HireQuest - Earnings Call - Q2 2020

Transcript

Speaker 0

Good day, ladies and gentlemen, and welcome to your HireQuest Incorporated Second Quarter twenty twenty Earnings Call. At this time, it is my pleasure to turn the floor over to your host, Brett Moss of Hayden IR. Sir, the floor is yours.

Speaker 1

Thank you, operator. I would like to welcome everybody to the call. Hosting the call today are HireQuest CEO, Rick Herman and CFO, Corey Smith. Please be aware that some of the comments made during our call may include forward looking statements within the meaning of federal securities laws. Statements about our beliefs and expectations containing words such as may, could, would, will, should, believe, expect, anticipate and similar expressions constitute forward looking statements.

These statements involve risks and uncertainties regarding our operations and future results that could cause HireQuest's results to differ materially from management's current expectations. We encourage you to review the Safe Harbor statement and risk factors contained in the company's earnings release and in its filings with the SEC, including without limitation, the most recent annual report on Form 10 ks, the most recent quarterly report on Form 10 Q and other periodic reports, which identify specific risk factors that also may cause actual results or events to differ materially from those described in forward looking statements. Copies of the company's most recent reports on Forms 10 ks and 10 Q may be obtained on the company's website at higherquest.com or the SEC's website at sec.gov. The company does not undertake to publicly update or revise any forward looking statements after the call or date of this call. I would also like to remind everyone that this call will be available for replay through August 25.

A link to the website replay of the call was also provided in the earnings release and is available on the company's website at higherquest.com. I will now turn the call over to CEO of HireQuest, Rick Herman. Rick?

Speaker 2

Thank you for joining us. Since we completed our combination with Command Center and became a public company, we have been speaking about the benefits of our franchising model, which significantly mitigates the risks involved in the staffing industry and positions us for sustainable profitability. These benefits were clearly on display in the second quarter as our industry experienced severe disruptions due to the COVID impact and the resulting economic shutdowns. Despite these significant challenges, HireQuest remained profitable and we continue to maintain a strong balance sheet. To be sure, this quarter was particularly challenging for our franchises.

One of the benefits of our model is that each unit is independently owned. This enables our franchise owners to move quickly based on local conditions. We provided strong guidance to our franchises as the situation began to unfold and I'm proud of the way that they moved quickly to mitigate the impact, cutting costs, communicating with key accounts, and taking other actions to help weather the storm. Many of our franchises were able to secure PPP loans to help them through the crisis, and these loans were important and effective, achieving exactly what they were intended to do. Our results were also impacted as system wide sales decreased by 15.2% compared to the second quarter last year and with it, royalty revenue declined 11.5%.

Nevertheless, we generated $09 per share of earnings and $4,000,000 of free cash flow from operations during the quarter, a testament to our business model. As the economy begins to reopen, we expect that we are well positioned with a national footprint. We can provide temporary staffing to customers rapidly and reliably, oftentimes faster than their HR teams can move to ramp up permanent staffing. Early in the year, as this pandemic began to unfold, some of our franchise owners made the decision to close or consolidate certain branches and we made significant cuts at our headquarters to better position us for sustainability in what was an uncertain environment. Those cost reduction efforts were helpful.

Unless the economy significantly worsens from here, we do not anticipate additional cuts. As I've said in the past, our business is quite susceptible to economic fluctuations. This is proving true yet again. However, we are better equipped than a lot of our competitors to weather economic cycles and this too is being proven yet again. With no debt to service and a lean cost structure, we remain focused on serving our franchisees and protecting our business as volatility is expected to continue in the short term.

We continue to identify and evaluate M and A candidates. Specifically, we are looking for opportunities for growth through acquisitions that would add markets where we currently lack presence, strengthen the presence of our existing franchisees or perhaps provide access to certain national accounts. The economic crisis and its impact on our industry in particular increases the number of potential targets. Our strong balance sheet makes us a strong acquirer. That said, we continue to follow a disciplined and prudent approach to any acquisitions and that is especially true in the challenging economic environment.

