Hackett Group, Inc. Q2 FY2025 Earnings Call

Welcome to the Hackett Group Second Quarter Earnings Conference Call. Please be advised this conference is being recorded. Hosting tonight's call are Mr. Ted Fernandez, Chairman and CEO; and Mr. Rob Ramirez, Chief Financial Officer. Mr. Ramirez, you may begin.

Good afternoon, everyone, and thank you for joining us to discuss the Hackett Group second quarter results. Speaking on the call today and here to answer your questions are Ted Fernandez, Chairman and CEO of the Hackett Group; and myself, Rob Ramirez, CFO. A press announcement was released over the wires at 4:15 p.m. Eastern Time. For a copy of the release, please visit our website at www.thehackettgroup.com. We will also place any additional financial or statistical data discussed on this call that is not contained in the release on the Investor Relations page of our website. Before we begin, I would like to remind you that in the following comments and in the question-and-answer session, we will be making statements about expected future results, which may be forward-looking statements for the purposes of the federal securities laws. These statements relate to our current expectations, estimates, and projections and are not a guarantee of future performance. They involve risks, uncertainties and assumptions that are difficult to predict and which may not be accurate. Actual results may vary. These forward-looking statements should be considered only in conjunction with the detailed information, particularly the risk factors that are contained in our SEC filings. At this point, I would like to turn it over to Ted.

Thank you, Rob, and welcome, everyone, to our second quarter earnings call. As we normally do, I will open the call with some overview comments on the quarter. I will then turn it back over to Rob to comment on detailed operating results, cash flow and guidance. We will then review our market strategy-related comments, after which we will open it up to Q&A. This afternoon, we reported revenues before reimbursements of $77.6 million and adjusted earnings per share of $0.38, which were above and at the midpoint end of our quarterly guidance, respectively. Our quarterly results were as expected, but what is most distinguishing about the quarter is the level of breakthrough innovation we continue to develop, which are resulting in significant enhancements to our AI XPLR and ZBrain Gen AI platforms. We believe our Gen AI platform capabilities will attract clients and strategic partners like the one we announced this afternoon with Celonis, which will accelerate our growth in this increasingly important area. Celonis is the leading provider of process intelligence software, which provides clients with critical operating insight. By teaming with Celonis, we will be able to ingest their process intelligence insight into AI XPLR and ZBrain to help identify, design, and build high ROI agentic AI solutions with unmatched speed, which accelerates value realization. This partnership will allow us to market this valuable joint offering to our vast client bases, creating significant channel expansion opportunities for both companies. This combination of AI plus PI or process intelligence will allow customers to quickly move from intention to action and measurable impact, resulting in large Gen AI-enabled transformation initiatives. Our quarterly results were driven by the performance of our GSBT segment, which included the strong revenue growth from our Gen AI-related engagements. Gen AI engagements also favorably impacted our gross margin as they demand a higher margin than our traditional consulting and implementation revenues and are driven by the highly differentiated capabilities of our AI XPLR and ZBrain platforms as well as the related implementation teams. Clients continue to move from awareness to budgeted projects, a trend we expect to continue throughout the year. Total GSBT revenues, which were up 5% in the quarter were partially offset by the weakness in our OneStream practice. Excluding the OneStream practice, our GSBT segment was up 10%. We believe Gen AI-enabled transformation is a generational opportunity, which will fundamentally change the way companies operate as well as the way consulting services are sold and delivered. The Gen AI platform capabilities of our soon-to-be-released version 4 of AI XPLR, which leverages our proprietary solution language model and Hackett performance IP significantly accelerates the speed in which we can identify and design agentic AI solutions and with ZBrain, orchestrate and build complex agentic workflows. Another critical distinction of our new version 4 is the way we are able to design the agentic solutions while considering the client-specific enterprise application ecosystem. This allows the client to clearly understand where existing automation ends and where Gen AI enablement extends and creates meaningful opportunities to improve enterprise performance. This is highly differentiated and allows us to compete strongly in this rapidly growing space. Our capabilities allow us to serve clients enterprise-wide from ideation to implementation in one fully integrated platform. It also provides a client with a single platform, which they can license to fully support their entire AI center of innovation or as we refer to it, the AI COI. We continue to see Gen AI-enabled transformation opportunities emerge in most of our engagements as the need for Gen AI capability and relevance continues to increase. These engagements also provide us the opportunity to serve clients strategically and broadly. These capabilities are only being further expanded through new strategic alliances, which we expect to continue to pursue, which should also significantly expand our strategic entry points. Our Oracle Solutions Group segment was down as expected, although activity continues to be solid, extended client decision-making has continued to make the revenue replacement of a large post go-live engagement at the end of last year take longer than we planned. This adversely impacted the second quarter and will do so more meaningfully in the third quarter given the tough Oracle prior year Q3 comp. As a result of this transition and given our continued development of Accelerator, our Gen AI-assisted technology implementation platform, which allows us to deliver these engagements more efficiently, led to our decision to adjust our headcount to realize the expected Gen AI productivity benefits. These reductions are addressed in a restructuring reserve, which Rob will discuss in more detail during guidance. Our SAP Solutions segment was up during the quarter as implementation revenues resulting from increased software sales activity at the end of last year started to ramp. We expect this momentum to continue through the balance of the year. On the executive advisory front, we continue to invest in growing our IP-based programs. We have integrated our Gen AI content into our executive advisory programs. We recently launched a premium Gen AI solutioning advisory program with a nationally recognized AI leader to fully leverage our solutioning innovation and implementation knowledge from our platforms and client engagements. This program will be directly targeted to AI leaders, CIOs and CTOs who require this knowledge. On the balance sheet side, in the near term, you can expect us to use our strong cash flow from operations to continue our stock buyback program rather than just focus on paying down the remaining outstanding balance of our credit facility while continuing to invest in our business. With that said, let me ask Rob to provide details on our operating results, cash flow and also comment on outlook. I will make additional comments on strategy and market conditions following Rob's comments.

