Whitney Kukulka - Director IR, The Blueshirt Group Paul Johnston - CEO Rich Schlenker - EVP and CFO

Tim McHugh - William Blair & Company Mike Reid - Cantor Fitzgerald Marc Riddick - Sidoti & Company

Thank you, operator. Good afternoon, ladies and gentlemen.

Thank you for joining us on Exponent's second quarter 2017 financial results conference call. Please note that this call will be simultaneously webcast on the Investor Relations section of the company's corporate Web site at www.exponent.com/investors.

This conference call is the property of Exponent and any taping or other reproduction is expressly prohibited without prior written consent. Joining me on the call today are Paul Johnston, Chief Executive Officer; and Rich Schlenker, Executive Vice President and Chief Financial Officer.

Before we start, I would like to remind you the following discussion contains forward-looking statements including but not limited to Exponent's market opportunities and future financial results that involve risks and uncertainties that may cause actual results to differ materially from those discussed here. Additional information that could cause actual results to differ from forward-looking statements can be found in Exponent's periodic SEC filings, including those factors discussed under the caption factors affecting operating results and market price stock in Exponent's most recent Form 10-K.

The forward-looking statements and risks in this conference call are based on current expectations as of today, and Exponent assumes no obligation to update or revise them, whether as a result of new developments or otherwise. And now, I'll turn the call over to Paul Johnston, Chief Executive Officer.

Paul?

Thank you. Thank you for joining us today for our discussion of Exponent's second quarter 2017 financial results.

Exponent's second quarter results exceeded our prior outlook and we are raising our guidance for the year. As you've seen in our press release, we achieved double-digit revenue growth in the quarter.

Our strong results were due in part to the continuation of a large human factors assessment project for a client in the consumer products industry, as well as strength in our biomedical construction consulting, electrical engineering, and polymer science practices. For the quarter, net revenues were $84.1 million, an increase of 15% as compared to the second quarter last year.

Net income in the second quarter of 2017 was $13.8 million or $0.51 per share compared with $10.5 million or $0.38 per diluted share in the same period last year. Comparative growth rates for the quarter were aided by the unusually soft results in the year ago period.

While we are still experiencing softness in the oil and gas and the industrial chemicals industries, we are encouraged by positive trends that we are seeing across the business. Regarding the large project in the consumer products industry, we had previously expected this project to decelerate during the second quarter.

The project, however, continued at the same level. And as a result, this project represented approximately 5% of our net revenue for both the first and second quarters.

We now anticipate this project will continue with about 3% to 4% of net revenues in the third quarter. We expect to return to a more normal project portfolio in the fourth quarter, with no projects exceeding 2% to 3% of net revenues.

Net revenues in our engineering and other scientific segment represented approximately 79% of net revenues in the second quarter. Net revenues in this segment grew 16% in the second quarter and 10% year-to-date, as compared to last year.

Year-to-date, we've had significant growth from our proactive design and regulatory consulting services, specifically related to ongoing projects with clients in the consumer products industry. Demand from the medical device industry continued to grow during the quarter as clients called upon our multidisciplinary teams for supporting product development and litigation matters.

We continued to expand our international construction dispute work with ongoing mining, gas terminal, and power plant projects. We believe we have gained a competitive advantage through our integrated team of experts by delivering solutions to complex capital projects.

Additionally, after several quarters of flat revenue from the automotive industry, revenue grew in the second quarter as we recalled upon to evaluate safety and human performance issues for new transportation technologies. The balance or 21% of Exponent's second quarter net revenue is from our environmental and health segment.

After several quarters of decline, we are pleased that this segment returned to year-over-year growth in the second quarter. Net revenues grew approximately 11% in the second quarter and 2% year-to-date.

Exponent's food and chemicals and environmental sciences practice areas also benefited from our increased global presence. During the first half of the year, our food and chemicals practice continued to expand as it assisted clients with regulatory issues around the world.

Revenues from oil and gas and industrial chemical industries remained flat, as clients continued to adjust to the price of oil. As our second quarter results indicate, Exponent continues to be retained by a diversified portfolio of high profile clients expanding a wide range of practice areas.

In the first half of the year, we paid $10.8 million in dividends, repurchased $7 million worth of common stock, and ended the quarter with $162 million in cash equivalents. Today, we announced another quarterly dividend payment of $0.21 per share and reiterated our intent to continue to pay dividends going forward.

We believe that our second quarter results demonstrate the resilience of our business model and our regular quarterly dividend payments and stock repurchase program, demonstrates our commitment to deliver shareholder value. Now, I will turn the call over to Rich for a more detailed review of our financial performance and business outlook.

Thanks Paul. For the second quarter of 2017, revenues before reimbursements or net revenues as I will refer to them from here on were $84.1 million, up 15% from $73.3 million in the same period last year.

