Hackett Group, Inc.: Form 10-Q for the period ended Sep 29, 2023

CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS

This Quarterly Report on Form 10-Q includes “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended (the "Exchange Act"). We intend the forward-looking statements to be covered by the safe harbor provisions for forward-looking statements in these sections. All statements regarding our expected financial position and operating results, our business strategy, our financing plans and forecasted demographic and economic trends relating to our industry are forward-looking statements. These statements can sometimes be identified by our use of forward-looking words such as “may,” “will,” “anticipate,” “estimate,” “expect,” or “intend” and similar expressions. These statements involve known and unknown risks, uncertainties and other factors that may cause our actual results, performance or achievements to be materially different from the results, performance or achievements expressed or implied by the forward-looking statements. We cannot promise you that our expectations reflected in such forward-looking statements will turn out to be correct. Factors that could impact such forward-looking statements include, among others, changes in worldwide and U.S. economic conditions that impact business confidence and the demand for our products and services, the impact of the coronavirus (COVID-19) pandemic, our ability to effectively integrate acquisitions into our operations, our ability to retain existing business, our ability to attract additional business, our ability to effectively market and sell our product offerings and other services, the timing of projects and the potential for contract cancellation by our customers, changes in expectations regarding the business consulting and information technology industries, our ability to attract and retain skilled employees, possible changes in collections of accounts receivable due to the bankruptcy or financial difficulties of our customers, risks of competition, price and margin trends, foreign currency fluctuations, the impact of national or geopolitical conflict, such as the war involving Russia and Ukraine on our business and changes in general economic conditions, inflation, interest rates and our ability to obtain additional debt financing if needed. We undertake no obligation to update or revise publicly any forward-looking statements, whether as a result of new information, future events or otherwise, except as required by law.

OVERVIEW

The following Management's Discussion and Analysis ("MD&A") is intended to help the reader understand the results of operations and financial condition of Hackett. MD&A is provided as a supplement to, and should be read in conjunction with, our consolidated financial statements and the accompanying notes to our consolidated financial statements included in this Quarterly Report on Form 10-Q.

The Hackett Group, Inc. (“Hackett” or the “Company”) is a leading IP-based strategic advisory and technology consulting firm that enables companies to achieve world-class business performance. By leveraging the comprehensive Hackett database, the world’s leading repository of enterprise business process performance metrics and best practice intellectual capital, our business and technology solutions help clients improve performance and maximize returns on technology investments. Only Hackett empirically defines world-class performance in sales, general and administrative and certain supply chain activities with analysis gained through over 25,000 benchmark and performance studies over 29 years at over 8,800 of the world’s leading companies.

Impact of Macroeconomic Conditions on Our Business

The level of revenue we achieve is based on our ability to deliver market leading services and solutions and to deploy skilled teams of professionals quickly. Our results of operations are affected by economic conditions, including macroeconomic conditions and levels of business confidence. Any deterioration in the current macroeconomic environment or economic downturn as a result of weak or uncertain economic conditions due to inflation, high interest rates, national or geopolitical events or other factors impacting economic activity or business confidence could adversely affect our clients' financial condition or outlook which may reduce the clients' demand for our services.

RESULTS OF OPERATIONS

The following table sets forth, for the periods indicated, our results of operations (in thousands and unaudited):

Revenue. We are a global company with operations in our primary markets located in the United States and Western Europe. Our revenue is denominated in multiple currencies, primarily the U.S. Dollar, British Pound and Euro, and as a result is affected by currency exchange rate fluctuations. The impact of currency fluctuations did not have a significant impact on comparisons between the quarter and first nine months of 2023 and the comparable periods of 2022. In this MD&A, we discuss revenue based on geographical location of engagement team personnel.

Our Company total revenue was $75.9 million and $224.2 million during the quarter and first nine months of 2023, respectively, as compared to $72.0 million and $223.6 million in the same periods in 2022, respectively. During the first nine months of 2022, we experienced stronger than expected post-Covid pent-up demand that drove strong results. By the middle of 2022, the impact of the increase in interest rates started to disrupt economic growth and resulted in extended client decision making. In the quarter and first nine months of 2023, one customer accounted for 6% and 5%, respectively, of our total Company revenue and in both the quarter and first nine months of 2022, one customer accounted for 7% of our total Company revenue.

