Good day, ladies and gentlemen. This is Heidrick & Struggles' Fourth Quarter 2017 Conference Call. This call is being recorded. It may not be reproduced or retransmitted without the Company's consent. At this time, all participants are in a listen-only mode. Later we will conduct a question-and-answer session.

Instructions will be provided at that time [Operator Instructions]. Now, I will turn the call over to Julie Creed, Vice President of Investor Relations and Real Estate. Please go ahead..

Good afternoon, everyone. And thank you for participating in Heidrick & Struggles Fourth Quarter and 2017 Conference Call. Joining me on the call today is our President and CEO, Krishnan Rajagopalan; our Chief Financial Officer, Rich Pehlke and Mark Harris, our Deputy Chief Financial Officer.

During the call today, we will be referring to supporting slides that are available on the IR homepage of our Web site at heidrick.com and we encourage you to follow along or print them.

Today, we'll be using the terms adjusted operating income, adjusted operating margin, adjusted EBITDA, adjusted EBITDA margin, adjusted net income and adjusted diluted earnings per share. These are non-GAAP financial measures that we believe better explain some of our results.

A reconciliation between GAAP and non-GAAP financial measures can be found in two different schedules at the end of the release and in our supporting slides.

Throughout the course of our remarks, we'll be making forward-looking statements and ask that you please refer to our safe harbor language contained in our news release and on slide one of our presentation. The slide numbers that we're going to be referring to are shown in the bottom right-hand corner of each slide.

Our annual consolidated results, which Krishnan will generally talk to, are on Slide 2 through 19. Krishnan, I'll turn it over to you..

Julie, thank you. Good afternoon, everyone, and thank you for joining our call. We have been quite busy since we last talked to you at the end of October. I'm proud of what our employees have accomplished, and I'm excited about how we're positioned in 2018.

I’ll summarize some of the highlights in 2017, the strategic actions we took and what we’ve accomplished today in 2018. Later I’ll discuss our strategy and initiatives for the balance of the year. So let me start with 2017.

Today, we’re pleased to report a fifth year-over-year revenue growth and the highest net revenue achieved in the Company's 64-year history. Net revenue of $621 million was up almost 7% or $39 million. This growth was primarily driven by executive search where revenue was up 9%.

Following our promotion of a record 28 people to principal consultants in January last year, we made steady improvements in productivity throughout the year, achieving $1.7 million revenue per consultant in the fourth quarter. Leadership consulting grew approximately 6% 2017. It was a transition year for this business.

Once we decided last summary that we would combine Leadership Consulting with Culture Shaping, we made the decision to slow our hiring initiatives, while we focused on key elements of the integration like product and service development and delivery, our go to market strategy and the organizational structure.

With this completed, we are moving forward at full speed. Although, culture shaping net revenue declined from third to last year, both revenue and profitability improved throughout that year. Fourth quarter revenue increase sequentially for second quarter through a continued focus on driving growth.

We took several charges during the year, which impacted our reported profitability, including non cash imperilment charges and a restructuring charge. We believe that these strategic actions, while difficult, better position us to move expense capital use for administrative support and to market facing investments in people and technology.

We expect they will also help us deliver a sustainable improvement in operating margin. Excluding the unusual charges, adjusted operating income increased 17% compared to 2016 and the adjusted operating margin improved to 6.7%. And now on to 2018.

Earlier this month we announced the market launch of Heidrick Consulting, combining our Leadership Consulting and Culture Shaping businesses into a single integrated line of advisory services that complement our search capability. We named Andrew LeSueur t to lead Heidrick Consulting.

Michael Marino, the former managing partner of Culture Shaping retired. Colin Price, the former Managing Partner of Leadership Consulting returned his focus to Client Service, while further developing and deepening the Firm’s intellectual property and thought leadership. And we continue to add bench strength.

In January, we closed the acquisition of Amrop Denmark, adding six search consultants to our Nordic region. And reflecting on our well established development and training program, we promoted 14 to principal and 17 to partner in search, and we promoted three to Heidrick Consulting partner as well.

Before I turn the call over to Rich to go over the financials, I would like to take a minute to acknowledge that this is his last quarterly conference call at Heidrick & Struggles. Rich will be retiring after seven years as Chief Financial Officer. I would like to thank him for his strong financial leadership.

