Oct 17, 2007
Executives
Brinlea Johnson –Blueshirt Group Michael R. Gaulke -Chairman, CEO Richard L.
Schlenker -CFO
Analysts
David Gault – Sidoti & Co. Tim McHugh - William Blair
Operator
Goodafternoon ladies and gentleman thank you so much for standing by and welcome tothe Exponent Inc. Q3 2007 conference call.
(Operator Instructions) I wouldlike to turn the conference over to Ms. Brinlea Johnson of the Blueshirt Group.Please go ahead.
Brinlea Johnson
Goodafternoon ladies and gentleman and thank you for attending today’s conferencecall to assess Exponent’s third quarter 2007 results. Please note that this conference is beingsimultaneously webcast via the public relations section of the company’scorporate website at www.exponent.com/investors.
Thisconference call is the property of Exponent and any other reproduction isprohibited without prior written consent. Joiningme on the call are Mike Gaulke, Chairman and CEO and Richard Schlenker, CFO of Exponent.
Beforewe start I’d like to remind you that this conference contains forward lookingstatements including statements about Exponents market opportunities and futurefinancial results that involve risks and uncertainties. Actual results may varymaterially from those discussed here.
Information concerning factors that couldcause actual results to differ from forward looking statements can be found in Exponent’speriodic filings with the FCC including those factors included under thecaption Factors Effecting Operating Results and Market Price of Stock. Exponent’s third quarter ended September 28, 2007.
Theforward looking statements and risks stated in this conference call reflectcurrent expectations as of today. Exponent assumes no obligation to update orrevise them as a result of new developments or otherwise.
NowI’d like to turn the call over to Mike Gaulke, Chairman and CEO of Exponent.Mike, please go ahead.
Michael R. Gaulke
Thankyou for joining us today as we record our financial results for the third quarterof 2007. As you know from our press release we posted strong top and bottomline results, with double digit revenue growth and improved operating margins.Net revenue increased 12 percent over the same period last year to 44.9 milliondollars.
And net income increased by 35 percent, over the prior year to 5million. Our strong top line results translated to better bottom lineperformance primarily due to an improvement in utilization to 67 percent from64 percent in the prior year period.
Wehad notable performance in several practices during the quarter; some examplesof our work include the following: in our electrical practice we helped a majorcell phone manufacturer resolve a critical technical issue with its batterysupplier. In our thermo sciences practice, we developed both laboratory andcomputational models to allow a consortium of energy companies to betterunderstand the rate of dispersion of liquid natural gas should a tank beruptured, and to better quantify the risk if such a release were to occur.
In our mechanics and materials practice wehelped a major utility with a materials problem in one of their nuclear powergeneration plants. Inour human factors practice our scientists studied the correlation betweenincreased driver distraction and the occurrence of sudden acceleration of thevehicle.
In our ecological sciences practice we helped a refinery ownerevaluating natural resource damage claim. In our health group we assisted aproducts company in quantifying exposure of its customers to lead in paint andthe potential health effects associated with this level of exposure.
Andfinally in our defense technology development practice we continued to supportthe U.S. army’s Iraq equipping force.
Withthe announcement today of a contract to deliver rapid deployment integratedsurveillance systems, which we refer to as RDISS, we are well positioned forcontinued growth in this segment of our business during the fourth quarter.These systems are being used to improve situational awareness for our soldiersin the joint security station and combat outposts in Iraq and Afghanistan. I will now turn the call over to Rich for adetailed discussion of our financial results.
Richard L. Schlenker
Thanks Mike. As Mike discussed we reported a good third quarter and are well on our way to posting a very strong 2007.
For the third quarter total revenues increased 13 percent to 48.9 million dollars. Revenues before reimbursements or net revenues as I will refer to them from here on increased 12 percent to 44.9 million dollars.
Net income for the third quarter of 2007 increased 35 percent to 5 million dollars or 31 cents per share, as compared to 3.7 million dollars and 22 cents per share in 2006. EBITDA increased 32 percent 10.3 million dollars.
For the first nine months of 2007 revenues grew 17 percent to 148.4 million dollars, net revenues increased 15 percent to 136.2 million dollars, while net income increased 35 percent to 15.1 million dollars or 92 cents per share as compared to 11.2 million dollars or 62 cents per share in 2006. EBITDA increased 36 percent to 31.2 million dollars.
During the third quarter utilization improved to 67 percent, from 64 percent in the prior year period. We were also able to leverage our G&A expense, as a result for the third quarter operating margins improved by 260 basis points versus the same period last year to 16.6 percent of net revenues.
Turning to more detail, on expenses in the third quarter compensation expense increased 8.9 percent to 29.3 million dollars. This increase is the result of a slight growth in technical full time and part time employees, as well as a higher bonus accrual for the period which corresponds to the increased profits.
Technical FTs for the third quarter were 585. Stock-based compensation expense for the third quarter was 1.4 million dollars as compared to 865 thousand dollars last year.
As I have previously mentioned this is related to the increased bonus accrual and the decision at the end of 2006 to pay greater portion of bonuses in stock. We now expect total stock based compensation expense to be 5.5 million to 6 million dollars for the full year 2007 as compared to 4.3 million dollars in 2006.