Segment revenue. The Company has three reportable segments: Global Strategy & Business Transformation (Global S&BT), Oracle Solutions and SAP Solutions. Global S&BT includes S&BT Consulting, Benchmarking, Business Advisory Services, Intellectual Property as-a-Service (IPASS) and OneStream offerings. Oracle Solutions and SAP Solutions support the two fundamentally distinct ERP systems: Oracle and SAP.

The following table sets forth total revenue by operating segment, which includes reimbursable expenses related to project travel-related expenses passed through to a client with no associated operating margin (in thousands):

Global S&BT total revenue was $43.8 million and $129.8 million during the quarter and first nine months of 2023, respectively, as compared to $41.6 million and $128.8 million in the same periods of 2022, respectively. This segment has been impacted by slowing economic growth resulting in extended client decision making in our business transformation engagements. Additionally, the prior period comparisons were against the accelerated post pandemic demand that we experienced throughout the first half of 2022.

Oracle Solutions total revenue was $20.8 million and $58.8 million during the quarter and first nine months of 2023, respectively, as compared to $17.7 million and $59.2 million in the same periods of 2022, respectively. The increase in revenue during the quarter ended September 29, 2023, as compared to the same period in 2022, was primarily due to the segment's continued momentum that began in the second quarter of 2023.

SAP Solutions total revenue was $11.2 million and $35.6 million during the quarter and first nine months of 2023, respectively, as compared to $12.8 million and $35.7 million in the same periods of 2022, respectively. The decrease in revenue during the quarter ended September 29, 2023, as compared to the same period in 2022, was due to lower sales of SAP software.

Reimbursements as a percentage of Company total revenue were 1.6% and 1.8% during the quarter and first nine months of 2023, respectively, as compared to 1.4% and 1.2%, in the same periods in 2022, respectively. Reimbursements are project travel-related expenses passed through to a client with no associated operating margin. We have experienced increased client-related travel since the transition to a remote delivery model, however we do not expect reimbursements to return to pre-pandemic levels.

Cost of Service. Cost of service consists of personnel costs before reimbursable expenses, which includes salaries, benefits and incentive compensation for consultants and subcontractor fees, acquisition-related cash, acquisition-related non-cash stock based compensation expense and non-cash stock based compensation expense, and reimbursable expenses which are travel and other expenses passed through to a client and are associated with projects.

Personnel costs before reimbursable expenses increased 4%, to $44.4 million, and decreased 1%, to $133.0 million, for the quarter and first nine months of 2023, respectively, as compared to $42.9 million and $134.9 million in the same periods of 2022, respectively. The higher costs in the third quarter of 2023 were primarily due to the increased incentive compensation accruals commensurate with Company performance and increased utilization of subcontractors. The lower costs in the nine-month period of 2023 were primarily a result of lower incentive compensation accruals commensurate with Company performance and lower salaries resulting from headcount adjustments made earlier this year, partially offset by the increased use of subcontractors in 2023. Personnel costs as a percentage of total Company revenue were 59% during both the quarter and first nine months of 2023, respectively, as compared to 60% for both of the same periods of 2022.

Non-cash stock based compensation expense, included in personnel costs before reimbursable expenses was $1.5 million and $4.7 million during the quarter and first nine months of 2023, respectively, as compared to $1.7 million and $4.8 million for the same periods of 2022, respectively.

Selling, General and Administrative Costs (“SG&A”). SG&A primarily consists of salaries, benefits and incentive compensation for the selling, marketing, administrative and executive employees, non-cash stock based compensation expense, amortization of intangible assets, acquisition related costs and various other overhead expenses.

