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Heidrick & Struggles International Inc (NASDAQ:HSII)
Q3 2019 Earnings Call
Oct 28, 2019, 5:00 p.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Ladies and gentlemen, thank you for standing by, and welcome to the Heidrick & Struggles 2019 Third Quarter Earnings Conference Call. [Operator Instructions] After the speaker's presentation, there will be question-and-answer session. [Operator Instructions]

I would now like to hand the conference over to your speaker today, Suzanne Rosenberg, Vice President of Investor Relations. Thank you. Please go ahead, madam.

Suzanne Rosenberg -- Vice President, Investor Relations

Good afternoon, everyone, and thank you for participating in Heidrick & Struggles 2019 third quarter conference call.

Joining me on today's call is our President and CEO, Krishnan Rajagopalan; and Chief Financial Officer, Mark Harris. We have posted our third quarter slides on the IR home page of our website at heidrick.com, and we encourage you to view them for additional context, but we won't be referring to specific page numbers during our opening comments.

In our materials, we refer to non-GAAP financial measures that we believe provide additional insight into our underlying results. A reconciliation between GAAP and non-GAAP financial measures can be found in the last schedule of the release. Also in our remarks, we will be making forward-looking statements and ask that you please refer to the Safe Harbor language contained in our news release.

Krishnan, I'll now turn the call over to you.

Krishnan Rajagopalan -- President & Chief Executive Officer

Thank you, Suzanne. Good afternoon, everyone, and thank you for joining our call.

Before I start speaking to our third quarter performance, let me welcome Suzanne Rosenberg to the Heidrick family as our new Head of Investor Relations. Suzanne will be a dedicated resource to the financial community, and we are all very excited to have her on board.

With that, I'm pleased to share our team's third quarter accomplishments. We delivered strong quarterly and nine-month results as we continue to see consistent demand at the top and we executed against our strategy to continue to gain market share.

While an aggregate search is performing up to last year's levels, we are seeing some variabilities around the world. In Europe, there are some macro headwinds and Brexit continues to pose a challenge in the region, but our teams are focused on executing across Continental Europe.

As I mentioned last quarter, several factors continue to play in Asia including consultant turnover from last year, consultant mix and generally tough comps compared to last year. Nevertheless, Asia remains a growth opportunity for us as we continue to make strategic hires with more in the pipeline and sharpen our focus on emerging regional issues.

And as you can see from the numbers, the Americas continues to show no weakness in our market at the top.

We're also very excited about welcoming 2GET, one of the leading search firms in Brazil to our Heidrick global team. With this acquisition, which we announced this past September, we have significantly expanded our presence in Brazil, and in addition to our existing presence in Sao Paulo, we gained a second location in Rio de Janeiro.

We revamped our team and added 13 new consultants who bring additional in-depth local expertise in areas such as infrastructure, private equity and family owned businesses along with a wide range of clients.

2GET is an excellent fit with Heidrick. Like us, 2GET has a strong focus in working at the top and a commitment to delivering premium data driven tech-enabled services. With this acquisition, we did record a one-time non-recurring restructuring charge which Mark will discuss later.

From a larger regional perspective, however, we now have an excellent platform in place to grow throughout Latin America and achieve our longer-term goals for the region, particularly given the size, scale and dimensions of this team. In addition, we see great opportunities to expand Heidrick Consulting in this market.

Overall, we continue to keep pace with 2018's record revenue performance, our nine months 2019 performance was less than 1% behind our record 2018 revenue achievement and we continued our journey in outstanding search productivity at $1.8 million per consultant on a trailing 12-month basis.

As important, our results demonstrate how our team's sharp focus on business operations is generating year-to-date increases in operating income, operating margin, net income and earnings per share all on an adjusted basis, each of which outperformed the same period of 2018.

In search, we continue to see favorable market demand at the top of organizations where we play. While in aggregate, I describe the market, the same as I did last quarter. We aren't seeing a slowdown, we aren't seeing acceleration either. We continue to be a trusted advisor to our clients. Overall, we believe our success will continue to be driven by our premium diversified portfolio of advisory solutions that empower both the Directors and senior executives to leverage top talent and transform their organizations.

