Lower Demand Environment but Still Underway with Transformation

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First Quarter 2023 Results

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Industrials

Business Services

Kelly Services Inc. Class A Common Stock

Third Quarter 2021 Operating Results
During the third quarter of 2021, Kelly continued to benefit from the ongoing economic recovery, although the pace of the recovery was slower than anticipated. The return of the labor force as government programs expired and classrooms returned to in-person teaching is not occurring as quickly as experts expected. The post-COVID surge in demand has lead to there being more available jobs than unemployed people. Some experts argue the pandemic seismically shifted the workplace-worker dynamic, with many&nbsp;workers expecting their employers to provide benefits, allowances, and flexibility conducive to a work/life balance. In any case, it has become increasingly challenging for firms like Kelly to balance the demand from clients with supply of workers to fill positions.&nbsp;
So, while revenue for the third quarter of 2021 rose 15.1% (14.5% in constant currency) to $1.19 billion, it was below expectations. In the quarter, the acquisition of Softworld added 320 basis points to the revenue growth rate. Significantly, all five operating segments reported organic year-over-year revenue growth, coming out of the COVID crisis from last year. Compared to the third quarter of 2020, revenue from staffing services increased 11.8% and revenue from outcome-based services increased 15.1%. Higher margin permanent placement revenue more than doubled, up 118.0%, from the prior year. Overall, third quarter organic revenue is now just 9% below pre-COVID-19 levels on a constant currency basis, an improvement of 200 basis points versus the second quarter.
On a segment basis, Professional &amp; Technical (P&amp;I) revenue rose 1.4% (1.0% on a constant currency basis) to $452.6 million, up from $446.5 million in the third quarter last year. Staffing Services rose 1.0% to $344.7 million and Permanent Placement revenue of $6.9 million rose 200%, driven by strong demand for talent. Outcome-based Services revenue fell to $101.0 million from $102.9 million. P&amp;I revenues in the quarter were 84% of the 2019 level.
Science, Engineering &amp; Technology (SET) segment revenue of $306.2 million was up 25.5% (25.3% on a constant currency basis). SET revenue benefitted from the Softworld acquisition but organic revenue growth was an impressive 11.7%. Staffing revenue rose to $214.0 million from $181.6 million, Permanent Placement fees increased to $6.5 million from $3.1 million, and Outcome-based Services were $83.7 million versus $59.3 million a year ago. SET revenue in the quarter was 95% of 2019 revenue in the same period.
With a return to in classroom instruction, Education revenue jumped 142.1% to $66.6 million, up from a pandemic driven $27.4 million last year. Education revenues were at 117% of pre-pandemic levels for the quarter. Kelly continues to see strong demand for its services as well as continues to win business in this sector from additional districts. According to management, demand for outsourced support for finding instructors is at an all-time high, while the amount of new wins over the last 18 months is the highest ever for Kelly Education.
Outsourcing &amp; Consulting (OCG) revenue of $113.4 million was up 29.1% (28.6% on a constant currency basis), primarily due to an increase in hours revenue volume in the PPO specialty as well as growth in both RPO and MSP products. OCG revenue has now exceeded pre-COVID levels for the past four quarters and was 119% for the third quarter of 2021.
Finally, International revenue of $256.8 million was up 10.5% (8.8% on a constant currency basis). The International segment growth was driven by recoveries of volume in France, Russia, and Portugal, partially offset by a decline in Mexico related to new labor legislation in the country. Revenue from France increased to $56.3 million from $48.8 million last year, Russia to $33.0 million from $27.2 million, and Portugal rose to $36.6 million from $31.7 million. 
Third quarter gross profit rose 19.8% to $228.9 million. Gross Profit (GP) rate of 19.2% was up from 18.4% in the third quarter last year.&nbsp;On a year-over-year basis, the GP rate was positively impacted by the contribution of Softworld and a greater level of higher margin permanent placement fees, partially offset by lower gross margin in the P&amp;I segment.
SG&amp;A expenses increased 13.7% on a reported basis and 13.2% on a constant currency basis. SG&amp;A expenses related to Softworld accounted for 500 basis points of the year-over year increase. The increase in SG&amp;A expenses reflects increases in performance-based incentive compensation expenses as well as the impact of the temporary expense mitigation efforts last year. Also included in expenses were $2.4 million of contingent consideration due to the former owners of Greenwood Asher as a result of the operating performance of the business exceeding expectations. Third quarter earnings from operations totaled $9.0 million, compared to a loss of $2.4 million reported in the third quarter of 2020.
Diluted earnings per share in the third quarter of 2021 were $0.87 compared to $0.42 per share in the same period in 2020. Included in the earnings per share in the third quarter of 2021 is a non-cash gain, net of tax, on Kelly&#8217;s investment in Persol Holdings common stock of $0.62, compared to a gain of $0.29 last year. Third quarter 2020 earnings also were impacted by a customer dispute charge to the tune of $0.17 per share. On an adjusted basis, earnings per share were $0.25 in the quarter compared to $0.29 in the corresponding quarter of 2020. Adjusted EBITDA was $17.3 million in the quarter, an 1.4% margin, compared to $10.4 million, or a 1.0% margin, the the third quarter last year.
Updated Projections 
While the Company continued to see an uptrend in the overall business in the third quarter, the pace of recovery occurred at a slower rate than expected. The COVID crisis is not over, and a expected return to the workforce of employees as government programs expired and students returned to in-classroom learning has not occurred as expected. Given the existing conditions, management reduced full year revenue growth expectations to 9.5%-10.5% from a more robust 11%-12%. Softworld will account for 210 to 230 basis points of the increase, in line with previous guidance. On the positive side of the ledger, gross profit rate continues to be forecast at 18.5%, due to higher margin Softworld revenue and the favorable impact of higher fee-based business. During the quarter, Kelly expects to take a $3.5-$4.5 million restructuring charge intended to deliver $10 million of annual expense savings going forward.
We modestly revised our model to reflect the third quarter results and management&#8217;s revised expectations. For the fourth quarter, we are estimating revenue of $1.31 billion, up from $1.24 billion in the fourth quarter last year. GP rate is projected at 18.7%, down modestly from our previous 19.1% estimate. We raised our estimate of SG&amp;A expenses as management now expects SG&amp;A expenses to rise by 10%-11% year-over-year, up from a prior estimate of 9%-10%. This results in a decrease in our operating income from $16.9 million to an estimated $10.0 million versus $9.5 million last year. We are projecting adjusted net income for the fourth quarter of $12.8 million, or $0.32 per share, compared to $16.5 million, or $0.42 last year. For the full year, we are projecting revenue of $4.97 billion and adjusted net income of $44.5 million, or $1.13 per share. Full year adjusted EBITDA is projected to be $74.0 million, up from $48.1 million in 2020.

Kelly Services Inc. Class A Common Stock (KELYA)

Improving Environment but 3Q Operating Results Fall Short

Fundamental Analysis:

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Lower Demand Environment but Still Underway with Transformation (KELYA)

Restructuring for Growth (KELYA)

First Quarter 2023 Results (KELYA)

Move into Automated Solutions (KELYA)

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