SG&A costs increased 13%, to $16.5 million, and 10%, to $49.3 million, during the quarter and first nine months of 2023, respectively, as compared to $14.6 million and $45.0 million for the same periods of 2022, respectively. This increase in the costs during the quarter and first nine months of 2023 was primarily due to the increased investments in dedicated sales resources for our IP-based offerings in our Global S&BT segment, partially offset by lower incentive compensation commensurate with Company performance. SG&A costs as a percentage of total Company revenue were 22% during both the quarter and first nine months of 2023, respectively, as compared to 20% during the same periods in 2022.

Non-cash stock based compensation expense, included in SG&A, was $1.2 million and $3.2 million during the quarter and first nine months of 2023, respectively, as compared to $0.9 million and $3.0 million for the same periods, respectively.

There was no amortization expense included in SG&A in the first nine months of 2023, however, there was $154 thousand of amortization expense in the first nine months of 2022. The amortization expense in 2022 was related to the intangible assets acquired in our acquisitions and the buyout of our partner’s joint venture interest in the CGBS Training and Certification Programs in 2017. The intangible assets related to the acquisitions were fully amortized as of the second quarter of 2022.

Segment Profit. Segment profit consists of the revenue generated by the segment, less the direct costs of revenue and selling, general and administrative expenses that are incurred directly by the segment. Items not allocated to the segment level include corporate costs related to the administrative functions that are performed in a centralized manner and that are not attributable to a particular segment, depreciation and amortization expense, interest expense, non-cash compensation expense and any non-recurring transactions.

Global S&BT segment profit was $14.0 million and $40.9 million during the quarter and first nine months of 2023, respectively, as compared to $14.0 million and $45.9 million for the same periods in 2022, respectively. This decrease in the nine month comparison was primarily due to the incremental investments we are making in program development and additional dedicated sales resources for Benchmark, Executive Advisory Market Intelligence and our other IP as-a-service offerings.

Oracle Solutions segment profit was $5.0 million and $14.0 million during the quarter and first nine months of 2023, respectively, as compared to $3.3 million and $12.1 million for the same periods in 2022, respectively. The increase in the third quarter of 2023 segment profit, as compared to the same period in the prior year, was primarily due to the increase in year over year revenue, partially offset by the increase in new hires and higher use of subcontractors. The increase in the nine month comparison was primarily due to the lower salary and benefits costs in 2023, partially offset by higher use of subcontractors and lower revenue.

SAP Solutions segment profit was $2.9 million and $8.5 million during the quarter and first nine months of 2023, respectively, as compared to $3.8 million and $9.2 million in the same periods in 2022, respectively. The decrease in segment profit in both the quarter and nine month periods in 2023, as compared to the same periods in 2022, was primarily due to lower sales of SAP cloud software.

Interest Expense. Interest expense was $0.8 million and $2.6 million during the quarter and first nine months of 2023, respectively, as compared to $14 thousand and $70 thousand in 2022, respectively. In the fourth quarter of 2022, we drew down $60.0 million on our Credit Facility (as defined below) to fund the tender offer transaction. As of September 29, 2023, we had an outstanding balance of $44.0 million. As of September 30, 2022, we did not have any outstanding debt.

Income Taxes. During the quarter and first nine months of 2023, we recorded $3.5 million and $8.9 million of income tax expense, respectively, related to certain federal, foreign and state taxes which reflected an effective tax rate of 27.1% and 25.3%, respectively. During the third quarter and first nine months of 2022, we recorded $3.7 million and $10.5 million of income tax expense, respectively, related to certain federal, foreign and state taxes which reflected an effective tax rate of 26.1% and 25.2%, respectively.

Liquidity and Capital Resources

As of September 29, 2023 and December 30, 2022, we had $9.9 million and $30.3 million, respectively, classified as cash on the consolidated balance sheets. We currently believe that available funds (including the cash on hand and funds available for borrowing under our revolving line of credit the "Credit Facility") and cash flows generated by operations will be sufficient to fund our working capital requirements, including debt payments, lease obligations and capital expenditures for at least the next twelve months and beyond. We may decide to raise additional funds in order to fund expansion, to develop new or further enhance products and services, to respond to competitive pressures, or to acquire complementary businesses or technologies. There is no assurance that additional financing would be available when needed or desired. Our cash requirements have not changed materially from those disclosed in Item 7 included in Part II of our Annual Report on Form 10-K for the year ended December 30, 2022.

