Prepared remarks
Good afternoon, everyone, and thank you for participating in today's conference call to discuss BBSI's financial results for the second quarter ended June 30, 2026. Joining us today are BBSI's President and CEO, Mr. Gary Kramer; and the company's CFO, Mr. Anthony Harris. Following their remarks, we'll open the call for your questions. Before we go further, please take note of the company's safe harbor statement within the meaning of the Private Securities Litigation Reform Act of 1995. The statement provides important cautions regarding forward-looking statements. The company's remarks during today's conference call will include forward-looking statements. These statements, along with other information presented that does not reflect historical facts, are subject to a number of risks and uncertainties. Actual results may differ materially from those implied by these forward-looking statements. Please refer to the company's recent earnings release and to the company's quarterly and annual reports filed with the Securities and Exchange Commission for more information about the risks and uncertainties that could cause actual results to differ from those expressed or implied by the forward-looking statements. I would like to remind everyone that this call will be available for replay through September 5, starting at 8:00 p.m. ET tonight. A webcast replay will also be available via the link provided in today's press release as well as available on the company's website at www.bbsi.com. Now I would like to turn the call over to the President and Chief Executive Officer of BBSI, Mr. Gary Kramer. Sir, please go ahead.
Thank you, and good afternoon, everyone, and thank you for joining the call. We delivered another quarter of top-line growth and solid profitability. While revenue came in slightly below our expectations, we added more new business than anticipated. This strong top-of-the-funnel momentum was partially offset by ongoing macro and geopolitical headwinds, which continue to constrain our existing clients' ability to grow their own workforces. Moving to our financial results and worksite employees. During the quarter, our gross billings increased 2.6% over the prior year. While this came in slightly below expectations, our go-to-market strategies are driving positive momentum at the top of the funnel. Q2 new client acquisitions were up 17% year-over-year, and we exceeded our internal expectations for both new clients and new worksite employees for client additions. Additionally, we continue to see strong client retention, a direct testament to the high-value work our teams provide every day. The result of all these efforts, or what I refer to as controllable growth, is that we added approximately 4,500 worksite employees year-over-year from net new clients. That said, our overall growth was tempered by broader client workforce reductions. As a reminder, macroeconomic uncertainty led many of our clients to reduce headcount starting in Q3 of last year. That trend persisted in Q4 and then moderated in Q1. Unfortunately, that trend resumed in Q2. However, while we have seen further workforce reductions, we expect the rate of decline to moderate in the back half of the year as we have easier year-over-year compares. To summarize, despite workforce reductions within our existing client base, strong sales volume and strong retention allowed us to achieve an increase of 1% in total worksite employees for the quarter. Turning to our staffing operations. Our staffing business declined by 18% over the prior year quarter. Our new business outpaced our runoff business. However, our existing clients reduced their staffing demand and remained reluctant to place orders amid macroeconomic uncertainty. In response, we continue to leverage our recruiting expertise for our PEO clients, successfully placing 157 applicants during the quarter, a 35% increase over the prior year quarter. Turning to the field operational updates. We're very pleased with our entrance into new markets with our asset-light model. These operations continue to gain traction and consistency and added approximately 400 new worksite employees in the quarter. We continue to hire locally to support our existing operations while we expand into new markets. We anticipate converting three additional locations to traditional branches later this year. Regarding product updates, we continue to execute on the sale and service of BBSI Benefits, our health insurance offering. We had a great start to the year, and our momentum continued into the second quarter as we added around 70 clients and over 2,000 participants to our various benefits plans during the quarter. We have achieved operational consistency and continue to invest to improve the sale and service of BBSI Benefits. Our value proposition resonates well, and we are having success with small and large clients in white- and blue-collar industries in every state we operate and with a diverse distribution channel. Next, I'd like to shift to our 2026 IT product objectives. I've previously mentioned that we have been investing in our tech stack on the product side to service and support our clients better. We have been rounding out the employee life cycle, which is from when an employee is hired to when the employee retires and everywhere in between. Over the last couple of years, we have launched an applicant tracking system, a BBSI Benefits offering, an employee file cabinet, a learning management system and a performance management module. We have been successfully rolling these products out to our existing clients and utilizing them in our new sales efforts. Ultimately, these products will result in increased sales and better client retention, and we are excited to bring these products to market. Regarding the California workers' compensation environment and the effect on our margins. We've been saying for several years that the California workers' compensation market was nearing an inflection point as loss cost trends consistently outpaced premium rates. We now believe that turning point has arrived with insurers pushing rate for the first time in more than a decade. As a result, we've characterized 2026 as a transition year and provided a wider-than-usual range for gross margin at the start of the year. The encouraging news is that we're getting rate, and those rate increases are more than offsetting our cost inflation. The downside is simply timing. Because our clients renew monthly, those pricing improvements roll in gradually rather than all at once. As a result, we continue to expect 2026 to represent the low watermark for gross margin, with margins improving in 2027 as more of our clients renew at higher rates. Next, I would like to shift to our view of the remainder of the year. We've had consecutive quarters of solid momentum. While we expect our clients to continue growing at a rate below historical norms, we expect that rate of impact from low client hiring to moderate in the second half of the year. We believe BBSI is well suited to navigate macroeconomic and geopolitical uncertainties. In challenging times, small businesses are better off in a PEO relationship and can benefit from our scale and our expertise. We remain steadfast in aligning our insurance pricing to our insurance costs. At the same time, we are maintaining strict expense discipline while continuing to invest in the business throughout this transition. We have consistently achieved strong controllable growth by focusing on the needs of our clients and by adding new clients, a focus that we will maintain. We have more products to sell and more folks selling. Our consistent execution, differentiated service model and strong relationships position us to continue driving sustainable growth through 2026 and beyond. Now I'm going to turn the call over to Anthony for his prepared remarks.
