CRA International, Inc. (CRAI) Earnings Call Transcript & Summary

Okay. Good morning. Thank you for joining us. With us today is leadership of Charles River Associates, which includes Paul Maleh, Chad Holmes and Daniel Mahoney. Paul Maleh will be leading our presentation. He's the CEO of the company. With us, again, Chad Homes, who formally the CFO, now the Strategic Head, if you will; and Dan Mahoney, who joined earlier this year as the new CFO. Now we will be taking Q&A and certainly don't hesitate to send in questions throughout the presentation. We will be aggregating that for the end of the presentation, which we'll be leaving time for. And with that, with no further ado, I hand it off to Paul Maleh. Paul?

Thank you. Thank you. Good morning, everyone. I hope you and your families are healthy and safe, and keeping sane amidst all this craziness. So I think it's clear, the purpose of today's presentation is to discuss the New England Patriot Super Bowl odds, now that we've signed Cam Newton; or the over-under on wins relative to the Tampa Bay Bucs because, of course, Tom Brady is dead to everyone around Boston. I'm getting hand signals that this is not an acceptable topic. So I will move on then to CRA. What I'm going to try to do during our session is to provide you with a cursory understanding of what CRA does and its underlying economics on that. Hopefully, everyone could see the screen. I'm going to flip through and just try to touch upon a few of the points on a number of these slides. So CRA has 2 main lines of business. It has legal regulatory, which makes up roughly 70% of the company; and it has management consulting, which makes up approximately 30%. Those 2 lines of businesses operate here in North America. North America, again, makes up roughly 2/3, 70% of the entire firm, and in Europe, which, with our main office being in London. But the European operations make up roughly 30% of the company on that. So moving on here. So as many firms probably state in the consulting profession, CRA strives to hire the best and brightest. And I really think we do a pretty good job at achieving that goal. We are a highly credentialed shop. The vast majority, 80% of my senior colleagues at the firm have advanced degrees, with almost half are PhDs, either in economics or any of the pure sciences from biology and chemistry, who mostly work in our life sciences practice. If CRA was a university, we would be the most selective university in the world. We accept less than 2% of all university applicants that are coming in. And we work hard to maintain -- have CRA to be an attractive destination for top talent. And we're very fortunate to get that kind of applicant flow. The other thing we're quite proud of, and this is the box to the far right-hand -- top right-hand corner is there's less than 5% voluntary turnover amongst our top revenue generators over the past 5 years. Now that's not 5% [company ] or growth rate, that's 5% in total. So if I took a universe of my top 30 revenue generators that exist each and every year at CRA, over 5 years, it's probably a group of 50, 60 people. So to put that into perspective, we lost about 2 people, 2 or 3 people over the last 5 years. And one of those was a decision made by CRA, not by the individual. And the reason I highlight this is, individuals with large books of business can go anywhere they want, okay? They can go anywhere they want, and quite frankly, probably get a premium over the compensation terms being offered at CRA. But they're electing to stay at CRA. They're electing to stay at CRA because they believe their value proposition is maximized through the relationship CRA has with its colleagues on that. This next slide. Earlier, I talked about that we have 2 lines of business. Here are these services or practices that make up those 2 lines of business. So on the management consulting side, that's made up of our auctions and competitive bidding, our energy, our Life Sciences practice and the Marakon practice. So those practices make up the 30% of the company with Life Sciences being, by far, the largest portion of that, with well over 200 consultants. All the other practices on this page make up the legal and regulatory part of the firm. The Antitrust & Competition Economics practice is the largest of our practices at CRA. Antitrust & Competition makes up about 40% of the total revenue generated by the organization. The second largest practice within our legal regulatory arm is also our fastest-growing practice, and that's our Forensic Services practice. This practice started about 4 years ago with a group hire of 3 individuals. In 2019, the practice eclipsed over $50 million of net revenue, which has been largely driven by organic expansion. And that's what we try to do at CRA. We try to have a balanced portfolio, both in terms of the lines of services, but also the way we grow and deliver value to our shareholders. Along both lines of business, who do we work for? We work for some of the most prominent companies across the world. So this is a slide of just a sample of some of the logos of some of the Fortune 100 companies we work with. Just in the past 2 years alone, we worked with 83 of these Fortune 100 companies. And we think we are getting called upon for their most challenging matters across both lines of business. Oftentimes, on the legal regulatory side of the house, the law firms, the Am Law 100 law firms, in which we work with practically everyone in the past couple of years, retains us on behalf of those