaborate and how we're tightly focused on still working at the executive levels at the top end and driving that success. And that resonates with a lot of people in some different platforms as well. So that's what I think is creating those conversations. I haven't seen anything yet structurally out there that is different, that are new things, others are doing that drives that more than these things that I'm saying. So it's about our success and our culture that I see out there.

[Josh Vogel:]

Great, thank you. And you talked about maybe some compression in consultant productivity, understandable, whether it's coming from promotions or new hires, but given the tech enablement of the business model and you're growing digital capabilities in general, do you think there is long-term upside to that 1 million number on a long-term basis? Kind of at the levels you're at today, do you think that could be a new base longer term once you're leveraging all the tech enablement in digital capabilities?

[Mark Harris:]

Hey, Josh, it's Mark. Let me try to answer that for you. And I think in the prepared remarks, which you're going to - what I discussed was being at $2.4 million today really kind of transitioning itself back to around the $2 million, which is obviously ahead from last year pre-COVID 2019 of $1.7 million. So the answer is it's in there. But as you and I both know the law of average is always going to play out. Right? So the market needs to be there. The hires that we use, which impact our denominator will have an impact on that number, as well as just general global expansion, where we think we need to add talent and where that is. It will probably be outside of America or the U.S., at least, in particular, which will mean typically lower retainers and that potentially could hit productivity in a good way even though the numbers may look like they're averaging down, I think the revenue expansion will be well worth it. So, I think when you look at all those factors in play that's really why it drives itself down. We don't internalize that as we're not getting those efficiencies, we are, but sometimes when we mix it altogether, it can be hard to see and we'll try to give you clarity as we go through the process.

[Josh Vogel:]

I appreciate those insights. I just wanted to switch gears, maybe this is for you as well, Mark. Looking around the On-Demand Talent business, obviously, really strong result, we're seeing pent-up demand, talent shortages there. When we - is that a good quarterly base for us to assume that the business can grow off of another way, I guess to ask it is what's baked into your - is that Q3 rate baked into your Q4 guidance. And I guess it's also a good time to remind me of what the norm - if the seasonality is in the On-Demand Talent business? Thank you.

[Mark Harris:]

No, absolutely. Look the average of the two quarters that we've been public is around that $20 million, $21 million revenue number. We have built into our Q4 guidance, obviously, them continuing their trend, but really it's not going to continue into Q4. There definitely is some seasonality, holiday season approaching, is obviously in terms of how they bill and their revenue recognition et cetera, is going to be marginally impacted by that. I think the real question is we look at 2022. We still have an expectation that is a growth business and so that's the aspirations we have is to continue the general growth model, but again - and I think you hit it right on, which is, it's really a function of, as the market continues, in our opinion, to move towards gig economy and again project interim based work etc., and doing more of that, which is both the clients as well as the talent, wish to continue to explore those types of possibilities. It will be really interesting to see where this growth cycle goes. So a lot of optimism on our side regarding on how that's going to grow and it's being executed by an outstanding team over on that side. So I think the team over on the on-demand space is just really doing a good job of hitting the market very, very well and you're seeing that come through in the numbers.

[Josh Vogel:]

Really helpful. And I just would love to sneak in one more if I may. It's nice to see the operating loss rapidly narrowing at Heidrick consulting. Given the tech enablement and the digitization of the overall business, have you kind of reset what you think the quarterly run rate you need to get to for that business to get back into the black?

[Mark Harris:]

It's a great question. So I know we shouldn't have shown that , Josh, you're going to push me on that one. And my opinion is still very strong that around that $80 million to $85 million annual mark is where you're going to see the breakeven and better. And I don't believe anything is changing that landscape. There might be some investment opportunities that will certainly give you those numbers as we kind of go through it in terms of our future and so you can kind of pro-forma those some costs out. But just generally speaking in terms of what they're doing today and where they want to grow their business that is still a very, very safe bet. So my comment is kind of around if you want a quarterly, do that number, it would be about $21 million, $22 million a quarter. We should start to really get an expectation of seeing some interesting breakeven analytics and then hopefully again as that continues up its trend, which we made comments on as well, we should be able to see margins to the business.

