CRA International, Inc. (CRAI) Q4 2011 Earnings Report, Transcript and Summary

Good day, everyone, and welcome to Charles River Associates Fourth Quarter and Year End 2011 Conference Call. Today's call is being recorded. You may listen to the webcast on CRA's website located at www.crai.com. In addition, today's news release and prepared remarks from the company's Chief Financial Officer are posted on the Investor Relations section of the site. With us today are CRA's President and Chief Executive Officer, Paul Maleh; and Chief Financial Officer, Wayne Mackie. At this time, I would like to turn the call to Mr. Mackie for opening remarks and introduction. Please go ahead, sir.

Thank you, Rob. Statements made during this conference call concerning the future business, operating results, estimated cost savings and financial condition of the company and statements using the terms anticipates, believes, expects, should or similar expressions are forward-looking statements, as defined in the Private Securities Litigation Reform Act of 1995. These statements are based upon management's current expectation and is subject to a number of factors and uncertainties. Information contained in these forward-looking statements is inherently uncertain and actual performance and results may differ materially due to many important factors. Such factors could -- that could cause actual performance or results to differ materially from any forward-looking statements made by the company are included in the company's filings with the SEC and in today's news release and prepared CFO remarks. The company cannot guarantee any future results, levels of activity, performance or achievement. The company undertakes no obligation to update any of its forward-looking statements after the date of this call. Let me remind everyone that we will be referring to some non-GAAP financial items on this call. I would encourage everyone to refer to today's earnings release for a full reconciliation of these non-GAAP items to their GAAP equivalents. I would like to remind everyone that the Q4 results we will be discussing today reflects the fiscal year reporting schedule we adopted in fiscal 2011. Under this schedule, our fiscal year now has 4 13-week quarters compared to our prior schedule of 3 -- of reporting 3 12-week quarters and one 16-week quarter. So as has been the case for the past 3 quarters, our Q4 fiscal 2011 results are not directly comparable to our Q4 fiscal 2010 results. Our Q4 fiscal 2011 results reflect a 13-week quarter, which ended December 31, 2011, compared with a 12-week quarter we reported for Q4 fiscal 2010, which ended November 27, 2010. We also have included a sequential comparison of Q3 of this fiscal year, which was an equal 13 weeks in length. Beginning with our 2012 fiscal year, our results will be comparable on a year-over-year basis. I also would like to mention that today's news release and prepared remarks are posted on the IR section of our website. I will not be reading these remarks today. Let me now turn it over to Paul Maleh for his report. Paul?

