Description

CRA International (CRAI)

Overview

CRAI is a global consulting firm with a leading market position in economic litigation, as well as a management consulting business.  The company is best known for its economic advisory work in anti-trust related matters.  My view is that this is a secular growth area, despite the obvious recent cyclical weakness in global M&A.  Simply put, higher regulatory scrutiny of all acquisitions is likely a sustainable trend.

Key Attributes

• Management Track Record.  Management is strong, especially for CRAI’s market cap.  CEO Paul Maleh took over in 2009, and quickly shed practices where CRAI had less brand power and/or under-scaled presence.  He also crafted a highly consistent “acquihire” strategy, where CRAI targets rainmaker-level consultants who are leaders in their respective practice areas.  Importantly, I believe that CRAI has earned cumulative IRRs of 20+% on these acquisitions.
• Consistent Revenue Growth.  Over the past five years, CRAI has grown revenue at an overall CAGR of 9%, with just over 3% of its revenue coming from these consistent, tuck-in acquihires.  I’ve been impressed by the resiliency of CRAI’s growth through the recent global M&A slowdown; CRAI grew revenue 4% in 2022 and 6% YTD in 2023 despite the tougher deal-related macro.
• Clean Balance Sheet.  CRAI is consistently prudent with its balance sheet, carrying under 1x net debt / EBITDA.
• Consistent Share Repurchaser.  The company’s share count is down almost 25% since 2016.  This is in addition to significant internally generated FCF that has been allocated to the acquihire deals, along with a nominal dividend that has consistently grown.

Valuation Opportunity

This is a solid company with a track record of good financial performance.  I don’t see an obvious reason for the business to trade at a significant discount to the broader market.  However, I calculate a ~10% FCF yield (for CY 2024), which I find attractive for a company of this quality.  I believe this attractive valuation is due to three factors described below:

• Accounting.  CRAI’s attractive valuation is likely due in part to accounting complexity regarding its acquihires.  In these deals, CRAI provides “forgivable loans” to acquihired consultants.  They pay cash upfront (e.g. $5mm for 5 years) to the consultants.  The forgivable loan is put on CRAI’s balance sheet, and then amortizes away over the duration of the deal.  This naturally suppresses CRAI’s reported earnings.  Unfortunately, it is somewhat difficult to analyze these moves even in the cash flow statement, because they are reported in the operational cash flow section instead of the investing cash flow section.  The ultimate result is that I believe EPS, a traditional calculation of FCF (OCF – capex) and EBITDA (which does not add-back non-cash amortization of forgivable loans) all understate the company’s true cash flow generation.  I think a conservative estimate of the company’s ongoing FCF generation is ~$70mm (i.e., the stock trades at just under a 10% FCF yield).
• Depressed Margins.  Management took the long view in its 2022-2023 operational strategy.  The company hired opportunistically (the lifeblood of future business) into a difficult macro environment (especially for M&A-related advisory work).  This has led to a reduction in current utilization and accordingly the company’s margins.  This has also temporarily interrupted the company’s streak of earnings growth.  I expect that as global M&A activity increases, CRAI can return to historical levels of utilization (mid 70% utilization vs current low 70s).  I see 100-200bps of near-term margin opportunity with this increased utilization.
• Macro / M&A Volume Fears.  Investors rightly feared a decline in global M&A activity, which did occur throughout 2022 and into 2023.  My view is that the company has weathered this downturn well, growing its business in other areas (away from its core antitrust & competition practice).

Conclusion

CRAI is a solid business at an attractive valuation, with a demonstrated history of successful capital allocation.

Note:  The opinions and views expressed are based on public information as of the date of submission and are subject to change. They are for information purposes only. No forecasts can be guaranteed. There is no guarantee that the information supplied is accurate, complete, or timely, nor are there any warranties with regards to the results obtained from its use.

Catalyst

Uptick in global M&A activity.