Kelly Services, Inc. — Fiscal 2016 Form 10-K Summary
Business Context and Reporting Period
Kelly Services is a global workforce-solutions provider offering commercial staffing, professional and technical staffing, outsourcing, consulting, recruitment process outsourcing, contingent workforce outsourcing, business process outsourcing and related services. Operations span the Americas, EMEA and APAC and serve customers across multiple industries, including 95 of the Fortune 100. The company assigned nearly 500,000 temporary employees during 2016.
The filing covers the 52-week fiscal year ended January 1, 2017. The comparable 2015 fiscal year contained 53 weeks, which added approximately 1% to 2015 revenue and affects year-over-year comparisons.
On July 4, 2016, Kelly transferred its APAC Commercial and APAC Professional and Technical staffing operations, along with certain APAC OCG businesses, to TS Kelly Asia Pacific, a joint venture in which Kelly retained a 49% interest.
Financial Performance and Key Metrics
| Metric | 2016 | 2015 | Change |
|---|---|---|---|
| Revenue from services | $5,276.8 million | $5,518.2 million | Down 4.4%; down 3.2% constant currency |
| Gross profit | $906.3 million | $920.3 million | Down 1.5%; down 0.5% constant currency |
| Gross profit rate | 17.2% | 16.7% | Up 50 basis points |
| SG&A expenses | $843.1 million | $853.6 million | Down 1.2% |
| Restructuring charges | $3.4 million | None | Americas and EMEA |
| Earnings from operations | $63.2 million | $66.7 million | Down 5.2% |
| Net earnings | $120.8 million | $53.8 million | Up 124.5% |
| Diluted EPS | $3.08 | $1.39 | Up $1.69 |
| Operating cash flow | $37.4 million | $23.5 million | Up $13.9 million |
| Capital expenditures | $12.7 million | $16.9 million | Down $4.2 million |
| Free cash flow | $24.7 million | $6.6 million | Improved |
Net earnings benefited substantially from an $87.2 million pretax gain on the TS Kelly Asia Pacific transaction. The gain was partially offset by $23.5 million of related income tax expense. Excluding this unusual gain, operating performance was considerably closer to the prior year.
Return on sales was 1.2% in both years. The conversion rate, defined as earnings from operations divided by gross profit, was 7.0% in 2016 versus 7.2% in 2015, or 7.4% excluding restructuring charges.
Segment Results
- Americas: Revenue was $3,495.1 million, down 2.3% reported and down 1.5% constant currency. Operating earnings were $108.0 million versus $108.7 million. Volume declined, while average bill rates increased; gross profit rate improved to 16.2% from 15.8%.
- EMEA: Revenue was $938.1 million, down 0.7% reported but up 1.9% constant currency. Operating earnings declined to $13.2 million from $14.0 million. Gross profit rate fell to 14.7% from 15.2%, primarily because of unfavorable customer mix in Switzerland.
- APAC: Post-transaction revenue from the remaining consolidated APAC operations was $189.0 million, compared with $387.7 million in 2015; the periods are not comparable because of the joint venture transfer. Operating earnings were $5.6 million versus $9.1 million.
- OCG: Revenue increased 4.8% to $706.4 million, and gross profit increased 11.6% to $179.3 million. Operating earnings declined to $25.9 million from $28.5 million because SG&A increased 16.2% as Kelly invested in sales resources, new implementations and growth initiatives. A $2.8 million out-of-period adjustment for aged German receivables was recorded in fourth-quarter OCG SG&A.
Liquidity, Debt and Balance Sheet
| Balance-sheet or liquidity metric | January 1, 2017 | Prior year |
|---|---|---|
| Cash and equivalents | $29.6 million | $42.2 million |
| Working capital | $443.5 million | $411.3 million |
| Current ratio | 1.6 | 1.5 |
| Trade accounts receivable | $1.1 billion | $1.1 billion |
| Global fourth-quarter DSO | 53 days | 54 days |
| Total debt | None | $55.5 million |
| Total assets | $2,028.1 million | $1,939.6 million |
| Stockholders’ equity | $1,012.0 million | $895.4 million |
At year-end, Kelly had $150.0 million of availability under its revolving credit facility and $149.6 million of availability under its $200.0 million receivables securitization facility. The securitization facility had $50.4 million of standby letters of credit related to workers’ compensation and no borrowings. Kelly also had $8.6 million of additional unsecured, uncommitted local credit facilities with no borrowings. The company met all debt covenants during 2016.
Contractual obligations totaled $338.2 million, including $65.5 million of operating leases, $68.9 million of accrued insurance, $170.7 million of accrued retirement benefits, $25.7 million of purchase obligations and $1.6 million of uncertain income tax positions.
Material Changes, Outlook and Unusual Items
- Management reported progress toward shifting the business mix toward higher-margin professional and technical services and OCG solutions, while maintaining commercial staffing as a core business.
- Management expects PT and OCG revenue growth, continued commercial staffing activity, tighter cost control, structural operating leverage and further improvement in the conversion rate. No specific numerical revenue or earnings guidance was provided.
- Management expects demand for skilled workers, flexible staffing models and comprehensive workforce-management solutions to remain opportunities, but is monitoring U.S. labor-market demand and economic uncertainty.
- The TS Kelly Asia Pacific transaction generated $36.5 million of cash at closing, a $4.5 million post-close cash true-up and an $87.2 million pretax accounting gain. Kelly’s retained investment had a year-end carrying value of $114.8 million, including its existing TS Kelly Workforce Solutions investment.
- Restructuring costs of $3.4 million related primarily to severance and lease termination costs in the Americas and EMEA. The remaining restructuring accrual was $0.5 million at year-end, primarily expected to be paid in the first quarter of 2017.
- Kelly’s annual goodwill impairment testing found no impairment. Goodwill was $88.4 million at year-end 2016.
- A nationwide Fair Credit Reporting Act class action, Hillson et al. v. Kelly Services, had a formal settlement agreement awaiting court approval. The company’s gross litigation accrual was $9.2 million at year-end 2016, including the expected settlement accrual and other matters.
- Key risks include economic and staffing-demand volatility, intense pricing competition, loss or changing purchasing behavior of large customers, technology-driven labor substitution, employment-related litigation, workers’ compensation claims, privacy and cyber risks, international currency and regulatory exposure, dependence on third-party providers and joint ventures, and compliance with debt covenants.
- Future accounting changes may materially affect presentation, particularly the lease standard, revenue recognition standard, credit-loss standard and accounting for equity investments.
Important Facts for Investors to Verify
- Separate recurring operating earnings from the $87.2 million TS Kelly Asia Pacific transaction gain and assess the related $23.5 million tax expense.
- Reconcile year-over-year revenue trends for the 52-week 2016 period against the 53-week 2015 period and adjust for the APAC deconsolidation.
- Evaluate whether OCG revenue and gross-profit growth can outpace the segment’s increased investment and SG&A burden.
- Monitor working-capital needs, receivables collection, DSO, allowance for doubtful accounts and access to the securitization facility.
- Review the effect of the 49% APAC joint venture on future revenue, earnings, cash flows, related-party transactions and segment reporting.
- Assess potential exposure from employment litigation, the pending Hillson settlement, workers’ compensation claims and tax audits.
- Consider the implications of 93% voting control of Class B shares by Terence E. Adderley and the lack of voting rights for Class A shares.