Edward L. Pierce - On Assignment, Inc. Peter T. Dameris - On Assignment, Inc. Theodore S. Hanson - On Assignment, Inc. Randolph C. Blazer - On Assignment, Inc..

Jay Hanna - RBC Capital Markets LLC Edward S. Caso - Wells Fargo Securities LLC Jeffrey Marc Silber - BMO Capital Markets (United States) Tobey Sommer - SunTrust Robinson Humphrey, Inc. Timothy McHugh - William Blair & Co. LLC Mark S. Marcon - Robert W. Baird & Co., Inc. Robert Crystal - Goldman Sachs Asset Management LP.

Ladies and gentlemen, thank you for standing by, and welcome to the Second Quarter 2017 Earnings Conference Call. At this time, all participants are in a listen-only mode. Later, there will be an opportunity for your questions, and instructions will be given at that time. As a reminder, this conference is being recorded.

I would now like to turn the conference over to our host, Mr. Ed Pierce. Please go ahead..

Thank you. Good afternoon, and thank you for joining us today. Before we get started, I'd like to remind everyone that our presentation contains forward-looking statements. Although we believe these statements are reasonable, they are subject to risk and uncertainties, and our actual results could differ materially from those statements.

Certain of the risks and uncertainties are described in today's press release and in our SEC filings. We do not assume the obligation to update statements made on this call. For your convenience, our prepared remarks can be found in the Investor Relations section of our website.

Please note that, on this call, we will be referencing certain non-GAAP measures, such as adjusted EBITDA and adjusted net income. These non-GAAP measures are intended to supplement the comparable GAAP measures. Reconciliations between the GAAP and the non-GAAP measures are included in today's press release.

I will now turn the call over to Peter Dameris, our CEO, who will provide an overview of our results for the quarter..

Thank you, Ed. I would like to welcome everyone to the On Assignment 2017 second quarter earnings conference call. With Ed and me today are Ted Hanson, President of On Assignment; and Rand Blazer, President of Apex Systems.

During our call today, I will give a review of the markets of the markets we serve and our financial highlights, followed by a discussion of the performance of our operating segments by Ted and Rand.

I will then turn the call over to Ed for a more detailed review and discussion of our second quarter results, and our estimates for the third quarter of 2017. We'll then open the call up for questions. Now, on to the second quarter results.

Our results for the second quarter exceeded the high-end of our previously announced financial estimates for adjusted EBITDA and earnings per share, and were within the range of estimates for revenues and gross margins. Revenues for the quarter were $653.3 million, up 7.4% year-over-year, or 7.6% on a same billable day basis.

This marked the 14th consecutive quarter that our company grew above the IT staffing industry's projected annual growth rate.

Our growth rate reflected, among other things, the continued deepening of many large new customer relationships that we've established over the last four years, the continuing increase in the rate of adoption of our delivery model, and an improvement of the operating performance of Oxford and CyberCoders.

This quarter's revenues had an adverse effect from foreign currency exchange, which impacted revenues by $723,000, compared with a $370,000 year-over-year benefit from foreign currency exchange in the second quarter of last year.

Adjusted EBITDA for the quarter was $80.5 million or 12.3% of revenues, compared with $74.1 million or 12.2% of revenues in the second quarter of 2016. Cash generation continues to be at or above our expectations. Financial performance in the quarter was driven by strong revenue growth at Apex, Creative Circle and CyberCoders.

Revenue growth came from our local, mid-market, and large national accounts, reflecting strong customer demand. Our size and service offerings allows us to grow faster than published staffing industry growth rates, and we believe that we are well positioned to generate solid above-market revenue growth in the future.

Our IT business continues to see high demand from its customers, driven in part by greater adoption of staff augmentation as a viable alternative to outsourcing, offshoring and consulting. Wage inflation continues to be manageable.

With respect to recent production, our weekly assignment revenues, which excludes conversion, billable expenses and direct placement revenues averaged $48.8 million for the last two weeks, up 14.6% over the same period of 2016. Since closing the Creative Circle acquisition on June 5, 2015, we have repaid $281 million of our debt.