Thanks, Wayne, and good morning, everyone. Just over a year ago, on our Q4 fiscal 2010 earnings call, we outlined the key elements of our strategy for fiscal 2011, generating balance and profitable growth across the company, strengthening client relationships within our 2 lines of business and simplifying our internal processes. We are pleased with the momentum in each of these areas in fiscal 2011, and also, the progress we made in the fourth quarter. Before I discuss our Q4 performance, I want to call your attention to the results we achieved in fiscal 2011. On a year-over-year basis, total revenue grew more than 6%. Annual utilization increased to 74% from 67% in fiscal 2010. Non-GAAP net income for fiscal 2011 rose by 82% to $17.1 million compared with fiscal 2010 non-GAAP net income of $9.4 million. These results were supported by our strong fourth quarter performance, in conclusion to fiscal 2011. In the fourth quarter, we achieved sequential revenue growth in both our Litigation and Management Consulting businesses. Overall, we delivered sequential non-GAAP revenue growth of nearly 6%, which helped drive our non-GAAP operating margin of 10% in the quarter. We achieved utilization of 74% in the quarter, a solid finish to the year. Our Litigation business had another strong quarter similar to what we experienced throughout the year. Sequential growth in Litigation for the quarter was approximately 5%, and for the full fiscal year, this business grew 7%. Our Q4 performance was led by a number of our larger practices, including Competition, Finance and Life Sciences. Each of these practices benefited from ongoing assignments and new project wins. For example, we provided economic analysis and expert testimony in a matter pertaining to monopolization in the medical equipment rental industry. On behalf of financial institution, we will retain to analyze bid rigging and breach of contract claims related to transactions involving the sale and securitization of life insurance policies. Looking at utilization's annual performance in fiscal 2011, I want to highlight our greatest and largest practice, Competition, which produced 4 quarters of outstanding results and achieved annual growth of more than 20%. On the strength of its M&A and antitrust work, as well as the outstanding team we have in place in both North America and Europe, it has been a top performer for all of us this year. In addition, our Finance Practice grew by approximately 25% for the full year. This was driven by the contributions from across the practice, along with solid performance by Craig Elson and his team who joined during the year. Turning to our Management Consulting business. Looking at our performance from an annual perspective, our Management Consulting business grew nearly 10% in 2011, led by our Marakon, Chemicals strategy, and Auction & Competitive Bidding practices. In addition, the performance of this business line improved in the fourth quarter, growing by more than 6% sequentially from Q3. Our Management Consulting practices advised senior level management on strategic growth issues impacting their business in a range of industries. For example, we advised the global insurance leader on the division -- on a division's investment growth strategy, and we assisted a large industrial company in the development and rollout of the growth strategy for $1 billion-plus division. A goal for us in fiscal 2011 was to achieve a non-GAAP operating margin of 10%. In Q4, we hit that goal as our margin improved due to higher revenue combined with our ongoing expense management initiatives. Our gross profit on a non-GAAP basis improved by more than 200 basis points sequentially from Q3 to Q4. For the full year, our non-GAAP operating margin was essentially in line with our goal, coming in at 9.8%, which was 270 basis points higher than fiscal 2010. Also during the quarter, we welcomed a new Chief Information Officer, Scott Simon. Scott joins us after 9 years at Bose Corporation. Prior to Bose, Scott spent 10 years with firms such as Cambridge Technology Partners. We believe his experience in delivering practical technology solutions that drive business performance, combined with his consulting background is a natural fit for the CIO role at CRA. We are looking forward to his contributions. Looking ahead, we anticipate continued growth -- continued revenue growth of approximately 6% for 2012, which is consistent with the growth we achieved in 2011. While we remain cautious about our clients' spending environment and the potential weakness in Europe, we are expecting overall demand for our services will remain relatively stable in fiscal 2012, and we're targeting a utilization rate for the full year in the low to mid-70%. The revenue growth and utilization we are targeting for fiscal 2012 should result in an incremental ramp in our annual non-GAAP operating margin. We are targeting approximately 11% by the fourth quarter of fiscal 2012. In closing, I want to thank all of our employees for a solid performance in Q4 and for the full fiscal year. We believe CRA's established reputation will continue to serve as well going forward. We also believe that our strong capital position provides significant financial flexibility to aggressively pursue consultants and acquisition opportunities that can help drive additional growth in our practices. With that, I will now turn the call over to Wayne for a review of some financial metrics. Wayne?