[Operator:]

Your next question comes from the line of Tobey Sommer from Truist Securities. Your line is now open.

[Tobey Sommer:]

If you could elaborate on the digital journey and transformation. And maybe help me understand what about the business model and income statement, whether its margins or growth that may change if you're successfully able to do what you want to do over the next several years? What are the outward signs we would see of that success?

[Krishnan Rajagopalan:]

Yes. And Tobey, it's Krishnan. I didn't catch the first part of - were you speaking about our new digital relationship or were you speaking more broadly than that.

[Tobey Sommer:]

More broadly and then I'm going to have a follow-up about the specific recent relationships.

[Krishnan Rajagopalan:]

Okay. Great. Yes. So if we continue on the tech enablement of all of our current businesses, okay. And it's a journey that we're committed to and we're driving hard and you're going to see that again as you've already seen with our ability to take on this productivity that we've been able to do from the past. I think you'll see that with stickiness of client relationships, our ability to build out accounts. You'll be able to see that there and over time that's going to translate to margin as well. So, you're going to be able to see that. I think, on the existing technology journey that we're on with our new relationships and what we're trying to do here. If I just summarize that, I think we're in a world today where I kind of say talent, if you want to call it human capital, is the capital that's now most in demand, if you go and I believe if you go in - I believe if you go to any survey at the end of this year on from CEOs and others, you're going to see that pop its head. So there's going to be this emerging - and there already is expectation that data and insights on talents and executive talent should be as readily available as we have on other business dimensions. So we think that with our IP insights, the platform and solutions that we're going to build with a company like Eightfold AI, we can bridge that gap and lead the transformation of leadership as well. So that's something that I think that we're headed down the path.

[Tobey Sommer:]

Krishnan, let me just ask, does it mean the business becomes more profitable because less is done, less processes have human intervention, what are the financial outcomes that your strategy will achieve?

[Krishnan Rajagopalan:]

Yes. So, yes, I think that strategy will create new service offerings and new line of business. So, you're going to see - we're answering some new problems that have been previously solved in bespoke fashion by a myriad of companies. Okay. So I think it's a whole new revenue stream that we believe is going to be higher margin as well just given how one addresses those - that solutions head as well. So you'll see both.

[Tobey Sommer:]

Okay. And then as productivity per consultant revenue per job eventually perhaps comes down to this $2 million figure, will your other smaller businesses that are sub-scale and therefore sub - it's sort of an ongoing goal of profitability, will those be able to drive sufficient margin such that margin won't have to come down as productivity is coming down or should we think of margin kind of tracking that productivity at some point?

[Mark Harris:]

Well, everything is - and Tobey, it's mark, everything is a function of scale, right? So I think the answer is on a set of service basis on what we're seeing in the prior quarter, if our productivity were to come down and by definition, yes, we'd see some margin creep into that. Having said that, remember when the productivity comes down, which means the revenue comes down and people not going through the tiers, no way that we do kind of our payment so to speak, those would obviously in sync also come down. So it's not exactly a one-to-one ratio. Having said that, and again, as we look at other markets, those are going to be very different profitabilities depending on, we've got the U.S. versus let's say parts of Latin America, etc., which actually can drive even higher margins so to speak, because the cost is very different in terms of the revenue cost distribution. So, it's always hard to answer that question because it's really a function of where it's coming from, it's not necessarily. I would tell you is unless focused on that and I'm not focused on, I'm less focused on that, what I like to see is how it trans all the way down to the bottom line, where again, our equity shareholders are seeing again nearly $3 EPS year-to-date. We typically were $2.50 all-in for the year before that and that's really where I think you're going to see that accretive value come in because what we're able to achieve is more net income without additional equity and that shareholder dilution, so to speak, is not there. And the more we can execute on the strategy that Krishnan was rightly pointing out in terms of potential other products and services, we'll continue that path. So, I think it's still very, very accretive for the shareholders in terms of what we're doing, less so again about the operating margin side of it from my perspective.