Our leverage ratio was 2.04 times trailing 12-month adjusted EBITDA as of June 30, 2017. During the quarter, we repaid $38 million of our debt. We estimate our leverage ratio to be approximately 1.91 times by the end of the third quarter of 2017.

As you will recall, we announced on June 13, 2016 that our Board of Directors authorized a new $150 million share repurchase program. Since inception, we have repurchased approximately 1.4 million shares at an average price of $39.07. During the second quarter, we did not repurchase any shares.

We do intend to continue to execute our share repurchase program based on share price and market conditions. We continue to see signs that the ongoing debate regarding the on demand workforce or gigeconomy is accelerating the usage of contract labor.

Fractionalization of human capital by using the staffing industry services is the only way to avoid the risk of misclassification of employees as independent contractors. Our customers have and are realizing this and that is why we believe the secular growth opportunities for the entire professional staffing industry are so attractive.

We also believe that we are well positioned to service our customers' IT needs as technology rapidly evolves and is adopted. Throughout this year, we continue to benefit from the ongoing debate regarding H-1B visa reform and further adoption of our development and deployment model, i.e., staff augmentation.

Recently signed executive orders have only further solidified the trend towards adoption of our model versus offshoring. Our industry association has had several meetings with congressmen and senators' offices and staff, and proposed legislation continues to favor the provisioning of domestic IT labor.

I would like to now turn the call over to Ted, who will review the operations of the segments and then over to Rand.

Ted?.

Thanks, Peter. Revenues from our Apex and Oxford Segments grew collectively 7.4% year-over-year. The Apex Segment had another strong quarter of double-digit growth, driven by both Apex Systems, our largest division, and Creative Circle, each of which grew low-double digits.

Creative Circle was below our growth expectations for the quarter, and Apex Systems was in line with our expectations for the quarter. Rand will discuss in greater detail operating trends in each of those business units in his comments.

Our Oxford Segment was slightly down year-over-year, but up sequentially and above our expectations for the second quarter. The better-than-expected growth in the second quarter was driven by better performance at our core Oxford IT business, and continued recovery in growth at CyberCoders.

We were pleased to see that all divisions grew sequentially over the first quarter of 2017. Exiting the quarter, Apex Systems, Apex Life Sciences and CyberCoders continued to grow. And the Creative Circle division showed slowing growth and is behind our internal expectations for the second half of the year. Now on to the Oxford Segment results.

The Oxford Segment is comprised of Oxford Core, CyberCoders, our permanent placement business, and Life Sciences Europe. For the second quarter of 2017, Oxford Segment revenues were $150.9 million (sic) [$150.8 million] (08:14), down 2.3% year-over-year, or down 1.8% on a constant currency basis.

Revenues increased 4.8% for the segment on a sequential basis. Oxford Core revenues, which accounted for 74.9% of the segment revenues, were down 5.1% year-over-year. The decline in revenue was attributable to the successful completion of two large projects in the second quarter of last year, which we have mentioned on this call in prior quarters.

Despite the difficulty in growing over these significant projects on a year-over-year basis, Oxford core revenues are growing sequentially. Adjusting for these projects, we experienced flat revenues year-over-year in IT and life sciences. And our software/hardware and engineering disciplines are in line with or above market growth rates.

We continue our hard work in this unit to improve growth rates and profitability levels, which I will address in a few moments.

CyberCoders, our permanent placement service offering, which accounts for 97% of the segment's permanent placement revenues, was up 9.7% year-over-year and up 10.3% sequentially, as we saw momentum build throughout the quarter.

For CyberCoders the trend and momentum we discussed with you in the first quarter continues and we are seeing an increase in both opportunity flow and an improvement in the time-to-fill cycle. Our Life Sciences offerings in Europe, the smallest contributor to total segment revenue, were slightly up year-over-year and sequentially.

