HireRight Holdings Corporation

Good afternoon, ladies and gentlemen, and welcome to HireRite's second quarter 2023 conference call. Joining today's call is the company's President and Chief Executive Officer, Guy Abramo, Chief Financial Officer, Tom Speight, and VP of Treasury and Investor Relations, Andrew Hay. At this time, all participants are in listen-only mode. I remind everyone that management will refer to certain non-GAAP financial measures, An explanation and reconciliation of these measures to the most comparable GAAP financial measures is included in the press release issued today, which is available in the Investor Relations section of Higher Ed's website. Also, during this call, management's remarks will include forward-looking statements, including related to macroeconomic conditions, demand for the company's services, and the company's technology improvement and cost reduction initiatives. as well as our updated guidance. Such statements are predictions and actual results may differ materially. Additional information concerning factors that could cause actual results to materially differ from those in the forward-looking statements is contained in Form 10-K, Files for the Securities and Exchange Commission, in the sections of the documents entitled Risk Factors, Forward-Looking Statements, and management's discussion and analysis of financial condition and results of operations. Now it is my pleasure to turn the call over to Guy Abramo. Please go ahead, sir.

Thank you, operator, and good afternoon. I appreciate everyone taking the time with us as we share our second quarter 2023 results. In the current global economic environment, as much as things change, they seem to stay the same. In spite of inconsistent, conflicting economic signals, hiring reports, and projections, our customers' seasonal hiring patterns were consistent with prior years, albeit at a lower volume. For the quarter, we generated revenues of $192.1 million. While revenues were down 13.6% compared to the same period in 2022, our adjusted EBITDA margin grew over 300 basis points to 27.4%. As I've discussed many times, since our IPO, we have invested in developing a more automated back office fulfillment system, leveraging various AI technologies. The result is that this increases our degree of automation in completing a search. For example, automatically matching our customer search guidelines with our databases and public records. Our platform is now operational and being implemented across our global footprint. We've maintained our precision while improving speed. Our improved workflow and cost savings are already increasing productivity and improving margins on search results. And we've recently expanded our development team in India to drive additional cloud-based functionality and enhancements, working side by side with our engineering teams in Estonia. Increased automation has enabled us to streamline our domestic workforce and transition to more cost-effective offshore markets. In addition, we've significantly reduced onboarding and training time for these new associates, improving productivity and operating leverage. In other words, more output with fewer resources. Even though we have made great progress to date, we will continue to invest in software development driving additional margin improvement beyond the 300 basis points achieved over the past year. We continue to have success with new business, concentrating on what we can control, such as upsells, package expansion, and new logos. Our go-to-market teams and account executives added nine new enterprise logos in the quarter with combined projected annual revenue of $8 million. Our strong pipeline conversion in the quarter was across all of our verticals. Existing customer retention of our enterprise accounts remained very strong at 97.4%. In the quarter, we saw upsells increase over 7% sequentially from Q1 2023, demonstrating our team's growing ability to increase our average order size and services provided. This in turn allows our customers to consolidate their pre and post hiring activities with one provider. Additionally, our pipeline remains robust across all verticals. We implemented approximately $13 million worth of new business during the quarter and have more than $20 million of annual contract value in late stage pipeline that we expect to close by the end of the year. We've discussed our discipline approach to M&A aimed at expanding our geographic reach as well as adding complementary services and products to our comprehensive offerings. In July, we announced the acquisition of a majority share of Digital Trusted Identity Services, or DTIS, an FBI-approved channeler specializing in collecting and processing biometric and biographical data. This investment expands our commitment to biometric-based screening as a critical component for customers in highly regulated industries, such as healthcare, financial services, and transportation. This acquisition improves our native fingerprinting capabilities to use in connection with background screening services that require this component. DTIS also opens up a new revenue stream for us as it operates the Transportation Security Clearinghouse On behalf of the American Association of Airport Executives to fulfill their obligations as a TSA designated aviation channeler, facilitating fingerprint and other security services for more than 300 airports and 75 