Earnings Transcript for HCKT - Q1 Fiscal Year 2023

Operator: Welcome to The Hackett Group First Quarter Earnings Conference Call. Your lines have been placed on a listen-only mode until the question-and-answer session. Please be advised the conference is being recorded. Hosting tonight’s call are Mr. Ted Fernandez, Chairman and CEO; and Mr. Rob Ramirez, Chief Financial Officer. Mr. Ramirez, you may begin.

Rob Ramirez: Good afternoon, everyone and thank you for joining us to discuss The Hackett Group's first quarter 2023 results. Speaking on the call today and here to answer your questions are Ted Fernandez, Chairman and CEO of The Hackett Group; and myself, Robert Ramirez, Chief Financial Officer. A press announcement was released over the wires at 4

Ted Fernandez: Thank you, Rob and welcome everyone to our first quarter earnings call. As we normally do, I will open the call with some overview comments on the quarter. I will then turn it back over to Rob to comment on detailed operating results, cash flow as well as comment on outlook. We will then review our market and strategy-related comments, after which, we will open it up to Q&A. Before I move to our quarterly results, let me start by mentioning our 2022 results and the comps that they will provide to our 2023 performance. In 2022, we had a very strong first half of the year with operating results exceeding our guidance in Q1 and Q2 by $0.03 in each quarter of that prior year. By the middle of the year, the impact of Fed interest rate increases started to disrupt economic growth and resulted in extended client decision making. Also to our first quarter, this afternoon, we reported total revenues of $69.8 million and adjusted earnings per share of $0.37, both at the midpoint of our quarterly guidance range. Broadly speaking, the economic volatility is evident, but some of the demand for digital transformation solutions required to remain competitive and drive productivity improvements for our clients. As the quarter progressed, we saw clients increasingly moving forward with significant engagements, which should allow us to be up sequentially from Q1 to Q2. This was most pronounced in the swift turnaround of our Oracle Solutions Segment. Our quarterly results continue to be driven by the global SBT segment, which was down slightly on a reported basis and down 1% on a local currency basis. Our recurring higher-margin research advisory and IPaaS offering revenue continue to grow and we continue to expect the annual contract value for these offerings to grow over 20% in 2023. The quarter benefited from the growth of our IPaaS revenues and we continue to add new pilot participants as we exited the quarter. We also continue to engage with large software and service companies to help them bolster their value selling and value realization efforts. During the quarter, we launched our second and third market intelligence programs and we plan to launch additional programs throughout 2023. These programs allow us to compare the capabilities of software and services providers, which is valuable to our large Hackett benchmarking and consulting end-user client base considering procuring these capabilities. The programs also allow us to work with the solution providers to strategically support their sales and marketing efforts. We have also continued to add new content and IP to our existing functionally focused executive advisory programs, improvements in our existing programs, along with the new market intelligence programs, the launch of our new member platform, Hackett Connect along with our aggressive sales hiring should allow us to continue to grow our higher-margin recurring revenues and related annual contract value throughout the year. The Oracle Solutions Segment was down 22% as expected this quarter. However, we are pleased to say we have a number of significant contract wins in the latter part of the quarter, which will more than offset the large project loss that we experienced at the end of Q4. This will allow the segment to be up strongly from Q1 and into Q2. This was an exceptional response by the team through its year-end challenge and has accelerated the return to growth, which is now expected by Q3 of this year. Our SAP Solutions Segment delivered as expected with flat revenues before reimbursements and improved segment profits. We expect that segment to be up sequentially as well as on a year-over-year basis in the second quarter. The investments we have made to fully digitize our IP and the development of our digital platforms, which include Quantum Leap, our state-of-the-art global benchmarking platform and our proprietary Hackett and Digital Transformation Platform, or DTP, are starting to pay off. These platforms are allowing us to highly differentiate all of our offerings and also develop new licensing research relationship with the software and services providers across the enterprise. We also expect to launch our Hackett Connect platform in Q2, which will significantly improve our research and IPaaS member clients' ability to avail themselves all Hackett IP as well as the virtual expertise, which supports those programs. On the balance sheet side, our first quarter -- in our first quarter, we funded our previous year's annual performance bonuses, bought back shares to fund investing and funded our prior quarter's dividend. For the balance of the year, you should expect to see us continue to pay down our credit facility. As we have discussed on our last few calls, we want to be more aggressive with our balance sheet by using our current credit facility to fund acquisitions and buyback stock while continuing to invest in our business. With that said, let me ask Rob to provide details on our operating results, cash flow and also comment on outlook. I will make additional comments on strategy and market conditions following Rob's comments. Rob?