Gross margin for the segment was 41.6%, up 20 basis points year-over-year, which was slightly ahead of our expectations. Improvement in gross margin was primarily driven by higher contribution of revenue from CyberCoders.

The segment's adjusted EBITDA results exceeded both our expectations and the prior year, as well as coming in significantly above the first quarter of 2017. As we discussed last quarter, we continue to take actions we believe will better position Oxford Core with our customers as well as improve our return on invested SG&A.

Oxford's differentiation in the market has always been its ability to deliver high-end, hard-to-find talent to its customers in multiple skill disciplines via their recruiting-driven model.

We continue to believe that while this will remain a core tenant of our business, we are striving to leverage this best-in-class recruiting capability with a more progressive account-focused sales strategy.

Much of the hard work related to cost containment is in place, and while we have seen some of the impact of this in the quarter, we believe that the benefit will be more visible in future quarters. This has allowed us to put more focus now on our go-to-market approach and the supporting sales strategy.

The re-positioning and organizational alignment behind a more progressive sales approach are pointed at achieving higher future growth rates. Our core competency of provisioning a critical high-end resource for our customers in the midst of important projects to support their business remains steady.

Furthermore, we believe that building deeper and more sustainable long-term customer relationships, we can offer more than just one resource and still remain committed to our business model and be more important and valued by each customer.

The real benefit of these changes will be experienced further out than the near term benefit of smarter SG&A investments. I will now turn the call over to Rand Blazer.

Rand?.

Thanks, Ted. As mentioned earlier, our revenue growth rate for the quarter was 7.4%, which was in line with our previously-announced estimates, and approximately 50% higher than the most recent published IT staffing industry growth rate for 2017 of 5%.

Adjusting for the year-over-year differences in billable days and foreign exchange rates, our revenue growth was approximately 7.6%. Our Apex Segment, which accounted for 76.9% of consolidated revenues, grew 10.7% year-over-year.

Apex Systems and Creative Circle, the two largest divisions in this segment, both reported double-digit revenue growth in the quarter. Apex Systems, which accounted for 57.5% of consolidated revenues, grew 11.9%; and Creative Circle, which accounted for 13.5% of consolidated revenues, grew 10.9%.

The growth rate for Apex Systems was in line with our estimate for the quarter and Creative Circle's growth rate was below our estimates, as a result of lower than expected growth in the last month of the quarter. Apex Life Sciences, which accounts for 5.9% of consolidated revenues, was flat year-over-year.

And our Oxford Segment, which accounted for 23.1% of revenues, was down 2.3% year-over-year, mainly related to lower revenues from two large projects that were largely completed in 2016. If you exclude revenues from those projects, revenues for the segment were up slightly year-over-year.

Assignment revenues for the quarter were $620 million, up 8% year-over-year, and permanent placement revenues were $33.3 million, down 1.4% year-over-year. Although down year-over-year, permanent placement revenues were up 4% sequentially. And for the third quarter of 2017, we're estimating both sequential and year-over-year growth.

And CyberCoders, which accounts for approximately 65% of our consolidated permanent placement revenues, grew 4.7% year-over-year. Gross margin for the quarter was 32.6%, which was in line with our previously announced financial estimates, but down 60 basis points year-over-year.

This decline was primarily due to a lower mix of permanent placement revenues, which was 5.1% of revenues in the current quarter compared with 5.6% in the second quarter of last year, and a 30 basis point compression in assignment gross margins, partially due to a higher mix of revenues from Apex Systems, which Rand referenced earlier.

SG&A expenses were $145.2 million, or 22.2% of revenues, and were approximately $3 million below our previously announced estimates.

This favorable variance was primarily due to lower front office compensation expense as average staffing consultant head count for the quarter was approximately 7% below our forecasted levels and, to a lesser extent, favorable variances in back office expenses, which included a foreign exchange gain on an intercompany loan, lower healthcare expenses and vendor rebates.

Based on our current hiring and turnover estimates, our average head count levels should be more in line with our targets for the second half of the year. Interest expense for the quarter totaled $6.1 million, down from $8 million in the second quarter of last year.