air carriers. Another important area of investment for us has been Latin America. Our ongoing investment in Mexico has enabled us to improve margins through the offshoring of many of our back office functions with exceptional local talent and leadership. In April, we announced the acquisition of Incurovite in Argentina and the establishment of operations in Brazil, which provides direct access to local data, reducing costs in addition to increasing our ability to service our global enterprise customers in their local operating markets. Our all-inclusive presence in Latin American markets continues to set us apart, opening the door for new global business expansions. Turning to profitability, to further enhance margins, we continue our effort to streamline costs, including reducing global headcount, shrinking our real estate footprint, and managing discretionary expenses. We are reviewing and will implement options to further reduce costs and outsource nonessential corporate functions throughout the remainder of the year and into 2024. These self-help actions are within our control. designed to improve operating leverage with a smaller operating footprint regardless of the economic environment. Looking at current market trends, I want to remind everyone that many of the market hiring indicators are backward-looking and have limited predictive value on future hiring trends. Even though the recent BLS and quits data are weaker, they are still stronger than pre-pandemic levels, and there remains more open positions than available candidates. From our standpoint, there is still strong demand for talent, and hiring continues across all verticals. We continue to see hiring patterns during Q2 which were consistent with our previous commentary, and our core verticals continue to show seasonal improvement. In closing, we're pleased with our results, especially given the backdrop of the broader macro environment. More importantly, we believe that the favorable fundamental changes in hiring and employment practices are here to stay, and discretionary hiring will increase as the economic outlook improves. Our business has been resilient for the last 25 plus years, regardless of the cycles that are often pronounced for one particular sector. We recognize it's a marathon, not a sprint, and we are positioning ourselves to further expand margins while continuing to be a global leader in providing reliable, cost-effective, technology-driven verification services. With that, I'll turn the call over to Tom for a closer look at our second quarter financial performance and our outlook for 2023. Tom?

Thank you, Guy. Good afternoon, everyone, and thank you for joining our call today. As Guy mentioned, our second quarter revenue was $192.1 million, down 13.6% versus the prior year, primarily related to uncertainty in the hiring environment. The results are consistent with our prior commentary on headwinds impacting nonessential hiring. The results were also consistent with our historical seasonal patterns as we saw our customary Q2 uplift in demand. Our high retention rate of 97.4% and the steady conversion of our pipeline to revenue-generating customers supported our positive results. In other words, even during a slower hiring environment, our retention remained strong and we continued to add new customers. Specifically, while revenue from existing customers was down approximately 16%, Revenue from new customers was up more than 36% from the prior year. Our core verticals accounted for 55% of the revenue this quarter, fairly consistent with prior periods. Technology and services are primarily responsible for the decline versus Q2 2022. However, both verticals showed sequential seasonal improvement versus Q1 of this year. Our remaining verticals were down 7% when compared to Q2 2022. Looking at our geographic split, international revenue based on applicant location was approximately 14% of revenue. EMEA posted a 14% decline, while APAC and India continue to be impacted by the softness in technology and services. We're down a combined 32% from the prior year. Turning to expenses and profitability for the quarter, we continue to improve our delivery cost to service, helping to drive gross margins, which were up more than 260 basis points year over year, excluding depreciation and amortization, to 49%. Our sequential margin growth was consistent with our historical quarterly patterns and our target of 200 basis point improvement over last year. We reported $52.7 million of adjusted EBITDA, just $1 million lower than last year despite reduced revenues. Our adjusted EBITDA margin grew over 300 basis points to 27.4%. This growth is indicative of improved operating efficiency driven by our technology investments, as well as optimizing our geographic footprint. In the quarter, we continued to execute on a restructuring plan, which was primarily targeted on our global SG&A positions and expenses, including our real estate portfolio. As Guy mentioned, we are evaluating and finalizing implementation plans to further increase our offshoring teams and outsource non-essential corporate functions. We have recently visited and toured our new facility in India and are very pleased with the impressive teams and the rapid adoption of our operating platform and our technology roadmap. These targeted margin expansion initiatives began to show benefit in the current quarter and will have a positive