SThree PLC

LSE:STEM

Earnings Call Transcript 2018-Q1

[Operator]

Hello, ladies and gentleman, and welcome to the SThree Q1 Trading Update Call.My name is Tasio, and I will be your coordinator for today's event. [Operator Instructions]I am now handing you over to your host, Gary Elden, to begin today's conference. Thank you.

[Gary Elden, CEO & Executive Director]

Good morning, everyone. And as usual, Alex Smith is here with me. I'll start with a quick summary, and then we'll take your questions.As you know, Q1 is our least-significant quarter, but we've had an encouraging start to the new year, with group GP ahead by 8%.Looking at the highlights for this -- for the period.Continental Europe was again the standout performer, with GP up 15%, driven by excellent performances from Netherlands and Germany. And the performance looks even better when you consider this includes 2 additional public holidays in the period. Contract remained the driving force of overall performance, with GP ahead by 11% with Continental Europe up 19% and the U.S.A. up 10%. We saw strong growth in Life Sciences, up 9%; IT, up 5%; Engineering, up 14%; and Energy, up 35%.U.S.A. grew by 1% in the quarter, largely as a function of the strong comparatives in both 2017 and '16 that we flagged back at the full year. But it's true to say that as -- U.S. GP growth was a little bit behind our expectations in the period, reflecting a softer start to the year in our West Coast offices -- office and New York Banking business, although, the market opportunity in the U.S. remains strong, and we expect to see an improving performance from the business this year.Our perm business posted an improved performance, with GP ahead by 2%. The decline in the U.K. business, it moderated to minus 3% versus minus 13% in Q4 last year. And finally, 82% of our GP in the period came from international markets.The relocation of our London-based support function to Glasgow is progressing well. And we remain in strong final -- financial position with net debt of circa GBP 2 million at period end.So we've made a solid start, and we're well positioned as we move through 2018.And we're now happy to take your questions.

[Operator]

[Operator Instructions] We have a question under the line of Rahim Karim.

[Rahim Nizar Karim, Research Analyst]

Just a couple of questions from me. I was hoping if you could possibly provide a little bit more color into the strength of the business in Holland and Germany in particular, obviously key drivers during the quarter. Any particular disciplines that stand out there? And then Contract versus perm. And then also if you could, if you wouldn't mind, perhaps talk us through your thoughts in terms of head count. It was kind of a key virtue of the 4Q trading update. And perhaps just an update on where we stand now and the outlook for the rest of the year.

[Gary Elden, CEO & Executive Director]

So if we look at Germany. Germany, as you know, is our biggest region. And we made significant changes in the pay structure last year and -- which meant we were more in line with the competition in the region. And the benefit of that is that we saw an improvement of our head count in Q4 in particular. And also, our churn was reduced. So we went into the year really in a strong position in Q4, which meant our head count was even ahead of what we were budgeting. So we're really pleased that we've now got a good infrastructure now to really grow our German business because we've got our heads in the right place, we've got the right balance on both Contract and perm, so we're seeing strong performances coming out of both Contract and perm, and we're set up nicely now for the rest of the year to really see some good growth. And we would see that as being one of the biggest growth areas for us. So permanent -- and strong, we see strong growth in the market. Holland is more geared towards Contract. It's been a strong performance in the last few years now, and we're going to continue to invest our heads into -- in Contract. We're seeing some strong growth, obviously, in Engineering and the Energy markets because, a lot of the markets we're seeing where the oil price worked against us, we're also seeing the benefit of the oil business picking up, but we're also -- our Engineering supply chain logistic business is seeing some [ good ] growth. And our IT business is pretty strong in the region as well. So again, we're ahead of where we expected in our head count in contracts. And we'll continue to invest to grow that part of the region. In relation to the overall -- you talk about the overall head count, Rahim? Was that...

[Rahim Nizar Karim, Research Analyst]

Yes, if you could give us a sense, yes, for the group...

[Gary Elden, CEO & Executive Director]

Yes. I think our review is that Contract, as we always said, is going to be -- we're going to add our head count in all regions, we feel. We think we're -- as a strong -- we believe that's the investment we should make. We don't really see the benefit of that -- the true benefit of that towards the second half of the year and particularly the last quarter. But -- so all regions, we'll continue to grow our head count. And we said we're going to be very selective where we're going to grow our head count on perm. So where we see a pickup in productivity or we see a particular market where we're seeing some signs, then we'll -- we're strategic or tactical in growing the head count in those areas. But primarily it'd be, continue to grow our head count on Contract and be selective where we grow our head count on Permanent really [ to add ] productivity. That's the plan.

[Operator]

The next question comes from the line of Steve Woolf.

