Kforce Inc. (KFRC) Earnings Call Transcript & Summary

Hi, good morning. I'm Stephanie Yee, and I work with Andrew Steinerman, covering the business and information services sector here at JPMorgan. This session, we are very pleased to have Kforce's CFO, Dave Kelly; Chief Corporate Development Officer, Michael Blackman; and SVP of Finance and Accounting, Jeff Hackman, with us today. Thank you for being here. As a reminder, the format of this 30-minute discussion will be a fireside chat. So I think I'm just going to dive right into questions.

Kforce today is a very different firm than just 10 years ago. Can you describe your evolution and what drove your decision to narrow your focus primarily to 100% domestic Technology Flex?

Sure. So thanks for having us, Stephanie. Before I get started, I want to thank you. I want to thank Andrew Steinerman at JPMC. We're honored to be at this industry-leading conference. We've been here a number of years. So we appreciate the ongoing opportunity to spend some time with you and your support of Kforce. So I think a good question for us to start out with. So I think we can all say, why is our business -- why are we focused where we are? Well, certainly, since and probably prior to the last recession, we recognized that society and business as a whole really was transforming and really expanding their digital models. And as a significant portion of that, they were looking increasingly to flexible resources in this rapidly changing space. And so for us, at that point in time, we were a business that had a number of different revenue streams. We saw what we expected to be a continuation of this secular shift of an increasing amount of technology spend in the U.S. economy and the fact that scarce technology resources being used on a flexible basis was likely to be -- continue to grow. And certainly, over the course of last decade, prior to the pandemic, we did see that. Actually, IT staffing, in particular, was one of the fastest-growing sectors in staffing. Specialty staffing, which only a decade ago was a relatively minor portion of staffing as a whole, is now roughly 50% of all staffing dollars spent. And in addition to that, obviously, the solution space, especially in IT, has seen significant growth. So that was a driver that actually has been accelerated as a result of this pandemic. So really, the pandemic is really requiring companies to embrace the use of technology and the changes that we were seeing. Just some examples. Obviously, we all see them in our day-to-day lives. The companies' use of bricks-and-mortar really is shifting more in terms of customer engagement and client engagement to online engagement. There's a lot of self-service digital platforms that have been and are being developed in the areas of education, virtual learning, telehealth, obviously, medicine, basically every industry, financial services and fintech disrupting that. All of those things point to an increasing use of technology in business and in their everyday lives. So that was really the driver behind our decision. And I would tell you, Stephanie, it looks like we benefited from it. Our growth rates over the economic expansion have been relatively significant. Our technology has grown -- technology business really has grown on a compound annual growth basis of about 8% a year up until the pandemic. And whereas you might expect, we've seen a slowdown, certainly we have during the pandemic, technology has really been extremely resilient during the pandemic. We, after we went through the initial phases of the pandemic, began to really see positive trends and stabilizing trends in our business as early as mid-second quarter and have continued to see positive trends since that time. As a matter of fact, we, at our earnings call a couple of weeks ago, indicated that our Technology business as well as our Finance and Accounting business, saw actually sequential growth from Q2 to Q3, I think, a reflection of the necessity of spend for companies on technology to make sure that they're staying astride of and being able to engage with their customers. So business is doing quite well as a result of those decisions that we've made. Our -- I would say, our expectations have -- although they were high, have been exceeded, at least as we've gone through this pandemic. We're in a very strong position as a result of the investments in technology, a lot of the growth that we're seeing there has been driven by customers looking for more value-added solutions from us in areas. And so what we refer to as our advanced services business has really been a driver to our technology business growth. So we think we're pretty well positioned to continue to grow. As a matter of fact, on the call a couple of weeks ago, we had indicated that we expected that higher end, value-added service business for our clients, we expected to constitute about 20% of our business over 5 years. We're well on track to meet and exceed that goal just with the organic growth that we've seen, let alone the position that we find ourselves in, really with a very strong balance sheet. We are actually debt-free and are actually thinking about the deployment of capital as we have been in potentially enhancing growth prospects in that space, potentially through acquisitions. So I would say all in all, the drivers to the changes that we've made and the focus that we've had in technology has turned out to be very solid and puts us in an exceptionally good position as we look forward, both during the struggling times that we are all seeing as well as when things start to rebound, we think we're in a really, really very good position.

Okay, great. That was a great overview, great introduction. Can you talk about maybe the competitive landscape and how Kforce's domestic Tech Flex staffing stands versus the rest of the competition?

