10-Q: Quarterly report pursuant to Section 13 or 15(d)
Published on March 29, 1999
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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended January 31, 1999 or
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to
Commission File Number 001-14505
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KORN/FERRY INTERNATIONAL
(Exact name of registrant as specified in its charter)
1800 Century Park East, Suite 900
Los Angeles, California 90067
(Address of principal executive offices) (Zip code)
(310) 843-4100
(Registrant's telephone number, including area code)
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Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months, and (2) has been subject to such filing
requirements for the past 90 days. Yes [_] No [X]
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
The number of shares outstanding of the Company's common stock as of March
22, 1999 was 35,751,774.
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KORN/FERRY INTERNATIONAL AND SUBSIDIARIES
Table of Contents
2
PART 1. FINANCIAL INFORMATION
Item 1. Consolidated Financial Statements
KORN/FERRY INTERNATIONAL AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(in thousands)
The accompanying notes are an integral part of these consolidated financial
statements.
3
KORN/FERRY INTERNATIONAL AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS-(Continued)
(in thousands)
The accompanying notes are an integral part of these consolidated financial
statements.
4
KORN/FERRY INTERNATIONAL AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(in thousands, except per share amounts)
The accompanying notes are an integral part of these consolidated financial
statements.
5
KORN/FERRY INTERNATIONAL AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
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(1) Includes initial public offering costs of $3.3 million paid in the nine
months ended January 31, 1999.
The accompanying notes are an integral part of these consolidated financial
statements.
6
KORN/FERRY INTERNATIONAL AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
(in thousands, except per share amounts)
Note 1. Summary of Significant Accounting Policies
Basis of Presentation
The consolidated balance sheet as of January 31, 1999, the consolidated
statements of income for the three months and nine months ended January 31,
1999 and 1998 and the consolidated statements of cash flows for the nine
months ended January 31, 1999 and 1998 are unaudited. These consolidated
financial statements include the accounts of Korn/Ferry International, all of
its wholly owned domestic and international subsidiaries, and affiliated
companies in which the Company has effective control (collectively, the
"Company") and include all adjustments, consisting of normal recurring
accruals and any other adjustments which management considers necessary for a
fair presentation of the results for these periods. These financial statements
have been prepared consistent with the accounting policies described in the
Company's Registration Statement on Form S-1 (File No. 333-61697) as declared
effective by the Securities and Exchange Commission ("SEC") on February 10,
1999 and should be read in conjunction therewith.
Use of Estimates in the Preparation of Financial Statements
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of asset and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. As a result, actual results could differ from these
estimates.
Note 2. Basic and Diluted Earnings Per Share
Basic earnings per common share ("basic EPS") was computed by dividing net
income by the weighted average number of common shares outstanding during the
period. Diluted earnings per common and common equivalent share ("diluted
EPS") was determined by dividing the net income by the weighted average number
of shares of common stock outstanding and dilutive common equivalent shares.
Following is a reconciliation of the numerator (income) and denominator
(shares) used in the computation of basic and diluted EPS:
The share amounts in the table above reflects a 4 to 1 stock split approved
by the Board of Directors on July 24, 1998. The Company filed an amendment to
the existing Articles of Incorporation to increase the authorized capital
stock and effect the 4 to 1 split of the Common Stock on February 10, 1999.
The financial statements have been retroactively restated for the effects of
this transaction.
7
KORN/FERRY INTERNATIONAL AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Note 3. Comprehensive income
The Company adopted Statement of Financial Accounting Standards No. 130
(SFAS 130), "Reporting Comprehensive Income," in the fiscal year ended April
30, 1998. Comprehensive income is comprised of net income and all changes to
stockholders' equity, except those changes resulting from investments by
owners (changes in paid in capital) and distributions to owners (dividends).
SFAS 130 requires disclosure of the components of comprehensive income in
interim periods.
Total comprehensive income is as follows:
Note 4. Non-recurring charges
Non-recurring charges aggregating $8.4 million were recognized in the three
months ended January 31, 1999. These charges consist of severance and benefit
costs related to staff downsizing, modification to existing stock repurchase
agreements, the resignation of Michael D. Boxberger as President and Chief
Executive Officer of the Company in December 1998, and office rationalization
costs.
The Company recently completed an evaluation of its worldwide operations and
revenues, compensation costs and other operating expenses for each of its
offices and geographic locations. The Company conducted the evaluation in
order to identify, and eventually eliminate, existing inefficiencies and
excess costs and to better align and enhance the competitive position of the
Company within each region. The Company assessed staff levels and office needs
based on individual performance and the economic conditions and the outlook in
each region. The Company has identified approximately 40 employees that will
be, or have been, terminated and a few underperforming European offices that
will be downsized or relocated to more efficient premises. As a result of this
analysis, a charge to earnings of approximately $5.2 million for severance and
benefit costs related to staff downsizing was recognized in compensation and
benefits expense in the three months ended January 31, 1999. This expense is
comprised of a $3.2 million non-cash charge to earnings related to the release
of existing book value stock repurchase requirements for nine terminated
employees and $2.0 million for severance and benefit payments for
approximately 26 employees, of which $0.6 million was paid as of January 31,
1999. The Company expects to finalize the severance and benefits charge to
earnings in the fourth quarter and estimates an additional charge to earnings
of $1.2 million to $1.6 million. The Company also recognized a charge of $0.6
million, of which $0.2 million was paid as of January 31, 1999, for lease
renegotiation and other relocation costs included in general and
administrative expense for the three months and nine months ended January 31,
1999. The Company believes these non-recurring charges will not not impact
cash flows beyond fiscal 2000.
