Staffing services company Robert Half International (RHI 1.50%) beat analyst estimates for the third quarter and delivered guidance ahead of the Wall Street consensus for the fourth quarter. In an act of almost prescient behavior, the market took the stock more than 5% higher before the results. However, all of these short-term movements shouldn't trouble long-term investors unduly, as the positive drivers behind the stock remain in place. Robert Half is set for continued growth, but what about its valuation?
Robert Half International tops estimates
A quick look at the earnings and guidance versus consensus analyst estimates confirms tht the underlying trends in the business remain strong:
- Third-quarter revenue of $1.22 billion, versus estimates of $1.2 billion.
- Third-quarter EPS of $0.63, versus estimates of $0.58.
- Fourth-quarter revenue guidance of $1.175 billion to $1.225 billion, versus estimates of $1.2 billion.
- Fourth-quarter EPS guidance of $0.57-$0.62, versus estimates of $0.58.
Moreover, commentary on the trends in the third quarter and the first few weeks of the fourth were positive. The following table summarizes what management disclosed on the conference call.
| Segment | July | August | September | First Half of October |
|---|---|---|---|---|
| US Temp and Consulting | accelerated | flattened | accelerated | up 15% |
| US Permanent | accelerated | slowed | accelerated | up 10% |
|
International Temp and Consulting |
accelerated | accelerated | decelerated | up 8% |
| International Permanent | slowed | accelerated | accelerated | up 10% |
Source: Robert Half International presentations.
To put these figures into context, Robert Half generated 77.5% of its total revenue from the U.S., with the rest coming from its international operations. Moreover, a look at revenue growth demonstrates that, aside from International Permanent, all its segments are seeing positive growth trends.
Source: Robert Half presentations.
A longer-term view
Long-term investors shouldn't necessarily focus on short-term changes in fortunes, as the employment market takes a while to turn. Private non-farm payroll data and its relationship with Robert Half International's gross margins illustrates the point. Here's how those metrics compare over three months:
Sources: Bureau of Labor Statistics, Robert Half presentations.
The stock is as good a play on U.S. employment trends as an investor is likely to find.
Is Robert Half International a good value?
Let's take a moment to consider valuation. A staffing company like Robert Half tends to generate strong return on equity (net income divided by shareholder equity) during the good times, only to see it collapse in the bad times. However, while revenue and earnings will fall during a recession, the company is usually able to generate good free cash flow from its sales, albeit from a lower amount of sales in a recession.
Source: Morningstar.
Robert Half is a cyclical stock and always will be, and Fools should be mindful of that. However, given the strengthening trend in the U.S. economy (and recall that 77.5% of its revenue comes from the U.S.), its growth should continue. In terms of valuation, the 10-year average for its sales-to-free cash flow conversion is around 6.25%, and based on that figure, along with analyst estimates for $5.06 billion in revenue for 2015, the company could generate around $316 million in free cash flow in 2015.
That amount of free cash flow would represent 5.3% of the company's current enterprise value (market cap plus debt). Alternatively, if you flip the number, its EV-to-free cash flow ratio would be 19. A look at a long-term chart of this ratio reveals that this forward valuation would still be a lot cheaper than where the company traded before the recession.
The bottom line
All told, the earnings confirmed the positive trend in the employment market, and provided the economy holds up in 2015, Robert Half should do well. Pricing a cyclical is always difficult, but markets don't tend to price in long-term considerations for recessions and booms. Instead, they prefer to look at the value of the stock based on a one-year horizon that rolls on from year to year. Looking at things from that vantage point, there is still some value left in Robert Half International. Remember: Trends in the economy and employment tend to take a while to change.
