Korn/Ferry International 10-Q Summary
Business context and reporting period
Korn/Ferry provides executive recruitment, leadership and talent consulting, recruitment process outsourcing, and professional search services through Executive Recruitment, Leadership & Talent Consulting (LTC), and Futurestep. The filing covers the quarter and six months ended October 31, 2015, the second quarter of fiscal 2016. The company operated 78 offices in 37 countries.
Financial performance and liquidity
| Metric | Three months ended Oct. 31, 2015 | Three months ended Oct. 31, 2014 | Six months ended Oct. 31, 2015 | Six months ended Oct. 31, 2014 |
|---|---|---|---|---|
| Fee revenue | $280.6 million | $255.7 million | $548.0 million | $506.9 million |
| Total revenue | $291.3 million | $264.7 million | $570.7 million | $525.0 million |
| Operating income | $29.0 million | $34.4 million | $61.9 million | $53.0 million |
| Net income | $18.0 million | $25.4 million | $41.1 million | $39.9 million |
| Diluted EPS | $0.35 | $0.51 | $0.81 | $0.80 |
| Adjusted EBITDA | $46.1 million | $44.0 million | $87.7 million | $81.9 million |
Quarterly operating margin declined to 10.3% of fee revenue from 13.5%, while six-month operating margin improved to 11.3% from 10.5%. Quarterly net margin declined to 6.4% from 9.9%; six-month net margin declined modestly to 7.5% from 7.9%. Quarterly adjusted EBITDA margin was 16.4%, compared with 17.2%; the six-month margin was 16.0%, compared with 16.2%.
Quarterly fee revenue increased 10%, with Executive Recruitment up 5%, LTC up 11%, and Futurestep up 25%. Six-month fee revenue increased 8%, with Executive Recruitment up 4%, LTC up 10%, and Futurestep up 21%. Foreign exchange reduced quarterly fee revenue by approximately $16.4 million and six-month fee revenue by approximately $32.7 million.
For the six months, cash used in operating activities was $73.4 million versus $52.0 million in the prior-year period. Cash used in investing activities was $12.8 million versus $22.4 million, and cash used in financing activities was $10.9 million versus $1.2 million, primarily reflecting $10.3 million of dividends paid. Cash and cash equivalents ended at $270.7 million, compared with $380.8 million at April 30, 2015. Cash and marketable securities totaled $417.7 million, compared with $525.4 million at fiscal year-end.
Receivables increased to $230.4 million from $188.5 million, and reported days sales outstanding increased from 58 to 71 days. Working capital increased by $4.7 million to $339.7 million. The company stated that available liquidity, operating funds, and other resources were expected to cover operating needs, capital expenditures, the Hay Group acquisition, debt repayment, retention obligations, and dividends for the next twelve months.
The company had no borrowings under its principal credit facilities at October 31, 2015. The amended facilities provided a $150 million term loan and a $100 million revolver, both maturing September 23, 2020. The company also had $68.5 million of variable-rate borrowings against company-owned life insurance policies. On November 23, 2015, after the reporting date, it borrowed $150 million under the term facility at an initial rate of 1.34% to fund the Hay Group acquisition.
Material changes versus the prior comparable period
- Quarterly revenue growth did not translate into higher GAAP profit: operating income fell $5.4 million and net income fell $7.4 million, primarily because of higher acquisition-related costs, compensation, general and administrative expenses, and a $2.6 million loss on marketable securities versus $2.4 million of income in the prior-year quarter.
- Six-month operating income increased $8.9 million, benefiting from revenue growth and the absence of $9.9 million of prior-year restructuring charges. Six-month net income increased only $1.1 million because of higher compensation, acquisition costs, foreign-exchange effects, and investment losses.
- Quarterly general and administrative expense increased 48% to $44.6 million, including approximately $8.6 million of Hay Group acquisition-related legal and professional fees. Six-month acquisition-related general and administrative costs were approximately $9.0 million.
- Average consultant headcount increased 20% in the quarter and 15% for the six-month period. Compensation and benefits increased 8% quarterly and 7% year to date, including Hay Group-related severance costs of $3.3 million in the quarter and $3.6 million for six months.
- Executive Recruitment margins improved materially, while LTC margins were pressured quarterly by higher compensation and Futurestep growth required significant headcount expansion. South America was the weakest Executive Recruitment region, with quarterly fee revenue down 27% and six-month fee revenue down 15%.
- The company initiated quarterly dividends of $0.10 per share during fiscal 2016. No open-market repurchases were made under the repurchase program during the quarter.
Guidance, outlook, risks, contingencies, and unusual items
No quantitative earnings or revenue guidance was provided. Management emphasized continued investment in consultants, intellectual property, technology, products, and cross-selling across business lines.
The company completed the approximately $493 million Hay Group acquisition on December 1, 2015, consisting of approximately $275 million in cash, net of estimated cash acquired, and 5,922,136 shares valued at approximately $218 million based on the November 30 closing price. Hay Group results will be included beginning December 1, 2015. Management expects restructuring and integration charges beginning in the third quarter of fiscal 2016 and plans workforce alignment, office consolidation, and elimination of redundant costs. A $40 million employee retention pool was committed, with portions payable through 2018.
Key risks include integration and execution risk related to Hay Group, increased indebtedness and covenant compliance, foreign-currency volatility, economic and labor-market conditions, client concentration and portability of relationships, competition, attracting and retaining consultants, cybersecurity and information-system disruptions, legal and regulatory exposure, goodwill and intangible-asset impairment, deferred-tax recoverability, seasonality, and the effect of dividends on capital available for growth.
Accumulated other comprehensive loss increased to $56.7 million from $40.6 million, primarily because of foreign-currency translation losses. The filing reported no material litigation, no off-balance-sheet arrangements, and no material changes in critical accounting policies. Management concluded that disclosure controls were effective and that there were no material changes in internal control over financial reporting.
Important facts for investors to verify
- Post-quarter financing and pro forma leverage following the $150 million term loan draw and the $493 million Hay Group acquisition.
- Hay Group purchase-price allocation, acquired assets and liabilities, goodwill, intangible assets, and subsequent impairment testing.
- Actual integration, restructuring, severance, retention-pool, and other acquisition-related costs versus expected synergies.
- Receivables collection trends and whether days sales outstanding returns toward historical levels.
- Cash generation after annual bonus payments, dividends, acquisition spending, and debt service.
- Compliance with the $100 million minimum adjusted EBITDA covenant and other credit-agreement restrictions on dividends, repurchases, and acquisitions.
- Foreign-exchange effects on international revenue, comprehensive income, and operating margins.
- The sustainability of the quarterly dividend and the availability of the $150 million share-repurchase authorization.