Interest expense for the quarter was comprised of $5.3 million of interest on the credit facility and $0.8 million of amortization of deferred loan cost. Our effective tax rate was 37.8%, which included excess tax benefits of $0.5 million related to equity-based compensation.

These excess tax benefits were not included in our financial estimates and reflect the tax effect of differences between book expense and the related tax deduction for equity-based compensation. Net income for the quarter was $33.1 million, or $0.62 per diluted share, up from $26 million, or $0.48 per diluted share in the second quarter of last year.

Adjusted EBITDA for the quarter was $80.5 million. Cash flows from operating activities were $39.8 million. And free cash flow, a non-GAAP measure, was $33.4 million. During the quarter, we repaid $38 million on our long-term debt. Now turning to our financial estimates for the third quarter of 2017.

We are estimating revenues of $660 million to $670 million; net Income of $31.4 million to $33.3 million, or $0.59 to $0.62 per diluted share; and adjusted EBITDA of $79 million to $82 million. These estimates do not include acquisition, strategy or integration expenses or excess tax benefits related to equity-based compensation.

Our revenue estimates assume billable days of 62.6 for the third quarter, which is 0.5 day fewer than the third quarter of 2016. On a same billable day basis, our implied year-over-year revenue growth rate for the third quarter ranges from 5.7% to 7.3%. Our estimates also assume a lower growth rate at Creative Circle than the second quarter of 2017.

Although Creative Circle grew above 10% in the second quarter of 2017, its growth rate dropped to mid-single digits in the last month of the second quarter, which we believe might continue through most of the third quarter. I will now turn the call back over to Peter for some closing remarks.

Peter?.

Thank you. We continue to believe our scale, size and breadth of services has us well positioned to take advantage of what we believe will be historic secular growth for the staffing industry and dynamic changes in the technology world, as it moves more to a digital one.

While the entire On Assignment team is very proud of our performance, we remain focused on continuing to profitably grow our business and increase our rate of growth. We would like to once again, thank our many loyal, dedicated and talented employees whose efforts have allowed us to progress to where we are today.

I would like to now open the call up to participants for questions.

Operator?.

The first question comes from Gary Bisbee of RBC Capital Markets. Your line is open. Please go ahead..

Hey, guys. This is actually Jay Hanna on for Garry today.

I was hoping if you could give a little more detail on guidance in Q3, more specifically, what are your expectations out of Oxford and Apex in the quarter?.

Well, look, what I will do is try to qualitatively speak to it. We're not going to give – we gave you more granular detail than we normally do. We feel relatively good about the economy in the market, and our positioning. We saw an anomaly in June in Creative Circle. We saw that same kind of anomaly in June of 2016.

But rather than budgeting at or forecasting at as an anomaly, we just kind of straight-lined it. The rest of the business, Apex, I think you should assume continued strong growth.

And with Oxford, a continued work on growing of our (23:20) projects, and enhancing their operational performance and profitability, and then an accelerated growth at CyberCoders..

Great. And then, you mentioned that head count would be picking up again next quarter. Should we expect that to continue into the fourth quarter? Just trying to get a feel for cadence from here..

Yeah. I mean we didn't do anything different than we normally do. We didn't intentionally pull back on hiring, or allow voluntary attrition to pick up, but as you know, there is some seasonality with graduations. There is a – the labor markets are tight, onboarding is taking some time, but there is no change in our mindset.

This was just kind of what happens in a tight labor market. But we intend, as we said at the beginning of the year, to kind of have a traditional budgeted internal head count growth, and we're not pulling back from that..

Yeah. Thank you..

Thank you. Our next question comes from Edward Caso with Wells Fargo. Your line is open. Please go ahead..

Hi.

Can you talk a little bit about what's happened at CyberCoders? What have you changed in the model? And as far as overall permanent placement is 5.1% something, we should think about as sort of a bottom here as far as a percent contribution?.