Thank you, Ted. I will cover several topics during my portion of the call, starting with an overview of our second quarter results for 2025 and related key operating statistics. I will discuss our cash flow activities for the quarter and conclude with our financial outlook for the third quarter of 2025. I will separately comment on the revenues of our Global S&BT segment, Oracle Solutions segment, SAP Solutions segment, and the total company. Our Global S&BT segment includes results from our North America and international Gen AI consulting, implementation and licensing revenues, benchmarking, business transformation offerings, executive advisory, market intelligence, IPaaS programs, OneStream, and e-procurement implementation offerings. The Oracle Solutions and SAP Solutions segments include results from our respective offerings. We will reference both total revenues and revenues before reimbursements during this call. Reimbursable expenses are primarily project travel-related costs passed to our clients and do not affect our profitability. We will also refer to certain non-GAAP financial measures, which we believe provide useful information to investors. Any adjusted financial measures we reference will exclude reimbursable expenses, noncash stock-based compensation, acquisition-related expenses, amortization of intangible assets, and other nonrecurring items. We have included reconciliations of GAAP to non-GAAP financial measures in our press release filed earlier today. We will also post additional information based on today’s discussions on the Investor Relations page of the company's website. For the second quarter of 2025, total revenues before reimbursements were $77.6 million, an increase of 2% year-over-year, exceeding the high end of our guidance. The reimbursable expense ratio on revenues before reimbursements was 1.6%, compared to 2.1% in the prior quarter and 2.3% in the same period last year. Total revenues for our Global S&BT segment were $43.6 million, which is a 5% increase year-over-year. Strong growth in our Gen AI consulting and implementation offerings was somewhat offset by weakness in our OneStream implementation offerings. Excluding this decrease, our Global S&BT segment would have seen a 10% increase. We expect the momentum in Gen AI across all of Global S&BT to continue accelerating throughout the year. Total revenues from our Oracle Solutions segment were $20.5 million, a decrease of 7.5% year-over-year, largely due to the winding down of a large engagement that we discussed last quarter. The timeline for replacing this engagement has been slower than anticipated and will significantly affect year-over-year comparisons in the upcoming third quarter. Our SAP Solutions segment generated $13.5 million, an 11% increase year-over-year, driven by implementation services linked to recent software sales, which will continue to positively influence this segment. Approximately 21% of our total company revenues before reimbursements come from recurring multiyear and subscription-based contracts, including executive advisory, IPaaS, and application managed services. Adjusted cost of sales for the company was $44.4 million, or 57.2% of revenues before reimbursements for the second quarter of 2025, compared to $43.8 million, or 57.7%, from the previous year. Our consultant headcount increased to 1,382 by the end of the second quarter, up from 1,332 in the previous quarter and 1,145 at the end of the second quarter of 2024, driven by hiring in our Gen AI practices and the LeewayHertz acquisition. Adjusted gross margin on revenue before reimbursements was 42.8% in the second quarter of 2025, compared to 42.3% in the previous quarter. Adjusted SG&A was $18.2 million, or 23.4% of revenues before reimbursements, compared to $16.8 million, or 22.1%, in the prior year. The increase in dollar terms is primarily due to foreign