U.S. Markets close in 25 mins

Edited Transcript of STEMS.L earnings conference call or presentation 20-Jul-20 8:30am GMT

Half Year 2020 SThree PLC Earnings Call

London Jul 21, 2020 (Thomson StreetEvents) -- Edited Transcript of SThree PLC earnings conference call or presentation Monday, July 20, 2020 at 8:30:00am GMT

TEXT version of Transcript

================================================================================

Corporate Participants

================================================================================

* Alex Smith

SThree plc - CFO & Executive Director

* Mark Dorman

SThree plc - CEO & Executive Director

================================================================================

Conference Call Participants

================================================================================

* Andrew Charles Grobler

Crédit Suisse AG, Research Division - Analyst

* Steven John Woolf

Numis Securities Limited, Research Division - Analyst

================================================================================

Presentation

--------------------------------------------------------------------------------

Mark Dorman, SThree plc - CEO & Executive Director [1]

--------------------------------------------------------------------------------

Welcome, everyone, to SThree's half year results presentation. I'm joined by Alex and so today, I'll take you through a little bit of an update of where we are. Alex will take us through the numbers on performance and then hand back to me as we look at our strategy and outlook before we get to some questions.

So as you all know hopefully by now as I tell you all the time, that we at SThree sit at the center of 2 long-term secular trends: that of STEM talent and of flexible working. And our purpose of bringing skilled people together to build the future in the current environment has never felt more relevant, and our strategy has never been more right as many of the trends that we're seeing as a result of the current environment being accelerated by the global pandemic. And so SThree is sitting at the center of those 2 secular trends combined with our global footprint makes us a unique company. We're unique in as much as we are the only global pure-play STEM specialist and we're focused on maximizing the opportunities that arise from that, and we've seen that in the resilience of our performance in the first half of 2020.

As I said, our performance has been resilient and that's largely down to our unique focus on STEM and flexible working combined with the extraordinary efforts of our team globally in focusing on execution. It really has been a half of 2 quarters. In the first quarter, we worked hard to execute well, aligned with our strategy that we laid out in our Capital Markets Day back in November, which seems like a lifetime ago now. And the second quarter really impacted by COVID-19, the global health pandemic, government's response to that and the ongoing economic challenges as a result of that response. As you can see, however, we had a resilient performance, our operating profit of GBP 13.3 million for the half. Our revenue at GBP 603 million for the half and our net fees of GBP 151 million. Improved operating cash flow that Alex will take you through as a result of our robust and strong balance sheet, with our net cash position of GBP 31 million as of 31st of May. And we've increased our mix towards contract for flexible working to 76%, up from half year 2019 of 74%. And you can see that we increasingly have become a global company as our mix of net fees from outside the U.K. continues to increase slightly.

Before we move on to performance, I thought it'd be worthwhile spending a little time talking about COVID-19 and our response to that. As we talked about in our trading update, we see the response to COVID-19 in three phases, which you can see at the bottom of the slide. Initially, back in March and April, was the initial response to the current environment, where we swiftly responded to move 98% of our people to work remote working. We'll then move into a phase, which we don't know, which will persist for some period of time called ongoing management. And then ultimately, when we have a solution either therapeutic or a vaccine for the health crisis, ultimately will move into the next normal, whatever that looks like. Our principles that have guided us through all of these phases are on the left-hand on this slide. Priority #1 is making sure of the health and safety of our colleagues, our contractors, candidates and clients; #2 is making sure that we maintain our strong financial position; and #3 is make us -- is also making sure that we're ready to build on our unique position through operations that allow us to operate in this volatile situation as the only global pure-play STEM specialist. As those as our guiding principles, we've also taken some significant cost-saving initiatives through the half to make sure that we maintain that strong financial position and ensure our liquidity. And you can see those pieces laid out on the right-hand side. But in cost savings, we've done hire freezes. We've eliminated all discretionary spending, nonessential CapEx is being postponed, and we've taken a reduction in salaries of the Board and the executive team of 20%. And we've taken various government schemes where appropriate, have been applied.

And in our liquidity planning, you can see that our RCF is fully drawn down in the half. We have access to the Bank of England CCFF is available. And we've withdrawn our 2019 final dividend, which was a tough decision but the right one in the current environment, as well as our overdraft facility and accordion.