Well, I'll go first, and then I'll have Ted respond specifically to what we've done. We did talk about it in previous calls. But the 5.1% as a bottom, that maybe a good rule of thumb, assuming that contract assignment revenues are growing in the 7% to 10%.

If we had a huge spike in contract revenue growing, even if permanent is growing double digits, it would be skewed on a mixed basis. But as we predicted in our fourth quarter conference call and in the first quarter, we see better trends in the CyberCoder division, because of the steps that Ted is going to talk to you about right now.

Started in the first, and continued in the second, and it continued exiting in the second.

Ted?.

So, Ed, I think from a – how we found our opportunities in CyberCoders, we've branched out, and instead of just relying on electronic means, we've also put in place a more traditional sales approach to go along with that electronic capability. I think that's been one thing that has definitely helped our order flow there.

Second thing is, although we're predominantly an IT skill-set based business in CyberCoders, there are other relative professional skills sets that we can also have some success with, and we've seen that. So I think it's a broadening of the sales function, and also a focus on a few skill sets that are more than just IT..

Great.

And how should we interpret the lack of share repurchase this quarter? Were you looking at potential acquisitions and boxed out from the market? Or did you view your stock as less attractive from an accretion perspective?.

Say that one more time, please..

I'm trying to understand why you didn't do share repurchase in the quarter?.

Well, we're balancing use of it (26:57) for acquisitions, for stock repurchases. All I can tell you is, we are committed to returning to capital to shareholders and not just rapid deleveraging..

Great. Thank you..

Thank you. Our next question comes from Jeff Silber of BMO Capital Markets. Your line is open. Please go ahead..

Thanks so much. Throughout your remarks, you alluded to some of the weakness at Creative Circle.

Can we get a little bit more color in terms of what's going on there?.

Yeah. I'll go first, and then turn over to Rand. Again, I want to frame it. They grew double-digits. They grew very healthy in April and May. We saw a softness in June, which is not much different than the softness we saw in June of 2016.

And for guidance purposes, we decide to go ahead, and use the June number for extrapolation of our estimates for third quarter.

Rand had some specific comments in his prepared remarks, but Rand would you add to that, please?.

No, I think you said it, and I would say we saw more softness in the perm placement market in June than the assignment revenue, but assignment revenue was a little off as well. And I think, from our point of view, it's just staying steady, staying focused on the core account.

And as Peter said, we had a little speed bump last year this time, but just keep going, and we'll work through it. We came back very strongly in the third quarter last year. Let's see what happens..

Okay. Fair enough..

Jeff, we don't want to make too much of this, but at the same time, it's better for us to call it out. And if it's a similar trend as 2016, then it's not an issue, but if it's different, then you know about it on the front end, and then you know what our guidance incorporates..

I do appreciate the details. Thank you. Can we shift over to Oxford for a second? Just looking at billing rate trends, they've been kind of flat to down on a year-over-year basis for the past few quarters.

Is it a skill mix? Is it more of an issue from there? Or are you seeing billing rate pressure specifically in that unit?.

Ted?.

I don't think we're seeing – we're always feeling that bill rate pressure, but I don't think we're seeing more or less than this time last year or over the previous quarters.

The projects that we mentioned were high margin, high bill rate projects, and so the mix of that going away with our current business has changed the bill rate dynamic a little bit. But I would say from a customer standpoint, it's fairly steady. We certainly faced bill rate pressure all the time, but no more or less than we've seen in prior quarters..

Okay. Great. And then just one final one.

On the acquisition market, I know that's a part of your growth story, but you guys have – you put up organic growth numbers that are much stronger than anybody else, but I'm just curious given where we are, are you seeing more properties available for sale? Are you seeing more competition for those properties? If you can just provide a little color, that'll be great..

Well. We're trying to do proprietary deals. Although, they were market checks both Apex and Creative Circle were proprietary. There weren't formal auctions, but there were market checks. We are working on some stuff that we're trying to do on a proprietary basis, one. Two, the market is pretty active, I would tell you.