[Steven John Woolf, Analyst]

Just to follow up on Rahim's question on Germany. I just wonder if you could -- I could press you for some -- bit more detail on the head count in Germany. Just trying to provide some context for the fee growth there, relative to what you have invested in head count year-on-year relative to where fees are growing. And then secondly, just a bit more detail on the U.K., it was obviously coming back up that negative year-on-year curve now. Just what you're seeing in terms of jobs to market really and a bit more detail on the various sectors there if that's [ possible ].

[Alex Smith, CFO & Executive Director]

Yes, okay. So in terms of the German head count, so overall our sales heads in Germany were up 27% year-on-year in quarter 1 at period end and sequentially up 2%, but it's where we were at the end of the year. And that really plays to what Gary was saying in terms of that strong growth in heads in the final quarter. And we're digesting that but still selectively investing on a more modest basis, but again once we've kind of got through that big meal of heads, we'll start to invest further again. If you're interested to see how that splits: 15% growth year-on-year on perm heads in Germany; and 36% growth on Contract heads in Germany year-on-year. So you can see that both perm and Contract are getting double-digit investment, but double the rate of investment in Contract head count in Germany versus the perm head count investment.

[Gary Elden, CEO & Executive Director]

In relation to the U.K., what we're pleased to see now is that the new deal weekly GP on Contract has been improving. Well, we've seen it for the second half of the year and even -- early -- first quarter this year, we've seen new deals going on contracts in line with what we'd expect. And we expect our Contract book to get back to our year-end in the next few months. So we're pleased that our Contract growth is really moving in the right direction. We've obviously, the public sector impact in the second half of last year, we won't have that impact this year. There's a lot more positivity in the Energy and Engineering-type markets as well. So we're pretty optimistic that we'll see some good growth coming out of our Contract business. Permanent is still a challenge, it's still an element of uncertainty there. We've seen some -- the head count, we're not really looking to particularly grow the head count on perm. And again, we're just going to make sure we're positioned in the right place before, if we do even consider increasing head count. So perm is really about still driving up productivity. That's the big focus for us. We've separated out the business now from -- the management team are all separated out in perm. It's got clear direction, and it's all about driving the productivity in that business. But Contract is something that we're going to continue our focus on, and we should see the benefit of that, particularly in the second half of the year.

[Operator]

The next question comes from the line of Andy Grobler.

[Andrew Charles Grobler, Analyst]

Just a couple from me, if I may. You mentioned the 2 working days in Continental Europe. If on a working day adjusted basis, what would growth have been within the region and particularly within Germany as well? And then secondly, I note that -- a smaller region, but Asia Pac and Middle East shot back very sharply during the quarter, particularly in perm. Is that sustainable? Or is it, was it a bit of a one-off during the quarter?

[Alex Smith, CFO & Executive Director]

Okay, so the 2 more public holidays was driven by the timing of -- or the days of the week in which Christmas and New Year fell. So this year, they fell on a Monday. Last year, they fell on a Sunday. And across all of Continental Europe that we operate in, apart from France, if you -- if Christmas falls -- or if a public holiday like Christmas falls on the weekend, you don't get a day off in lieu. So essentially that's the 2 days. It's 2 days on 61 working days in the quarter, so you could look at that and say -- sorry, 2 days on 63, so it's a couple of percent. But then when we thought about, well, what does that mean, we also considered that actually on the Permanent side of the business our clients wouldn't be there, so it wouldn't really have an impact. In terms of the Contract, contractors tend to work more on some of these kind of bridging-type days. And we took the view that perhaps 2/3 of the contractors would work, 1/3 wouldn't. And if you work that through and took the proportion of Continental Europe as a proportion of the group, et cetera, you're probably getting, Andy, to something like 1%, something like that, on the group growth rates. We didn't want to be too precise about it, hence, we're just going to set it out there as, this is despite the fact that there were 2 more public holidays. So it's not a precise science, but it's something we can overcome, if you like; and was a slight headwind for us, so it made this -- the performance, even stronger.

[Gary Elden, CEO & Executive Director]

Regarding the APAC and Middle East. I think we had quite a challenging quarter last year in Japan, last year. And I think, towards the end -- the second quarter-plus, we were starting to get momentum in, in Japan. So Japan is our -- will be our biggest region in the APAC very soon. The investment we've made over the last few years is now starting to come through. Our Permanent business is a strong business now. We've strong life science business in the region and a strong IT business. It's got one of the highest average fees in the group and the highest yields. So with the momentum we're getting there now with the experience we've got is we're starting to see the rewards of that. So that's pleasing. And the Middle East has been a consistently strong business for us on Contract. I think what we've had the benefit of this year is we've seen a pickup on the Banking side in the Middle East, which we weren't -- which we didn't get the benefit of last year. So -- but the Middle East Contract business is now a decent-sized business for us, so we should see some growth coming out of that. And the other positives -- things we've seen out of APAC, it's not always about our Australian business, new deals now, which won't be -- we won't see the benefit this quarter, but the new deals again are at the levels way above what we did in previous years. So as a region if, like you mentioned, it's not a significant part of our business, but we're getting good momentum in there. And we've not even got the benefit of our Contract business in Japan really contributing as of yet, so that's a new area of growth. So it's got potential, but I think, as I said, it's a very small part but -- and we're hopefully to see some momentum in -- coming through on that business.