As I said, bringing skilled people together to build the future is the purpose that guides us at SThree and all that we do, and it's never felt more relevant. We can see that through the COVID-19 global pandemic, the trends that we're seeing have continued to accelerate where management are focused on a more flexible and resilient workforce. They're focusing on rebuilding supply chains with a focus on resilience and sustainability versus absolute profit. And of course digital transformation has been accelerated. We provide the key STEM talent that support all of those broad trends, and we've spent a considerable amount of time with our clients and candidates understanding where their focus has been

What really helped us in driving our resilient performance is the local knowledge that we have, the niche STEM expertise that we've had in our 34-year history we've been doing and focusing on STEM talent. This is not new to us, and we deeply understand the niches that sit beneath life sciences, technology and engineering.

And we've been really focused on helping our clients and customers achieve specific objectives as they've all had to adjust to the current environment. Not only that, we've worked very closely with our clients as they tried to actually solve some of the main problems that are facing us as we all try to adapt to COVID-19. Our U.S. business has worked closely with major clients delivering key medical devices including ventilators as well as manufacturers of protective equipment. Our German business in DACH has placed candidates within life sciences who are actually leading the research and efforts to find a vaccine for COVID-19. And in the U.K., we placed nearly 300 contractors with the NHS as we need technology specialists as the NHS is building up its temporary health care facilities.

So what does that look like for us moving forward? As I said, in those 3 phases, we're currently in the ongoing management phase, and we believe that, that volatility will continue for some time. At the core, this is a global health crisis. Until the health crisis is solved, that volatility will persist and we see that for a foreseeable time. There will also be an acceleration of the trends, those broad trends that I talked about in terms of a move towards more flexible and resilient workforce and supply chains being adapted and adjusted in the current global environment as well as digitization and automation being a critical priority for all CEOs across the globe. We have the right strategy and we're committed to investing in that so that as SThree both navigates and learns and adapts to operate in the current volatile situation, we will continue to focus and come out of this even stronger than we were going in. We have an experienced management team. We continue to be at the center of 2 long-term trends that have been accelerated. Our business model is robust in terms of our focusing on flexible working and the countercyclical cash dynamics of our contract business model has helped us. We have good understanding and visibility of our earnings. And we are geographically diversified and strong within our chosen regions. And we also have a flexible cost base that allows us to be flexible and adapt to that volatility.

So with that, I will pass on to Alex, who will take us through the numbers. Alex?

--------------------------------------------------------------------------------

Alex Smith, SThree plc - CFO & Executive Director [2]

--------------------------------------------------------------------------------

Thank you very much, Mark, and good morning to you all.

So as Mark said, the first half was very much a tale of 2 quarters. In the first quarter, we posted robust growth in DACH and the Netherlands, up 9% and 5% respectively, and delivered a resilient performance in the U.S. Overall across the group for Q1, our fees were flat. However, in Q2, as the pandemic hit, aggregate demand was impacted and net fees were down 12% overall. DACH, as Mark said, had a resilient performance, really led by strength in tech and life sciences. And for those sectors, we were down 6% year-on-year, but against really tough Q2 2019 comps. So Q2 2019 DACH was up 16% on the year before. So a very resilient and strong performance in DACH overall, particularly tech and life sciences sectors. The U.S. in the second quarter again, a very strong performance, down 2% only in Q2 with some really positive direction from life sciences, up 9% and tech up 5%. And another strong performance in Q2 for us was the Netherlands, really led by life sciences, which delivered a flat performance in Q2 year-on-year, driven by quality assurance and medical devices and placements and also a resilient performance from engineering placements and high-tech manufacturing.

Looking at the financial performance in the half overall starting with net fees, and I'll really be talking to the like-for-like movement percentages on the right-hand side, so that's on a constant currency basis. So net fees for the half down 7%. And as Mark highlighted, contract performed more resilient more than perm as expected, contract down 5%, perm down 12%.

Operating profit on an adjusted basis was down 49%, the adjustments being before exceptional items. In 2020 H1, we had a grant received in respect of the move to Glasgow of GBP 400,000. And in the prior year, we had GBP 1.3 million of CEO change costs. So it's before exceptionals. The conversion ratio of operating profit to net fees has reduced to 8.8%. Profit before tax of GBP 12.6 million, down 51%.

And as we look at our effective tax rate, that has moved up in the half. And that's moved up as we've moved into loss in a number of territories and where we're not recognizing any credits in the results for those losses, so no capitalized losses in respect of the H1 losses, and we're expecting that to continue broadly in a similar way for the year. So that's 39.7% [compared] to 27% effective tax rate H1 last year. And so that gives the profit after-tax of GBP 7.5 million, down 57% year-on-year.