I would also like to introduce you to Mark Harris, who has been working hand-in-hand with Rich and his team since the first of February in order to ensure a smooth transition. We're excited to have Mark on board. He brings a wealth of global experience and guiding growing public and private enterprises.

Most recently, Mark was CFO at Hercules Capital, a business development company with responsibility for finance accounting, operations, treasury, legal and investor relations. Hercules saw a significant increase in earnings per share and in total shareholders return during his tenure.

Please join me in wishing Rich the best in his upcoming retirement and welcoming Mark to the firm. Mark, would you like to say a few words before we turn the call over to Rich..

Absolutely. I couldn’t be happier to join Heidrick & Struggles family, a firm that I’ve revered during my professional carrier through my frequent experiences.

It doesn’t come as a surprise to me that Heidrick, who is a leader in advising clients on leadership talent and development, has provided me with such a smooth transformation into a role important as this one.

It's been advantageous to be able to partner with Rich to leverage his vast knowledge and experiences of this business, which afforded me the ability to get up to speed so quickly. Rich, thank you so much for your mentorship over the last month.

In addition to Rich, I would also like to thank the financial and operational teams that I'll be leading, the support teams that I have engaged with and the leadership teams who have all been amazing during this transitional process.

Finally, I'm elated to be joining such a talented executive team coupled with the ability to work with such a distinguished Board of Directors to create the next chapters of our firm.

Rich?.

Thanks, Mark, and let me add my welcome. It's been a pleasure to work with you these past few weeks, and I believe you're a great addition to Heidrick & Struggles. And thank you Krishnan for the kind words as well. And good afternoon, everyone.

Krishnan hit on the highlights of 2017, so I will discuss the fourth quarter results, which are covered on slide 21 through 35. Revenue in the fourth quarter came in stronger than our guidance, primarily in search as a result of higher upticks, higher confirmations and the timing to those confirmations.

Every region contributed as did the four major industry practices. The increase in search revenue resulted in higher bonus accruals for the quarter and for the year. This increase in salaries and employee benefits was partially offset by a decline in G&A in the fourth quarter, which was down $4 million or 11%.

As preannounced in early January, we took an $11.6 million non-cash impairment charge in the fourth quarter to write off the remaining carrying -- the carrying value of the remaining goodwill and intangible assets related to our leadership consulting business.

We also recorded $15.7 million for a strategic restructuring plan to reduce overall costs and improve efficiencies in our operations. Reflecting these charges, we reported an operating loss in the fourth quarter of $18.8 million.

Referring to slide 27, excluding the charges, adjusted operating income in the fourth quarter would have shown a year-over-year increase of 10% compared to the 2016 fourth quarter. Moving down the income statement. We had additional charges in the quarter as a result of the enactment into law of the U.S. Tax Cuts and Jobs Act in December of 2017.

We recorded $14.5 million charge related to the write down of the value of our U.S. deferred tax assets, as a result of the reduction in U.S. corporate income tax rate from 35% to 21%.

And another $9.2 million to establish a valuation allowance for our foreign tax credit carry forwards, because provisions in the new legislation will likely restrict their use going forward. I'll have more to say in our tax rate in a moment.

If we look at slide 34, excluding the impairment and restructuring charges and the two tax related charges, adjusted net income would have been $2.8 million in the fourth quarter and adjusted diluted earnings per share would have been $0.15. This compares to 2016 fourth quarter net income of $500,000 and diluted earnings per share of $0.03.

Referring back to slide 17 and 18, adjusted net income for the full year 2017 would have been $20.9 million and adjusted diluted earnings per share would have been $1.09 to the effective tax rate of 48.9%.

Those of you who have followed the company know that our book effective tax rate has been volatile, principally due to the inconsistency of results in many of our foreign jurisdictions. Our cash tax rate has been more consistent, averaging closer to 40%.

For 2018, we are still reviewing the full effects of the other provisions in the tax reform legislation. But based on the current and expected mix of income, we think our effective tax rate will decrease from mid to high 40s to something in the range of 38% to 40%, primarily as a result of U.S. corporate income tax reduction.

From a cash prospective, this would translate to between $4 million and $4.5 million of cash savings. Now referring to slide 36, cash and cash equivalents at December were $207.5 million compared to $165 million at December 31, 2016.