In connection with the resignation of Michael D. Boxberger, the Company
recognized a charge of $2.6 million included in compensation and benefits
expense. This charge is comprised of $1.5 million for compensation and other
amounts payable over the next ten months, of which $0.2 million was paid as of
January 31, 1999 and a $1.1 million non-cash charge to earnings representing
the difference between the then current book value and the appraised value of
165,168 common shares he retained subsequent to his resignation.
8
KORN/FERRY INTERNATIONAL AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Note 5. Subsequent events
On February 10, 1999, the following events occurred: (a) the SEC declared
effective the Company's Registration Statement on Form S-1 (File No. 333-
61697) relating to the public offering of 11.8 million shares of the Company's
common stock, (b) the Company's Amended and Restated Articles of Incorporation
became effective upon their filing with the California Secretary of State, (c)
the underwriters commenced the public offering and (d) the Company's Amended
and Restated Bylaws became effective. The Company's common stock began trading
on the New York Stock Exchange on February 11, 1999 under the symbol "KFY."
On February 17, 1999, the Company completed the public offering of an
aggregate of 11.8 million shares of common stock at $14.00 per share, of which
approximately 10.0 million shares were offered by the Company and
approximately 1.8 million shares were offered by selling shareholders,
resulting in net proceeds (after deducting underwriting discounts and other
expenses payable by the Company) of $130.8 million to the Company and $24.4
million to the selling shareholders. The Company also received approximately
$3.0 million from the repayment by certain selling shareholders of loans from
the Company to those selling shareholders. The Company used approximately
$14.4 million of the net proceeds to repay its term loan and all outstanding
indebtedness under the Company's credit facilities, including amounts borrowed
subsequent to January 31, 1999, approximately $32.8 million to complete the
redemption by the Company of certain shares of its capital stock, including
shares owned by certain shareholders under the terms of a 1994 stock
redemption agreement and the outstanding shares of Series A and B preferred
stock, and approximately $4.3 million to pay existing obligations to former
holders of phantom units and stock appreciation rights. The remaining proceeds
will be used for possible future acquisitions, working capital and general
corporate purposes, including the expansion of Futurestep, the Company's
Internet-based search service, and continued development of technology,
information systems and infrastructure. The Company has currently invested the
remaining proceeds in short-term high grade commercial paper, bonds, and other
securities.
The Company recognized a non-recurring compensation and benefits expense of
$77.0 million in the fourth quarter, at the completion of the public offering,
comprised of (a) $45.4 million representing the difference between the
issuance price of the shares issued by the Company in the period beginning
twelve months before the initial filing date of the Registration Statement
relating to the public offering and the fair market value of the shares at the
date of grant, (b) $27.3 million from the completion of the redemption by the
Company of certain shares of its capital stock, including the payment of
additional redemption amounts to certain shareholders under the terms of a
1994 stock redemption agreement and (c) $4.3 million from the payment of
existing obligations to former holders of phantom units and stock appreciation
rights. As a result, the Company will report a substantial net loss for fiscal
1999 after giving effect to these expenses and charges.
Upon consummation of the public offering, the Company's revised compensation
program became effective for the fiscal year commencing May 1, 1998. The
revised compensation program is intended to reduce the amount of consultants'
annual cash performance bonus payments and provides for the issuance of
options to purchase up to 7.0 million shares of Common Stock at the market
value at the time of the grant. Compared to the prior program, the revised
compensation program results in a reduction in bonus expense of $15.6 million
for the nine months ended January 31, 1999, of which $10.2 million was accrued
as of October 31, 1998.
On February 12, 1999, the Company entered into a $50.0 million credit
facility with Mellon Bank, N.A. and Bank of America National Trust and Savings
Association that replaced the Company's existing line of credit. The new
credit facility is a three year, unsecured revolving credit facility and
includes a standby letter of credit subfacility. Interest rates on outstanding
borrowings will be at various rates based on either a LIBOR index or the
bank's prime lending rate, as determined at the Company's option. As of March
26, 1999, there were no outstanding borrowings under the revolving line of
credit.
9
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
Overview
Korn/Ferry International is the world's largest executive search firm and
has the broadest global presence in the industry with 399 consultants based in
71 offices across 41 countries. Korn/Ferry's clients are many of the world's
largest and most prestigious public and private companies, middle-market and
emerging growth companies as well as governmental and not-for-profit
organizations. Almost half of the searches performed by the Company in fiscal
1998 were for board level, chief executive and other senior executive officer
positions and approximately 43% of the Company's 3,750 clients were Fortune
500 companies. The Company has established strong client loyalty; more than
80% of the search assignments it performed in fiscal 1998 were on behalf of
clients for whom it had conducted multiple assignments over the last three
fiscal years.