Total revenues for the quarter were $87.8 million, up 14% from $77.3 million one year ago. As Paul mentioned, our strong second quarter results were driven by the large projects combined with sustained demand in international construction disputes and product development and litigation matters in the medical device industry.

Net income for the second quarter increased 32% to $13.8 million or $0.51 per diluted share as compared to $10.5 million or $0.38 per diluted share in the same period last year. EBITDA for the quarter was $23.7 million, up 32% from the $18 million in the year ago period.

For the first half of 2017, net revenues increased 8% to $164.6 million and total revenues increased 7% to $172 million. Net income was $30.4 million or $1.13 per diluted share in the first half of 2017, as compared to $25.8 million or $0.95 per diluted share in the same period a year ago.

In the first quarter of 2016, Exponent early adopted a new accounting standard for the classification of tax adjustments associated with share-based awards. The tax benefit realized in the first half of 2017 was $6.1 million or $0.22 per share as compared to $4.8 million or $0.18 per diluted share in the first half of 2016.

For the first half of 2017, EBITDA increased 15% to $42.5 million. For the quarter, billable hours increased 13.5% to 310,000 as compared to the same quarter a year ago.

For the first half of the year, billable hours increased 6.6% to 605,000 as compared to the same period last year. Utilization in the quarter increased to 77% up from 69% in the same quarter last year and exceeded our previous expectations.

For the first half of the year, utilization was 75.6% up from 71% one year ago. Utilization benefited from the large projects and strong demand in many parts of our business.

While we expect utilization in the third quarter to be better than it was the same period last year, it will be down sequentially from the second quarter by approximately 4 to 5 percentage points due to an additional holiday and vacations in the third quarter, which will reduce UT by 2.5 to 3 percentage points, and the lower level of activity on the large human factors project, which will result in an additional 2 percentage point reduction in UT. For the fourth quarter utilization typically steps down 4 to 5 percentage points from the third quarter based on additional holidays and vacations.

As a result, we expect full year utilization to be 72% to 73%. Technical full time equivalent employees in the quarter were 774, which is an increase of approximately 1% as compared to both the first quarter of 2017 and the second quarter one year ago.

We expect FTEs to grow 1% sequentially in each of the next two quarters. In the second quarter, the realized bill rate increase was approximately 1% year-over-year, but was partially offset by 0.3% from translating foreign currencies for consolidated financial statements.

The reason for the lower bill rate increase is the increased utilization of junior staff as the firm gets busier. For the remainder of 2017, we expect the realized rate increase of approximately 1% to 2%.

EBITDA margin for the quarter was 28.2% of net revenue, as compared to 24.6% in the same period last year. For the first half, EBITDA margin was 25.8% as compared to 24.3% in the same period one year ago.

For the quarter, compensation expense after adjusting for gains and losses in deferred compensation increased 10%, included in total compensation expense as a gain in deferred compensation of $1.1 million as compared to a gain of $940,000 in the same quarter one year ago. As a reminder, gains and losses in deferred compensation are offset in miscellaneous income and have no impact on the bottom-line.

2017 salary increases were effective April 1; the rise in salaries will be similar to the bill rates. Stock-based compensation expense increased 30% to $3.5 million in the quarter, which is attributable to the increase in the bonus pool, which is in line with the growth in profitability.

We expect stock-based compensation to be approximately $3 million in each of the remaining two quarters. Other operating expenses increased 1% to $7.3 million in the second quarter, included in other operating expense is depreciation expense of $1.6 million.

For the remainder of the year, we expect other operating expenses to be approximately $7.4 million to $7.6 million per quarter. G&A expenses were $5 million in the quarter up 20% due primarily to our managers meeting and marketing materials that leverage our 50th anniversary.

These expenses were realized in the first and second quarters. For the remainder of 2017, G&A expenses are expected to be $4.2 million to $4.5 million per quarter.

Our tax rate for the quarter was 38.3% as compared to 37.3% in the second quarter last year. Our tax rate for the first half of the year was 23.6% down slightly from 25% in the same period last year.

The year-to-date tax rate was impacted significantly by the adoption of the new accounting standard, which was primarily a first quarter event for Exponent. We expect a tax rate of approximately 39% during the remainder of the year.

For the quarter, operating cash flows were $18.8 million and capital expenditures were $1.2 million. We repurchased $5.7 million in common stock in the second quarter, year-to-date we have repurchased $7 million of common stock for a total of 118,000 shares at an average price of $59.57.

We still have $50 million authorized and available for repurchases under the current repurchase program. We distributed $5.4 million to shareholders through dividend payments in the second quarter and $10.8 million so far this year.