The success that private equity has had in the human capital space and their relative ease in exiting, has given them a fair amount of courage. I mean, you saw recently Carlyle made a significant investment. Leonard Green made a significant investment about a year ago in major dollars.

And we're seeing the middle market guys trying to buy smaller companies. But I would tell you, in many ways, it's not much different than what we see in the last two years. And we're just picking up our spot, Jeff..

Okay. Fair enough. Appreciate the color..

Thank you. Our next question comes from Tobey Sommer of SunTrust. Your line is open. Please go ahead..

Thanks.

If I could start with a follow-up on Creative Circle, was there a discernible difference in demand at corporate clients as opposed to agency clients in June or...?.

Rand, do you want to answer that?.

Yeah. I think it's too early to tell that there is any discernible trend, Tobey, but I would say corporate clients are probably more on the upside, and agency clients more on a pause..

Okay..

And, Tobey, I would just tell you the normal seasonality is, the agency businesses has typically a little bit less strong demand in the summer months, because they have typically allowed the agencies to take Fridays off, et cetera. And nothing has changed there..

Okay. Thank you.

And then, I missed the number, but I was hoping you could repeat the average weekly revenue and the growth rate?.

Yeah. So, I'm glad that you asked that. It's a big number. It's 14.8%.

And what I want to point out to you is – is it 14.6%?.

Yes..

Excuse me. What I want to point out to you, Tobey, is, 4th of July fell on different day this year. And last year, it was a Monday, and this year, it was a Tuesday, so maybe it had less of an impact in 2017 as it did in 2016, but that's the raw data for you, 14.6%..

So, that's 14.6%, perhaps influenced by the timing of holidays against the revenue guidance range growth of little under 6% to little over 7%?.

Right. It doesn't make much sense, except if you take into consideration, one, we are – the 4th of July falling on different dates and how the hours got billed and collected; and two, that we kind of assumed that Creative comes in, basically the way it did in the month of June..

Okay.

You kind of touched on this, but I wanted to, in the absence of acquisitions, should we expect a relatively balanced approach between deleveraging and share repurchase?.

Yeah, I think that's a fair statement. I mean, we gave you guidance that we're going to be now under 1.91 times. In a perfect world, we'd like to be at 2.5 times. So I think that's a fair statement..

Okay.

When I look at kind of the puts and takes as far as overall margin and profitability, CyberCoders is getting a little bit better, but Creative Circle on the perm side slowing down a bit, do we look like we're just kind of in a flat margin trajectory for a little bit of time until maybe there is a break or change in growth one way or the other, the other business units?.

I'm going to answer it in a convoluted way. First of all, 12.3%, pretty damn good, and that's pretty good considering that perm was 5.1%, and Oxford still about 200 basis points to 300 basis points below what their historical EBITDA margin is.

So, with CyberCoders getting better, Oxford on a healing path, we think that what's going on at Creative, especially in perm is an anomaly. We think that the margins are strong and continue to be strong. There shouldn't be more downward pressure now.

If perm is a less percentage contributor, and CyberCoders and Creative grow slow, then 12.3% might look good..

Okay.

And as you've started to transition Oxford in recent quarters and reallocate your investments, where would you say that the segment is in terms of that process and then being able to reap the rewards of the pivot?.

Well, we don't want to call a bottom. But we could tell you as we broke it into kind of two phases. And we think phase one is pretty much implemented.

And, Ted, why don't you welcome to the rest of that process (36:03)?.

Yeah. It's a fair way to look at it, and really while phase one was a lot about do we have our dollars invested in the right place and can we be smarter about that and improve our profitability, how do we get to larger growth rates, how do we build longer, more deep customer relationships is a longer path. And so we're on the front end of that.

I think that we have a – if you look at our customers that we have a great account portfolio. We need to work on how do we bring all of our services to each one of those customers, so that instead of just getting a single resource from us here or there, we avail ourselves to serve more of their needs.

So we don't look to do that in a way that may erode our bill rate or our margins, but we know that we're not taking advantage of all the share that we could get at these customers the way we're positioned right now..

