Good afternoon. This is the Heidrick & Struggles' Second Quarter 2018 Quarterly 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.

Now, I will turn the call over to Julie Creed, Vice President of Investor Relations and Real Estate. Please go ahead ma'am..

Good afternoon, everyone, and thank you for participating in Heidrick & Struggles 2018 second quarter conference call. Joining me on today’s call is our President and CEO, Krishnan Rajagopalan; and our Chief Financial Officer, Mark Harris.

We’ve posted our second quarter slides on IR homepage of our website heidrick.com, and we encourage you to print them for additional context, but we won’t be referring to specific page numbers during our opening comments.

In our opening remarks, or in our quarterly slides, we're going to be referring to adjusted EBITDA, adjusted EBITDA margin adjusted operating income and operating margin and adjusted net income and EPS. 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 a schedule at the end of the release and in our supporting slides. Also, in a remarks, we'll be making forward-looking statements and ask that you refer to our Safe Harbor language contained in our news release and on Slide 1 of our presentation.

Krishnan, now I'll turn it over to you..

a company record for quarterly net revenue of $183.1 million, up 20% year-over-year and up 14% sequentially; growth in Executive Search revenue of 24%, with a year-over-year increase in all three regions of at least 23%; a Company record for Executive Search productivity per consultant of $1.9 million; 16% sequential growth in revenue from Heidrick Consulting, a comparison we believe is more relevant given the significant reorganization and restructuring in this business last year; a reduction in quarterly G&A expenses resulting in the lowest run rate in almost two years; operating margin of 10.1%, the highest quarterly operating margin since third quarter of 2008; and diluted earnings per share of $0.59 compared to adjusted diluted earnings per share of $0.33 in the last year's second quarter.

These financial results are being driven by improvements that we are achieving in the business. I'll give you a few examples. In Heidrick Consulting, we are pleased with the continuous improvements we have seen the official launch in January. We added three new partners in the second quarter and have more in the pipeline.

We solidified our three Centers of Excellence and go-to-market offerings. Our cross-collaboration initiatives with Search have already resulted in some very impactful engagements with our clients, which helped drive the sequential revenue growth in 2Q and are setting up future opportunities.

One large win that I'm very excited about is the work we're going to be doing for an international integrated industrial company that includes organizational design, top team assessment, a leadership definition and development model and 5 C-suite searches.

In Executive Search, we are winning a record number of searches, completing more of these searches, executing them more efficiently, getting more upticks and achieving higher average fees. We believe our growth rate is outpacing the market. We are hiring strategically as well. And we are continuously working to stay ahead of our clients' needs.

For example, we launched the new specialty practice in Artificial Intelligence as well as a Disruptive Innovators Team to advise emerging companies who are at the cusp of rapid growth, breakthrough innovation and market disruption. I'd like to thank our employees around the world for driving these strong second quarter and year-to-date results.

We continue to execute on our strategic, operational and financial initiatives. I'm quite proud of what we achieved in the first half, and I'm excited about our momentum and potential going forward. Now let me turn the call over to Mark to further discuss the financial results..

Thank you, Krishnan, and good afternoon to everyone on the call. Our excellent quarterly performance was the result of continued strength in Search, good progress in Heidrick Consulting and prudent expense initiatives that we started at the end of last year. Let me start with our consolidated net revenue.

In the second quarter of 2018, we reached net revenue of $183.1 million, up $31 million or 20% year-over-year, and up 14% sequentially from the first quarter this year. This quarterly net revenue was a record for Heidrick & Struggles and a great achievement from our entire Heidrick & Struggles team. Turning to Executive Search.

Executive Search revenue increased 24% year-over-year or $32 million and was up 14% sequentially. All of the key Search metrics improved, as did every region.

For example, Search confirmations increased 23% year-over-year and 11% sequentially; productivity was a record $1.9 million per consultant compared to $1.5 million in last year's second quarter; the average revenue per search was over $119,000 compared to about $118,000 in last year's second quarter.

