Recruitment companies are often viewed as a bellwether for the broader economy. As confidence rises, people seek out new jobs and higher salaries. But when confidence falls, people stay put. The correlation isn't perfect, but the recruiters' performance can provide a reasonable indication of the underlying issues.
Judging by recent performance, then, the global economy is doing pretty well. Robert Walters (RWA) enjoyed four profit upgrades last year, as well as record income in the first half of 2018. Last month, Hays (HAS) announced record international profits and a special dividend. Pagegroup (PAGE) shares have become steadily more attractive as an income play too. Indeed, all three have significantly outperformed the FTSE All-Share index since the financial crisis.
But in such a cyclical industry, things can change quickly. So, with the sector climbing higher in recent years, should investors be watching for signs of a confidence crisis, and a potential knock-on effect on earnings?
The biggest concern is the potential fallout from a trade war between the US and China. President Donald Trump appears unfazed by the challenges, writing in a now-infamous tweet "trade wars are good, and easy to win". But as the scale of tariffs creeps ever higher – as of the time of writing they covered goods and commodities worth $360bn (£277bn) – investors should be wary of the risks.
Disaster or opportunity?
While a global trade war may well be bad for recruiters, there's also the chance it could provide a boost for the sector. What we do know for sure is that if tariffs shake confidence across the global economy – or even significant markets within it – the effects could be hugely damaging. The sheer size of the countries involved only exacerbates the problem. In 2017 the US and China accounted for 39 per cent of global GDP between them, according to the World Bank.
Both countries are also hugely important to the recruitment companies. Pagegroup lists the US and Greater China (mainland China, Taiwan and Hong Kong) as two of its five "large high potential markets", while Hays reported rising headcount of more than 20 per cent across both regions during the last financial year.
Tariffs so far have been wide-ranging, but focus primarily on the industrials, automotive and construction sectors, as well as food. This had prompted some analysts to argue that by focusing on white collar, services-led work, Robert Walters, PageGroup and Hays are less exposed than rivals such as Adecco (SWX:ADEN) and Randstad (EPA:RAND). However, Silvia Dall’Angelo, senior economist at Hermes Investment Management, reckons it'll be difficult to contain any of the damage caused by trade wars. "It is not possible to focus on one particular sector as supply chains are so integrated," she says. "Parts cross borders several times."
The recruiters themselves are fairly sanguine. Paul Venables, finance director at Hays, warned that discretionary spending and capital expenditure could be affected if things turn sour, but added "at the moment our clients are assuming a suitable deal will be done", and that much of the rhetoric between the two countries is merely positioning that forms part of any negotiation.
British blues
The fallout from the EU referendum in the UK provides a useful illustration of what to expect when confidence dips. Shares in the major recruiters dropped sharply following the vote in June 2016, and while prices recovered quickly, UK divisions have shrunk, or income growth has lagged. The only group to maintain a high level of growth is Robert Walters, although much of this is down to its resource solutions business, which provides recruitment process outsourcing services.
A difficult UK market has supported the trend towards international and sectoral diversification too; as domestic growth has slowed or stagnated, growth overseas has continued more or less unabated. Recruitment consultants' remuneration is often largely tied to commission and staff turnover tends to increase when bonus payments stall. As a consequence, divisions grow or shrink quickly to match the health of respective markets. All this said, the big concern for recruiters is what happens when sentiment worsens around larger swathes of the global economy.
2008 redux?
The last time the global economy faced such low confidence was in the wake of the last financial crisis. Indeed, the first page of Hays’ 2009 annual report claimed it had dealt with "the toughest recruitment markets on record" – one that led to a 39 per cent reduction in basic earnings per share. The picture was not dissimilar across other recruiters.
Since then, many of the largest recruiters have expanded international operations, covering a broad range of sectors and geographies. Where the UK and Ireland accounted for 58 per cent of Hays’ net fee income in 2008, 10 years on it accounts for just 24 per cent, while most of the other recruiters have followed a similar path. The three largest recruiters now make a far smaller proportion of their money in the UK.
Another way to protect against weaker markets is by offering temporary contracts. When companies are treading carefully, they avoid taking a risk on hiring permanent staff and instead opt to hire contractors on a short-term basis. A rise in temporary recruitment is a good indicator of falling confidence from employers. Science and technology-focused recruiter SThree (STHR) has consistently grown its contract recruitment business ahead of permanent, and at the end of 2017 contracts accounted for 71 per cent of gross profits. Favouring contract work is partly a consequence of recruiting in the science, technology, engineering and mathematics fields, but chief executive Gary Elden said these sectors were also "much more resilient" in uncertain times. The larger recruiters have opted to focus on geographic diversification, and maintain more equal balance between temporary and permanent work that, albeit fluctuating, is broadly similar to 10 years ago.