exchange fluctuations and the timing of marketing events. Adjusted EBITDA was $16.1 million, or 20.7% of revenues before reimbursements, compared to $16.3 million, or 21.5%, in the prior year. GAAP net income for the second quarter was $1.7 million, or diluted earnings per share of $0.06, compared to $8.7 million, or diluted earnings per share of $0.31, in the previous year. Our second quarter GAAP net income included $5.1 million in noncash stock compensation expense and $2.5 million in acquisition-related compensation, which together impacted our Q2 2025 GAAP results by about $0.25. These expenses relate to our LeewayHertz acquisition. The acquisition of Spend Matters did not affect our adjusted net income for the second quarter of 2025. Our adjusted net income was $10.7 million, or adjusted diluted net income per share of $0.38, matching the midpoint of our earnings guidance and compared to $0.39 in the prior year. The results for the second quarter were negatively affected by $0.01 due to unfavorable foreign exchange movements. Cash balances reached $10.1 million at the end of the second quarter, up from $9.2 million at the end of the previous quarter. Net cash provided by operating activities was $5.6 million, driven by net income adjusted for noncash activity and an increase in accrued expenses, partially offset by timing of income tax payments. Our days sales outstanding remained at 73 days at the end of both the second quarter and previous quarter, compared to 68 days last year. The increase is mainly due to extended terms and milestone deliverables on several large client projects. During the quarter, we repurchased 180,000 shares of our stock at an average cost of $24.50 per share, totaling approximately $4.4 million, including purchases from employees for tax withholding related to restricted shares. Our remaining stock repurchase authorization was $17 million at the end of the quarter. After the quarter end, the Board of Directors authorized a $13 million increase in the stock repurchase program, raising it to $30 million. The Board also declared a third quarter dividend of $0.12 per share for shareholders of record on September 19, 2025, to be paid on October 3, 2025. During the quarter, we borrowed $5 million from our credit facility, resulting in a total debt outstanding of $23 million at the end of the second quarter. Now, moving on to guidance and outlook for the third quarter. We expect the impact of the additional U.S. holiday and the typical increase in summer vacation time in the U.S. and Europe to negatively impact available days by approximately 2% sequentially. We estimate total revenues before reimbursements for the third quarter to range from $73 million to $74.5 million. We anticipate increases in revenues before reimbursements for the Global S&BT and SAP Solutions segments compared to the prior year, while we expect Oracle Solutions segment revenues to decline by over 20% year-over-year. Due to our continued shift towards generative AI, we will incur restructuring charges in the third quarter estimated at $1.5 million to $2 million, mainly related to severance costs from staff reductions aligned with current demand and expected productivity gains from our Gen AI delivery platforms. These charges will not be included in adjusted results. We estimate adjusted diluted net income per share for the third quarter will be between $0.36 and $0.38, assuming a GAAP effective tax rate on adjusted earnings of 26.5%. We expect adjusted gross margin as a percentage of revenues before reimbursements to be approximately 43.5% to 44.5%. Adjusted SG&A and interest expense for the third quarter is projected to be about $18.5 million, and we expect third quarter adjusted EBITDA to range from approximately 20.5% to 21.5% of revenues before reimbursements. Lastly, we anticipate cash flow from operations to increase sequentially.