[Operator]

The next question comes from the line of Rory McKenzie.

[Rory Edward McKenzie, European Support Services Analyst]

Two from me, please. Firstly, guys, can you just give a bit more detail on the Americas? I know you said, last quarter, it was going to slow on the tougher comps, but 1% is pretty -- a bit lower than I had expected. So what's happened there? And what's the outlook? You referenced that you expect improving performance. Will that be coming through quite quickly? And then secondly, just can you give an update on the U.K. restructuring, the cost savings, and how that's all going so far this year as, I guess, return to work is now kind of kicking off fully?

[Alex Smith, CFO & Executive Director]

Yes, sure, okay. So we flagged at the full year 2017 that we expected the growth rate in the U.S. to come down from the -- from the double-digit growth we saw, to more like mid-single-digit growth. And that was driven from the fact that we've got tough comps in 2017. And if you look back at the performance of the business since Q1 2014, we've been growing on a 22% CAGR over that [ 4 ] year period. So it's kind of -- it's tough comps on tough comps on tough comps. So we flagged that. The -- however, plus 1% is slightly short of where we expected. And that's driven by perm, and there are 2 principal areas. Banking & Finance in New York, which has been impacted by the timing of decisions on 3 major clients. And it seems to be its timing because we've got some roles now being released in the second quarter. So we believe it's more of a timing issue. And the overall health of the market is very good. The other area of challenge for us, and this has been a challenge for a period of time, is West Coast, particularly Life Sciences on the West Coast, San Francisco. And there we've got a challenge in terms of recruiting and retaining staff, so there's a wall for talent. And our staff are often being headhunted away by Silicon Valley companies for a -- internal recruitment roles, that sort of thing. So that business, there's a high level of churn than we would otherwise like. And the performance has been, frankly, a bit lumpy. To mitigate that, we are investing in growing our San Diego business but -- which is in a less-competitive market for our staff. And that's performing well but not yet big enough to offset the challenges in San Francisco. So that's -- those are the principal issues in the U.S. In terms of the outlook, we are optimistic that we can have an improved performance from the U.S. Indeed it is the timing issue that we mentioned. That should start to come back in Q2, Q3. I would highlight that we've got tough comps coming up, particularly in Q3, as well, which will be optically a challenge. But we are confident in that business. It's a very strong market. And we -- as I say, we'll perform better going forwards, we believe.

[Gary Elden, CEO & Executive Director]

The feedback back from the team is that, if we look at our perm business, it has the highest yield in the group. And even though the performance has not been, it's still above the group average for the quarter. We do believe and the management team believe they'll get back to similar yields per head in the coming quarters as well. So we should get back to -- but the slowdown we saw in the first quarter, we won't really know if we were able to make up that shortfall towards the end until we get to maybe the last quarter. But as I said -- as Alex mentioned, the team are very, very positive about getting back to the yields that we were getting last year. But it will be the highest yields in the group as well. So we're still pretty positive about the region, obviously.

[Alex Smith, CFO & Executive Director]

And in terms of the U.K. restructure, we'll provide a fuller update at the half year, but just to give a couple of kind of snippets. So the leadership roles have all been appointed for the new center of excellence. And 50 or so of the roles that we are recruiting for have been appointed. Not all have yet started. We remain on track, in terms of our recruitment plans, in terms of our property plans. So as I say, we're on track and -- but we'll provide much more of an update at the half year.

[Rory Edward McKenzie, European Support Services Analyst]

Okay, great. And just -- all right, I guess we'll wait for the half year then. But I mean, anything you'd say about with -- as the U.K. trend -- and the exit starts improving, I guess you'd hope that the U.K. profitability is definitely not a drag this year overall. I mean just trying to work out the different parts there as the U.K. gets back towards growth.

[Alex Smith, CFO & Executive Director]

It's -- a lot of it will be down -- Contract has a big impact on that. And as you know, if we get our Contract runners up, GP does take that much longer to come through. So again, you're right. We'll potentially see the benefit of that in the last quarter. Perm is the one that's -- there's a lot more of uncertainty around. So at perm, we're driving productivity -- or trying to drive productivity in perm. So it's not about growing heads necessarily, it's how we can make it more profitable. But we'd hope it will have a -- obviously, a more positive impact than it did on last year, yes.