impact on overall 2023 results and beyond. We remain focused on delivering long-term adjusted EBITDA margins of 30%, and even though we have made great progress, we have more work to do. we will monitor performance and take timely actions to further expand our margins through the reduction of unwarranted costs in streamlining our operational footprint. Digging deeper into SG&A expenses in the quarter, excluding stock-based compensation and restructuring charges, employee costs decreased 3.8% to $27.5 million, driven largely by a reduction in variable compensation. Additionally, non-employee related expenses, excluding restructuring and other one-time items, decreased by $3.4 million compared to the prior year, including a $1 million reduction in bad debt expense. Adjusted net income for the quarter was $25.5 million compared to $31.8 million in Q2 2022. The reduction is a result of higher adjusted net interest expense of $6.8 million driven by our floating rate debt and lower operating income from lower volumes. I will also note that we have changed our methodology on adjusted net income tax rate presentation. In order to provide more consistency and comparability across periods, we have begun using an estimated blended statutory rate of 26%. To be clear, though, both our estimated statutory rate and our GAAP effective rate will differ from our actual cash taxes paid, which are primarily based on revenue generated outside of the U.S. due to our tax assets in the U.S. We expect to continue to be a nominal cash taxpayer through 2025. However, with our improving profitability, we'll now be reporting a higher effective tax rate on our GAAP results, as well as our adjusted net income. For comparison purposes, we have provided a slide in the presentation that illustrates the change of the tax rate for adjusted net income and adjusted diluted EPS purposes. Finally, adjusted diluted EPS for the quarter was 34 cents, compared to 40 cents in the prior year period. The weighted average share count for the quarter was 74 million, reflecting the shares purchased through the share buyback program versus 79.5 million in Q2 2022. Outstanding shares at the end of the quarter were 70.3 million. Turning to cash flow, we generated 12.6 million of cash flow from operations in the first half of the year and expect to continue to generate operating cash the remainder of the year. Historically, the second half of our year generates the majority of our operating cash flow. Total cash decrease for the quarter was $50 million, reflecting $61 million in cash used in our share repurchase program. At the end of the quarter, we had no draws against the revolver and had just over $695 million outstanding on our first lien loan. Our leverage ratio ended the quarter at 3.5 times, and we also ended the quarter with $77.5 million of unrestricted cash on the balance sheet. compared to 127.4 million as of March 31st, 2023. The decrease in cash was primarily related to our share repurchase program. During the second quarter, we exhausted the original $100 million program, and in June, the board authorized an additional $25 million. As we've previously stated, we are confident in High-Rite's ability to generate cash flow, enabling us to invest in the long-term future of the business. investing in geographic expansion, acquiring complementary assets, and repurchasing shares. The intermediate and long-term strategic decisions we are making today will generate increased shareholder value over time. Looking ahead, we do not assume a significant change in the economic outlook. We have operated in this softer labor market for the better part of the last year, and we have continued to deliver improved gross and adjusted EBITDA margins and positive free cash flow. In the near term, certain of our verticals may continue to defer some hiring decisions, yet our plans and efforts are aimed at producing sustainable long-term growth and profitability. Our 2023 guidance reflects our unchanged economic outlook, vertical performance to date, and conversations with our key customers. Additionally, we have updated our adjusted net income and EPS guidance to reflect our share repurchases and a blended statutory tax rate based on the tax methodology I mentioned earlier. Again, while we expect to be a nominal cash taxpayer through at least 2025 for consistency and comparability purposes, we will now provide our guidance with this adjusted blended statutory rate of 26%. With this in mind, we are updating our guidance as follows. Narrowing the revenue forecast to a range of $720 million to $735 million, Raising our adjusted EBITDA guidance to a range of $172 to $177 million. Updating our adjusted tax rate such that adjusted net income moves to a range of $75 million to $80 million, and therefore adjusting diluted earnings per share to a range of $1.05 to $1.10 based on a weighted average fully diluted share count of $73 million. All economic cycles impact industry segments differently. Performance in our core verticals will vary, and down cycles will always be replaced by periods of growth. As a management team, we monitor both short and long-term trends and will implement actions to capitalize, regardless of where we are in the economic cycle. We remain focused on growing revenues through our key strategic initiatives while maintaining strict financial discipline. With that operator, we can open the call for questions.