CRA International (NASDAQ:CRAI) Q3 2020 Earnings Call

0:00 Good day, everyone, and welcome to Charles River Associates' third quarter 2020 conference call. Today's call is being recorded. Today's release and prepared remarks from CRA's Chief Financial Officer are posted on the Investor Relations section of CRA's website at crai.com. With us today are CRA's President and Chief Executive Officer, Paul Maleh, Chief Financial Officer, Dan Mahoney, and Chief Corporate Development Officer, Chad Holmes. At this time, I would like to turn the call over to Mr. Mahoney for opening remarks. Please go ahead, Dan.

0:33 Thank you, Rob, and good morning to everyone. Please note that the statements made during this conference call, including guidance on future revenue and non-GAAP EBITDA margin and any other statements concerning the future business, operating results, or financial condition of CRA, including those statements using the terms expect, outlook, or similar terms, are forward-looking statements as defined in Section 21 of the Exchange Act. Information contained in these forward-looking statements is based on management's current expectations and is inherently uncertain. Actual performance and results may differ materially from those expressed or implied in these statements due to many important factors, including the extent and duration of the impact of the COVID-19 pandemic on our financial condition and results of operations.

1:18 Additional information regarding these factors is included in today's release in CRA's periodic reports. including our most recently filed annual report on Form 10-K and quarterly reports on Form 10-Q filed at the SEC. CRA undertakes no obligation to update any forward-looking statements after the date of this call. Additionally, we will refer to some non-GAAP financial measures and certain measures presented on a constant currency basis on this call. Everyone is encouraged to refer to today's release and related CFO remarks for reconciliations of these non-GAAP financial measures Thanks, Dan.

2:05 And good morning, everyone. Thank you for joining us today. I hope everyone is doing well, staying safe and healthy during these challenging times. Although the pandemic continues to affect the global economy, CRA built on a record fiscal 2019 and first half of fiscal 2020 to deliver noteworthy growth during the third quarter of 2020. Highlighting the resiliency of our company, CRA delivered year-over-year revenue growth for the 19th consecutive quarter as we continue to invest in our portfolio of services. During the quarter, we welcomed 65 new colleagues for a net increase in headcount of 11.5% year-over-year and 3% relative to the second quarter of fiscal 2020.

2:55 At the same time, we saw utilization improve to 69% from 66% in the second quarter of fiscal 2020. In the fourth quarter of fiscal 2020, we expect to see a net increase in headcount of less than 3% relative to Q3. During the third quarter, we saw growth across both Thank you very much. excuse me, more than 97% of the revenue obtained in Q3 of fiscal 2019, its largest quarter ever. Transactions across a broad range of industries, including retail, healthcare, and technology, are drawing on CRA's expertise in merger review and analysis.

4:05 In addition, the practice continues to support clients on a wide variety of litigation matters. Our experts are providing testimony in cases covering allegations of price fixing, attempted monopolization, and other potentially anti-competitive behaviors in the consumer goods, food and beverage, and technology industries, among others. CRA experts are also involved in several ongoing disputes at the intersection of antitrust and intellectual property. Looking more broadly at the legal market, in the third quarter, total case filings were down 16% year over year, Focusing on types of litigation matters that are more closely aligned with CRA services, we saw case filings decline by roughly 13%, although the rate of change varied greatly depending on type.

4:59 For example, securities case filings in the third quarter increased 5% year-over-year, while antitrust filings declined 18%. Within the courtroom, the number of court judgments during the third quarter were down approximately 35% relative to the third quarter of 2019. This suggests that courtrooms continue to be impacted in their ability to handle normal litigation caseloads. Despite these less than ideal conditions, our finance, forensic services, and risk investigations and analytics practices all delivered double-digit revenue growth year over year. Within our finance practice, CRA continues to work on matters arising from the government's investigation and prosecution of institutions and individuals for alleged spoofing and manipulation in the financial markets.