At this point, I'd like to turn it back over to Ted to review our market outlook and strategic priorities for the coming months. Thank you, Rob. As we look ahead, I want to share our views on the current and future demand landscape and the growth potential it presents for our organization. While demand for digital transformation remains robust in traditional sectors, it is affected by careful decision-making as companies weigh competing priorities amid economic concerns and the rise of emerging Gen AI technology. We anticipate IT budgets will rise, with more resources allocated toward rapidly evolving Gen AI solutions, along with the associated opportunities and challenges across various industries. By 2025, we are observing a growing share of IT budgets specifically earmarked for Gen AI initiatives in areas deemed highly feasible and impactful. The limitless possibilities offered by Gen AI will set a new benchmark for world-class performance, compelling all software and service providers to enhance the value of their existing offerings through the integration of advanced AI capabilities. We believe this will drive extraordinary innovations that all organizations must consider. This transformation aligns with our strategic shift toward Gen AI-driven changes, which we see as a unique opportunity for value creation within our organization. Given our strategic reach and the proprietary and expanding capabilities of AI XPLR, it was a natural progression for us to extend our AI implementation capabilities to fully develop the GenAI solutions we have been identifying, designing, and evaluating. This led to our acquisition of LeewayHertz, a well-respected provider of Gen AI solutions. Included in this acquisition was a sophisticated Gen AI orchestration platform, ZBrain, which we agreed to integrate into a joint venture with the founder of LeewayHertz. This joint venture will combine the AI XPLR and ZBrain software platforms with a focus on licensing solutions and creating what we believe to be a pioneering Gen AI ideation to execution Software-as-a-Service offering. We think this joint venture presents an entirely new value creation opportunity for our shareholders, driven by the growth in annual recurring licensing revenues and the potential for capital raising and achieving independent valuations thanks to its focus on Gen AI software. Our substantial market insights continue to fuel innovation and significant enhancements in AI XPLR. In fact, our most notable innovation to date is the upcoming release of version 4, which offers substantial upgrades that further differentiate our offerings. The key enhancement in version 4 is our ability to design complex AI solutions and agentic workflows, enabling us to assess a client's technology landscape and pinpoint high ROI Gen AI solutions in record time. This capability allows us to identify thousands of Gen AI solutions and swiftly customize and evaluate AI use cases based on client priorities, while also recommending specific agents needed to build these solutions. Our platform permits us to achieve this much faster than what competitors provide. Our strategic access to clients combined with the speed and solutioning capability of our platform is attracting significant channel partners, increasing our potential to introduce our platforms and related services, thus accelerating our growth. We are leveraging AI XPLR to integrate our Gen AI capabilities across all our offerings, and we continue to hire and enhance skills in critical areas to support these efforts. These actions are rapidly establishing us as key architects, advisors, and consultants on our clients' Gen AI journeys. We now regard AI XPLR as our main strategic entry point to clients, allowing us to position our well-established benchmarking digital transformation and executive advisory offerings alongside other platforms linked to our largest consulting engagements. Over the past several years, the downstream revenue impact from our benchmarking and executive advisory services to our implementation teams has been around 40%. We believe this will expand further through our AI XPLR offering and the enterprise-wide strategic value it provides. AI XPLR significantly enriches our intellectual property and aligns it with the rising Gen AI world-class performance standards. Another vital investment we've made is developing our own Gen AI-assisted knowledge base named Hackett AI. Hackett AI utilizes our proprietary benchmarking, executive advisory, and business transformation intelligence to define and empower Digital World Class performance for our clients. Our intellectual property will increasingly support all of our market-facing and service delivery platforms. We anticipate that integrating our valuable intellectual property and content that utilizes Gen AI will substantially improve and speed up the delivery of insights requested by our clients every day. We are incorporating proprietary knowledge, including benchmarking best practices and research, to address the wide range of inquiries necessary for our executive advisory and consulting clientele. This product was launched at the start of Q2, and feedback from internal users has been very positive. We have also initiated a new program called Accelerator, aimed at enhancing the efficiency and quality of our technology implementation services. All these initiatives are harnessing the capabilities of Gen AI to elevate and accelerate our solutions and services, with the goal of differentiating our capabilities and achieving improved revenue growth and margins. We also recognize the potential commercial value of these innovations beyond our internal applications. On the talent front, competition for experienced executives with high technological adaptability remains intense. Overall, turnover has remained at acceptable levels this quarter, and we expect this trend to continue. We are continually updating the Investor Relations page of our website with videos showcasing our new and expanding platforms, allowing investors to familiarize themselves with our evolving capabilities. Finally, even though we believe our client base and offerings position us well for business growth, we actively seek acquisitions and partnerships that can strategically leverage our intellectual property and add scope, scale, and capability, potentially accelerating our growth. As always, I want to commend our associates for their innovation and performance, thank them for their relentless efforts, and encourage them to remain focused on our clients and people, regardless of the challenges we face. That concludes my comments. Now, I will turn it back to our operator to begin the Q&A session.