In addition to generally firing on all cylinders, we saw an unusual increase in upticks for searches in the quarter, which also contribute significantly to our second quarter historical achievement. Upticks are inherently difficult to predict and were a significant reason we were ahead of the guidance we provided when reporting first quarter results.

Now turning to Heidrick Consulting. Heidrick Consulting revenue increased sequentially by 16% compared to the first quarter of this year. Although there was a year-over-year decline in revenue, it should be noted that much of this was attributable to the new revenue recognition methodology.

Given the first and second quarter results were both impacted by this methodology, we are encouraged by the sequential improvement as a proxy for the growth of this business and pleased with the integration. Salary and benefits increased $24.3 million or 23.5% from the second quarter of 2017.

$18.1 million of this increase was related to variable compensation associated with the strong performance in Search, and $6.2 million was an increase in fixed compensation, primarily related to higher costs for talent acquisition and retention as we continue to invest into our future.

For the third quarter in a row, general and administrative expenses declined year-over-year. G&A was $36.9 million, down 3.1% or $1.2 million. We're pleased with the savings that were achieved in a number of areas, but two contributors to the decline included, the use of fewer external consultants and lower intangible amortization.

Operating income in the quarter increased to $18.5 million with an operating margin of 10.1%, the highest since the third quarter of 2008, and nearly 200 basis points higher than the first quarter. The year-over-year comparisons to last year's GAAP results aren't as relevant given the impairment charge in last year's second quarter.

But even on an adjusted basis, as shown on Slides 9 and 10 of our quarterly slides, you will see that we are driving improved operating profitability.

Further, we added a Slide 11 in the deck that shows our trailing 12-month operating margin as this is a primary metric that we focus on to ensure that we are leveraging our platform to its maximum value.

The operating margin is adjusted for restructuring and impairments, but shows the progress we are making on a trailing 12-month basis, moving from 5.8% margins in mid-2016 to the 8% we achieved at the end of this quarter. While there's always variability on a quarterly basis, it is a trend we intend to keep.

Net income in the second quarter grew to $11.5 million, and diluted earnings was $0.59 per share with an effective tax rate of 37.7%. With the continued focus to drive our effective tax rate down, we believe our annual effective tax will be in the mid-30% range by the end of this year, a reduction from the adjusted 48.9% tax rate in 2017.

Now let me turn to our balance sheet. Reflecting the payment of bonuses in the second quarter and the repayment of $12 million that was outstanding on our credit facility, we ended the second quarter with cash and cash equivalents of $85.8 million compared to $58.2 million at the end of the second quarter 2017.

Further, of the $86 million in cash and cash equivalents, $78 million is available for operational use, while $8 million has more limited availability due to currency, tax and other factors that make it less efficient to use at this time. Now let me give you guidance for the third quarter. Our Executive Search backlog remains strong.

Given monthly Search confirmations trends and other factors on which we based our forecast, including anticipated fees, the expectations for our Heidrick Consulting assignments, the number of consultants and their productivity, the seasonality of our business, the anticipated economic climate and foreign currency exchange rate, we are forecasting 2018 third quarter net revenue between $170 million and $180 million.

This compares to $159.8 million in net revenue in last year's third quarter. In summary, we delivered another outstanding quarter and continued our pace of growth from the first quarter. Our business continues to benefit from the overall market strength, and we believe we are capturing this very well as our financial performance indicates.

This positions us well for future growth, assuming no change in the macro environment. But irrespective, we continue to focus on strong execution, prudent long-term planning and adding value to our clients. With that, I'll turn this call back over to Krishnan, who will give an update on our strategic priorities..

Thank you, Mark. Our second quarter results showcase the power of Heidrick & Struggles globally, every region contributed to our achievement. I couldn't be more proud of what we accomplished as a team. In the last two calls, I've discussed our results and our initiatives in the context of the four priorities that we have. I'll do the same this quarter.

The first priority is growth, increasing the scale and impact of both our business segments. I think it is safe to say that we are executing well on this initiative in Executive Search, and we have no intentions of letting up.

