CRD.B (CRD.B) Q2 2016 Earnings Report, Transcript and Summary

Good afternoon. My name is Veneda, and I will be your conference facilitator today. At this time, I would like to welcome everyone to the Crawford & Company Second Quarter 2016 Earnings Release Conference Call. In conjunction with this call, a supplementary financial presentation is available on our website at www.crawfordandcompany.com under the Investor Relations section. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer period; instructions will follow at that time. [Operator Instructions] As a reminder, ladies and gentlemen, this conference is being recorded today, Monday, August 8, 2016. Now, I would like to introduce Allen W. Nelson, Crawford & Company’s General Counsel and Chief Administrative Officer.

Thank you, Veneda. Some of the matters to be discussed in this conference call and in the supplementary financial presentation may include forward-looking statements that involve risks and uncertainties. These statements may include, but are not limited to statements regarding the funded status of our defined benefit pension plans, our expectations related to future revenues and expenses, expectations regarding the timing, costs and synergies related to our Global Business Services Center, our acquisition and integration of GAB Robins in the UK, as well as other restructuring activities, our long-term liquidity requirements and our ability to pay dividends in the future. The Company’s actual results achieved in future quarters could differ materially from results that maybe implied by such forward-looking statements. The Company undertakes no obligation to publicly release revisions to any forward-looking statements made in this conference call to reflect events or circumstances occurring after the date of the call or to reflect the occurrence of unanticipated events. In addition, you are reminded that operating results for any historical period are not necessarily indicative of results to be expected for any future period. For a complete discussion regarding factors which could affect the Company’s financial performance, please refer to the Company’s Form 10-Q for the quarter-ended June 30, 2016 filed with the Securities and Exchange Commission, particularly the information under the headings, Business, Risk Factors, Legal Proceedings and Management’s Discussion and Analysis of Financial Condition and Results of Operations, as well as subsequent Company filings with the SEC. This presentation also includes certain non-GAAP financial measures as defined under SEC rules. As required, a reconciliation is provided for those measures to the most directly comparable GAAP measures. I would now like to introduce Mr. Harsha Agadi, Chief Executive Officer of Crawford & Company. Harsha, you may begin our conference.