Thanks, Gary, and hello, everyone. Diving into our performance for the quarter, gross billings increased 2.6% to $2.29 billion in Q2 2026 versus $2.23 billion in Q2 2025. PEO gross billings increased 2.8% in the quarter to $2.28 billion, while staffing revenues declined 18% to $14 million in the quarter. Our PEO worksite employees grew by 1% in the quarter, which, as Gary noted, was driven by strong controllable growth, partially offset by year-over-year client workforce reductions. Average billing per WSE per day increased 2.2% in the quarter, which was driven by continued rising wages, partially offset by lower overtime and hours worked per WSE. Looking at year-over-year PEO gross billings growth by region for Q2. Southern and Northern California were flat. Mountain grew by 2%, East Coast grew by 16%, the Pacific Northwest grew by 3% and our asset-light markets grew by 73%. A few comments on regional performance. Southern and Northern California, our two largest markets, beat expectations for new client adds but experienced flat growth in the quarter, primarily due to year-over-year client workforce reductions. The net result was that Northern California improved slightly from last quarter, while Southern California saw slower growth. The East Coast continued to stand out, delivering its 21st consecutive quarter of double-digit growth, supported by strong controllable growth. The Pacific Northwest region had its second consecutive quarter of growth as solid net client adds more than offset softer client hiring activity. Turning to margin and profitability. During the second quarter, we renewed our fully insured workers' compensation policies, which were effective as of July 1, 2026. As we have emphasized in recent quarters, the California workers' compensation market has shifted toward rate increases due to industry-wide higher average claim costs driven largely by increased litigation and cumulative trauma claims. As a reminder, the California Insurance Commissioner approved an average 8.7% premium rate increase in 2025 and recently announced a 6.6% additional increase effective September 2026. Against that backdrop, we once again renewed on favorable terms, including only a modest rate increase, no downside risk for future adverse claim development and continued participation in favorable claim development through return premium. Looking at our historical workers' compensation policies, they continued to perform well, resulting in favorable adjustments for prior year claims. In Q2 2026, we recognized favorable prior year liability and premium adjustments of $2 million compared to favorable adjustments of $8.8 million in the second quarter of 2025. Smaller favorable adjustments in the current year primarily reflect the industry-wide increase in claims costs and the fact that those higher cost expectations are incorporated into our actuarial estimates. Turning to pricing for our workers' compensation product. We have continued to execute on our pricing strategy in this more favorable environment, and we were able to once again increase our pricing each month in the second quarter. We have now established an eight-month trend of increased pricing, the first sustained increase in a decade. As a reminder, the previous period of declining workers' compensation pricing resulted in margin compression in recent years as cost trends stabilized or increased while market prices continued to fall. While workers' compensation claims costs are expected to continue increasing in the near term, we expect the pricing actions we've implemented to more than offset those cost increases over time. As these pricing actions are recognized over the long term, there is a natural lag before those higher prices are fully reflected in our results. We, therefore, expect gross margins to remain under pressure for the remainder of 2026 before improving in 2027 and beyond. Moving to our operating costs and overall profitability. We continue to exercise disciplined cost control. In Q2, SG&A decreased approximately 2%, driven primarily by employee-related expenses. We continue to expect full-year SG&A growth to be lower than gross billings growth and in line with prior-year SG&A growth. Moving to investment income. Our investment portfolios earned $1.9 million in the second quarter, down approximately $400,000 from the prior year due to lower average interest rates and lower average investment balances as we continue to use excess cash to fuel our stock buyback program. Our investment portfolio continues to be managed conservatively with an average quality of investment at AA. The combined impact of these activities resulted in net income per diluted share in the second quarter of $0.52 compared to $0.70 per diluted share in the year-ago quarter. Turning to our balance