SThree PLC

LSE:STEM

Earnings Call Transcript 2019-Q1

[Operator]

Hello, and welcome to the SThree First Quarter Trading Statement. [Operator Instructions] And just to remind you, this is being recorded. So today, I'm pleased to present Gary Elden, CEO; and Alex Smith, CFO. Please begin.

[Gary Elden, CEO & Executive Director]

Good morning, everyone, and welcome to the call. As usual, Alex Smith is here with me. I'll start with a quick summary and then take your questions. We're pleased to have had such an encouraging start to the new financial year, with Group GP ahead by 9%. This performance was driven by the combination of our STEM focus and international market exposure, with 80% of GP in the quarter coming outside the U.K. and Ireland. Picking out some highlights. In line with our focus on Contract, it remains the driving force of our overall performance, with GP ahead by 12% and now represents 73% of the group's GP. GP in Permanent was ahead by 1% and productivity up by 5%.Our largest region, Continental Europe, continued to grow robustly, as did the USA, posting growth of 12% and 17%, respectively. The growth in Continental Europe was driven by Benelux and DACH, up 11% and 12%, respectively.Operationally, the planned relocation of the majority of our central support function to Glasgow is now complete, with the expected benefits now being realized.Overall, we're pleased with our performance in the first quarter and are confident that our focus on Contracts and continued strength of our performance across key regions and sectors provides resilience in today's more turbulent market conditions. As such, we're looking forward to continue to drive growth during the remainder of the year. And we're now happy to take your questions.

[Operator]

[Operator Instructions] Our first question is over the line of Steve Woolf at Numis Securities.

[Steven John Woolf, Analyst]

A couple from me. The U.K., I was wondering if you could just give a little bit more color. Obviously, the B word is going to be the, I suspect, the main sort of drag. So just a bit more color on what you're seeing there, whether it's sort of isolated in any particular skill sets or whether it is a bit broader than that. If you could split out sort of some of the trends that you're seeing perhaps, in Germany relative to some of the Contract extension issues experienced by Hays. And then thirdly, just on your expansion plans for the remainder of the year, offices and headcount, has that changed at all following Q1?

[Gary Elden, CEO & Executive Director]

It seemed like more than a couple of questions, Steve.

[Steven John Woolf, Analyst]

Technically, I did 3.

[Gary Elden, CEO & Executive Director]

In my word probably, it was always 2.

[Steven John Woolf, Analyst]

There are sub-elements to the 3.

[Gary Elden, CEO & Executive Director]

Yes, if you look at the U.K., I think, as expected, we've always said with uncertainty. And even so more recently, with uncertainty is never good for us. What we are seeing from an activity level point of view, we do look at data around interview-to-placement ratios, and we've seen a slight deterioration in that. For example, on our Contract business, our average interview-to-placement ratio were maybe 3, 3.5, 3.1 interview-to-placement -- 3.5, sorry, and at the moment, that's moved to roughly around 4. And also, the level of jobs coming through are slightly down than where we expected. So there are definitely -- when we talked to the U.K. team and what the feeling is, is that with the uncertainty at the moment, there are definitely candidates still reluctant to move. And we're seeing some of the bigger clients with European operations holding fire on some of their jobs. So we've seen an impact in that. In saying that, we still feel, on the Contract side, we've seen some good growth in some of the public sector areas that we're in at the moment. And where there's skill shortages in some of the markets, we're still seeing opportunities to grow as well. So I think the driver in working in markets where there's difficult to find candidates, there's always going to be a supply-demand shortage, that we can still see some growth coming in those markets. On the -- and I suppose I have to say, just to remind the listeners, that 85% of the group is non-U.K.&I, and actually 87% is non-U.K. Our Ireland business actually posted decent growth in the quarter, up 19%. So 87% is non-U.K. In terms of the DACH region, I think, Steve, you were kind of alluding to that particularly to kind of the Contract business and Contract extensions. So we've been very explicit looking at this with the business. And we are spot on the money, if you like, exactly where we expected to be in terms of finisher rates, the level of new Contract business risen up. So we're not seeing any impacts, market impacts from our Contract business. We are in the specialist niche verticals, so it could be more around an impact seen lower at the time the food chain is more blue collar possibly. But in terms of our niche markets, and we're not seeing any impact. And perhaps it's worth also commenting in terms of Germany, in terms of the -- we look at, and I'm sure you will look at, some of the lead indicators around GDP, business expectations, employment intentions as well, and we take comfort from not only our good positioning in the market, but when you look at the employment intentions index, measured by the German Chambers of Industry and Commerce, whilst that has declined sort of the last 3 periods, it's still well above the long-term average. It's at nearly a 6-year high. And actually, when asked around the biggest reasons for expectations reducing, the respondents talked about the critical and greatest risk remain in the shortage of skilled workers in Germany. So we feel we're in the right parts of the market in terms of niche and in the right sectors to continue to really prosper in Germany. So it looks good to us at this point in Germany. In terms of the third question, which I think was around expansion, headcount and offices, I think. In terms of -- let me answer the headcount piece, first of all. In terms of headcount, pleasing growth in the quarter, as is covered in the statement. I think as we look forwards, we would be continuing to prioritize headcount growth in the DACH region and the U.S. in particular, across both Perm and Contract. We would also call out Japan for investment in terms of Perm heads, whilst also continuing to build Contract businesses particularly in the Benelux region. So we're continuing to invest in headcount. And in terms of new offices, there is 1 or 2 new offices that we're looking at to bolster our on the ground presence in Germany in the balance of year. But no, nothing too significant or dramatic.

