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KFY > SEC Filings for KFY > Form 10-K on 27-Jun-2014All Recent SEC Filings




Annual Report

Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations

Forward-looking Statements

This Annual Report on Form 10-K may contain certain statements that we believe are, or may be considered to be, "forward-looking" statements, within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. These forward-looking statements generally can be identified by use of statements that include phrases such as "believe," "expect," "anticipate," "intend," "plan," "foresee," "may," "will," "likely," "estimates," "potential," "continue" or other similar words or phrases. Similarly, statements that describe our objectives, plans or goals also are forward-looking statements. All of these forward-looking statements are subject to risks and uncertainties that could cause our actual results to differ materially from those contemplated by the relevant forward-looking statement. The principal risk factors that could cause actual performance and future actions to differ materially from the forward-looking statements include, but are not limited to, dependence on attracting and retaining qualified and experienced consultants, maintaining our brand name and professional reputation, potential legal liability and regulatory developments, portability of client relationships, global and local political or economic developments in or affecting countries where we have operations, currency fluctuations in our international operations, risks related to growth, restrictions imposed by off-limits agreements, competition, reliance on information processing systems, cyber security vulnerabilities, limited protection of our intellectual property, our ability to enhance and develop new technology, our ability to successfully recover from a disaster or business continuity problems, employment liability risk, an impairment in the carrying value of goodwill and other intangible assets, deferred tax assets that we may not be able to use, our ability to develop new products and services, changes in our accounting estimates and assumptions, alignment of our cost structure, risks related to the integration of recently acquired businesses, seasonality and the matters disclosed under the heading "Risk Factors" in the Company's Exchange Act reports, including Item 1A included in this Annual Report. Readers are urged to consider these factors carefully in evaluating the forward-looking statements. The forward-looking statements included in this Annual Report on Form 10-K are made only as of the date of this Annual Report on Form 10-K and we undertake no obligation to publicly update these forward-looking statements to reflect subsequent events or circumstances.

The following presentation of management's discussion and analysis of our financial condition and results of operations should be read together with our consolidated financial statements and related notes included in this Annual Report on Form 10-K.

Executive Summary

Korn/Ferry International (referred to herein as the "Company," "Korn Ferry," or in the first person notations "we," "our," and "us") is a premier global provider of talent management solutions that helps clients design strategies to assist in building and attracting their talent. We are a premier provider of executive recruitment, leadership and talent consulting and talent acquisition solutions with the broadest global presence in the recruitment industry. Our services include Executive Recruitment, consulting and solutions services through Leadership & Talent Consulting ("LTC") and recruitment for non-executive professionals and recruitment process outsourcing ("RPO") through Futurestep. Approximately 74% of the executive recruitment searches we performed in fiscal 2014 were for board level, chief executive and other senior executive and general management positions. Our 5,175 clients in fiscal 2014 included many of the world's largest and most prestigious public and private companies, including approximately 59% of the FORTUNE 500, middle market and emerging growth companies, as well as government and nonprofit organizations. We have built strong client loyalty, with 80% of assignments performed during fiscal 2014 having been on behalf of clients for whom we had conducted assignments in the previous three fiscal years.

In an effort to maintain our long-term strategy of being the leading provider of talent management solutions, our strategic focus for fiscal 2015 centers upon enhancing the integration of our multi-service strategy. We plan to continue to address areas of increasing client demand including LTC and RPO. We further plan to explore new products and services, continue to pursue a disciplined acquisition strategy, enhance our technology and

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processes and aggressively leverage our brand through thought leadership and intellectual capital projects as a means of delivering world-class service to our clients.