[Tobey Sommer:]

Okay. And then, Krishnan, I had promised you a follow-up on the specific new relationships that you've - that you press released and discussed in your prepared remarks. I know you're laying down some breadcrumbs as to exactly what that is. But could you maybe give us an example of what that will solves for our customer? Thanks.

[Krishnan Rajagopalan:]

Yes, look I'm going to be pretty high level on this just given where we are and some of the breadcrumbs and what we're trying to build over here. But I think, when I think about complex problems that are bespoke that executives also face visibility into their DE&I pipelines, et cetera , and things like that. These are real problems that are occurring in today's world and how do we create that and how do they understand that. So that just would be an example. Okay. But let's just say a small example and part and parcel to a larger solutions that we could drive, there would be things like that.

[Tobey Sommer:]

Okay. And then I had just a broad market question and I'll get back in the queue. Does - how is the ability to do remote work at all levels within an organization all the way up to C-suite, how is that influencing wage rates and therefore fee levels because I guess it could go both ways where you can get some more expensive people to do work remote in different locations, but potentially it could go the other way too. How is that working in the business?

[Krishnan Rajagopalan:]

Yes, let me start off with that and Mark you probably have some numbers behind our searches. So I think on the Executive Search side, we don't really see it having a huge impact right now. Okay. Our retainers and our average fee for search etc., are all very, very strong. And we do see balancing that perhaps on the On-Demand Talent side, a desire to be able to leverage talent in a different way and driven by the ability to work remotely and talent to be residing remotely as well. So we see another avenue opening up over there as well and all kind of being driven by the same thing. So, I still kind of see it currently as a net positive for us.

[Mark Harris:]

Yes, I'll - just a little bit on the math side of it. What we're starting to see in terms of average retainers and our engagements is trending back towards the kind of work pre-COVID, maybe a little bit higher, but I would say meaningfully. Obviously, it's the volume of work that's generating a lot of revenue value, but having said that, we are seeing uptick on certain engagement come in strong, again not so much, obviously, I would say in the CEO board side of it, but there are other aspects that we're starting to see a little bit of the war on talent kind of creeping itself in. But for the most part, Tobey, what I'd tell you is clearly the pure demand side of it is really what's driving those results for the most part.

[Operator:]

Your next question comes the line of Kevin Steinke of Barrington Research. Your line is now open.

[Kevin Steinke:]

So we've obviously been talking a lot here about the digitization and tech enablement of your business model. With - specifically with regard to search, have you kind of dove in, in terms of productivity metrics and besides annualized revenue per consultant and how maybe those are changing and how sustainable maybe some of those changes are? I'm thinking of to speed at which you can complete an Executive Search or the number of searches per consultant, maybe how much that has improved or could improve given digitization in tech enablement? So, I guess any commentary on those specific metrics or any others you might be monitoring would be helpful?

[Mark Harris:]