And our first question is from George Sutton with Craig-Hallum.

Ted, I wondered if we could talk about XPLR 3.0 and what interest you're seeing there, LeewayHertz, ZBrain. When we look at those in combination, they're seemingly a perfect solution for the current AI-first environment we're all living through, and you've mentioned higher budgets attached to that. It doesn't feel like we're seeing that impact yet. Can you just talk to that in terms of the opportunity? And are we seeing what you would have expected?

We are seeing it on the services side, but we have not seen it yet on the licensing side for AI XPLR because we have made so many changes and continue to improve the product so meaningfully that we have yet to release a licensable AI XPLR product. We expect to do that shortly. We're glad that we didn't do it prior to this most recent quarter, which we believe, as I said, the level of innovation into that product is just really impressive. And we say impressive not only because of the responses we're getting for clients who are seeing it, but because of the conversations that we have had with potential channel partners, which have an increasing interest in seeing how they can utilize it jointly with us to go to market. So, is it all taking longer? Yes. But are the prospects tempered in any way? Absolutely not. The capability of the platforms, just like you said, is really well designed to take advantage of the market opportunity that is emerging. And we believe that once we fully license AI XPLR and continue to bring in strategic channel partners that simply give us access to more clients, especially directly into the technology areas that you will see the expected revenue growth that we would like to see. With that said, our Gen AI-related revenues were up significantly in Q2.

Now on to the strategic partner side of this. Are you surprised we don't have a large strategic partner yet? Where do those kinds of negotiations stand? I'm just trying to get a sense of expectation.

Well, we announced our first strategic alliance today, as I mentioned, Celonis in our opening comments, which is the leading process intelligence company, which is going to significantly expand the introduction of our offering and their offering to our joint client bases. So that was just announced today, shortly after we released earnings. So we've been working with them all quarter to develop the joint offering and decide exactly how we want to engage clients, and that will be ramping up very quickly throughout the third quarter. Having said that, we also continue to have conversations with other potential partners. We turned down 1 SI partner because we wanted a better offer from the offer they had made to us to go to market together. But we have other options, and we continue to evaluate their offer to us. So, we expect to have more channel partner relationships expand throughout the balance of the year with large enterprise software companies and/or systems integrators.

One other thing you mentioned you were making AI-related adjustments to your headcount. And I'm just wondering if this is any indication of what you expect from the Oracle side of the opportunity given that you're challenged to fill in some of the Oracle piece. Is that just a suggestion that you're expecting a longer duration of a challenge there? Or am I conflating things?

Well, first, I want to emphasize that we have an outstanding Oracle implementation group that is well-regarded and has experienced significant success. However, it has faced difficulties in replacing a major go-live client that we anticipated would be realized sooner, which negatively affected our Q2 results and will have a more pronounced impact in Q3, coinciding with the peak of the go-live efforts for that client when compared to last year's Q3. This situation prompted us to assess whether we needed additional resources in areas that aren't fully leveraging Gen AI. Additionally, both the Oracle and OneStream implementation teams are benefiting from a product we developed called Accelerator, designed to provide Gen AI-assisted support for those engagements, which is anticipated to enhance productivity by over 20%. Given both of these factors and their relative impact, we decided to proactively address any non-Gen AI-related headcount concerns that could adversely affect the remainder of this year and 2026. Thus, we opted to establish a restructuring reserve in Q3 to give you a clearer picture of our business performance without the severance of those individuals, resulting in a cleaner Q4 comparison.

The next question in the queue is from Jeff Martin with ROTH Capital Partners.

I wanted to ask about OneStream. Do you have an idea of when that might stabilize and no longer be a hindrance to growth, especially since you have achieved some impressive double-digit gains in the last two quarters in Global S&BT?

Both Oracle and OneStream have their peak comparisons in the third quarter. Therefore, the relative comparisons for Oracle decline significantly from Q3 to Q4, and OneStream experiences a similar decrease. As a result, the impact should be meaningfully eliminated, providing a clean comparison for Q4.