During fiscal 2014, 88% of our top 50 clients utilized at least two of our service lines. During fiscal 2013, we completed the acquisitions of Minneapolis-based PDI Ninth House ("PDI"), a leading, globally-recognized provider of leadership assessment and development solutions and Global Novations, LLC ("Global Novations"), a leading provider of diversity and inclusion and leadership development solutions, which are collectively referred to herein as the "prior year acquisitions" (see Note 12 - Acquisitions, in the Notes to our Consolidated Financial Statements in this Annual Report on Form 10-K, for additional information regarding acquisitions completed during fiscal 2013). As a result, in fiscal 2013, we implemented a restructuring plan focused on realizing the planned synergies associated with the prior year acquisitions. We continued to implement this plan during the first half of fiscal 2014 and in connection with the plan, recorded restructuring charges of $3.7 million during fiscal 2014, of which $2.9 million was for facility costs in order to integrate PDI by consolidating and eliminating redundant office space around the world and severance costs of $0.8 million to consolidate certain overhead functions.

The Company currently operates in three global business segments: Executive Recruitment, LTC and Futurestep. See Note 11 - Business Segments, in the Notes to our Consolidated Financial Statements in this Annual Report on Form 10-K, for discussion of the Company's global business segments. The Company evaluates performance and allocates resources based on the chief operating decision maker's review of (1) fee revenue and (2) earnings before interest, taxes, depreciation and amortization ("EBITDA"), which is further adjusted to exclude restructuring charges (net of recoveries), and/or integration/acquisition and certain separation costs ("Adjusted EBITDA"). EBITDA and Adjusted EBITDA are non-GAAP financial measures. They have limitations as analytical tools, should not be viewed as substitutes for financial information determined in accordance with U.S. generally accepted accounting principles ("GAAP"), and should not be considered in isolation or as substitutes for analysis of the Company's results as reported under GAAP, nor are they necessarily comparable to non-GAAP performance measures that may be presented by other companies. Management believes the presentation of these non-GAAP financial measures provides meaningful supplemental information regarding Korn Ferry's performance by excluding certain charges and other items that may not be indicative of Korn Ferry's ongoing operating results. The use of these non-GAAP financial measures facilitates comparisons to Korn Ferry's historical performance. Korn Ferry includes these non-GAAP financial measures because management believes they are useful to investors in allowing for greater transparency with respect to supplemental information used by management in its evaluation of Korn Ferry's ongoing operations and financial and operational decision-making. The accounting policies for the reportable segments are the same as those described in the summary of significant accounting policies in the accompanying consolidated financial statements, except that the above noted items are excluded from Adjusted EBITDA.

Fee revenue increased $147.5 million, or 18% (9% increase in fee revenue when adjusting for the prior year acquisitions) in fiscal 2014 to $960.3 million compared to $812.8 million in fiscal 2013, with increases in fee revenue in LTC, Executive Recruitment and Futurestep. During fiscal 2014, we recorded operating income of $91.6 million with Executive Recruitment, LTC and Futurestep segments contributing $116.4 million, $23.8 million, and $13.3 million, respectively, offset by corporate expenses of $61.9 million. Net income for fiscal 2014 and 2013 was $72.7 million and $33.3 million, respectively. Adjusted EBITDA during fiscal 2014 was $138.3 million with Executive Recruitment, LTC and Futurestep segments contributing $127.8 million, $37.6 million and $16.9 million, respectively, offset by corporate expenses of $44.0 million. Adjusted EBITDA increased $40.5 million in fiscal 2014 to $138.3 million from adjusted EBITDA of $97.8 million in fiscal 2013.