We are encouraged by the trends we're seeing in Heidrick Consulting. In the third quarter, both new business confirmations and revenue increased over the first and second quarters. Our growth will continue to be driven by increased collaboration within the firm to bring the full power of Heidrick service offerings to our clients globally.

Last year, approximately 20% of our consulting revenue was driven through search introduction, and in the first nine months of this year, this has climbed to around 30%. Much of this growth is being driven by projects focused on culture shaping and leadership development opportunities. We are also adding to the consulting team with strategic consulting hires around the globe.

The clear differentiator of Heidrick's offerings is our data-driven and technology-enabled talent, leadership and culture solutions, which are becoming fully embedded across our businesses. This approach is also continuing to resonate more strongly with our clients.

Some examples. We've now executed over 8,000 searches through our tech-enabled process that we refer to as the Heidrick Way. Our current use of Heidrick Connect is at 92%. As part of this process, we are leveraging our proprietary Infinity Framework assessment methodology to gather consistent data.

Our offering on digital acceleration continues to gain momentum, and we have now expanded from North American clients to a global pipeline of opportunities. And we are continuing to expand our work at the top, not only by placing CEO candidates with our clients, but also by working with those CEOs to accelerate their performance starting from day one. We have several such landmark projects under way.

Moving forward, we are advancing important long-term initiatives that we expect will broaden our capabilities and service offerings to drive growth in the years ahead.

At the same time, we remain focused on going to the market as one firm with an integrated value proposition, a distinct suite of capabilities that maximize leader, team and organizational performance, and deliver superior leadership solutions through a unique differentiated client experience.

Before I turn the call over to Mark, I'd like to close with how proud I am of the contributions from our global team of employees. At the end of September, our employees participated in our first-ever global day of service, where we as a firm came back to the communities in which we served raising awareness, volunteering and raising funds for non-profits and organizations focused on education, training and other local causes.

It was truly a heartwarming and inspiring day. I want to thank all of our employees, not only for their time and commitment to this important milestone, but also for the hard work they contribute each and every day toward advancing our clients' agendas.

Now, let me turn the call over to Mark to detail the quarter.

Mark R. Harris -- Executive Vice President & Chief Financial Officer

Thank you, Krishnan. Good afternoon, everyone, and thank you for joining our call today.

I'm pleased to report our third quarter financial results today, where we achieved net revenue of $182.2 million, up 5% from the second quarter and marginally down compared to last year's record third quarter by 3%. Excluding the impact of exchange rate fluctuations, we kept pace with last year's record revenue only down 1% on a constant currency basis. As a management team, we remain actively focused on delivering increases in profitability through to the bottom line, which we achieved again this quarter.

First, turning to Executive Search, quarterly revenue declined about 3% year-over-year. However, looking at our year-to-date performance given the quarterly variability we see in our markets, search revenue was essentially flat. But on a constant currency basis, search revenue was up 2%. That's ahead of the same period in 2018, outside of exchange rate fluctuation.

In the third quarter, on a constant currency basis, the Americas region increased 2.3% driven by strong performance from our teams in the industrial, consumer and GTS practices. Europe decreased 2.6%, stemming from decreases we saw in our Industrial practice, offset by strong performances in our financial services, GTS and healthcare & life science practices. Asia-Pacific declined 17.4% due to decreases in most practices, given our loss of 19 consultants in 2018, but offset by the 12 we replaced through promotions and new hires. Please remember, the new consultants will take time to generate full productivity. Therefore, we expect to see their contributions more in 2020, assuming the current macroeconomic and other headwinds will subsidize [Phonetic] in Asia.

I'm happy to also report that Heidrick Consulting quarterly revenue increased 3.1% year-over-year on a constant currency basis and increased 8% sequentially. Head count also increased year-over-year and we anticipate additional hiring in Heidrick Consulting to capitalize on the market opportunities we are seeing. I'm also pleased to report that more revenue is being driven by Executive Search consultants, something we have been working tirelessly on here at Heidrick.

As a reminder, we started our journey with Heidrick Consulting nearly two years ago through combining our Culture Shaping and Leadership Consulting groups. We're pleased with positive revenue trends we have been seeing in both the second and third quarters of 2019, and we look forward to their future contributions moving forward.