In terms of the operating profit bridge, this slide bridges from H1 2019 to H1 2020. And you can see the significant impact of the net fees kicking through, being the biggest driver of the reduction. We've also got a net salary cost increase, reflecting the fact that average headcount in the half was up 2%. We've got an increased IT costs year-on-year of just under GBP 2 million and a small increase in our bad debt expense in the period.

But offsetting some of those cost increases, we've seen nonsalary cost savings of GBP 6.3 million. That represents about 10% of the Q1 exit rate cost base, which we saved in Q2. And this relates to items such as bonus payments, commission payments that flex in line with the business activity, as well as very little travel and also really not much at all by the way of discretionary costs. So good cost savings coming through there, roughly 10% of the Q1 cost base, giving us the operating profit that we've reported of GBP 13.3 million.

Moving on to the balance sheet, a robust balance sheet. I think 2 points really to highlight here: the net working capital position and the net cash position. So in terms of net working capital, GBP 88 million of net working capital, of which just under GBP 85 million is the working capital tied up in our contract book. We've seen a strong net cash performance in the half, and I'll talk through the moving parts of that in a moment. But on top of the GBP 31 million worth of net cash, we have immediately accessible liquidity of GBP 136 million, which is our cash position, our overdraw facility, GBP 50 million of committed facilities with HSBC and Citi, and a further GBP 50 million available under the Bank of England CCFF scheme.

So moving on to the cash flow, really a strong cash performance in the half, just kind of bridging across here starting at operating profit, adding back noncash items such as depreciation. And now we've adopted IFRS 16 in 2020, adding back lease asset depreciation too. We benefited from just over GBP 5 million worth of tax deferrals in the first half, roughly half of which become payable in the second half, and half of which in the next 2 years. Working capital inflow, a significant benefit to us in the half, that's partially down to strong management action. So we -- as I've talked about before, we had a strong focus on collections, and I'm really pleased that we've managed to drive down the DSO during Q2 by 3 days. Part of the benefit, of course, is the slowing of business and the reduced number of contractors and the cash dividend that we get from each termination of a contractor. So the net of all that gets us to an operating cash flow of GBP 42.7 million, an operating cash flow conversion ratio of 321%. Taxes paid of GBP 5.6 million, with bank interest and lease principal payments in respect to our operating leases generated a free cash flow of GBP 30.1 million or a free cash flow conversion ratio of 226%.

And in terms of the uses of that free cash, a couple of million pounds spent in the half on CapEx; GBP 700,000 in respect of the prior year exceptional restructuring costs in respect to CEO change; a net GBP 200,000 in terms of new shares bought back in Q1 to satisfy LTIPs and tracker shares; our interim 2019 dividend, which we paid in early December 2019, i.e., the start of this financial year, and the balance being the increase in our cash position.

In terms of earnings per share, the profit after tax as I mentioned previously was GBP 7.5 million. The weighted average number of shares for basic EPS, 132 million, or fully diluted 135.3 million. And that's pretty much level year-on-year, giving a basic EPS of 5.7p and a diluted EPS of 5.5p, down 58% year-on-year. Also in terms of the dividend, we're not proposing to pay an interim dividend due to the unprecedented levels of uncertainty. However, as a Board, we do recognize the importance of the dividend to shareholders, and we will keep future dividend payments under review.

And foreign exchange, the pound during the half strengthened against the euro. It weakened slightly against the dollar. Net-net, a pretty small headwind for us. If we translated the results using H1 2019 exchange rates, we would have reported GBP 1 million more net fees and GBP 200,000 more operating profit, so pretty marginal for us in the half.

I'm also going to cover the business overview. And so really first of all, looking at the geographical diversity of the business, interesting to note now that 1/3 of our net fees are coming from the DACH region, just under 1/4 from the U.S. And our biggest region, EMEA excluding DACH, and then a small presence in APAC at 3%. And so that gives you just an overview of the shape of the business from a geographical point of view.

A lot going on, on this slide, but in terms of helping you orientate, we cover here revenue net fees; average sales; headcount; Net Promoter Scores, both candidate and client, our contractor order book that we talked about for the first time at the CMD and updated on at full year 2019; our contract, perm analysis and our sectoral split at the group level. So really, I think in terms of a couple of call-outs at a group level before I cover the major regions. Very pleasing in terms of our Net Promoter Scores, so good, strong performance at a group level edging up slightly to 47.

