Barrett Business Services, Inc.

Good afternoon everyone and thank you for participating in today's conference call to discuss BBSI's financial results for the first quarter in the June 30, 2024. Joining us today are BBSI's President and CEO, Mr. Gary Kramer, and the company's CFO, Mr. Anthony Harris. Following their remarks, we'll open the call for your questions. Before we go further, please take note of the company's safe harbor statement within the meaning of the Private Securities Litigation Reform Act of 1995. The statement provides important cautions regarding forward-looking statements. The company's remarks during today's conference call will include forward-looking statements. These statements, along with other information presented that does not reflect historical fact, are subject to a number of risks and uncertainties. Actual results may differ materially from those implied by these forward-looking statements. Please refer to the company's recent earnings release and to the company's quarterly and annual reports filed with the Securities and Exchange Commission for more information about the risks and uncertainties that could cause actual results to differ from those expressed or implied by the forward-looking statements. I would like to remind everyone that this call will be available for replay through August 31, 2024, starting at 8 p.m. ET tonight. A webcast replay will also be available via the link provided in today's press release, as well as available on the company's website at .bbsi.com. Now I would like to turn the call over to the President and Chief Executive Officer of BBSI, Mr. Gary Kramer. Sir, please go ahead.

Thank you. Good afternoon, everyone, and thank you for joining the call. I am pleased to report that we had a strong second quarter and our financial results are in line with our full year outlook. We continue to execute our short-term and long-term objectives, and we added a record number of worksite employees per second quarter. Moving to our financial results and worksite employees, during the quarter our gross billings increased 6% over the prior year's quarter, which is in line with our expectations. We continue to execute on our various strategies to increase the top of the sales funnel, and we achieved a record number of WSEs from new client ads during a second quarter. Our client retention continues to trend well and is in line with our expectations. I'd like to attribute that to the work we do with our clients and the value our teams provide. The result of all these efforts, or what I refer to as controllable growth, is that we We previously mentioned that we began to see our clients' workforce stabilize in Q4 and modestly grow in Q1. We are pleased to report that our clients' growth accelerated in Q2. In fact, they experienced the greatest net hiring in six quarters. To summarize, for the quarter we grew our worksite employees by 4% as we sold and retained more business and benefited from our clients' net hiring. Moving to our staffing operations, our staffing business declined by 3% over the prior year quarter and was within our expected range. We continued to execute our strategy to recruit for our PEO clients and place 91 applicants in the quarter, but we were impacted by macroeconomic headwinds, including supply and demand imbalances, which varied by geography. We have seen our staffing business stabilize, and although we are expecting modest decline year over year, we are forecasting our staffing business to grow sequentially in both Q3 and Q4. Moving to the field operational updates, we are very pleased with our entrance into new markets with our asset light model. We have 17 total new market development managers in various stages of their development. They are doing well in largely achieving their goals of adding and servicing new clients and new referral partners. In two of the markets, we have hired additional local talent to support our clients, and we are in the process of moving into traditional brick and mortar BVSI branches. We continue to see positive results from our investments in new markets and are actively recruiting additional new market development managers. Regarding product updates, we continue to execute on the sales and service of BVSI benefits, our new health insurance offering. Last quarter we announced that we entered into a strategic multi-year partnership with Kaiser Permanente for programs effective -1-24 and onward. Kaiser is renowned for its excellence in healthcare services and offers one of the most complete and competitive HMO products in the marketplace. And just like our workers' compensation and existing health insurance offerings, we take no underwriting risk. We are now offering a national PPO side by side with the Kaiser HMO and our results are positive thus far. In July and August, we sold Kaiser to 20 new clients with wins in Southern California, Northern California, and Oregon. Our new business resulted in more new subscribers in July and August than over the season. We have a total of 380 new clients on our various medical plans, servicing more than 8,500 participants. We are pleased with the results of BVSI benefits and this product will be accretive to earnings in 2024. We are bullish on this product and will now reap the benefit of leverage through scale. As we look forward to 2025, our focus is on the 1-1 selling season. We have the people, the product, the technology, and the experience to be confident in our various offerings. Next, I'd like to shift to our view of the remainder of the year. We've had consecutive quarters of great momentum. We are consistently growing our WSE stack. We ended Q2 with a record number of WSEs and we continue to be optimistic about the road ahead. We have consistently achieved strong, controllable growth by focusing on the needs of our clients and by adding new clients. We have more products to sell, more folks selling it, and more referral partners recommending BVSI. Now I'm going to turn the call over to Anthony for his