Yes. I'll make a comment or 2, and then I'll turn it over. Maybe Michael, you can comment. So I had mentioned, competitively speaking, we fared quite well. If you look at some of the industry data, it would suggest that we've been, really for the last 8 or 10 years, been growing at double what the technology market has been growing. So we're clearly, I think, doing a good job taking share. That's a result of a number of decisions we've made even in our Technology business to make sure that we're refining the portfolio of clients that we're looking to do business with. This is a business that has long relationships, and we continue to grow those. Those clients are continually looking to deepen those relationships with us. I've mentioned a minute ago about some of the more project-oriented work that we've been doing that we refer to as our advanced services business. Frankly, our clients, because of the relationships and the trust that they have in us, are pulling us upstream and into those spaces that we know because of the partnership that we have with them and the capabilities that we have to find scarce talent, and they're actually increasing their spend with us. So -- and Michael, I don't know if you or Jeff have anything more to add to that.

Yes, I'll jump in a little bit. Thank you. And again, thank you, Stephanie, for having us at this great conference. Yes, so when you look at the playing field, Kforce today is the fifth largest technology staffer in the United States, again, with pretty much 100% of the revenue being domestic. This is a space that traditional has been highly fragmented. And I would point out, particularly in a time like the pandemic, there's some very significant advantages that I think Kforce platform has. Number one, we're doing business with, what, Jeff, about 70% of the Fortune...

Fortune 500?

Yes. About 70% of the Fortune 500. Thus, these tend to be large, sticky kinds of client relationships. We reconstrued the client portfolio under our President, Joe Liberatore, for a number of years now. And I think you're seeing in our operating results, where we, as Dave pointed out, we were able to grow organically on a sequential basis, Q2 to Q3. And the Tech business, I'll let Jeff speak to where it looks like it might play out over the rest of the year. So we have a lot of running room. In addition, in a pandemic environment, keep in mind, Kforce is only about 2% permanent placement. So we have a very stable, predictable run rate business. And having been doing this for a few years, in these kinds of environments, it tends to shake out the landscape, not the least of which, Stephanie, clients are looking for large, financially stable, compliant vendors that know how to cross the T's and dot the I's. Jeff, you might speak a bit just to our balance sheet?

Yes. And Stephanie, I'll say thank you to you. Thank you to Andrew for allowing us to attend here. I think Michael raised a couple of good points there. Dave covered the competitive landscape. And I think there's a lot of ingredients to that. Michael commented on the client portfolio and the work that we've done over, I would say, many, many years to shape that portfolio to be very centric in that Fortune 500 type company basket. The other thing I would raise is the average bill rate in our technology is roughly $80 an hour. And certainly, that gets you to a much higher end skill set in technology. And as we saw back in the March, April time frame, those resources much more easily transitioned to a work remote environment than did some of the lower-end IT skill sets. So I think that has helped in a lot of respects. The other thing, Stephanie, for us, we've seen our length of assignment in our Technology business since the Great Recession has probably improved from somewhere around 5 or 6 months to 10 months. So you take all of that together and you get a -- along with the secular drivers of technology that Dave spoke to, gets you to a little bit more of the why behind the what we're seeing. Michael mentioned technology growth. I think SIA has the 2020 expectation of a decline of about 9%. And we've already released guidance, of course, for the fourth quarter, and that puts us somewhere around 1.5% to 2% down year-over-year on our technology business for the full year. And I think we're really encouraged by that. You can use as a data point our performance back from 2008, 2009, where our Technology Flex business was down mid-single digit, 6%, 6.5%. So even better than what we saw back in '08, '09. And it has a lot to do with where technology has gone and the lack of optionality to invest there.

Yes. I think maybe to sum it up really in terms of the competitive landscape and our ability to operate, really, we're operating in a boundary-less environment that because of our national presence, we are able to support the local expertise in each particular marketplace. Certainly, for us, that's proving to be a key differentiator versus many, if not most, of our competitors, and we think in the longer term, that's really the winning formula.

Okay. Great. That's great. I know, Dave, you kind of talked about this or touched on it a little bit. But if we can just compare how Kforce came out of the '08, '09 crisis, where you stand today, should we expect higher growth or higher margins from Kforce going forward, especially now that maybe we have a vaccine coming down the line, things are going to return back to normal. What should we think about Kforce's trajectory going forward?