On February 17, 1999, the Company completed the public offering of 11.8
million shares of its common stock at $14.00 per share, approximately 10.0
million of which were sold by the Company, with the balance sold by certain
selling shareholders of the Company. Net proceeds received by the Company from
the offering were approximately $130.8 million. See "Recent Events" at page
15.
Upon consummation of the public offering, the Company's revised compensation
program became effective for the fiscal year commencing May 1, 1998. The
revised compensation program is intended to reduce the amount of consultants'
annual cash performance bonus payments and provides for the issuance of
options to purchase up to 7.0 million shares of Common Stock at the market
value at the time of the grant. Compared to the prior program, the revised
compensation program results in a reduction in bonus expense of $15.6 million
for the nine months ended January 31, 1999, of which $10.2 million was accrued
as of October 31, 1998.
In May 1998, the Company introduced its Internet-based service,
Futurestep.com (Futurestep). Futurestep combines Korn/Ferry's search expertise
with exclusive candidate assessment tools and the reach of the Internet to
accelerate recruitment of candidates for middle-management positions.
Futurestep's operating losses approximated $0.7 million for fiscal 1998 and
$10.5 million for the nine months ended January 31, 1999 and are primarily
related to compensation expense, start-up costs and advertising expense to
promote and expand the business rollout. The Company believes Futurestep will
generate operating losses through at least the end of fiscal 2000. On March 5,
1999, the Company completed its national rollout of Futurestep expanding into
the Midwest and Southwest regions of the United States. Approximately 220,000
candidates worldwide had completed a detailed on-line profile at the
completion of the national rollout. Futurestep plans to expand in other
selected foreign markets through fiscal year 2000.
The Company and Futurestep are in the first year of a three-year contract
for an exclusive alliance with The Wall Street Journal, which provides the
Company with reduced advertising rates, requires the purchase by Futurestep of
a minimum amount of print and on-line advertising and permits the use of The
Wall Street Journal name in connection with promotion of the Futurestep
service. The contract requires the Company and Futurestep to purchase from The
Wall Street Journal a minimum of $2.9 million, $3.4 million and $4.4 million
of print and on-line advertising in the first, second and third year of the
contract, respectively. From the beginning of the contract in June 1998
through January 31, 1999, the Company and Futurestep purchased $2.2 million of
advertising.
If Futurestep ceases its operations or certain services prior to June 9,
1999, the Company and Futurestep would be obligated to pay The Wall Street
Journal any unpaid remainder of the first year annual minimum payment amount.
The Wall Street Journal may terminate the contract at any time if (a) the
Company or Futurestep breach a material provision of the contract, (b) there
is an effective change in control of the Company or Futurestep (other than
pursuant to a registered offering) or (c) any party to the contract is
adjudged to be insolvent or bankrupt. If the contract terminates for any of
these reasons during the initial three-year term, the Company and Futurestep
would be obligated to pay any unpaid remainder of the annual minimum payment
amount for the year in which termination occurs plus an additional $2.5
million.
As the largest global executive search firm, the Company believes it has the
resources to be one of the leaders in the consolidation of the highly
fragmented search industry. The Company frequently evaluates
10
opportunities to expand its business through acquisitions, and from time to
time, the Company engages in discussions with potential targets. Since fiscal
1993, the Company has completed six acquisitions, including recent
acquisitions in France and Switzerland. The Company views strategic
acquisitions as a key component of its long term growth strategy and intends
to pursue future acquisition opportunities.
Results of Operations
The following table summarizes the results of the Company's operations for
the three months and nine months ended January 31, 1999 and 1998 as a
percentage of net revenues.
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(1) For the three months and nine months ended January 31, 1999, operating
profit as a percentage of net revenues is 15% and 14%, respectively,
excluding Futurestep, non-recurring charges of $8.4 million and the $10.2
million reduction in accrued bonus expense for the six months ended
October 31, 1998 included in the three months ended January 31, 1999.
Futurestep losses were $3.4 million and $10.5 million in the three months
and nine months ended January 31, 1999.
The Company experienced growth in total revenues in all geographic regions
for the three months ended January 31, 1999 except for Latin America. For the
nine months ended January 31, 1999, all regions reported an increase in total
revenues except for Asia/Pacific. The Company includes revenues generated from
its Mexican operations with the results for Latin America. Futurestep revenues
of $1.6 million and $2.3 million for the three months and nine months ended
January 31, 1999, respectively, are included in North America.
Non-recurring Charges
Non-recurring charges aggregating $8.4 million were recognized in the three
months ended January 31, 1999. These charges consist of severance and benefit
costs related to staff downsizing, modification to existing stock repurchase
agreements, the resignation of Michael D. Boxberger as President and Chief
Executive Officer of the Company in December 1998, and office rationalization
costs.