The increase in cash balance compared to the end of 2016 reflects stronger operating cash flow and fewer acquisition related investments offset by higher bonus payments paid in 2017. The Company's cash position build throughout the year as we accrue for bonuses.

Earlier this quarter, we paid approximately $13 million in compensation related to the portion of consultant bonuses that are deferred each year. In March and April, we will payout approximately $148 million in variable compensation related to 2017 performance.

We also expect to pay approximately $13 million in the first quarter related mostly to severance to complete the restructuring. Absent any potential acquisitions, we expect free cash flow to increase again in 2018 as a result of improved operating performance, lower expected capital expenditures and lower tax rate.

Now, before I turn to first quarter guidance, let me talk briefly about the new revenue recognition standards that we are adopting effective January 1, 2018. The primary area where the new standard will apply to Heidrick is upticks.

Upticks are fees that we received for completed search for the first year compensation paid to the hired candidate with higher than estimated in our original contract. In the past, we recognized uptick revenue at the time the amount was fixed and determinable, which generally coincided with the completion of the search.

Under the new standard for revenue recognition, we will need to estimate the potential upticks for each search and recognize this revenue over the life of the search, utilizing same model we currently apply for the recognition of retaining revenue. This is expected to accelerate the recognition of search revenue related to upticks.

We will continue to monitor and adapt our revenue recognition models overtime but at this point, we do not believe it will materially affect the run rate of revenue each quarter. There will be more detailed information in our 10K disclosure, but the guidance I will speak to next reflects the application of the new standard.

Now, let me speak directly to the guidance for the first quarter and then Krishnan and Iwill talk more generally about the year. Our executive search backlog is shown on slide 37 and is quite healthy. We sell the few days left in the month of February but our search conformation trends were shown on slide 38.

Other factors in which we based our forecast include our revenue recognition model, anticipated fees, the expectation for consulting asignments, the number of consultants and their productivity, the seasonality of business, the current economic climate and foreign exchange rates.

We are forecasting a good 2018 first quarter with expected net revenue of between $150 million and $160 million. This compares to reported net revenue in the first quarter of 2017, which was $140 million. And with that, I’ll turn the call back over to Krishnan..

Thank you, Rich. We have started 2018 in a position of strength. We have momentum in the market and we’re excited about the opportunity ahead of us. Let me first mention how incredibly energized I was by the meeting and interactions we had at the World Economic Forum in Davos this year.

They highlighted just how relevant our leadership advisory services are to the world’s most influential businesses. Never before has talent, leadership and culture meant so much to building and sustaining competitive advantage. Never has the pace of changing disruption been so intense.

The market for executive search remains robust and the value of visionary leadership has never been greater. Now that we’ve launched Heidrick Consulting, we can better capitalize on the market for advisory services as well. There is a significant opportunity for Heidrick enabled by our brand to take a bigger share of both markets.

We’ve also positioned our business for growth through strategic actions, including the restructuring at the end of 2017. We reduced our cost structure and realigned cost from administrative to market facing. We will invest much as the savings realized through the restructuring into people and technology.

We have four priorities for 2018 across the enterprise. First, is growth. Increasing the scale and impact of both our business segments. In executive search, we intend to build on our momentum. We’ve invested significantly in this business in the last few years and are now positioned for more profitable growth and to take market share in every region.

We will hire selectively focusing on growth markets and healthy economies where we should have a larger presence. For Heidrick Consulting, we will continue to scale the business to increase our impact with clients, building on the success of our platform accelerating performance.

We will invest in new consultant expertise, new service offerings and scalable tools and methodologies. Our second focus for 2018 is on cross enterprise collaboration. Our search and consulting teams work closely together to provide our clients with an integrated suite of leadership advisory solutions.

We are cross chaining consultants in each of the businesses to look for opportunities to provide our clients with more, acting as trusted advisors. We are broadening our key account focus to bring the full power of Heidrick to our largest clients. Our third focus is on driving a premium service experience for our clients.

We have developed the comprehensive assessment framework using our proprietary IP derived from years of research. This framework connects directly to our foundational accelerating performance research, so we can demonstrate how our assessment of candidate correlates to performance.

We now have 100% of our search teams trained on this new assessment methodology and are actively implementing with clients globally. And we have begun rolling out a new client portal solution, which allows us to digitally engage with the leading organizations we serve.