Sure. Let me try to give you some color on that. I think the first one is on your question on the closure rate and the speed at which we're transacting. Obviously, it has been accelerated through COVID without people needing to travel on planes and go through their interview process. We've seen our days to close pre-COVID to even today fall of about 20% in terms of the average days to close. We're starting to see a very slight uptick in that and for the most part its spanning is up pretty well and we would expect again with Zoom and other technologies that our digital assessment ability etc., would hopefully roll into the fact that we can keep that pretty constant and that should obviously help us in terms and that's obviously been quite efficient. I think the other element, kind of what you're thinking through, Kevin, is when we look at the G&A, right? So, we thought G&A fall away to 11% as a percentage of revenue, where it used to be 18% and almost nearly 25% at its peak before that, I don't see us playing in that space in terms of 18%, 19%. I think it will be somewhere in the midpoint between the two, long term or at least medium term I should say versus long term because we do not see the return back to people flying all over the place and - or again candidates, etc., and again in terms of our business development, etc., everything has been pretty unanimously accepted by doing things. By assume, it still requires a touch point, so we will see a bit of decline. And that's why I'm using the midpoint of the G&A side of it, but we'll see some of that come back, but not nearly to what it used to be. And I think that is what I would call the permanent leverage side of it and then as we go through the way that we want to digitally transcend ourselves in Search and Heidrick Consulting and On-Demand Talent as well, that's where it's really going to be very, very interesting in terms of what we're able to achieve as we kind of go through that in the next 12, 24 months in terms of the platforms that we're trying to create over here and really seeing what that can generate in terms of efficiencies on our core business, as well as our potential new business lines that we're thinking through.

[Kevin Steinke:]

And when you're - you've been talking about the normalization to more of the $2 million revenue per consultant level. I believe you said you see that happening in the near term. Are we just kind of thinking about - should we think about the next promotion cycle, kind of first quarter 2022, we start to normalize to that level or I guess it depends on what's happening with revenue and demand as well. But just how are you thinking about it in your planning?

[Mark Harris:]

We don't see in terms of kind of the current market conditions, at least, what we're experiencing at Heidrick a big drop off. We still talk to our clients. We're still getting a lot of that showing that it still seems to be full-court press. Obviously, we gave a guidance number. I think that's assuming we come out within our range and that's still showing very, very good strength in the Q4 and we'll see, obviously, it's always hard to predict this market if you wanted to. But we do think that will continue its pace. Yes, the promotional side of it will impact the denominator in the trailing 12 months. So, it's not necessarily spike down. It will average back down on its own even if we kept to those levels. But I think what we're really trying to say is look as you assume this kind of normalizes, if I can use that word Q4 next year that's really where I think again if I did the math, it would kind of come down to that $2 million and potentially really hold at that level again because of the efficiencies and the way that we do our searches, days to close and ability to help people do more without obviously over taxing them is really what we're trying to achieve.

[Kevin Steinke:]

Okay. Yes. Great. That's helpful. I guess just lastly, you've touched on it, quite a bit, but just you mentioned there that the demand is still strong. I mean, what --and some of the factors you see going on here in terms of the demand picture leadership changes, a lot of leadership changes in the C-suite, ESG, diversity and inclusion; are you thinking about these as having some real kind of multiyear legs in terms of the growth in demand cycle or I guess are you feeling like we're in the earlier or later innings of some of these things that are…

[Krishnan Rajagopalan:]

Yes, Kevin, it's Krishnan here. Yes, I still think we are in the early innings of that, okay. Sustainability very early innings, okay. We've made some nice progress on DE&I, but it's still the early innings on that. There's still digital transformation that's occurring in many industries. Still, there's lots of private equity capital that's still sitting out on the sidelines. So, there's a lot of things going on in their new trends out there as well that we can capture. So, I think this is - there are trend lines out there that will continue for a bit.

[Operator:]

There are no further questions at this time, I'll now turn the conference back to Mr. Rajagopalan for closing remarks.

[Krishnan Rajagopalan:]

Thank you for joining us. Clearly, look the results we announced today were outstanding. We're working very hard to continue to deliver growth and value to Heidrick clients into our shareholders, all within the framework of our strategic pillars that we've spoken to before; first, growing the scale and impact of both our search and consulting lines of business and delivering that premium services experience. Second, expanding the development of leadership solutions and capabilities to address new and ongoing client imperatives such as the On-Demand Talent space. And third, investing in new product development and strategic expansion into adjacent and complementary areas with innovative, tech driven offerings as well. We look forward to updating you again next quarter. Until then, thank you all so much and take care.

[Operator:]

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