Korn/Ferry Keeping Eye on Economy Amid Cash Woes. (Corporate Focus).

THE timing of a potential economic recovery won't mean everything to Century City-based Korn/Ferry International, but it will mean a lot. Korn/Ferry, the world's largest executive-recruitment firm, rode the Web talent derby to windfall revenues in 1999 and 2000, but now it faces a significant challenge raising the cash that will be required to see it through the current layoff cycle.

"We are closely tracking the cash situation at Korn/Ferry," said Morgan Stanley analyst Chris Gutek in a recent report. He added that he expects the company to obtain the capital it needs "on terms that will be friendly to public shareholders."

Doing so won't be easy. Korn/Ferry had $67 million in cash at the end of its fiscal first quarter, but it used about $20 million of that in a restructuring that took place in the second quarter ended Oct. 31 (fiscal second quarter earnings are due out this week). The company is also faced with employee bonus payments of as much as $60 million, which loom next July.

The chief financial officer, Elizabeth Murray, said that after cutbacks -- which include 500 job cuts and now the closure of its online, college-recruitment arm, JobsDirect -- Korn/Ferry is "prospectively" cash flow positive. (Korn/Ferry's dotcom foray was short-lived, as its online arm for middle managers, Futurestep is being integrated with the core executive-search operation.)

Murray added that internal cash generation, along with borrowing via the company's credit line with Bank of America -- now in restructuring discussions -- "will be sufficient to take us through."

The trick will be lining up the financing to get through July, when bonuses are paid to its top headhunters for the April-ending fiscal year. The bonuses make for an unusually cyclical cash-flow profile at Korn/Ferry, dramatically depleting the firm's cash balances each July, when its fiscal first quarter ends. The bonuses totaled $104 million in each of the past two fiscal years, or about 18 percent of total revenues for the two-year period.

Drawing on credit line

Typically, Korn/Ferry uses positive cash flows during the remainder of each year to replenish its till. Last July, though, with the economy heading south, Korn/Ferry had to draw $49 million from its $100 million bank credit line with Bank of America. There is $48 million left on that line, but access to it has been restricted since the company fell out of compliance with one of the covenants (the fixed-charge coverage ratio, a measure of a company's ability to service its debt).

Gutek estimates that Korn/Ferry will use $59 million in cash through the end of the first quarter next July. Because much of the existing $67 million on hand sits in Europe (where Korn/Ferry has 25 offices), the firm would have to pay repatriation taxes to bring it back into the U.S. Gutek said.

Murray won't say how much she believes the company will need, but said the company has done "extensive modeling to make sure we have some protection from further downside" in the economy.

Korn/Ferry has been negotiating an amended bank pact with BofA since August, but as of last week, it still hadn't been completed -- though Murray expects an agreement in the near term.

The existing line with BofA is sole-sourced, Murray noted, meaning that the bank takes on all of the risk itself, rather than spreading it around in a syndicate.

Even if renegotiated terms are less favorable, bank debt is still the cheapest option available, Murray said. If a deal falls through, though, the choices become less savory. Korn/Ferry has said it won't seek equity financing, and as long as credit markets remain tight, corporate debt will remain costly. After that, there's always the option of cutting back the bonuses, but doing so will probably cost Korn/Ferry some top recruiters.

"What they're really trying to do is to take a prudent, balanced view in terms of their short-term needs, while at the same time trying to ensure that they're paying their top performers enough to keep them on board," said Mark Marcon, an analyst with Wachovia Securities.

It appears Korn/Ferry will be able to assemble the cash it needs to take it through one more bonus season. Murray isn't predicting any upturn in business through the middle of next year. The question is: what if the recession lasts longer?

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[Graph omitted]

YEAR (April 30)                  2001    2000

Revenue (millions)             $653.8  $500.7
Operating Expenses (millions)   593.5   443.0
Operating Income (millions)      60.3    57.8
Net Income (millions)            31.0    30.8
Earnings Per Share              $0.81   $0.82

SUMMARY

Business: Executive recruiting and job search

Headquarters: Century City

CEO: Paul C. Reilly

Market Cap: $351.7 million

Total Liabilities: $195.4 million

Long-Term Debt. $9.1 million

Dividend Yield: N/A (*)

P/E Ratio: N/A

(*) Korn/Ferry International does not pay dividends.