Our ultimate goal is to acquire assets that can be transitioned to our franchise model as quickly as possible. In many cases, we provide buyer financing, which is possible due to our strong balance sheet. Historically, we've been able to recoup much of the cost of most acquisitions by immediately reselling the location to a franchisee and that will be our intended model again should the acquisition opportunities arise. Let me turn the call now over to Corey to discuss the second quarter results. Corey?

Speaker 3

Thank you, Rick, and good afternoon, everyone. Total revenue in the 2020 was $2,900,000 compared to $3,200,000 in the second quarter of twenty nineteen, a decrease of 10.5%. Our total revenue is made up of two components franchise royalties, which make up roughly 90% of total revenue and service revenue. This year over year decrease saw in total revenue this quarter was overwhelmingly due to lower royalty revenue which was down 11.5% to $2,600,000 from $3,000,000 in 2019. This decrease in royalty revenue was a reflection of lower system wide sales directly related to the ongoing COVID pandemic and associated economic shutdowns.

It is important to note franchise revenue attributable to the branches acquired in the merger was approximately $570,000 Service revenue, which is generated from interest charged to our franchisees on overdue accounts receivable and fees for various optional services we provide was up slightly to $262,000 in the 2020 compared to $257,000 last year. Selling, general and administrative expenses in the 2020 were $1,900,000 compared to $871,000 in the second quarter of twenty nineteen, an increase of approximately $1,100,000 This increase included an additional $151,000 added to the reserve placed on promissory notes we issued to finance the sale of offices we acquired in the merger with Command Center. This reserve is directly related to the negative impact the COVID pandemic is having on the economy. The remainder of this increase in SG and A was related to additional costs associated with being a public company, inclusive of stock based compensation and board fees of $293,000 which we did not incur in 2019, higher computer related service and consulting costs of $116,000 and a relative increase in our workers' compensation cost of $495,000 related to a reduction in accruals that was recorded last year prior to the merger. Net income in the 2020 was $1,200,000 or zero nine dollars per diluted share compared to $2,300,000 or $0.23 per diluted share in the second quarter of last year.

Moving on to the balance sheet. We were able to continue to strengthen our balance sheet on the heels of another profitable quarter. Current assets on June 30 were $38,600,000 which included cash of $13,700,000 and accounts receivable of $19,600,000 At the end of twenty nineteen, current assets were $37,000,000 and included cash of $4,200,000 and accounts receivable of $28,200,000 Property and equipment increased by approximately $890,000 to $2,800,000 at June 30 as we continue construction on a new building adjacent to our corporate headquarters. Our current cash balance, which has increased by $9,600,000 in 2020, is sufficient to continue to fund our ongoing operations for the foreseeable future while still funding other important initiatives. And with that, I will turn the call back over to our operator for Q and A.

Speaker 0

Thank you. Ladies and gentlemen, the floor is now open for questions. We'll take our first question from Peter Rabover with ARTCO Capital. Please go ahead.

Speaker 4

Hey, guys. Nice way to power through the such a terrible economic scenario. Hey, wanted to ask you about your, I guess, opportunities with the cash you announced as stock buyback and both sort of looking at distressed assets in general. Just curious how you're thinking about the allocation and I guess how you're thinking about executing the buyback? Thanks.

Speaker 2

Thank you, Peter. So as was announced, we've filed a 10b5 plan to begin sort of purchasing shares. And we have begun purchasing shares under the terms of the buyback. So far, the amount of share purchases has been relatively small, but we are committed to continue to buy them back so long as the price stays at a level that we consider to be well below the intrinsic value of the company. The but as laid out as well is we are on the hunt for acquisitions and opportunities.

And it's kinda funny right before the call, in fact, my VP of operations text me the fact that a you know, one of our competitors just went out of business. And so, while, obviously, you know, I don't wish that upon any of my competitors, know, any of our competitors per se, it indicates that opportunities are probably starting to will start to present themselves. And so I would pretty much argue that that would be probably the biggest area in which the funds will be deployed. But we do still have to it's really important that we take a disciplined approach to it as well. A bad acquisition is worth is worse than no acquisition at all.