The contractor order book, which is the value of net fees tied up in our contract book until contractual end dates, down 14% year-on-year as we look forward at the half year. Mark commented on the contract and perm split, but 76% now of our net fees come from contract.

And when you look at the overall sector performance or sector shape of the group, you can see that tech, 45% of net fees is our biggest sector. Life sciences and engineering are the same size now in terms of net fees, both at 22%. But you can see if you've got good eyesight there that life sciences in terms of share has stepped up by 3 points year-on-year from 19% this time last year as a result of the relative outperformance of that sector in the first half.

Moving on now to our principal regions starting with DACH. So DACH represents 1/3 of group fees. Net fees, you can see down 1%. Our average sales headcount in DACH increased by 12% over the period. And we have a very strong Net Promoter Score. Anything over 50 is really exceptionally strong. We're very pleased with that.

You can also see in terms of the shape of the business that our DACH business has a strong permanent business. So it's 1/3 perm, 2/3 contract. So it's more perm orientated than the group average. And if you look at the sector analysis within the DACH region, you can see just how strong we are in tech, which is punching well above the overall group weighting there.

The contractor order book for DACH is down 9% as we look forwards. And I thought it was also interesting just to highlight the dominance of Germany within the DACH region. So you can see that Germany represents 92% of DACH.

So moving on now to EMEA excluding DACH. Net fees down 12%. Average heads in this region down 10% as we rightsized the heads during the period. Strong performance in terms of Net Promoter Score, so moving forwards year-on-year, which is pleasing. You can see that this region is more contract orientated than the group average at 85%. And the sector split is broadly representative of the overall group.

EMEA excluding DACH is a group of countries. So you can see there in the pie chart top right that Netherlands is the dominant country within the region. U.K. -- so 38% Netherlands, 31% U.K. And then you've got France, Belgium, Dubai, Spain, Ireland, Luxembourg representing that final 30% or so of the pie chart.

Looking at the contractor order book, down 29% as we look forwards, particularly driven by the more challenging environments in the U.K. and also in the Netherlands looking forwards.

The U.S. net fees down 1%. Average sales heads up 15% as we continue to prioritize this region for us. Net Promoter Score again very good, over 50, which is excellent. Contract weighting of this business, again, significantly more than the group average. And interesting when you look at the sector split in the U.S. So the biggest sector for us in the U.S. is life sciences. And that has been successfully performing for us in the half, 45% of net fees. Engineering is the second most significant sector for us, 29% of net fees. We've got a huge opportunity though on tech in the U.S. It's -- we're relatively underweight, so that's a big opportunity as we look forwards.

This is an interesting one, our contractor order book in the U.S. So this is up 8% as we look forwards, which is very pleasing. And the significant driver within that is our relative strength of performance in life sciences in the half that we've talked about and the fact that the average length of a life sciences contract is a couple of weeks longer than the rest. And so that has helped to shift up that contractor order book looking forwards.

And finally moving on to APAC representing just 3% of group net fees, and net fees down 28% in the half. Average head count down 20%. Net Promoter Score moving in a positive direction, which is good. A more permanent orientated geography for us, region for us, 65% permanent, reflecting really the dominance of the Japanese business. And you can see that on the top right here, 55% of net fees from Japan; and then Australia and Singapore accounting for the region. And so the contractor order book, which is down 38% in APAC, is very much skewed by more challenging trading conditions in Australia.

So that's it. I'm going to hand over now to Mark, who will talk through strategy and outlook.

--------------------------------------------------------------------------------

Mark Dorman, SThree plc - CEO & Executive Director [3]

--------------------------------------------------------------------------------

Thank you, Alex. And so you've got a good view of our performance there, but I thought it'd be worthwhile spending a little bit of time focusing on our strategy and outlook moving forward and maybe think about how we're performing relative to how we set our ambitions back before the COVID-19 pandemic.

So you may recognize this slide if you were at our Capital Markets Day, which is our 4 strategic pillars of where we're focused. And as I said right at the start, our strategy is right. We're seeing the acceleration of the trends and the 2 secular trends that we are part of, that of STEM talent and flexible working and accelerating. And we continue to leverage our position at the center of that and to deliver sustainable value to our candidates and customers. And through this cycle, we've spent a lot of time as I said with our clients and candidates really getting to understand where those emerging trends are. And because of that unique understanding that we have in those niches, particularly our candidates, we've been able to engage with them and deliver them in the right way and also adjust to the changing trends and needs of our clients, particularly as our clients adapt to the current environment and are looking for assistance because they haven't been able to manage flexible working and remote workers. So cultural fit has become increasingly important as well as how to manage more workforce.