We showcased this new capability to a number of client executives at Davos and their response was overwhelming. We believe this will further differentiate as competitively and the standardization that it brings to process will also support margin improvement.

Finally, our fourth priority is to maintain a close focus on cost containment initiatives to further improve our cost structure. We are making cost control part of our culture and we will not lose this focus. With our positive momentum and favorable market conditions, I’m excited about the year ahead.

You see that reflected in our first quarter guidance. With our four focus areas, we will make further progress toward profitable growth. It’s going to be an important year for this firm. I want to again thank our employees around the firm for their hard work this past year, helping us achieve record revenue and significant gains on so many initiatives.

I am truly excited by what we will accomplish as a team this year. Now, we'd be happy to take your questions..

Thank you [Operator Instructions]. We'll go first to Tim McHugh with William Blair..

Just want to ask first on the comments about the restructuring program and reinvesting many of those proceeds. Can you talk about I guess how much [technical difficulty].

Just the restructuring program, how much of the savings are you going to reinvest versus allow to flow it through the bottom line I guess if you think about the full year?.

Tim, I think you're aware, most of our savings from the restructuring came in the form of headcount. And all of that savings, we've identified has been achieved. Most of the individuals identified for the restructure are now off the payroll and we reduced our headcount by approximately 14%.

So our goal is to build a profitable and sustainable business model. We now have the opportunity to do that and invest in the business, the market facing hirers as we’ve said in products and technology, to continue to scale search and particularly the consulting business..

We're in a pretty dynamic fast changing market, so we're going to closely monitor the balance of investment with the opportunity for growth. The pace of that investment and the potential return on those investments, we’ll determine how much falls to the bottom line.

But we're committed to improving the operating margin in the near term as well but we also need to invest for the future. So we will be quite balanced in how we do that..

Can you talk about what's happening with the compensation expenses? I guess, I know there's sometimes lumpiness with bonus accruals. But even on a full year basis, if I look of the revenue increase, I think it's like 88% went into compensation and salaries.

And so I guess talk about -- is it the mix of revenue and then why -- I guess was it did it go up so much as a percentage of revenue this past year?.

Time, it’s Rich. I'll take a crack at it and see if Krishnan wants to add on it. Couple of things drove the increase in comp benefits. Number one, just the overall performance factor of our business in terms of how we run our model and our variable compensation model that resulted in a higher payout than a year ago, which drove dollars.

Number two is the increase in people, through the -- we have been growing the base of market facing people and the leverage model to support those people over the last few years. And so compensation expense grew at that level, as well and that was part of what drove the value of the increase.

So this gets back to the comments that Krishnan just made about the people. We're in a pretty -- we still remain in the strong environment for the core business.

And we have continued to invest in a very healthy pace to build the market facing side of the business and with the moves that we've made with the restructuring, we hope to give a bit oxygen back to the expense capital where we’ve shifted that away from more support to market phasing.

But it's really driven by the number of people and the performance of the business..

And then just one, go ahead….

No, I was just going to add. Typically you’re familiar in our fourth quarters were people come into me being bonus eligible. So the accruals pick up in the fourth quarter as well..

But we did have a pretty heavy pop on revenue in the fourth quarter that was higher than our expectation, which also drove up the comp expense a little bit farther as well..

And just one last one just to be -- most of the restructuring program was not I guess front line focusing. Is that correct? It was more G&A type....

It was the G&A related expenditure or some support, or business support operations out in the field. So it did have a geographic spread, but it was more on the support side than rather client facing side..

Thank you. We’ll go to Kevin McVeigh with Deutsche Bank..

Rich, congratulations on our retirement and Mark, welcome aboard. So any sense of revenue -- the guidance looks really good relative to the street. What gets you towards the lower end of the range versus the higher end? And it sounds like the upticks went appreciably impact the revenue in the quarter.

But is there any way to size how much that impacts the guidance as well?.

The revenue recognition standards, if it’s going to help the guidance at all that we're talking on a quarterly basis, somewhere probably in the more like the $1 million to $2 million range. So it’s not really that material.

We’re going to do as called the modified retrospective application of the standard, which means we’re going to book a catch up entry for previous upticks. And so that’s why it won't have that much difference. We won't be restating prior year financials, much like most other companies have adapted the standard. So that’s not really a big factor.

