Kforce Inc. 2011 Q2 Form 10-Q Summary
Business context and reporting period
Kforce provides temporary and permanent professional staffing services through Technology, Finance and Accounting, Health and Life Sciences, and Government Solutions segments. The filing covers the unaudited three and six months ended June 30, 2011, compared with the corresponding 2010 periods. Kforce operated 63 U.S. field offices, with international operations representing approximately 2% of six-month net service revenues.
Key financial metrics
| Metric | Three months ended June 30, 2011 | Three months ended June 30, 2010 | Six months ended June 30, 2011 | Six months ended June 30, 2010 |
|---|---|---|---|---|
| Net service revenues | $274.0 million | $246.1 million | $536.4 million | $472.8 million |
| Gross profit | $86.6 million | $78.4 million | $165.2 million | $146.5 million |
| Gross margin | 31.6% | 31.9% | 30.8% | 31.0% |
| Income from operations | $11.3 million | $9.0 million | $19.2 million | $13.3 million |
| Net income | $6.8 million | $5.1 million | $11.6 million | $7.9 million |
| Diluted EPS | $0.17 | $0.13 | $0.29 | $0.19 |
| Adjusted EBITDA | $17.3 million | $13.7 million | $31.4 million | $22.3 million |
Six-month net service revenue increased 13.4%, including a 13.0% increase in flexible billings to $514.1 million and a 25.5% increase in search fees to $22.3 million. The six-month effective tax rate was 37.4%, compared with 37.8% in 2010. SG&A declined to 26.0% of revenue from 26.9%.
Flex gross margin declined to 28.4% in the second quarter from 29.0% and to 27.8% for the six-month period from 28.3%, primarily because of higher payroll taxes and compression between consultant bill and pay rates. Flex gross margin improved 130 basis points sequentially from the first quarter.
Segments and material changes
- Technology revenue increased 15.2% in the quarter and 17.3% year to date, and represented approximately 55% of six-month revenue.
- Finance and Accounting revenue increased 26.1% in the quarter and 29.9% year to date.
- Health and Life Sciences revenue increased 2.9% in the quarter and 3.6% year to date. Clinical Research revenue declined, while Health Information Management revenue grew approximately 21%.
- Government Solutions revenue declined 19.0% in the quarter and 15.5% year to date because of federal budget uncertainty, continuing resolutions, delayed contract procurement, government in-sourcing, and reduced contracting demand.
- Total flexible hours increased 14.1% in the quarter and 17.2% year to date. Search placements increased 24.2% in the quarter and 20.3% year to date, although management expected search growth to flatten in the near term.
Cash flow, liquidity, debt, and capital allocation
- Six-month operating cash flow was $10.9 million, compared with cash used in operations of $2.8 million in 2010.
- Investing cash outflow was $4.6 million, including $2.9 million of capital expenditures, versus $34.7 million of investing outflow in 2010, which included the $28.9 million acquisition of the corporate headquarters.
- Financing cash outflow was $6.6 million, including $13.3 million for open-market share repurchases.
- Cash and cash equivalents were $0.7 million at June 30, 2011, compared with $1.1 million at December 31, 2010. Working capital was $72.0 million and the current ratio was 1.7.
- Credit Facility borrowings were $18.9 million at June 30, 2011, compared with $10.8 million at year-end 2010. Availability was $87.6 million, and the facility carried a weighted-average effective interest rate of 2.04%.
- The existing Credit Facility was scheduled to expire in November 2011. Kforce was negotiating replacement financing and expected a new facility during the third quarter, but stated that refinancing was not assured.
- Kforce repurchased approximately 0.9 million shares for $13.3 million in the first six months and had approximately $54.0 million remaining under its repurchase authorization at June 30, 2011.
Outlook, risks, contingencies, and unusual items
- Management expected continued Technology and Finance and Accounting growth for the remainder of 2011, relatively flat Clinical Research and Government Solutions revenue, and continued growth in Health Information Management.
- Management remained optimistic about temporary staffing demand and penetration, but noted a weak macroeconomic environment, including a 9.2% U.S. unemployment rate in June 2011.
- An interim goodwill impairment test for Government Solutions was triggered by federal contracting pressures. The reporting unit’s fair value exceeded carrying value by only 3.4%; no impairment charge was recorded. Goodwill allocated to Government Solutions was $102.6 million, creating sensitivity to further deterioration in forecasts, discount rates, or government spending.
- A California employment-class-action settlement of approximately $2.5 million was approved and accrued, with payment expected in 2011.
- The EEOC determined that reasonable cause existed regarding alleged age discrimination. Kforce asserted meritorious defenses and entered conciliation discussions; no liability was accrued because the outcome and potential loss could not be estimated.
- Potential executive employment-agreement obligations were approximately $63.1 million following a qualifying change in control or approximately $16.9 million absent a change in control, although no liability was recorded.
- Key ongoing risks include federal budget reductions or shutdowns, delays in government payments, staffing demand volatility, wage and payroll-tax inflation, receivable collection, privacy and health-information security, litigation, and dependence on successful credit-facility refinancing.
Most important facts for investors to verify
- Whether Kforce completed replacement financing before the November 2011 Credit Facility expiration and on what terms.
- Whether Government Solutions revenue and margins stabilized and whether its narrow 3.4% goodwill headroom led to a later impairment.
- Whether Flex gross-margin pressure from payroll taxes and bill-pay compression persisted or reversed.
- Whether federal budget actions, in-sourcing, and continuing resolutions materially affected Government Solutions contracts and renewals.
- The ultimate cost and resolution of the EEOC matter and any additional employment-related claims.
- The sustainability of revenue growth, search-fee activity, share repurchases, and operating cash generation relative to debt obligations.