prepared remarks. Thanks, Gary. Hello, everyone. I'm pleased to report that we finished Q2 with strong results, consistent with our plan, and with continued positive momentum in our sales pipeline. Gross buildings increased 6% to $2 billion in Q2-24 versus $1.9 billion in the prior year quarter. PEO gross buildings increased 6% in the quarter to $2.01 billion, while staffing revenues declined 3% to $20 million in the quarter. Our PEO work site employees grew by 4% versus the year-ago quarter, which was the result of strong, controllable growth from that new PEO client, as well as hiring within our customer base. Looking at client hiring more closely, we continue to see improved hiring rates in Q2. We are now seeing positive hiring across almost all industries, including construction. The rate of client hiring remains lower than the long-term average, but the pace of hiring is improving and slightly exceeding our expectations. Looking at wage rates and hours worked, total hours and overtime hours have continued to remain stable, while wage rates continue to increase. An average billing per WSE increased 3% in the quarter. Looking at -over-year PEO gross buildings growth by region, East Coast grew by 19%, Mountain States grew by 7%, Southern California grew by 6%, Northern California grew by 4%, and the Pacific Northwest declined by 3%. The Pacific Northwest region continues to be the most impacted by slower client growth, including being the only region with net negative client hiring and sustained lower average hours worked. The East Coast growth is driven by a combination of strong, controllable growth and above-average client hiring. Turning to margin and profitability, our workers' compensation program continues to perform well and benefit from favorable claim frequency trends and favorable claim development. This strong performance has once again resulted in favorable adjustments for prior year claims. In Q2, we recognize favorable prior year liability and premium adjustments of $8.9 million. As a reminder, our client workers' compensation exposure is now primarily covered by our fully insured program with no retained liability by BBSI. We renewed our fully insured workers' compensation policies effective July 1, 2024. The program continues to perform well and we once again renewed with favorable terms, including cost savings, a multi-year commitment, no downside risk to BBSI for any adverse claim development, and the continued ability for BBSI to participate in any favorable claim development via return premium. Last year, we introduced more favorable payment terms for the premiums on the fully insured program and we were able to renew with similarly favorable terms that allow us to hold these premium dollars for longer. As a result of these terms, there is a balloon premium payment in June of each year, which we just paid in Q2 for the prior policy period, and which in turn reduced our restricted investment balance and a corresponding premium payable balance. These investment balances will continue to build again over the policy year until next June's payment and investment income will continue to correlate with the investment balance. Payroll taxes remain higher than the prior year as we discussed last quarter. These higher rates are being contemplated in our pricing, which will contribute to higher gross margin rates in the latter half of the year. Overall, our gross margin rate remains in line with expectations. Our overall profitability has continued to benefit from operating cost management. For Q2, SG&A expense increased by approximately 4%, growing slower than our billing growth and providing ongoing operating leverage. Moving to investment income, our investment portfolios earned $3 million in the second quarter, up $0.9 million from the prior year. Our investment portfolio continues to be managed conservatively with an average quality of investment at AA, an average book yield of 2.9%. The combined results of these activities was net income per diluted share of $0.62 compared to $0.62 per diluted share in the year-ago quarter. Our balance sheet remains strong with $110 million of unrestricted cash investments at June 30th and no debt. We continue our approach to capital allocation, making investments back into the company through product enhancement and geographic expansion and distributing excess capital to our shareholders through our dividend and stock buyback plan. Continuing under our $75 million July 2023 repurchase program, PBSI repurchased $7 million of shares in the second quarter at an average price of $31.63 per share, with $45 million remaining available under the program at quarter end. As announced today, our board of directors also proved an increase in the quarterly dividend rate from a split-adjusted $0.75 per share to $0.08 per share. This equates to a 7% increase in our dividend pay rate and reflects our ongoing optimism about our strong recurring cash flows and growth plans. Looking to our outlook for the full year, our results for Q2 are in line with our plan and our expectations for 2024 remain generally consistent with prior outlook. We continue to expect growth billings to increase between 6 and 8% for the year. We continue to expect average WSEs to increase between 4 and 5%. We are tightening our range of expected growth margin at the percent of growth billings to be between 3.0 and 3.1%. And we continue to expect our effective annual tax rate to remain between 26 and 27%.

I will now turn the call back to the operator for questions.

Thank you, Sav. At this time, we will be conducting a question and answer session. If you would like to ask a question, please press star and then 1 on your telephone keypad. A confirmation tone will indicate your line is in the question queue. You may press star and then 2 if you would like to remove your question from the queue. For participants using speaker equipment, it may be necessary to pick up your handset before pressing the star key. Again, if you would like to ask a question, please press star and then 1 now. The first question that we have comes from Chris Moore of CGS Securities. Please go ahead.

Hey, good afternoon, guys. I think we can start on the worker's comp adjustments, one of my favorite topics. 8.9 million favorable adjustments. That's the biggest adjustment I can remember, at least over the last six or seven years. Just trying to understand kind of expectation. First, how much visibility do you have? Over the next six to 12 months on adjustments? And then just any additional thoughts in terms of, you know, was there something significantly unusual in this quarter? Any other thoughts you might have there?

