JOB - GEE Group Is Expensive On These Record Earnings

Summary

• JOB is a provider of human resources services, particularly temporary hiring and headhunting.
• The industry is not very profitable and competition is high.
• The company could have strengthened by acquiring and managing better some small mom-and-pop competitors. However, managers have shown terrible capital allocation abilities.
• Today, JOB trades at what seem like sensible multiples but only on earnings that belong to the top of the business cycle.

GEE Group ( JOB ) is a provider of human resources services, particularly temporary hiring and headhunting.

The company has "grown" through acquisition, in decisions that were terrible for then current shareholders. A shareholder that invested when the current CEO took office in 2015 lost 90% of their investment, the same as a shareholder that bought just after the latest big acquisition in 2017.

Although the company has now recovered from lower demand during the pandemic, I doubt it will surpass current profitability levels. The company does not enjoy a great moat and has thin margins and operating leverage. Fortunately, it does not require significant asset investments.

JOB's profit-related multiples are understated because the company recorded one-time earnings in 2021 and 2022. On the other hand, the company underestimates operating earnings because it has high accruals.

Overall, the situation does not seem like an opportunity, in my opinion. The multiples do not justify the risk of lower profits ahead, and history does not justify growth expectations.

Note: Unless otherwise stated, all information has been obtained from JOB's filings with the SEC .

Business description

HR services : JOB specializes in temporary workers (80% of revenue) and headhunting services (20% of revenue). This is a low cost of entry industry, with relatively undifferentiated services, based on winning accounts, which requires significant SG&A expenses. Margins are low, and companies can depend on concentrated customers.

This is the case of JOB as well. Its margins are razor-thin, mostly because of SG&A expenses. The company does not suffer from concentration, though, with no client representing more than 10% of revenues.

Positives

SG&A expenses are relatively variable : The company has shown that its SG&A expenses move in line with revenues. This is not great, given that growth does not increase margins, but is also not terrible. Many companies of this kind have SG&A structures growing faster than revenue.

Asset light : JOB leases all of its offices and requires a low level of assets, including working capital. This is a positive in terms of cash flows and financing demands.

Negatives

Probably procyclical : My understanding is that the HR services industry operates at a premium when the job market is tight and companies are eager to hire people quickly. During downturns, companies freeze hiring and usually disassemble their outsourced operations, as these are cheaper (no severance required).

Operating leverage : The company does suffer from operational leverage because of its razor-thin margins. In my opinion, operational leverage is a source of risk and volatility, up and down. Yes, when revenues grow the company does better than without it, but the inverse is also true for revenues decreasing.

Failed growth by acquisition strategy : According to the company, the HR services industry is fragmented and composed of many local or regional outlets. This kind of market is prime for bigger acquirers that can buy at a discount on a cyclical basis, and then apply efficiencies.

The problem is that some of JOB's acquisitions have been terrible, Particularly the acquisition of SNI Holdco in 2017 for $66 million net . The company had produced a loss of $3 million on that year and a profit of $3 million the previous year. GEE has had to impair goodwill every year since.

Acquisitions were financed by ultra-expensive debt : The SNIH acquisition was financed by a loan paying the incredible sum of LIBOR + 10% interest + 5% payment in kind. For 2021, that represented an effective interest of 16% .

Debt was cancelled with dilution : Most of the performance debacle shown by JOB came after the company diluted its previous shareholders 10 to 1 in order to recapitalize and repay its debts. As can be seen here in the split history of the company, it was not a split, it was real dilution.

Low insider ownership, no significant shareholder : The company's managerial team, in office since 2015, hold 5% of the company. The largest shareholder holds 7%, and there is no other single shareholder with more than 5% of the company's stock. The three most important officers (CEO, CFO, COO) were compensated $2 million in aggregate for their services in FY22.

Earnings capacity and valuation

Returning to historical profits : Although the company shows growth in the 2021/2022 period, it is mostly because of the crisis caused by the pandemic. That is, without the 2020 lows, the company would have not shown growth in 2021 and 2022. When comparing to pre-pandemic periods, the company remained at the same revenue and operating profit level.

I would not bet on growth : The company's management has not shown an ability to allocate capital, quite the contrary. JOB is also exposed to the economic cycle, and we are currently fearing a recession.

Recent net income affected by one-time items : The company recorded one-time PPP gains for $15 million in FY22. Its operating accrual earnings were more in the line of $5 million.

Cashflow looks more attractive than earnings : Because the company has loads of accruals, including $3 million in amortization and yearly goodwill impairment charges, the company's operating income underestimates FCF and CFO. The company only needs marginal investments in working capital.

Important cash holdings : Between the proceeds from the share issuance that were not used to repay debts, plus cash generated this year, JOB is holding to $18 million in cash. The company's management has entertained the possibility of share repurchases on its latest earnings call . Considering its managerial history, though, I would not discard the possibility of another poor acquisition.

With $250 thousand in average daily trading volume on its shares, it would be very difficult for the company to repurchase shares without affecting price.

Conclusions

The stock might be trading at an attractive multiple to operating earnings, of about 10x, and an even more attractive multiple to cash generation, of about 6x.

However, the business quality is very questionable. Management has squandered shareholder value in expensive debt and unprofitable acquisitions. The company is very exposed to operational cycles, and we may be heading towards a recession.

I prefer to wait on JOB.

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