Good afternoon, and welcome to our second quarter 2016 earnings call. Joining me today are Bruce Swain, our CFO; and Allen Nelson, our General Counsel and Chief Administrative Officer. After our prepared remarks, we will open the call, as usual for your questions. To start, I am very excited with the opportunity our Board has given me to lead Crawford on a permanent basis, given the significant upside that I continue to see for our Company, employees, shareholders and clients. During my 10-month tenure as interim CEO, our team has made great progress in improving our financial results and preparing Crawford for both the opportunities and the challenges that lie ahead. As Crawford’s new CEO, I will build upon this momentum as our team’s focus will be on top line growth while remaining extremely vigilant on cost containment. Our second quarter results reflect the success that we have achieved in reducing our cost structure and positioning Crawford to expand our margins even in more difficult market environments like we experienced this quarter during which revenues before reimbursements declined by 7% year-over-year. Our revenue decline this quarter was primarily a result of the ongoing and expected contraction in Garden City Group segment as we continue to manage through the runoff of two large projects, foreign exchange headwinds from a stronger U.S. dollar that most businesses are experiencing and finally, softer trends in our U.S. Services segment. Importantly, non-GAAP consolidated operating earnings for the quarter were up 35% from the year ago quarter to $23.9 million, driven by strong operating margin expansion of 260 basis points to 8.5%. This margin expansion was largely driven by our restructuring initiatives successfully executed last year. As we have said, our focus is to transform Crawford into a business with more predictable financial results and growth regardless of the market backdrop. The robust margin expansion that we achieved is a clear indication that our restructuring initiatives have been successful in positioning Crawford to achieve our goals. Our non-GAAP consolidated adjusted EBITDA in 2016 quarter totaled $32.3 million, increasing 22% from the $26.5 million in the year ago quarter. I am going to repeat the sentence. Our non-GAAP consolidated adjusted EBITDA in the 2016 quarter totaled $32.3 million, increasing 22% from the $26.5 million in the year ago quarter. While we see further opportunities to reduce SG&A costs, margin expansion through cost reduction alone is not enough as we need to grow the top line. Looking forward, generating sales growth in 2017 and beyond is the topmost priority for our senor leadership team. Turning to our business segments in detail, U.S. Services delivered 16% operating margins which compares favorably to the 15% that was achieved in the second quarter of 2015. The 100 basis points of expansion was delivered in an extremely challenging environment where revenues declined by 12%, primarily due to a decline in weather-related case volumes combined with a reduction in revenues from a large outsource service contract. These declines were partially offset by strong results in our U.S. Contractor Connection business which experienced revenue growth of 24%. Contractor connections continues to be an important part of our suite of claims solutions to the property and casualty market, and remains a powerful engine of growth for Crawford with significant opportunity for expansion as we pursue new market opportunities internationally. We continue to be the only claims management company offering an end-to-end solution in the industry. As we briefly touched on last quarter, contractor connection has a substantial share of the managed repair business that is outsourced by insurance carriers. Today, we see two greenfield opportunities for incremental growth that we are actively pursuing. The first is the managed repair market that is in-sourced by insurance carriers and is about the same size of the outsource market. The second opportunity for expansion is the segment of the market where contractor programs are not utilized. While it is early, we are very excited with the significant growth opportunities that exist though we would caution that the sales cycles to bring a new client on-board are typically longer. Our next segment, the International segment had a strong quarter, driven by 800 basis points of margin expansion as a result of the expense reductions put through in 2015 combined with the benefits from the GAB Robins integration and the turnaround in the UK. Margin expansion remains a priority for the management team as we strive to deliver full year operating margins in excess of 10% in 2017. From a market perspective, case volumes declined versus the prior year, largely due to our decision to exit unprofitable product lines in certain Asia Pacific and Latin American countries, combined with the lower auto-related claims in Canada. That said, our intense focus on expense reduction and concentrating on more profitable product lines in our tier 1 operations in the UK, Canada and Australia has led to the better overall operating results. We will continue to focus on cost discipline and remain watchful for any potential disruptions resulting from the UK’s decision to exist the Eurozone. Our Broadspire segment delivered another consistent quarter of revenue growth and margin expansion, driven by growth in medical management and disability. Disability is an expansive addressable market that we’re particularly excited about, given the strong growth potential that exists. Overall, Broadspire’s new business pipeline is significant though the pace of wins in the second quarter was modest. Looking to the second half of 2016, the high level of RFP activity provides optimism that growth can continue at a healthy pace. Our Garden City Group segment continues to face headwinds given the steady decline of two large projects which are compressing revenues combined with a challenging market backdrop, given the dearth of large cases in the marketplace. These challenges resulted in second quarter revenue declining 20% year-over-year. That said, operating margins held steady at 11% versus the year ago period and actually climbed 500 basis points from the 2016 first quarter level, given a strong focus on cost discipline. Looking to the balance of the year, we will continue to streamline GCG expenses structure as well as review opportunities to make infrastructure costs and overheads more efficient. Looking forward, GCG’s competitive position remains strong as we continue to win significant high profile cases as can be seen by the second quarter’s wins, which included a large mass tort including asbestos that should continue for many years into the future, the DOJ U.S. Victims of State Sponsored Terrorism Fund; and the Barrick Gold Securities Litigation to name a few. As a result, our backlog remains robust with projected revenues of $94 million which provides good visibility into the balance of the year and into 2017. To conclude, I am pleased with the significant progress that we have achieved transforming Crawford’s operations, reducing excess costs and overhead and instilling and entrepreneurial culture. That said, I recognize the challenges we continue to face in our global claims businesses and the necessity of delivering top line growth. Senior management is very focused today on driving our sales pipeline, expanding our services across our business segments, and bringing new clients to Crawford. These initiatives however will take time to deliver results, given the inherent nature of our business relative to other industries. Over the balance of this year, we will continue to emphasize profitability and margin expansion as we pivot our focus to more profitable businesses while deliberately deemphasizing less desirable products and/or geographies. We believe that these efforts combined with our new business initiatives should position for top line growth, beginning in 2017. I would now like to turn the call over to Bruce to review the financial results of the second quarter in more detail.