Hey, Chris. We answered that one similarly, I want to say, last quarter or the quarter before. Just the way that we design our programs, we're conservative by nature. We've got a lot of focus and attention on worker's comp. We've got -in-class structural partners. We've got a team of risk managers. We've got a full underwriting shop. We've got our own claims folks. We've got operations that are tied to it. We have our own actuaries. I say that because it's a very mature organization. We're tech adopters. We make sure that whoever we partner with has great tech. We use AI. We've got a couple hundred, 200-plus folks directly or indirectly that are going to be that their focus and attention is on worker's comp. So we've got a lot of focus and attention on it. We've got good tech on it. We're conservative by nature. We set these programs up so that they're designed to have returns that come back to us. If we stay true to who we are and stay true to our discipline, then we're going to set ourselves up for this in the future. So if you look at trend, I want to say that this is 22 quarters in a year of favorability, 22 quarters in a row of favorability. And honestly, trend is your friend. It doesn't turn quickly. We anticipate that this trend will continue.

Got it. It's helpful. In terms of the Kaiser relationship, it sounds like it's off to a good start. Just trying to get a sense as to how long from a revenue standpoint would the Kaiser be incrementally noticeable? Are we talking 12 months, 24 months? Just trying to get a sense as to kind of the trajectory.

Yeah, it's a good question. I want to say that I've been here about eight years and this is the first quarter that I can recall that our gross billings growth is the same as our gap revenue growth. You're kind of seeing that inversion, I'll say. Part of that is because of the medical benefits that's flowing through the gap revenue line. So we're starting to get measurable health insurance premium and then commissions on those premiums. Kaiser for 7-1, 7-1 is not a huge selling season. We moved business. We had a good 7-1. But 7-1 and 8-1 are nowhere near the volume of business as we expect on 1-1. We launched on 7-1 because we wanted to learn how to dance better before we got to 1-1. I'll say we were successful in the operations. We have a good, what I'll say, plan for our branches for 1-1. More importantly, we have the confidence. It's the confidence that we went through it for 7-1. We know that 1-1 is the big selling season. We kind of got some experience getting through it this quarter. But really that gives us the optimism for 1-1 of the optimism in the product, the optimism in the process, the optimism in the underwriting. So as we think of this, as these relationships, in 25 is where it all is going to come down to how we do -1-1. But in 25 is where we start to expect that we'll have better meaningful contribution to gross margin from these products.

Got it. That's very helpful. I will leave it there. Thanks, guys.

Thank you, sir. The next question we have comes from Jeff Martin of Ross Capital Partners. Please go ahead.

Thanks. Good afternoon, guys. Gary, I wanted to start with how you're feeling about the referral partner network. If there's been any noticeable improvements within that, particularly with some of your newer referral partners that may relate to BBSI benefits?

Yeah, just in general, right? So we have folks whose responsibility it is to just manage the referral partners and go get new referral partners. And they're doing a fabulous job in the markets we're in and then in the new markets. So as we think of our market development managers, half of their time is spent really recruiting new referral partners. The fun part there is when we go to a market, they make new relationships, number one. And then number two, we're able to take the brand and our national relationships and help them out. So we can introduce them to national referral partners that have a local presence in those areas. So our referral partner channels are growing. And this has been a strategy for ours for the last three or four years is just to grow our referral partner bench. And we're doing a really good job at that. We've got more active referral partners now than we've ever had. And part of this is when they're making new referral partners, now we have it into our discipline to go talk to benefits brokers because of our benefits product. We're seeing some traction there, not as much as I would like. That's a little slower than I was hoping for. But we are seeing programs come in from benefits brokers that we honestly never would have solved if we didn't have this product. So I would say we're out of the gate there, but we have not hit our stride on the benefits broker side.

And then I wanted to drill down on California since it's your largest market. Any detail you can provide on the Northern California and Southern California regions? I think Northern California, going back 12 months ago, was largely hit by construction. And that seems to have turned the corner. We're just curious if you have any visibility there as to whether that may accelerate from what we've seen the last quarter or two.

Yeah, if you look at the monthly trends, Jeff, this is Anthony. We continue to see steady growth in Northern California and improving growth. And we are seeing, not only nationally, but really everywhere except for the Pacific Northwest, we are seeing positive client hiring across industries, including construction in Northern California. So we saw some early signs of growth, but that trend is continuing and honestly looks like it can continue to build.

Are you still seeing much customer migration out of the state? I know that's been a headwind for you, maybe not so much going back more than a couple of years, but it has to have been the trend the last three or four years.