[Operator]

The next question comes from the line of Srini Sarikonda.

[Srinivasa Raju Sarikonda, Analyst]

This is Srini from HSBC. A couple of questions. First, across regions I understand, like, Q1 is relatively less significant for SThree, but how was the trading environment towards the end of quarter, probably during early March? And second, on wage inflation, if you could give us some color on where you see wage inflation, in terms of regions and sectors.

[Alex Smith, CFO & Executive Director]

Sure, yes. I mean, in terms of performance throughout the quarter and exit rate, we had a reasonably strong P3, so stronger than the quarter average, but we do get sort of fluctuating shapes throughout the quarter. So I wouldn't read too much into that, but technically the exit rate, in terms of our P3 growth rate, was higher than the average for the quarter. I think, as we think about quarter 2 and we'd look at our head count investment, we look at the momentum in Continental Europe, we look at the market sentiment in Continental Europe, the market sentiment in the U.S. which is very strong; our U.K. Contract deal activity which is very positively, we look at -- we look into quarter 2 with as much confidence as we looked into quarter 1, if not slightly more. In terms of wage inflation, yes, we are seeing some wage inflation. And again, we'll update more at H1, but we look at both Contract and perm, so i.e. our contractor pay rates, and essentially annualize them to turn it into a salary. We're seeing a 5% inflation on that. And that's pretty well split across the world. So Germany up 5%, U.S. up 5%, U.K. up 4%. On Permanent, we've seen a -- salary inflation for placements made of 2%, but that is plus 4% in the U.K., plus 6% in Germany, minus 3% in the U.S. But what you need to quickly bear in mind in the U.S. is that the Banking performance, the significant reduction in Banking permanent starters, will have had a material dilution impact on that. So I think it's going to normalize for Banking. It will be a mid-single-digit growth, I would expect. Of course, this salary inflation stuff is driven by the mix of what we place and is driven by the level which we place that and everything else. So it is hard to unpick all the moving parts, but that's what we see in terms of our internal data.

[Srinivasa Raju Sarikonda, Analyst]

I understand. And do you see any scarcity in labor across any of the sectors or regions in that?

[Gary Elden, CEO & Executive Director]

Any what? Sorry.

[Srinivasa Raju Sarikonda, Analyst]

Labor scarcity.

[Gary Elden, CEO & Executive Director]

Well, the markets that we typically focus on in the STEM world are, we try and focus on markets where it's difficult to find candidates, so our whole perm proposal really is to try and work markets where it's difficult to find candidates that we can -- and if it's difficult to find candidates, then you need to use recruitment companies. So the markets we tend to work on is we try and find, even in a STEM world, IT markets where there's a shortage of skills. And so that's what our focus -- so really if it's an over-commoditized market, then we try and move -- we're trying to move away from those type of markets. So remember we're working in areas where these candidates are in demand. And they're project-based, so we don't do any blue collar work. So really that with -- the scarcity, we've not -- it doesn't really affect the markets that we're in at the moment. It's the skills that are needed to build the demand that we're seeing at the moment. So when you see a pickup, for example, in oil and gas, there's obviously a shortage of, in the past, reservoir engineers or geologists, and they're the markets that we focus on because there's a lack of skills coming through, which is -- which applies to most STEM markets that we're in.

[Srinivasa Raju Sarikonda, Analyst]

I understand. So the issue you are seeing in the West Coast is mostly your internal staff. You are talking about sales store staff...

[Gary Elden, CEO & Executive Director]

Yes. So what we're finding is, as Alex mentioned, some of the companies, your big players in the market, are offering in some cases 50%, 60% higher salaries; and 50%, 60% higher on OTE as well because they throw money at the problem to get people that have been trained up by us for 2 years and give them internal recruitment jobs. So it's hard to compete with those type of companies, with the deep pockets that they've got. So with -- what we're trying to do is obviously make sure -- it's not always the case, but we're going to make sure that we can focus in markets where it's less competitive for our staff. So San Diego has been really a strong office for us. We still have a presence in San Francisco, but as Alex mentioned, the churn, if you're losing people 2, 3 years' experience and replacing those people, it takes a while for those people to come up and running again. So it's an ongoing challenge. This has happened recently because a lot of the companies in Silicon Valley are now moving into locations which are closer to our office as well. So Silicon Valley is expanding into geographically closer to where we are, so that's also been a challenge recently.

[Operator]

The next question -- it's dropped off. We have no further questions in the queue. [Operator Instructions] There are no further questions, so I will hand you back to your host.

[Gary Elden, CEO & Executive Director]

Thank you all for joining us this morning. We look forward to updating you again at the first half trading update on the 15th of June. Thank you.

[Operator]

Thank you for joining today's call.