The following table summarizes our cash flow activity (in thousands):

Cash Flows from Operating Activities

Net cash provided by operating activities was $11.8 million during the first nine months of 2023, as compared to $34.1 million during the same period in 2022. In 2023, the net cash provided by operating activities was primarily due to net income adjusted for non-cash items, partially offset by an increase in accounts receivable and contract assets, a decrease in accrued liabilities and other accruals primarily due to payments of the 2022 incentive compensation liabilities, payments to vendors and payments related to income tax liabilities. In 2022, the net cash provided by operating activities was primarily due to net income adjusted for non-cash items and an increase in income tax liabilities, partially offset by a decrease in accounts payable and accrued liabilities and other accruals primarily due to payments to vendors, payments of the 2021 incentive compensation liabilities and lower contract liabilities.

Cash Flows from Investing Activities

Net cash used in investing activities was $3.2 million during both the first nine months of 2023 and 2022. During both periods, cash flows used in investing activities primarily related to investments for the development of our Hackett Connect Executive Advisory member platform and continued development of our Quantum Leap benchmark and Digital Transformation technologies.

Cash Flows from Financing Activities

Net cash used in financing activities was $29.0 million and $9.6 million during the first nine months of 2023 and 2022, respectively. The usage of cash in 2023 primarily related to the net repayment of borrowings of $16.0 million related to our Credit Facility, dividend payments of $9.0 million and the repurchase of $4.4 million of the Company's common stock. The usage of cash in 2022 primarily related to the repurchase of $3.2 million of the Company’s common stock and dividend payments of $7.0 million.

On November 7, 2022, we amended and restated our credit agreement in order to extend the maturity date of the Credit Facility and provide the Company with an additional $55 million in borrowing capacity, for an aggregate amount of up to $100 million. See Note 6, “Credit Facility,” to our consolidated financial statements included in this Quarterly Report on Form 10-Q for more information. As of September 29, 2023, we had $44.0 million of outstanding borrowings under our Credit Facility, excluding deferred debt costs, leaving us with a capacity of approximately $56.0 million.

As of September 29, 2023, our exposure to market risk related primarily to changes in interest rates and foreign currency exchange rate risks.

Interest Rate Risk

Our exposure to market risk for changes in interest rates relates primarily to the Credit Facility, which is subject to variable interest rates. Under our prior credit agreement, which was amended and restated in November 2022, the interest rates per annum applicable to loans under the Credit Facility was, at our option, equal to a base rate for one-, two-, three- or nine-month interest periods chosen by us in each case, plus an applicable margin percentage. A 100-basis point increase in our interest rate under our Credit Facility (Bloomberg Short-Term Bank Yield Index) would not have had a material impact on our results of operations for the quarter and nine months ended September 29, 2023.

Exchange Rate Sensitivity

We face exposure to adverse movements in foreign currency exchange rates as a portion of our revenue, expenses, assets and liabilities are denominated in currencies other than the U.S. Dollar, primarily the British Pound, the Euro and the Australian Dollar. These exposures may change over time as business practices evolve.

Under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, we conducted an evaluation of our disclosure controls and procedures, as such term is defined under Rule 13a-15(e) promulgated under the Securities Exchange Act of 1934, as amended. Based on this evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective as of the end of the period covered by this Quarterly Report on Form 10-Q.

Changes in Internal Control Over Financial Reporting

There were no changes in our internal control over financial reporting that occurred during the period covered by this Quarterly Report on Form 10-Q that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

For a discussion of our potential risks and uncertainties, see the risk factor below and the information under the heading “Risk Factors” in our Annual Report on Form 10-K for the year ended December 30, 2022 (the “Annual Report”).

There have been no material changes to any of the risk factors disclosed in the Company’s Annual Report on Form 10-K for the year ended December 30, 2022.