Korn Ferry (NYSE:KFY) Q2 2023 Earnings Call Transcript

Korn Ferry (NYSE:KFY) Q2 2023 Earnings Call Transcript December 8, 2022

Korn Ferry beats earnings expectations. Reported EPS is $1.43, expectations were $1.41.

Operator: Ladies and gentlemen, thank you for standing by and welcome to the Korn Ferry Second Quarter Fiscal Year 2023 Conference Call. As a reminder, this conference is being recorded for replay purposes. We have also made available in the Investor Relations section of our website at kornferry.com, a copy of the financial presentation that we’ll be reviewing with you today. Before we turn the call over to your host, Mr. Gary Burnison, let me first hand the call over to Tiffany Lauder , Vice President, Investor Relations, to read a cautionary statement to investors. Please go ahead, Ms. Lauder .

Unidentified Company Representative: Thank you, Amy. Certain statements made in the call today, such as those relating to future performance, plans and goals constitute forward-looking statements within the meaning of the Private Securities Litigation Act of 1995. Although the company believes the expectations reflected in such forward-looking statements are based on reasonable assumptions, investors are cautioned not to place undue reliance on such statements. Actual results in future periods may differ materially from those currently expected or desired because of a number of risks and uncertainties which are beyond the company’s control. Additional information concerning such risks and uncertainties can be found in the release relating to this presentation and in the other periodic and other reports filed by the company with the SEC, including the company’s annual report for fiscal year 2022 and in the company’s soon to be filed quarterly report for the quarter ended October 31, 2022.

Also some of the comments today may reference non-GAAP financial measures such as constant currency amounts, EBITDA and adjusted EBITDA. Additional information concerning these measures, including reconciliations to the most directly comparable GAAP financial measures is contained in the financial presentation and earnings release relating to this call, both of which are posted in the Investor Relations section of the company’s website at www.kornferry.com. With that, I’ll turn the call over to Gary Burnison. Please go ahead, Gary.

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Gary Burnison: Good afternoon and thank you, Tiffany and thank you, everybody, for joining us. Our fiscal second quarter results were very good. We generated about $728 million in fee revenue which was up 20% at constant currency and 14% at actual rates. I’m really proud of our performance given that the global economy has been in transition for several months now. We’re seeing change on every front from over a decade of high liquidity and historically low interest rates to changes in central bank policies, significant shifts in global trading partners and persistent inflationary pressures. In response, companies and our clients will undoubtedly have to continue adjusting their organizational and workforce strategies to tomorrow which is opportunity for Korn Ferry.

As we come to a close of another calendar year, I think it’s good to take stock of just how far Korn Ferry has come and how much more capable we’ve become. First, when we look at our historical performance through the cycles, it’s clear our diverse offerings and larger scale have resulted in progressively better results from peak to peak and trough to trough. In other words, the ceiling and the floor continue to be incrementally higher through each term. For example, our peak and trough revenues from the Great Recession to the COVID recession are more than 3x higher. And over the long run, our 10-year CAGR has been 13%. There’s no doubt that we’re a substantially different firm today than we were even just a few years ago, with far greater scale and relevance of our offerings.

Our evolving capability and broad offerings are propelling Korn Ferry and our clients through this moment this transitory period. This combines organizational strategy, leadership and professional development, assessment and succession, rewards and talent acquisition, capabilities to help clients execute their business strategy. We’ve anchored a firm around a well-balanced, diverse slate of solutions. Number one, a major account strategy that now represents 37% of our portfolio, consulting and digital capabilities that represent almost 40% of our firm. And the integrated go-to-market strategy, One Korn Ferry that’s resulted in almost 30% of our revenue coming from cross line of business referrals, a new Korn Ferry that trains and develops over 1 million professionals a year on compensation and rewards advisory and digital offering would comp out on more than 25 million executives, a new interim transition management staff capability with about $225 million of annual revenue on a run rate basis.

And this offering essentially didn’t exist for us a little over a year ago. An award-winning RPO business with consistent top line growth which now represents 14% of our firm. Today, RPO has nearly $1 billion of revenue under contract. This includes 2 major 3-year contract wins with a combined value of nearly $200 million that we secured in the second quarter. And we’re a much, much more globally, geographically diverse firm today. No doubt there’s economic uncertainty as we enter 2023. But this transitory time like others in the past is also the proving grounds for the effectiveness of our strategy, the strength of our culture, the resilience of our colleagues, the relevance of our solutions and our offerings and the potency of the Korn Ferry brand.