Yes, really good question, Stephanie. I think just to kind of frame that, coming out of the last recession, and actually, you had started to see even in the last recession, technology staffing and our growth really outpacing other sectors that might be within staffing. And the IT solutions space saw a similar positive trajectory. Part of it, I think, depends on the market. To your point, the vaccine and spend might be positively influenced. I think if you look at the market expectation, because of the necessity of technology spend and the fact that we're already seeing growth, right, our business even in this difficult situation is already growing. We expect to grow again sequentially into the fourth quarter. And frankly, I think, if you look at year-over-year, pre-pandemic to 2020, I think our Technology business is going to be down year-over-year less than 2%, right? Relative to the GDP decline of, what, 4%, 5% this year. That at least tells you a little bit about what people are thinking and our confidence in the secular story for technology. So given that as a backdrop and what is also likely pent-up demand for -- certainly, there is because we're finding 1% or 2%, we would expect a pretty robust environment. And whereas, as we came out of last recession, we were, frankly, growing close to double digits, if not double digits. With this digital-led recovery really due to the pandemic and the fact that spend in technology is no longer optional, clearly, the expectations of growth and, as I said, our compound annual growth rate, even during the expansion was almost 8%, I would expect a more robust environment coming out of the pandemic. And for us, having grown twice the market rate, I would certainly expect double-digit growth in our Technology business as we move forward, if we're in a positive growth environment for the economy as a whole. Again, this is because the spend is happening right now, there certainly is going to be additional loosening of the pocket book. Just to give you some expectation in the very difficult barometers as to how fast the market is going to grow, but SIA, Staffing Industry Analysts, I think, their most recent forecast for technology growth in 2021 year-over-year is about 7%, right, versus about 4% -- 3%, 4%, 5% in the last expansion. So the market expectations are strong. And if we can grow in excess of the market as we have been, then we should comfortably be in our Technology business at double-digit growth rates.

Yes. Dave, just to jump on that a little bit, just put some numbers behind it. So again, it's about, what, $32 billion domestic IT tech staffing market. Stephanie, again, we're growing 2x the market and yet only have about 3% market share. So a little runway there. And then Dave alluded to advanced services, which you said and is growing faster than our core Tech Flex business, that market is in over -- it's a $100 billion-plus market. I'm certainly not implying -- staffing is not going to disintermediate the big consulting shops. However, clients are getting way smarter. They're watching their dollars. And I think we and a number of peers in our space are going to continue to see significant growth in that area going forward. So, Stephanie, there's really lots of roads to grow this business and a lot of runway in front of us.

Okay. And so we talked about kind of top line revenue growth. Can we tie that to operating margins? I imagine you've cut expenses during the pandemic. How much do you expect that to come back as activity picks up? I'm assuming you can probably still keep some of those cost savings. What does that mean for your operating margins and the targets that you have laid out previously?

Yes. I think important to frame this. Certainly, you're right. I mean, obviously, those discretionary costs that -- have come down, and that has helped us. But as I look back and look back at the last half dozen years or so, we have been on a very disciplined path to continuing to invest in our business, right? So that means we incur cost so that we can position ourselves to grow. At the same time, the thrust of our efforts have been in those investments to improve the productivity of our associates. And we've had double-digit productivity improvements of our associates for the last 3 years. When we think about moving forward here, those investments that we have continued -- we were making prior to the pandemic have continued through the pandemic. We've noted on prior calls that we've recently implemented a talent relationship management system. Prior to that, we put in a new CRM. So those, I think, are in the early stages, still in the early innings, although they're well adopted, but they're in the early stages of helping drive productivity improvements. So as I think about productivity and I think of profitability, the ability for us to expand our operating margins is actually more significantly tied to the expectation of continued productivity improvements that we expect to see. So I think I made comment on our earnings call that we've trended ahead of our operating margin targets. And the fact of the matter was, we're very comfortable with those operating margin targets and the potential potentially to exceed them as a result of, number one, the productivity improvements. But additionally, you add a really important element here. We talk about technology and the fact that companies are having to learn in the digital world that they're going to have to engage with their customers. I think they're also learning that there are efficiencies to be gained with technology, which, again, is going to lead to more investment in technology in terms of how we perform our jobs day to day, right? We think -- I would tell you, to me, 6 or 9 months ago, the idea of being home and being as productive or more than I was, for me, was a bit of a foreign concept. Maybe I was a little bit more cynical than most. But clearly, we've seen article after article, you probably, Stephanie, have seen it yourself. It creates actually opportunity versus distraction to be able to use these tools and be more productive. And it's allowed us, frankly, to think differently about things like our real estate footprint. I think Joe Liberatore, our President, alluded to the fact that we're testing out some of these hub-and-spoke models trying to leverage the idea of remote work, we think could have a significant impact, just as an example, on some of our SG&A spend that is going to enhance the benefit that we think we're going to see from the productivity gains that we will expect to continue to generate. So it's a combination of those things inclusive of some of those costs. I think some of those costs certainly will come back in after the vaccine, but I think it's doubtful that they will come fully back into where they were. I think the world, frankly, has changed how we work. And we're going to benefit from that, no question. We're -- I think we've done a very good job as a firm. I mentioned Joe Liberatore. He's leading an effort to really reimagine how we are doing business and how we're interacting with our customers and how we're leveraging the tools that exist and are being developed in place. And we think that will serve us quite well.

Okay. Great. And just switching topics a little bit. I think you've talked about following the customer into managed services type of work in the past. Can you kind of just explain for us, investors who might not be as familiar, what are the drivers and economics for the customer.