[Operator]

Before we go over to Rahim Karim of Liberum, [Operator Instructions].

[Rahim Nizar Karim, Research Analyst]

Two questions, if I may. The first is just on the U.S. It looks like the Contract performance there was particularly strong. If you could help us just get -- provide -- give us a bit more color on the moving parts, that would be great. And then kind of what your expectations are for the profile of the Perm business in that region and as we kind of look to the rest of 2019, that would be helpful. And then sticking with Perm, it's obviously been supported by a very strong performance in Japan and that's been a trend for a number of quarters recently. It'd be useful just to get your thoughts on the key drivers and the movements of that market. And maybe just remind us of the group's total exposure to Japan because it seems like it's probably becoming more and more important.

[Alex Smith, CFO & Executive Director]

Thank you, Rahim. So in terms of the -- first of all, starting with the U.S. question then, starting with Contract. So we had strong double-digit growth across all our sectors in the U.S., with the exception of our smaller sector, Banking & Finance. So for example, IT grew by 12%. We had standout performance in U.S. Energy, up 78%. And Life Sciences, up 15%. So in order of magnitude, the Life Sciences sector's the biggest, then Energy, then IT, then Banking & Finance. Banking & Finance represents about 7% of our U.S. Contract business, and that was down 1/3. But overall, up 24%. And it is encouraging to see that strong performance across all those other sectors that I mentioned. Maybe worth commenting, Gary, on the Energy business in the U.S. and how well diversified we are there.

[Gary Elden, CEO & Executive Director]

Yes. If you recall, before the crash, we were very much exposed to the upstream market. And over the last 3 years, we've restructured the business to really focus on newer markets. And what's pleasing to see now, within the area of power, for example, we're seeing substantial growth coming out of new offices as well, as well as new markets. So we were predominantly based in Houston. We now moved to San Diego, and it's been one of the fastest-growing businesses in the whole of SThree, it's fair to say. And we're now starting to see the benefit in the Midwest as well, where we're seeing significant growth coming through as well. So we're really excited about the opportunity in the power market. But we're also seeing some of the benefit of some of the fracking we're seeing and the delivery from Glasgow into our Houston business as well. So overall, our Energy business is in a far better position than it was before the crash actually, so that's pleasing. The only difference is now it's 90% Contract now and 10% of Perm, which is a reflection of that market.

[Alex Smith, CFO & Executive Director]

Thinking -- so moving on to Permanent. In terms of the assessment we've seen, our Permanent business in the U.S. has our highest yield across the group. So it's -- we're placing candidates on the higher salaries and we get higher fees, and it is a very attractive business to us. We talked during last year or around the move from a regional structure in the U.S. to a brand structure that had some -- that move having some collateral -- short-term collateral impact on a number of key Perm managers who left the business. And during 2018, we were struggling, should we say, to hang on to the heads in that business and to grow the heads. What's pleasing to see in the first quarter now is that we've had a good quarter of headcount growth on the U.S. Perm business, and we can see that continuing into the second quarter. What we are not yet seeing, though, is that headcount productive and contributing. So I would expect to see growth in the second half of the year. I wouldn't be expecting to see anything dramatically different in Q2. Moving on to Japan. So in relation to sectors in Japan, it's fair to say now, we -- it's coming up to 5 years we've been in Japan. And over the last 3 years, we really have started to see some encouraging growth. I think we got a really strong management team there now. And the 2 areas of focus where we're making the impact is in IT through Computer Futures, and there's a significant shortage of skills. Margins are really good, salaries are good and Life Sciences. So they are the 2 primary sectors that we're focusing on in Japan. We got a strong client base in both markets, a very experienced team and we're still looking to continue to expand that region. It's -- there's a promising outlook there. And it's worth noting as well, at the moment, it's predominantly Permanent, so we still got good opportunity to grow our Contract business there as well, which we'll be investing in this year as well. And Japan Perm represents about 7% of our group Perm in the quarter, just to give you a sense of scale of that, come -- it's up and coming quite quickly now.

[Rahim Nizar Karim, Research Analyst]

Well, great. And Gary, best of luck with everything, and thanks for all your help in the recent years.

[Gary Elden, CEO & Executive Director]

No worries. Thank you for your support. Thank you, appreciate it.

[Operator]

We now go to the line of Kean Marden at Jefferies.

[Kean Marden, Equity Analyst]

On the [indiscernible]...