sheet. We remain in a strong position with $68 million of unrestricted cash and investments at June 30 and no debt. We continued our approach to capital allocation, making investments back into the company through product enhancement and geographic expansion and distributing excess capital to our shareholders through our dividend and stock buyback plan. Under our $100 million August 2025 repurchase program, BBSI repurchased $15 million of shares in the second quarter at an average price of $30.92 per share, with $40 million remaining available under the program at quarter end. The company also paid $1.9 million in dividends in the quarter and reaffirmed its dividend for the following quarter. This brings total capital returned to shareholders in the last six months to over $39 million. Now turning to our outlook for the full year. We are narrowing our outlook to reflect our year-to-date results and to adopt a prudent stance given the current macroeconomic and geopolitical uncertainties, which have created clear headwinds for our clients' ability to grow their workforces. We now expect gross billings to increase between 3% and 4% for the year compared to our prior 3% to 5% outlook. And we additionally expect average WSE growth to increase between 2% and 3% compared to our prior 2% to 4% range. We expect gross margin as a percentage of gross billings to be between 2.7% and 2.75% compared to our prior range of 2.7% to 2.85%. This primarily reflects the transitioning rate and cost environment of the California workers' compensation market. Finally, we continue to expect our effective annual tax rate normalized for the one-time tax charge in Q1 to be between 26% and 27%. I will now turn the call back to the operator for questions.
Questions and answers
The conference is now open for questions. Your first question comes from Chris with CJS Securities.
Maybe I'll start on the workers' comp side. So how should we look at the additional 6.6% rate in California in September? In reality, does that just make the prior December increase more palatable and more of a certainty for everyone, not necessarily that the 6.6% is going to be felt for quite a while? I know there was a lag with the original 8-plus percent increase that was put through. Just any thoughts there?
Chris, it's Kramer. In general, the regulatory agency provides a guide for what they think the rate should be, and that's the advisory rate. Ultimately, it comes down to the different insurance carriers for what they want to charge. So there's flexibility to charge what individual carriers think is appropriate. It's a very good sign that the commissioner is raising rates multiple years in a row. More importantly, we're seeing the market respond. Anthony mentioned in his remarks that we were able to get rate increases eight months in a row. We are comfortable calling the bottom now and saying that we are seeing the rate environment lift.
Got it. That makes perfect sense. Obviously, workers' comp is kind of the key piece on gross margins. Are there one or two other things that we should be focused on, or is that really what's going to drive the results?
Volume is one factor. We had strong client additions and strong client retention, but that was offset by our clients reducing their workforce again, so there's less volume than we expected, but it wasn't a material difference. Predominantly, workers' compensation is going to drive margins. Over the last three years in California we've seen claims increase, including more post-termination cumulative trauma claims that are often litigated and therefore more expensive. The industry is seeing roughly 2.5 times more of these claims than three years ago. As claims drive behavior, the insurance industry reacts with rate increases. When you incorporate these trends into actuarial models, prior-year ultimates are reprojected higher, which means changes in estimates for prior years decline. That trend is visible across the market and is why changes in estimates for prior years are slowing. We believe we're well positioned. We renewed our insurance and reinsurance tower, considered how much more we need to pay to the market and how much more we're charging our clients. We're charging clients more now and getting some spread this year, but the more meaningful spread will be in 2027 as clients renew at higher rates on top of this year's increases, producing a rate-on-rate effect. That's why we view 2026 as the low watermark for gross margin and expect improvement in 2027.
Your next question comes from Jeff with ROTH Capital Partners.
I wanted to drill down a bit on the benefits side. We're seven months through the year now, renewals in a higher-rate environment, balancing claims cost versus rate. Could you give us a little more look under the hood there?