And then I was hoping you could give us a sense of maybe some examples of the types of applications or maybe the more common applications that your clients are engaging you for Gen AI-related engagement.

We've observed a different trend. However, if I had to choose between the two, I would highlight that solutions related to customer service, customer retention, revenue management, and sales effectiveness have attracted significant attention from our clients. We have successfully delivered solutions in these areas that are now operational. Additionally, we are experiencing a notable increase in large organizations, particularly GBS organizations, who understand that achieving further operational improvements necessitates leveraging Gen AI. The automation capabilities offered by their core ERP systems have limitations that can be effectively addressed through Gen AI automation. Therefore, I would identify these two areas as the most significant in terms of engagement and opportunities present in our current pipeline.

Great. My last question is about the elevated uncertainty from last quarter that was delaying client decisions. Are you gaining any clarity on that? Do you think large projects are still being postponed until we have more clarity?

Jeff, my personal opinion is that the initial, if you want to call it, uncertainty that emerged relative to tariffs in April had little to no impact on Q2 and may have had extensive decision-making, but the quarters that most of the services companies' Q2 results were primarily in place. You can look at research advisory companies. You could look at the largest systems integration companies. And you can look at the big four and I believe that they are all inferring in suggestion and suggesting that in their guidance that Q3 was being affected instead of what I believe happened in Q2, I think most people were at or near their projected Q2 numbers. So, I believe that it is playing out as we speak and some combination of lower interest rates, a reduction of noise in tariffs which don't confuse our clients and our clients just continuing to develop a much stronger understanding of how strong the potential to deploy Gen AI technology is beyond their current technology landscape. I think all of those three are going to emerge and create the kind of demand that we all expect around software and services that are associated with these solutions. It's first inning. It really is first inning. Is Palantir an exception? Yes, very unique capability. But for someone other than Palantir, no. So that would be my personal opinion on both market conditions, how it's affecting it. And I can see that everyone is making all sorts of resource changes and alignments. We saw the announcements. And when we looked at our numbers and we looked at how meaningful it was to our technology implementation groups, we said we should probably address it now. But it also was followed by the fact that we think we've got a pretty powerful product that will bring productivity improvement into the delivery of those services. So, we're positioning both.

And the next question in the queue is from Vincent Colicchio with Barrington Research.

Yes. Ted, do you currently have the labor resources you need to meet the current AI demand in the GSBT segment?

Yes, but we did continue to add resources in that space throughout the quarter. So, the answer is yes, partly because we're seeing operating improvements from our platforms, even in the Gen AI area. So, it's amazing the capability of these platforms and how they accelerate design and development of these solutions. But don't focus only on headcount; focus on the ability to provide services along with platform value, which is the way that at least we will be serving our clients.

Is your utilization rate affected by the fact that your employees are engaged in extensive training and upskilling?

No. I mean we have some ramp in the Gen AI area. So that takes a little time as we hire and then bring them up and bring them up to speed with our platforms, both on the XPLR and on the ZBrain side. But no, I mean, look, where we saw the weakness in utilization is in the technology groups, which we mentioned last quarter, which we took a look at this quarter and said, 'Let's deal with it right now' and really make a more aggressive pivot to the Gen AI reliance that we're seeing on. I'm going to say that over 50% of our new engagements include some element of Gen AI involvement. So, it's not just Gen AI-specific opportunities we're seeing. The Gen AI team is being brought into traditional transformation and in some cases, traditional technology implementation engagements.

And then the last one for me. I'm curious how your XPLR product stacks up against the competition. You've said some very favorable remarks in the past. Perhaps you could talk about the most recent feedback you've had on version 3 and then how version 4 might separate you.

Well, all I can tell you is that I made a version, let's call it, 3.5 presentation to one of the leading AI enterprise software companies today and the feedback we got from the individuals, which were very skeptical of our assertions before we demoed our product. And this is free full version 4, which they will get to see shortly. Their comment back to us was excellent that they had not seen anything as complete and thoughtful as our platform. And that is coming from a senior person at one of the most successful Gen AI enterprise application companies.

At this time, I show no further questions. I will now turn the call back over to Mr. Fernandez.

Let me thank everyone for participating in our second quarter earnings call. We look forward to updating everyone again when we report the third quarter. Again, thank you for participating.

This concludes today's call. Thank you for your participation. You may disconnect at this time.