And we've continued to focus on creating world-class operational platforms. And as we moved in those initial phases back in March and April, we rapidly deployed a series of technologies for video interview as well as video conferencing globally to get 98% of our people working effectively and remotely. And we continue to build on that through the cycle so that we can operate regardless of the environment with that infrastructure.

We're also choosing to be a leader in the markets we serve. So Alex highlighted our geographic split there. And you can see that in our key markets that we continue to focus on, those large STEM markets, we're continuing to perform particularly well in this current environment. And we're taking market share in the Netherlands, U.S. and Germany as we highlighted.

And of course that all depends on our people. And so we want to make sure that we are finding, retaining and developing those people. And through this environment, we'll continue to rapidly adopt the way that we do that. We've got a big learning and development program that's using bite-sized video training development so that we can enable training and development to continue regardless of whether we're working remotely or working in the office.

So it will be good just to take us back and see how we're performing relative to the ambitions that we set out back in November. And despite the current environment, we are actually making good progress against a range of those metrics. Obviously, we've got some short-term challenge in profitability given the aggregate demand is down. But in terms of taking market share, improving our cash flow, and focusing on our people and our societal targets, those are all in the green. And we're continuing to focus to move that forward because we believe that, that will make us a stronger business and turn those red arrows to green as well as our ambitions for the business remain undimmed regardless of the current environment.

And so that market outlook and those accelerations of those trends continue to drive our strategy, which is right. We do know, however, the volatility will persist. And that's why our view is that we are going to adapt this business to operate regardless of the environment and that level of volatility. And we will continue to perform well and take market share.

We'll also take a leaf out of the book of some of the other environments to build back better. It's never been more important. Our purpose of bringing skilled people together to build the future has never been more relevant. And we see this as an opportunity to utilize the current environment to make sure that we're building for the future and that we come out of this even more strongly.

Our connection with our customers and our candidates have also never been stronger. We spent more time with them in this half than we have -- talking about their needs and their future than we have in some time.

And so we'll continue to invest in areas that will drive growth. You heard Alex talk about our group average headcount up 2% year-over-year, but this is not blanket. This is selective and thoughtful in the core markets that are going to drive our growth. So we're distinguishing where we're investing for the future very carefully, and we're continuing to focus on the digitization of our business. Utilizing technology, digital enablement and data insights will continue to drive our decision-making so that we make the right decisions that will deliver the best return for the business in the short, medium and long term. And our focus on customers and candidates remains absolute as we build candidate communities of the best STEM talent that are needed not just now, but the acceleration of that need for that talent in the future.

We came into this period selectively investing in the right markets, and we continue to do that thoughtfully to make sure that we deliver for the future. So our outlook and our focus going forward will continue to have disciplined cost management. You saw Alex highlight some of those areas, and we'll continue to do that. We want to make sure we have the right-sized business for the opportunity, and that means that we have disciplined cost management.

We also want to make sure we're driving operational improvements in our core business, so we get those productivity, efficiency and effectiveness measures in the organization. We'll continue to be client and candidate-focused to make sure we understand the trends of products that will create the future and future value for all of us, and we'll continue to invest in the right markets. We've had a resilient performance despite unprecedented volatility and unprecedented challenges in the first half. And we continue to be focused on driving the business forward in the right way.

And so with that, I'll be happy with Alex to take your questions.

================================================================================

Questions and Answers

--------------------------------------------------------------------------------

Unidentified Company Representative, [1]

--------------------------------------------------------------------------------

So we have one question that's come in from Sanjay Vidyarthi from Liberum who asks, "You flagged the importance of the June finisher rate at the Q2 update. Can you give us an update on what trends you saw?"

--------------------------------------------------------------------------------

Mark Dorman, SThree plc - CEO & Executive Director [2]

--------------------------------------------------------------------------------

Sanjay, thanks for that. Alex, you want to take that one?

--------------------------------------------------------------------------------

Alex Smith, SThree plc - CFO & Executive Director [3]

--------------------------------------------------------------------------------

Yes. Yes, I'm very happy to do that. So in terms of finisher rates, we were actually really pleased with what we saw at the half year and indeed at the end of June. So our finisher rate as a group was improved by 2 percentage points year-on-year. And that's really important because it means that sequentially, our contract kind of book, our book of productive contractors, which seasonally might step down one might expect because of the calendar quarter end, 30th of June is typically a big one for finishers, meant it didn't step down, so we're very pleased with that performance. And it reflects really good performances across most of our regions.