What really drives our -- when you think about it, what drives our revenue, especially in terms of some of the clouded visibility around, it’s really the timing and the value of the conformations, because that’s what kicks off the start of revenue recognition model.

One of the reasons we have a strong fourth quarter in 2017 is that we had a lot of high value confirmations come earlier in the quarter, which helps the revenue recognition model, as well as the fact that we have stronger upticks in the quarter as well.

So it's really going to be -- if we have volatility in the revenue stream, it’s largely driven by the timing of the confirmation, as well as the upticks..

I would just add there as well, look we're off to a nice start in January and February. And given the momentum we had in the fourth quarter, we feel comfortable with our guidance..

And then just, I know I've asked this in the past. But any sense of when we get to the point where we’ll be able to start talking EPS again. And I know there has obviously been some -- lot of volatility in the tax rate.

But just now with the new tax legislation, I don’t know if that affords you an opportunity to maybe give a little more disclosure on the guidance..

Well, we still haven't decided to go forward with any profit guidance at this point in time, Kevin. We evaluate the decision periodically. But the business, from a stand point of visibility and especially when you talk about thinks like our foreign jurisdictions, many of those decisions come down to the wire at the end of the year.

So at this point in time, there is no plan to do that..

Thank you. Our next question comes from Tobey Sommer with SunTrust..

I was wondering if you could give us some color as to what led to the restructuring action, because we’re in year nine of the economic expansion. The company itself has experienced recently relatively strong top line growth? So if you could frame that for us, would be helpful..

I started -- as I took over as CEO, I began to really think about our cost structure and where we’re deploying expense capital to support revenue growth. And our analysis led me to conclude that there were opportunities to be able to redeploy that in a different way, which is what led to this restructure.

Ultimately, there is opportunities here to drive revenue in a tighter fashion without that expense capital and that’s a decision that we made. We went through pretty thorough analysis to understand what our benchmarks look like and became comfortable with that to be able to take the actions..

The one thing I’d add Tobey to that is that as we sat here and thought about what competitively we needed to do, both from a technology side and from a peoples’ side, we had to figure out a way to make itself funding.

And so we definitely had to reprioritize what we were going to do and what type of people we were going to have throughout the support operation as well. So a combination of all those factors led to the discussion..

And as we started going a bit more in our digital journey, something didn’t make sense to us as well..

And it sounds like you must have some medium to long-time profit goals associated with that.

Do you have margin goals or targets for improving returns that you could share with us?.

Not specific target that we are sharing at this time, no..

How should we think about consultant productivity at this point? So as I think you hit $1.7 million in annualized revenue.

How do you think about the flack you have to be able to drive that even higher?.

We have $1.7 million in the fourth quarter. I think we hit about $1.6 million in annualized. Look I think there is a little bit of room on top of that. As we’ve been talking to you about our hiring model, our hiring model has changed and our staffing model has changed as well. We have more principles and then partners in the executive search model.

So driving it simply through partner hiring, is going to take a little bit longer. So I think there is a little bit more headroom on top of that. But I expect it to probably creep a little bit slower than it has in the past. We’ll get to more productivity gains though through the system with how we leverage technology and support resources..

What are you seeing in terms of executive compensation inflation aside from the accounting change of upticks? I’m curious if you could provide some more color on the nature of the higher upticks and how that compares to recent experience in upticks?.

I’m not sure that anything I would say there in the nature of the uptick was necessarily related to recent changes in compensation. I think it’s more aligned with our overall strategy to continue to work at the top. And so we’re seeing a larger share of our work at the top, our tenures are holding up. They’ve improved gradually as well.

So I don’t think it necessarily do the executive compensation changes. We did have aggressive growth in our financial services industry group, which drive some of our uptick volume obviously more than other sectors do. So that could be a leading part of it. But I don't think it's necessarily how compensation is working in the industry..

And then two numbers questions, I'll get back in the queue.

Is net spendable cash after the severance and bonuses -- are we talking somewhere around mid 30s million and do you have a currency assumption for at least major currencies associated with your guidance in 1Q?.

Yes, I think for our guidance in 1Q, I don't think we have a major gyration in currencies reflected in that guidance. I mean, we obviously have been watching over the first two months. But I don't think anything that we've said is just going to be dramatically different relative to the guidance on the currency standpoint.