Okay. Last question for me, it's kind of a bigger picture one, Peter, what does H-1B visa attention and/or reform potentially mean for the industry's rate of growth? Thanks..

Well, that's going to be part of my explanation or response.

What I would tell you is, the IT services industry and the migration of our company from pure staff augmentation to statement of work is probably the single largest opportunity we have, because the work we've done as an executive team with external resources, consulting firms and conversations they and we have had with our customers show that our customers really like the quality of our consultants, more so than even some of the high top-label consulting firms, but they want more than just the resource.

They would love some more project management, and maybe it's a team effort where the customer does their architecture. They do a portion of the project management, and we take on defiant scope of responsibilities. So, we see that as a huge opportunity for faster growth and a bigger total spend.

We estimated it, Tobey, over $100 billion market, SOW, and whereas a lot of the industry estimate for staff aug alone just pitting a resource to work and that's the end of their responsibility, is about $30 billion market. As it relates to H-1B visa, I can tell you, I've been participated in some meetings on the Hill.

And I think it's pretty clear that the administration and the House, and the Senate are focused on H-1B visa reform. And they're focusing on it for the right reasons. They want the visas to be available for the best and the brightest to stimulate innovation.

And if visas are available on a merit basis versus a lottery basis, if visas are available for someone making $100,000 versus $71,000, you're going to be bringing in people who are doing, discovering the next drug or writing the next algorithm for a search engine versus people that are doing helpdesk administration.

And so, the reform I believe will occur for the right reasons. I do not believe it will deter innovation and it will allow 85,000 really talented skilled people to come in versus legacy type people doing lower-end skill sets, and that anything that focuses on domestic labor is good for IT services firms like ours and the industry..

Thank you very much..

Okay. The next question comes from Tim McHugh with William Blair & Company. Your line is open. Please go ahead..

Hi. Thanks.

Just to ask a little bit more about, I guess, July, does it look any different for Creative Circle?.

It was pretty much in line with June..

Okay. So, the 14.6% is more reflective of Apex and some of the other businesses improving.

Is that fair?.

That's fair..

Okay.

And is there any connection between the comment about staffing levels being lower than expected and the slowdown in Creative Circle?.

We specifically addressed that. No, we have not changed our footing or our mindset with regard to internal hiring..

Okay. Thanks..

Okay. The next question comes from Mark Marcon from R.W. Baird. Your line is open. Please go ahead..

Good afternoon. Just going back to Creative Circle, how would you advise us to think about the growth rate beyond this current quarter? It has been a good secular growth market, not sure why it would change too dramatically, but wondering how you're thinking about it..

Yeah. So, Mark, we gave you guidance for one quarter out. We do not think this is a continuing trend. We have not lost any revenue production people. And we just – we forecasted conservatively.

If it turns out to be longer lasting in the month of June and July, then we'll discuss it on the next call, but we still passionately believe this is a great end market that we have a dominate position and it should be a double-digit grower, and it always has been, even in the second quarter of 2017..

That's what I was getting at, just that what you said about the double-digit grower. And then, with regards to the head count additions, are you primarily going to focus on Apex as it relates to....

No. No, I would tell you it's going to be creative, Apex, CyberCoders, Oxford in certain markets, but we did, as Ted said, realign some of the SG&A we spent in 2016 more appropriately in 2017. And if you look at the supplemental financial tables, it will show you where headcounts are, but it's across the board, it's not just in one division..

Okay.

And just going back to Apex, it was terrific performance there, can you talk a little bit more about statement of work as a percentage of the core Apex Systems revenue and how that's ramping and how does that impact profitability longer term?.

Yeah. So, I'll let Rand speak to it, but first of all, we're not prepared to break that out. We can give you some comments on a qualitative basis, but we're not prepared to start reporting on that as a line of business.

But, Rand, why don't you him some qualitative comments about profitability, opportunity size, et cetera?.

Yeah. I would say that the growth rate of our consulting business is at faster growth rate than our staffing business. I would say it's a double-digit part of our business now within Apex Systems.

