Kelly Services, Inc. — 2015 Second-Quarter Form 10-Q Summary
Business context and reporting period
Kelly Services is a global workforce solutions company providing commercial and professional/technical staffing, recruitment and business process outsourcing, contingent workforce outsourcing, payroll outsourcing, executive placement and career transition services. The filing covers the 13-week quarter and 26-week year-to-date period ended June 28, 2015, compared with the periods ended June 29, 2014. Results are unaudited.
- Reporting segments: Americas Commercial, Americas Professional and Technical, EMEA Commercial, EMEA Professional and Technical, APAC Commercial, APAC Professional and Technical, and Outsourcing and Consulting Group (OCG).
- Management emphasizes growth in professional and technical staffing and outsourced workforce solutions, together with cost efficiency and a long-term return-on-sales objective of 4.0%.
Financial performance and position
| Metric | Q2 2015 | Q2 2014 | YTD 2015 | YTD 2014 |
|---|---|---|---|---|
| Revenue from services | $1,385.0 million | $1,410.5 million | $2,705.6 million | $2,741.3 million |
| Gross profit | $222.3 million | $228.1 million | $442.6 million | $450.4 million |
| Gross profit rate | 16.1% | 16.2% | 16.4% | 16.4% |
| SG&A expense | $210.8 million | $222.2 million | $419.0 million | $438.2 million |
| Earnings from operations | $11.5 million | $5.9 million | $23.6 million | $12.2 million |
| Return on sales | 0.8% | 0.4% | 0.9% | 0.4% |
| Net earnings | $6.8 million | $2.8 million | $10.5 million | $5.3 million |
| Diluted EPS | $0.18 | $0.07 | $0.27 | $0.14 |
Reported revenue declined 1.8% in the quarter and 1.3% year to date, primarily because of foreign-currency translation. On a constant-currency basis, revenue increased 3.9% in the quarter and 4.1% year to date. Operating earnings nearly doubled year to date, reflecting lower SG&A and the absence of prior-year restructuring charges.
- Segment trends: Q2 revenue increased 19.7% in OCG, 4.3% in APAC and declined 0.9% in the Americas and 16.8% in EMEA. On a constant-currency basis, Q2 revenue increased 21.6% in OCG, 17.7% in APAC, 0.7% in the Americas and 0.8% in EMEA.
- Segment profitability: Q2 operating earnings were $25.4 million in the Americas, $1.7 million in EMEA, $1.6 million in APAC and $3.5 million in OCG. APAC improved from a prior-year operating loss of $0.8 million.
- OCG: Year-to-date revenue increased 15.5% reported and 17.1% constant currency; growth was led by business process outsourcing and contingent workforce outsourcing.
- Cash flow: Year-to-date operating cash flow was negative $26.5 million versus negative $107.5 million in 2014. Investing cash use was $7.3 million, including $6.7 million of capital expenditures. Financing cash use was $5.2 million.
- Liquidity and debt: Cash and equivalents were $48.7 million at quarter-end versus $83.1 million at 2014 year-end. Short-term borrowings were $89.9 million versus $91.9 million. Debt-to-total capital was 9.6%, compared with 9.9% at year-end.
- Working capital: Trade receivables were approximately $1.2 billion; global days sales outstanding were 56 days versus 57 days at the 2014 second-quarter end. The current ratio was 1.5.
- Available facilities: The company reported $200.0 million of available capacity on its $200.0 million revolving credit facility and $5.5 million of available capacity on its $150.0 million securitization facility. The securitization facility had $88.0 million of borrowings and $56.5 million of standby letters of credit.
Material changes versus the prior comparable period
- Operating earnings increased 99.9% in Q2 and 96.9% year to date; net earnings increased 143% in Q2 and approximately 98% year to date.
- SG&A declined 5.2% in Q2 and 4.4% year to date. The comparison benefited from the absence of $1.8 million of restructuring charges recorded in the 2014 periods.
- The management simplification restructuring plan completed in the fourth quarter of 2014 is expected to reduce year-over-year SG&A expense growth by approximately $35 million.
- EMEA remained weak, with year-to-date revenue down 17.8% reported and operating earnings down 69.1%, primarily because of currency effects, lower staffing fee-based income, unfavorable country mix and economic uncertainty in Russia.
- Americas year-to-date revenue increased 1.0% and operating earnings increased 8.4%, supported by educational staffing, light industrial activity, improved pricing and customer mix.
- APAC year-to-date revenue increased 4.6% reported and 16.2% constant currency, while operating earnings improved to $5.4 million from breakeven. Margins were pressured by lower-margin large accounts and lower staffing fee-based income.
- Other expense increased to $1.0 million in Q2 and $3.5 million year to date, including interest expense, equity-investment losses and foreign-exchange losses.
- Other comprehensive income was $6.2 million in Q2, largely from unrealized gains on the Temp Holdings investment and foreign-currency translation. The investment had a quarter-end fair value of $107.8 million.
Outlook, commentary, risks and unusual items
Management described the remaining 2015 outlook as encouraging but tempered by modest global economic growth. It expects a stable U.S. labor market and increasing demand for skilled workers. Management identified OCG and Americas professional and technical operations as important growth areas and stated that further acceleration in professional and technical staffing is needed to fully realize prior investments.
- Foreign-currency volatility remains a significant source of reported revenue and earnings pressure, although foreign operations generally have a natural local-currency hedge.
- The company depends on customer collections to fund temporary employee payroll; growth can increase working-capital needs because payroll generally precedes customer receipts.
- Management believes existing cash, operating cash generation, receivable securitization and credit facilities will cover short-term needs, but significant changes in economic conditions or operating results could require additional funding.
- The company was in compliance with debt covenants at quarter-end.
- Ordinary-course litigation includes employment discrimination, wage-and-hour and restrictive-covenant matters. Management does not expect a material adverse effect, but notes that litigation outcomes are inherently uncertain.
- Residual restructuring accruals were $1.6 million at quarter-end, primarily for severance, with most expected to be paid in 2015.
- The U.S. work opportunity tax credit had expired for employees hired after 2014. Retroactive reinstatement through future “extenders” legislation could produce a significant tax benefit, but no such benefit is included in the reported results.
- Principal risks include pricing and competitive pressure, economic and currency volatility, loss of large customers, foreign operations, employment-related claims, workers’ compensation trends, cyber and data-security incidents, technology execution, tax changes, equity-affiliate exposure and maintenance of financial covenants.
- No material changes were reported to the risk factors disclosed in the 2014 Form 10-K.
Important facts for investors to verify
- Whether constant-currency revenue growth in OCG, APAC and Americas professional and technical staffing is sustained and translates into higher margins.
- Whether EMEA revenue, staffing fee-based income and operating profitability recover, particularly in Russia, the United Kingdom, Switzerland and Ireland.
- Whether the management simplification savings offset continued investments in sales, recruiting and new outsourced-service implementations.
- Cash conversion, receivables growth, days sales outstanding and dependence on the securitization facility as staffing activity changes.
- Available borrowing capacity, standby letters of credit, debt covenants and the company’s ability to fund seasonal working-capital requirements.
- The valuation and volatility of the Temp Holdings investment and its effect on accumulated other comprehensive income.
- Potential tax benefits or adverse effects related to expiration or reinstatement of the U.S. work opportunity credit.
- Execution risks associated with OCG growth, large-customer concentration, cybersecurity, employment claims and foreign-currency movements.