5:56 In addition, we continue to work on securities litigation, international arbitrations, and merger-related litigations, including appraisal actions. Our forensic services practice continues to experience strong demand from companies that need help responding to allegations of fraud, cybercrime, misconduct, and noncompliance. These issues have been exasperated by COVID-19 as employees have transitioned to remote working environments and certain industries face unprecedented financial stresses and operational challenges for which their internal control environments may not have fully adapted. During the third quarter, The practice was retained to investigate allegations of overcharges for parts and inappropriate allocations of costs involved in a 30-year joint venture covering all of North, Central, and South America.

6:50 With over $1.5 billion in claims and counterclaims, our team will be providing expert witness testimony next year in the ICC International Court of Arbitration in Paris, France. The practice also continues to conduct hundreds of cyber incident response matters each quarter across a broad range of industries and geographies. For example, during the quarter on behalf of a global insurance broker, the forensic services practice leverages deep cyber incident response and e-discovery competencies to help the client respond to a ransomware attack. During the third quarter, CRA's risk investigations and analytics practice investigated possible violations of the Foreign Corrupt Practices Act by a U.S.

7:38 government supplier in multiple foreign jurisdictions. The team also issued an expert report examining allegations of money laundering over a 10-year period at a large global financial institution based in the EU. They also completed an investigation for the board of directors of a large and many more. Next, I'd like to turn to our management consulting services. While our life sciences practice enjoys single-digit, year-over-year growth, I want to highlight our energy practice, which in August welcomed 15 new London-based colleagues. During the third quarter, the practice continued to work on a large engagement to help a UK-based utility transform and modernize its business.

8:28 We also continued work on a long-running engagement assisting the Federal Republic of Germany in an international arbitration dispute related to the costs of a nuclear power plant shutdown. Congratulations to my colleagues for delivering another strong quarter. Through the first three quarters of fiscal 2020 on a constant currency basis, Thank you for joining us today. on a constant currency basis relative to fiscal 2019.

9:27 We expect revenue in the range of $498 million to $504 million and non-GAAP EBITDA margin in the range of 9.7% to 10.2%. With that, I'll turn the call over to Chad and then Dan for a few additional comments. Chad?

9:47 Thanks, Paul. I want to provide a few comments about our capital deployment during the quarter. As Paul described, against the challenging economic backdrop, CRA again generated strong cash flows. For the trailing 12 months through the third quarter of fiscal 2020, CRA's adjusted net cash provided by operating activities was $77.3 million, or 15.8% of trailing 12 months revenue. Our adjusted net cash provided by operating activities was 33% higher than a year ago, driven primarily by the growth in our business and reduced overhead spending. As a reminder, this metric begins with net cash provided by operating activities from our statement of cash flows and adds back net forgivable loan issuances, which are predominantly used for talent acquisition and talent maintenance.

10:43 Adjusted net cash provided by operating activities represents a discretionary pool of capital used to fund items such as talent acquisitions, office expansions, debt repayment, and redistributions to shareholders. During the third quarter of fiscal 2020, we spent approximately $2.2 million on capital expenditures as we wrapped up our office build-outs in New York, Toronto, and Zurich. For the fourth quarter of fiscal 2020, we expect to spend less than $2 million on total capital expenditures. As Dan will describe in greater detail, during the quarter, we repaid $21 million of our borrowings under our revolving line of credit, while our cash balance increased by $5.3 million.

11:29 We also returned $6.8 million of capital to our shareholders, consisting of $1.8 million of dividend payments and $5 million for share repurchases of approximately 110,000 shares. Finally, reflecting our commitment to returning capital to shareholders, we announced earlier today a 13% increase in our quarterly cash dividend from 23 cents to 26 cents per common share. This dividend will be payable on December 11th, 2020 to shareholders of record as of November 24th, 2020. and now I'll turn the call over to Dan for a few final comments.

