Description

Robert Half International Inc. (RHI) is a large, liquid, value stock trading at a relatively inexpensive EBIT/TEV yield of 11%. We think fears of a China slowdown, the oil crash, and/or a potential global recession and how they would impact RHI fundamentals are overblown, especially during the early February swoon, which saw the stock lose significantly to the S&P. Today the stock represents a reasonable value.

For those VIC members unfamiliar with the name, RHI provides specialized staffing services, primarily in the accounting and finance functions, but the firm is also involved in staffing in other areas, including risk and business consulting, technology, administrative, legal, IT, and creative and marketing. The company has 2 types of employees: 1) 16,000 employees who operate the business and manage the field offices which recruit and hire, and 2) temporary employees, of the company placed 220,000 on assignments in 2015. 

Bear Case

Bears argue the stock is cheap for a reason. Staffing is highly cyclical, and if you are holding the staffing equity bag during a recession, when recurring revenues go up in smoke, you could have a bad outcome. There are signs this may be happening.

In 2015, growth slowed in the Temporary and Consulting Staffing segment—representing > 75% of firm revenues—falling to 6.9%, down from 9.1% growth in 2014. Permanent placement staffing, representing ~8% of revenues also slowed to 6.8% in 2015, down from a much healthier 13.5% in 2014. Europe is in a downturn, and the strength of the dollar has created currency headwinds: as a result of these factors, revenues in RHI’s international business were down 7.6% in 2015, versus 2014. Additionally, new digital competitors, such as LinkedIn, are looming.

Yet despite these trends, the U.S. recovery seems to just keep chugging along, albeit sluggishly, with payrolls increasing, and national unemployment (now 4.9%) continuing to fall. The U.S. added 2.7 million jobs during 2015. The European business has stabilized, and currency effects are slowing.

Historically, RHI has had good fundamental dynamics over time, indicating that it is a high quality firm, and its strong franchise should continue to allow the firm to earn above average returns for shareholders.

Staffing Industry

Businesses use staffing firms to meet various personnel and temporary help needs, but mainly for a few business reasons, including rapid access to talent so they can stay fully staffed, an opportunity to evaluate people before offering them permanent employment, and to accommodate new projects, clients or growth. Complementing these needs are broader trends on the part of workers towards more flexible work, independence, mobile freelancing, and virtual teams. Temporary employees represent approximately 2.0% of the U.S. workforce today.

As alluded to earlier, staffing is a highly cyclical industry. Changes in staffing industry employment are reflective of employment trends in the broader economy. The American Staffing Association, a trade association, estimates that GDP growth of about 1% is required for the staffing industry to grow.

Staffing Industry Analysts, an industry research group, released a report last year that estimated overall U.S. staffing industry revenues at $124 billion for 2014, and the group estimates industry revenues will grow to $183 billion in 2026, which is reasonable growth.

The Bureau of Labor Statistics (BLS) surveys maintains a database on the year over year changes in Staffing Services, which is an element of economic activity included in the Beige book. The following are 12-month percent changes in Staffing Services, by month, over the past year (chronologically): 0.9%, 1.3%, 1.3%, 1.4%, 1.7%, 1.7%, 1.9%, 1.9%, 2.4%, 2.3%, 2.2%, 3.0%. While the last four of these figures are preliminary, it’s hard to argue that there is any kind of obvious slowdown taking place; if anything, the opposite appears to be the case.

Additionally, the BLS suggests that RHI’s “sweet spot” occupations of bookkeeping, accounting and audit have both 1) low current unemployment rates, and 2) above average growth rates. That’s good news for RHI.

Brand

The Robert Half name is well-known, and RHI has several divisions with recognizable brand names, such as Accountemps, Robert Half Finance & Accounting, Office Team, Protiviti, and others. It offers deep specialization across numerous employment areas, offering it good diversification within the industry, and has a marketing spend consistent with its scale that drives name recognition at the national level.

Of particular note is its rapidly growing Protiviti business. About 15 years ago, RHI purchased the risk consulting practice of Arthur Anderson and formed Protiviti, which enables the firm to provide consulting and audit services, and also addresses regulatory, risk and compliance issues.