--------------------------------------------------------------------------------

Unidentified Company Representative, [4]

--------------------------------------------------------------------------------

And Alex deGroote from Radnor Capital asks, "Can you give more color on market share percentage gain in the U.S. and scale of opportunities?"

--------------------------------------------------------------------------------

Mark Dorman, SThree plc - CEO & Executive Director [5]

--------------------------------------------------------------------------------

So thanks, Alex, and good question. So we've not got the final numbers right now, but the way in which we calculate our market share is -- so we use an industry. So the industry analysts SIA have come out on a regular basis with what they think the market growth rate is. And they've revised their numbers down for the U.S., and you can see what our performance was in the U.S. And so you can see in aggregate, us staying relatively flat in the U.S. means we must be taking share from someone inside there. And that's done on a essentially a quarterly and half yearly basis looking backwards. So in terms of the specifics inside whether it's life sciences, engineering and technology, we'll have to wait to see where that looks as everyone else announces their numbers, but we're pretty confident that we're taking share in the sectors that we're in.

In terms of the opportunity, I mean right now, our market share in the U.S. is less than 1 percentage point overall for the overall STEM market. So that gives you a flavor for the size that is kind of untapped or unlimited really in terms of where it is. So we've got to be very thoughtful of where the niches are inside there because sometimes it can be too big a piece to go after.

And so as Alex highlighted, we executed really well within life sciences. We can see good performance in engineering. And actually we performed well in technology. But if you see as a slice of our business in terms of the shape of technology, the big growth area really for us in the U.S., it's going to be technology and how can we grow there faster. And so that's really what the focus is going to be, continue the great performance of the team doing a remarkable job in life sciences and engineering and how do we grasp more of the technology piece.

--------------------------------------------------------------------------------

Unidentified Company Representative, [6]

--------------------------------------------------------------------------------

And Steve Woolf from Numis.

--------------------------------------------------------------------------------

Steven John Woolf, Numis Securities Limited, Research Division - Analyst [7]

--------------------------------------------------------------------------------

Just in terms of the areas for investment that you've been flagging, just thinking in terms of timing of the second half, it sounds like the U.S. is obviously going to be a key area of investment. I'm just wondering whether you can sort of balance that in the second half, other regions and timing on when you'd be looking to put more headcount into certain areas and obviously adjustments that may be still to be made in other areas at cost?

--------------------------------------------------------------------------------

Mark Dorman, SThree plc - CEO & Executive Director [8]

--------------------------------------------------------------------------------

Yes. So thanks, Steve, and maybe I'll give an overview and Alex can build on it a little bit. So I think as we go into the second half, and I'm not sure we'd be net adding in terms of headcount overall. So in aggregate, you shouldn't see that going up. And I think the approach we've taken is we want to make sure we're the right size for each market that we serve in. And so that may be in the -- in some markets, we're going to be down and down markedly in some markets where it makes sense to do that. And in other markets, we may hold where we are until we see specific opportunity to grow. So we're doing it very selectively, and we're actually doing it on a rolling monthly basis in each of the markets to really understand where demand is.

The added complication, of course is, that we now have to manage our headcount and train our headcount and recruit our headcount and our border headcount in this blended world of being sort of in the office and sort of out the office. And so that naturally has a pause in terms of adding your heads even in the best of worlds, which we're clearly not in.

So we're being thoughtful about it. But you're right, the 2 markets where we look to take a more thoughtful approach and probably be more neutral are going to be the U.S. and Germany where we're seeing really strong performance. And we'll be very thoughtful about anything anywhere else. So Alex, I don't know if you want to talk about (inaudible) for what that looks like.

--------------------------------------------------------------------------------

Alex Smith, SThree plc - CFO & Executive Director [9]

--------------------------------------------------------------------------------

I don't think so. I think you've covered it well there, Mark. All I was going to say was the strategic focus continues to be weighted more towards the DACH region and the U.S. in terms of our thinking and our thinking around sequential headcount movement from where we are now.

--------------------------------------------------------------------------------

Andrew Charles Grobler, Crédit Suisse AG, Research Division - Analyst [10]

--------------------------------------------------------------------------------

It's Andy Grobler from Crédit Suisse, just a couple of questions. If I may go into the second half, could you walk through the kind of moving parts from a cost base perspective? You just mentioned headcount, but just some of the other costs and how you expect those to trend, and when any of the savings in the first half are going to reverse through that period would be one.

