Kforce Inc. (KFRC) Earnings

Management highlights

- Demand Environment & Cyclical Recovery * Three consecutive quarters of revenue growth have returned the business to pre-pandemic growth norms, consistent with a cyclical demand recovery for skilled technology talent * Overall U.S. job growth is increasingly concentrated in professional and business services, KFORCE's core end market, while clients increasingly adopt flexible talent models to execute delayed high-priority tech initiatives amid AI transformation and cautious permanent hiring * Order and start activity grew 18% year-over-year in both Q1 and Q2 2026, with stable, positive fill rates, and the firm has gained client and overall market share - Strategic Positioning for AI Transformation * Internally, KFORCE is selectively deploying AI-enabled solutions to boost productivity, improve client/associate experience, and drive operating leverage * Externally, the firm is adding specialized AI expertise to its consulting organization, upskilling existing teams, and positioning to meet growing demand for skilled talent to design, implement, and scale enterprise AI initiatives * Management views AI as a transformative long-term technology shift, with enterprise adoption still in early stages following a similar progression to prior technology cycles (cloud, mobile, internet), which will ultimately increase net demand for skilled technology roles - Operational Execution & Model Strength * The firm's integrated go-to-market strategy is gaining traction, with a unified cross-capability delivery model combining onshore, nearshore, and offshore talent from the Pune Delivery Center * Average bill rates have remained stable at ~$90 per hour for four years, with the growing mix of higher-bill-rate consulting engagements offsetting wage inflation and the impact of increased offshore talent mix; slight bill rate improvements are expected as the tech workforce continues to upskill for AI * The Pune offshore operation was built primarily to support consulting solutions, and has expanded KFORCE's addressable market by allowing the firm to win projects it would have previously declined due to client demand for cost-effective global talent * Productivity improvements are driving meaningful operating leverage, with excess capacity remaining among sales teams compared to prior peak performance levels, supporting further margin expansion as revenue grows - Capital Allocation * KFORCE returned $9.6 million to shareholders in Q2: $6.7 million in dividends and $2.9 million in share repurchases, leveraging its strong balance sheet to repurchase shares when management saw a disconnect between operating performance and stock valuation * Net debt increased to $106.8 million at quarter end, with a conservative leverage ratio of 1.4x trailing 12-month EBITDA; return on equity remains strong at ~30%

Guidance

- Q3 2026 revenue is expected in the range of $349 million to $357 million, with a midpoint 1.1% sequential growth and 6.1% year-over-year growth, representing low single-digit sequential improvement consistent with pre-pandemic trends - Q3 2026 earnings per share is expected between $71 and $79 cents, with a midpoint representing 19% year-over-year growth, assuming a 30% effective tax rate - Sequential gross margins are expected to be roughly stable, with a minor 10 basis point decline driven by typical Q3 seasonal patterns (higher paid time off at client companies) - Direct hire revenue is expected to decline sequentially in Q3 due to normal seasonal trends, which is already incorporated into the current guidance - Management reaffirmed a target of at least 8% annual operating margin (up from prior guidance of approximately 8%), representing more than 100 basis points of improvement versus 2022 at the same revenue level - The upcoming Workday ERP implementation (go-live scheduled for early 2027) is expected to deliver a full 100 basis point permanent improvement to operating margins once fully implemented - Positive operating cash flow is expected to resume in the second half of 2026, with roughly $20 million in expected operating cash flow for H2 2026, similar to 2025 H2 levels

