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Retained Search Booms, Defying Broader Industry Slowdown

But second quarter less booming than first

Brought to you by Staffing Industry Analysts, Inc.

Sona Sharma

September 2007

Event

While overall it was another very good quarter worldwide for retained search firm Korn/Ferry International Inc. (NYSE: KFY), North American revenue growth decelerated--fee revenue in North America rose 16.6% on a year-over-year basis versus 28.7% growth registered in the previous quarter.

The Los Angeles-based firm posted a 25.2% increase in net income in the first quarter of its fiscal year 2008, ended July 31. Worldwide revenue was up 21.8%.

Background and analysis

Korn/Ferry reported first-quarter net income of $17.1 million, compared with net income of $13.7 million in the same period last year. Revenue rose 21.8% at the executive search firm, to $196.3 million in the quarter, compared with $161.1 million the first quarter of the prior year. Meanwhile, the North American retained search market is looking softer for the company with a sequential decline during the quarter. The company cited declines in the financial services and industrial market for drop in North American fee revenue.

"Sequential fee revenue gains were achieved in all operating regions, except North America," said Gregg Kvochak, vice president of finance at Korn/Ferry, in a conference call. "In North America, sequential fee revenue gains in the technology and life science markets, up 8% and 12% respectively, were offset by a 17.5% decline in the financial services market, and an 8% decline in the industrial market."

The company's Futurestep subsidiary posted a 25.7% increase in fee revenue to $25.6 million from $20.3 million. Futurestep specializes in middle management search on a retained basis.

Korn/Ferry's peer Heidrick & Struggles International Inc. (NASD: HSII) saw similar tapered results for the second quarter ended June 30. Heidrick's North American fee revenue soared 49.5% year over year in the first quarter ended March 31. Second quarter growth was 29.5%.

Source: Company reports, Staffing Industry Analysts Inc.

Note: In this table for the purpose of exposition, Korn/Ferry's revenue has been adjusted to a calendar year ended Dec. 31 from the company's fiscal year ended April 30. North American fee revenue for Korn/Ferry includes revenue from Futurestep.

Despite the deceleration in the second quarter in the North American market, both companies are bullish about the overall retained search market going forward. Korn/Ferry said it anticipates revenue in the range of $174 million to $185 million in the second quarter, assuming constant foreign exchange rates, on earnings of 30 cents to 36 cents a share. Heidrick & Struggles echoed the confidence and increased its net revenue guidance to between $580 million and $595 million in 2007, representing growth of between 21% and 24% over 2006 net revenue.

"We continue to see good business trends and continuing demand for executive search and leadership consulting services," said Eileen Kamerick, CFO and chief administrative officer at Heidrick in a conference call. "But as we have reiterated many times, we run the business on an annual basis, because so many of our clients also manage their recruiting plans on an annual basis."

Players in this market attribute the robust demand to shortage of top level management talent. Globalization of corporate America is another factor. Companies are seeking C-level officials with global experience and are willing to hire qualified talent from overseas. Additionally, CEOs are jumping ship more frequently, creating a demand for their positions.

"The average tenure of the CEOs is under five years," said Bob Damon, president of Korn/Ferry's North American operations, in an interview. "The world of private equity has had a huge positive impact on our business with all the acquisitions. So the private equity firms are buying companies and are looking for leaders to lead these companies."

An additional factor that is fueling the demand here is that management employment as a whole appears to be finally stabilizing after years of decline.

Source: U.S. Bureau of Labor Statistics and Staffing Industry Analysts, Inc.

Staffing Industry Analysts' Perspective

The retained search sector remains the fastest growing in the staffing industry, and the boom going on here makes for a sharp contrast to the broader industry slowdown. Nonetheless, retained search may not be entirely immune to the economic factors that underlie the softness playing out in other sectors. Revenue growth in North America decelerated for both of the retained search heavyweights in the second quarter, though from lofty heights. We expect this sector will continue to experience very strong growth for the rest of the year, though with continued deceleration. Performance so far is ahead of our 19% growth projection for the year, so we could end up on the low side, but the economy remains a wild card.

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