No, we haven't seen that really affect us. I mean, just to kind of piggyback on what Anthony said, Northern Cal last year was our worst as far as client reducing force. This year it's been our strongest region as far as our client hiring. So we've seen the rebound in Northern Cal, specifically in the construction industry. So we feel better than we did a year ago when we were talking about Northern Cal. Southern Cal continues to grow too. California in general, it's still competitive, especially on workers' comp. We get workers' comp pressure, but we've got good product, we've got good people, we've got good process that we can pick our spots for what we want to do. But as far as clients leaving to go to other states, we haven't really experienced that. Part of our market development managers is if they do leave and go to Texas, per se, where most are going, we've got a flag in every large metropolis in Texas now. So we're getting to that point on a national scale that if they're going to leave somewhere, we've got a place for them to go.

Okay. And then last one for me on the benefits side. Are you primarily signing existing clients up on plans or are you seeing this, it may be too early for this, but are you seeing new clients come in the door because you've got the nationwide footprint now and you've got the healthcare offering now?

It's still heavy selling into our existing base. For the -8-1 season, it was about 20% new business and then the rest was selling into our installed base.

And how do you envision that over the intermediate to longer term?

You know, if I could wave my magic wand, we would sell to all of our clients, right? And then after we get that, we could get new clients. But we're now at the balance of, you know, it's interesting because we never had this term and we now have coined the phrase of a PEO takeaway. Typically, when we brought on new business, that business was adopting the outsource model for the first time. What we're seeing now is because of our health offering, we can be competitive with a lot of the other PEOs in the marketplace. So we've coined the PEO takeaway and that's where we're seeing most of our new business come from. It's coming from the, you know, I'll say new new, that's coming from PEO takeaways because they want the local product, they want the local service. And now that we have the benefits, you know, it's a compelling value prop.

Great. That's helpful. Thank you.

Thank you, Sub.

Ladies and gentlemen, just a final reminder. If you would like to ask a question, please press star and then 1, now. The next question we have comes from Vincent Colichio from Barrington Research. Please go ahead.

Yeah, Gary, could you provide some more color on the Pacific Northwest? Construction was an issue there. It seemed to be improving. It's improving nationwide and now it's, I guess, taking a step back there. Do you think this is temporary? What are your thoughts?

Yeah, hey, Vince. This is Anthony. Yeah, really we saw this last quarter as well in the Pacific Northwest. You know, it had, the construction industry has been slower to rebound and honestly, you know, had some deterioration that we saw last quarter as well. So it's really a continuation of a trend there and it's, you know, a smaller region by volume and so there's a few larger clients that can sometimes have an effect on that and that's really what we're seeing. So it is, you know, represents Oregon and Washington as well as that region. So there is some economic factors at play for sure in that region. But in terms of an intra-quarter, there's some stability there so we're not seeing, you know, deterioration sequentially but we'll keep watching that for sure.

I would just add on that if you think of the Northwest, our largest operation is in Portland and Portland right now is, I'll say from a business perspective, it's a challenge to make investments. It's a challenge to invest more capital in Portland right now with the way it's being run.

And Gary, sometimes in the past you've compared your new client pipeline of qualified leads to historical levels. Could you do that for us versus the year ago level?

Yeah, I mean, our pipeline continues to grow. You know, we from the top of the funnel to the leads until we get to the prospects, which is when we meet with clients. Our volume continues to outpace the prior year volume and that's got a lot to do with our multiple strategies that we are executing on to make sure that the more chances you have, the more clients you're going to add. And we've got a ton of focus and attention on, you know, it's really like four or five different channels that we work to make sure that that top of the funnel stays at a real high acceptable place.

And last one for me, are you seeing some progress in terms of adding larger clients to your pipeline?

No, I mean, we're never, you know, we know our space and we're comfortable in our space, right? We know that we serve the small business community. We're never going to be the mid-market company. It's just not really our value profit. So we're comfortable with our sweet spot. We know our lane. We stay in our lane. We get large clients that join us as well because they like the value prop, they want the services. You know, and now with the benefits, it's a more compelling value prop as well. But just in general, we, you know, we, in my prior life, I used to be a whale hunter and it was feast or famine and we're not operating on that business model. We know who we are, what our value prop is, who our ideal client

is when we stay

in

that lane.

Okay, thank you.

Thank you,

sir. At

this time,

this concludes our question and answer session. I would now like to turn the call back over to Mr. Cramer for closing remarks. Please go ahead, sir.

Sure, thank you. I just want to thank all the BBSI professionals for a great quarter and a great first half of the year. And thank you, everybody, for joining the call.

Appreciate your time.

Thank you, sir. Ladies and gentlemen, that then concludes today's conference. Thank you for joining us. You may now disconnect your lines.