We are still looking to hire new consultants strategically while maintaining a significant focus on developing our talent from within and driving expansion into markets and practices where we see good opportunities for growth. In Heidrick Consulting, we are focusing on scaling the business that we launched on January 1.

We continue to cross train consultants on our service offering and are pleased to report that we have several engagements that reflect cross-selling between the former Culture and Leadership Consulting Organization.

We added net three consultants in the second quarter, and we'll continue to add more expertise, new service offerings and scalable tools and methodologies. We are pleased with the growing pipeline of client engagements. Our second priority has been to accelerate our cross- enterprise collaboration.

When we bring the full power of our people and services from both Search and Consulting to our clients, we can achieve the greatest impact for them and drive profitable growth for the firm.

As part of the creation of Heidrick Consulting in January, we made a very concerted effort to develop joint training programs for Executive Search and Heidrick Consulting. We also held three regional consultant conferences in the second quarter where a large focus was on training and cross-collaboration opportunities.

The increased partnership that we are seeing as a result of this training has been very encouraging. There are many joint teams pursuing a meaningful number of opportunities, and opportunities, and some good wins as well, like the one I referenced earlier for the large industrial company.

Our third priority is on driving a premium service experience for our clients that will further distinguish Heidrick from its competitors. I'm very excited about the progress we are making on this initiative, and the feedback is outstanding. Recall that in 2017, we launched the Heidrick Way.

The Heidrick Way has been the foundation of our initiative to provide this premium service experience for our clients. The Heidrick Way has standardized how we assess candidates, capture data, and communicate with our clients globally. We were recently with a client in Asia, who had nine searches and was planning on using three different search firms.

But when the client saw how we can deliver the searches using such an insightful and consistent methodology and our proprietary client portal, Heidrick Connect, they immediately awarded all nine searches to us. There have been a number of follow-on benefits as adoption rates of our standardized assessment methodology continue to grow.

We are collecting better, more consistent data that gives us more valuable insights to share with clients, and we see increased efficiencies in completing searches as well. And finally, our fourth priority is to further improve our cost structure.

We are pleased with the first half improvements in operating income, margin and EPS, but we're not satisfied. A return to double-digit operating margin felt great in the second quarter, but we believe we can do better and remain focused on improving our margin and our operating model.

I want to again thank our employees around the globe for their hard work this year. Now we would be happy to take your questions..

Thank you. At this time, we will open the floor for questions. [Operator Instructions] And our first question comes from Tobey Sommer with SunTrust..

Hi, this is Kwan Kim on for Tobey. Thank you for taking my questions. First, what is your hiring plan for the rest of this year on both the Executive Search and Consulting sites? And what are the gauges you're most focused on as you get back on hiring mode? Thank you..

Yes. This is Krishnan, Kwan, thank you for your question. Look, in Search, we are going to hire very, very strategically. That's been the plan for the year, and that's what we've been executing on, so expect a strategic modest growth over there.

In Heidrick Consulting, we'll be a bit more aggressive in our hiring as we scale the platform and look for talent. We've got a great pipeline. As I said, we've added three in the quarter. And we've got a few additional ones that have already onboarded with us for the third quarter, but we're continuing to hire in the Heidrick Consulting..

Got it. And could you talk more about your premium service? You mentioned Heidrick Way.

Which regions or markets are generating most growth on that front? Is it Asia Pacific?.

It's across-the-board. I'll be honest with you, I mean, we – it's a global program that we're driving, and it's across-the-board with the data that we see. All regions are adopting, all practices are adopting.

We've got more than 80% of our projects running that way, and the ones we don't were the ones that we started off in the beginning of the year and couldn't get onto that system. So we're running all our projects that way..

Thank you very much..

Thank you. Our next question comes from Kevin Steinke with Investment Research Barrington..

Hi, so the growth in Executive Search confirmations really accelerated this quarter, about 23% versus that 4% to 5% growth rate you've seen a prior few quarters.