Turning to salary and benefits, this was lower by $3.5 million or 2.6% compared to last year's third quarter. This was driven by a decrease in fixed compensation of $600,000 and variable compensation by $2.8 million, mostly related to lower revenue in the quarter. On a year-to-date basis in 2019, we are $1.1 million lower in salary and benefits from the same period in 2018.

General and administrative expenses were $33.1 million, which was the same compared to last year's third quarter. However, our year-to-date G&A expense was $3.9 million or 4% lower than 2018, which contributed to the bottom line expansions between the period. Biggest improvement came from our continued focus around reducing professional service expenses and travel costs.

In the third quarter, we recorded a one-time non-recurring restructuring charge of $4.1 million. The restructuring charge relates to the closing of our legacy Brazil operations given the acquisition of 2GET at the end of September. The charge is primarily related to employee, facility and legal costs. With regards to our new platform, we're expecting our new team in Brazil to be accretive to our bottom line. In addition, we look forward to growth in Latin America, a strategic region for Heidrick.

Excluding the restructuring charges, adjusting operating income in the third quarter improved to $18.6 million. Adjusted operating margin was 10.2%, and on a year-to-date basis, our adjusted operating margin was 10.1%. Finally, adjusted net income for the third quarter was $13.7 million and adjusted earnings per share was $0.70. On a year-to-date basis, we're very pleased with the adjusted net income growth of $40 million compared to $38.1 million in the same period last year.

Adjusted EPS for the nine-month period also increased to $2.05 compared to $1.96 last year, which benefited from reduced tax rate. For the full year 2019, we're still expecting an effective tax rate in the low 30% range.

Now I'll turn to our balance sheet. At the end of the third quarter, our cash and marketable securities increased by $54.7 million to $218.9 million compared to $164.2 million at the end of last year's third quarter, an increase of 33%. We had nothing outstanding on our $175 million credit facility, therefore giving us nearly $400 million of liquidity at the end of the third quarter. This positions Heidrick incredibly well to be strategic on future opportunity which we continue to explore in the market of search, consulting and potentially new areas outside of our current two core services.

Turning to our fourth quarter of 2019, we expect that net revenue will range between $170 million and $180 million compared to record quarterly revenue of $185.3 million achieved in last year's fourth quarter. Our guidance is based on search backlog at the end of the third quarter, which increased from the second quarter, the typical seasonality of search confirmation trends in the fourth quarter, our expectations for Heidrick Consulting assignments, anticipated fees, the number of consultants and their productivity and the anticipated economic climate.

In summary, given the global market conditions we're facing in 2019 compared to that of 2018, we're delighted with both the third quarter and year-to-date performance. Our management of the business continues to deliver meaningful improvements to the bottom line as we can see with our adjusted EPS achievements. We're within range of our record-setting performance in 2018 which is a great team accomplishment by all of us at Heidrick & Struggles. Finally, given our market position and strength in liquidity, we have the elasticity to be very strategic for the right opportunities which we expect will create further value for our shareholders.

With that, we'd be glad to take your questions.

Questions and Answers:

Operator

[Operator Instructions] Your first question comes from the line of Tobey Sommer with SunTrust. Please go ahead. Your line is open.

Jasper Bibb -- SunTrust -- Analyst

Thanks. This is Jasper Bibb on for Tobey. I was hoping you could discuss search -- and highlight some of the markets where you might be seeing incremental softness?

Mark R. Harris -- Executive Vice President & Chief Financial Officer

Could you repeat the first part? You kind of broke out just for a second there.

Jasper Bibb -- SunTrust -- Analyst

Yes. I was just hoping you could discuss search demand in Europe and maybe go through some of the markets where you might be seeing incremental softness?

Krishnan Rajagopalan -- President & Chief Executive Officer

Yes. Sure. It's Krishnan, and thanks for that question. If we look at Europe, clearly there are two markets that have been a bit softer this year versus last year. The U.K. and Germany have been the two major markets where we've seen some softness inside of Europe. So I think those are the two biggest ones. The rest are sort of humming along similar to last year. Some are doing a little bit better, but those are two big markets for Europe.

