Kelly Services, Inc. 2020 Third-Quarter Form 10-Q Summary
Business context and reporting period
Kelly Services is a global talent solutions provider offering temporary staffing, permanent placement, outsourcing and consulting services. Beginning in the third quarter of 2020, the company operated through five reportable segments: Professional & Industrial, Science, Engineering & Technology, Education, Outsourcing & Consulting, and International.
The filing covers the 13 weeks ended September 27, 2020, and the 39 weeks ended September 27, 2020. Comparable 2019 periods ended September 29, 2019. Results were materially affected by the COVID-19 pandemic and related economic restrictions.
Key financial metrics
| Metric | Q3 2020 | Q3 2019 | First 9 months 2020 | First 9 months 2019 |
|---|---|---|---|---|
| Revenue from services | $1,038.2 million | $1,267.7 million | $3,274.6 million | $4,017.8 million |
| Gross profit | $191.0 million | $227.7 million | $603.5 million | $723.3 million |
| Gross profit rate | 18.4% | 18.0% | 18.4% | 18.0% |
| SG&A expense | $193.4 million | $210.6 million | $591.0 million | $666.9 million |
| Earnings (loss) from operations | $(2.4) million | $17.1 million | $(103.1) million | $68.7 million |
| Net earnings (loss) | $16.7 million | $(10.5) million | $(95.4) million | $95.4 million |
| Diluted EPS | $0.42 | $(0.27) | $(2.43) | $2.41 |
| Net cash from operating activities | Not separately provided for the quarter | Not separately provided for the quarter | $216.5 million | $74.2 million |
Third-quarter revenue declined 18.1%, while gross profit declined 16.1%. SG&A decreased 8.2%, but operating earnings declined to a $2.4 million loss. The quarterly net profit primarily reflected a $16.8 million gain on the Persol Holdings investment and a $1.2 million income tax benefit.
Year-to-date results included a $147.7 million non-cash goodwill impairment charge, a $32.1 million gain on the sale of headquarters properties, a $31.4 million loss on the Persol Holdings investment, and a $36.5 million income tax benefit. Excluding the impairment, operating results remained pressured by lower revenue and gross profit.
Liquidity, cash flow and capital structure
- Cash, cash equivalents and restricted cash totaled $254.4 million at September 27, 2020, compared with $31.0 million at year-end 2019.
- Cash and equivalents on the balance sheet were $248.2 million; trade accounts receivable were $1.1 billion.
- Operating cash flow increased to $216.5 million from $74.2 million, primarily because lower revenue reduced working-capital requirements. The company also deferred $75.7 million of payroll tax payments under COVID-19 relief legislation.
- Investing activities generated $10.3 million, including $55.5 million from the headquarters sale-and-leaseback, partly offset by $36.4 million for the Insight acquisition.
- Financing activities used $6.8 million, including $3.0 million of dividend payments during the first nine months. The quarterly dividend was subsequently suspended.
- Debt was $0.5 million at quarter-end versus $1.9 million at year-end 2019. Debt-to-total-capital was approximately 0.0%.
- The company reported $200.0 million of available capacity under its $200.0 million revolving facility and $96.8 million of available capacity under its $150.0 million securitization facility. It remained in compliance with applicable debt covenants.
- Deferred U.S. payroll taxes of $75.7 million are expected to be paid approximately half by the end of fiscal 2021 and the remainder by the end of fiscal 2022.
Material changes versus the prior comparable period
- COVID-19 reduced staffing and permanent-placement demand across nearly all businesses. Third-quarter staffing revenue declined 22% and permanent-placement revenue declined 40%; outcome-based services increased 4%.
- All segments reported lower third-quarter revenue. Education declined 51.8%, International declined 20.8%, Professional & Industrial declined 17.0%, Science, Engineering & Technology declined 14.4%, and Outsourcing & Consulting declined 7.0%.
- Education and International generated third-quarter operating losses of $7.5 million and $9.9 million, respectively. International included a $9.5 million non-cash charge related to a disputed customer receivable.
- Gross profit rate improved by 40 basis points to 18.4%, reflecting lower employee-related costs and improved mix, partially offset by lower permanent-placement revenue and customer mix.
- Management reorganized the business into five specialty segments and pursued cost reductions, including compensation reductions, furloughs, reduced discretionary spending, lower capital expenditures and a hiring freeze.
- The company acquired Insight Workforce Solutions and Insight EDU for cash consideration of approximately $38.1 million, including working-capital adjustments, and sold its Brazil operations in August 2020.
- The company’s goodwill balance was fully impaired in the first quarter after COVID-19-related declines in its market capitalization triggered an impairment test.
- The company sold three headquarters properties for $55.5 million of net cash proceeds and entered into leaseback arrangements, increasing future lease obligations.
Guidance, outlook, risks and unusual items
- Management expects material year-over-year revenue declines to continue through at least the first quarter of 2021 and expects a gradual, but potentially delayed, recovery in customer demand.
- Management expects fourth-quarter and full-year 2020 earnings to decline year over year because cost reductions are not expected to fully offset lower revenue and gross profit.
- In October 2020, management initiated involuntary staffing reductions across all segments and Corporate. Approximately $4 million to $5 million of fourth-quarter restructuring charges are expected for severance and related benefits.
- Temporary furloughs and compensation reductions ended early in the fourth quarter, while staffing reductions, discretionary-spending controls, capital-expenditure reductions and selected hiring restrictions continued.
- The quarterly dividend was suspended until conditions improve.
- The company faces risks from prolonged COVID-19 effects, uncertain staffing demand, education-sector disruption, customer credit losses, foreign currency and market volatility, the Persol Holdings investment, litigation, employment-related claims, cybersecurity, regulatory compliance and potential additional impairment charges.
- A disputed customer receivable of approximately $10 million is subject to litigation. Following an unfavorable September ruling, the company increased its allowance by $9.2 million; the ruling has been appealed.
- The Brazil sale includes indemnification obligations capped at $8.8 million; the recorded fair-value liability was $2.5 million.
- Aggregate reasonably possible litigation losses in excess of recorded accruals were estimated at $0 million to $1.4 million, excluding matters for which a loss range could not be estimated.
Most important facts for investors to verify
- Whether staffing demand and revenue trends recover as projected, particularly in Education and International.
- Whether cost reductions, workforce reductions and the new operating model restore positive operating margins.
- The sustainability of the unusually strong operating cash flow, given its dependence on lower working-capital requirements and deferred tax payments.
- The timing and funding of deferred payroll tax repayments and the company’s continued compliance with debt covenants.
- The outcome of the disputed customer receivable litigation and any resulting additional credit losses.
- The volatility and carrying value of the Persol Holdings investment and the performance of the PersolKelly joint venture.
- The financial impact of the suspended dividend, headquarters leaseback obligations, Brazil indemnification exposure and expected fourth-quarter restructuring charges.