Thanks, Paul. As I've done on previous calls, I want to call your attention to some key financial metrics and other factors that you should consider when assessing our Q4 and fiscal 2011 performance and our outlook for 2012. In terms of consulting headcount, we ended the quarter with 521. That number consisted of 399 senior staff and 122 junior staff. This is a slight net decrease from the 526 we reported in Q3, which included 403 senior staff and 123 junior staff. We expect modest headcount growth in 2012. We achieved 74% utilization in Q4 for the full 2011 fiscal year -- we achieved 74% utilization in Q4 and for the full fiscal 2011 year. We're pleased to have hit our utilization goal of low to mid-70s for the second half of the fiscal year. Our prior restructuring and internal resource productivity initiatives are having the desired effect on our utilization performance. For 2012, we are maintaining our target utilization in the low to mid-70s. In addition, we are working to increase our consulting staff leverage. Our net revenue per consultants in -- for consultants in Q4 was approximately $140,000 compared with the $133,000 in Q3. For fiscal 2011, our net revenue for consultant was $574,000, which compares favorably to the $498,000 we recorded in fiscal 2010. Turning to our tax rate. It was approximately 42% in Q4 on a non-GAAP basis, which is slightly higher than the 40% we recorded in Q3 but generally in line with our expectations. Looking at it on a full year basis, our non-GAAP tax rate for fiscal 2011 was about 40% versus 43% in fiscal 2010, reflecting the improved profitability of our international operations. Based on our outlook for 2012, we currently are anticipating our 2012 non-GAAP tax rate, which excludes the effect of NeuCo to be in the 40% range. Turning to the balance sheet. We have some great news to report on the DSO front. You may remember from our last call, that we reported a spike in our DSO, which rose to 120 days at the end of Q3. During Q4, we launched a major initiative throughout our organization to address this issue. As a result, we dramatically reduced our DSO to 96 days by year end. Our ability to lower our DSO speaks to how well our entire team mobilized on this initiative from the financial administration group to the practice leaders themselves. I'd like to thank everyone for their efforts. As we enter 2012, we plan to maintain our target DSO level of below 100 days. However, I should note that we began the conversion to a new enterprise-wide financial system on January 1. The transition has gone smoothly to-date, and we're excited about the capabilities of our new system, but it did forestall our billing process for the first few weeks of the New Year. We expect to catch up as Q1 progresses, but in all likelihood, we will see a temporary increase in DSO in the Q1 as a result. In terms of our capital position, we concluded the year strongly with more than $76 million in cash and cash equivalents and short-term investments. That is up substantially from the $54 million we reported at the end of Q3. Our Q4 cash flow from operations was approximately $28 million. During the quarter, we purchased 167,000 shares of our common stock or $3.3 million. I should also point out here that in Q2 of 2011, we bought back all our remaining outstanding convertible bonds. Therefore, we have essentially no long-term debt, and we continue to have access to a $60 million credit facility as needed. We believe that we entered fiscal 2012 well-positioned financially and with significant flexibility to pursue our growth strategy. That concludes my remarks. Rob, we now would like to open up the call for questions.

[Operator Instructions] Our first question is from the line of Tim McHugh of William Blair.

First, I just want to ask you, you gave some good color about some of the different practice areas and the growth this year. And obviously, the overall company's growth is not quite as fast as some of those practices you highlighted. So I guess, just what isn't working? I guess, you kind of told us, you gave us some good color on what is working, but what parts of the business are maybe, I guess, below average growth right now?

It's hard to say that things aren't working. I think the portfolio as a whole did perform extraordinarily well in 2011. The ones we highlighted were sort of extraordinary growth. I think the majority, I'll use that, the majority of our service offering experienced higher levels of profitability in 2011 than they did relative to 2010. So there are clearly a few areas of that need, I guess, to be supplemented or enhanced by some hiring activities, and we're really focused on that right now. But if I look at the overall portfolio, it's hard to point any large segment that didn't move the needle for the firm.

What are you seeing in Europe? You talked about being cautious or somewhat about what might happen there given the obvious macro issues but what are you seeing, I guess, from your base level of activity as you go throughout the quarter?

Yes, sure. What we're seeing is: One, our competition and antitrust practice is really not missing a beat. They had a great year and we saw that consistent performance really throughout the quarters. So even though there's been a lot of talk about lessened M&A activity in Europe, at least our share of those matters did not seem to be impacted at the current time. But of course, you have to keep track of that. So kudos to that group. On the Management Consulting side, what we're seeing, the leads are still coming through. We are talking to senior management about crafting and moving forward on a potential assignment. But if anything, there's been a lengthening in the retention process that we've noticed now over the last couple of quarters in Europe.

But no significant change versus that? It didn't get much worse or something like that throughout the quarter?

We haven't seen it get much worse, no.

All right. And then the scaling to 11% margin across next year, what would be the areas you're looking most for? I mean, do you -- is it just leveraging SG&A or do you hope to further improve gross margin across next year? And if it is gross margin, what would be the driver given that your utilization guidance is pretty much similar to this past year?

Yes, the utilization guide is similar but what we're trying to do is make sure we are making the most productive use of our consulting staff. So one, let's see if we can have the average revenue for VP increase throughout the year. So you don't necessarily have to have an improvement in utilization but that can drive improved margin. The other part here is on the mix between junior and senior staff, we're trying to reintroduce an appropriate amount of leverage given what the demand environment is here, but we also believe will contribute to the improved margin enhancements. And we're still being very diligent on the SG&A side. We still think there's some cost saving opportunities. But really, beyond that is just the ability to leverage that existing cost base across more revenue.