Rob Ramirez: Thank you, Ted. As I typically do during this portion of the call, I'll cover the following topics

Ted Fernandez: Thank you, Rob. As we look forward, let me share our thoughts on the near and long-term demand environment and the growth opportunity it offers our organization. Demand for digital transformation is being impacted by extended decision-making as organization's asset competing priorities created by increasing interest rates and the demand disruption, which it is intended to affect. However, it continues to be a clear strategic priority for our clients. Digital innovation and enterprise cloud applications, analytics and artificial intelligence, cloud infrastructure and workflow automation are dramatically influencing the way businesses compete and deliver their services. Digital transformation is redefining all activities at an accelerated pace, forcing organizations to fundamentally change and adopt these new capabilities to remain competitive and to realize targeted productivity gains. We believe clients use the year-end planning process at the beginning of the year to assess the industry risk, make headcount and spend reductions and rebalance our spend with productivity and strategic cost reduction efforts, which are also core to our offerings. We believe the clients will become more comfortable with the economic headwinds and we will see their behavior improve throughout the year. Similar to us, many of our clients did not experience demand disruption until late in Q2 of last year, and will be more challenged by the strong year-over-year comps of the first half of the year. However, most will face more favorable comps in the second half of the year. If we are correct, we will -- this will further support the behavior improvement we expect from the first half to the second half of the year. On the talent side, competition for experienced executives continues, but we saw turnover continue to moderate during the quarter and expect that trend to continue. Longer term, we have transitioned to a hybrid sale of a delivery model, which provides us with effective access to our clients and their respective teams. This hybrid model provides our associates with greater personal flexibility to perform their defined responsibilities remotely, which is very valuable to them. This should allow us to attract and retain talent that we have struggled to retain because of the demanding historical travel requirements of our industry. Strategically, we are accelerating our focus on recurring high-margin IP-related services by increasing the development of new programs and sales and marketing resources dedicated to this area. This investment will decrease our Q2 results by approximately $0.04. Additionally on the CapEx side, we will continue our investment on our new Hackett Connect member platform and introduce AI functionality in 2024. This is also important to note that we continue to see strong downstream revenues from our benchmarking and research advisory clients through our business transformation and technology consulting services. This halo effect has been in excess of 40% over the last several years. Simply put, organizations who rely on our IP, research and benchmarking services are more likely to utilize our consulting services. We have been exploring or continue to explore strategic partnerships that will allow us to syndicate our IP through new channels, and that will allow us to reach beyond our Global 1,000 focus in an efficient manner. We launched our first syndication agreement of our IP and content on April 1. Like our other licensing efforts, we expect new recurring high-margin revenue to slowly build from this relationship as new markets and segments are offered our IP. We also continue to redefine our global benchmarking leadership through enhancements in Quantum Leap, our digital benchmarking Software-as-a-Service solution along with our digital transformation platform. These platforms allow us to deliver more information with significantly less client effort. It also allows clients to leverage our IP to create compelling benefit case assessments, accelerate process flow and software configuration decisions and track the value realization of transformation initiatives over the life of their respective effort. We believe that there are no comparable IP-led platforms in the market. As I have been mentioning on previous calls, we have added a 20-minute demo to our Investor Relations page of our website so that investors can become more familiar with the capabilities of our platforms. We will also be updating our demo with our newly launched Hackett Connect platform in the next few months. Lastly, even though we believe that we have the client base and offerings to grow our business, we continue to look for acquisitions and alliances that strategically leverage our IP and add scope, scale or capability, which can accelerate our growth. As always, let me close by congratulating our associates on our performance and by thanking them for their tireless efforts and always urge them to stay highly focused on our clients and our people, no matter what challenges we may encounter. Those conclude my comments. Let me turn it over to our operator and let's move over to the Q&A section of our call. Operator?

Operator: [Operator Instructions] Our first call is George Sutton with Craig Hallum.

George Sutton: Ted, I wondered if you could walk through the Oracle wins that you saw late in the quarter that you mentioned. Just give us any sort of quantification particularly relative to what I believe was a high seven-figure loss late last year.