And the gross margins typically are healthier, and so generally, if you have efficient management of it below gross margin, which we do, it can be more profitable..

Great.

And then, with regards to just what you mentioned in terms of the larger clients relative to the smaller clients, what's sort of order trend are you seeing out of the SMB clients right now on the Apex Systems side?.

Well, let me address. This is a good platform for me. Small and medium businesses, remember, our definition of a small customer is not that they have 50 internal employees, that's we do couple of hundred thousand dollar a year revenue with them, so whereas – we are so different than Robert Half.

They are a wonderful company, but they typically – their targeted customer has less than 50 internal employees. And small customer, for us may have 1,500 employees, but there are only doing $100,000 a year business with this. So that's why we just hardly ever compete with Robert Half.

And they're not really ever invited to bid on the work that we're bidding on at the major customers.

Rand, what would you add to that?.

Yeah. I mean, it's everything you said, Peter. But look, I think, generally, we're growing in our big accounts. And these, what we call, mid-market accounts, some of which are bigger accounts, as Peter suggests. But we didn't see quite a same growth, but it ebbs and flows. I hate to use that word again, but some quarters it's up, some quarters it's down.

We're so busy right now, knock on wood, and I think the same that it's a matter of deploying resource, keeping the focus, staying on it, but they're both good markets. We have to stay on both..

Terrific. Thanks..

And the next question does come from Rob Crystal from Goldman Sachs Asset. Your line is open. Please go ahead..

Good afternoon, guys. I was just curious, Peter, if you could elaborate maybe on the M&A funnel, is it very full, somewhat modest? Just maybe give us a sense of the opportunity set..

Yeah. So, we've been working on some things, and there're some things that are live. I wouldn't say they're particularly sizable. There were two things that we were working on that, ultimately, we passed on, because of issues related to their performance against projections. But we've still – we're working on a couple of things right now.

Like I said, none of them are real significant size at this point..

Thanks a lot..

We have a follow-up question from Tobey Sommer with SunTrust. Your line is open. Please go ahead..

Peter, one more big picture question for you.

In terms of classification of employees, potentially, I guess misclassification of employees, could you talk about that as a driver? And what it could mean for growth going forward, maybe more attention is paid to that by various agencies (46:59)?.

Yeah. So, again, some of the conversations that we've had, and people on behalf of the association have had with people in authority at the administration, I don't think it's as clear about what's going to happen there with regard to labor law reform or greater enforcement as there is on the visa reform.

What I can tell you is, we have a very strong set of laws, state, local and federally that make it quite punitive for misclassifying. And there is a fair amount of awareness of the risks and burdens by sophisticated buyers of trying to have someone as an independent contractor versus a W2 employee.

And I think that, that continues as people adopt our model more and more.

I think what you'll see the association really pushing for is not so much law has changed, but just more thoughtful education and enforcement of the existing laws, which benefits the government because the single largest source of incremental revenue for the federal government is not raising taxes, it's eliminating the misclassification of employees.

And it does have bipartisan support because there is the – where is the social contract preserved when someone is an independent contractor? Who is contributing to state unemployment insurance, FICA, workers' comp benefit and Social Security? And the last thing the government wants is everybody to work in an independent contractor basis, and then no one funding these entitlement programs.

And 20 years down the road, Social Security is less funded than it already is. So as you see today, it's really hard to get healthcare reform passed, trying to change tax laws and employee status. I would – I think it'd be virtually impossible.

So, I think, if anything, you're just going to see the existing laws with greater enforcement, which I think is a net positive for the staffing industry, because we want customers to be able to have flexibility.

We want customers to be able to enhance their employee productivity by sharing a resource, just do it legally with the W2 employee versus an independent contractor..

Thank you very much..

There are no further questions in queue at this time. Please continue..

We thank you for your attention, and look forward to following up on our third quarter conference call. Thank you, everyone..

Ladies and gentlemen, that does conclude our conference. Thank you for your participation today, and for using AT&T Executive Teleconference. You may now disconnect..