And but like I said, I fully expect the problem is that you had a lot of people who are still for a price that was based on 2019 performance. And of course, we're in a completely different world here in August 2020 than what we were in August. And so part of that, it will take some reality to set in as well. I hope that answers your question.

Speaker 4

No. That does. That was great. Couple of other questions. One, maybe comment on, you know, your, where you're seeing pockets of strength and weaknesses in, you know, in the economies and geographies that you serve, just so maybe something to keep track of performance a little better?

And I'll follow-up with another one after this. Thanks.

Speaker 2

Good question. Obviously, we are struggling most in areas that the lockdown is being sort of kept at a higher level. So like the state of Washington is a particularly in Oregon are two particularly difficult jurisdictions. Others are others are a bit better. So I mean, our comparisons are a bit worse in places, you know, in places like that.

At the end of the day, it's not so much it's it's still this kinda goes back to what I said after the first quarter call is that realistically until you start seeing people at baseball games, at basketball games, at football games, it's going to have a negative impact. And so it really goes down to it's not always necessarily you know, g, Saint Louis is, you know, Saint Louis is way off because Saint Louis is off. It may well be because prior, you know, prior it it historically has been more, geared towards hospitality. And so hospitality is still really way off. And again, until people are cleared to go back into stadiums, we're just not going to recover that.

As far as relative strength, Florida, really the Southeast is still trending pretty strong, probably is probably the single strongest area, again, because commercial construction remains relatively strong.

Speaker 4

Great. And then maybe a follow-up question. I think you guys generated something like $8,300,000 in free cash flow so far this year and obviously that's a result of some working capital release. And so I'm just curious, know, how much cash do you anticipate using, you know, or a good way to think about it is probably a better way to ask that for, you know, as your same store sales start, you know, your franchise sales start going up, you know, what's what's the percentage of AR should we think about as, I guess, your franchise fees, etcetera?

Speaker 2

Yes. So you're correct in pointing out obviously the bulk of the cash balance increase or at least on it's kind of funny, it's almost uncanny how the amount of, let's say the decline in the AR almost equals the cash balance increase. However, it's not quite that simple either because the number of our accruals, and let's say the amount due to our franchisees, has also declined, meaning obviously we've paid more. So, you know, I would suggest to you that, you know, so it's not quite that simple. We also had a fairly large deferred tax liability that we paid down as well.

So realistically, if our sales, I mean the way I kind of look at it is we pretty much advance about 70%. If we have a 20% increase in sales, it pretty much means our AR will go up by about 70% of that absolute dollar increase in sales, if that makes any sense. So if our sales go up 5,000,000 a month, let's just say a cure is found tomorrow and things go back to normal and our sales go up $5,000,000 a month, our AR will go up, our net cash will go down by about 70% of that $5,000,000 per month increase for about really about a month and a half. Typically, our AR runs around forty nine days outstanding. You could expect somewhere in the neighborhood of like a $5,000,000 increase in net working capital needs.

Speaker 4

Okay, great. Thank you so much. I appreciate the color.

Speaker 2

Sure.

Speaker 0

We'll take our next question from Paul Kronking, Private Investor. Please go ahead.

Speaker 5

Hey, Rick. I had noticed as soon as I started looking at the balance sheet that what you had just mentioned that the decline in accounts receivable correlated pretty closely with the increase in cash. At this time of year, is the accounts receivable generally rising? Besides I know this is a we're in a COVID year, but generally, would our AR be increasing at this time of year?

Speaker 2

The answer so yes, the answer to that question is yes. The accounts receivable, even as we speak, they're they're they're increasing, which which, of course, is a good thing. Right? Because it means our sales Right. Our sales are up, which is which is seasonal.

And so they absolutely are they absolutely are up. So and I would expect that. And so I would not, you know, it would not surprise me if our cash balance goes down during the third quarter. That's all

Speaker 5

it's Right. That that was the other the other point was that since we'll be funding additional payroll, that $13,700,000 it's possible that that would be declining or may have already declined.