The truth is that great companies make their best moves in times like these. And Korn Ferry is a great company. Looking forward to 2023, we’re going to continue to refine our account strategy to take advantage of changing global trade lanes, putting further emphasis on our regional accounts. We’re going to pursue a larger addressable market, almost $100 billion in the U.S. alone of interim and transition management, particularly around the skilled positions of finance and accounting, digital and technology, supply chain and legal, just to name a few. We’re going to build on our health care expertise, particularly in the RPO area. We’re going to further develop our partner ecosystem to distribute our consulting and digital capabilities globally.

We’re going to invest in our professional and leadership development offerings, especially our digital platforms, upskilling technologists as well as sales professionals. And we’re also going to pivot towards cost optimization solutions that will be even more relevant in the current environment. We’re going to carefully balance our cost structure and profitability to seize both short and midterm opportunities. And finally, we’re going to continue to deploy a systematic and balanced approach to capital allocation between share repurchases, dividends and M&A. I’m confident that we’ve built a company that provides a suite of core and integrated solutions that line up perfectly with the talent and organizational issues our clients are wrestling with today.

In addition to Tiffany, I’m joined on this call by Bob Rozek and Gregg Kvochak. And Bob, I will turn it over to you.

Bob Rozek: Great. Thanks, Gary and good afternoon or morning, depending where you are. As Gary said, the global economy is in transition. Today, unprecedented economic forces are driving companies to rethink their business and their talent strategies. As this transition continues to unfold, it is also clear that the organizational and talent issues facing businesses are more complex than ever. Today, companies are seeking new ways of filling essential roles while also keeping their existing workforce retained, engaged and developed. Our company is built to help our clients navigate through this transition. Today, our suite of workforce solutions is aligned with the needs of the market even as economic growth slows. This transition provides an opportunity for us to guide clients through these uncertain times with the same unparalleled service and expertise that has built our strong brand over the last 50-plus years.

Now as our clients adjust their strategy, organization and workforce for the realities that lie ahead, we stand ready to partner with our broad range of core talent solutions which were outlined by Gary. When we take bits and pieces of these core solutions and package them together into an integrated solution, we believe our ability to service our clients is unparalleled. It gets even more interesting when we leave our industry-leading data into our integrated solutions is then we can form unique and differentiated points of view that our competitors simply cannot. Now, let me turn to our second quarter results. Fee revenue grew to $728 million. It’s up $88 million or 14% year-over-year at actual rates and 20% at constant currency. Growth by line of business was mixed.

We saw good demand in consulting, digital, in the interim portion of professional search and interim. As we anticipated, this was partially offset by moderating demand in executive search in the permanent placement portion of professional search and interim from the elevated levels that we saw during the pandemic recovery period. At constant currency, measured year-over-year, Consulting was up 12%, digital was up 15%, RPO up 19%. Professional Search & Interim which was aided by the recent acquisitions, was up 147% and Executive Search was down 4%. The consolidated new business, excluding RPO, was seasonally strong in the second quarter, with year-over-year growth in nearly every line of business. Similar to fee revenue, we continue to see new business demand moderating in the permanent placement portion of our talent acquisition businesses which was more than offset by our recent acquisitions and new business growth across the rest of the company.

Consolidated new business, excluding RPO was up 8% year-over-year at actual rates and 14% at constant currency. As Gary indicated, RPO was awarded a record $290 million of new business in the second quarter which included the 2 large assignments that also Gary referenced. Synergies between Professional Search & Interim and our other lines of business have been very strong. If you go back to November 1, 2021 and that’s when we did our first acquisition, in the Pro search & Interim business. Referrals between Pro Search & Interim and our other lines of business have resulted in approximately 600 new assignment wins with a combined contract value of nearly $36 million and that really reinforces the complementary and synergistic nature of our core solutions.

Earnings and profitability also remained strong in the second quarter. Adjusted EBITDA in the second quarter was $131 million at a margin of 18%. The earnings and profitability in the quarter were impacted by a mix shift in fee revenue by line of business as well as our continued investment spending into digital. Finally, our adjusted diluted — fully diluted earnings per share were $1.43 which was down $0.10 or 7% year-over-year. Now. it’s important to note that our adjusted fully diluted earnings per share were negatively impacted by $0.09 due to a higher tax rate which was 27.8% and that compares to 25.1% in the second quarter of fiscal ’22. Our investable cash position remained strong. At the end of the second quarter, cash and marketable securities totaled about $831 million.

Now if you exclude amounts reserved for deferred compensation and for accrued bonuses, our global investable cash balance at the end of the second quarter was about $457 million. Our capital deployment continues to be well balanced. Through the second quarter, we repurchased approximately 992,000 shares of stock using about $56 million. We paid cash dividends of about $17 million, funded about $33 million of capital expenditures that again were directed towards our digital business. And we deployed about $99 million on M&A. With that, I’ll now turn the call over to Gregg to review our operating segments in more detail.