And then two, unrelated in Germany specifically, you've talked about the end verticals and where it was stronger and where it was weaker. But could you talk through some of the end clients, whether that'd be automotive, banking and so forth, and what you are seeing and hearing from your client base, please?

--------------------------------------------------------------------------------

Mark Dorman, SThree plc - CEO & Executive Director [11]

--------------------------------------------------------------------------------

Sure. So Alex, do you want to take a crack at the moving parts of the cost base, which headcount is the largest part? And then I'll take the one on Germany.

--------------------------------------------------------------------------------

Alex Smith, SThree plc - CFO & Executive Director [12]

--------------------------------------------------------------------------------

Yes. I mean so clearly headcount is the largest part. As you know, Andy, 77% of our cost base is heads. But in terms of some of the savings we saw in the first half, a good chunk of the savings were as a result of depressed commission and bonuses. And also there was an LTIP kind of, if you like, reduction as well in terms of the accounting costs there.

So in many ways we very much hope that those costs will reverse, those cost savings will reverse because that implies that we'll be driving well ahead in terms of net fees. I think it all does depend, rather unhelpfully, on just how we -- just how we do trade going through the second half. So with increased levels of activity sequentially, which we've sort of -- we have seen over the last month-on-month as we've kind of got better, more effective, used to working in a very different way, I would expect some of those savings to erode in the second half.

Having said all that, as Mark was saying, we're also looking at making sure we've got the right shape of business in -- across our geographies. And so there may well be churn and reductions coming through elsewhere that will, if you like, offset. So it's a number of moving pieces, so I would expect to sustain at that level, I guess, going forwards net-net.

--------------------------------------------------------------------------------

Mark Dorman, SThree plc - CEO & Executive Director [13]

--------------------------------------------------------------------------------

Yes. Just to build on that a little bit, Andy, we're very focused on cost management, right? We got to make sure that we -- one of our 3 guiding principles is make sure we're in a strong financial position. And making sure we've got a good tight grip on our costs is #1 thing that we can actively do through the cycle, so we'll do that.

And in terms of Germany, a little unhelpfully and as we talked about in our trading update, none of this is sector-specific other than the ones that are really damaged that we don't have much exposure to. So think of like large automotive or even the large OEMs in Germany is not where we're focused. We're focused mostly on middle stand. So if you think of leisure, hospitality, the large OEMs are the ones that are being the most challenged through this cycle in Germany and also globally. We've tended to focus -- we are weighted towards middle stand, and that's where we tend to be right now. And what we're seeing is the demand is much more skill based than it is dependent on which sector companies are in. And so that's where you see that strong tech performance as #1 priority for everyone who leads a business in this environment regardless of sector is, "How do I make sure I've got the right technology talent to help digitize my business, whether that's changing the supply chain, engaging with our customers through digital channels, putting infrastructure in to allow my people to work remotely?" Whatever the priority of those big trends might be, that's where the focus has been and that's what really we are seeing.

The one thing that's been a little counterintuitive in Germany for us is probably the strength of our permanent business. It's actually been stronger than you would normally think. You think it would be more on the temporary working. But we've had really strong performance in our permanent business in Germany as well as our contract business, largely making in middle stand, those small, medium-sized enterprises, trying to get access to the right talent is there, either reconfiguring their business or adapting to the current environment. But unfortunately, it's not -- I can't say it's this sector or that sector. It's pretty sector-agnostic and pretty specific to the individual company and where they are relative to how they're performing in the pandemic outside of those large sectors that have been really harshly impacted by the current environment.

--------------------------------------------------------------------------------

Andrew Charles Grobler, Crédit Suisse AG, Research Division - Analyst [14]

--------------------------------------------------------------------------------

And just one follow-up. One of your peers has been relatively aggressive in terms of investing now for future growth. And has -- was that a temptation? I know it's always a difficult balance between managing your costs and short-term profitability and that longer-term opportunity. But was there a thought at least of let's go for it now, don't worry too much about fiscal '20, and see if that can increase our earnings power for fiscal '22 or whenever the world stabilizes completely.

--------------------------------------------------------------------------------

Mark Dorman, SThree plc - CEO & Executive Director [15]

--------------------------------------------------------------------------------

Yes. Look, I can't speak for any of our competitors. You'll have to ask them. But certainly, our view is how do we manage through this and how do we be thoughtful about doing that. So let's not jump to judgment one way or the other.