What drove the gross margin? Gross margin was much higher than we thought in the fourth quarter here, I know utilization was up a little bit but gross margin was up more than I would've thought given that?

I think a lot of it has to do with the mix of the revenue through the introduction of some more junior resources over the Q3 and Q4 begins to impact that performance. So even though we don't see the change in utilization, the mix of the staff is improving or going in the right direction here.

And then, Tim, the improvement in revenue in Q4 certainly was one of the significant drivers in the gross margin from you say Q3 to sequential comparison you might have in mind.

Okay. And then, Wayne, just 2 quick numbers questions, I guess, one, did you put what reimbursable expenses were -- I'm not sure if I missed those?

I'm sorry, Tim, I didn't hear.

What reimbursable expenses were?

The reimbursable's for Q4 were at 12.9% or $9.4 million.

Okay. And then just -- do you have -- what was international revenue versus domestic revenue?

Sure. International for the quarter was 24%, for the full year, 26%.

Our next question is from the line of Joseph Foresi of Janney Montgomery Scott.

My first question here is just on the guidance of the 6% revenue growth, what are your expectations for the general macro backdrop there? Is there -- in other words, is there a provision in case we should potentially double dip or things get worse in Europe? I'm just trying to get a general sense of sort of what's built into that number?

I guess 6% is assuming consistent market conditions that we experienced for the majority of 2011 into 2012. So North America has been relatively stable now for actually more than the last year or probably going on 18 months of stable demand platform. There's been signs of slight improvement. But we're not necessarily incorporating that into our forecast in North America. Europe is I think where we believe more risk exists right now going into 2012 with the uncertainty. There's always a possibility of that having greater impact outside of Europe than impacting the North American economy. That is not built into the 6% figure. We're not expecting a broad-based impact to North America for the European uncertainty.

Okay. So I mean, just to clarify, it sounds like you're taking a conservative approach to Europe and expecting North America to stay sort of the way it was or it's been?

I think that's a good summary, yes.

Okay, perfect. And then just looking at the margin profile of the business, obviously, you think they can expand. What are you thinking about maybe internally, about the optimal margins for this type of business? Where do you think you feel like you'll be comfortable maintaining the margin rather than expanding it?

I think there's no reason why this business can't be in the low-teens on the operating margin line. And that's what our goal is. And 2010 -- 2011 was a good step forward. We hope 2012 continues that process, but again, during the next 1 to 3 years, I guess we would be disappointed to not see operating margins in the 13% to 14% range.

Okay. And then the last question for me is just looking at the M&A numbers, I know you said that the business has done well despite decreasing M&A activity. Just numerically, on a macro level, can you just help us reconcile that? Are you working on some large projects that could potentially be affecting that number or supporting it? Or is the work that you're doing just separate from any new M&A activity, just trying to put those 2 things together?

It's really a combination of the 2. There are clearly some large ongoing projects that we have. But the really impressive thing about the competition group is they've had large projects. We talked about the Sprint matter in earlier quarters. But even as that sort of declines on the demand side, they have new retentions. And that demand side has been very consistent for that group. So it is the mix of the existing large matters, newer cases. And sort of the cycle of the -- cycle of both those has maintained a very steady demand. If I look at the utilization of that group throughout the last 12 months, it's basically a straight line.

And just -- I'm going to sneak one last one in here, just -- because I wanted to kind of get it in there. Paul, since you've taken over, it seems like you've obviously, you started to move the margins up, and it seems like you're getting a better handle on the business. Can you just talk a little bit about what you've done internally, any processes you've changed or any functions you've changed to get a better sense of the direction of the business and to get a better handle to be able to give guidance?