Ted Fernandez: Thank you for the question George. One, there were numerous, so it wasn't a couple. We had one -- we had at least one -- we have one of at least equal size to the one that we lost late in Q4, but we had got 4 or 5 multimillion-dollar wins, which clearly position us strongly for the next quarter and really the remainder of the year. What we're most happy about is that it demonstrates that our relationship with Oracle and the Oracle channel and our ability to present a value differentiated message on our ability to configure Oracle in a unique way, resonates in the marketplace. So in a competitive environment for headwinds, we were able to do that. I cannot commend our team -- the Oracle team for the really very strong last 60 days that they've had.

George Sutton: Could you give us an update on the three programs that you've now launched under the Market Intelligence program. Just give us a sense of the demand relative to what you might have been anticipating? And any further thoughts on the scale of that program?

Ted Fernandez: As I mentioned, we published our first program, our customer to cash program, which focus specifically on receivables management. At the beginning of the quarter, we launched two more in procure to pay in the software area and in finance and accounting outsourcing services. Participation from vendors in both of those has been strong and we will not limit those that we compare and rank those who participate directly. So we're going to make sure that we are expanding our perspective on as many providers in each of these segments as we possibly can. We actually reviewed the programs that are scheduled for the remainder of the year. So you'll see us move in from here to EPM software, extend into HCM, HR outsourcing on the next two programs, and we'll be extending beyond that into procurement areas into GBS areas in the balance of the year and probably close out the year with a broader ERP software assessment and we'll be trying to then identify the next . The goal now was to get eight or nine launched by the end of the year, even though it's taking us a little longer to get the first few done, but we think that's because our goal is to be distinct from anything that's in the marketplace and be able to speak and provide guidance on the value realized from these investments, which is not something anyone has taken on as clearly and as aggressively as we've had. So even though I would say we're running, let's call it, at least one quarter behind, the quality of the product, the participation and the number of programs we plan to launch, we think will be meaningful. These nine programs will then -- just to put that in context of total research advisory-related programs will then equal the nine existing programs, which we have today, which are functionally focused programs, which are -- which we call executive advisory programs. So our goal is to try to double at least launch the doubling the number we had at the beginning of the year. And look, each of these programs has multimillion dollar opportunities to us over time depending on how well not only we're able to serve the software and services providers who participate or who want our marketing or strategic support in some of these areas. But more importantly, we think that the -- our very large end-user client base -- let's not forget that we've done benchmarks for over 25,000 clients. So we just have this immense coverage. We see ourselves as having being able to become a real influencer in this space. So this idea of value realization being able to capture the voice of the client. I hope over time that resonates in software and services the way some other leading, I'll call them services, like J.D. Power in the automotive area has. So we're -- we've got some very high expectations for these programs.

Operator: [Operator Instructions] Our next call is from Jeff Martin with Roth MKM.

Jeff Martin: I wanted to get a sense with respect to the delayed the extended decision-making. Are you getting feedback from clients that there are other reasons other than the difficult comparisons in the first half of the year, that second half may open up. Just curious if you have anything tangible from clients that you're hearing?

Ted Fernandez: Yes. It's not only that. It's the increase in rates is going to slow the economic demand. That's impacting the demand for our client services. So no, they're having to reprioritize because they -- everyone is having to work harder to achieve the kind of revenue growth that they clearly achieved in 2022 and hope to achieve in 2023. But we see -- again, we see even though those headwinds are there, it's across the industry, we can't really exclude one industry from another. But we're also seeing the fact that clients then equally understand that if they ignore digital transformation initiatives that can help them engage their clients and sell their services more effectively as well as then being able to get the productivity gains that come from leveraging emerging technology is as critical. So they're sitting there just trying to rebalance that and we expect that to continue through the balance of the year. We just think that people are becoming more comfortable with what that means. They're getting a better sense as to what these interest rates could mean through the balance of the year. All of those things with more favorable comps, we think will be favorable to the demand environment, we hope we're right.

Jeff Martin: Great. And then with respect to the investments that are being made, obviously, $0.04 a quarter is a significant investment for you. Are those primarily investments in sales personnel? And curious how much of that is within the Market Intelligence strategy? And what are you seeing or what are you expecting in terms of the sales cycle of the Market Intelligence platforms in various programs?