Other operating expenses for the third quarter increased 12.6 percent to 5.5 million dollars, this is related to the implementation of the new accounting system and increased occupancy costs. Depreciation in the third quarter was 1 million dollars.
G&A expenses for the third quarter were flat with prior year at 2.7 million dollars. Reimbursable expenses for third quarter increased to 4 million dollars as compared to 3.3 million dollars last year, as a result of higher material costs associated with our defense technology development work.
Our tax rate for the third quarter of 2007 was 39.3 percent as compared to 41.6 percent in the third quarter of 2006. Turning to the balance sheet, we closed the quarter with cash and short term investments of 52.5 million dollars.
During the quarter we repurchased 7.7 million dollars worth of common stock as part of our authorized stock repurchase program. Bringing our total repurchases for 2007 to 19 million dollars.
This leaves 21 million dollars available for future repurchases on our most recent authorization. Capital expenditures for the third quarter were 693 thousand dollars.
DSOs this quarter were 108 days. We continue to believe we will end the year with DSOs in the mid to low nineties.
As Mike discussed earlier we have been awarded a new RDISS contract with the U.S. Army.
Currently the contract is funded in the amount of 11.96 million dollars. Exponent’s net revenues should be approx 3.5 to 4 million dollars, the majority of which will be recognized in the fourth quarter of 2007.
While this contract is being protested, we have been authorized and have already commenced to work on this phase. We normally would expect fourth quarter net revenues from our defense technology development business to be approximately 2 million dollars.
We now expect net revenues from this business segment to be in the range of 3.5 to 5 million dollars, which will result in this project contributing to accelerated revenue growth and improved operating margin in the fourth quarter versus the same period last year. While our defense technology development business tends to be a little lumpy, this contract will have a bigger impact on our quarterly results and our year over year comparisons for 2008.
In summary, we are pleased to report strong financial results for third quarter and a key contract win. As a result of improved utilization operating leverage and the new RDISS contract Exponent now expects growth in net revenues to be in the mid-teens for 2007.
In addition, the company expects an improvement in operating income as a percentage of net revenues of approximately 250 basis points for the full year. For 2008 and beyond we continue to believe we can grow net revenues in the high single digits to low double digit range, adjusting for extraordinary items such as the incremental revenues from the new RDISS contract.
Now I will turn the call back over to Mike for concluding remarks.
Michael R. Gaulke
Thanks Rich. In summary the third quarter continued our strong performance for fiscal 2007.
Our revenues before reimbursement have grown 15 percent, and net income has increased 35 percent to 92 cents per share. These results are significantly above our historical revenue growth expectations of high single digit to low double digit growth and also show an improvement in our operating margin.
Our nine months 2007 results where net income, earnings per share and EBITDA have all exceeded the 2006 full year results for these measures. As Rich discussed we have positive momentum heading into our seasonally slower fourth quarter with the addition of the recent U.S.
army RDISS contract. Looking beyond 2007 we are optimistic about our future long-term growth, and operating leverage.
We expect strong performance across the broad set of practices, including health sciences, consulting, product design consulting, energy consulting, and defense technology development. Exponent remains uniquely positioned as a leading multi-disciplinary engineering and scientific consulting firm dedicated to helping our clients solve their challenging technical problems.
We thank you for your support and we look forward to reporting to you in the coming quarters. Now I will turn the call over to the operator for questions.
Operator
(Operator Instructions) Our first question is coming through the line from David Gault. Please state your company name followed by your company.
David?
David Gault – Sidoti & Co.
Hi, good afternoon. It’s Sidoti & Company.
A couple of questions: let’s see, to start you talk about this year the 250 basis point increase operating margin; you’ve obviously made good progress there. How much incrementally comes from that new contract, or maybe another way to ask is whether the margins look like that piece of business you’ll see in the fourth quarter?
Richard L. Schlenker
You know we can get somewhere between 57 percent and as high as on parts of it up to 67 percent; we’ve got our 33 percent bonus program but we should be able to get pretty good incremental profitability out of that program somewhere between 57 and 67 percent.
David Gault – Sidoti & Co.
Okay, on that same contract $12 million or so funded, how big could this contract be?
Richard L. Schlenker
Our total ceiling that they’ve put on the contract is 26 million dollars but that’s over a two year period time.
David Gault – Sidoti & Co.
Okay, and so there’s some acceleration on the first half of it?
Richard L. Schlenker
Well there’s no guarantees that they would fund any amount beyond where we are right now.
David Gault – Sidoti & Co.
Okay, another question for either of you. Just talk a little bit about hiring, you know sort of climate, what you see and then presumably plans for the next few quarters or at least the next one, and looking into next year.
Richard L. Schlenker
Yeah this is Rich, I’ll start it off. Well, I think we had a good third quarter we saw just around 2 percent growth from 2.2 to 2.3 in our FTs so we’ve talked about an annual range we’d like to be around 4 to 7 percent so on a quarterly basis we’re beginning to see some pickup in our net FTs; we would expect 1 percent going from Q3 to Q4.