Fortune 100 companies. So we have very deep relationships with both the ultimate clients and with the law firms that provide us ample room for growth and also has aided to consistency of our results that we've enjoyed now for the last several years. Slide 8. So Slide 8 touches upon some of the demand drivers that we have. Given that I only have about 30 minutes, and we want to make sure to leave Q&A for the Cam Newton acquisition. Here, there are slides at the end of this deck that try to touch upon some of these drivers of demand at CRA. In short, I think the environment is still really quite conducive to some ample growth for the firm. And that typically, you see when you have complex -- complexity in the macro environment and that of our clients, complexity tends to give rise to need for external expertise, external assistance, and that's where CRA comes in. The -- this slide is -- I won't spend a lot of time on it, but the reason we spend time on it is, it's really quite impressive. This is our performance over the last half-dozen years. And what I can say is, CRA has outgrown the companies in its sector, both on top line; it's outgrown companies in its sector on profits and has returned more money to our shareholders than any other company in our sector. We're quite proud of all of these drivers. But the key question here is then, if we're doing all this for an extended period of time, why are we so damn cheap? And the next portion of this presentation is to start giving some ideas about the economics and let you determine for yourself of what the relative value is of CRA. And I can add to all of these accomplishments, both on revenue, profits and redistribution of capital to shareholders, we also have no debt. Any access to our debt facility is really as a working capital management tool. CRA has no long-term debt to speak of. So all of this is being accomplished through internal operations. The next couple of slides, both Slide 10 and Slide 11, are information that we shared with our shareholders during our Q1 call, by the way, in which we grew top line about 20% year-over-year. But what we try to touch upon is the kind of demand environment we are seeing in this COVID-19 world. In short, we are seeing clearly there's some downward pressure associated with M&A environment declining quite significantly during this, and we believe it's predominantly due to uncertainty around how to price these deals because money is still free and there's still a great desire of our ultimate clients to try to grow profits here. So we are seeing the M&A dip. We do not believe this is a permanent dip. Once we get any kind of semblance of normalcy or stability in the marketplace, we do believe these deal flows will come up. The other slide that we highlighted is that of aggregate demand we're seeing in the legal regulatory space. In short, we're seeing growth or at a minimum, no contraction year-over-year on a number of cases that are filing. What we are seeing, though, is so the area under that curve -- of that demand curve seems to be solid. We are seeing the courts get a bit bogged down on their ability to process all these cases through motions filed, judgments filed on that. Why is that? Because everyone has gone virtual. CRA has been a virtual company since March 16 and so have the courts largely been a virtual institution since sometime in March. We are starting to see them reopen virtually and even starting to see some courts open physically with scheduling of proceedings in the latter half of the summer months. So here again, we're not seeing a contraction but more a reshaping of that demand curve on that. Me and my management team, we're value-based decision-makers, okay? And with that, then one of our main jobs is to determine how to allocate the capital produced by this institution. A well-run consultant company, as CRA is, produces ample cash flows. So one of our main jobs is to determine what you do with those cash flows. And I'm going to go to the bottom objective here, is our objective as a management team is to maximize the long-term value per share. When we have opportunities to reinvest in the company, we will do so. And if we do not have those opportunities to create value-creating growth, we will give the money back to shareholders. In the last half-dozen years, we've averaged about $25 million to $30 million of redistribution back to our shareholders, on that, producing one of the higher shareholder yields in our marketplace. What I thought I would try to do then is quickly run you through some more specifics on what we're doing with the capital. So the bar chart you see on Slide 13 is an aggregation of what we've done with our capital. Last 5 years, about $300 million of capital that we have overseen and how have we spent it? About $116 million of that capital, we've given it back to shareholders. CapEx has amounted to about $73 million and inorganic pursuits have been about $108 million. So let me quickly take you through that. As any kind of firm, we can grow organically, we can grow inorganically. The growth rate in the last half-dozen years or so has been made up -- about 2/3 of that growth has been organic and about 1/3 of that growth has been inorganic. Sometimes we get to use traditional accounting acquisition models, in which there's a purchase price. We acquire a brick-and-mortar company and that is denoted by the acquisition of proceeds of $16 million. But CRA has done a lot of what I would call targeted inorganic pursuits, whether by individuals or