The Company recently completed an evaluation of its worldwide operations and
revenues, compensation costs and other operating expenses for each of its
offices and geographic locations. The Company conducted the evaluation in
order to identify, and eventually eliminate, existing inefficiencies and
excess costs and to better align and enhance the competitive position of the
Company within each region. The Company assessed staff levels and office needs
based on individual performance and the economic conditions and the outlook in
each region. The Company has identified approximately 40 employees that will
be, or have been, terminated and a few underperforming European offices that
will be downsized or relocated to more efficient premises. As a result of this
analysis, a charge to earnings of approximately $5.2 million for severance and
benefit costs related to
11
staff downsizing was recognized in compensation and benefits expense in the
three months ended January 31, 1999. This expense is comprised of a $3.2
million non-cash charge to earnings related to the release of existing book
value stock repurchase requirements for nine terminated employees and
$2.0 million for severance and benefit payments for approximately 26
employees, of which $0.6 million was paid as of January 31, 1999. The Company
expects to finalize the severance and benefits charge to earnings in the
fourth quarter and estimates an additional charge to earnings of $1.2 million
to $1.6 million. The Company also recognized a charge of $0.6 million, of
which $0.2 million was paid as of January 31, 1999, for lease renegotiation
and other relocation costs included in general and administrative expense for
the three months and nine months ended January 31, 1999. The Company believes
these non-recurring charges will not impact cash flows beyond fiscal 2000.
In connection with the resignation of Michael D. Boxberger, the Company
recognized a charge of $2.6 million included in compensation and benefits
expense. This charge is comprised of $1.5 million for compensation and other
amounts payable over the next ten months, of which $0.2 million was paid as of
January 31, 1999 and a $1.1 million non-cash charge to earnings representing
the difference between the then current book value and the appraised value of
165,168 common shares he retained subsequent to his resignation.
In the following comparative analysis, all percentages are calculated based on
dollars in thousands.
Three Months Ended January 31, 1999 Compared to Three Months Ended January 31,
1998
Total Revenues
Total revenues increased $9.6 million, or 11.5%, to $92.2 million for the
three months ended January 31, 1999 from $82.6 million for the three months
ended January 31, 1998. The increase in total revenues was primarily
attributable to a 10% increase in the average number of consultants and a 7%
increase in the number of engagements, and revenues from Futurestep in the
current three month period.
In North America, total revenues, including Futurestep revenues of $1.6
million in the current three month period, increased $6.6 million, or 15.6%
(11.9% excluding Futurestep), to $49.5 million for the three months ended
January 31, 1999 from $42.9 million for the three months ended January 31,
1998. Total revenues in Europe increased $2.7 million, or 11.5%, to $26.5
million for the three months ended January 31, 1999 from $23.8 million for the
comparable prior year period. In Asia/Pacific, total revenues increased $1.3
million, or 15.3%, to $9.3 million for the current three month period from
$8.0 million for the three months ended January 31, 1998. Total revenues
declined $1.2 million in Latin America, or 13.9%, to $6.8 million for the
three months ended January 31, 1999 from $8.0 million for the comparable prior
year period.
Total revenue growth in North America and Asia/Pacific was attributable
mainly to a 10% and 5% increase, respectively, in the average number of
consultants and an increase of 14% and 8%, respectively, in the number of
engagements. The growth in total revenues also reflects the addition of
revenues from two offices in North America that were opened in fiscal 1998 and
revenues of $1.6 million from Futurestep for the three months ended January
31, 1999. The growth in total revenues in Europe for the three months ended
January 31, 1999 primarily reflects the additional revenues generated from
acquisitions of businesses in France and Switzerland completed in the first
quarter of fiscal 1999 and two offices that were opened in fiscal 1998. The
decline in total revenues for Latin America for the three months ended January
31, 1999 as compared to the three months ended January 31, 1998 was
attributable to continued economic uncertainty in this region, primarily in
Brazil. The Company believes Latin America total revenues in the fourth
quarter of fiscal 1999 may continue to decline in that region but the impact
on the Company's total revenues is not expected to be significant.
Compensation and Benefits
Compensation and benefits, increased $0.4 million, or 1%, to $51.3 million
for the three months ended January 31, 1999 from $50.9 for the comparable
period ended January 31, 1998. The current year three month period includes
$7.8 million of non-recurring charges previously discussed offset by a
reduction in bonus expense of $15.6 million. The reduction in bonus expense
results from implementation of the Company's revised compensation program in
the third quarter, effective as of May 1, 1998, and includes a $10.2 million
credit
12
related to bonus expense accrued as of October 31, 1998. As a result,
compensation and benefits as a percentage of net revenues in the three months
ended January 31, 1999 decreased to 58% from 64% in the three months ended
January 31, 1998. Excluding the non-recurring charges, the $10.2 million
credit and Futurestep expenses, compensation and benefits increased $2.7
million due primarily to a 10% and 15% increase in the average number of
consultants and average total headcount for the three months ended January 31,
1999 over the comparable period in 1998 and Futurestep compensation and
benefits expense of $1.9 million in the three months ended January 31, 1999,
offset by the favorable impact of the new compensation program of $5.4 million
in the current year three month period.