I think that puts us in a good condition the full year we’ll end up being up a couple of percent but I think it puts us in a good position going into 2008. As we look forward we’ve clearly seen a pickup in hiring activity in our organization over the last 3 to 4 months, and basically good numbers coming in in September and already in October so I think we’ve got good momentum at this point in time and have the right processes in place to succeed and go forward.
David Gault – Sidoti & Co.
Rich, can you give a quarter end head count number or maybe a good average?
Richard L. Schlenker
FTs for the month of September was 586.
David Gault – Sidoti & Co.
586, so just about the same?
Richard L. Schlenker
But it was; we got a lot of those people halfway through the month it might have been slightly higher than that a lot of people joined even the first week of October so that’s what gives me the belief we can get the 1 percent here as we get through the next quarter.
David Gault – Sidoti & Co.
Perfect. Thanks a lot.
I’ll turn it over to someone else’s question.
Michael R. Gaulke
David just let me add on some general market observations here. In terms of recruiting we don’t see anything unusual going on in the marketplace overall.
I think our recruiting activities are well focused we got a lot of focus internally recruiting particularly at the college and university level and are quite active in that arena. We have added additional resources to support recruiting over this last year; we’ve brought in what is now our second full time dedicated staff recruiter who focuses on more junior entry level positions, young Ph.Ds coming out of academia.
We’re spending a lot of time to make sure that the most valuable assets to the firm are continuing to inflow into our firm and from that standpoint ensuring our ability to grow in the future.
David Gault – Sidoti & Co.
perfect. Thanks a lot Mike.
Thank you Rich.
Operator
The next question is from the line of Tim McHugh - William Blair. Please state your company name followed by your question.
Tim McHugh - William Blair
I just wanted to touch on operating margin or EBITDA margins, whichever you prefer. Can this significant improvement you had this year; update us on your thoughts on where that could go for the next year.
Richard L. Schlenker
Yeah I think that the challenge is for 2008 hanging on the amount of revenues that we end up and profits we end up realizing from the RDISS contract in the fourth quarter - that could impact the year-over-year performance in operating margin. If we only had normal revenues out of that incremental revenue there then we would have hit 2 million dollars in defense work we would have expected that we could go into 2008 expecting at least 30 basis points improvement in operating margin that we would see there.
Depending on how well the profits come out of this program that could have an impact on our ability to exceed our 2008 performance because it will include this extraordinary contract.
Tim McHugh - William Blair
Okay. Can you update us on the operating cash flow for the quarter and then your thoughts on your continued approach to stock here; is that still the preferred means you’re still looking at potential acquisition opportunities as a potential use of cash?
Michael R. Gaulke
Yeah the operating cash flow for the quarter was 5.9 million dollars. On the uses of cash, we have over the years continued to look at three broad areas: acquisition, dividends and stock repurchases.
We are active in two of those at this point in time and will continue to be we believe in 2008. Although we have not made an acquisition we are still actively looking for the right tuck-in I think is the best way to describe it; an acquisition that can complement our business particularly in the health sciences area, our growth there.
As Rich indicated we still have 21 million dollars in our current outstanding authorization for share repurchase, and we will continue to work on that authorization. At this point in time we have nothing further to say about the dividends; it continues to be on the table but not something we’re going to do anything about in the near term.
Tim McHugh - William Blair
Okay, and lastly, the technology development that excellent contract it looks like you received, looking out beyond that, do you have are you working other things do you see anything in the pipeline that could come down the road in ’08. What does it look like for this business beyond this specific contract?
Michael R. Gaulke
First this is a contract that in fact found its origination if you will in working for one of our key clients in this business which has been the Iraq equipping force. There are other contracts that we have with Iraq and the nature of our engagement with Iraq is one that I believe that we will see other contracts - may not be of the same size or scope of this current RDISS but as we come up with ideas that we believe can be very beneficial and helpful to the army, particularly in the war zone, those are ideas that we’ve put before Iraq and if they’re well received then and believed to really have an impact then Iraq turns around and funds that work, so we believe that is something that is continuing to be before us as opportunity.
There are other army clients that we also are dealing with and pursuing opportunities with. In addition as you may recall although we have not talked much about this last year, we continue to work pursue work with the navy, particularly follow on work in this area of anti-submarine warfare and we’re continuing to have active discussions going on in that arena; nothing I can talk about further as to what that may result in terms of particular contract or award but I would be hopeful that over the next year there’ll be some development in that space.
Operator
Well I thank you ladies and gentlemen. (Operator Instructions) It sounds like we’re out of questions today.
Michael R. Gaulke
We thank you for joining us and look forward to speaking with you here in the not too distant future.
Operator
Ladies and gentleman, there are no further questions at this time. This does conclude Exponent Inc.’
s Q3 2007 conference call. If you’d like to listen to a replay of today’s conference please do so by dialing 1-800-405-2236 or 303-590-3000 and enter the pass code 11098780 for both numbers.
We would like to thank you for your participation today you may now disconnect. Have a very pleasant rest of your day.