Gregg Kvochak: Thanks, Bob. Starting with KF Digital. Global fee revenue in the second quarter was $94 million which was up 6% year-over-year and up approximately 15% at constant currency. Digital subscription and license fee revenue in the second quarter was $29 million which was up 12% year-over-year and was approximately 31% of revenue for the quarter. Global new business for KF Digital was $112 million, with $40 million or 36% of the total tied to subscription and license sales. Earnings and profitability in the quarter were marginally impacted by investments in both commercial sales representatives and product development initiatives. In the second quarter, Digital generated adjusted EBITDA of $27.5 million with a 29.2% adjusted EBITDA margin.

For Consulting, fee revenue in the second quarter grew to $173 million which was up 5% year-over-year and up approximately 12% at constant currency. Fee revenue growth continued to be broad-based with growth in almost every solution area and was strongest regionally in EMEA and North America which were up 17% and 11% respectively, at constant currency. Additionally, global new business for consulting in the second quarter was up 2% year-over-year at constant currency. In the second quarter, adjusted EBITDA for Consulting grew 3% year-over-year to approximately $31 million with an adjusted EBITDA margin of 18%. Growth in Professional Search & Interim remained strong in the second quarter and was aided by new and enhanced capabilities recently acquired from Lucas Group, Patina and ICS.

Fee revenue tied to permanent placement search was $79 million in the second quarter which was up approximately $24 million or 44% year-over-year and was positively impacted by our recent acquisitions. Our Interim Service fee revenue in the second quarter grew to $55 million, driven in part by the recent acquisitions of ICS — acquisition of ICS which primarily provides on-demand, high skilled IT professionals on a flexible or project basis. Our Interim Services average bill rate was approximately $107 per hour and we generated $850,000 of fee revenue per billable day in the second quarter. In the second quarter, adjusted EBITDA for Professional Search & Interim was up $10.7 million or 49% year-over-year to $32.5 million with a 24.1% adjusted EBITDA margin.

The outlook for Recruitment Process Outsourcing business remains strong. As previously mentioned, RPO was awarded a record $290 million of new business in the second quarter, including 2 large 3-year contracts totaling almost $200 million. This brings the total revenue under contract at the end of the second quarter to approximately $958 million. Fee revenue in the second quarter was $107 million which was up $11 million or 12% year-over-year and approximately 19% at constant currency. Sequentially, RPO fee revenue was down 6% in the second quarter, primarily due to moderating volume tied to a few of our life sciences and technology clients. Additionally, going forward, it is also important to note that larger, long-term RPO assignments like those awarded in the second quarter are more complex to set up and therefore, there is a timing delay between initial startup and implementation costs and the recognition of revenue.

Adjusted EBITDA for RPO in the second quarter grew to $16 million which was up $1.6 million or 11% year-over-year with an adjusted EBITDA margin of 14.9%. Finally, global fee revenue for Executive Search in the second quarter was $218 million which was down 7% year-over-year and down 4% at constant currency. Growth in EMEA which was up 21% year-over-year at constant currency, was offset by slower demand in North America and APAC which was primarily tied to China. North America and APAC were each down approximately 10% year-over-year at constant currency in the second quarter. Global new business in the second quarter for Executive Search was down 8% year-over-year and down approximately 4% at constant currency. At the end of the second quarter, the number of dedicated Executive Search consultants worldwide was 621 which was up 51 year-over-year and up 2 sequentially.

Annualized fee revenue production per consultant in the second quarter was $1.41 million and the number of new search assignments opened worldwide in the second quarter was down 11% year-over-year to 1,637. In the second quarter, Global Executive Search adjusted EBITDA was $54.5 million with an adjusted EBITDA margin of 25%. With that, I’ll turn the call back to Bob to discuss our outlook for the third quarter of fiscal ’23.

Bob Rozek: Great. Thanks, Greg. Our third quarter is historically our seasonal low quarter for both new business and fee revenue and that’s really due to the slower calendar year and holiday season. Consolidated new business in November followed our historical patterns and was in line with our expectations. If current trends remain consistent with historical seasonal patterns, we expect December new business to be down sequentially from November and for January to rebound slightly. We are evolving to an organization that is selling larger, integrated solutions. And we’re doing that in a world that is moving from offshoring to nearshoring. Because of these factors, in the recent moderation in our permanent placement talent acquisition solutions, we are in the process of developing a plan to realign our workforce, making investments to match the right resources with the right skill sets in the right geographies as well as reductions where we have excess capacity.