group hires at competitors, and the accounting rules do not allow us to use the same kind of acquisition accounting when we acquire brick-and-mortar structures. And there's a vehicle called forgivable loans that add a bit of noisiness, okay, to our financial statements. Why is that? Because the majority of those proceeds end up on our income statement in the form of forgivable loan amortization. And we'll touch upon that in a slide or two. But I'm not saying it's not a true outflow of capital, it absolutely is. But in order to properly assess the economics or the value of CRA, you just need to make an adjustment to the GAAP financial statements, so not to double count the dollars used on inorganic pursuits. The next, CapEx. Relative CapEx at CRA is relatively modest, about $3 million. That's upgrading our computers, maintaining our networks. The difference between that $3 million per annum fee and what you observe there is about $60 million, and that is gone for real estate investments, namely leasing of our space. We have grown significantly, almost a little shy of 10% a year in the last half-dozen years. We are at optimal utilization. So we -- the growth has been fueled by headcount. And we need a place to put our colleagues and thus, we have had to grow our real estate footprint in the last half-dozen years. And the expenditures -- the majority of the expenditures you see, have to do with improvements to the space, building out of our space in order to house our colleagues. Lastly, definitely not least, is the money we're giving back to shareholders. Even with the punishment we've taken unjustifiably so on the price during the last few months, the average share price of our repurchases over the last 5 years is still south of the prevailing market price, significantly south of, I believe, any valuation that you may come up with for CRA shares. The predominant vehicle of capital redistribution to our shareholders have been share repurchases, $97 million. We instituted a dividend in the fall of 2016, and that has been a growing dividend every year to the tune of roughly about 15% a year. The shareholder yield combined over that same window of time is roughly about 7.5% with that. So we are really staying true to maximizing the long-term value per share. If I can't invest in the business, I'm giving the money back to my shareholders. So you match up, CRA spent close to $300 million on these 3 buckets of outlays and then you go to our income statement -- our cash flow statement and you say, okay, what are the cash flows from operating activities show? You add back some cash balances, it adds up to $205 million, is the difference debt financing? We have no debt, okay? So what is the difference? Here is where it goes back into this whole vehicle of these forgivable loans in it. In that, a traditional acquisition, we outlay the capital at time 0, and the majority of the purchase price proceeds fall into goodwill on my income statement. But when I acquire assets using this forgivable loan, the outlay of the capital that goes out at time 0, but then there's a forgivable loan amortization that flows through my P&L. So under both states of the world, I get the benefit of the incremental revenue and the profits. But in the state of the world in which I'm using forgivable loans as the acquisition proceeds, I also get the amortization expense in the form of noncash forgivable loan amortization that flows through my income statement. So when you want to properly compare our profitability across time, okay, I would say, take whatever profit measure you want, whether you want to use operating income or EBITDA and add back the forgivable loan amortization for that period of time. That makes the profits apples-to-apples across the periods of time. It also helps you when comparing our profitability to that of other companies that may not as actively use this vehicle of acquisition capital. Because when you add back these forgivable loan issuances, things [ phut ]. The other thing that we have started sharing with our shareholders is an adjusted cash flows from operating activities, that makes this adjustment that is summarized on this slide for you. Again, it is definitely an outlay of capital. But if you start with the cash flows from operating activities and then you deduct these capital used for inorganic pursuits, you're going to double count the impact on our financials with them. Okay. A handful of years ago, we used to actually provide also a profit measure called adjusted EBITDA, that made the adjustment of adding back the forgivable loan amortization. I thought it was a great measure, and it's still a measure that is used by our banks in determining the amount of borrowing capacity the firm has. It is also a measure that we use as the primary profit measure for our budgeting and also the measure that our executive officers at CRA are judged against. But the SEC didn't really see it the same way I did and told me that I cannot report things on an adjusted EBITDA basis. I can give you all the different components as I am on this slide, but I can't add them up for you. I have to leave you the task of adding up these components. But if you do, I think you get a truer representation of what the true profitability of this firm is, one, relative to the peers; and two, in comparison through time there. So I'm going to stop there. I see I have about 7 or 8 minutes. See if there's any kind of questions or see if there's any kind of topics I can go back and try to address for everyone.