[Operator]

Sorry, Kean, you're on a mobile and we're having a -- it's very difficult to hear you. [Operator Instructions]

[Kean Marden, Equity Analyst]

Is this better? Can you hear me better now?

[Operator]

Yes, we can.

[Kean Marden, Equity Analyst]

So on -- first of all, a question in the U.K., really reluctant to ask about trading trends during the quarter because, obviously, monthly data can be a bit [ overblown ]. But would it be fair to say that momentum deteriorated and that probably sort of end February and beginning of March maybe was where we saw some Contract weakness in that business? And then secondly, on Australia, which I appreciate is a not substantial territory for you guys. I think from memory, you've got 2 offices there, but the labor market data there is quite interesting at the moment. So if you have any observations you could share with us that will be much appreciated as well.

[Alex Smith, CFO & Executive Director]

Yes. I think it's fair to say, if you look at the U.K. and even more recently, I think, the early -- it's very early. As I said, December and January doesn't give the true reflection of the market. But what we've seen -- excuse me, in February is the levels of jobs and interview-to-placement ratios not moving in a more negative path. So the signs at the moment is that, yes, there has definitely been a slowdown. The uncertainty is not helping us. But we do feel that the markets that we're focusing on, on Contract in particular, we still believe with the headcount that we've got, we can still see some growth coming out of the U.K. Contract business. The Perm business is a lot more volatile and there's still a lot more uncertainty there. But I think March will be a full month where it's -- you'll get February and March, at 2 months, you'd get a better indication of where the U.K. market is at the moment. There's still -- as expected, there's still uncertainty. There's still uncertainty. And moving on to Australia, I've got -- just had to reach for my calculator and work out that it's 1.1% of the group. So forgive us if we're not entirely masterful on this. It may be worth, Gary, talking about some of the changes that we made to that Australian Contract business had brought in and the people...

[Gary Elden, CEO & Executive Director]

Yes. So we've been in Australia for a while. I think it's fair to say we have restructured that Contract business. We've got a change of management in there. We brought external expertise in. And we see this really as a strong Contract market for us. We've got a decent-sized business there are on Contract. We definitely believe in the STEM markets there as well. There's opportunity to grow. Perm is a less significant part of the business there. It's there to support some of the Contract markets that we're in. But we see Australia as a slow growth market for us. It's a nice business for us. But our priority is really is to get more productivity coming out of the people that we've got at the moment and not necessarily drive significant headcount. It's more driving up productivity. It's what we're going to focus on.

[Operator]

Before we go to Alex deGroote at Radnor Capital, [Operator Instructions].

[Alex DeGroote]

My question relates -- one question just relates to balance sheet and net debt, please. Alex, could you perhaps talk to the movements in net debt through the period and your expectations such that they are for the full year cash conversion, please.

[Alex Smith, CFO & Executive Director]

Sure, yes. So what we saw in Q1 was a normal seasonal working capital movement, so very much in line with the prior year. As you will recall, we had a significant increase in working capital during 2018, largely linked to the move to Glasgow and the less-experienced credit control team. I've talked to many of you, and many investors, around the focus on working capital and the working capital plans. We've got to revert, if you like, that increase in working capital during 2019. And we expect to see those initiatives gathering momentum partially into the second quarter, but it's going to be much more significant for us and it's even more significant in the second half. So we would expect to see -- and our target and our plan is to address that DSO deterioration in the balance of the year. I think the majority of that coming through in the second half, which would drive an improved cash conversion for the year. Obviously, there are lots of moving parts, but as we look at it from where we are now, we expect our cash conversion in 2019 to be higher than it was in 2018. Cash conversion can suffer, though, from a strong growth in Contract, and so that can be a nice problem to have too, albeit for -- it'll be unfair to some, but we expect to see that coming through kind of during the rest of the year, but we haven't had a big benefit in the first quarter.

[Operator]

As that was the final question for today, can I please pass back to you for any closing comments?

[Gary Elden, CEO & Executive Director]

Okay. Well, thank you. Thank you for joining us this morning. We will always -- obviously, we'll be updating you in 14th of June. That won't be me, so Alex and Mark. My -- Mark Dorman who's taking over, will be joining as of Monday. And I'm -- and I'd like to say thank you, everyone, for the support over the years, and I honestly believe that the business now is in a stronger shape than it has been from my time in SThree. We're in the right markets. We're in the right regions. The strategy is clear. There are definitely areas where we can improve. And I think with Mark's experience and knowledge, I think, will be a great asset to the business. And I'm excited as a shareholder for the next 3 to 5 years. I think the business is in a really strong position to hit everything that we said we would do when we called out to you at the Capital Markets Day. So it's an emotional time for me, but it's exciting as well to be in a different part of the journey. And the company's been an amazing company. It's very unique. But I'd like to thank everyone for their support. It's been a pleasure. And thank you again.

[Operator]

This now concludes today's call. Thank you all very much for attending, and you can now disconnect your lines.

[Gary Elden, CEO & Executive Director]

Thank you.