Today, we also announced another quarterly dividend payment of $0.21 for the third quarter and reiterated our intent to continue to pay a quarterly dividend. After repurchases and dividends, we ended the quarter with a $162 million of cash and short-term investments.

We are increasing our fiscal year 2017 expectations to reflect our strong performance in the first half of the year and our expectations for near-term market trend. We expect 2017 revenues before reimbursement to grow in the mid-to-high single digits and EBITDA margin to grow between 40 and 80 basis points as compared to 2016.

I will now turn the call back to Paul for closing remarks.

Thank you, Rich. Exponent's market position in international capital project disputes, consumer product recalls and product liability claims continues to generate brand awareness on an international scale.

Our global presence continues to create additional opportunities for proactive engagements, specifically in design and regulatory consulting. Our first half results demonstrate the growing demand for our diverse expertise to address complex business issues.

We are pleased with our ability to expand our business in both reactive and proactive services as demonstrated in construction disputes and human factors assessments. We believe we are well positioned for long-term growth as we provide our clients with solutions to address technological complexity, safety, human health and the environment.

Operator, we are now ready for questions.

Hi, yes thanks. First, can I ask about the environmental and health, what changed there, I guess it's certainly there is easier comparisons that you are coming up against on that part of the business in terms of large projects, but is there something about the marketplace that feels differently, I guess or success with building something out, can you just elaborate more on the change in growth rate on that piece?

So Tim, a significant part of that change is the fact that we have been able to leverage some of the staff in that area of the business on to some of the projects that, some of the international projects that we have that would not necessarily be pegged as being overly focused in our traditional environmental and health space. So, I think the global footprint that we're getting with more and more international projects has allowed us to increase the elevation in that area, so that’s sort of the first item.

And the second item really is the more traditional one which is as you recall, the part of that business that has been growing nicely is our food safety and chemical regulation practice that is largely based in Europe, but also in the US, and that business continued to perform very well in this quarter.

Okay. And how should this large project in the consumer products area, how should we think about that, I know you are – it’s a long ways off, but I'm trying to think of comparing against this now as we get to 2018, is this everything that could recur at this point or how should we think about, I guess just from growing on top of it?

Yes, so I think it would be fair to say that an individual project of the scale of the sort of 5% per quarter we've had in the first two quarters in this particular area of business is likely to be very rare. Having said that, I would say we have a number of projects in this area that are quite large, not large enough to be singled out, but quite large.

And the number of projects we have in this area has definitely been growing fairly rapidly over the last couple of years. So, we believe this area, sort of human factors assessment is on sort of product development-type projects, is very much a kind of growing business for us.

It is something where we feel we have a pretty strong competitive advantage in this area. There aren't really many other firms that are even in this area.

And I think that we see this as something that's going to continue to grow, whether when this project ends, we'll be able to completely offset those revenues immediately by other projects in this space is not clear. But, certainly we'll be offsetting a significant portion of the large project without other projects at the time that this, we believe at the time that this project comes to an end.

Okay. And maybe given that comment, if I look at the proactive work, which I think you said is 40%, how much of that at this point would be these types of human factors projects, even ballpark here?

Yes. It's really sort of maybe a high-single-digit percentage of our business to 10% somewhere around there at this point in time.

Okay. And then, I'm sorry just one numbers question, Rich, did you say 774 for the FTE count?

Yes, 774.

Okay. Thank you.

Hi, guys. This is Mike Reid in for Joe.

I appreciate you taking the call. So, you noted that the growth came off sort of a softer second quarter last year.

But I guess the third quarter was a little bit soft as well. So, could we see maybe the same kind of growth next period, and then, in 4Q see the annual growth rate maybe slowed down a little bit, is that, maybe we're looking at seasonally?

We definitely, I mean last year in the third quarter, we did see revenue is a little bit stronger than we had seen in the second quarter. We normally see our utilization step down as I mentioned in my comments from the second to third quarter.

But, last year actually utilization was up 1% going from the second to third quarter, so that was unusual to see that step-up in utilization obviously off of a lower base in the second quarter last where we are disappointed. In the fourth quarter, we definitely had an even stronger utilization relative there it had 68%, but considering the amount of holidays and vacations in the fourth quarter that's a high utilization for the fourth quarter.

So, I think it is a more challenging comparison in the fourth quarter than the third, but I wouldn't -- it wasn't that last year's third quarter was necessarily sort of low.

Okay. Thanks.

And this period, was there any difference in the mix of maybe reactive and proactive compared to recent periods or are they both kind of growing pretty much inline and stayed the same?

We haven't seen a material difference in the mix, I mean as we mentioned two of the growing areas for us are these human factors assessments, which are proactive in nature, and then, the other area that we called out in particular was our work in the large capital project disputes, and that area is entirely reactive. So we are seeing growth in both areas as we move forward.