In terms of the spendable cash, we're probably more like in the $40 million range. I think by the time, because remember as we payout the bonuses in the first quarter, we're getting first cash operating flow coming in and we've always said that we need that $40 million plus number to run the business.

You may recall that in the first quarter in the last few years, same will be -- it'll be the same again this year. We'll borrow slightly on our working capital line just to get through the first quarter and that'll be gone early in the second quarter..

[Operator Instructions] And we'll go to Kevin Steinke with Barrington Research..

So you mentioned that you think the restructuring actions can help drive sustained improvement in operating margins. And just wonder if you can talk a little bit more about how you translate those actions into more than just one-time cost takeout. And obviously growth is going to help drive margin expansion.

But how does this plan feed your ability to improve margins over the long term on a sustainable basis?.

Let me give you an example on multipack technology here for a second. So in search, as we referenced, we moved to a new assessment model. We've trained everybody globally.

We're wrapping it with some technology as well, which will allow us to standardize the search assessment model and therefore be able to drive margin improvement through standardization. So there's some place where we're investing our capital to be able to drive margin improvement as an example, which I think will be quite sustained as well..

So it sounds like hiring plans for Heidrick Consulting are still little bit fluid. I mean, how would you characterize how the timing and the pace that you referred to it earlier. But do you have specific plans in place? I mean, obviously, I guess it would be dependent on the availability of talent pool.

But just how firm are the hiring plans right now in Heidrick Consulting?.

Look, we need to grow Heidrick Consulting, so we are in the process of recruiting, and we’ll be in that process for a little bit of time to be able to build the organization.

The priority for the organization is to come together to create some market success with some joint offerings to be able to lean on the enterprise and be able to collaborate and create some enterprise accounts as well, which will create a platform I think for further investment in people and technology and the ability to hire.

So hiring is definitely on our plans for Heidrick Consulting..

Just another question about restructuring, with the reduction in support expenses, some G&A expenses.

Does that affect in anyway how consultants operate on a daily basis? How much are there impacted and how might they have to adapt if at all with the change in support structure?.

Kevin, this is Rich. I don’t think there is material change relative to the support side. Look, everyone gets comfortable with what they around them in any one point in time. And I think Krishnan made an important point about challenge of keeping our cost in focus and making sure that we build this part of our culture.

Our fourth quarter results, for example, even reflect pre-restructuring, a pretty dramatic decrease in G&A expense year-over-year.

So it’s not a topic that’s forgotten around here and has been a consistent challenge for us, because we do need to fund, find ways to fund both our growth in terms of our people, as well as the technology, and to the example that Krishnan gave.

So at the end of the day, everyone know they have to adapt, everyone knows they have to change and sometimes it’s painful and we say good bye to a lot of good people that spend a lot of number of years with firm in that process and those decisions are always hard.

But at the end of the day, we needed to remove forward into a new direction and that’s what we did..

And just lastly can you talk about the decision to create a Chief Operating Officer role and how that fits into your plans, going forward?.

So we have a Chief Operating Officer role that is multi-faceted for us. It’s primarily looking at search but also has taken on a couple of large functional capabilities as well with IT and marketing. And the objective there is to bring those closer to the field.

We really want to align IT and marketing much closer to our field, which is another thing that -- another example we could have used talk a little bit about in fact rather than taking something away from the field, how we’re going to helping the filed on go to market initiatives, et cetera and things like that.

So that’s all we’ve done with that role and given that role license to be able to help drive additional productivity in the field..

And with no additional questions in the queue, I’ll turn the floor back over to our CEO for any additional or closing remarks..

Great, thank you very much. Let me close by offering a few summary thoughts. 2017 was a year of significant change for our firm, leadership transitions, forming a new team, creating a new consulting organization, strategic restructuring, just to name a few.

A big thank you to our outstanding team who stayed focus on clients and the markets to deliver strong operating results. We are reinventing search and creating a new leadership advisory capability here at Heidrick. We continue to invest in people and technology. We have an accountable mind set on the bottom line.

Our new team is very excited about 2018 and our future. You will see Heidrick in the market. Thank you very much for joining our call..

Thank you. Ladies and gentleman that does conclude today's conference. Thank you all and for your participation. You may now disconnect..