Our cash, cash equivalents and marketable securities increased $102.3 million, or 28%, to $468.3 million at April 30, 2014, compared to $366.0 million at April 30, 2013, mainly due to cash provided by operations, partially offset by bonuses earned in fiscal 2013 and paid during the first quarter of fiscal 2014 and $15.0 million in contingent consideration also paid during the first quarter of fiscal 2014 to the selling stockholders of PDI. As of April 30, 2014, we held marketable securities to settle obligations under our Executive Capital Accumulation

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Plan ("ECAP") with a fair value of $116.2 million. Our vested and unvested obligations for which these assets were held in trust totaled $117.6 million as of April 30, 2014. Our working capital increased by $96.5 million to $275.0 million in fiscal 2014. We believe that cash on hand and funds from operations will be sufficient to meet our anticipated working capital, capital expenditures and general corporate requirements in the next twelve months. We had no long-term debt or any outstanding borrowings under our credit facility at April 30, 2014 or 2013. As of April 30, 2013, under our previous senior secured credit agreement we were required to maintain $2.9 million in restricted cash to provide collateral for the standby letters of credit that were outstanding. There is no restricted cash requirement under our current senior unsecured revolving credit agreement and, as a result, the Company had no restricted cash balance as of April 30, 2014. As of April 30, 2014 and 2013, there was $2.8 million and $2.7 million, respectively of standby letters of credit issued under our long-term debt arrangements. We have a total of $1.5 million and $1.4 million of standby letters of credits with other financial institutions as of April 30, 2014 and 2013, respectively.

Critical Accounting Policies

The following discussion and analysis of our financial condition and results of operations are based on our consolidated financial statements. Preparation of our periodic filings requires us to make estimates and assumptions that affect the reported amount of assets and liabilities and disclosure of contingent assets and liabilities at the date of our financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates and assumptions and changes in the estimates are reported in current operations as new information is learned or upon the amounts becoming fixed and determinable. In preparing our consolidated financial statements and accounting for the underlying transactions and balances, we apply our accounting policies as disclosed in the notes to our consolidated financial statements. We consider the policies discussed below as critical to an understanding of our consolidated financial statements because their application places the most significant demands on management's judgment and estimates. Specific risks for these critical accounting policies are described in the following paragraphs. Senior management has discussed the development, selection and key assumptions of the critical accounting estimates with the Audit Committee of the Board of Directors.

Revenue Recognition. Management is required to establish policies and procedures to ensure that revenue is recorded over the performance period for valid engagements and related costs are matched against such revenue. We provide professional services related to executive recruitment activities and recruitment for non-executive professionals on a retained basis, recruitment process outsourcing and leadership & talent consulting services. Fee revenue from executive recruitment activities and recruitment for non-executive professionals are generally one-third of the estimated first year cash compensation of the placed executive plus a percentage of the fee to cover indirect expenses. The Company generally recognizes revenue on a straight-line basis over a three month period, commencing upon client acceptance, as this is the period over which the recruitment services are performed. Fees earned in excess of the initial contract amount are recognized upon completion of the engagement, which reflect the difference between the final actual compensation of the placed executive and the estimate used for purposes of the previous billings. Since the initial fees are typically not contingent upon placement of a candidate, our assumptions primarily relate to establishing the period over which such service is performed. These assumptions determine the timing of revenue recognition and profitability for the reported period. If these assumptions do not accurately reflect the period over which revenue is earned, revenue and profit could differ. Any services that are provided on a contingent basis are recognized once the contingency is resolved. In addition to recruitment for non-executive professionals, Futurestep provides recruitment process outsourcing services and fee revenue is recognized as services are rendered. Fee revenue from LTC services is recognized as services are rendered for consulting engagements and other time based services, measured by total hours incurred to the total estimated hours at completion. It is possible that updated estimates for the consulting engagement may vary from initial estimates with such updates being recognized in the period of determination. Depending on the timing of billings and services rendered, the Company accrues revenue as appropriate. LTC revenue is also derived from the sale of solution services, which includes revenue from licenses and the sale of products. Revenue from licenses is recognized using a straight-line method over the term of the contract

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(generally 12 months). Revenue from perpetual licenses is recognized when the license is sold. Products sold by the Company mainly consist of books and automated services covering a variety of topics including performance management, team effectiveness and coaching and development. The Company recognizes revenue for its products when the product has been sold. Furthermore, a provision for doubtful accounts on recognized revenue is established with a charge to general and administrative expenses based on historical loss experience, assessment of the collectability of specific accounts, as well as expectations of future collections based upon trends and the type of work for which services are rendered.