Thank you, Harsha. Companywide revenues before reimbursements in the 2016 second quarter were $282.3 million, down 7% as compared with $304.4 million in the prior year’s second quarter, for the reasons Harsha previously mentioned. The Company’s selling, general and administrative expenses or SG&A, totaled $61 million, up from $57.2 million in the prior year quarter. As a percentage of revenues, these costs increased to 21.6% of revenues in the 2016 second quarter from 18.8% of revenues in the prior year quarter. This increase is primarily due to increased accounts receivable allowances and higher professional fees in the 2016 period. During the 2016 second quarter, the Company recorded restructuring and special charges of $3.5 million compared to $4.2 million in the 2015 quarter. These charges were associated with the ongoing implementation of the Global Business Services Center, the GAB Robins integration and other restructuring activities in operating and administrative areas around the world. Our net income attributable to shareholders of Crawford & Company totaled $8.6 million in the 2016 second quarter, more than doubling the net income of $4.1 million in the 2015 period. Second quarter 2016 diluted earnings per share were $0.16 for CRDA and $0.14 for CRDB compared to diluted earnings per share of $0.08 for CRDA and $0.06 for CRDB in the 2015 period. On a non-GAAP basis, before restructuring costs and special charges in both the 2016 and 2015 periods, second quarter 2016 diluted earnings per share were $0.27 for CRDA and $0.18 for CADB, compared to non-GAAP diluted earnings per share of $0.14 for CRDA and $0.12 for CRDB in the 2015 period. I will now review the second quarter performance of each of our business units, starting with the U.S. Services segment. Revenues from the U.S. Services segment totaled $58.8 million, down 12% from the $66.9 million reported in the last year’s quarter, primarily as a result of lower catastrophe revenues. Operating earnings in our U.S. Services segment were $9.6 million in the 2016 second quarter, or 16% of revenues, compared to operating earnings of $9.8 million, or 15% of revenues in the prior year quarter. Revenues generated by our catastrophe adjusters in the U.S. totaled $11.4 million in the 2016 second quarter, down from $21.5 million in the 2015 quarter. The revenue decrease for the 2016 quarter was primarily driven by lower revenues from a project base outsourcing contract with the major insurance carrier and a reduction in weather-related claims. International revenues decreased to $123.2 million from $129.5 million in the 2015 period, primarily due to a stronger U.S. dollar, which reduced revenues by 5% during the 2016 second quarter. International operating earnings were $11 million during the current quarter, increasing significantly over last year’s second operating earnings of $1.2 million. The operating margin in this segment was 9% in the 2016 period compared with 1% in the 2015 quarter. Broadspire revenues increased to $75.1 million in the 2016 second quarter, up from $73.7 million in the prior year quarter, primarily as a result of organic growth and new client wins. Operating earnings in Broadspire totaled $6.5 million, or 9% of revenues in the 2016 second quarter, increasing from operating earnings of $6 million, or 8% of revenues in the 2015 second quarter. Garden City Group revenues totaled $25.2 million in the 2016 second quarter, decreasing from $34.3 million in the prior year quarter. This anticipated revenue decrease was largely related to lower levels of work on certain large projects, which were continuing to wind down during the 2016 period. Operating earnings totaled $2.7 million in the 2016 second quarter, declining from $3.7 million in the prior year period. As a percentage of revenues, operating margin was 11% in both periods. Our backlog at the end of 2016 second quarter was $94 million compared to $88 million at the close of last year’s second quarter. The Company’s cash and cash equivalent position at June 30, 2016, totaled $59.4 million, as compared to $76.1 million at the 2015 year-end. Our investment in unbilled and billed receivables has increased by $20 million during the 2016 period, reflecting receivables growth in International and GCG. Pension liabilities decreased by $7.2 million, reflecting cash contributions made in the U.S. and UK during the first half of 2016. Our total debt decreased in the 2016 period by $9.2 million. Cash provided by operations totaled $11.5 million for the 2016 year-to-date period compared to $10.2 million provided in the prior year. Our year-to-date increase in net income was largely offset by increased working capital requirements. Let me now review the reaffirmed guidance for 2016. 2016 guidance includes the impact of restructuring costs related to the ongoing implementation of the Global Business Services Center, the completion of the GAB Robins integration and other activities. In the aggregate, these 2016 charges total approximately $15.6 million pretax or $0.19 in diluted earnings per share. Our 2016 guidance is as follows: Consolidated revenues before reimbursements between $1.05 billion and $1.1 billion. I would state that while we’re comfortable in reaffirming our guidance for the year, our revenue guidance does suggest that the second half of the year revenues will be below the first half as we expect continued FX headwinds, the ongoing runoff of certain GCG contracts, and the anticipated wind down of the outsourcing project in U.S. Services. After the restructuring charges, net income attributable to shareholders of Crawford & Company between $24 million and $30 million or $0.48 to $0.58 per diluted CRDA share and $0.40 to $0.50 per diluted CRDB share; consolidated operating earnings between $80 million and $90 million; consolidated adjusted EBITDA between $120 million and $130 million; and before reflecting the restructuring costs, net income attributable to shareholders of Crawford & Company on a non-GAAP basis between $36 million and $42 million, or $0.67 to $0.77 per CRDA share and $0.59 to $0.69 diluted earnings per share for CRDB. With that, I would like to turn the call back to Harsha for concluding remarks.