12:09 Dan. Thanks, Chad. As a reminder, more expansive commentary on our financial results is available on the investor relations section of our website under prepared CFO remarks. Before we get to questions, let me provide a few additional metrics related to our performance in the third quarter of fiscal 2020. In terms of consultant headcount, we entered the quarter at 826, which consisted of 140 officers 473 other senior staff, and 213 junior staff. This represents a 3% increase compared with the 802 consultant headcount reported at the end of the second quarter of fiscal 2020. Non-GAAP selling general and administrative expenses, excluding the 3% attributable to commissions to non-employee experts, was 15.2% of revenue for the third quarter of fiscal 2020, compared with 16.8% a year ago.

13:04 This quarter's ratio was positively impacted by the strong revenue for Q3 and effective management of our overhead. Additionally, travel and entertainment expenses were significantly lower year over year, primarily due to ongoing travel restrictions in various jurisdictions and work-from-home policies. We will continue to monitor our discretionary expenses to properly manage risk and proactively mitigate the financial impacts from COVID-19. The effective tax rate for the third quarter of fiscal 2020 on a non-GAAP basis was 28%, compared with 18.2% on a non-GAAP basis for the third quarter of fiscal 2019. As a reminder, the tax rate in the prior year quarter included the release of certain tax reserves, which reduced the overall rate.

13:50 Turning to the balance sheet, DSO at the end of the third quarter was 113 days, compared with 107 days at the end of the second quarter of fiscal 2020. DSO in the third quarter consisted of 75 days of build and 38 days of unbuild. Of note, our pace of collections has been consistent both before and after most of the world transitioned to a remote work environment. The company's liquidity remains strong, totaling approximately $111 million when taking into account our available capacity on our revolving line of credit and our cash balance. Looking more closely at the components, during the third quarter, we paid down $21 million on our revolving line of credit to bring the outstanding balance down from $59 million at the end of fiscal Q2 2020 to $38 million at the end of Q3. We have since paid down an additional $8 million to bring the current outstanding balance to $30 million.

14:49 We concluded the third quarter of fiscal 2020 with $24.1 million in cash and cash equivalents with the majority residing internationally. That concludes our prepared remarks. Rob, we would now like to open the call for questions. Thank you. At this time, we'll be conducting a question and answer session. If you would like to ask a question, please press star 1 from your telephone keypad and the confirmation tone will indicate your line is in the question queue. You may press star 2 if you would like to remove your question from the queue. For participants using speaker equipment, may be necessary to pick up your handset before pressing the star keys. One moment, please, while we poll for questions. Thank you. And our first question is from the line of Andrew Nicholas with William Blair.

15:38 Please proceed with your question.

15:41 Hi, good morning. This is actually Trevor Romeo for Andrew. Thank you for taking our questions here. First of all, guidance seems to imply some sequential growth in the fourth quarter. You mentioned some nice sequential trends for the antitrust side of the shop compared to the last quarter, and the performance for many of the other businesses has been strong throughout the year. So I'm just wondering if you could kind of discuss where you expect the pickup to come from, how you expect those dynamics between those two sides of the business to play out in the fourth quarter.

16:15 Hey, good morning, and thanks for the question. Yeah, I believe the guidance does imply sequential growth. It also implies year-over-year growth from our record 2019 levels. As we have been demonstrating quarter after quarter, we have all parts of the portfolio are contributing. This quarter we had both lines of business showing nice growth and expansion. We had both geographies, both here in North America and in Europe. and probably the biggest pleasant surprise, even though they didn't experience year-over-year growth, was our antitrust and competition economics practice, really seeing activity pick up both across the merger and acquisition world and also across the antitrust litigation matters.

17:05 All signs are given the level of business activity we see coming through the door and that we are really looking for that balanced contribution to continue through the fourth quarter.

17:21 Pretty great. That's good to hear. And then I was also just wondering if you could talk a little bit further about the court system dynamics over the past few months. Paul, I think you had mentioned that courts are still not able to handle the normal caseloads. Is that largely just because most of them are still physically closed? or they haven't implemented virtual proceedings, you know, as well as maybe they could have. And, you know, especially with higher COVID cases lately across most of the country, there are risks of litigation-related work slowing further if that continues to get worse.