Annual Performance Related Bonuses. Each quarter, management records its best estimate of its annual performance related bonuses, which requires management to, among other things, project annual consultant (employees who originate business) productivity (as measured by engagement fees billed and collected by executive search consultants and revenue for LTC and Futurestep consultants), Company performance including profitability, competitive forces and future economic conditions impact on our results. At the end of each fiscal year, annual performance related bonuses take into account final individual consultant productivity, Company results including profitability, the achievement of strategic objectives and the results of individual performance appraisals, and the current economic landscape. Because annual performance-based bonuses are communicated and paid only after the Company reports its full fiscal year results, actual performance-based bonus payments may differ from the prior year's estimate, and any changes in the estimate are reported in current operations. Such changes in the bonus estimates historically have not been significant and are recorded in current operations in the period in which they are determined.

Deferred Compensation. Estimating deferred compensation requires assumptions regarding the timing and probability of payments of benefits to participants and the discount rate. Changes in these assumptions would significantly impact the liability and related cost on our consolidated balance sheet and statement of income, respectively. Management engages an independent actuary to periodically review these assumptions in order to confirm that they reflect the population and economics of our deferred compensation plans in all material respects and to assist us in estimating our deferred compensation liability and the related cost. The actuarial assumptions we use may differ from actual results due to changing market conditions or changes in the participant population. These differences could have a significant impact on our deferred compensation liability and the related cost.

Carrying Values. Valuations are required under GAAP to determine the carrying value of various assets. Our most significant assets for which management is required to prepare valuations are carrying value of receivables, goodwill, intangible assets, fair value of contingent consideration, and recoverability of deferred income taxes. Management must identify whether events have occurred that may impact the carrying value of these assets and make assumptions regarding future events, such as cash flows and profitability. Differences between the assumptions used to prepare these valuations and actual results could materially impact the carrying amount of these assets and our operating results.

Of the assets mentioned above, goodwill is the largest asset requiring a valuation. Fair value of goodwill for purposes of the goodwill impairment test is determined utilizing a discounted cash flow analysis based on forecast cash flows (including estimated underlying revenue and operating income growth rates) discounted using an estimated weighted-average cost of capital for market participants. A market approach, utilizing observable market data such as comparable companies in similar lines of business that are publicly traded or which are part of a public or private transaction (to the extent available), is used to corroborate the discounted cash flow analysis performed at each reporting unit. The Company also reconciles the results of these analyses to its market capitalization. If the carrying amount of a reporting unit exceeds its estimated fair value, goodwill is considered potentially impaired and further tests are performed to measure the amount of impairment loss, if any. We recorded no goodwill impairments in conjunction with our annual goodwill impairment assessment performed as of January 31, 2014. While historical performance and current expectations have resulted in fair values of goodwill in excess of carrying values, if our assumptions are not realized, it is possible that in the future an impairment charge may need to be recorded. However, it is not possible at this time to determine if an impairment charge would result or if such a charge would be material. Fair value determinations require

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considerable judgment and are sensitive to changes in underlying assumptions and factors. As a result, there can be no assurance that the estimates and assumptions made for purposes of the annual goodwill impairment test will prove to be accurate predictions of the future. As of our testing date, the fair value of each reporting unit exceeded its carrying amount. As a result, no impairment charge was recognized. There was also no indication of potential impairment during the fourth quarter of fiscal 2014 that would have required further testing.

Examples of events or circumstances that could reasonably be expected to negatively affect the underlying key assumptions and ultimately impact the estimated fair value of the reporting units may include such items as follows:

A prolonged downturn in the business environment in which the reporting units operate;

An economic climate that significantly differs from our future profitability assumptions in timing or degree; and

Volatility in equity and debt markets.

