Monday, August 03, 2009

Huron Consulting (NASDAQ:HURN): Colour on news

Huron Consulting (NASDAQ:HURN) is getting lots of commentary following news out late Friday as the co disclosed need to restate financials for 2006-2008 and 1Q09 due to accounting errors, withdrew 2009 EPS guidance and lowered revs guidance by 12%, deals with an SEC investigation and announced the departure of CEO/CFO:

- Baird is downgrading HURN to Underperform with a $15 tgt (prev. $50) on lack of confidence in their estimates as their previous concerns about retention of MDs has increased significantly given the restatement of earnings, potential reputational damage, the SEC inquiry, senior management turnover, disappointing 2Q09 results and lower 2009 top-line guidance indicative of no bonuses being paid in 2009.

Firm's $15 price target represents 5.0x FTM estimated EV/EBITDA including stock comp expense or half the average of the previous six quarters given the significantly negative implications of Friday's announcement. While they believe there is significant franchise value that should be applied to HURN's current personnel, they have no confidence on the level of people that will be retained. Until the firm can gain confidence that attrition will be better than feared and that the reputational damage will be minimal, they can only recommend that investors avoid the stock.

- William Blair downgrades HURN to Market Perform noting Management’s lack of communication with the Street surrounding this news makes it impossible for use to fully understand what has happened with the accounting or with recent business trends. In addition, these announcements and the stock price decline introduce a number of issues that they do not expect to get answers about for a while. Specifically, the news about a significant restatement and SEC investigation could damage the company’s brand (especially given the accounting background of its consultants), could lead to increased consultant turnover (especially given the large amount of stock used as compensation for Huron's consultants), and will result in a number of shareholder lawsuits. As a professional services company with a relatively high amount of debt, it is not implausible to argue that this event causes the company to languish for an extended period of time or eventually unravel. Given that the risks and uncertainty are very high right now and the firm does not expect to get a lot of clarity regarding the company’s risks for a while, they cannot recommend purchase even at the company's reduced price in the after-market and their rating is now Market Perform.

The range of potential explanations ranges everywhere from a.) outright fraud to b.) the former shareholders of these business shared/redistributed some of the proceeds from the earnouts with their colleagues as a reward for helping them achieve the earnout and did not realize this constituted compensation. The departure of the company's CEO, CFO, and CAO could argue that there is some element of the first explanation going on here. However, the fact that the former CEO of Wellspring David Shade is remaining as Huron's chief operating officer, comments in the press release that the redistribution of these payments were based in part on continued employment with Huron and/or personal performance, and the comments in the press release that the company may have to sustain higher cash compensation going forward could argue for the less sinister (although still concerning) explanation. Without further explanation from management is it impossible to know what happened at the company though.

- Oppenheimer is reducing their rating to Underperform and is reducing their 2009 revenue (before reimbursables)/EPS estimates to $650M/$2.00, respectively. Firm's 2010 revenue (before reimbursables)/EPS estimates update to $680M/$2.70, respectively. They anticipate 2009 EPS to be adversely impacted by restatements and a reputational headwind. Firm estimates a moderate recovery in 2010 on gradual macro improvement coupled with aggressive cost reductions.

- Deutsche Bank is downgrading the stock to Hold with a $20 target noting the key concern they have now is consultant and client retention. For the consultants, Huron becomes the key place to recruit from, which will likely create the need for significant retention bonuses even if Huron’s performance is weak for the next couple years. For consultants who joined recently from Stockamp (a $219m acquisition in July 2008), their ties to Huron are even less secure. Retaining high-performing consultants is never easy, for Huron is will be very difficult. The best result for Huron maybe to sell off the various divisions to competitors, but the key question is why anyone would pay for these operating units when you can just recruit the key individuals

- UBS notes the restatement moves $57mm of earnouts to compensation cutting EPS by $2.98 since 06 ($0.19 in Q109, $1.60 in 08, $0.97 in 07, and $0.22 in 06). They expect Huron to release a Q&A on their website this morning.

Firm is assuming the restatement was the result of careless accounting interpretation over 3 years, rather than something sinister, and the parties to blame have left. Most revenue is generated by about 200 MDs who appear blameless, so they think clients may be forgiving. Firm is cutting their 2010 revenue estimate to their prior 09E level and EPS estimates to $1.64 for 09, $2.16 for 10, and $2.63 for 2011.

Notablecalls: What a mess! But is it really fraud? I think not. Given the fact HURN is staffed with accounting specialists, the accounting mishap does look like an unlikely explanation but as the old adage goes - the shoemaker's kids go barefoot.

If this is the case then we may have an eventual bounce candidate on our hands. Yet, there are problems to overcome in the n-t:

- Competitors will be on the attack looking to lure top rainmakers away from HURN. With no bonuses in 2009, some of these people are bound to jump ship. This would translate into lower revenue in the coming periods.

- The management will have to tackle a) the SEC b) angry shareholders and bloodthirsty class-action lawyers. With most of the top dogs gone how will the new people handle situation? They have to spend their time working legal, PR & operational stuff. That's a handful!

- HURN is going to be a tainted stock for quite a while. Big game hunters are likely to steer away from the situation for now.

- HURN has basically no assets apart from the people that work there. Plus, the company had approximately $312 million of net debt at the end of the first quarter. If it falls apart, it really falls apart.

So what to do with the stock?

I suggest most of you stay away from the situation. For those willing to take super-sized risk...$14-$16 is the range you should be looking at for a possible bounce. But don't overstay your welcome. This one could just as easily be a $12 stock.


notablecalls said...

I actually entered a tiny long here around $11.70ish

Lets see how it works out. funny money! said...

Great Call! Right in the 14-16 range!