Jasper Bibb -- SunTrust -- Analyst

Yes, great. That's very helpful. Just kind of looking to the acquisition of 2GET, I wanted to ask why you're looking at the Brazilian market specifically? And how we should think about productivity for Brazil versus the rest of the Americas segment?

Krishnan Rajagopalan -- President & Chief Executive Officer

Yes. It's Krishnan again. Thank you. When we look at Brazil, we see a economy that is growing. Most of the reports, the analysis that we see, we see a growth for the foreseeable future over there. We see favorable political environment. We thought we were sub-scale and we think that this acquisition allows us to play in the right space, in the right scale and to be able to participate in various growth sectors of that economy as well, which is why we decided to invest in Brazil at this time. It also gives us the opportunity to not only do that, but as Mark and I mentioned to on-board a fantastic team that's completely aligned with us in terms of their vision of driving the business and to have a nice platform for Latin America as well. So those are the reasons.

Jasper Bibb -- SunTrust -- Analyst

Okay. Perfect. Thanks, guys.

Operator

[Operator Instructions] Your next question comes from the line of Kevin Steinke with Barrington Research. Your line is open.

Kevin Steinke -- Barrington Research -- Analyst

Good afternoon. Just wanted to follow-up on the discussion about Latin America, a little bit there. With the 2GET acquisition, it sounds like you want to use it as a platform for expansion in Latin America, maybe it sounds like even beyond Brazil. I mean, should we expect you to be more aggressive with organic hiring in Latin America going forward?

Mark R. Harris -- Executive Vice President & Chief Financial Officer

No problem. I'm looking -- sorry, it's Mark here. Thanks for the question. Yes, right now in terms of Brazil, right, what we've seen is a couple of changes, one in the political front, secondly is kind of where they're making their investments. We see that kind of coming through in the forecast, again by different banks as well as the World Bank predicting more 2%, 2.5% in 2020, 2021 and 2022, which again we thought was a good timing perspective to look at it.

The 2GET acquisition was one very similar company, similar in terms of how we operate, how we think about the business, not just from a search perspective but also from a Heidrick Consulting perspective as well as other initiatives that we're thinking through. And I think, kind of, just to go back to your point, Kevin is, yes, in addition to Brazil, and given the excellence of which they operated in Brazil, it makes a lot of sense to think well beyond that in Latin America. So I can't comment specifically on which countries we're thinking through, but we definitely have some idea of generation in terms of expanding the footprint outside of just Brazil, but again maintaining our discipline in terms of profitability.

Kevin Steinke -- Barrington Research -- Analyst

Okay. Thanks for that. I think you also mentioned in the prepared comments when looking at acquisition opportunities, potentially looking at areas outside of your two core service offerings of search and consulting, I don't know how much you'd care to expand on that, but maybe any color around -- maybe the other kind of areas you'd like to look at to expand your service offering?

Krishnan Rajagopalan -- President & Chief Executive Officer

Yes, it's Krishnan here. So, look, I think that there is an opportunity for us in the tech-enabled space of intersection with human capital given the data assets and everything that we're going to continue to expand in that area. So, we're looking through ideas and thoughts to be able to drive that. And I think that's what we're going to be focusing on in terms of the commentary that Mark provided on that. And I think that -- look it's a vibrant opportunity. We've seen ourselves sort of jumping into that with our Heidrick Way with everything that we're doing and conversations we're having with clients as well. So, we think there is something to explore there.

Kevin Steinke -- Barrington Research -- Analyst

Okay, great. Just circling back quickly on 2GET, should we assume that consultant productivity on a U.S. dollar basis is lower than the segment overall currently?

Mark R. Harris -- Executive Vice President & Chief Financial Officer

It's -- my comment would be its marginally lower, but remember it's a smaller piece, obviously, of the greater consolidated efforts. So, I don't know how much of that you'd really see in the numbers going forward.