So just wondering if you kind of saw a meaningful change in the market? Or how much would you attribute to what you're doing internally? I know that might be kind of difficult to parse out, but any commentary on the accelerated growth in Search confirmations you're seeing will be helpful?.

Yes, Krishnan, let me start out. Mark, maybe you can add to this as well. Look, I think we're definitely in a good market, number one, so I think we should acknowledge that. I think the acceleration we are seeing, we feel like we're winning more than our share.

I can't go through every competitor to be able to document that for you, but I think that's how we're feeling. And we think that the receptivity that we're getting to our new approach, our methodology of assessment, our Heidrick Way and Heidrick Connect is excellent.

So I think they're all contributing to it, and it's in the context globally of a fairly good market. I don't know, Mark, if you want to add to that..

I will. I think there's – a couple of things that I would to add to it is, first of all, that all three regions had over 20% growth on a six-month on six-month basis. Even on a quarter-over-quarter basis, you see that come through. America is 19%, 11% in APAC and about 5% in Europe.

When we kind of look at ourselves and how we bench our quarter-over-quarter sequential growth, as an enterprise, we're around 14%; as we look trailing 12 months for about 15%. We use the benchmarks out there that we have. And as Krishnan rightly point out, we believe that we're outpacing.

And clearly, as pointed out, it's a concept of the macro market on the point of being very low GDP, numbers that just came out being very strong, et cetera, and we can kind of see that playing into the strength of the Executive Search market as well..

Okay. Good. You’d mention the Heidrick Consulting pipeline and you’re pleased with what you're seeing there, it's building.

How much would you attribute that to the cross-collaboration efforts you're undergoing? And even with the pipeline building, do you see the need to add more resources to the sales effort to continue to grow that pipeline?.

Let me start off, and I'll let Krishnan – we'll play it back and around. So you right, we're seeing a 16% quarter-on-quarter growth that we felt that was very, very good.

What we're seeing on the pipeline side of it, to answer your point on the cross-collaboration, has increased in terms of the percentage of the revenue coming from cross-collaboration versus just going out on their individual and selling their consulting services. So we are kind of seeing it from both sides, and I'll turn it over to Krishnan..

Yes, look, I think we will continue to hire into that to be able to close out on these opportunities. When we have as many opportunities as we have, you have to be timely and be able to respond to them as well, so I do think we need more resources to be able to drive that.

And the good news is we're in the process of hiring, and people are coming onboard to help us with that..

Okay. And the record consultant productivity of $1.9 million in Executive Search, how much more room do you think there is to go there in terms of upside? You mentioned continuing to higher modestly there. I mean, you don't feel like the consultant pace is being stretched at those levels of productivity.

Or I guess, how much higher could that go relative to how much more hiring you have to do?.

Yes, look, I think it's a pretty heady number, and I think our teams are working very, very hard at that. I think in the model, as you think about it, when we onboard consultants or when we promote our consultants as well, you'll probably see some dip to those numbers before it goes back up. So – and that's what historically we've seen.

And this year between some of the operating changes we've made, between helping people with technology, we're able to drive it to these heady numbers. So I think it's – I'd be very happy if we could continue to maintain this number as we grow the business..

Okay. On the upticks, you said that was an unusual increase, what you saw in the quarter.

Is there anything you can attribute that to? I mean, was the market driven in terms of compensation levels? Or just any thoughts on that as you kind of analyze what happened in the quarter?.

Sure. So I mean, the strength of the revenue is driven twofold, as was rightly pointed out, confirmations being significantly higher than we anticipated as well as the upticks side. Specific to your point on the upticks, now my view and our view is it's a general market trend.

We are not seeing – we talked about our revenue per Search as well as our retainers be up to flat, so to speak. So it really would be coming down a war for talent, not just our war, but the war that's out there in the different practices, to get talent onboard is costing more than what it used to.

And that has created the very difficult forecasting noise of upticks, which is well ahead of the pace that we were expecting in the guidance that we gave..

Okay. Lastly for me, I think you mentioned in the prepared comments you're seeing some efficiencies in your completion of searches based on the standardized assessment methodology that you've rolled out.

