Korn/Ferry International — Form 10-Q Summary
Business context and reporting period
Korn/Ferry provides executive search, leadership and talent consulting through Hay Group, and recruitment process outsourcing and professional search through Futurestep. The filing covers the three and six months ended October 31, 2017, the Company’s fiscal 2018 second quarter and first half. Comparisons are with the corresponding 2016 periods.
Financial performance and key metrics
| Metric | Three months ended Oct. 31, 2017 | Three months ended Oct. 31, 2016 | Six months ended Oct. 31, 2017 | Six months ended Oct. 31, 2016 |
|---|---|---|---|---|
| Fee revenue | $443.0 million | $401.9 million | $844.3 million | $777.5 million |
| Total revenue | $455.5 million | $415.0 million | $870.4 million | $807.9 million |
| Operating income | $51.2 million | $46.5 million | $92.0 million | $51.1 million |
| Net income attributable to Korn/Ferry | $36.3 million | $30.2 million | $65.4 million | $33.4 million |
| Diluted EPS | $0.64 | $0.52 | $1.15 | $0.58 |
| Adjusted EBITDA | $69.6 million | $63.3 million | $128.9 million | $119.7 million |
- Fee revenue increased 10% in the quarter and 9% year to date, with organic growth in all business lines. Quarterly growth was 13% in Executive Search, 6% in Hay Group and 17% in Futurestep.
- Quarterly operating margin was 11.6% of fee revenue, unchanged year over year; six-month operating margin increased to 10.9% from 6.6%, primarily because prior-year results included $24.5 million of restructuring charges.
- Net income attributable to Korn/Ferry represented 8.2% of fee revenue in the quarter versus 7.5% and 7.7% for the six-month periods in 2017 and 2016, respectively.
- Quarterly Adjusted EBITDA margin was approximately 15.7% of fee revenue, unchanged year over year. Six-month Adjusted EBITDA margin was approximately 15.3% versus 15.3% in the prior-year period.
- Cash used in operating activities was $56.2 million in the first six months, compared with $88.6 million used in the prior-year period. Cash used in investing activities was $24.7 million, including $20.8 million of capital expenditures.
- Cash used in financing activities was $53.0 million, including $29.3 million of share repurchases, $11.5 million of dividends and $10.3 million of term-loan principal payments.
Liquidity, debt and balance sheet
- At October 31, 2017, cash and cash equivalents were $282.6 million and marketable securities were $131.2 million, for total cash and marketable securities of $413.9 million versus $530.8 million at April 30, 2017.
- Working capital was $387.6 million, up $2.5 million from April 30, 2017. Client receivables increased to $397.4 million, and days sales outstanding rose from 61 to 67 days.
- Term-loan principal outstanding was $249.2 million, down from $259.5 million at April 30, 2017. The revolving facility had no borrowings, and both facilities mature June 15, 2021.
- Borrowings against company-owned life insurance policies were $66.8 million. Total liabilities were $927.4 million and total stockholders’ equity was $1.135 billion.
- The Company reported compliance with debt covenants. Dividends and share repurchases require a pro forma leverage ratio no greater than 2.50 to 1.00 and domestic liquidity of at least $50.0 million.
Material changes versus the prior comparable period
- Revenue growth was broad-based, led by Executive Search and Futurestep. Executive Search quarterly revenue benefited from a 7% increase in engagements billed and a 5% increase in weighted-average fees per engagement.
- Executive Search quarterly operating margin declined to 19.9% from 24.0%, reflecting higher compensation, headcount, general and administrative expenses and restructuring costs. Hay Group margin improved to 13.2% from 12.1%, while Futurestep remained approximately 14.2%.
- Compensation and benefits increased 11% in the quarter and 8% year to date, primarily because of higher headcount, salaries, incentive compensation and deferred compensation costs.
- Six-month operating income benefited materially from the reduction in restructuring charges: $0.1 million of charges in 2017 versus $24.5 million in 2016.
- Other income was $3.6 million in the quarter and $7.2 million year to date, largely reflecting gains on marketable securities held for deferred compensation obligations.
- The Company repurchased 893,279 shares for $29.3 million during the first six months, compared with $6.9 million in the prior-year period. Approximately $91.9 million remained available under the repurchase authorization at October 31, 2017.
Outlook, commentary, risks and unusual items
- Management stated that cash on hand, operating funds and available credit are expected to meet working capital, capital expenditures, debt repayment, retention-pool obligations, dividends and anticipated share repurchases over the next twelve months. No quantitative earnings or revenue guidance was provided.
- The Company had a remaining Legacy Hay employee retention-pool commitment; 50% of the remaining amount was scheduled for payment within 45 days after November 30, 2017 and the balance within 45 days after November 30, 2018.
- The Company expects to adopt the new revenue-recognition standard in the fiscal year beginning May 1, 2018 using the modified retrospective method. Management expects timing differences for “uptick” revenue, which will be treated as variable consideration and estimated at contract inception.
- Key risks include economic and labor-market conditions, demand for talent services, consultant retention, competition, automation, integration of acquired businesses, foreign currency, cybersecurity and data privacy, legal and regulatory exposure, goodwill impairment and changes in U.S. tax law.
- A 10% movement in relevant foreign currencies could result in an estimated $8.6 million foreign-exchange gain or loss. A 100-basis-point increase in LIBOR would increase interest expense by approximately $0.6 million for the quarter and $1.3 million for six months.
- The filing reports no litigation expected to have a material adverse effect and no off-balance-sheet arrangements. Proposed U.S. tax-law changes were identified as a potential material risk, but their effects were not determinable at filing.
Important facts for investors to verify
- Whether revenue growth, particularly in Executive Search and Futurestep, continues to exceed growth in compensation and headcount costs.
- Whether Executive Search margins recover from the quarterly decline and whether Hay Group integration benefits persist without restructuring charges.
- Cash conversion and working-capital trends, including the increase in client receivable days and the timing of annual bonuses and retention-pool payments.
- Term-loan amortization, variable-rate exposure, covenant headroom and the availability of the revolving facility.
- The eventual effect and transition accounting for the new revenue-recognition standard, including uptick revenue.
- The sustainability of dividends and share repurchases in light of cash flow, leverage restrictions and future economic conditions.