General and Administrative Expenses
General and administrative expenses consist of occupancy expense associated
with the Company's leased premises, investments in information and technology
infrastructure, marketing and other general office expenses. General and
administrative expenses increased $2.9 million, or 12%, to $26.2 million in
the three months ended January 31, 1999 from $23.3 million for the comparable
period ended January 31, 1998. This increase was attributable largely to
Futurestep expenses of $3.1 million, primarily related to business development
in the current three month period and a non-recurring charge of $0.6 million,
previously discussed, partially offset by a decrease in other business
development expenses. As a percentage of net revenues, general and
administrative expenses, excluding Futurestep related revenues and expenses
and the non-recurring charge, declined to 25.9% for the three months ended
January 31, 1999 from 29.4% for the comparable period in 1998. The decrease
primarily reflects the larger percentage increase in revenues in the current
year three month period.
Operating Profit
Operating profit includes interest income and other income. Operating profit
increased $6.0 million in the three months ended January 31, 1999, to $11.1
million, or 12% of net revenues from $5.1 million, or 6% of net revenues in
the prior year three month period. For the three months ended January 31,
1999, operating profit included Futurestep losses of $3.4 million, a non-
recurring charge of $8.4 million, previously discussed, and a lower level of
bonus expense attributable to the new compensation plan of $15.6 million, of
which $10.2 million was accrued as of October 31, 1998. Excluding all of these
items, operating profit in the three months ended January 31, 1999 is 8% of
net revenues.
Operating margins increased in all the geographic regions in the three
months ended January 31, 1999 compared to the year ago three month period due
primarily to the $15.6 million favorable impact from implementation of the new
compensation program offset by the non-recurring charge of $8.4 million and
Futurestep losses of $3.4 million in the current three month period. Excluding
these items, the operating margin would still have increased in all geographic
regions but to a lesser degree. North America, Europe and Asia/Pacific
operating margins positively reflect the increase in revenues discussed above.
Improvement realized in the Latin American margin is attributable primarily to
aggressive cost containment in anticipation of the decline in revenues
previously discussed.
Interest Expense
Interest expense increased $0.3 million to $1.3 million for the three months
ended January 31, 1999 from $1.0 million for the three months ended January
31, 1998. The increase in interest expense for the current three month period
reflects the Company's increased borrowings under Company-owned life insurance
(COLI) policies offset by a lower average outstanding long-term debt balance.
Provision for Income Taxes
The provision for income taxes increased $2.1 million to $4.0 million for
the three months ended January 31, 1999 from $1.9 million for the comparable
period ended January 31, 1998. The effective tax rate was 41% for the current
year three month period as compared to 47% for the prior year three month
period. The reduction in the effective tax rate resulted primarily from a
decrease in foreign cash remittances which are treated as taxable income in
the United States when received.
13
Nine Months Ended January 31, 1999 Compared to Nine Months Ended January 31,
1998
Total Revenues
Total revenues increased $46.1 million, or 20%, in all geographic regions
except Asia/Pacific, to $275.9 million for the nine months ended January 31,
1999 from $229.8 million for the nine months ended January 31, 1998. The
increase in total revenues was primarily attributable to a 12% increase in the
average number of consultants and an 11% increase in number of engagements in
the current year nine month period.
In North America, total revenues increased $31.2 million, or 27%, to $146.5
million for the nine months ended January 31, 1999 from $115.3 million for the
nine months ended January 31, 1998. In Europe, total revenues increased $15.5
million, or 24%, to $79.2 million for the nine months ended January 31, 1999
from $63.7 million for the comparable period ended January 31, 1998. Total
revenues in Latin America increased $0.3 million, or 2%, to $24.1 million for
the nine months ended January 31, 1999 from $23.8 million for the comparable
period ended January 31, 1998. Total revenues declined $1.1 million in
Asia/Pacific, or 4%, to $26.0 million for the nine months ended January 31,
1999 from $27.1 million for the nine months ended January 31, 1998.
Total revenue growth in North America, Europe and Latin America was
attributable largely to a 10%, 12%, and 14% increase, respectively, in the
average number of consultants in the respective regions. In North America, the
growth in total revenues also reflects a 20% increase in the number of
engagements, a 6% increase in the average fee per engagement, the addition of
revenues from two offices in North America that were opened in fiscal 1998 and
revenues of $2.3 million from Futurestep for the nine months ended January 31,
1999. The growth in total revenues in Europe for the nine months ended January
31, 1999 was also driven by a 15% increase in the number of engagements
largely resulting from acquisitions of businesses in France and Switzerland
completed in the first quarter of fiscal 1999, two new offices that were
opened in fiscal 1998 and a 9% increase in average fee per engagement. The
growth in total revenues in Latin America was primarily attributable to
additional revenues generated from one additional office that was opened in
fiscal 1998 and strong performance in Mexico offset by continued economic
uncertainty in the region (primarily Brazil) in the most recent three month
period. The decline in total revenues for Asia/Pacific in the nine months
ended January 31, 1999 was attributable to the continued economic uncertainty
in the region. Due to recent economic improvements in the region, the Company
believes that total revenues may have stabilized.
Compensation and Benefits
Compensation and benefits increased $20.6 million, or 14%, to $167.7 million
for the nine months ended January 31, 1999 from $147.1 million for the
comparable period ended January 31, 1998. In the nine months ended January 31,
1999, compensation and benefits includes Futurestep expenses of $3.7 million
and non-recurring charges of $7.8 million offset by a $15.6 million decrease
in bonus expense accrued under the Company's revised compensation program
compared to the previous compensation program. The revised compensation
program was implemented in the current three month period effective as of the
beginning of fiscal 1999. These items resulted in a net credit in the current
nine month period of $4.1 million and contributed significantly to the
decrease in compensation and benefits as a percentage of net revenues to 63%
in the nine months ended January 31, 1999 from 67% in the nine months ended
January 31, 1998.