So we haven't taken drastic cost ex -- cost actions that are going to damage the business in the short and medium term. So we've been very thoughtful and strategic about where it is. We've made sure it's aligned to our strategy, aligned to our purpose, and more importantly how does it set us up to operate effective -- as effectively as we can through the cycle. And so if I think of our resilient performance and through the first half and certainly through the second quarter relative to the market, that's largely a function of us being very thoughtful and the teams beneath being able to execute effectively in that environment.

And that's the model that we'll use moving forward is we've got the right strategy. We're in the right markets. So how do we make sure we course correct relative to the current volatility that we're in and see this through? Because ultimately our strategy will win out. We just got to make sure that we maintain good discipline. And as I said at the start, cost discipline is really important to make sure actually we are in a strong financial position that allows us that flexibility to execute.

And the teams are doing a really great job in those markets. And I have to say a big thanks to them for this resilient performance because it's been their efforts that got us here.

--------------------------------------------------------------------------------

Unidentified Company Representative, [16]

--------------------------------------------------------------------------------

Steve Woolf from Numis.

--------------------------------------------------------------------------------

Steven John Woolf, Numis Securities Limited, Research Division - Analyst [17]

--------------------------------------------------------------------------------

Just going it back to sort of some of the -- between myself and Andy in terms of the investment and rebalancing of the business. There are a number of markets obviously that you flagged that are more perm-based anyway. And obviously you are seeing the shifts towards more contract temp net fees over the past 3 to 4 years. I was wondering how you think about those markets having got to 76/24 contract mix as whether now you'd like to sort of take the opportunity to change the investment in some of those markets, so it more mirrors the whole shape of the business, rather than having a couple of regions that are to have naturally more perm in them at the moment?

--------------------------------------------------------------------------------

Mark Dorman, SThree plc - CEO & Executive Director [18]

--------------------------------------------------------------------------------

Yes. Thanks, Steve. So we don't manage the business that way. And so we highlight the distinction between perm and contract because on these kind of calls because the financial characteristics manifest themselves a little differently. But in terms of actually managing the business, it's more aligned with strategically which markets are the best STEM markets, and then within that, what products and services actually make the most sense for the customers within those markets. So I think right now Germany, as we just talked about, great market from us, teams doing a great job and executing well. And right now in this moment in time as those SMEs are looking to maximize the best talent, perhaps they're taking some contractors out of the market in terms of temporary contracting as independent contractors, and putting them in as permanent employees because they see that they need those people for the long-term and they're investing for the future. But that being said, we still see in Germany long-term trend towards flexible working. And so we've got to have a full-service suite.

Another market we didn't highlight because it's very -- it's relative to us is very small, would be Japan where we see great opportunity. That for us is largely a permanent market. But if we think of that long-term secular trend, we place a lot of people within systems integrators and consultancies who are then doing the contingent work, if you like, for software houses and other businesses in Japan as they go through their own transformation.

So it's still the same trend. It's just a slightly different manifestation based on the market that we operate in. So in order for us to meet our strategic goal, which is around being at the center of STEM talent and having flexible work. And we need a full suite of products to be able to do that within the right market. And we want to make sure that we maintain that moving forward. So we have very, very different shapes depending on which market we operate in and what's the driver there.

The opposite would be in the U.S., which Alex also highlighted. Great performance from the U.S. team, but much more weighted towards contract there for us, and that's appropriate for that market. So we want to make sure that as the unique player, the only global pure-play STEM specialist, that we have all of the products and services. So that's permanent independent contractors, employed contractor services and for us to be able to take to our customers so we can serve them regardless of where they operate.

Hopefully, that's helpful. So we don't manage the business in terms of permanent or contract that gives some target number one way or the other. It's more about how do we service our clients.

--------------------------------------------------------------------------------

Unidentified Company Representative, [19]

--------------------------------------------------------------------------------

So that's the end of the questions. Mark, do you have any closing remarks?

--------------------------------------------------------------------------------

Mark Dorman, SThree plc - CEO & Executive Director [20]

--------------------------------------------------------------------------------

Well, thanks for the questions. So we're all learning and adapting in the last few months to working in this way. It's not quite the same as us being in the room with you. Hopefully we'll be there at some point soon.

And talking about being there together, our next update will be our Q3 trading update on the 14th of September. So we'll look forward to updating all of you there. And thank you for your time today.