I mean, I think the most simple way I can put it is we're doing everything we can to allow our consultants to be successful. So on the SG&A side, we need to try the, one, provide the highest value services to our consultants, so they can reach to their clients and better service their clients. But then again, at a minimal cost because we need to try to push as much of those cost savings to higher compensation packages for our consultants and higher returns for our shareholders. So that has been the push on the SG&A side. On the consulting side, there's been a lot of effort on professional development, which our consultants -- consulting colleagues have really embraced. There's been a lot of effort on improving our business development and client outreach. And the growth that we're experiencing, yes, we've had some individual hires but it's largely organic growth. It's largely our consultants just doing a better job getting out to the marketplace. So I view that as the role of our corporation or the center is to give them the tools to be successful, and they've done really an excellent job over the last 12, 18 months on embracing that.

[Operator Instructions] Our next question is from the line of David Gold of Sidoti & Company.

So a couple of things. One, can you go through or speak a little bit about the change in Management Consulting between third quarter and fourth quarter? Obviously, pretty nice pick up from there, but it is still, I guess, presumably characterize third quarter as a blip. The -- what do you think it took to get things going there again?

I think, there were unique circumstances in the third quarter in terms of when you've had a large matter like we had ending abruptly. There's clearly a transition for Management Consulting offering of the size of CRA. But there's still issues with Europe, and we've talked about that over the last 6 months. And it lengthened a little bit of the close cycle for new engagements. But again, the lead flows are there, the pipeline looks healthy and we're just seeing the conversions happen. We would love, of course, like them to happen at a little faster rate, but the pipeline is there. We haven't seen the pipeline diminish. That gives us a confidence for 2012 in its totality.

Got you. And was it -- then really, as simple as timing given the engagement that ended and just it takes a little time to get folks reengaged?

Yes, with respect to the ending of the large case in Q3, that was clearly timing of getting people engaged. And the other timing piece that we were wrestling with is just the time to close the new opportunities that are being gathered by the group.

Got you. Okay. And then as to guidance, can you give some color on what your view is or what sort of expectation is baked in there for -- on the M&A side, M&A climate?

On the M&A side right now, the numbers we gave are assuming no large acquisition. We're going to, of course, be very active on hiring of individual rainmakers, group hires. And I think that is baked into the revenue growth expectations. Anything outside those individuals or small group hires would be in addition to that 6% revenue growth figure.

Okay. And then as far as the climate for M&A per your business activity for, say, comp policy or whatnot. In other words, what your expectation is baked in there for the M&A climate broadly, not specific to Charles River, but basically from the business that's generated by M&A?

Okay. So I guess you're trying to go back to the competition practice. Clearly, the Management Consulting side of the business is impacted by the level of M&A activity for the kind of strategies services that they're doing. Our competition practice is one of the prominent practices in our industry and thus, they have a very high share of the available mergers that are being contested or assisting clients on potential acquisition strategies there. So we hope that continues, and they've been able to do that even at the depressed M&A levels that we've experienced in the past year.

Okay. So something -- all of that embedded in your guidance is actually the current level or some pick up there?

Right now, we're just assuming the M&A level to stay at about where it's at. We're not assuming a large pick up there. If we do see a large pick up, of course, that will be well-received. And I expect it to get our fair share in the market.

Got you. And then by way of uses of cash, I guess, you said not, right now, thinking about anything more than some group hires, you did buy some stock back in the quarter. What's your current thinking or feeling on use of cash as you build up that nice position?

I mean, we're going to be very active in the marketplace on acquiring new talent and adding depth to a lot of our practice areas. So that will clearly be one use of cash. We still believe that our stock is a very attractive buy for us and any other investors, so we're going to be an active purchaser of our shares in the coming weeks and quarters. So those are the 2 main avenues that we plan to use our cash on.

Okay. And then just one last one, Wayne, I heard you gave the numbers for headcount. But when you gave the total number, you were too quick for me. Can you give that one again?

Sure. At the end of Q4, Dave, it'd be, total headcount, consulting headcount was 521, and that we break that down as 122 junior staff and 399 senior staff. I think you probably have the previous quarter's info.

At this time, we have reached the end of the Q&A session. I will now turn the conference back over to Mr. Maleh for any closing or additional remarks.

Okay. Thank you, Rob. Again, I want to take an opportunity to thank everyone for joining us today. As always, we appreciate your time and interest in CRA, and look forward to updating you on the progress throughout 2012. With that, this concludes today's call. Thank you again.

Thank you for participating ladies and gentlemen. You may disconnect your lines at this time.