Just to go back to January 1. For our 1/1 renewals, we renewed 93% of our clients on benefits. For 4% of them, we kept them as a PEO client but placed their benefits business elsewhere; we can act as the agent and place the business with other carriers when the risk or price fit better elsewhere. On a net PEO basis, we kept 97% of our business for 1/1. We had a strong second quarter on the benefits side. We added about 70 clients and roughly 2,000 participants to our plans in the quarter. The pipeline remains robust. Regarding how the book is running, it's running as expected. The industry has elevated medical costs, and trend looks like another double-digit year for rate increases. We are still working with our carrier partners and finalizing numbers, but trend is higher this year, consistent with broader market commentary.
Certainly a tough rate environment out there. On the renewal of the workers' comp program, is there any administrative cost savings on that renewal? And how should we think about adjustments to prior-year claims for the next couple of quarters? Should we see that improve and also bottom along with margins?
In terms of structure, we're paying a little more in premium, but we're charging our clients more, so we're getting some spread. The structure itself has not changed materially. We like the structure because if things develop poorly, the insurance protects us; if things develop favorably, we participate in favorable development. There is no material change in administrative costs from that structure. Regarding changes in estimates for prior years, you're seeing the industry slow down as higher cost trends are incorporated into models and begin to materialize; we've experienced that in Q1 and Q2. I wouldn't expect those adjustments to go to zero, but the pace of favorable prior-year adjustments has moderated relative to the recent past.
Your next question comes from Marc with Sidoti.
I wanted to see if we could go over some of the benefits of the new business wins. Also, maybe talk a little bit about renewal rates. Given the challenging environment, it seems between the new business wins and what you're seeing, you appear to be gaining market share. Maybe talk about renewal rates and how that's pacing.
We had a really good Q2. We had the best June we've ever had in our history for clients and WSEs in June. July is not complete, but July looks like it will be better than the prior two Julys in terms of WSE additions. We're gaining traction in the market. We've invested heavily in technology, marketing and our go-to-market approach. We're continuing to invest in sales resources and training. We hire strong people, give them good training and tools, and then support them. That has produced more consistent predictability in the unit counts we bring on. While we remain comfortable as a blue-collar PEO, we're seeing more white-collar business. We saw more white-collar clients in the second quarter than any prior quarter, including doctors, insurance brokers, dentists and CPAs. With our expanded tech stack and health insurance offering, we're more competitive in those verticals now.
Do you have a sense of the drivers when you're adding white-collar clients? What stands out as the catalyst, beyond competitive advantages, and might that lead to greater turnover going forward?
Larger accounts often use consultants or intermediaries to prepare an RFP that includes many required capabilities. Previously, we couldn't check all those boxes — we might not have offered health insurance, performance management, or a modern HRIS. Now we can check those boxes, which helps us advance to later stages in competitive processes. The tech tools help us get in the door, but the local teams are our differentiator. Those local teams provide the positioning, closing and servicing that deliver long-term value to clients.
Your next question comes from Vincent with Barrington Research.
Yes, Gary, to be clear, are you assuming that controllable growth continues at the current pace for the balance of the year?
For our gross billings and WSEs, yes. We have consistent, repeatable controllable growth now and feel we've refined our approach. That said, we're not complacent; we'll continue refining and investing. The headwind remains that our clients have been shrinking — this began in Q3 of last year, subsided in Q1, and revived in Q2. Looking at the back half of the year, we face softer year-ago comps on same-customer sales, so we feel comfortable that Q3 and Q4 will show better growth relative to those comps.
And how are the new metros such as Dallas and Chicago ramping relative to historical new branch performance?
They're doing very well. Both are strong performers, and we expect to bring a couple more markets online toward the back half of the year. We invest cautiously but will provide more resources to markets that demonstrate success. When a market proves it can perform, we back it with the full weight of BBSI.
On the staffing side, what should we assume for modeling — flat or slight growth?
We're starting at a lower point year-to-date. There is seasonality to staffing, so we expect sequential growth in Q3. We're seeing positive signs: more new business was brought on than lost, so we're building the staffing book organically. Unfortunately, existing customers' orders have decreased, producing net negative volume year-over-year. We project sequential growth into Q3, but for the year, staffing will still reflect a double-digit year-over-year decline based on the current starting point.
One last question: this client weakness in terms of headcount — are there particular industries driving it?
Our book skews heavy toward blue-collar sectors, and we are feeling the impact most in construction. The effect has broadened geographically; it began as more concentrated in California but now appears across other geographies around the country.
At this time, this concludes our question-and-answer session. I would now like to turn the call back over to Mr. Kramer for closing remarks.
Sure. I just want to say thanks to all the BBSI professionals for another great quarter. I appreciate all your hard work and look forward to the rest of the year.
Ladies and gentlemen, this concludes today's conference call. Thank you for participating. You may now disconnect.