Results of Operations

The following table summarizes the results of our operations as a percentage of fee revenue:

                                                         Year Ended April 30,
                                                    2014         2013         2012
    Fee revenue                                      100.0 %      100.0 %      100.0 %
    Reimbursed out-of-pocket engagement expenses       3.7          4.5          4.6

    Total revenue                                    103.7        104.5        104.6
    Compensation and benefits                         67.4         68.3         67.6
    General and administrative expenses               15.8         17.6         17.5
    Reimbursed expenses                                3.7          4.5          4.6
    Cost of services                                   4.2          3.6          2.5
    Depreciation and amortization                      2.7          2.3          1.8
    Restructuring charges, net                         0.4          2.8          0.1

    Operating income                                   9.5          5.4         10.5

    Net income                                         7.6 %        4.1 %        6.9 %

The following tables summarize the results of our operations by business segment:

                                                            Year Ended April 30,
                                       2014                         2013                         2012
                               Dollars          %           Dollars          %           Dollars          %
                                                           (dollars in thousands)
Fee revenue
Executive Recruitment:
North America                 $ 306,768         31.9 %     $ 290,317         35.7 %     $ 305,717         38.7 %
EMEA                            147,917         15.4         128,807         15.9         141,409         17.9
Asia Pacific                     84,816          8.8          73,221          9.0          82,230         10.4
South America.                   29,374          3.1          30,134          3.7          31,846          4.0

Total Executive
Recruitment                     568,875         59.2         522,479         64.3         561,202         71.0
LTC                             254,636         26.5         168,115         20.7         115,407         14.6
Futurestep                      136,790         14.3         122,237         15.0         113,896         14.4

Total fee revenue               960,301        100.0 %       812,831        100.0 %       790,505        100.0 %

Reimbursed out-of-pocket
engagement expense               35,258                       36,870                       36,254

Total revenue                 $ 995,559                    $ 849,701                    $ 826,759

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                                                                   Year Ended April 30,
                                           2014                            2013                            2012
                                 Dollars        Margin(1)        Dollars        Margin(1)        Dollars        Margin(1)
                                                                  (dollars in thousands)
Operating income (loss)
Executive Recruitment:
North America                   $  70,256             22.9 %    $  58,832             20.3 %    $  75,580             24.7 %
EMEA                               23,168             15.7          9,173              7.1         13,288              9.4
Asia Pacific                       17,274             20.4          6,973              9.5         11,859             14.4
South America.                      5,654             19.2          5,987             19.9          9,207             28.9

Total Executive Recruitment       116,352             20.5         80,965             15.5        109,934             19.6
LTC                                23,847              9.4          6,424              3.8         16,360             14.2
Futurestep                         13,352              9.8         10,975              9.0          8,445              7.4
Corporate                         (61,943 )                       (54,488 )                       (51,873 )

Total operating income (loss)   $  91,608              9.5 %    $  43,876              5.4 %    $  82,866             10.5 %

(1) Margin calculated as a percentage of fee revenue by business segment.

                                                                                               Year Ended April 30, 2014
                                                              Executive Recruitment
                                         North                         Asia         South
                                        America         EMEA         Pacific       America       Subtotal          LTC          Futurestep       Corporate         Consolidated
                                                                                                    (in thousands)
Fee revenue                            $ 306,768      $ 147,917      $ 84,816      $ 29,374      $ 568,875      $ 254,636      $    136,790      $       -        $      960,301
Total revenue                          $ 321,473      $ 152,525      $ 87,606      $ 29,586      $ 591,190      $ 262,962      $    141,407      $       -        $      995,559
Net income                                                                                                                                                        $       72,691
Other income, net                                                                                                                                                         (9,769 )
Interest expense, net                                                                                                                                                      2,363
Equity in earnings of unconsolidated
subsidiaries, net                                                                                                                                                         (2,169 )
Income tax provision                                                                                                                                                      28,492

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