Okay. And then, one last one on the large project again.

You said it would be down to 3 to 4 this quarter, and then, likely kind of go back to less than 2 where it wouldn't be called out, would that kind of roll-off right away or do you think it will gradually decrease once it starts to get smaller?

I think that it will. We think it will decrease as we are going even going through the third quarter.

And we would expect that at least at this point in time. We would expect that it will be at a lower level as we -- lower level are being completely out.

We think there will be some work but there isn't any commitment at this time into the fourth quarter. But, we do based on where, it is in the product lifecycle, we would expect that it would, that it would begin to tail off in the third quarter.

All right. Thanks guys.

Hi, good evening.

Hi, Marc.

Hi, Marc.

I wanted to touch on, you had mentioned earlier in the year some of the marketing efforts or some revisions to sort of your go-to-market approach a little bit. And I was wondering if you could spend a little bit of time on how that's shaping up and maybe this is connected to some in some way.

But, how this might have manifest itself from the management meetings that you had earlier in the year. Just want to get a sense of if you kind of started in that path of sort of that go-to-market and making adjustments to the go-to-market strategy and whether or not it had an impact already so far or if we are looking for that to be something down the road?

So I would like to think that it had an impact already, we feel like we had a very successful meeting. And, just to kind of recap a little bit, organizationally we've tended to organize around disciplines.

Our practices are largely organized around disciplines, follow the little bit of the sort of the university, sort of department model a little bit just sort of little bit like mines in different areas. But as we kind of go-to-market more and more its really focused around industries.

And I think, those who have listened to our calls over the years will definitely noticed the gradual shift where we talk more and more about industries. And I think that's because of sort of expansion largely in many cases in the proactive area, where an industry approach to marketing is just more important.

There can also be approaches to marketing on things aren't proactive and then we had a very focused marketing active around developing international capital work, those capital disputes and that were certainly extremely successful. We believe that we are not done, the gradual move toward a much more focused strategy around industries, we do think that the kinds of projects that we're talking about in this case, I'm not going to give full credit to our managers meeting for this project as obviously started before them.

But clearly our focus around industries is giving us more lead streams into the proactive business. So, we do think that we're on the right track there and we intend to continue to focus more on that.

Okay great. And wanted to circle back to the conversation around food safety and the chemical, the chemicals practice and wanted to get a sense of, is there - was there any changes as far as regulations or anything that externally that kind of stimulated.

You mentioned of the internal efforts, I was wondering if there was any external factors that might have say the roll and some of the pick-up in business there as well?

Well there are a number of regulatory processes that sort of require the step through the different years, so for example REACH is just as an example they have a deadline which may seem like pretty far away in 2018, but the reality is that there is so many applications and applicant ends with that time period that now is kind of on people's doorstep. But also in testified area there are continue upon challenges in Europe in terms of addressing there, their regulatory environment.

So, I think that we are very well known in that business and we're kind of a go-to folks. It just continues to be a very strong business for us.

So, I don't think there has been what I'll follow as, say a dramatic shift its not like there was, some new European administration that sort of drove things in a different direction. But this is consistent with our overall view of the world which is that safety, health and environment are the things that are going to continue to get - to get more focus and the result of that is that testified as an example are going to continue to have to go under a lot of regulatory scrutiny and a huge portion of what is done in food safety and chemical regulation practices around - is around testified.

Okay. And then, one last thing from me, you mentioned that there was the return of growth in the automotive area and I was wondering if you could sort of, I guess, I'm trying to figure out a good way to ask this, I mean will that return of growth in auto space was that sort of balanced between proactive and reactive in a similar way to the rest of the company or what was - where was that growth from I guess?

Yes. So, I think one of the things that's a little bit newer is, if you think of all of the more technology oriented companies that are entering into the automotive marketplace.

We've got very strong relationships as, we've reported on over time with most of the major automotive manufacturers not just the U.S. ones, but the Japanese ones, the Korean ones, the European ones and so forth.

And more traditional work we've done around recall work around accident work and so forth. What's happening with the new technologies that are coming in is, obviously, there is a lot of issues with batteries with lithium ion battery issues, there are also issues with the new, with all the new technologies that are coming together to ultimately lead to fully autonomous vehicles.

And those -- so with those you are getting sort of a influx of what we see is sort of mostly maybe more proactive work coming in that -- in that vein. We do think that it will also will as those technologies get in place that will necessarily be reactive work that flows out of that as well.

That where we are seeing that's exciting for us I think is the opportunity to get to work with more and more the new more technology oriented companies that are trying to enter the -- are entering the automotive space.

Okay. Thank you very much for all the detail.