I mean can you describe a little bit more the efficiencies that you're seeing? And does that result in faster Search completions or doing them at a lower cost? I mean, any initial feedback you're getting in terms of that new assessment methodology and the efficiencies that's driving?.

Yes. Let me start with that, Mark, and you may have some more analytics behind that. We're beginning – in the early stages, we're beginning to see that. We're able to share resource a lot more effectively as a result of having standardized approaches to how we're doing things. We're able to onboard our resources far more efficiently.

And I think that over time, we'll begin to see some of the benefits that you're talking about of completion times and other things. We'll be able to share data a lot easier as well, which we believe will also further impact not just a higher-quality output, but should drive down the completion times as well.

So we're sort of six months into that journey, and we've got our eye on that. And we'll continue to be focused on that as part of our operational plans here..

Thank you very much..

Thank you..

Thank you. [Operator Instructions] Our next question comes from Tim McHugh with William Blair & Company..

Hi. This is Trevor Romeo on for Tim. Thanks for taking our questions. First, you touched on revenue growth accelerating, but the revenue guidance implies a growth rate that's a bit slower than what you've seen in the past two quarters, even at the high end.

Can you just talk about why that outlook is a bit lower than that? And maybe touch on trends you're seeing into July, if you'd be willing..

Sure. So the overall enterprise growth in Executive Search from Q1 to Q2 is about 14%. And I guess you're using a midpoint, you say it's about 10% based on the revenue guidance that we gave.

But please keep in mind, Q3 is typically a slower quarter in the Executive Search side and mainly because August, as we all know, is a big holiday in Europe; July and August, being somewhat of a holiday here.

So it's just really more the function of the seasonality in the cycle, and that's why you see the 10% approximate based on midpoint that you're seeing in the guidance that we gave..

Okay, got it. And then it seem like the technology vertical is particularly strong this quarter.

Talk a little bit maybe about what drove the strong growth there?.

Well, again, in the technology side of the vertical, my comment would be that it really is a function of the market that we're in and the cycle that we're in.

So what we're seeing in that element of it in our practice in particular is really just a strong war on talent, a strong – again, an inflation if you want to call it that, in terms of the different searches that we're doing and the rates of those all-in rates with both up tick and average retainers has been much stronger than what we had seen in the past.

And we imagine, as employment and GDP go in their opposite directions alone the – again it create more of it..

Okay. And then last one for me. So compensation for Search consultants was up pretty substantially in the quarter as well.

Are you still finding it pretty difficult to retain people? And how is turnover trending at? I think you might have mentioned last quarter that turnover was a bit elevated, so did that continue in the second quarter?.

Turnover for the most part in this quarter has kind of abated, so it's slow down very much in terms of what we saw in Q1, and that’s not unexpected Q1 any company, especially if they're on a calendar year, and in the way they pay bonuses, you would expect Q1 after the payments that come out were – you hit the bad news so to speak.

So it’s definitely slowdown, but I don’t want to leave you with the misimpression that's still not robust market out there, so to speak. In terms of salary and benefits, again, as people start going through their tiers, you kind of count the whole year package, so some of that increase is actually pertaining to Q1.

But because they hadn't hit their tiers, we couldn't put the accounting accrual in the books until they really show that they're very likely, more likely than not, to hit it. And then we increase accordingly. So the only comment that I would make on that is not a quarter-on-quarter per se movement.

But again, look at the trailing 12 months as well as first six months, I think, as a better indicator..

Okay, great. Thank you very much guys..

Sure. End of Q&A.

Thank you. And we have no further questions in the queue at this time. I would now like to turn the conference back over to management for closing remarks..

Great. This is Krishnan. Let me just close with a quick summary. We've set out on an ambitious plan to win for our clients, for our people and create shareholder value. We have a plan, we're very focused, we have a great team to help us execute. Thanks, again, to our terrific team for all that they are doing in the market with us.

Thank you all very much..

Ladies and gentlemen, this concludes today’s conference. You may now disconnect..