Protiviti is driving growth within the segment: revenues for Risk consulting and internal audit increased 19% for 2015, with Q4 operating profits for Protiviti increasing 29% YoY. The company has said they expect Protiviti to grow revenues and operating profits in the mid-teens range for 2016.

Fundamentals

Consistent with its strong brand and reputation, RHI has demonstrated long-term earnings power, and has grown quarterly net income at double digit YoY rates for 23 consecutive quarters.

It also uses its asset and capital very efficiently, generating strong returns. We assess franchise value by measuring 8-yr geometric returns on assets and on capital, which represents a firm’s underlying business performance, and its ability to generate returns on its assets and capital over a long time frame.

RHI’s 8-yr ROA is 13.4% and the 8-yr ROC was 21.4%, placing the firm in the top-tier among all mid/large cap firms. RHI recently calculated that its 20-year ROE through Q3 of 2015 was 24.9%. Certainly by these measures, RHI can be said to have demonstrated the characteristics of a franchise over a sustained period.

Free cash flow is an important indicator of value. A simple FCF metric is to compare cumulative trailing 8-year FCF against total assets. By this standard, RHI has been quite a cash cow over the past 8 years, generating >$2 billion in free cash flow, resulting in a spectacular 8yr Free Cash Flow / Assets return of 120%. Want to know what other franchises can top this return? Think Expeditors and Dun & Bradstreet, both of which are strong and well-known franchises that have been written up on VIC over the past year.

And these metrics are not simply a reflection of industry characteristics. Consider that a large competitor of RHI, ManpowerGroup (MAN), is trading at a similar EBIT/TEV yield, yet had 8-yr ROA of 2.6%, 8-yr ROC of 5.3%, and cumulative 8-yr FCFA of 35.5%, all of which are below average for our investable market. So while MAN is also cheap, it simply does not measure up—not even close—to RHI’s strong franchise metrics.

Margins

We look at margin stability as an indicator of pricing power for a firm over a full business cycle. In general, RHI does a lot of business in the smaller and middle markets, where the price elasticity of demand is low. Accordingly, RHI gross margins for the past 8 years (chronologically) were pretty stable even through the great recession: 41.6%, 36.4%, 37.6%, 39.4%, 40.1%, 41.0%, 41.0%, and 41.5%. 

Financial Strength

RHI’s business exhibits numerous signs of financial strength. RHI has a significant cash balance of $225 million, and has essentially no debt. The firm also has seen some recent operational momentum. During 2015, revenues grew at 6.9%, while operating income increased 16.8%. During 2015, it generated a 21% ROA and a 21% FCF return on assets, both of which were higher than for 2014, and gross margins also increased.

Shareholder friendly

RHI has grown its dividend at a 11.1% CAGR since the inception of dividends (2004).  The company is a consistent repurchaser of equity. In 2015 the company bought back $271 million in stock. Over the past 5 years the company has reduced the share count by approximately 5.5%.

Summary

RHI trades at an EBIT/TEV yield of 11%, which is cheap among all other mid/large cap stocks. Despite being relatively cheap there are strong indications that it is a high quality franchise. The firm showed good overall growth in 2015, and macro and industry trends for 2016 appear to remain in place. A key business driver, Protiviti, looks to be on track for another year of strong growth. Things might get rough if we enter a recession, but it is unlikely that natrual market cycles will destroy the long business value of RHI.

What we see today is consistent with what we have seen over the recent cycle. RHI has generated strong returns on capital and assets over a long time frame, and has stable margins, even accounting for the 08 crisis. It has grown steadily over this long time frame, and is today is financially strong, with no debt and significant operating momentum. It is also shareholder friendly, offering steady dividend growth and share repurchases.

In short, RHI has all the hallmarks of a high quality value stock, and has the size and liquidity to be a more investable position for those managing larger pools of investment capital (as opposed to other recommendations which are typically smaller and more illiquid).

Catalyst

- Ongoing U.S. recovery/growth of staffing industry

- Continued growth of Protiviti

- Return of shareholder capital