Okay. Thank you very much, Paul. So as a reminder to everyone, if you'd like to add questions, send questions in, certainly feel free to do so, and I'll certainly be glad to get them in front of the management team for you.

In the meantime, we'll start off, just a quick -- wondering if you could give an update on some of the practice areas and things that have taken place since the pandemic began? I was wondering if you could share some practice areas that maybe have stood out during this challenging time. And maybe some that have performed maybe a little better or worse that you may have -- than you may have thought going into this time period that we're seeing?

Sure. So we tried to highlight 2 of those practices during our Q1 call. And those 2 practices are our Forensic Services practice and our Life Sciences practice. They have fared incredibly well in the brief time that we've been in this shelter-in-place environment, that there's a couple of reasons. I think, one, I'll give the reason that one of the things our Forensic Services practice does is provide cyber incident response consulting services to our clients. So what is one of the things that going virtual means? It means everyone is working from their homes, using their house Internet and thus making them a bit more susceptible to hackers. So we've seen the pace of those kind of attacks go up at a minimum, stay healthy relative to the pre-pandemic phase. So they've enjoyed a nice healthy demand environment there. Our Life Sciences practice, which provides a lot of consulting services to the pharmaceutical biotechnology sector. Here, the first reaction is, clearly, they're working on COVID-related drugs and pricing. And the answer is, no, the majority of the demand has to do with pricing and market access for all the other drugs in the pharmaceuticals portfolio. And we had not seen any market shift in demand for those lines of services. So those are 2 examples of practices that have performed exceptionally well in the shelter-in-place environment. One practice that has been impacted by it. And I guess, if there were any practices to be negatively impacted, I'm glad it's my Antitrust & Competition Economics practice. It's the largest practice in the firm. It is the best brand that CRA has, and it is the strongest market position. They are the worldwide leader in providing antitrust and merger assistance services to our clients. With M&A activity dropping significantly over the last 3, 4 months, they have been impacted. About half of what they do is provide merger-related services to companies trying to get their mergers through the various regulatory bodies. But that is, again, they've seen a drop relative to their lofty standards as a practice. But for a practice that I feel comfortable will resume historical activity expeditiously as we get some level of normalcy, it's this competition practice. The other thing that I feel good about that practice is we've seen that antitrust investigations don't appear to have slowed. Both in Europe, you see a lot of discussions about antitrust investigations, particularly in the technology sector -- high-technology sector. And you're also seeing a lot of discussions of antitrust investigations by the regulatory authorities into various companies in the high-tech sector here in the states. So that gives you a little bit of the spectrum of both practices that we see are faring exceptionally well and some that may have been impacted in the short term by this pandemic.

Okay. That's very helpful. We have a couple of folks who wanted to talk about the CapEx and what that might look like in a new environment of folks working from home a little bit more. I was wondering if you could talk a little bit about the cash flow that you think you would be seeing in the CapEx realm. And maybe if that's changed at all as to how it might look going forward in the next few years?

Sure. So I will start with, pre-pandemic CRA was a predominantly in-office consultancy. On March 16, literally overnight, we went to a predominantly in-office consultancy to a virtual consultancy. We will stay predominantly virtual until we believe that there is a safe and healthy reentry to our offices. The reentry to our offices will not be as overnight as the exit of those offices. There's a lot of hurdles that we have to overcome, not just the regulatory hurdles of the local geographies, the safety hurdles, but there's a mental kind of hurdle that we need to gradually and deliberately re-enter those offices. We will take our time in doing so. But my goal remains that I want CRA to be a predominantly in-office consultancy in the long term. Why is that? Couldn't I save money on SG&A with respect to lease spaces if I was virtual? Probably, but there's no way you would have enjoyed -- we would have enjoyed close to a 50% growth in the last 5 years if it was -- if we were virtual. 75% of my colleagues have been at CRA 5 years or less. The way that we have done that successfully is by mentoring them, integrating them into the company. And that kind of effort, I don't believe would have been as seamless in a virtual world. So the rates of growth, I think, will be impacted. Also, the quality of services at those rates of growth, I think, would be impacted if we were virtual. Our clients have come to expect certain minimum thresholds on CRA, and we want to make sure we always deliver and surpass those minimum thresholds. So I think we are better together. I think we are better in the office, but it's going to be a slow and methodical re-entry for this firm.

Okay. And with that, we are right at time. That was perfectly hit. So thank you very much, gentlemen, for joining us. We thank CRA for joining us here today. Have a great day.

Thank you, everyone. Be safe.