Ted Fernandez: Well, first, the -- at least 75% of the investment has been building that sales group. We were lucky and successful to attract a new global leader for that group. We joined just April 1, but we think is a terrific addition to our senior team. We're not -- it's -- we're not narrowing the scope of these new sales resources just to Market Intelligence. Market Intelligence is intended to double the number of programs that these teams will take to market. So as those programs roll out, they'll have a chance then to drive revenue through those new programs. But in the interim, they can be focused on the existing functionally focused executive advisory programs. Some resources are highly focused on the IPaaS related activities. So I would characterize the team as being responsible for the growth of high-margin recurring revenues regardless of program. So just to make sure it's Market Intelligence will just add inventory to what they sell. So we'd like to give them twice as much product by the time we enter 2024. And yes, I wish we were a little bit more ahead on that inventory we had given them earlier in the year. But they've got plenty of product to sell our clients. We lack a lot of market coverage from these programs in many regions. So we will continue to add the resources as we planned. It is a significant investment, but we think there's a significant payback.

Jeff Martin: Great. And then one more, if I could. You mentioned artificial intelligence offering launch in 2024. Curious how that plays into your existing strategy?

Ted Fernandez: Well, as you can imagine, we're sitting here building out our new Hackett Connect member portal, which is basically the entry point to all of our members, IPaaS and research advisory and Market Intelligence users into the Hackett IP or access to our experts. So immediately, I'm going to go early in Q1, we started evaluating what those priorities and those changes could be. A lot of the research right now is making sure we understand what -- how to prioritize some of the functionality we're evaluating. Number one objective was to make sure that in doing so, we do not jeopardize any of the IP that we make available to clients. So a tremendous amount of groundwork in the middle -- in the interim. Our 2023 plan was laid out as being prioritizing just with very detailed functionality for that Hackett Connect, if you want to call it portal. But we've already got a dedicated team, evaluating what those opportunities can be so that we can start prioritizing them through the balance of the year and start delivering and leveraging some of the capabilities in 2024.

Operator: And our next call is Vincent Colicchio with Barrington Research.

Vincent Colicchio: Yes. Ted, it's good to hear you're making some progress on the Oracle Solutions side. Just curious, how the SAP pipeline is progressing and when you may expect that to return to sequential growth?

Ted Fernandez: Well, I want to notice. I don't know if he's caught the comments on the call but SAP will be up both sequentially and year-over-year in Q2. So solid progress on both the Oracle and the SAP side, which again is something that we wanted to address as early in the year as possible, I think we're ahead of schedule on both.

Vincent Colicchio: Are you -- are delays or cancellations still a factor in the Oracle and SAP businesses?

Ted Fernandez: The answer is yes. I can't sit here and give you a specific example in this quarter. We were really focused on converting pipeline that took a little bit longer at the end of last year that really came through very strongly for us, especially in the latter part of the quarter. But yes, look, I'm assuming that in this environment, you need to expect clients to be more judicious with their decisions. And in certain cases, depending on what they encounter, they could second guess themselves. But I don't expect it to be anything that would be any different in any year.

Vincent Colicchio: And could you provide an update on your IPaaS pipeline, maybe negotiations that are close to coming out in the right way?

Ted Fernandez: Well, we're launching a couple more pilots here in the second quarter. So we're hoping that some of these pilots as we get through the balance of the year and become more meaningful opportunities. And we continue to add to those companies that are evaluating a more meaningful multiyear relationship. The question for us has been is do we need an intro period to move to -- before client can move into a much more significant multiyear relationship. We're trying to gauge that on a partner-by-partner basis but activity and conversations in the space continue to be good.

Vincent Colicchio: And last for me, could you remind us your current M&A priorities and if valuations are improving?

Ted Fernandez: I don't know if valuations are improving, but our priority has been -- has been focused on trying to identify unique research-related businesses, those are very hard to combine and identify. But people have a way of reaching out to us. So we continue to stay actively involved in conversations with those that could be a good fit for us.

Operator: And at this time, we're showing no further questions. I will now turn the call back to Mr. Fernandez.

Ted Fernandez: Let me thank everyone for participating in our first quarter earnings call and we look forward to updating you again when we look for the second quarter. Thank you.

Operator: And this concludes today's conference. Thank you for participating. You may disconnect at this time and have a great rest of your day.