Segment performance

KFORCE reported total Q2 2026 revenue of $349.3 million, representing 4.5% year-over-year growth and 4.1% sequential growth on a billing day-adjusted basis. Revenue growth was broad-based across both consulting solutions and traditional staff augmentation segments: 1. Technology segment: Year-over-year growth reached its highest level since Q4 2022, with eight of the top ten client industries reporting both year-over-year and sequential growth. Demand is strongest for AI-related data, digital platform engineering, and cloud projects, with consulting solutions pipelines up 30% year-over-year. This segment drives the majority of the firm's growth, with higher-margin consulting projects representing an increasing share of segment revenue. 2. Direct hire segment: Revenues grew 20% quarter-over-quarter, and contributed meaningfully to gross margin expansion in Q2, though it remains a small share of total firm revenue. From a profitability perspective: overall gross margin reached 28.5%, up 140 basis points year-over-year and 120 basis points sequentially. Operating margin was 5.4%, 90 basis points higher than Q2 2020 at a similar revenue level, driven by improved business mix, pricing discipline, and productivity gains. Earnings per share was 73 cents, up 24% year-over-year. SG&A expense was 22.7% of revenue, up 50 basis points year-over-year due to rebounding performance-based compensation. Segment-level profit margins: consulting solutions margins are 400-600 basis points higher than traditional staff augmentation, with onshore/nearshore/offshore blended delivery further expanding margins.

Risks & headwinds

- Ongoing macroeconomic and geopolitical uncertainty, including volatility in global energy markets, leads clients to maintain a measured approach to technology spending - AI adoption has led to widespread market speculation about potential negative demand impacts for technology staffing and consulting services - Highly skilled AI and technology talent is extremely scarce and in high demand across the industry, creating hiring challenges for the firm to grow its specialized consulting teams - Seasonal headwinds from higher paid time off in Q3 and Q4 create typical near-term margin pressure - Working capital increases during periods of accelerating revenue growth, leading to near-term negative operating cash flow as the firm pays consultants weekly while waiting 58 days for client payment

Analyst Q&A

• Q: Mark Markin (Baird) asked what is driving the strong gross margin improvement, how sustainable is it given the growth of higher-margin business lines, and why is management guiding for stable sequential flex margins in Q3. /

  A: Management confirmed that improved pricing discipline focused on high-demand scarce talent, and a multi-year long-term shift to higher-margin business mix (growing consulting solutions and offshore delivery) are the core drivers of margin gains. Consulting margins are 400-600 basis points higher than traditional staff augmentation, and consulting pipelines are up 30% year-over-year, supporting continued margin improvement going forward. The minor expected sequential drop in Q3 flex margins is entirely due to normal seasonal patterns of higher paid time off at client companies, and is not a sign of underlying weakness in margin trends. (358 character)

• Q: Trevor Romeo (William Blair) asked for details on KFORCE's hiring of specialized AI talent, and how confident management is that direct hire can return to prior peak revenue contribution levels. /

  A: Management stated that AI consulting team size is incrementally scaled to match client pipeline demand, with specialized hires sourced from top-tier consulting firms across core focus areas including data, cloud, application engineering, and AI, and the firm's strong internal recruitment capabilities support consistent hiring. While direct hire demand is strong, it will remain a small share of total revenue, as management prioritizes investment in higher predictability project and staff augmentation growth, which aligns with the firm's long-term strategy. (392 character)

• Q: Kartik Mehta (North Coast Research) asked whether AI represents a bigger revenue growth opportunity or cost reduction opportunity for KFORCE over the next 12 months. /

  A: Management responded that AI is both a revenue and cost opportunity, pursued through separate aligned strategies. Externally, AI drives growing client demand for specialized skilled talent to deliver AI transformation projects, which is a core growth area for KFORCE's consulting and talent solutions. Internally, KFORCE is applying AI to its own core processes to boost productivity and reduce costs, and the firm can leverage learnings from client AI engagements to improve its internal AI deployment. (341 character)

• Q: Josh Chan (UBS) asked what caused the current cyclical demand improvement that KFORCE is experiencing. /

  A: Management explained that after the pandemic, many companies overhired and then implemented rightsizing, often incorrectly citing AI-driven productivity gains as a justification for layoffs rather than acknowledging post-pandemic overstaffing. Now that this rightsizing cycle is complete, and fears of widespread AI-driven job destruction have softened, the market is seeing a normal cyclical recovery in demand for skilled flexible technology talent. Geopolitical and macro uncertainty also increases client demand for flexible talent models, further boosting demand. (367 character)