17:56 Yeah, you know, let me start by saying I don't know any of these things directly. I don't have any information coming from any of our various court systems. It's just what we're observing. in terms of the statistics and what we're reading here. But I think the answer is yes to all the impediments that you listed are all impacting both the court's ability and the various clients' ability to proceed in the various federal jurisdictions here. And because of the surge of cases, we are not necessarily optimistic that the flow of matters through the courts will change significantly in the coming quarter.

18:44 Okay, got it. That's helpful.

18:45 Thank you very much. Thank you. Our next question comes from the line of Mark Riddick with Sidodian Company. Please receive your question.

18:57 Hi, good morning. Good morning, Mark.

19:01 Wanted to go over a couple of things, certainly a lot of positive moving parts. I wanted to talk a little bit about, first of all, the headcount additions, which you're forecasting there. It seems as though during the third quarter it was primarily junior, expecting that to be a similar mix. In the fourth quarter, some of the seasonal mix are we looking at? I know there's been some announcements of some senior additions as well. So I was wondering if you could sort of talk about what that mix might look like as far as the ads.

19:33 So the majority of the ads are on the junior staff ranks just because of our staffing pyramid here. We had deferred the start dates of our junior class ranks towards the end of Q3. and to the beginning of Q4 so we can best integrate our new colleagues in this virtual world. But we did have some new senior colleagues, both from university hires that joined us during the third quarter and now into the fourth quarter and also a nice mix of junior and senior colleagues from our group hire that we did in the UK, the one I referenced with the energy practice.

20:19 Okay, and then I wanted to also sort of shift gears into the antitrust and the strength of M&A that we've seen, certainly relative to the first half of the year, was certainly a clear positive. And I was wondering if you could talk a little bit about what that does to the fourth quarter visibility and maybe how that played into the decision to reinstate guidance there.

20:50 I think it's a significant influence to our reinstating guidance. Our antitrust and competition economics practice is really the foundational practice of CRA. It makes up about 40% of the firm and is always a top performer. So as we see their activity pick up and it's a nice balance of activity, as I mentioned, across mergers and antitrust litigation, that gives us a foundation to feel more comfortable with providing guidance. And as Romeo mentioned earlier, both that implies sequential and year-over-year growth. Okay, great.

21:35 And then you may mention as to that broad base across a lot of different service industries. I was wondering if you could talk a little bit about maybe if you're seeing a similar broad base mix of industry participation in the forensics practice and maybe what they're experiencing. Certainly, it's understandable with increased fraud and cyber crimes and all of us working from home, but I was wondering if you could touch a little bit on if there are any particular groups that are seeing a little bit more or less than other service areas.

22:09 Clearly, the cyber work has taken a sharp increase in demand during 2020. just because of the environment that corporate America and really global economy is facing right now. But we've also been very pleasantly surprised that the demand for their forensic investigation work continues throughout 2020. So there's demand for what I would call independent investigations from cyber. There's litigation. and, you know, damage estimates associated with some of these cyber as a response work. So, you know, you don't grow as rapidly as that practice has been growing by having solely one contributor for growth. So we're seeing that demand across all the components of their services.

23:10 and the last area I sort of wanted to touch on and you alluded to some of this earlier around lower travel spending during the quarter and certainly SG&A overall was pretty much flat year over year despite revenue growth. So I was wondering if you could talk a little bit given the second wave activity that we're seeing out there. Is there any sort of visibility that you're looking at as far as spending expectations All of our offices are ready and able to receive our colleagues, but we are encouraging our colleagues to work where they feel most comfortable, given all the dynamics

24:02 In our various communities, the vast majority of my colleagues are choosing to work from home, which we totally support. And for that matter, our clients are also taking this route. Thus, we haven't seen any kind of business travel. We haven't seen any kind of travel for marketing purposes. And we expect that to continue into the fourth quarter. So that was also a contributing factor in us being able to provide guidance on the EBITDA margin range too, Mark. Okay, great. Thank you very much. Thank you.