Also in this review, we’ll be looking at further reductions in our real estate footprint, along with reductions in other discretionary operating costs. We expect that the plan we are developing will generate $45 million to $55 million in annual run rate savings and will cost $25 million to $35 million to implement. Now with respect to the realignment of our workforce, we expect the plan to be completed and implemented by the end of the third quarter. We expect annual run rate savings of between $40 million and $50 million, starting in the fourth quarter. Now certain of the real estate savings are included in this run rate, with the remaining amounts are going to be realized in future periods as we execute the plan. Now in summary, assuming no new major pandemic-related lockdowns, further changes in worldwide geopolitical conditions, economic conditions, financial markets and foreign exchange rates, we expect fee revenue in the third quarter of fiscal ’23 to range from $660 million to $690 million.

Also, given the factors leading to the development of our realignment plan, we expect our adjusted EBITDA margin in the third and fourth quarter to temporarily fall to a range of 14% to 15%. And our consolidated adjusted diluted earnings per share in the third quarter to range from $0.88 to $1. Finally, when you include the charge for the previously discussed plan, we expect our GAAP diluted earnings per share in the third quarter to range from $0.40 to $0.66. Now, while the transition in the economy will result in some short-term volatility for our business, it’s also an opportunity for us to prove the value and relevance of our solutions and the power of our brand. We remain more confident than ever that our strategy is the right strategy.

We’ve built a firm that provides the right core and integrated talent solutions that help solve the talent and organizational issues our clients are facing. Today, more than ever, we believe our clients realize that an integrated talent management strategy is essential for their long-term success. And working with the right partner is critical and we believe that Korn Ferry is that partner. With that, we would be glad to answer any questions you may have.

Q&A Session

Operator: Our first question comes from George Tong of Goldman Sachs.

Bob Rozek: George, we lost you. Why don’t we move on to the next question.

Operator: Mark Marcon with Baird.

Mark Marcon: Could you describe a little bit about like what you ended up seeing in terms of the sequential trends in terms of new business and confirmed orders coming through on the Executive Search side and how that ended up flowing through? And what you’re hearing from your clients right now in terms of the prospects, in terms of further confirmations as we go into December, January and February?

Gary Burnison: Well, I’d say, first of all, November new business compared to October, so sequentially was exactly like we would have imagined it to be and it’s in line with historical trends, Mark. The new business for the firm overall in November was up 6% at constant currency. Now to your question on Executive Search, we’ve been now seeing this, as you know, for several months. There’s been a moderation from the very heightened levels that we saw 1.5 years ago. And with respect to Executive Search, we saw in the — take the second quarter, we saw a new business down about 4%. And we saw the same thing in November. So both in the quarter and November, this is constant currency, Mark, we saw declines in both of those. And the outlier was EMEA.

EMEA was actually very strong. EMEA was up 13% in Executive Search in the quarter, again, constant currency. And constant currency in November is up 17%. So clearly, we’ve been saying the air we got out of the tire in the global economy for several months; and that’s what we saw in as recently as November.

Bob Rozek: The only thing I would add to that is in my remarks, I commented that the — if you look at the volumes that we’re seeing in Executive Search today and this is probably over the past 4 or 5 months, they’ve moderated but they’ve moderated back to sort of the, what we would call, a good month in the pre-pandemic period, right? So I’ll give you North America as an example. Prior to the COVID shutdown, a good month for us is about 250 to 275 searches. Coming through the recovery, we had bumped up to elevated levels. There were 325, 350. And for the past 4 or 5 months, they’ve come back down to somewhere in the 260, 265 range. So right back to where we were pre-pandemic.

Mark Marcon: And Bob, would you expect that to hold here as we think about like the way the new orders are going to trend over the next 3 to 6 months. I mean, obviously, you guys are sharp. You read all the headlines. You could see it. I’m not sure what your clients are saying. But most CEOs are basically expecting a recession, so you would expect some belt tightening. So how are you thinking about the new orders on a go-forward basis?

Bob Rozek: Yes. I think we have some — Q3 is our seasonal low. So obviously, December will be the worst month of the year. So we’re going to follow that pattern and then we’ll have a slight rebound in January. Kind of what we’re — as we’re looking at things going forward, we’re kind of holding serve with where we are today from a unit volume perspective. When I talk to folks in the field, what I hear the most is it’s not that people are saying, “No, we’re not going to do this. It’s just taking longer for compensation letter to get signed.” And so for the foreseeable future, that’s what we expect to continue.

Mark Marcon: Great. And then can you talk a little bit about what you’re seeing on the Professional Search & Interim on an organic basis or a pro forma basis? Obviously, the numbers are skewed by the acquisitions. But how is that looking on a pro forma basis?