Speaker 2

Mean I would expect that obviously as AR goes up and that's the whole thing. As AR goes up, certainly our cash will go down. But look, if you strip away even just the changes in working capital, I think the most important part is we're still profitable. We're still earning, you know, not only did we earn, you know, more than $2,000,000 in the first half of the year, we're also collecting on the notes related to the command sale as well. So we are generating strong underlying cash flow as well, never mind the changes in cash.

And it is true, we are very seasonal. We're in we're a bit of a challenging business from the perspective not only are we seasonal, but we are cyclical. And so something like COVID obviously impacts our operations, and then on top of it you have the seasonality. But that's just an ongoing, you know, that's always occurring. Again, the key is not to lose sight of the most important part, which is we continue to earn, you know, we continue to earn real money.

And, you know, and the generally speaking, the notes are performing, you know, are performing well.

Speaker 5

Are we just reserving for that one group of the California? That

Speaker 2

So the answer to that question is no. That's not just one. You know, that's just not one. It's a fairly we're required to take a comprehensive look at all of the notes.

Speaker 5

I get it. I get it.

Speaker 2

So it's just one part of it.

Speaker 5

Okay. I just had one other question. Looking at the consolidated statements of income, looking at the three months ended and the six months ended comparing this year with last year, Are those were those our HQ numbers alone? Or were those HQ because there weren't franchise royalties from Command Center prior to July, right, of of twenty nineteen.

Speaker 2

That's right. So those HQ so those were HQ alone. So what you'll see in the third quarter because the because the merger took place on July 15, the third quarter will be truly sort of the combined results of Command and HireQuest compared to the company name?

Speaker 5

That's what I was thinking. It's really hard to get a picture of what was added from Command Center since they weren't on the franchise. They weren't they had no franchise revenue at that time. But in the next quarter, we will see what's been added and where we were a year ago, correct?

Speaker 2

That's correct.

Speaker 4

Of Okay.

Speaker 2

Course, the third quarter will also conclude the comparisons of all of the merger related costs and all of the sort of the onetime tax issues that took place in the third quarter. So

Speaker 5

Why did the deferred tax liability decrease so much in one year? Weren't we doing a four year spreads

Speaker 2

on that or I'm going leave that question for Corey.

Speaker 3

The deferred tax liability, we it's made up primarily of our workers' compensation reserves as well as that spread. The reason

Speaker 5

is Oh, 41 adjustment? Okay.

Speaker 3

Yeah.

Speaker 5

Okay. Good.

Speaker 0

We'll take our next question from Aaron Edelheit with Mindset Capital. Please go ahead.

Speaker 6

Hey, thanks for taking my question. I had a question for how things are trending. I'm assuming that April was a real low and things have been trending back since, but I was wondering if you could just give some color commentary on how you see the business trending now that we're one months point into the next quarter and just give some overall views of how you think there?

Speaker 4

Questions they're going.

Speaker 2

So at the beginning, you know, around the March, our year to year comparisons were off nearly, well in some cases more than 40%, we'll just say roughly 40%. We're seeing a lot of improvements but part of those are based on seasonal factors. July, August, September, October are always our four best months. So part of the improvements we've seen in absolute dollars since March are just related to normal seasonal factors. However, the year over year comparisons have improved to the point where we're off typical week, we're off somewhere between 2628%, 29% from the prior year.

Speaker 0

There appear to be no further questions at this time. We'll turn the floor back to Mr. Herman for closing remarks. Please go ahead.

Speaker 2

Thank you everybody for participating in the call. Again, hopefully what you can discern from both the earnings release and from the comments is the company positioned to and grow in the future due to the strong balance sheet. And again, an important part as viewing your holdings in the company is to recognize we have really good protection against a decline in the economy. And again, that uniquely positions us to take advantage of the situation going forward and still make meaningful investments in our business going forward and we're not just in a preservation mode. So again, I thank you for joining us and look forward to a good third quarter.

Thanks a lot.

Speaker 0

Ladies and gentlemen, this does conclude today's teleconference. We thank you for your participation. You may disconnect your lines at this time and have a great