Kevin Steinke -- Barrington Research -- Analyst

Okay. Sure. Yes, I was just trying to ask it more from the perspective of the size of the firm, but -- in terms of revenue, but that seems relatively straightforward I guess. So, OK, and I mean I guess I was surprised to hear your comment that despite some incremental -- little bit of softness in Europe, you actually called out financial services as having a good performance in Europe. So, I mean is that just a function of quarter-to-quarter choppiness? You talked about last quarter being a little softer, so, I mean, any comment around the financial services sector in Europe.

Mark R. Harris -- Executive Vice President & Chief Financial Officer

The only comment I would make and I think it's hopefully been consistent which is when you break Europe down by financial services, it's what you would expect and that is obviously in the U.K. much lower than what it was last year. But the Continental Europe as well as a little bit further up North, I mean Ireland and other places, The Netherlands is doing very well for us right now, we're starting to see -- or we have been seeing better performance compared to last year.

So, it feels like there's just a bit of a shift. The overall financial services has been good. But obviously when you're trading between the U.K. and other countries, it's different economics completely. So -- but the strength of the confirm seems to still be there. So, we're not seeing a real pullback across the board so to speak.

Krishnan Rajagopalan -- President & Chief Executive Officer

I mean we were off 10%. We were off 10% of some pretty high numbers, so it was down.

Kevin Steinke -- Barrington Research -- Analyst

Okay. But still kind of holding in there relatively well I guess against some tough comps it sounds like.

Krishnan Rajagopalan -- President & Chief Executive Officer

Correct.

Mark R. Harris -- Executive Vice President & Chief Financial Officer

There you go. Absolutely.

Krishnan Rajagopalan -- President & Chief Executive Officer

Absolutely right.

Kevin Steinke -- Barrington Research -- Analyst

Okay. Okay, got it. Lastly, I guess for me was you talked about the increasing percentage of cross-sell of consulting work coming from the search side. I'm just wondering what the opportunity is for to work in the other direction. It would seem like when you're doing some of these larger consulting projects in digital transformation or culture shaping or what have you there, there's going to be an opportunity to bring in talent to support those transformations or those cultural transformations. So, how much -- is that something you even look to measure how much you can cross-sell search from the consulting side?

Krishnan Rajagopalan -- President & Chief Executive Officer

Yes. Thank you. It's a great question. Yes. We absolutely do measure that. And we look at it and we talk about it, and the consulting team's doing a really nice job of opening up some new opportunities for us. Just we don't as much talk about on this call, but just given the nature of the size of each of these businesses and which one impacts which more, but we're going to continue to focus on that. And I think you're absolutely right that there is opportunity there as well.

Kevin Steinke -- Barrington Research -- Analyst

Okay. Thanks for taking my questions.

Krishnan Rajagopalan -- President & Chief Executive Officer

Thank you.

Mark R. Harris -- Executive Vice President & Chief Financial Officer

Sure.

Operator

There are no further questions at this time. I will turn the call back over to Krishnan for closing remarks.

Krishnan Rajagopalan -- President & Chief Executive Officer

Okay. Thank you very much. Let me just close by saying and reminding us, sort of, there are four things that we're really been focused on this year that hopefully you all see growing the scale and impact of Heidrick Consulting and search. Yes, there are some headwinds in the market, but however we're growing with purpose and you see that with Brazil and 2GET. The second is all around collaboration bringing the best of Heidrick to our clients and we're continuing to drive that. Third, delivering a premium, tech-enabled experience to our clients. Primary focus is on that experience. Byproducts clearly are efficiency gains that we've seen as well as we're creating a data asset as I mentioned. And then, in the bottom line, is you can see our fourth cost-containment objectives and just being mindful of that, so being financially responsible, and I think you're seeing that in our results as well.

So, thank you all for joining our call. I'm lucky to lead such a wonderful team at Heidrick on what I call such a purposeful journey as well. We're committed to closing out the fourth quarter strong and we look forward to speaking with everybody in the upcoming year as well. Thank you so much.

Operator

[Operator Closing Remarks]

Duration: 27 minutes

Call participants:

Suzanne Rosenberg -- Vice President, Investor Relations

Krishnan Rajagopalan -- President & Chief Executive Officer

Mark R. Harris -- Executive Vice President & Chief Financial Officer

Jasper Bibb -- SunTrust -- Analyst

Kevin Steinke -- Barrington Research -- Analyst

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