General and Administrative Expenses
General and administrative expenses increased $19.0 million, or 32%, to
$78.2 million in the nine months ended January 31, 1999 from $59.2 million for
the comparable period ended January 31, 1998. As a percentage of net revenues,
general and administrative expense increased to 29.6% in the current year nine
month period from 26.9% in the comparable prior year nine month period. This
increase is primarily related to Futurestep expenses of $9.0 million, of which
approximately $8.0 million related to business development, and $0.6 million
of non-recurring charges, previously discussed, in the current year nine month
period. Excluding the Futurestep expenses and the non-recurring charges,
general and administrative expenses, as a percentage of net revenues, declined
slightly to 26.2% in the nine months ended January 31, 1999 from 26.9% in the
year ago nine month period. The decrease was primarily due to the relatively
higher percentage increase in revenues and elimination of excess costs in the
current nine month period.
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Operating Profit
Operating profit includes interest income and other income. For the nine
months ended January 31, 1999, operating profit also includes Futurestep
losses of $10.5 million, non-recurring charges of $8.4 million and a lower
level of bonus expense attributable to the revised compensation program of
approximately $15.6 million. Operating profit in the nine months ended January
31, 1999 increased $5.0 million, to $18.4 million, or 7% of net revenues from
$13.4 million, or 6% of net revenues, in the comparable prior year nine month
period. For the nine months ended January 31, 1999, operating margins
increased across all regions compared to the same nine month period in fiscal
1998 due to the increase in revenues discussed above and the reduced level of
bonus expense that substantially offset the Futurestep losses and the non-
recurring charges.
North America and Latin America contributed over 80% of consolidated
operating profit excluding Futurestep losses in the nine months ended January
31, 1999 and 1998. The North American region, excluding Futurestep losses,
contributed approximately 57% of the Company's operating profit for the nine
months ended January 31, 1999 and 1998 while the Latin America region
contribution decreased to 25% for the nine months ended January 31, 1999
compared to 36% in the same nine month period in the prior year. The European
region contributed approximately 10% to the Company's operating profit for the
nine months ended January 31, 1999 compared to 2% in the comparable period of
fiscal year 1998. Operating profit contributed by Asia/Pacific increased to 7%
for the nine months ended January 31, 1999 from 5% in the nine months ended
January 31, 1998.
Interest Expense
Interest expense increased $1.2 million to $3.9 million for the nine months
ended January 31, 1999 from $2.7 million for the nine months ended January 31,
1998. The increase in interest expense for the current nine month period
reflects the Company's increased borrowings under COLI policies and the
Company's credit facility.
Provision for Income Taxes
The provision for income taxes increased $1.1 million to $6.1 million for
the nine months ended January 31, 1999 from $5.0 million for the comparable
prior year period. The effective tax rate was 42% for the current year nine
month period as compared to 47% for the prior year nine month period. The
reduction in the effective tax rate resulted primarily from a decrease in
foreign cash remittances which are treated as taxable income in the United
States when received.
Recent Events
On February 17, 1999, the Company completed the public offering of an
aggregate of 11.8 million shares of common stock at $14.00 per share, of which
approximately 10.0 million shares were offered by the Company and
approximately 1.8 million shares were offered by selling shareholders,
resulting in net proceeds (after deducting underwriting discounts and other
expenses payable by the Company) of $130.8 million to the Company and $24.4
million to the selling shareholders. The Company also received approximately
$3.0 million from the repayment by certain selling shareholders of loans from
the Company to those selling shareholders. The Company used approximately
$14.4 million of the net proceeds to repay its term loan and all outstanding
indebtedness under the Company's credit facilities, including amounts borrowed
subsequent to January 31, 1999, approximately $32.8 million to complete the
redemption by the Company of certain shares of its capital stock, including
shares owned by certain shareholders under the terms of a 1994 stock
redemption agreement and the outstanding shares of Series A and B preferred
stock, and approximately $4.3 million to pay existing obligations to former
holders of phantom units and stock appreciation rights. The remaining proceeds
will be used for possible future acquisitions, working capital and general
corporate purposes, including the expansion of Futurestep, and continued
development of technology, information systems and infrastructure. The Company
has currently invested the remaining proceeds in short-term high grade
commercial paper, bonds, and other securities.
Liquidity and Capital Resources
The Company finances operating expenditures primarily through cash flows
from operations and maintains a line of credit to manage timing differences
between cash receipts and disbursements. During the nine months
15
ended January 31, 1999 and 1998, cash provided by operating activities was
$13.7 million and $12.2 million, respectively. Included in the operating cash
flows for the nine months ended January 31, 1999, was approximately $1.0
million of cash used for non-recurring items consisting of severance and
benefit payments related to staff downsizing, modification to existing stock
repurchase agreements and office rationalization. See "Management's Discussion
and Analysis of Financial Condition and Results of Operations--Non-recurring
Charges."