Thank you, Bruce. And thank you all for joining our call this afternoon. As can be seen in our reaffirmed guidance, we have made significant strides positioning Crawford to deliver more consistent and predictable financial results even in more challenging markets, like we experienced this quarter. Our operating earnings and EBITDA have experienced significant growth, our weather dependency continues to decline and our top line growth initiatives are starting to take hold. I am pleased with our progress and remain confident that Crawford is well-positioned for the next phase of our strategic plan, returning the Company to top line growth in 2017. In essence, ladies and gentlemen, Crawford is rising, earnings per share is rising. Operator, please open the call to questions.

[Operator Instructions] Your first question is from the line of Adam Klauber with William Blair.

Thanks. Couple of different questions. Garden City, nice to see the backlog pick up; how’s the pipeline going forward?

Pipeline, Adam, is very strong. They’ve won some I’d call them mid-sized cases. And if anything, they hit rate on the RFPs at this time is higher than a year ago. So, the current management which includes obviously Ken and the broader leadership are in my opinion doing much better than a year ago, and this team was not in charge a year ago. So, they’re hitting at a higher batting average, if you will. And therefore, we look pretty good in terms of Garden City’s growth into 2017.

The margin on Garden City was better this quarter than it’s been the last couple of quarters. Is that getting ahead or do you think you can maintain always the 10% margin in that business for the near-term?

I think for the near-term, 10% would be a good goal to maintain. But as they scale into next year and revenues go up, they should be able to pick up some margin; also, they are constantly looking for efficiencies. And as they look for more efficiency in the second half of the year, some of that impact will also come into next year where the margins will go up. We’re in the middle of our planning stages now, as you would expect, being August. So, we’re actually pointed north in my opinion, both on revenue and margins with Garden City.

And then, in the Americas, you mentioned that part of the revenue decline was one large outsourced contract going way. Is this the first quarter that was impacted? And can you give the size of how big that contract is and will that hit the next couple of quarters also?

Hi, Adam, this is Bruce. Yes, last year that contract was worth about $52 million for us in 2015 and the [audio gap] quarter this year is the first quarter where we saw any real decline. We think that that contract decline over the next couple of quarters as well and then we’ll reassess where we’re in terms of 2017. But the second is really the first time we had any visibility into where that contract was going this year.

I think in addition, Adam, just to kind of give you a snapshot of the relationship, and it’s Americas, it’s U.S. Services, but some continent, the service level and the operational execution is superb with the client, client’s very happy. There is continued dialogue; I have meetings coming up. And we might get a different kind of revenue from them. And as we offer a full suite of services, our dialogues with our clients have expanded from a single service officering to a suite of services, so we might actually see upside; having said that, we’re still in the middle of that process, as we speak.

So, has that contract ended or is it just winding down? And I guess…

They’re making some shifts in certain centers that they’re working through. So, it’s not winding down per se, but with those shifts we might have a little loss of revenue or we might have a little pickup of revenue. But we’ll know that more till the end of the year, as we get closer to the end of the year. The good news is contractor connection which is sitting in the same segment is actually growing leaps and bounds as they grew about 25% or 24% versus year ago. So, we have that revenue partially offsetting some of this decline.

So, it’s not that the 52 is totally going away, but it’s just declining from where was that?

Correct.

What are your thoughts on using cash flow over the next 6 to 12 months?

We look at cash flow usage of capital expenditure certainly and investing back in the business. We’re committed to paying a healthy dividend as we’ve been doing and as we declared today. And then, we’ll look at deleveraging in the absence of any other compelling strategic alternative in front of us.

Yes. I think Adam, we have a fixation and maybe you might question that. We like being, if you will, the lowest levered company in the segment. And our debt to begin with is significantly lower, significantly lower than our competition. And we intend to continue to pay that down. We will continue to be quite discriminatory in terms of how we look at M&A. And we’re going to be very-disciplined when we’re looking at M&A, is it adding a good ardency to us and are we buying it at descent multiple, and what are we at Crawford bringing to the table to that acquisition. In addition, we are looking at leveraging more and more of technology to play a role in our future innovation. So, some of that CapEx will go in that direction as well.