24:48 Our next question is from the line of Kevin Steinke with Barrington Research. Please proceed with your question.

24:55 Good morning. So in light of obviously the antitrust suit that was filed against Google, I'm just wondering in a case like that, you know, not only specific to that particular case, but how much can that lead to follow on work in the market in terms of, you know, other private party suits, et cetera, cropping up, you know, maybe claiming harm? Just trying to get a sense as to the type of tailwind that a case of that magnitude could provide across the broader market.

25:41 It's really difficult to tell for a number of reasons. One, we don't know what the findings will be in these kind of suits when government entities are doing investigations into these large technology companies. So the findings in the suit will have a huge impact on the type of follow-on litigations, if any, are associated with that investigation. The other part is sometimes these investigations are resolved very rapidly. Sometimes it may take a few years, and all of that is still unknown at this time. Although I can't reference our retention on the specific matters, I can't state that CRA is involved in one capacity or another in several of these landmark matters.

26:37 Okay, that's fair enough.

26:41 With you continuing to add new consultants in this environment, to drive longer-term growth. I'm just curious about the cultural aspects of that, how you're handling that with, you know, most people continuing to work from home and, you know, how you think about integrating your new colleagues in this environment.

27:09 Yeah, you know, we're a professional services firm. Our asset are our people. I don't have to go any further than that. We have built something very special at CRA. I think our performance over several years now demonstrates that what we built is special and not just the members of corporate but all of my colleagues are working really hard to preserve that asset during these volatile economic times because we think the asset is worth preserving. We think that it will maximize the value of our company in the long run by doing that. It takes a lot of work because, as you see, the profitability levels or the utilization levels are what we've been accustomed to over the last few years, but we're making, not to sound corny, we're making ends meet by finding other sources of cost savings to offset the higher capacity costs Integrating people in the virtual world is difficult. You can do all the training that we've done in years past virtually, but it's hard to really get people acclimated into an organization, into the culture, when all you're doing is on phone calls or on Zoom calls 24-7. So we're doing our best. It is not optimal, but I really have to commend

28:39 all of my colleagues, both on the corporate side of the house and on the consulting side of the house, for making our new colleagues feel welcome. Good first steps, but a lot of work still due on that front.

28:54 Okay. That's helpful. And you referenced in your press release growing momentum in the business. Obviously, we've talked quite a bit about antitrust and M&A activity. This morning, but I don't know if there's any other areas you'd want to highlight where you're seeing momentum or is it kind of broadly across the portfolio?

29:23 One, I believe the momentum is broadly across the portfolio. Clearly, we have seen a step up in activity with our antitrust and competition economics practice. During Q2, we cited that the number of of new projects coming into CRA contracted year over year. During Q3, although it was low single digits, we saw an expansion of new cases coming in to the firm. So we take that as a positive and we're working hard to try to continue on that trend.

30:00 Okay, great. And then just lastly, Maybe just update us on capital allocation. I guess it just continues with your, you know, kind of your normal strategy, but maybe just talk a little bit more about the dividend increase and your share repurchase activity in the quarter and capital going forward.

30:27 Yeah, our long-term capital allocation strategy hasn't changed. This company, I think, is well run and produces very attractive cash flows. We have always been able, with those cash flows, to reinvest in the business for value-creating growth and give money back to shareholders. We believe our stock is very attractively priced, but we're trying to be prudent with the allocation of our capital in terms of redistributions through share repurchases. Thank you, Kevin. Thank you. I appreciate it. Thank you. We've reached the end of the question and answer session, and I'll now turn the call over to Paul Maleh for closing remarks.

31:35 Again, thanks to everyone for joining us today. Thanks for our analysts for listening and asking some good questions. We appreciate your time and interest in CRA. We will be participating in virtual meetings with investors in the coming months, and we look forward to updating you on our progress on our fourth quarter call. Be safe, everyone. With that, that concludes today's call. Thank you. Thank you, Mr. Manali. Everyone may now disconnect their lines at this time. This concludes today's call. We thank you for your participation.