As of January 31, 1999, the Company had a $4.0 million outstanding term
loan, maturing in November 2002, and outstanding borrowings of $4.0 million
under the revolving line of credit. The Company repaid these borrowings and
subsequently incurred borrowings in an aggregate amount of $14.4 million with
proceeds received from the offering in February 1999. To provide additional
liquidity, the Company obtained a $50.0 million credit facility with Mellon
Bank, N.A. and Bank of America National Trust and Savings Association to
replace the existing line of credit. The credit facility is a three year
unsecured revolving facility and includes a standby letter of credit
subfacility. Outstanding borrowings will bear interest at various rates based
on either a LIBOR index or the bank's prime lending rate, as determined at the
Company's option. The financial covenants include a minimum tangible net
worth, a maximum leverage ratio and interest coverage ratios and customary
events of default. As of March 26, 1999, the Company had no outstanding
balance on the credit facility.
Capital expenditures totaled $6.2 million and $7.0 million for the nine
months ended January 31, 1999 and 1998, respectively. These expenditures
consisted primarily of upgrades to information systems, purchases of office
equipment and leasehold improvements. Although capital expenditures declined
$0.8 million in the nine months ended January 31, 1999 compared to the prior
year nine month period, the Company expects to maintain capital expenditures
in fiscal 1999 at the fiscal 1998 level to support office expansion and
technology investments. In addition, the Company plans to initiate the
installation of a new financial system in fiscal 2000 with an expected
installation cost of approximately $10.0 million over the next two fiscal
years.
Included in cash flows from investing activities are premiums paid on COLI
contracts. The Company purchases COLI contracts to provide a funding vehicle
for anticipated payments due under its deferred executive compensation
programs. Premiums on these COLI contracts were $12.6 million and $9.3 million
for the nine months ended January 31, 1999 and 1998, respectively. Generally,
the Company borrows against the available cash surrender value of the COLI
contracts to fund the COLI premium payments to the extent interest expense on
the borrowings is deductible for U.S. income tax purposes. The increase in
premium payments in the current year nine month period is attributable to
purchases of additional policies for new and existing participants in late
fiscal 1998.
On May 1, 1998, the Company acquired the assets and liabilities of Didier
Vuchot & Associates in France for approximately $6.0 million in cash, notes
and mandatorily redeemable stock of a subsidiary of the Company. On June 1,
1998, the Company acquired all of the outstanding shares of two firms in
Switzerland in a combined transaction for $3.6 million payable in cash, notes
and mandatorily redeemable common stock of the Company. These acquisitions
resulted in a net cash outflow of $1.3 million, comprised of a $2.5 million
cash payment offset by $1.2 million of cash acquired.
On February 29, 1996, the Company divested its 47% interest in Strategic
Compensation Associates for a cash payment of $357,000 and $3.2 million of
notes receivable in six equal annual installments with interest. The
outstanding balance at December 31, 1998 was paid in full, resulting in a net
cash inflow of $2.3 million in the nine months ended January 31, 1999.
Cash provided by financing activities was approximately $1.2 million and
$8.9 million during the nine months ended January 31, 1999 and 1998,
respectively, which included borrowings under COLI contracts of $3.5 million
and $4.1 million and proceeds from sales of common stock of the Company to
newly hired and promoted consultants and payments on the related promissory
notes of $5.9 million and $4.5 million, respectively. Additionally, the
Company paid $6.1 million and $1.8 million to repurchase common stock of the
Company in the nine months ended January 31, 1999 and 1998, respectively.
Included in the purchase of common stock in the nine months ended January 31,
1999 was approximately $1.5 million for approximately
16
1.0 million shares acquired from the nine employees that were terminated and
approximately $0.6 million for approximately 0.2 million shares acquired from
Michael D. Boxberger, with a resulting charge to earnings included in
compensation and benefits expense of approximately $4.3 million for these
transactions.
Total outstanding borrowings under life insurance policies were $41.2
million and $32.5 million for the nine months ended January 31, 1999 and 1998,
respectively. Such borrowings are secured by the cash surrender value of the
life insurance policies, do not require principal payments and bear interest
at various variable rates.
The Company believes that funds from operations, its expanded credit
facilities, and the net proceeds from the offering will be sufficient to meet
its anticipated working capital, capital expenditures, and general corporate
requirements for the foreseeable future.
Year 2000 Compliance
The Company's Year 2000 compliance risk analysis and contingency plans are
unchanged from those described in detail in the Company's Registration
Statement on Form S-1 declared effective by the SEC on February 10, 1999. In
summary, the Company has completed its assessment of its principal computer
systems, network elements, software applications and other business systems
and is in the process of assessing Year 2000 issues related to its third party
vendors. The Company believes this assessment will be completed in fiscal
1999. The Company has not yet estimated all costs relating to the Year 2000
issues, but expects to incur $500,000 in fiscal 1999 to resolve Year 2000
issues of which $30,000 was spent as of January 31, 1999. The costs relating
to the Year 2000 issues and the date on which the Company believes it will
complete the Year 2000 modifications are based on management's best estimates.
Currency Market Risk
Historically, the Company has not experienced any significant translation
gains or losses on transactions involving U.S. dollars and other currencies.
This is primarily due to natural hedges of revenues and expenses in the
functional currencies of the countries in which Korn/Ferry offices are located
and investment of excess cash balances in US dollar demoninated accounts.
Euro Conversion
As of January 1, 1999, several member countries of the European union
established fixed conversion rates among their existing local currencies, and
adopted the Euro as their new common legal currency. The Euro trades on
currency exchanges and the legacy currencies will remain legal tender in the
participating countries for a transition period which expires January 1, 2002.
The conversion to the Euro has not had a significant impact on the Company's
operations to date.
Recently Issued Accounting Standards
During 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities," which establishes new standards for
reporting derivative and hedging information. The standard is effective for
periods beginning after June 15, 1999 and will be adopted by the Company as of
May 1, 2000. It is not expected that the adoption of this standard will have
any impact on the consolidated financial statements nor require additional
footnote disclosure since the Company does not currently utilize derivative
instruments or participate in structured hedging activities.
Forward-looking statements
This Management's Discussion and Analysis of Financial Condition and Results
of Operations and other sections of this Quarterly Report on Form 10-Q contain
forward looking statements that are based on the current beliefs and
expectations of the Company's management, as well as assumptions made by, and
information currently available to , the Company's management. Such statements
include those regarding general economic and executive search industry trends.
Because such statements involve risks and uncertainties, actual actions and
strategies and the timing and expected results thereof may differ materially
from those expressed or implied by
17
such forward-looking statements, and the Company's future results, performance
or achievements could differ materially from those expressed in, or implied
by, any such forward-looking statements. Future events and actual results
could differ materially from those set forth in or underlying the forward-
looking statements.
Forward-looking statements are inherently subject to risks and
uncertainties, some of which cannot be predicted. These potential risks and
uncertainties include dependence on attracting and retaining qualified
executive search consultants, portability of client relationships, maintenance
of professional reputation and brand name, risks associated with global
operations, ability to manage growth, restrictions imposed by off-limits
agreements, competition, implementation of an acquisition strategy, risks
related to the development and growth of Futurestep, reliance on information
processing systems and the impact of Year 2000 issues, and employment
liability risk. In addition to the factors noted above, other risks,
uncertainties, assumptions, and factors that could affect the Company's
financial results are described in the Company's Registration Statement on
Form S-1 (File No. 333-61697) as declared effective by the SEC on February 10,
1999.
18
PART II. OTHER INFORMATION
Item 2. Changes In Securities and Use of Proceeds
Recent Sales of Unregistered Securities
Under the Company's Interim Executive Participation Program, the Company
offered shares of Common Stock at a purchase price equal to the fair market
value, estimated by the Company as of December 31, 1998, to certain employees
promoted to vice president and other persons hired as vice presidents of the
Company after August 17, 1998. Pursuant to such program, on December 31, 1998,
the Company sold approximately 252,844 shares for an aggregate of
approximately $2.5 million for which exemption from registration under the
Securities Act is claimed under Rule 701 promulgated under Section 3(b) of the
Securities Act.
Use of Proceeds
On February 17, 1999, the Company completed the public offering of an
aggregate of 11.8 million shares of common stock at $14.00 per share, of which
approximately 10.0 million shares were offered by the Company and
approximately 1.8 million shares were offered by selling shareholders,
resulting in net proceeds (after deducting underwriting discounts and other
expenses payable by the Company) of $130.8 million to the Company and $24.4
million to the selling shareholders. The Company also received approximately
$3.0 million from the repayment by certain selling shareholders of loans from
the Company to those selling shareholders. The Company used approximately
$14.4 million of the net proceeds to repay its term loan and all outstanding
indebtedness under the Company's credit facilities, including amounts borrowed
subsequent to January 31, 1999, approximately $32.8 million to complete the
redemption by the Company of certain shares of its capital stock including
shares owned by certain shareholders under the terms of a 1994 stock
redemption agreement and the outstanding shares of Series A and B preferred
stock, and approximately $4.3 million to pay existing obligations to former
holders of phantom units and stock appreciation rights. The remaining proceeds
will be used for possible future acquisitions, working capital and general
corporate purposes, including the expansion of Futurestep, and continued
development of technology, information systems and infrastructure. The Company
has currently invested the remaining proceeds in short-term high grade
commercial paper, bonds, and other securities.
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
27.1 Financial Data Schedule
(b) Reports on Form 8-K
The Company filed a Form 8-K dated February 22, 1999 subsequent to the
quarter ended January 31, 1999 with respect to the effective commencement and
completion date of the public offering and the effective date of the Company's
Amended and Restated Articles of Incorporation and the Company's Amended and
Restated Bylaws in addition to the new credit facility.
19
SIGNATURE
Pursuant to the requirements of the Securities Act of 1934, the registrant
has duly caused this report to be signed on its behalf by the undersigned
thereunto duly authorized.
Date: March 26, 1999.
KORN/FERRY INTERNATIONAL
(Registrant)
By:/s/ Elizabeth S.C.S. Murray
----------------------------------
Elizabeth S.C.S. Murray
Chief Financial Officer and
Executive Vice President
20